Can IRAs Be Taken in Bankruptcy?

IRAs are Individual Retirement Accounts. An IRA is a tax shelter, providing you with an easy way to defer income taxes on your retirement savings. IRAs also provide some measure of protection during a bankruptcy. Because these protections are limited, you should understand how a bankruptcy affects your retirement and solutions to protect yourself against these inherent limitations.

Types

There are many types of IRAs that are protected from bankruptcy. Traditional IRAs, Roth IRAs, SEP and SIMPLE IRAs are all protected from your creditors during a bankruptcy proceeding. Traditional and Roth IRAs are individual accounts separate from your employer while SEP and SIMPLE IRAs are employer-sponsored IRAs.

Significance

The significance of the protections afforded to IRAs is that your IRA is protected up to $1 million. This $1 million protection extends only to bankruptcy and exempts your IRA from creditors claims up to this amount. The protections are offered through the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005.

Benefit

The benefit of the protections offered to your IRA is that you won't have to rebuild your entire retirement savings if you file for bankruptcy. As long as the money stays in your retirement account, a creditor may not make a claim against your IRA. You may invest normally and continue making contributions to your account. You can even take distributions from your account, depending on the conditions of your bankruptcy. Additionally, some states provide protections in excess of the $1 million which protect the IRA in its entirety.

Disadvantage

The disadvantage to IRAs is that the protections are limited. Any dollar amount over $1 million is not protected by federal law. While some states offer additional protections above the federal limit, some states do not. You may also be forced to give your creditors any money that you withdraw from your IRA. Additionally, the IRA is not protected in the event that you owe money to the IRS. The IRS may seize up to 100 percent of your IRA to satisfy a tax debt.

Prevention

To provide additional protection over your IRA, consider investing in your employer's 401k plan, if possible. 401k plans do not provide protection from the IRS, but they are protected from all creditor claims with no maximum protection amount. 401k plans have stronger protections because they are protected under ERISA laws (Employee Retirement Income Security Act).

References

• "Practicing Financial Planning for Professionals (Practitioners' Edition), 10th Edition;" Sid Mittra, Anandi P. Sahu, Robert A Crane; 2007
• "Ernst & Young's Personal Financial Planning Guide, 5th Edition;" Martin Nissenbaum, Barbara J. Raasch, Charles L. Ratner; 2004
• IRS: Publication 590
• The Wall Street Journal: How to Protect 401(k)s and IRAs From Creditors