One of the most important things we can do for our families, and our future selves, is to save money in retirement accounts.  I’ve noticed a common client misconception that all money in retirement accounts (IRA, 401K, 457, etc.) is protected and untouchable by creditors.  That is not true.  Lets’ look at some different creditor scenarios and potential effects on retirement accounts.

The easiest way for someone to lose their retirement savings is by owing the government money.  If you owe the IRS back taxes your retirement assets are fair game.  Not only will the government take the money owed out of your accounts to pay back the debt, if you are under the withdrawal age, you will be charged an early distribution/withdrawal fee.  The fee is likely 10% depending on the type of account.

Another scenario when retirement assets can be accessed to satisfy debt is if you owe child support.  Child support is a serious issue in the court system (as it should be) and if you owe it, any account protections you think you have will be nullified and the child support will be paid.

If you are a business owner, being sued is never out of the question.  If your financial accounts are not organized and maintained correctly, a judgment creditor against your business can recover against your personal assets, including your retirement accounts.  A way to protect personal assets versus your business assets is to register your business as a limited liability company (LLC) or an S Corporation and maintain all your business accounts and assets under the corporate entity.  These two business structures help give business owners protection for their personal assets in the event the business is sued.

What happens if you must file bankruptcy?  If you are deep in debt and are forced to file bankruptcy, creditors will come after your assets.  Depending on the type of bankruptcy that you file, your retirement accounts will most likely be protected; however, the extent to which your retirement accounts will be protected depends on the bankruptcy court rules and is something you would have to discuss with a bankruptcy attorney. 

One particular type of retirement account that is treated differently from your traditional 401(k) or IRA is a pension account.  Generally, pension accounts are safe from creditors, except in domestic relation cases.  If you get divorced (or owe child support) in the state of Illinois, you will have a QILDRO (Qualified Illinois Domestic Relations Order).  This is a court order issued by an Illinois court that directs an Illinois public retirement system to pay an alternate payee, all or a portion of a member’s retirement benefit, certain refunds, or lump sum death benefit. The only “creditors” who may be able to touch your pension pursuant to a court order are an ex-spouse or minor child.

If any of these scenarios could become a reality for you, talk with an insurance professional. One way to add protection not only to your retirement accounts but to your personal accounts as well, is by obtaining an umbrella insurance policy.  In the event of a lawsuit and judgment against you, whatever damages amount your standard liability insurance does not cover, the umbrella insurance should cover.

We can’t protect our financial assets 100% of the time.  However, with a little planning and using the right type of accounts, we can put ourselves in the best position to make sure we get to keep our savings.