Bankruptcy and Inherited IRAs

ira in jeopardyMost of us have worked to build our retirement savings for years – and indeed, for far longer than we’ve had financial problems. Many Texans wrongly assume that their Individual Retirement Account, or IRA is in jeopardy if they opt to file for bankruptcy protection. Federal laws are clear: your retirement funds, including an IRA, is protected from creditors, even if you file Chapter 7 bankruptcy. But what about inherited IRAs?

In recent years, there have been questions about whether those same protections are extended via inherited IRAs, especially in Texas. In short, if a spouse inherits an IRA after the death of her husband, it can be rolled over into her own IRA and remains fully protected. That leaves the question: what if the surviving spouse opts to not roll it over into her own account? Better yet, what happens if an IRA is willed to say, an adult child or a grandchild? Do the same protections from creditors kick in?

Supreme Court Rules on Inherited IRAs

Recently, a case made it to the Supreme Court and it involved the exact quagmire mentioned above. The case, Clark v. Rameker, included a woman who’d inherited her mother’s IRA. A decade later, she filed for bankruptcy protection and then appealed the Bankruptcy Court’s decision which held that her inherited IRA was not exempt.  Her lawyer argued the inherited IRS was intended for her retirement and should be exempted from her creditors. The Supreme Court Justices believed otherwise. They ruled the IRA was not exempt.  Among the reasons for their decision:

  • Inherited IRAs can’t accept additional funds, unlike those we build ourselves
  • The inherited IRAs require annual withdrawals
  • Unlike a traditional IRA, the balance in an inherited IRA can be withdrawn in its entirety at any point with no worries of early withdrawal penalties

The Justices made their position clear.

And then Texas got involved.

Texas Laws on IRAs

The Texas legislature passed a new law found in Section 42.0021 of the Texas Property Code that addresses inherited IRAs. Essentially, it states that inherited IRA’s are exempt from the reach of creditors, just like non-inherited IRA’s. This means, of course, an IRA – whether it’s your own or one you’ve inherited – is exempt in a Texas bankruptcy case.  But there are two caveats:

You must have lived in Texas continuously for two years prior to filing for bankruptcy in order to exempt your inherited IRA and you must claim the Texas exemptions when you file your Texas bankruptcy case.  

If you’re considering bankruptcy protection, I invite you to contact us today to learn more about your options.  As you can see, bankruptcy law involves a complicated blend of federal and state law and you need an experienced bankruptcy lawyer to help advise you through the process. You might be surprised at how quickly we can put this behind you so that you can begin with your financial fresh start!

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