Inherited IRA's Are Not Exempt as "Retirement Funds" in a Bankruptcy Case
The Supreme Court of the United States issued its opinion June 12, 2004 in Clark v. Rameker, No. 13-299. The important holding from the Court is that inherited individual retirement accounts are not “retirement funds” under the meaning of section 522(b)(3)(C) of the federal bankruptcy code. Thus, the inherited IRA funds can be reached by a bankruptcy trustee for the benefit of creditors in a case where the debtor has claimed the federal exemption scheme (as opposed to claiming state law exemptions) permitted in section 522 of the bankruptcy code.
Typically, when inherited IRA’s are part of a fact pattern, they result from the status of unspent IRA’s that parents leave to their children. While bankruptcy law usually affords protection to individual retirement accounts as a debtor’s exempt assets, an inherited IRA is different because the funds in the account can be withdrawn by the new owner without needing to wait for retirement age. Part of the rationale for protecting IRA’s of a debtor in bankruptcy is that the debtor cannot easily access the money invested in an IRA until retirement usually years down the road, and presumably the debtor will need the IRA funds to care for his or her basic needs of life during retirement. In contrast, with inherited IRA’s the new owner can access the funds without waiting for retirement, and the funds were not originally set aside by the debtor for the purpose of his or her basic needs in retirement. The fact that someone else originally placed the funds in an IRA for retirement purposes did not persuade the Court that an inherited IRA should be an exempt asset under bankruptcy law when held by the new owner.
Essentially, IRA funds take on a different characteristic once inherited. Since, the inherited IRA funds are accessible to the new owner before retirement, the inherited IRA is like a windfall pot of money that should be used to pay back creditors of the debtor. The Court viewed its decision as striking a balance between the rights of creditors and the needs of debtors.
Most individuals filing a bankruptcy case in the Raleigh area or Eastern North Carolina will choose to claim exemptions provided by North Carolina law and not the federal exemptions that were analyzed in the Clark v. Rameker case. Defining exemptions provided by North Carolina law ultimately is a matter for North Carolina courts. Pursuant to North Carolina General Statute § 1C-1601(a)(9), Individual Retirement Accounts are exempt from the reach of creditors. The Clark v. Rameker opinion might contain pursavive reasoning for a judge here in North Carolina to consider when ruling on the status of an inherited IRA under North Carolina law, but time will tell.
Give us a call if you have any questions about what might or might not be an exempt asset under federal or North Carolina law, and we can discuss the matter with you.