Because of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (Act), it’s become more
difficult for consumers to discharge certain debt obligations by filing for bankruptcy. While some provisions of
the Act restrict the debtor’s options in bankruptcy, the legislation does provide limited protection for assets in
certain savings arrangements, including Traditional and Roth IRAs, Simplified Employee Pension (SEP) plans,
and Savings Incentive Match Plan for Employees (SIMPLE) IRAs.
IRA Protection
Under the Act, Rollover, SEP, and SIMPLE IRAs are totally protected from creditors. The following are various
Traditional and Roth IRA assets may be exempted from a debtor’s bankruptcy estate up to a limit of
$1 million.
SEP and SIMPLE IRA plan assets are not subject to the $1 million limitation (unlimited asset protection).
Assets rolled into IRAs from employer-sponsored retirement plans, including SEP and SIMPLE IRAs, are
totally exempt from creditors.
Inherited IRAs Not Protected
Unlike the IRAs noted above, an IRA that is inherited by a beneficiary after the death of the owner is not
subject to the same protection. The following is an excerpt from Case No. 13-299, Clark v. Rameker, argued
March 24, 2014 – decided June 12, 2014.
In October 2010, Ms. Heffron-Clark and her husband, Brandon Clark, filed a Chapter 7 bankruptcy petition.
They identified an inherited IRA, by then worth roughly $300,000, as exempt from the bankruptcy estate.
Heffron-Clark argued that an inherited IRA is still technically a retirement fund because that’s the way it was
originally set up.
The Bankruptcy Court disagreed and concluded that an inherited IRA does not share the same characteristics
as a traditional IRA and disallowed the exemption.
The District Court reversed the decision, explaining that the exemption covers any account in which the funds
were originally accumulated for retirement purposes.
The Supreme Court took up the case, reversed the District Court’s decision, and resolved the split on the issue
among federal appeals courts.
Opinion of the Court
When an individual files for bankruptcy, he or she may exempt particular categories of assets from the
bankruptcy estate. One such category includes certain “retirement funds." The question presented is
whether funds contained in an inherited individual retirement account (IRA) qualify as “retirement funds"
within the meaning of this bankruptcy exemption. The Court determined that they do not.
When an individual debtor files a bankruptcy petition, his or her “legal or equitable interests in property"
become part of the bankruptcy estate. “To help the debtor obtain a fresh start," however, the Bankruptcy Code
allows debtors to exempt from the estate limited interests in certain kinds of property. The exemption at issue
in this case allows debtors to protect “retirement funds to the extent those funds are in a fund or account that
is exempt from taxation under Section 401, 403, 408, 408A, 414, 457, OR 501(a) of the Internal Revenue Code."
The enumerated sections of the Internal Revenue Code cover many types of accounts, three of which are
relevant here. The first two are traditional and Roth IRAs in which both types of accounts offer tax advantages
to encourage individuals to save for retirement. Legislation does provide limited protection under federal
bankruptcy laws to these accounts.
The third type of account relevant here is an inherited IRA. An inherited IRA is a traditional or Roth IRA that has
been inherited after its owner’s death. It can also be established by beneficiaries of participants in employer-
401K Rollover                                                                                    Third Quarter 2014
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3rd Quarter 2014
sponsored plans who have directly rolled the inherited plan assets
into an inherited IRA. If the heir is the owner’s spouse, as is often
the case, the spouse has a choice: He or she may “roll over" the
IRA funds or retirement plan assets into his or her own IRA, or he
or she may keep the assets in the form of an inherited IRA. When
anyone other than the owner’s spouse inherits, he or she may
not roll over the funds into his or her own IRA; the only option
is to maintain the assets as an inherited IRA and take Required
Minimum Distributions (RMDs) when due. Also, unlike an IRA
owner who is under the age of 59½ and who may be assessed a
10% penalty for taking premature distributions, an inherited IRA
beneficiary may receive additional withdrawals from the IRA at any
time, at any age, without penalty.
Relying on the “plain language of §522(b)(3)(C)," the court
concluded that an inherited IRA “does not contain anyone’s
‘retirement funds," because unlike with a traditional IRA, the funds
are not “segregated to meet the needs of, nor distributed on the
occasion of, any person’s retirement."
Note that this is just a brief summary of a long court battle, and
to review a complete transcript of the case, see
If an IRA owner wishes to take a distribution from an IRA before
reaching age 59 ½, a 10% premature withdrawal penalty on the
untaxed portion of that distribution is generally due. However,
several exceptions to the general rule exist, and one such
exception is found under IRC Sec. 72(t)(2)(A)(iv), or “Rule 72(t)."
This rule allows IRA owners to receive predetermined distributions
based on their life expectancy through a scheduled series of
periodic payments (not less frequently than annually) that continue
unaltered over a specified period of time.
These penalty-free withdrawals are also available to Qualified
Retirement Plan (QRP) participants after they separate from service.
Distribution Methods
There are three basic methods by which payments will be
considered to be substantially equal periodic payments:
The Required Minimum Distribution (RMD) Method – Using this
method, payments are determined by dividing the individual’s
IRA or QRP balance by his or her single life expectancy factor,
or a joint factor of the individual and the primary beneficiary.
The factor to be used is selected from the single life expectancy
table, the joint life and last survivor table, or the uniform lifetime
table. Once a table is selected, that same table must be used
to determine each subsequent year’s distribution. The account
balance that is used to determine payments must be determined
in a reasonable manner based on the facts and circumstances.
Fixed Amortization Method – Under this method, the payments
are determined by amortizing the IRA or QRP balance over the
single life expectancy of the individual, the joint life expectancy
of the individual and the designated beneficiary, or the life
expectancy found in the uniform lifetime table. Any interest rate
that is not more than 120% of the federal mid-term applicable
federal rate, determined on the date payments begin, may
be used.
Fixed Annuitization Method – The final method is to divide the
IRA or QRP balance by an annuity factor. The factor is determined
based on the present value of an annuity of $1 per year beginning
at the individual’s age attained in the first distribution year and
continuing for the life of the individual. This factor is determined
by using an interest rate of not more than 120% of the mid-term
applicable federal rate on the date payments begin.
Payment Period
Once payments begin, they must continue for the later of a period
of at least five years or until the day the IRA holder reaches age
59 ½. Note that no other additional distributions may be taken
from the IRA during this period of time.
Changes to Account Balance
Under all three methods, 72(t) payments are calculated with
respect to the account balance established prior to the first 72(t)
payment. This means that a modification to the 72(t) program will
occur if, after the starting date, there is:
Any addition to the current account balance other than gains or
Any nontaxable transfer of a portion of the account balance to
another retirement plan; or
A rollover by the taxpayer of a 72(t) payment received resulting
in such amount not being taxable.
Relief For Depreciating Accounts
Under Revenue Ruling 2002-62, if substantially equal periodic
payments can no longer be supported by depreciated account
balances, individuals are offered relief by:
Allowing a one-time switch to change the distribution method to
the RMD method.
Allowing that a complete depletion of the IRA assets will not be
treated as a “modification" of payments.
IRS Allows a One-Time Change
An individual who began distributions based on the amortization
or annuitization method will be allowed in any subsequent year
to switch to the RMD method for the year of the switch and for
all subsequent years. This is a one-time only switch, and any
subsequent change in method will be considered a modification of
payments (subject to penalty).
There are specific IRS guidelines that govern the “substantially
equal periodic payment" program, and once the program is
initiated by an individual, it cannot stop (or be modified) until the
conclusion of the required period. It is always recommended that
individuals who are considering this program seek the aid of a
competent tax advisor or attorney before making any decisions.
For detailed information, go to the irs.gov web site and type in
Substantially Equal Periodic Payments in the “SEARCH" block.
It is well known that at age 59½ an employee may take a
distribution from a retirement plan and not be subject to the 10%
penalty tax. Not so well known are the provisions of the penalty
exception at age 55.
If an ex-employee receives a distribution from a plan after
separation from service and separation occurs during or after the
year the employee attains age 55, the 10% penalty does not apply.
So a 54-year-old taking a distribution is not subject to the penalty if
she separated from service in the calendar year she turned 55. On
the other hand, a 55-year-old taking a distribution cannot escape
the 10% penalty if she separated from service at age 53.
The age 55 exception can be enjoyed by certain 54-year-olds but
not certain 55-year-olds. No wonder it is often misunderstood.
The SIMPLE IRA is a popular retirement plan for the small business
owner who has 100 or fewer employees who earn at least $5,000
or more per year. In a SIMPLE IRA plan, all eligible employees are
allowed to make pre-tax salary deferrals into an IRA account. In
addition, the employer must either match dollar-for-dollar (not
to exceed 3% of compensation) the deferral of participating
employees, or make a non-elective 2% contribution for each
eligible employee.
New Plans
October 1 is an important date for new SIMPLE plans, as there is a
requirement that all new plans be established by October 1 of the
year for which deferrals will be made. In addition, within a 60-day
period preceding a plan year, the employer must allow eligible
employees to make deferral elections (IRC Sec. 408(p)(5)(C)). The
60-day election period for new plans must begin by October 1 to
include 2014 deferrals.
There is one exception to the October 1 establishment deadline.
Newly established companies may open SIMPLE IRA plans as soon
as administratively feasible to accept contributions immediately.
In conclusion, October 1 is just a few months away, and employers
wishing to establish a SIMPLE IRA plan for 2014 should begin the
process now. Plans established after this date are effective
for 201 5.
In general, ERISA and the Internal Revenue Code do not allow a plan
par ticipant to assign or alienate his/her interest in a retirement plan
to another person. These “anti-assignment and alienation" rules
are meant to assure that benefits will be available to participants in
their retirement years. A limited exception to these rules is provided
through qualified domestic relations orders (QDROs).
Every retirement plan is required to establish written procedures
for determining whether domestic relations orders (DROs) are
qualified and for administering distributions under QDROs. The
plan administrator (generally the employer maintaining the
plan) is required to make the determination within a reasonable
period of time and to promptly notify the participant and each
alternate payee when a determination is made. For a fee, plan
administrators can get assistance from certain retirement plan
recordkeepers in drafting a customized QDRO, determining
whether a DRO is a QDRO, and communicating the order’s status
to all parties and, if qualified, its approval to the alternate payee.
A DRO is a judgment, decree, or order (including the approval of
a property settlement) that is made pursuant to state domestic
relations law (including community property law) and that relates
to the provision of child support, alimony payments, or marital
property rights for the benefit of a spouse, former spouse, child, or
other dependent of a participant.
A QDRO is a DRO which creates or recognizes the existence of
an “alternate payee’s" (a spouse, former spouse, child, or other
dependent of a participant) right to receive all or a portion of a
participant’s benefits under a retirement plan. If an alternate
payee is a minor or is legally incompetent, the QDRO can require
payment to someone with legal responsibility, such as a guardian.
QDROs must contain the following information:
The name and last known mailing address of the participant
and each alternate payee;
• The name of each plan to which the order applies;
The dollar amount or percentage (or the method of
determining the amount or percentage) of the benefit to be
paid to the alternate payee, and
The number of payments or time period to which the
order applies.
A QDRO may be included as part of a divorce decree or court-
approved property settlement, or issued as a separate order. A
QDRO can pertain to retirement benefits under more than one
plan of the same or different employers as long as each plan and
the assignment of benefit under each plan are clearly specified.
A QDRO cannot provide that benefits will be paid to an alternate
payee before the participant’s “earliest retirement age" unless the
plan permits payments at an earlier date.
An alternate payee will generally be considered a beneficiary
under the plan for purposes of ERISA, and therefore, upon
written request, be entitled to receive copies of a variety of plan
documents. When benefit payments to the alternate payee
begin, he/she will be treated as a “beneficiary receiving benefits
under the plan" and automatically receive the summary plan
description, summaries of material plan changes, and the plan’s
summary annual report.
According to the DOL, more than 46 million workers are
currently covered by employer-provided retirement plans. So
understanding QDROs can be important in separation, divorce,
and other domestic relations proceedings.
For more information on QDROs, see the Employee Benefits
Security Administration’s (EBSA) booklet online at
APRIL 30, 2016
All defined contribution plans must have their documents restated
no later than April 30, 2016, to incorporate the provisions from
the Pension Protection Act (PPA) of 2006 as well as several other
The information contained in this newsletter has been carefully compiled from sources believed to be reliable, but the accuracy of the information is not guaranteed.
This newsletter is distributed with the understanding that the publisher is not engaging in any legal or accounting type of work such as practicing law or CPA services.
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amendments that took effect between 2007 and 2011. It is an
IRS requirement that each defined contribution plan document
be updated and resubmitted for review and approval. (Defined
benefit plan documents must be updated as well but are on a
different cycle.) Plans that do not have their documents restated
by the deadline can be disqualified and/or face significant
financial penalties.
All qualified retirement plans are required to have a written
document. Documents are either a Pre-Approved Plan document
or an Individually Designed Plan (IDP) document. More than 80%
of all plans use a Pre-Approved plan document. Pre-Approved
plan documents are either considered prototype (PT) or volume
submitter (VS) plans. Both types of pre-approved documents must
be restated by April 30, 2016.
The less common Individually Designed Plan (IDP) is a document
that is drafted by an attorney for a specific employer and tailored
to meet the employer’s specific needs. IDPs are the most flexible
type of plan document and, as such, fall on a different cycle
that must be restated every five years, based on the employer’s
Taxpayer Identification Number.
The restatement for all documents must incorporate any new laws
from Congress as well as any guidance from the IRS through late
2010, including the following:
• The final Section 415 regulations
• The Heroes Earnings Assistance and Relief Act (HEART)
• The Worker, Retiree, and Employer Recovery Act (WRERA)
• The Katrina Emergency Tax Relief Act of 2005 (KETRA)
• The GULF Opportunity Zone Act of 2005 (GOZone)
The restatement will also need to incorporate any changes
made in the document between the last restatement date and
this restatement. Additionally, many plan sponsors find that
restatements are a great time to make plan design changes that
the plan trustees may have been contemplating.
After the plan document has been restated, it should be carefully
reviewed. The actual operation of the plan must match that of the
restated document; otherwise, it could jeopardize the qualified
status of the plan. Also, a new Summary Plan Description (SPD)
might need to be drafted to reflect the document changes in a
language the average participant can understand. If a new SPD is
created, it must to be distributed to all of the participants in the plan.
Every retirement plan must have its assets held in a trust, and
as such, a trustee (or trustees) must be appointed. Generally,
the duties of the trustee include having exclusive authority and
discretion over the management and control of plan assets unless
the plan document provides otherwise by, for example, delegating
control over investment decisions to an “investment manager." The
question is should the plan be “self-trusteed" by a key employee
or group of employees or have a corporate trustee. This decision
should depend on the circumstances and preferences of the
company and its retirement plan.
If your plan has an Individually Designed Plan (IDP) document,
a self-trustee might be the only option. IDP documents allow
for more flexibility in plan design, and many corporate trustees
will only serve for plans that adopt the corporate trustee’s own
prototype document. Similarly, a self-trusteed plan has more
flexibility when choosing investments and investment managers.
With a corporate trustee that is also responsible for investing plan
assets in its own investment platform, it is more difficult to change
trustees when desired.
A bank or trust company will charge a fee for its trustee ser vices,
usually ranging from $500 to $1,000 annually. At times, there is
no direct fee assessed by the corporate trustee, so that it appears
to be a free ser vice but is likely being charged indirectly or bundled
with recordkeeping services. Unless the company decides to
compensate key employees to serve as trustee, which is uncommon,
there would be no explicit expense to self-trustee the plan.
When a plan has 100 or more participants, regulations require that
the plan be audited by an independent firm. Corporate trustees
will provide certified trust statements that are necessary for such
audits, whereas this responsibility would fall on key employees if
the plan is self-trusteed.
Corporate trustees can eliminate potential conflicts of interest
that might exist if the business owner is also the plan’s trustee.
Furthermore, corporate trustees provide an extra layer of protection
between business owners and the plan assets by reducing
potential concerns that the plan assets won’t be used for the
exclusive benefit of plan participants and their beneficiaries.
However, this does not eliminate the fiduciary liability of the
employer, as the employer still has a responsibility and liability to
oversee the trustee.
Many larger employers, and a few smaller ones, prefer to hire
corporate trustees instead of worrying about issues for which they
have little or no expertise. It is also possible that the Third-Party
Administrator (TPA) will perform some of the services required of
trustees and the employer’s responsibilities as a trustee would
lessen. Regardless, if deciding to self-trustee or utilize a corporate
trustee, employers are encouraged to have all documents
pertaining to trustee services and all other plan-related issues
reviewed by legal counsel well versed in retirement plan law.