Whether post-death creditor protection is available to inherited IRAs under the 2005 Bankruptcy Act has been the subject of a number of cases decided in the last several years. The argument made by bankruptcy trustees is that, on the death of the IRA owner, the IRA ceases to be “retirement funds” as it is not the retirement funds of the beneficiary. Consequently, the bankruptcy trustees argue that the inherited IRA ceases to have the protection afforded to IRAs under the Bankruptcy Code.
In Re Stephenson, U.S. District Court, E.D. Mich., No. 4:11-cv-10848-MAG-MAR, December 12, 2011 is the latest in a long line of cases that have been decided in the last several years under the 2005 Bankruptcy Code. While the Bankruptcy Court in this case agreed with the Trustee that the inherited IRA was not exempt from the bankrupts’ estate, the District Court did not agree.
In this case, Janet Stephenson had inherited an IRA from her mother two years before filing bankruptcy. The Stephensons claimed an exemption for the IRA under the Federal Exemptions in § 552(d)(12), and the Trustee objected. In reviewing this bankruptcy case, the District Court first reiterated the two-prong test used in each of the cases previously decided under the 2005 Bankruptcy Code, whether the funds were “retirement funds” and whether the funds are exempt from taxation.
The Court reviewed all of the cases decided under the 2005 Bankruptcy Code:
- In re Chilton, United States Bankruptcy Court, E.D. Texas, Case No. 08-43414, March 5, 2010, in which the bankruptcy court denied an exemption for the inherited IRA of the bankrupt. However, the US District Court has now reversed the Chilton bankruptcy court ruling in Chilton v. Moser, 107 AFTR 2d ¶ 2011-594 (DC TX 3/16/2011), holding that an inherited IRA is an exempt asset.
- The Eighth Circuit Bankruptcy Appellate Panel in In re Nessa, Case No. 10-6009 (Bkrtcy Appellate Panel CA 8, April 9, 2010), 105 AFTR 2010-1825, determined that an inherited IRA qualifies for exemption under § 522(d)(12) of the Bankruptcy Code.
- In re Kutcha, 434 B.R. 837, (Case No. 09-15538, N.D. Ohio, April 16, 2010), the bankruptcy court first reviewed Ohio bankruptcy exemptions, since Ohio is an opt out state. (Ohio exemptions, not Federal exemptions, applied in this bankruptcy estate.) The court found an inherited IRA is not exempt under Ohio law. The court went on to rule that, in an opt out state when state exemptions apply, the Federal exemption for retirement funds found in §522(b)(3)(C) applied to provide the same protection otherwise applicable under §522(d)(12). The court then held that an inherited IRA is exempt from creditors in bankruptcy.
- In re Klipsch, 435 B.R. 586 (S.D. Indiana, Case No. 09-71922-BHL-7A, June 7, 2010), where Indiana is an opt out state, the bankruptcy court decided that an inherited IRA is not an exempt asset in bankruptcy. Under Indiana law in order to be exempt “retirement funds”, the funds had to be retirement funds in the hands of the debtor. The court did not discuss §522(b)(3)(C) of the Bankruptcy Code.
- In re Tabor, 433 B.R. 469 (M.D. Pennsylvania, Case No. 1:09-bk-05277MDF, June 18, 2010), where Pennsylvania is an opt out state so that the state law exemptions applied, the bankruptcy court declined to rule on whether the inherited IRA was exempt under Pennsylvania law. Instead, the bankruptcy court ruled that the inherited IRA was exempt under §522(b)(3)(C) of the Bankruptcy Code.
- In re Weilhammer, 2010 WL 3431465 (S.D. California, Case No. 09-15148-LT7, August 30, 2010), an unpublished decision, a California debtor (California is an opt out state) claimed an exemption under §522(b)(3)(C). While the court found the issue was a close question, the court determined that the inherited IRA contained “retirement funds”, albeit those of a relative of the debtor. The court ruled that the inherited IRA was exempt under §522(b)(3)(C).
- In re Ard, 435 B.R. 719 (M.D. Florida, Case No. 8:09-bk-22280-KRM, August 18, 2010), the debtor elected state exemptions. The court cited Robertson v. Deeb and the Chilton bankruptcy court case in ruling that an inherited IRA was not an exempt asset because an inherited IRA has different characteristics from a “retirement” IRA. The court did not discuss §522(b)(3)(C). Florida has enacted legislation to clarify that an inherited IRA is protected from creditors, thus negating the impact of Ard and Robertson.
- In re Thiem, 107 AFTR 2d 2011-529 (AZ, January 19, 2011), (Arizona is an opt out state), where the Arizona exemption statute specifically included the interest of a beneficiary in an IRA among the state exemptions, after noting that “neither case law nor the legislative history [of the Federal Bankruptcy Code] reveal any useful information pertaining to the application of this statute to an inherited IRA,” the court concluded that the requirement that the funds be “retirement funds” did not require that the funds be the retirement funds of the debtor. The court found that the inherited IRA was exempt.
- In re Mathusa, 2011 WL 1134680 (Bkrtcy. M.D. Fla.) the bankruptcy court likewise concluded that the IRA Marilynn Mathusa inherited from her mother was an exempt asset under § 522(b)(3)(C) of the Bankruptcy Code (Florida, is an “opt out” state).
- In re Johnson, 452 B.R. 804 (Bkrtcy. W.D. Washington May 4, 2011), the debtor elected the Federal exemptions. After noting that the clear trend was to allow exemption for inherited IRAs, the court agreed with the analysis of the prior cases and ruled that the inherited IRA was exempt under § 522(d)(12).
- In re Clark, 450 B.R. 858 (Bkrtcy. W.D. WI, May 10, 2011), where the debtor filed bankruptcy in Wisconsin in 2010. The debtor elected to use Wisconsin exemptions and claimed that the inherited IRA was an exempt asset under the Wisconsin exemptions and under 11 U.S.C. § 522(b)(3)(C), the Federal exemption applicable when state exemptions are applicable. Unlike the other cases preceding this case, the bankruptcy court in Clark ruled that the debtor’s inherited IRA was not exempt in bankruptcy, on the basis that the IRA would only be exempt if it was the retirement fund of the debtor.
After reviewing the case law discussed above, the Court found that the Chilton case, the earliest of this line of cases, was “incredibly well-reasoned” and commented that the Clark case was the only case to the contrary. The Court concluded that there was nothing in the Bankruptcy Code that would require the funds to be the debtor’s retirement funds; the funds simply had to be funds saved by someone for retirement. Accordingly, the Court rejected the position taken by the court in the Clark case, and reversed the holding of the Bankruptcy Court, ruling that inherited IRAs are exempt under § 552(d)(12) of the 2005 Bankruptcy Court.