This will depend on the jurisdiction you are in, here in Chicago there is rarely on objection to the repay of a 401(k) loan if the amount being repaid is reasonable-even in a 7. Chapter 13 client's are allowed to repay their loans, but if the loan is repaid prior to discharge, the money used to repay the loan must be devoted to the plan. You really need a local attorney to answer the questions on what the Judges allowed.
As a general rule, the court will allow you pay off your 401(k) loan while in Chapter 13. Once your is repaid, you will generally be required to increase your plan payment. In some jurisdictions, ongoing 401(k) investments might be disallowed.
First, the firm is a debt relief agency according to the U.S. Bankruptcy Code. We help people file for bankruptcy. We also do other stuff and we do it well, but Congress wants me to post this notice. Second, nothing on this site is legal advice. You are not my client unless you enter into a written agreement signed by you and me.
In my jurisdiction, you can continue to pay your 401K loan outside of the plan as part of a payroll deduction. Having this loan can decrease the amount available to pay the other creditors, meaning your other creditors suffer as a result - boo hoo! Retain an experienced Chapter 13 attorney in your community and follow his/her advice. Frankly, I have never heard that having a 401K loan would exclude someone from being able to file Chapter 7 - unless you are counting the proceeds as income. Would love to get the input from my esteemed colleagues here. Hope this perspective helps!
I would advise you that you should not repay the 401k loan prior to filing for relief under chapter 13. The payment you make toward the 401k loan can reduce your current monthly income. Consequently, this will reduce the amount you will be required to creditors in your chapter 3 plan. You ought to meet with an experienced bankruptcy attorney to discuss your best options.
Under section 1322(f) of the bankruptcy code, a 401k loan cannot be restructured by a chapter 13 plan. In addition, your 401k loan payment is allowed as a deduction in determining your monthly disposable income (which, in turn, determines how much you must pay your general unsecured creditors over the life of your plan). So, if you're going the chapter 13 route, having a 401k loan balance at the time of filing may benefit you. I can't think of a benefit to paying the 401k loan off prior to filing.
Here in Ohio we have this terrible Sixth Circuit decision called In re Seafort. It is controversial, but our judges have stated that this means you receive no credit on the "means test" for 401 K contributions or repayment of 401 K loans.
If you have the luxury of time, I could see where you would want to pay off the 401 K loans prior to filing your Chapter 13. But when you stop paying creditors you are certainly running the risk of getting sued while you are waiting to file.
I think you need to see an attorney about how the means test would work in your case. Filing a Chapter 13 typically has more to do with how your household income matches up with the state median income, not whether or not you have a 401 k loan repayment.
I am not your attorney unless you and I have signed a retainer agreement. What I am saying is not legal advice. Do not act on this information without engaging my services, this is for consideration only.
Without duplicating the excellent advice already given, I believe you probably have just heard that from a layman. If an attorney told you that, get a second opinion from someone who does primarily bankruptcy.