Did you know that federal law protects your Social Security check from creditors — but only if you make an effort to protect it? Massachusetts bankruptcy guru Walter Oney alerted me to an important decision from the bankruptcy court [Carpenter v. Ries (In re Carpenter), 2009 Bankr. LEXIS 1776 (B.A.P. 8th Cir. July 13, 2009)] which emphasizes this point.

In Carpenter, a Chapter 7 debtor was holding a cashier's check for a lump-sum retroactive award of SSDI benefits at the time he filed his petition. The BAP ruled that these funds did not become part of the bankruptcy estate at all because of section 407 of the Social Security Act (42 U.S.C. 407). This law states:

§ 407. Assignment; amendment of section

(a) The right of any person to any future payment under this title [42 USCS §§ 401 et seq.] shall not be transferable or assignable, at law or in equity, and none of the moneys paid or payable or rights existing under this title [42 USCS §§ 401 et seq.] shall be subject to execution, levy, attachment, garnishment, or other legal process, or to the operation of any bankruptcy or insolvency law.

(b) No other provision of law, enacted before, on, or after the date of the enactment of this section [enacted April 20, 1983], may be construed to limit, supersede, or otherwise modify the provisions of this section except to the extent that it does so by express reference to this section.

(c) Nothing in this section shall be construed to prohibit withholding taxes from any benefit under this title, if such withholding is done pursuant to a request made in accordance with section 3402(p)(1) of the Internal Revenue Code of 1986 [26 USCS § 3402(p)(1)] by the person entitled to such benefit or such person's representative payee.

Walter's note to one of my e-mail lists notes that

BAP decisions are not binding precedent, even within the circuit where they're rendered. However, this panel's analysis seems to me likely to be followed elsewhere.

The moral of this story … is that clients should ALWAYS be advised to segregate social security benefits in dedicated bank accounts so they can easily trace them, and they should use other resources (to the extent possible) to pay expenses. These steps will minimize the client's exposure to debt collectors and bankruptcy trustees.

So — if you receive payments from Social Security, whether they are for retirement or disability benefits or SSI, have those funds directly deposited into a checking or savings account. (If you're married or live with to another Social Security recipient, have your spouse or partner deposit his or her payment into a separate bank account). Put the rest of your money in other accounts. Make one of those accounts your “operating account” for household expenses. Then transfer funds from your dedicated Social Security account into your operating account as needed. (Setting up your accounts so that you can make the transfers on-line will make your life easier.) While these steps will mean some additional bookkeeping, it can save a lot of money down the road if you run into problems paying your bills and either face suit from a creditor or need to file bankruptcy.