We’re not used to applauding those who are second-best. But I’m going to try.
The second-best reason to make regular contributions to your IRA or 401(k) is that even if you file bankruptcy you can continue saving for retirement.
Virtually all tax advantaged retirement plans are exempt in bankruptcy and not at risk of loss to creditors.
Courts have struggled with whether payments into retirement plans are reasonable and necessary living expenses for someone who files bankruptcy. The means test is designed to squeeze every available dollar from filers.
Too many courts, in my opinion, are offended by letting the debtor continue to save when creditors are unpaid. I don’t know how they expect those debtors to live in their old age, but that’s another rant.
But recently, a judge held that a debtor could deduct from her means test income the amount she had been contributing before filing bankruptcy.
“Reasonable voluntary retirement contributions are not disposable income when the Debtor has made those contributions on a consistent basis prior to the filing…”
This is the Thompson decision . It’s one judge, in one bankruptcy court. But let’s hope its logic spreads.
Why retirement contributions mattered
The debtor’s budgeted contributions to her 401(k) became an issue because of the means test. The means test formula attempts to determine how much an individual is able to pay to their creditors each month in a Chapter 13 plan.
Reasonable and necessary expenses are deducted from income to reach that figure. The issue was whether the $200 a month Ms. Thompson contributed to her retirement was reasonable and necessary.
Allowing the retirement contribution as a means test deduction from income meant that her creditors got $200 a month less than they would otherwise, and she got $200 a month more toward her old age.
History of contributions carried the day
In this case, the judge kept coming back to the fact that the debtor had a long history of contributing to her 401(k). Her intent to tuck money away for her old age wasn’t an eve-of-bankruptcy dodge to pay less to her creditors.
Now, I’d argue that any time someone wakes up enough to start saving for retirement, we ought to applaud. Seems to me it’s never too soon to recognize we’ll live a long while after our working lives and that Social Security isn’t enough to live comfortably.
The best reason to contribute
The best reason to contribute to a retirement plan, of course, has nothing to do with bankruptcy.
Squirrel money away now and you’ll live better when you’re old.