Are Inherited IRA Accounts Exempt In Bankruptcy?

A case is now before the 9th Circuit Bankruptcy Appellate Panel, Mullen v. Hamlin, BAP No. 11-1083 to determine the issue as to whether an inherited IRA is exempt pursuant to 11 U.S.C. §522(b)(3), 11 U.S.C §522(d)(12) and limited to $1,095,000 by 11 USC § 522n. To date the majority of courts that have ruled on this issue have held in favor of allowing the exemption. Footnote 1.

In the majority of cases the opinion has rested on a plain language reading of 11 U.S.C. §522(d)(12) which imposes two requirements before the debtor may claim an exemption under that section: (1) the amount the debtor seeks to exempt must be retirement funds; and (2) the retirement funds must be in an account exempt from taxation under one of the provisions of the Internal Revenue Code. In their opinions these courts have concluded that both conditions are met with respect to an inherited IRA account.

The trustee appellant in Mullen v. Hamlin is trying to overturn the decision of the United States Bankruptcy Court for the District of Arizona. The trustees argument is based on a since overturned ruling from the U.S. Bankruptcy Court for the Eastern District of Texas in In re Chilton, 426 B.R. 612 (Bankr. E.D. Tex. 2011). The judge in Chilton ruled that inherited IRAs are not protected in bankruptcy because the funds in an inherited IRA “are not funds intended for retirement purposes.” As evidence of that, the judge pointed out that under Internal Revenue Service rules governing inherited IRAs, debtor Janice Chilton, who is turning 52, would have to either begin taking annual distributions from the $170,000 IRA she inherited from her mom this year, or deplete the entire IRA by 2013. (By contrast, there are elaborate IRS rules limiting when you can take money out of your own IRA. Chilton has since been overruled by the U.S. District Court for the Eastern District of Texas, Chilton v. Moser, 2011 WL 938310.

We believe that it is highly likely that the 9th Circuit Bankruptcy Appellate Panel will follow the majority and uphold the §522(d)(12) exemption as made applicable to opt out states like California pursuant to §522(b)(3). Stay tuned.

1. In re Nessa, 426 B.R. 312 (8th Cir. BAP 2010), In re Tabor, 433 B.R. 469 (Bankr. M.D. Pa. 2010), Bierbach v. Tabor, No. 10-cv-1580 (M.D. Pa. Dec. 2010) (unreported) (appeal pending), No. 10-4660 (3rd Cir.), In re Weilhammer, 2010 WL 3431465 (Bankr. S.D. Cal. Aug. 30, 2010); and in re Kuchta, 434, 463 B.R. 837 (Bankr. N.D. Ohio 2010).