Recently, there have been cases in several states presenting the issue whether funds in an “inherited IRA” are exempt assets.1 An Ohio Bankruptcy Court has now ruled in favor of granting exempt status.
An “inherited IRA” is an IRA which has been received by a beneficiary named by a deceased person who had set up a traditional IRA to save for her own retirement. A traditional IRA is generally an exempt asset to some extent under either state or federal law for the person contributing to it. However, once that contributor is deceased with funds still remaining in that IRA, it may pass to a beneficiary, becoming an “inherited IRA.”
Federal law provides that certain property may be exempted from the claims of creditors in bankruptcy and retained by the debtor. An inherited IRA may be such an exempt asset. But the bankruptcy law also provides that each state has the power to decide whether the federal exemptions will apply in its jurisdiction or whether the state’s own exemptions will be operative. A state may “opt in” or “opt out” of the federal exemptions. Ohio has opted out and the Ohio exemptions would not protect an inherited IRA.
In re Kuchta, 2010 WL 3430448 (N.D. Ohio), holds that the inherited IRA may be exempted even though the Ohio statutes would limit the exemption to the person who actually contributed to the account. The court held that § 522 of the Bankruptcy Code permits a debtor to exempt IRA funds even where a state has opted out. Under the ruling, Ohio debtors may use Bankruptcy Code § 522(b)(3)(C) to exempt those funds if the requirements of that section are met: if “those funds are in a fund or account that is exempt from taxation under [various sections] of the Internal Revenue Code.” Because funds may be exempt from taxation under the Internal Revenue Code irrespective of whether they are “retirement funds” of the debtor or whether they were inherited, they may be exempted from claims of creditors even though they would not be under the Ohio exemption scheme.2