The United States Supreme Court just rendered a decision on a topic which could affect many Americans in the foreseeable future. The federal bankruptcy code allows debtors who file for bankruptcy protection to claim certain specifically-enumerated exemptions. Such individuals are permitted to exempt any funds in accounts intended for retirement purposes such as traditional and Roth IRA accounts. This means none of such “exempt” funds would be used in the bankruptcy case to pay the claims of creditors. All such qualifying funds could be kept by the debtor to be used once the debtor retires. The question this particular case addresses, however, is whether a debtor who receives inherited funds from a retirement account left to her by her mother can use the exemption to shield those funds from disposition in her bankruptcy case.
In Clark v. Rameker, No. 13-299, 2014 BL 162980 (U.S. June 12, 2014), the Supreme Court issued a unanimous decision that this bankruptcy debtor could not exempt the funds she received from her mother’s retirement account. In her opinion on the matter, Justice Sonia Sotomayor indicated there were three primary reasons why the exemption did not apply to these inherited retirement funds:
1. The party (the debtor) receiving the IRA may never make a contribution to the account – unlike those IRAs one holds for oneself.
2. Under the tax code and IRS regulations, holders of inherited IRAs are required to withdraw money from such accounts, no matter how many years they may be from retirement.
3. Whereas a withdrawal from a traditional or Roth IRA prior to the age of 59½ triggers a 10 percent tax penalty subject to narrow exceptions, the holder of an inherited IRA may withdraw the entire balance of the account at any time — and for any purpose — without penalty.
This ruling will have a significant impact on how particular insolvent individuals – who are recipients by inheritance of funds from an IRA account – decide to file for bankruptcy protection. In the wake of this decision, some whose funds from inherited retirement accounts constitute a big portion of their total assets may reconsider bankruptcy as a constructive option.
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