Someone facing personal bankruptcy may still have assets, such as a home, jewelry and a Roth IRA. In fact, these assets, including the Roth IRA, may be substantial. The bankruptcy process lets a debtor resolve debts while retaining certain assets. So what is the impact on your Roth IRA? Is it safe?

When the Roth IRA Is Yours

Federal bankruptcy rules, enacted in 2005, offer protection for contributions to and earnings in IRAs, including Roth IRAs, up to a set limit. Currently the limit is $1,283,025 for all such accounts (the limit is not applied per account). The dollar limit adjusts every three years; the next increase is scheduled for April 1, 2019. Because of low contribution limits to these accounts, it is highly unlikely that any person’s Roth IRA balance would exceed the dollar limit.

There is also protection for Roth IRAs that were created by converting Traditional IRAs or qualified retirement benefits:

  • Amounts from Traditional IRAs are covered under the dollar limit above.
  • Amounts from 401(k) or other qualified retirement plans are fully protected; there is no dollar limit. In essence, the amounts enjoy the same full protection that they had when they were in qualified retirement plans.

In situations where Roth IRAs exceed the dollar limit, a bankruptcy court judge is permitted to exercise discretion and extend protection in the interests of justice. However, in all situations, Roth IRAs may not be protected if the IRS has a tax lien against the debtor.

State bankruptcy laws. A debtor can opt to use state rather than federal bankruptcy rules. (There are differences in exemptions for assets and the handling of certain debts that affect which set of rules is preferable for a particular debtor.) The extent of protection for Roth IRAs varies from state to state. For example, there may be no protection for funds in a Roth IRA to the extent of arrears in child support or to satisfy a qualified domestic relations order (QDRO). And in some states there are limits on protection for contributions made to a Roth IRA within a set period before a bankruptcy filing.

When You’ve Inherited the Roth IRA

Federal bankruptcy law does not protect inherited IRAs. A U.S. Supreme Court case in 2014 said that an inherited IRA did not fit the meaning of “retirement funds” protected by bankruptcy; they are not sums set aside for retirement. The Court gave several reasons. Beneficiaries of a Roth IRA do not necessarily add any money. They must begin to take distributions regardless of their age (even though they may be years from retirement). And beneficiaries can withdraw some or all of it at any time without a penalty. It is assumed that the reasoning of the decision also applies to Roth IRAs.

However, while there may be no federal bankruptcy protection, there may be protection at the state level. A number of states, including Alaska, Arizona, Florida, Missouri, North Carolina, Ohio, South Carolina and Texas, offer their own bankruptcy protection for inherited IRAs.

Note: If the beneficiary is a spouse, he or she may secure federal protection. If the spouse rolls over the account to his or own Roth IRA, the funds likely will be treated the same as if the spouse had funded the account. While there have been no cases or rulings on whether this gives the same protection to a spouse as an owner enjoys, there is a good argument for it.

Get Expert Advice

Because the treatment of Roth IRAs for a debtor filing for bankruptcy can be complicated, it is advisable to seek the assistance of a bankruptcy attorney familiar with the particular issues in your case. They can advise on whether federal or state rules are preferable and what the likely treatment for Roth IRAs will be in your bankruptcy filing.

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