Supreme Court Rules on Inherited IRAs

On June 12, 2014, the U.S. Supreme Court ruled on a divisive bankruptcy and estate planning case.  At issue was whether an individual retirement account (“IRA”) that a debtor inherited was exempt from the debtor’s bankruptcy estate under the Bankruptcy Code.  The Bankruptcy Code permits a debtor to protect assets that are in a “retirement account” and exempt from income taxation.

In Clark v. Rameker, U.S. Supreme Court, No. 13-299, the Supreme Court decided that an inherited IRA is not a retirement account under the Bankruptcy Code and therefore is not available for protection from creditors in bankruptcy.

The Supreme Court granted certiorari to review the issue as the lower appellate courts have decided this issue differently making the law uncertain and rendering estate planning difficult in situations involving the inheritance of IRAs and the subsequent filing for individual bankruptcy protection.  In Minnesota for example, funds of this type were protected in bankruptcy.

Oral arguments were heard on March 24, 2014.  This was a case involving small-town pizza shop owners who sought to protect the $300,000 inherited in an IRA from the debtor’s late mother from creditors in bankruptcy.

Writing for the unanimous Court, Justice Sotomayor stated that inherited retirement funds do not meet the definition of a retirement account.  The individual inheriting the IRA cannot contribute additional funds to the account and must withdraw funds, and can do so without penalty, unlike someone would had established the retirement account themselves.

This case involved a parent and child.  It is unclear what the Court would decide if a spouse attempted to protect a deceased spouse’s IRA in a bankruptcy proceeding.  Individuals who have inherited retirement accounts and are considering bankruptcy should consult with counsel to determine if other avenues are available to protect these assets from creditors.