Retirement accounts not only help investors save in a tax-advantaged manner, they also can provide important asset protection benefits as well. Retirement accounts generally fall into two categories — those considered “qualified” under the Employee Retirement Income Security Act of 1974 (ERISA) and those that are not, including IRAs.
ERISA plans are given full protection from attachment by creditors. A ruling from the U.S. Supreme Court in 1992 (Patterson v. Shumate) held that retirement benefits under an employer plan “may not be assigned or alienated.” IRAs do not receive the same protection.
Bankruptcy law in 2005 extends protection to IRAs and other non-ERISA retirement accounts
In April 2005, President Bush signed a bill (Bankruptcy Abuse Prevention and Consumer Protection Act) into law making sweeping changes to the U.S. federal bankruptcy system. One of these changes was the extension of benefits to IRAs and other non-ERISA retirement accounts. This legislation followed an important U.S. Supreme Court case (Rousey v. Jacoway) in which the court unanimously ruled that IRA assets could be exempted from the federal bankruptcy estate, that IRAs are a “similar plan or contract” to pension and profit-sharing plans.
Creditor protection in federal bankruptcy proceedings
Although IRAs and other non-ERISA plans do not receive federal protection outside of bankruptcy process (e.g., civil judgments) many states grant similar protection to ERISA plans. This protection can vary widely from state to state. For example, many states, such as Texas and Florida, extend protection of IRA assets for owners, while other states may provide limited protection. California limits protection for IRAs to the amount necessary to support the account owner and dependents, which can be subjective depending on the circumstances. Also, it is important to note that inherited IRAs may not be protected in federal bankruptcy proceedings or in many states. Since legal statutes are always being challenged and modified, it is critical to work with a legal professional who is up to date on the laws where you reside.
For more information, download our Asset protection: Basic principles and strategies for safeguarding your wealth investor education piece, or watch our Asset protection is a key part of planning video.