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Filing Bankruptcy in Retirement? What You Need to Know

SmartAsset: What You Need to Know About Filing Bankruptcy in Retirement

Ideally, by the time you reach retirement age, you’ll have accumulated enough savings to sustain a comfortable standard of living. Unfortunately, that’s not always the case for seniors who find themselves entering their golden years saddled with debt. Faced with mounting medical bills or staggering credit card balances, retirees are increasingly turning to filing bankruptcy in retirement to remedy their financial woes. While it can provide some relief to cash-strapped seniors, there are some potential downsides.

Whether you’re paying down debt or saving for an investment, a financial advisor can help you create a financial plan for your needs and goals.

Choosing a Chapter

There are two basic types of consumer bankruptcy protection: Chapter 7 and Chapter 13. In a Chapter 7 filing, there’s no limit on the amount of debt you can wipe out, but you may have to hand over certain assets to the bankruptcy court before your case is discharged. The trustee responsible for overseeing your case liquidates these assets and uses the proceeds to pay your creditors. When you file Chapter 13, you get to keep all your assets, but you have to commit to repaying a certain amount of debt over a three-to-five-year period.

Qualifying for Bankruptcy in Retirement

Before you can file a Chapter 7 petition, you first have to pass a means test, which is a measure of your ability to repay your debts based on how much you owe and what your median household income and monthly expenses are. The good thing about filing Chapter 7  is that Social Security benefits aren’t considered as income for the means test. That can make qualifying easier if you have income from other sources, like a pension or retirement savings account. If you have too much disposable income to pass the means test, however, you’ll have to look at filing Chapter 13 instead.

Find out now: How much will I get in Social Security benefits?

Assets and Exemptions

One of the things seniors should weigh carefully when contemplating bankruptcy in retirement is how it will affect their assets. Every state has specific laws governing what you can exempt from a bankruptcy case, and depending on where you live you may have the option of substituting federal exemption guidelines. Generally, the kinds of things you can exempt include property, work-related equipment, vehicles, clothing and home equity. There are specific dollar amounts associated with each exemption.

Retirees who own their home need to pay particular attention to the rules regarding homestead exemptions in their state. Some states allow you to exempt any amount of equity while others only permit you to exclude a relatively small amount of your home’s value. If you’ve built up a substantial amount of equity in your home but live in a state with a low exemption limit, completing your bankruptcy case may require selling the property.

Retirement Assets and Bankruptcy

The good thing about filing bankruptcy in retirement for seniors is that your retirement accounts are usually left intact after your case is discharged. Assets such as 401(k) plans, 403(b) accounts, pensions and profit-sharing plans are fully exempt under federal law. If you’ve got money stashed away in a traditional or Roth IRA, the exemption is capped at $1,512,350 after April 1, 2022.

At the state level, the amount you can exempt varies. Generally, seniors can also claim an exemption for specific types of income, including certain life insurance payments, alimony, veteran’s benefits, disability or illness benefits and public assistance.

Bottom Line: Is It the Right Move?

SmartAsset: What You Need to Know About Filing Bankruptcy in Retirement

Filing bankruptcy in retirement makes sense if you’ve racked up a substantial amount of unsecured debt and don’t have enough disposable income to cover your monthly payments. Aside from looking at what assets you stand to lose, seniors also need to keep in mind how a bankruptcy filing will affect their credit.

A Chapter 7 filing can stay on your credit for up to 10 years. It’ll take some time for your credit score to rebound from bankruptcy. On the other hand, if you’re looking for a fresh start in retirement, the damage to your credit may seem like a small price to pay.

Tips for Dealing with Bankruptcy 

  • Think carefully about your options and how declaring bankruptcy will affect your assets. Remember that retirement plans, such as your 401(k) plan or IRA, are typically fully exempt under federal law.
  • Once you’re back on your feet, consider signing on to work with a financial advisor to ensure you don’t get off track again. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.

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