Inherited IRA's are protected as an exempt asset under the Bankruptcy Code

Fifth Circuit, apparently the first Circuit Court to address this, ruled this week than an inherited IRA is an exempt asset:

In the matter of: JANICE ELAINE CHILTON; ROBERT GREGG CHILTON, Debtors. ROBERT GREGG CHILTON AND JANICE ELAINE CHILTON, Appellees, v. CHRISTOPHER MOSER, Appellant.
No. 11-40377
UNITED STATES COURT OF APPEALS FOR THE FIFTH CIRCUIT
2012 U.S. App. LEXIS 5140

March 12, 2012, Filed
PRIOR HISTORY:  
Appeal from the United States United States District Court for the Eastern District of Texas.

Chilton v. Moser, 444 B.R. 548, 2011 U.S. Dist. Lexis 27002 (E.D. Tex. 2011).

PROCEDURAL POSTURE: Appellant Chapter 7 trustee sought judicial review of a decision by the United States United States District Court for the Eastern District of Texas to reverse a bankruptcy court's ruling that an inherited Individual Retirement Account (IRA) did not qualify for exemption under 11 U.S.C. Section 522(d)(12).

OVERVIEW: The question of whether an inherited IRA satisfied the two requirements of Section 522(d)(12) was a question of first impression for the United States Court of Appeals for the Fifth Circuit and its sister circuits. The $170,000 contained in the inherited IRA constituted retirement funds as that phrase was used in Section 522(d)(12). While the parties agreed that the debtors' inherited IRA was tax exempt, they disagreed over which section of the Internal Revenue Code rendered it exempt. The trustee contended that inherited IRAs were tax exempt pursuant to 26 U.S.C. Section 402(c)(11)(A). The debtors responded by arguing that the inherited IRA was tax exempt pursuant to 26 U.S.C. Section 408(e). Since the transfer of the IRA took place before the debtors filed for bankruptcy, the issue was which provision rendered the inherited IRA exempt from taxation subsequent to the transfer.  Section 408 rendered the inherited IRA  exempt from taxation following its transfer from the deceased to the debtors. Because Section 408 was one of the sections named in Section 522(d)(12), inherited IRAs are contained in an account that is exempt from taxation as that phrase is used in Section 522(d)(12).

OUTCOME: The judgment of the district court was affirmed.

Retirement, Pensions and Bankruptcy - Should I tap into my 401K or IRA to pay overdue bills?

Even if you file for bankruptcy, your retirement funds are "exempt" from the reach of creditors.  That means the people you owe money cannot take your retirement money.

A legitimate 401K, IRA etc., cannot be taken by your creditors to pay overdue bills or judgments.  The bankruptcy code as well as most state laws do not allow creditors to take your retirement money - it is "sacred".

So, if you are drowning in credit card debt, please don't rush to cash in all or part of your retirement nest egg, as  in most cases a bankruptcy filing will discharge or get rid of these debts. 

Also, cashing in all or part of your nest egg ahead of your retirment age usually has adverse tax consequences.  If you cash in your 401K, IRA, 403B, etc.,  to pay bills, you will most likely pay taxes AND a penalty on the portion you cashed in to use before retirement age.

Your retirement funds are for YOU to protect YOUR future when your earning capacity is lowered.  Please don't risk it by making a hasty decision to cash in all or part of your retirement funds to pay demanding creditors - you don't have to do it!

If you are facing this decision, PLEASE contact an attorney.  Most bankruptcy lawyers, like myself, provide their first consultation free.

Bankruptcy before and after retirement

Two couples, recent clients, both planning for retirement using bankruptcy as a tool.

#1: Before Retirement: 
Mr. and Mrs. X are about ten years from retirement.  Together they share substantial credit card debt.  They also have two mortgages on their home, although with plummeting real estate values, their home is not worth the dollar amount they owe on their first mortgage, let alone the second mortgage.

Over the past several years with job loss, job recovery at a lesser pay scale, the plan for retirement money being saved was replaced with not having enough money to live in the present.  Sitting down one day they figured out if they both continued paying the minimum on their credit cards, which is what they were doing, they would be in their 90's before the credit card debt was paid off, due to the incredibly high interest rates (if they lived that long).  In so doing, they had no surplus funds to live on, let alone save. 

Their collective income puts them above the median for New Hampshire couples.  That means they qualify for a 60-month Chapter 13 bankruptcy plan, where they can do two very important things: (1.) They can remove the second mortgage from their home without repaying it because there is no value to it, and (2.)  They can pay off some of the credit card debt and discharge the entire balance without having to pay the balance of the credit card debt.  At the end of their Chapter 13 bankruptcy plan, they will emerge from bankruptcy  (1) owing NO second mortgage and (2) owing NO credit card debt.  The retirement years suddenly got a whole lot more golden!

#2: After Retirement:  Mr. and Mrs. Z have raised their kids and are both living on social security income.   They owe a small balance on their home but have run up their credit cards due to escalating gasoline bills and heating bills, and generally everything costs more.  Because they are on a fixed retirement income, their income is below the median for New Hampshire couples.  They qualify for either a Chapter 7 case or Chapter 13 bankruptcy repayment plan.  They opt for Chapter 7.  Since they were current on their mortgage payments, and New Hampshire has a homestead exemption, Mr. and Mr. Z were able to keep their home and discharge all of their credit card debt.  Without the credit card debt and the high interest costs associated with the credit cards, they are now able to pay cash as they go for what they need. 

And, they took out a reverse mortgage (people over aged 62 qualify) which means they no longer have any mortgage payments as well.  I see many smiles in their future!

Lesson learned:  Never give up.  Sit down with a professional and start learning about your options.  In the practice of bankruptcy and financial issues, I [along many others] provide a free consultation.

Bankruptcy and Retirement, sometimes they go hand in hand.

The great moment has arrived where you hang up the work shoes, and enjoy the fruits of your labor - right?

Unfortunately, for all too many people with fixed incomes, retirement has brought mounting credit card debt or unpaid medical bills without any real opportunity to pay off this debt on a fixed income. Gasoline prices are through the roof, real estate taxes keep increasing, and medical insurance just does not seem to cover all the medical bills. Or, the water heater blows, the stove stops working or the frig won't keep anything cold  - and with no extra funds, use of the credit cards or a loan seemed to be a good option at the time, but now with too many bills, they just can't be paid off.

Sometimes, the only way to get rid of the medical bills and credit card debt is to file for bankruptcy.  And again, filing for bankruptcy does not mean you lose your home or your car or your things because the  "exemptions" under the law allow most people to keep what they have (see articles on exemptions) even though they have filed a bankruptcy petition - pensions are protected as well. You can exit bankruptcy with your pension in tact and free from the reach of creditors.  Bankruptcy may rid you of your credit card and unsecured debt and unpaid medical bills, in many cases. 

There are avenues to explore to get rid of the debt and make your "golden" years happier, and bankruptcy is just one of them.  Another option to explore is the "reverse mortgage".  The "reverse mortgage" occurs where a lender will either give you a credit line up to a certain dollar amount secured by your home, or they will pay off your existing home mortgage.  You need to be at least 62 years old to do this.  You do not pay off this "reverse mortgage" until you either (1) move out of your home or (2) die.  The reverse mortgage frees up a substantial amount of income for retirement folks living in their home.  But, PLEASE, seek out a a reputable lender or consider going to a certified HUD counselor to point you in the right direction on the issue of a reverse mortgage. 

Does your town have a program for reduced real estate taxes on your home if you are over a certain age?  Many, many stores offer senior discounts.  Take advantage of those hard, earned years!

Lesson learned:  For many, many people who are in their retirement years, there are options to address mounting debt.  Do not let your finances control you, you can control your finances by seeking answers to address these problems.