UPDATE 1-Inherited IRAs in play for bankruptcy creditors -US high court

Thu Jun 12, 2014 1:38pm EDT

(Adds expert commentary; adds no-comment from Clarks' lawyer)

By Nick Brown

June 12 (Reuters) - The U.S. Supreme Court on Thursday said inherited individual retirement accounts are not protected from creditors in bankruptcy, in a ruling that impacts one of the most popular ways to save for retirement.

In a unanimous opinion, the nation's highest court held that IRAs inherited by someone other than a spouse cannot be considered retirement funds, because beneficiaries cannot invest additional money or delay distributions until retirement.

The treatment of inherited IRAs in bankruptcy is gaining relevance as Baby Boomers die and leave assets to their children.

A set of 2005 bankruptcy law amendments protect retirement accounts from the reach of creditors. The Supreme Court was asked to decide if Congress intended those protections to extend to inherited IRAs in Clark v. Rameker, a dispute over the bankruptcy of a small-town pizza shop owner in Soughton, Wisc.

Heidi Heffron-Clark and her husband, Brandon Clark, declared bankruptcy in 2010 after the shop closed. The Clarks' main asset was about $300,000 in an IRA inherited from Heffron-Clark's mother. William Rameker, the trustee administering the Clarks' estate, wanted to get his hands on the money for the benefit of landlords and other creditors owed about $700,000.

After conflicting rulings through multiple appeals, the Supreme Court heard arguments in March in an effort to clear up inconsistencies on the issue in different courts.

In an opinion penned by Justice Sonia Sotomayor, the high court said the bankruptcy code is designed to strike a balance between ensuring creditor recoveries while protecting a debtor's "essential needs."

The justices determined an inherited IRA did not fall within the scope of an essential need the way retirement security did.

"Nothing about the inherited IRA's legal characteristics would prevent (or even discourage) the individual from using the entire balance of the account on a vacation home or sports car immediately after her bankruptcy proceedings are complete," the ruling said.

A lawyer for the Clarks declined to comment. Attorneys for Rameker did not respond to a request for comment.

Audrey Young, a director at tax and consulting firm McGladrey, said the ruling creates a disincentive for people to save money using IRAs.

Young, who has written on the case and believes inherited IRAs should be protected, said she believes state legislatures will be "inundated" with bills seeking to protect inherited IRAs, a step seven states have already taken.

In the meantime, she said, people should put retirement money in trusts. "We need to quickly get the word out to IRA owners to designate spendthrift trusts as the beneficiaries of their retirement plans," she said.

During arguments in March, Justice Elena Kagan stressed the importance of the outcome, saying "tons and tons of people have IRAs, and they die every day."

The ruling affirms a decision last year authored by Frank Easterbrook, the economic scholar and chief judge for the 7th U.S. Circuit Court of Appeals. Easterbrook's ruling was at the time contrary to prevailing case law in other circuits. (Reporting by Nick Brown; editing by Andrew Hay)

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Comments (1)
AJW7237 wrote:
Interesting development. What are the seven states that protect inherited IRAs?

Jun 14, 2014 1:05pm EDT  --  Report as abuse
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