August 21, 2014   Inheritance

Inherited IRAs No Longer Protected From Creditors


By Matthew T. McClintock, J.D.
Vice President, Educational Content, WealthCounsel

In a major decision, the Supreme Court ruled this past June that inherited IRAs are not considered protected retirement funds—and are thus subject to creditors’ claims if the beneficiary files for bankruptcy.

In the case of Clark v. Rameker, Heidi Heffron-Clark argued that a $300,000 IRA she inherited from her mother in 2001 qualified as a protected retirement account. As such, she contended, the account was exempt from the claims of creditors after Heffron-Clark and her husband filed for bankruptcy in 2010.

However, under U.S. tax code regarding inherited IRAs, Heffron-Clark was required to withdraw a minimum amount of money from the account each year, even though she is not yet retirement age. Given this, the court decided the account was not a protected retirement fund because the beneficiary wasn’t using it as one.

Why does that matter?
The Clark v. Rameker decision means that, in the case of bankrupt estates, inherited IRAs will now be considered assets—fully available to satisfy creditors’ claims. If you pass a retirement fund down to a child or grandchild, that inherited money will no longer be protected if your beneficiary must file for bankruptcy.

What should I do?
Careful estate planning can ensure that inherited IRAs remain safe from your beneficiary’s creditors. In most cases, establishing a Standalone Retirement Trust will protect your assets without restricting your beneficiary’s access to them.

How does it work?
Upon the retirement plan participant’s passing, his or her funds will flow into the third-party trust instead of passing directly to the beneficiary. Because the beneficiary does not establish the trust, doesn’t fund the trust with his or her own money, and cannot modify the trust, the trust will—in most jurisdictions—enjoy substantial protection from the claims of the beneficiary’s creditors. An independent trustee—who isn’t the beneficiary—can also be appointed to oversee the trust’s distributions in order to ensure further protection from creditors’ claims.

What do I need to do?
Make an appointment with an estate planner in your area to discuss your options. Standalone Retirement Trusts must be drafted carefully in order to ensure that the trust qualifies as a “Designated Beneficiary.” This guarantees that the trust will be able to take out the minimum required distributions according to the beneficiary’s life expectancy, not the plan participant’s. If the trust is not set up properly, the entire inherited IRA will need to be withdrawn within five years of the plan participant’s death. Work with a reputable planner to make sure your trust is structured correctly and that your beneficiary—and not his or her creditors—will receive the funds you pass down. To find an estate planning attorney near you, search our directory here.


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