Friday, August 15, 2014
Inherited Retirement Funds are Not Exempt (Stephen Stapleton)
In a unanimous opinion, the Supreme Court recently held in Clark v. Rameker, 573 U.S. __ (2014) that inherited individual retirement accounts (IRAs) do not constitute "retirement funds" within the meaning of section 522(b)(3)(C) of the Bankruptcy Code and therefore are not exempt from creditor claims in bankruptcy cases.
The facts of the case are straightforward. In 2001, Heidi Heffron-Clark inherited a traditional IRA account worth approximately $450,000 from her mother. In October 2010, she and her husband filed bankruptcy under Chapter 7 and claimed the inherited IRA, then worth approximately $300,000, as exempt property under section 522(b)(3)(C), which exempts from creditor claims "retirement funds to the extent those funds are in a fund or account that is exempt from taxation under ... the Internal Revenue Code."
The bankruptcy court denied the debtors' exemption claim finding that the inherited IRA did not constitute exempt retirement funds, as such are defined under the Bankruptcy Code. The District Court thereafter reversed and the Seventh Circuit Court of Appeals reversed the District Court. The Supreme Court, noting a split of authority between the Seventh and Fifth Circuit Courts of Appeal, granted certiorari.
The Supreme Court concluded that inherited retirement accounts are not exempt under the Bankruptcy Code because they are unlike retirement accounts in the following ways: 1) the income tax rules governing such inherited retirement funds prohibit additional contributions by the account holder; 2) such account holders are required to withdraw funds from such accounts; and 3) the holder may withdraw the entire balance at any time and for any purpose without penalty. The court therefore characterized such funds as a "pot of money that can be used freely for current consumption"; not funds earmarked for retirement.
Thus, if a surviving spouse or other beneficiary is looking to protect such funds from creditor claims, they should ensure that such inherited retirement funds are "rolled over" into their own retirement account and thus subject to the same restrictions as traditional IRA accounts. It should be noted, too, that although the Supreme Court's opinion is limited to inherited IRAS, the import of the holding will likely extend to other types of retirement assets such as 401k and 403b funds.
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