Inherited IRAs Are Not Always Protected From Creditors

It’s especially important to “Know your options, Know the law” when a law affecting you varies from state to state.

If you have inherited an IRA, and also have financial problems, be aware that an inherited IRA does not share the same characteristics as a traditional IRA, according to a decision of the Supreme Court of the United States. Therefore, inherited funds do not always have the same protection as retirement funds held by the original earner of those funds, under Bankruptcy Law. Luckily for my clients, Florida Statutes have exempted inherited IRA’s from creditors. But that is not the case everywhere.

According to a Supreme Court of the United States decision, funds held in inherited IRAs are not “retirement funds,” which are understood to be sums of money set aside for the day an individual stops working. Previously a decision of the United States Court of Appeals for the Seventh Circuit, had determined that inherited funds have different characteristics. “First, the holder of an inherited IRA may never invest additional money in the account …. Second, holders of inherited IRAs are required to withdraw money from the accounts, no matter how far they are from retirement. …. Finally, the holder of an inherited IRA may withdraw the entire balance of the account at any time—and use it for any purpose—without penalty.”

That ruling was based on the Bankruptcy Court’s need to balance the creditor’s interest in recovering assets with the debtor’s interest to protect essential needs. The decision held that “Allowing debtors to protect funds in traditional and Roth IRAs ensures that debtors will be able to meet their basic needs during their retirement years. By contrast, nothing about an inherited IRA’s legal characteristics prevent or discourage an individual from using the entire balance immediately after bankruptcy for purposes of current consumption,” such as a vacation home or a sports car. In short, the Court chose not to give debtors a “free pass” to keep inherited funds at the detriment of creditor’s rights.

Following the appeal of Brandon C. Clark et ux., petitioners, v. William J. Rameker, Trustee, et. al., which argued (in part) that the original owner of the account had set aside that money as “retirement funds” and therefore that money should be “forever deemed retirement funds,” Supreme Court Justice Sotomayor disagreed. Sotomayor delivered the opinion that inherited IRAs do not qualify as retirement funds within the meaning of the bankruptcy exemption.

If the heir to retirement funds is the owner’s spouse, the spouse has a choice to “roll over” the IRA funds into his or her own IRA, or he or she may keep the IRA as an inherited IRA (subject to rules). When a non-spouse inherits an IRA, he or she may not roll over the funds; the only option is to hold the IRA as an inherited IRA account, which does not operate like an ordinary IRA, given that the individual may withdraw funds from the IRA at any time without penalty; the owner must either withdraw the entire balance within five years or take minimum distributions annually, and may not contribute to the account. Thus, earned and inherited IRAs differ in intent and process.

If you have financial challenges, also possess an inherited IRA, and are considering how best to protect your assets, consult an attorney experienced with Bankruptcy Law. Daley Law is always pleased to assist. Visit our Website and use the easy form we have on every page to ask us your legal questions.

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