Written by Tom W., OLN Freelance Attorney.
One of the lower-profile of those decisions—at least when it comes to splashy mainstream media coverage—concerned inherited individual retirement accounts (IRAs). In July, the justices held that the funds in an inherited IRA don’t qualify as “retirement funds” and so don’t enjoy exemption in bankruptcy—making them open to creditors. Clark v. Rameker, 134 S.Ct. 2242 (2014).
The Court reasoned that funds in inherited IRAs “are not objectively set aside for the purpose of retirement” because of various characteristics, including that the holder of the account may withdraw all of the funds for any purpose and at any time, without penalty.
The decision highlights the possible asset protection that spouses should consider when inheriting IRAs. The inheriting spouse, unlike other beneficiaries, has the choice of rolling over the IRA into his or her own IRA, or keeping the IRA as an inherited IRA. By electing to roll over the IRA, the funds would take on the characteristics of regular IRAs. Presumably the funds will be protected if the spouse files for bankruptcy at some point.
But this election to roll over comes with caveat: As Deborah L. Jacobs points out in Forbes, as with other IRA holders, there may be a 10 percent penalty if withdrawal is made before age 59 ½.
Where does that leave nonspousal inherited IRAs? These may have protection in some jurisdictions: According to InsuranceNewsNet, seven states have protection for nonspousal inherited IRAs in bankruptcy: Alaska, Arizona, Florida, Ohio, Missouri, North Carolina, and Texas.
While the Court’s Rameker decision may induce yawns from reporters and bloggers looking for more hot-button topics, the ruling could impact many Americans. IRAs make up more than 25 percent of all U.S. retirement assets. It’s safe to say that many people find themselves inheriting these accounts upon the passing of a loved one. It will be prudent of them—and their lawyers—to take a close look at how to handle them.