A unanimous Supreme Court ruled (9-0) yesterday in Clark v. Rameker, 13-299, that inherited individual retirement accounts are not retirement funds within the meaning of the Bankruptcy Code. The decision affirms a recent 7th Circuit decision and clears up a circuit split about the status of unspent IRAs that pass by way of an inheritance. Prudent bankruptcy practitioners may wish to amend their intake forms to specifically ask if the potential client owns an inherited IRA.
Retirement assets are exempt under the bankruptcy code and Illinois law. But the Supreme Court distinguished inherited IRAs from other retirement accounts. If the heir is a spouse of the decedent, that spouse has a choice when he or she inherits an IRA. He can roll it over into his own IRA, which would retain the exemption, or he can keep it in an inherited IRA, which would not be exempt from creditors. If anyone other than a spouse inherits an IRA, he or she cannot roll it over. The funds must remain designated as an inherited IRA, which are governed by different rules than a traditional or Roth IRA under the tax code.
Unlike a typical IRA, money in an inherited IRA can be withdrawn without waiting for the new owner to retire. Writing for the court, Justice Sonia Sotomayor said that this crucial change in the status of the account makes it less like retirement savings and more like a pot of money available to pay off creditors. Otherwise, Sotomayor said, nothing would prevent someone who declares bankruptcy from using the entire balance of an inherited IRA "on a vacation home or a sports car immediately after her bankruptcy proceedings are complete." For this reason, an inherited IRA does not deserve the typical protection afforded to more traditional "retirement funds."
HERE is a link to the Court's opinion.