Your qualified retirement plan is protected by the Employee Retirement Income Security Act of 1974 (ERISA) from claims by creditors. This protection covers most employer plans, such as 401(k)s, defined benefit plans and others. Just don’t count on this federal protection when an ex-spouse seeks a share of assets in a divorce. Not all retirement plans receive ERISA protection. The plan has to be a qualified plan set up under ERISA to receive protection. IRAs – which receive some protection under federal bankruptcy laws – are not protected under ERISA. Neither are most 403(b) plans. However IRAs which you rolled over from an employer plan such as a 401(k) are protected under federal bankruptcy law. Other vehicles like SEP or Simple IRAs are also protected. However, if the source of funds in your IRA is contributions – versus a rollover – there’s a dollar limit on federal bankruptcy protection.
There are important caveats here for IRAs. Only the original IRA owner is protected – so if you inherited an IRA- there’s no protection. One way around this is to name a trust as the IRA beneficiary instead of an individual. Also, you have to file for bankruptcy to get bankruptcy law protection. Your state may provide greater protections to IRAs than the federal bankruptcy laws thus not requiring filing for bankruptcy.
Some popular strategies:
- Maximize the amount of money in 401(k)s or similar protected accounts – don’t roll them over!
- Take distributions from IRAs, pay the taxes now, and put the money in protected vehicles like annuities, life insurance, limited partnerships, and LLCs.
- Put assets in trusts with family members as beneficiaries. Mileage may vary with the terms of the trust and your state’s laws.
- Get a personal umbrella policy
As with any post on this website, you should not consider this information investment, tax, or legal advice and should check with a specialist who can tailor a solution to your facts and circumstances.