Last week, the U.S. Supreme Court ruled unanimously that funds in an inherited IRA are not protected in the case of bankruptcy because they are no longer considered retirement accounts.
In the case, Clark v. Rameker, the Court ruled that Heidi Heffron-Clark’s inherited IRA could not be shielded from creditors after she declared bankruptcy in 2010.
According to the Court, inherited IRAs differ from those belonging to their original owners on several key points. Heirs can’t put any additional funds into their inherited accounts. They can also withdraw money at any point without penalty. Non-spousal IRA inheritors must either take out a minimum sum every year following the original owner’s death or withdraw the total balance within a maximum of five years after the IRA owner’s death. On the other hand, funds in IRA owners’ accounts are protected in the case of bankruptcy, since these funds are designated exclusively for retirement.
So, what can you do to protect your inherited IRA?
Funds in an inherited IRA are typically not covered by a will, but rather distributed in keeping with beneficiary designation forms that are created when IRAs are opened. These forms can be amended even after an IRA’s opening, so now is a good time to check up on your paperwork.
If you’re a spouse facing an inherited IRA, you have the option to roll it into your own IRA, though this means giving up the benefit of penalty-free early withdrawal. However, keeping the inherited IRA separate exposes those funds to seizure during bankruptcy.
It’s also possible to name a trust as the beneficiary of an IRA, which protects IRA funds from creditors. However, this complex strategy should be approached with caution, and may benefit from expert advice specific to your situation.
Though the Supreme Court has clarified the status of inherited IRAs, it’s important to note that this ruling does not affect bankruptcy protection for your own retirement accounts.