Qualified Plans - Asset protection: ARTICLE

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IRAs and Qualified Plans Offer Limited Asset Protection
by Shane Flait (2009)

You can lose your assets to creditors (whom you’ve borrowed from), to claims under divorce or paternity suits, to trumped-up claims against your deep pockets, or to government for taxes owed.

What you have in your IRA or other qualified plan has some asset protection. But federal and state laws together determine when and how much protection those assets actually have – and from whom. That’s what this article addresses.  
 

Qualified plans protected

The Bankruptcy Abuse Protection and Consumer Protection Act of 2005 (BABCPA) established the protection limits for various qualified plans:

  • SEP (Simplified Employee Pension) IRAs, SIMPLE (Savings Incentive Match Plan for Employees of Small Employers) IRAs, and all defined-benefit and defined-contribution employer retirement plans have unlimited creditor protection in bankruptcy. This includes 403(b), 457, and governmental or church plans under code section 414
  • Distributions from all defined-benefit and defined-contribution employer retirement plans retain creditor protection if they are rolled over to an IRA
  • Traditional and Roth IRAs not created from rollovers from qualified plans are subject to creditors but only to the extent that these accounts exceed $1 million,
  • Employer retirement plan protection (including SEP and SIMPLE IRAs, and non-ERISA retirement plans such as individual 401(k)s) now receive unlimited creditor protection during bankruptcy, regardless of ERISA.

Keep good records on all your rollovers from qualified plans and roll them into separate IRA accounts to maintain their unlimited protection.  

Note also that a qualified plan is not considered an ERISA plan if it covers only the business owner (owner-only plans). Check your state law for how these plans are protected. 

Federal protection when and from whom

Unfortunately, this protection comes into play under bankruptcy – a federal process. The protection is from typical creditors (i.e. those from whom you borrowed money).

It doesn’t include protection from qualified domestic relations orders (where assets can be awarded to your former spouse or other alternate payee). Nor does it protect you from tax levies from the IRS.

Where your state law plays its part

For all those legal actions not involving bankruptcy, your state law will determine how much protection your qualified plan assets have. So check what your state offers you for your plan.

 Two areas where state laws vary on protection are:

  1. plan withdrawals,
  2. inherited plans to beneficiary

Most states will exempt all qualified plan assets - but only while they’re in the retirement account. Some other states limit how much is exempt from creditor actions. This amount may be fixed – possibly at $500,000 – or only limited to what is ‘reasonably necessary’ to support the owner and his or her dependents if a claim is lodged against those assets.

Unfortunately, ‘reasonably necessary’ is vague. It can depend on your age, other holdings you have, and your obligations. It’s up to a court and depends upon the claim made against you. Vague terminology such a ‘reasonably necessary’ always invites lawsuits.

Because IRAs are vulnerable under state laws, you may be worse off rolling your company sponsored plan into your own IRA for better control of your retirement investments. Your state may offer much less IRA protection against creditors than it would your company plan.

Again, your state may not protect your plan assets inherited by your beneficiary from his creditors after you die. Check with your state. You may want to set up a trust as beneficiary of your retirement account for better protection. Of course it can benefit those people you designate in the trust document as beneficiaries.

 

Remember that the bottom line in protecting assets successfully is recognizing who you’re protecting them from and then positioning those assets accordingly – a task easier said than done!

 

Shane Flait is a writer and educator. See more at www.EasyRetirementKnowHow.com