The United States Congress created retirement savings and pension funds with the intent of preserving and encouraging savings. Given the generally low savings rate in this country, funds held in qualified retirement plans are often a person's largest and perhaps only source of retirement savings. But, just how safe are these funds from the reach of creditors?
As part of its creation of retirement plans, Congress established certain exemptions to benefit individuals who wished to protect their retirement assets from creditors seeking collection in bankruptcy. Under the Employee Retirement Income Security Act ("ERISA"), there is a restriction on the transfer of a person's pension money on the basis that benefits deposited in such an account cannot be assigned or sold. As a result, assets deposited within a qualified ERISA account may not be reached by creditors in bankruptcy. This consequence is the same regardless of the status of the person when filing his or her petition in bankruptcy.
Unfortunately, however, Individual Retirement Accounts or IRAs have no federal exemption from creditors in a bankruptcy under ERISA. Individual Retirement Account exemptions depend entirely on state exemption schemes. Maryland has adopted specific exceptions which apply to all people who file for bankruptcy in this State. The Maryland Annotated Code, Courts and Judicial Proceedings Article, Section 11-504(h), sets out each exemption one may be entitled to use in bankruptcy proceeding in Maryland in regard to retirement plans. It states in part, that in addition to any other exemption one is entitled to take under Maryland law, any money or other assets payable to a participant or beneficiary from an IRA under Sections 401(a), 403(a), 403(b), 408, 414(d) or 414(e) of the Internal Revenue Code of 1986, as amended, shall be exempt from any and all claims of creditors.
Section 11-505(h) was tested in the case of Neil Solomon, M.D. v. Ellen w. Cosby, 67 F.3d 1128 (4th Cir., 1995). In Solomon, the United States Court of Appeals for the 4th Circuit established that a debtor's assets in a bankruptcy proceeding are exempt, under certain conditions, as long as the plan falls within one of the statutes cited within that Section's parameters.
On the other hand, if the debtor is currently receiving benefits or distributions from a retirement account or has reached the mandatory distribution age of 70 =, a different outcome may result. In such a case, funds being held in an Individual Retirement Account, which are currently being distributed to the debtor, may constitute "income" and, as such, be considered as part of one's disposable income for bankruptcy purposes. If this is the case, at least in Chapter 13 bankruptcy, as opposed to a Chapter 7 (complete liquidation) bankruptcy, such funds must be used to pay creditors all or a portion of the assets.
In order to protect your retirement account from creditors in bankruptcy, it is suggested that you make sure that it qualifies either under the Federal or Maryland State scheme of exemptions. If it does not quality, the nest egg that you worked to establish throughout your working career may well be subject to availability of creditors in bankruptcy. Given this concern when contemplating bankruptcy you should be aware of how your retirement plan assets will be treated and which exemption scheme affords the best protection to you.