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Withdrawing From 401k to Avoid Chapter 7 & Chapter 13

Should I cash out my 401K, enough to pay off my debt or file bankruptcy, reaffirm my mortgage and preserve the 401k?

I have $70K in credit card and medical debt resulting from a massive cut to income and my former employer abruptly filing bankruptcy. I own a home but am upside down and not able to sell, though it is currently on the market. I also have $150K in a 401k. I'm in my mid 30s. Should I cash out the 401K, enough to pay off the debt or file bankruptcy, reaffirm the mortgage and preserve the 401k, as its an asset that can't be touched by the BK courts? I have a wife and 3 kids to support and my income has taken an 80% cut over last year. To date, all bills have been paid on time and credit remains ok, though bloated. Honestly, its all smoke and mirrors and I'm barely surviving, robbing Peter to pay Paul. Please help!

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Bill's Answer
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Consider long and hard before resorting to liquidating 401K plans to pay creditors:

  • These assets are generally protected from collection actions by creditors
  • They are hard to replenish once spent
  • Using retirement savings to pay creditors may create new debt in the form of income taxes and penalties for early withdrawal.

You have other options to consider. Debt settlement, also called debt negotiation, is a form of online debt consolidation that cuts your total debt, sometimes over 50%, with lower monthly payments. Debt settlement programs typically run around three years. It is important to keep in mind, however, that during the life of your debt settlement program, you are NOT paying your creditors. This means that a debt settlement solution will negatively impact your credit rating. Your credit rating will not be good, at a minimum, for the term of your debt settlement program. However, debt settlement is usually the fastest and cheapest way to debt freedom, with a low monthly payment, while avoiding Chapter 7 or Chapter 13 bankruptcy. The trade-off here is a negative credit rating versus saving money and a low payment that gets you debt-free fast.

Freedom Debt Relief appears to be a great option, if you are seeking debt resolution or negotiated debt settlement. We wrote a review of Freedom Debt Relief you may find helpful.

Here are the facts:

  1. Freedom Debt Relief is a member of the Better Business Bureau
  2. Freedom Debt Relief appears to be one of the largest debt resolution firms in the country.
  3. The founders of the company are Stanford Business School alumni with impressive backgrounds in the financial services industry.
  4. One of the founders of Freedom Debt Relief is on the board of directors of The Association of Settlement Companies (TASC) and was a founding board member of United States Organization for Bankruptcy Alternatives (USOBA)!

Give them a call for a no-cost consultation about your debt resolution options. If you still find yourself unable to afford the payments for a settlement program, bankruptcy would be something you should consider. I suggest you find an attorney who has experience in bankruptcy to discuss this option.

I hope this information helps you Find. Learn. Save.

Best,

Bill

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8 Comments

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  • BA
    Sep, 2009
    Bill
    Keep in mind that the bankruptcy laws changed with the adoption of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005. Under the new law, a debtor is required to complete a "means test" to determine whether the debtor qualifies for relief under chapter 7. See this handy online means test to see if you qualify for chapter 7. Let me stop here and say that I'm putting the cart before the horse. I urge you to speak to an attorney about the ramifications of a bankruptcy filing, especially as it pertains to your two real estate properties. I would hate to see you gut your retirement accounts to resolve the credit card debt. If you do not care about your credit score, one option is to stop paying your credit cards. Once the cards go into collection, negotiate a lump-sum settlement to pay them off. The result will be a severe decrease in your credit score, and months of creditor phone calls, but for 40- to 50-cents on a dollar, it might be less onerous than bankruptcy. Speak to a bankruptcy attorney about this option.
    0 Votes
  • FB
    Sep, 2009
    Fred
    I am 65 years old will be 66 in early Jan. Full retirement age for me is 66. I have just been laid off, I receive a $2,300 pension from a prior employer and my wife has been collecting S.S. since she was 62. Right now that is $549. per month. I have $52K in credit card debt, buying 2 homes, my residence and the other is rented by my daughter which covers the monthly payment. I am paying for a motorhome $1,200 per month. We have a 10 year old car for my wife and a 6 year old care for me with 192K miles on it, both are paid for. I have $140K in IRA and rollovers. QUESTION: Am I better doing a Chapter 7 and clearing my debts to free up my retirement years?? OR shall I take out IRA or rollover dollars to sustain my good credit rating and payoff the credit cards??
    0 Votes
  • BA
    Jul, 2009
    Bill
    Your 401(k) plan may have its own distribution rules, which are permitted under the law. You might be an excellent candidate for debt negotiation and settlement (see http://www.bills.com/debt-negotiation-and-settlement/) or debt consolidation (http://www.bills.com/consolidate-all-bills/). Look into those alternatives before considering bankruptcy. Going either of these routes might allow you to get rid of the debt, save your 401(k), which I consider the highest priority, and cause minimal damage to your credit score.
    0 Votes
  • 35x35
    Jun, 2009
    Mark
    I am in the same situation... I have PLEANTY of money in my 401K. But the 401K people wont give it to me until i get forclosed. If the 401k money were distributed to me. to pay my credit card bills. I would be in GREAT shape every one would get paid... and my credit score ..would shoot up. why do they insist on ruinig your credit? Can i Force them to give me my money? Even with the penelaty ...at least I have peace of mind..
    3 Votes
  • BA
    Jan, 2009
    Bill
    I don't think they can, retirement income is usually protected from granishment from consumer financial products.
    1 Votes
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