Regulatory Issues

Supreme Court Ruling Makes IRA Investments Off-Limits To Creditors in Bankruptcy

WASHINGTON, April 4, 2005 - The Supreme Court unanimously ruled that under federal bankruptcy law, Individual Retirement Accounts (IRAs) are protected from creditors in bankruptcy proceedings. This means that the savings for the estimated 45 million Americans who hold IRA accounts today, are safeguarded under law just as 401k plans, pensions, social security and other benefits tied to age, illness, disability or death.

The decision for the case Rousey v. Jacoway, 03-1407, written by Justice Clarence Thomas states that IRAs were a payment "on account of age" because account holders must pay a 10 percent penalty if they withdraw funds before they are 59 ½ years old. The lower courts, argued that because people can make early withdrawals from IRAs, it makes them more like savings accounts, which are not protected from creditors under bankruptcy law. Thomas noted, however, that IRA withdrawals by those younger than 60 are few, effectively making the account a benefit based on age. "That penalty erects a substantial barrier to early withdrawal" Thomas wrote "The deterrent to early withdrawal it creates suggests that Congress designed it to preclude early access to IRAs." This ruling comes at a time when there are an estimated 1.6 bankruptcy filings per year compared to 875,000 a decade ago, when these laws were not in effect.

This new ruling affects people living in Washington, D.C. and 16 other states including: Alaska, Arkansas, Connecticut, Hawaii, Michigan, Minnesota, New Hampshire, New Jersey, New Mexico, Pennsylvania, Rhode Island, South Dakota, Texas, Vermont, Washington, and Wisconsin. These 16 states do not have their own laws protecting retirement savings. The remaining 34 states including: New York, California and Iowa have language that mirrors the federal bankruptcy statute. The new decision on April 4th overturned a 2003 ruling by the US Court of Appeals for the Eighth Circuit in St. Louis, Missouri.

For further information on this decision or to read the full text of the statute go to www.aarp.org or www.supremecourtus.gov.