If a lawyer ever tells you they have “one weird trick” to easily get you out of debt, run fast and don’t look back. One such ‘trick’ went all the way to the Supreme Court of the United States before being unanimously smacked down, making clear how inherited IRAs are treated under bankruptcy proceedings. Going forward, new methods for protecting an inherited retirement account will be necessary.
Here’s the story. Heidi Heffron-Clark inherited an IRA account from her mother, receiving a number of distributions from it over the years before filing for Chapter 7 bankruptcy. Her lawyers asserted that her inherited IRA qualified for the retirement account exemption in federal Bankruptcy Code, which exempts IRAs of up to $1.245 million from bankruptcy.
The Supreme Court disagreed, however. Ruling in Clark v. Rameker, the Court pointed out the difference between a personal retirement account that you work to grow from those that are inherited, and then made those differences even more distinct. Already, inherited IRAs did not offer the same tax incentive as a person’s own IRA because a person who inherited the IRA never got the tax benefit from making contributions to it. Moreover, taking distributions from an inherited IRA has long been governed by different rules from those of a person’s own IRA. As the law already treated inherited IRAs in a fundamentally different way, and the funds in an inherited IRA were for the retirement of the deceased and not for the retirement of the person inheriting, the Court reasoned that the federal bankruptcy exemption was similarly inapplicable.
If you are the holder of an IRA and would like to ensure your heirs are better protected, it is worthwhile to consider designating a trust as the primary beneficiary of your IRA assets. That way, you can make it so that the assets do not count against your heirs in bankruptcy proceedings.
It’s important to note that the Court made no mention of spousal beneficiaries of an inherited IRA. As the rules governing this are fundamentally different–any inherited IRA can be rolled over by a spouse into their own account–there is more leeway to argue that the bankruptcy exemption does, in fact, apply.
We can help you plan for the safe, successful transfer of wealth to the next generation. Call our office today at 612-206-3701 or reach out via our contact form to schedule a time for us to sit down and talk about it in a family estate planning consultation, where we can identify the best strategies for you and your family to ensure your legacy of love and financial security.
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