Court shields IRAs from bankruptcy seizure

WASHINGTON — The Supreme Court ruled yesterday that people who are bankrupt can keep the money they have saved in their Individual Retirement Accounts.

The unanimous decision throws a financial lifeline to the growing number of older Americans who are overwhelmed by debt after losing a job or getting hit by extraordinary costs for health care.

Last year, about 1.56 million people filed for personal bankruptcy, compared with 875,000 a decade earlier. In 2003, bankruptcy filings hit 1.63 million.

When people file for bankruptcy, their creditors are entitled to seize their assets in order to collect on their debts. This includes money held in a savings account.

But certain assets, such as the debtor's house and car, typically are shielded from seizure under bankruptcy laws. The federal statute also shields the bankrupt person's pension and similar plans that provide money "on account of age."

For the Supreme Court, the question was whether an IRA is more like a pension or a savings account.

The justices decided the IRA was more akin to a pension because account holders can withdraw the money penalty-free only if they are at least 59 ½ years old. Moreover, an IRA, like a pension, "provides income that substitutes for wage," said Justice Clarence Thomas, writing for the court.

The ruling affects 15 states, including Washington, that do not have their own laws protecting IRAs.

The case involves Richard and Betty Jo Rousey of Berryville, Ark., who accumulated $55,000 in company-sponsored pension and 401(k) plans at Northrop Grumman Corp. before he took early retirement in 1998. When Betty Jo Rousey was laid off a month later, they were obliged to roll the funds over to IRAs.

The Rouseys have been unable to hold down new jobs, partly because of his chronic back pain, according to their lawyers. Richard, 60, and Betty Jo, 57, now live on $2,000 a month.

Once they filed for bankruptcy, Jill Jacoway, the trustee for their creditors, moved to seize the money in their IRAs; a bankruptcy judge and the U.S. court of appeals in St. Louis agreed the money must go to their creditors.

But the Supreme Court ruled Congress intended to shield IRAs from seizure during bankruptcy.

"Today's decision is important because it provides assurance that a family's financial bumps in the road will not keep them from having modest additional means — beyond Social Security — to help them cope with the many financial pressures of aging," said Patricia Kaeding, a lawyer in Madison, Wis., who filed a friend-of-the court brief on behalf of AARP and in support of the Rouseys.

Yesterday's ruling is consistent with the terms of a bankruptcy-revision bill in Congress that is near final approval.

The legislation has drawn attention because it will make it harder for bankrupt people with incomes above the median wage in their state to escape their debts. One provision in the bill shields from seizure "retirements funds ... that are exempt from taxation," such as an IRA.

Current federal law says debtors may shield their pensions and retirement funds from creditors only to the extent that the money is "reasonably necessary for the support of the debtor" and dependents.

The pending bill drops this provision and says simply that retirement funds are shielded from being seized when a debtor files for bankruptcy. The bill has already passed the Senate; the House is expected to give its final approval this week.