Vincent Howard and our team of Lake Elsinore consumer bankruptcy attorneys were interested to see a case addressing the issue of when bankruptcy debtors may resume paying into 401(k) retirement accounts. This issue arises because the bankruptcy code, like the tax code, gives these accounts a special protected status that many other financial instruments don't enjoy. In Seafort v. Burden, the Chapter 13 trustee for Deborah Seafort and Frederick and Carrie Schuler challenged their two bankruptcy plans. Both plans would have permitted debtors to start paying into their 401(k)s as soon as loans from those accounts were paid back, even though unsecured creditors would not be fully paid at that time. The bankruptcy court permitted this, but the Bankruptcy Appellate Panel of the Sixth U.S. Circuit Court of Appeals and the Sixth Circuit itself ruled against it.
Seafort and the Schulers filed separate bankruptcy petitions in 2008. Both estates were eligible for 401(k) accounts under ERISA and were in the process of paying back loans they had taken out from those accounts. Both estates' plans proposed to repay the loans before the end of the bankruptcy period, then start paying into their retirement accounts. In both cases, the trustee (the same person) objected, arguing that payments to 401(k)s are only excludable if they are being made at the time of the petition; the debtors' newly freed income should be used to repay unsecured creditors first. In a consolidated case, the bankruptcy court disagreed, finding loan repayments and plan contributions were equivalent. The BAP for the Sixth Circuit, however, reversed in a divided opinion, agreeing that post-petition income that becomes available after repaying a loan from a retirement account is not excluded. The debtors appealed.
The Sixth Circuit framed the question as whether income available after repayment of 401(k) loans is "projected disposable income" within the meaning of the bankruptcy code. The 2005 bankruptcy law, BAPCPA, is less than clear about the status of 401(k) contributions that start post-petition, the Sixth said, and no circuit court has addressed the issue, though lower courts have come up with at least three interpretations. It ultimately agreed with those finding that a Chapter 13 debtor may not make voluntary post-petition retirement account contributions in any amount. Because retirement contributions are expressly described as not disposable income, the court found that they must enjoy some protection; but it also presumed that Congress deliberately left them out of Chapter 13 itself. Though BAPCPA created new privileges for retirement funds, the court said, its purpose and legislative history say it should be construed to give creditors the maximum protection. Thus, the Sixth upheld its BAP and declined to allow post-petition 401(k) contributions.
Vincent Howard and our Mission Viejo personal bankruptcy lawyers may follow this issue, because it's likely to come up again. This was an issue of first impression for the Sixth Circuit and indeed, for all the federal appeals courts. It's unclear whether other federal appeals courts might find room in the law to rule differently, but the three-way split in the lower courts suggests that they might. Any ruling following a different school of thought in that split would be more favorable for debtors than the current ruling was. As things stand, BAPCPA makes 401(k) loans easier to pay back -- a boon to creditors -- but is unlikely to help the debtor free up money for future voluntary contributions. Vincent Howard and our entire team of Torrance individual bankruptcy attorneys make it a goal to help clients get the most out of bankruptcy by prioritizing in this way.
If you believe you can't realistically repay your debt and you're ready to discuss whether bankruptcy is your best choice, don't wait to call Howard Law, P.C., for help. For a consultation, send us a message online or call 1-800-872-5925.