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Are individual retirement accounts affected by bankruptcy?

When someone decides to file for bankruptcy, it is natural to wonder if the proceeds of a retirement account such as an IRA would be vulnerable to creditors. Another concern is whether IRA proceeds would be safe if the beneficiary files for bankruptcy.

Safe harbor for account holders

An IRA is like Social Security benefits, 401(k)s or pensions in that if the account holder files for bankruptcy, the IRA is protected from seizure by creditors. However, keep in mind that the proceeds may not be safe from a civil lawsuit or an IRS levy.

How beneficiaries fare

Even if the account holder does not have a will or any other estate-planning vehicles, he or she can still name the beneficiary or beneficiaries of an IRA and thereby exert control over the final disposition of the proceeds. However, the United States Supreme Court ruled that a non-spouse beneficiary who files for bankruptcy is not protected from creditor claims against the inherited IRA proceeds. The High Court reasoned that once the original account holder passes away, the IRA assets are no longer categorized as retirement funds.

Exemptions are many in Texas

Shift your focus to Texas where exemptions are generous. When you file bankruptcy in the Lone Star State, you can use either the state exemptions or the federal exemptions for your case, but not both. There are various types of pensions and IRAs that are protected, and account holders can check with their funds for details. Federal retirement bankruptcy options are available in both Chapter 7 and 13 proceedings, but a filer will want to examine the Texas exemptions before deciding how to proceed.

A word about spouses

The question of creditor protection related to bankruptcy applies only to a non-spouse who inherits an IRA. The spouse of a deceased IRA account holder is permitted to roll over inherited proceeds into his or her own retirement account.

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