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Inherited IRAs Within Reach of Creditors in Bankruptcy

Posted by McDonald & Osborne Posted on Oct 14 2015

Back in January we wrote about a then pending Supreme Court case involving a woman who went through bankruptcy after inheriting an IRA from her mother (see Supreme Court to Decide Fate of Inherited IRAs ). A lower court sided with the woman stating that inherited IRAs were protected from creditors during the 5 year payout period allowed by current tax laws. After the ruling was reversed by the 7th Circuit US Court of Appeals, the case headed to the Supreme Court.

The Supreme Court sided with the 7th Circuit Court of Appeals and held that creditors may get at inherited IRAs because they do not qualify as retirement funds exempt from bankruptcy. They also listed 3 reasons why such funds are not considered retirement funds to the knew account holder:

1. The heir cannot make additional contributions to the account to be set aside for retirement.

2. The heir must begin to tap the IRA for distributions soon after the original owner’s death.

3. And the holder of the account may withdraw the entire balance at any time without penalty.

The case clarifies that only the debtor’s own retirement funds are exempted from the bankruptcy estate and can be held out of the reach of creditors.

Stephen Osborne, CPA
Certified Public Accountant

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