[THIS CASE WAS OVERRULED BY THE U.S. SUPREME COURT BY CLARK V RAMEKER, DECIDED JUNE 12, 2014]
The Fifth Circuit has ruled that an inherited Individual Retirement Account (“IRA”) is exempt under the federal exemption scheme (§522(d)(12)). In re: Chilton, 774 F.3d 486 (5th Cir. 2012). Janice Chilton inherited an IRA worth $170,000.00 from her mother and followed the requirements of the Internal Revenue Code to establish an “inherited IRA.” An IRA inherited by someone other than a spouse in defined as an Inherited IRA. 26 U.S.C. §408(d)(3)(C)(ii). Special distribution rules apply to inherited IRA’s.
Subsequently, the Chiltons filed a Chapter 7 bankruptcy case and claimed the inherited IRA as exempt pursuant to 11 U.S.C. §522(d), which provides:
[t]he following property may be exempted under subsection (b)(2) of this section:… (12) Retirement funds to the extent that those funds are in an account that is exempt from taxation under 401, 403, 408, 408A, 414, 457, or 510(a) of the Internal Revenue Code of 1986.
The Trustee objected to the claimed exemption on the basis that the funds in an inherited IRA are not “retirement funds” within the meaning of §522(d)(12) and are not held in the type of tax exempt account specified. In response, the debtors converted their case to a Chapter 13 case and the Trustee objected again. The bankruptcy court ruled for the Trustee, but the District Court reversed the decision. The Trustee appealed.
In a case of first impression at the Circuit Court level, the 5th Circuit ruled that the term “retirement funds” within the meaning of §522(d)(12) can include funds that others had set aside for retirement and are not limited to funds set aside by the debtors. Relying on language in the Internal Revenue Code, the Court further ruled that an inherited IRA is tax exempt under one of the tax code provisions listed in §522(d)(12). Inherited IRA’s are exempt under the federal exemption scheme of §522(d).
The Chilton opinion was based upon specific statutory language found in §522(d)(12), which is not available to debtors in opt out states like Mississippi. Would the same analysis apply to inherited IRA’s under Mississippi’s exemption statute? Probably. But it is unnecessary to consider the question because 11 U.S.C §522(b)(3)(C) allows debtors in opt out states to claim IRA’s as exempt using language identical to §522(d)(12). See In re: Hamlin, 465 B.R. 863 (BAP 9th Cir. 2012) (Inherited IRA’s are exempt under §522(b)(3)(C)).
Caution: in order to qualify as an inherited IRA under ERISA, a trust-to trust transfer must be made and other distribution rules must be followed. A debtor risks losing the exemption in an inherited IRA if formalities are ignored.