Wednesday, September 18, 2019

State and Federal IRA Exemptions Don't Always Jive

By Bill Siegel

Though Eleventh Circuit (Alabama, Georgia, and Florida) appellate decisions do not control decisions in the Fifth Circuit (Louisiana, Mississippi, and Texas), they can be persuasive.  The Eleventh Circuit Court of Appeals ruled in Yerian v. Webber (In re Yerian), 18-10944 (11th Cir. June 26, 2019) that even though an IRA might be exempt under federal law, it may not be exempt under state law.

In a bankruptcy case pending in Florida, prior to filing bankruptcy, the debtor had set up an IRA, which complied with the requirements of the Internal Revenue Code.  The Debtor, pre-petition, then withdrew funds from his IRA to purchase a home in Puerto Rico and two cars, all for personal use.  After filing bankruptcy under Chapter 7 of the Bankruptcy Code, the debtor conceded, and the court found the IRA was not exempt under the federal exemptions because the debtor’s self-dealing actions were prohibited transactions under the Internal Revenue Code. 

Yet, the Debtor argued that the actions complied with the plan documents and thus were exempt under state law.  The Eleventh Circuit disagreed and ruled that the debtor “forfeited his exemption [under state law] when he engaged in the self-dealing transactions which were prohibited by the IRA’s governing documents.”  There, the Eleventh Circuit found that Florida law required the debtor to maintain the plan according to its governing documents.  Per the governing documents, the debtor had agreed that he would not engage in any prohibited transactions.  By virtue of his self-dealing, the Eleventh Circuit found that the debtor had violated the terms of the agreement with the trust company and that he failed to maintain his IRA in accordance with the plan documents.  Thus, he was not entitled to exempt the IRA.

It's unclear whether under similar facts, the Fifth Circuit Court of Appeals and courts within the Fifth Circuit would rule similarly, but the Texas exemption laws require compliance with various provisions of the Internal Revenue Code and thus presumably any self-dealing would create issues as to whether IRA and other investment devices (such as annuities and 401ks) would remain exempt.  Thus, to be safe it would be wise to avoid any self-dealing such as this debtor undertook in Florida. 
 

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