The legal question that is posed is whether or not an inherited IRA is exempt in bankruptcy. For instance, your father died two years ago. You inherited his IRA of $250,000. You owe $100,000 of credit card debt which you can no longer pay. You file for Chapter 7 bankruptcy relief to discharge your credit card debt. You declare in your bankruptcy petition that you inherited your father’s IRA of $250,000. You claim the entire amount of $250,000 as exempt asset as a retirement account because retirement accounts are exempt up to $1.0 million under current bankruptcy law. The Chapter 7 trustee objects to your claim of objection arguing that inherited IRA’s are not exempt; Trustee wants to access the $250,000 to pay off your credit card debt of $100,000. You argue that the $250,000 is exempt even though it is inherited because it is an IRA. Who do you think is correct?

There is a split among lower courts which have issued diverging rulings on this issue. Both the 5th and the 8th Circuit court of appeals found that bankruptcy laws specify exemptions for “retirement funds” but do not require those funds to belong to the debtor. If you lived in Texas, you would be under the jurisdiction of the 5th circuit, whereas if you lived in Nebraska, you would be under the jurisdiction of the 8th circuit. If you live in California, you would be under the jurisdiction of the 9th circuit. Because there are differing opinions among the different courts of appeal across the country, the United States Supreme court is needed to make a final ruling on this matter.

There is one case coming from the 7th circuit that is now on appeal with the U.S. Supreme court to resolve the issue once and for all. In re Clark, debtor is a small town pizza shop owner. Mr. & Mrs. Clark declared bankruptcy in 2010 when the pizza shop that they operated in their home town of Soughton, Wisconsin closed due to the recession. “Like a lot of smaller entrepreneurs, over four or five years they weren’t able to make a go of it, and the bankruptcy was driven by that closure,” said their bankruptcy lawyer.