Your employer goes bankrupt—how safe is your retirement?

The recession is officially over-or so they say. But many companies are still suffering and some big names have bankruptcy in their future. Just recently, Oreck Corp., the Nashville-based manufacturer of upright vacuums and cleaning products, filed for bankruptcy. Talbots is near the top of the list of companies in danger. While its shares traded for almost $26 five years ago, they now change hands for $2.50. Research-in-Motion, maker of the iconic Blackberry has seen its share of the U.S. smartphone market plummet from 44 percent in 2009 to only 10 percent last year. Pacific Sunwear, who built its reputation offering "California-style" clothing and accessories has seen its stock drop to $1.50. Avon recently announced disastrous earnings in the previous quarter, and it forecast that things will get worse.

So what happens if you are a long-time of employee of a company with a healthy 401(k) or pension and the company goes bankrupt? Can the money that you put into a 401(k) plan be used to pay the company's debts? According to the Center for Retirement Research at Boston College, the median amount in 401(k) retirement accounts was $56,000 at the end of 2008. The thought of losing those savings is not very comforting.

Generally, your pension assets should not be at risk when a business declares bankruptcy. Your retirement plan assets are protected under federal law-the Employee Retirement Income Security Act of 1974. The law covers all "qualified retirement plans," which includes defined contribution plans such as a 401(k) as well as defined benefit plans (pensions). ERISA requires that retirement monies be kept separate from an employer's business assets and held in trust or invested in an insurance contract. Thus, if an employer declares bankruptcy, the retirement funds should be secure from the company's creditors.

In addition, some pension benefits may be insured by the federal government. Traditional defined benefit plans are protected by the Pension Benefit Guaranty Corporation, a federal government corporation. If a plan is terminated because an employer has financial difficulty and cannot fund the plan and the plan does not have enough money to pay the promised benefits, the PBGC will assume responsibility for the plan. The PBGC pays benefits up to a certain maximum guaranteed amount.

A word of caution, however. Many defined contribution plans include the employer's common stock if it's publicly traded. Naturally, the company wants to have its employees invest in it, but if the company goes bankrupt any shares in company stock could lose most, if not all, of their value. That is the biggest danger to your retirement savings if a company goes bankrupt.

If you have questions about the security of your company's pension benefits, you should also seek the advice of an experienced bankruptcy attorney to advise you.