Look who's stalking your retirement

SCOTTSDALE, Ariz. - If you've recently left a job or retired, you may be getting advice from your financial adviser or broker to roll your 401(k) or other qualified retirement plan into an IRA.

But if you've been fielding irate calls or notices from creditors, or worry about the impact of a creditor judgment from medical bills or a lawsuit on your retirement account, you could be better off leaving the money with your former employer.

Thanks to the Employment Retirement Income Security Act, qualified retirement plans such as 401(k)s are safely out of reach of creditors, except for ex-spouses and the IRS.

IRAs, however, often have more limited safeguards. Under the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, in the event of a bankruptcy, traditional and Roth IRAs derived from contributions are protected from creditors for amounts of up to $1 million, and rollovers from employer plans enjoy unlimited security, according to Seymour Goldberg, senior partner at Goldberg & Goldberg in Jericho, N.Y.

But these protections only apply to bankruptcy. In other situations, state law may determine how protected your IRA is from those you owe money to - and in some jurisdictions consumers have limited protection. While some states protect all of the assets in the account, many place caps on how much is shielded from creditor claims.

"From the standpoint of protection from creditors, IRAs are often a very bad deal," said Jay Adkisson, a Newport Beach, Calif.-based attorney specializing in asset protection.

California and some other states use a means test to determine how much creditors can attach. But Adkisson says the test, which exempts only what is "reasonably necessary" for the account owner and dependents to live on, "is like throwing darts at a wall" because it does not use any standard measures or formulas.

If a judgment is granted, account owners may also be subject to income taxes and, in some cases, a 10 percent early distribution penalty, usually at a time when they are least able to afford it. "Someone with a decent-sized account could be left with just enough to retire to a cardboard box in a bus depot," said Adkisson, who represents both individuals and creditors.

Depending on the state where you live, leaving a plan in the sheltering arms of a former employer might offer more protection from creditors than a rollover IRA, he said. If your 401(k) balance is over $5,000, the employer must allow you to leave your money in the plan, if you elect to do so, until you reach retirement age (usually 65). The decision to leave the money with an employer is revocable, so you can transfer it somewhere else months or even years down the road if you change your mind. But you can't add any new contributions to the account.

Employers protect funds in other ways, too

Beyond creditor-related issues, there are other reasons to consider leaving retirement plan assets with an employer. If you think you may need to tap into the account before age 59 { - not an unlikely scenario if you have been laid off and have little or no income left to meet living expenses - keeping money in an employer plan may provide better access for some individuals than an IRA. For example, if you are at least age 55 in the year you separate from service, you may take distributions from a company plan without penalty, although you will still need to pay income tax on the distribution.

By contrast, distributions you take from an IRA before age 59 { may be subject to an early withdrawal penalty. You could also borrow from the 401(k) plan if you need to and the employer allows it, something you cannot do with an IRA. A potential downside: although the money will continue to grow tax-deferred, the investment menu, fees, and plan restrictions are dictated by the employer. If you decide to go with a rollover IRA, be sure to keep it separate from other IRAs, Goldberg said, since rollovers often have better creditor protection.

Also consider what might happen to an IRA left in an estate. Goldberg cautions that inherited IRAs may be vulnerable to creditor attachment, since bankruptcy courts have ruled that, unlike a traditional IRA, an inherited IRA is not protected from creditors in a bankruptcy unless the heir is a surviving spouse.

"The bottom line is that IRA owners may need to assume that non-spouse beneficiaries will see their accounts exposed to creditors if they file for bankruptcy," he said.

Even in non-bankruptcy cases, "it's certainly possible that a state court would be impressed by these pro-creditor decisions in bankruptcy court and also rule that inherited IRAs are not protected from creditors," he said.

Goldberg said that if creditor protection for an inherited IRA is a concern, a married account owner should consider naming a spouse as the IRA beneficiary if it fits in with the estate plan. To protect an IRA inherited by a non-spouse from creditors, he advised naming an irrevocable trust as the beneficiary.

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