News Release
Supreme Court Asked to Extend Bankruptcy Code to Shield IRA’s From Creditors
Media Contact: Richard E. Weltman 212.684.7800 or 201.794.7500
E-mail: rew@weltmosk.com
For Immediate Release on or after December 6, 2004
NEW YORK, NY --The U.S. Supreme Court is now considering arguments concerning how much retirement savings people may lawfully protect when they file for bankruptcy relief, an important debate as more Americans go deeper into debt.
The justices heard oral argument on December 1, 2004, in the case of a bankrupt Arkansas couple seeking to exempt from creditor reach their two individual retirement accounts, or IRAs.
Bankruptcy law currently exempts pensions, 401(k)s, Social Security and other benefits tied to age, illness or disability. The Court appeared reluctant to allow seizure of all the money invested in IRAs, a type of deferred retirement savings account used by millions of Americans, though Justice Sandra Day O’Connor indicated some IRA accounts still might be reachable by creditors under certain limited circumstances.
IRAs, which may be created by anyone regardless of employment, permit investors to contribute up to $3,000 annually to an account that continues to grow tax-free until withdrawn at retirement. It is sometimes the only retirement plan available to the self-employed, small business owners, and workers in between jobs.
Unlike many other retirement programs, IRAs permit cash withdrawals for any reason at any time, although account holders younger than 59 ½ pay a 10 percent federal tax penalty for early withdrawals.
“The statute says the right to receive payment is on ‘account of age,’” Justice Anthony Kennedy observed. “If a client can take the money out at any time, why is it on account of age?”
But Justice Stephen Breyer, supported by Justices David H. Souter, Ruth Bader Ginsburg, John Paul Stevens and O’Connor, noted more than 98 percent of IRA investors do not make IRA withdrawals before age 60.
The Court is focusing on IRAs, which most lower courts agree are not currently protected like other retirement funds once a bankruptcy petition is filed. Many creditors are concerned that by extending the exemptions, dishonest debtors not needing bankruptcy court protection will benefit by hiding assets by overfunding IRA accounts before filing.
The case is being carefully watched by many special-interest groups like the AARP as well as by bankruptcy experts. In 2003 more than 1.6 million people filed for bankruptcy protection, compared with 875,000 a decade ago. Some observers assert the sluggish economy is partly to blame. They charge that many filings are being driven by older workers who lose their jobs and are unable to pay off long-term debt. They see bankruptcy as an unpleasant but sometimes necessary last resort.
The case before the court involves Richard and Betty Jo Rousey of Berryville, Arkansas, who accumulated $55,000 in company-sponsored pension and 401(k) plans at Northrop Grumman Corp. before Mr. Rousey took early retirement in 1998. When Mrs. Rousey was laid off a month later, they rolled their exempt retirement funds into IRAs.
The Rouseys have since been unable to keep new jobs, due in part to Mr. Rousey’s chronic disability. Debtors’ lawyers claim Richard, 60, and Betty Jo, 57, now live on just $2,000 per month. The Rouseys argue that losing the IRAs to their creditors would be an enormous and unfair hardships, particularly since the source funds were originally exempt.
The couple filed for bankruptcy protection in 2001 and claimed an exemption for their IRAs. The lower courts disallowed the exemption, ruling the couple’s ability to withdraw funds at any time changed the character of the previously exempt pension funds and made the IRAs more akin to typical savings or checking account not subject to protection from creditors.
Some on the Court, like Justice O’Connor, suggested a solution that might protect IRAs only to the extent the money is reasonably necessary for the support of debtor and debtor’s dependents. That need-based concept is stated elsewhere in the Bankruptcy Code, under 11 U.S.C. §522(d)(10)(E). Taking such a middle ground might appease many creditors, since the bankruptcy court would be able to consider the appropriateness of an asserted IRA exemption based upon the debtor’s needs and circumstances on a case by case basis.
The case under consideration, Rousey v. Jacoway, is docketed as 03-1407. A ruling is expected from the Court by late June 2005.
If IRAs are an issue, the particulars should be reviewed with an experienced bankruptcy attorney before any filing decision is made. Some states, like New Jersey, offer additional protection to IRA holders in the form of a nonbankruptcy law exemption.
Richard E. Weltman, a member of the firm of Weltman & Moskowitz, LLP, practices law in New York and New Jersey, where he handles cases involving bankruptcy and creditors’ rights, business litigation, formation, sale and transfer, Internet law, real estate, and other transactional matters. He can be reached at 201.794.7500 or 212.684.7800 or by e-mail at rew@weltmosk.com.
