What happens when someone takes a loan from their retirement account, such as a 401K, and then decide they will file bankruptcy under Chapter 7. The first issue is whether the loan will be considered income for the means test. The means test is an important factor in the decision of whether a bankruptcy will be under Chapter 7 or Chapter 13. Your income calculation on the means test is a 6 month look back period. This is not important for the topic we are discussing because 401 K loans are not considered income for the means test.
One issue to focus on are whether you can now exempt the cash. Once it is not in a 401K, it is at risk of not being 100% exempt.
A second issue is whether any payments made with the funds were preference payments. Preference payments in bankruptcy, according to Section 547 of the Bankruptcy Code, are payments on an previous debt, made while the debtor was insolvent, to a non insider within 90 days of filing bankruptcy, and that allows the creditor to receive more on its claim than it would have had the payments not been made and the claim paid through the bankruptcy proceedings. The trustee goes after the person who received the payment in these situations.
A third issue is whether there were any fraudulent conveyances, generally, providing the funds for something where less than fair market value was received. This could be an effort to hide the funds.
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