Lawsuits exact a toll on the American economy. The Association of Trial Lawyers gives the annual economic cost of lawsuits to the U.S. economy as $233 billion. Lawsuits arise from outstanding debts, auto accidents and household accidents. If you do not have sufficient insurance to protect your assets, your assets may be subject to garnishment in a lawsuit. Retirement assets governed by the Employee Retirement Income Security Act, known as ERISA, protects assets in an employer-sponsored account from garnishment but IRAs are not covered by ERISA.
IRAs are governed by state laws except in bankruptcy. Therefore, the level of asset protection from creditors provided is state dependent. Most states provide rollover IRAs that were rolled over from ERISA-covered qualified retirement plans with similar protection as the 401(k)s, 403(b)s and 457(b)s from which they originated. This generally results in complete shielding of rollover IRA assets from all creditors except ex-spouses and the IRS. This protection level typically exists as long as those assets were never commingled with regular IRA funds.
State Laws Govern IRAs
For regular IRAs, varying state laws range from very little protection from creditors to complete shielding from all creditor claims. State laws also vary based on whether the IRA is an individual-originated traditional IRA or a Roth IRA, a company-originated SEP (Simplified Employee Plan) IRA or SIMPLE (Savings Incentive Match Plan for Employees) IRA. Some states do factor in IRAs in the assessment of your overall net worth, then consider what is owed and what is available in making the final determination. Therefore, in some states your IRA could be garnished.
Some states delineate protection limits. For example, Nevada exempts a maximum of $500,000 from attachment by creditors. Others have the courts examine a number of factors to determine whether or not any, a portion or all of the IRA should be exempted. Check the law in your state directly or contact a debt counseling agency or debt or bankruptcy attorney to determine what protection limits exist in your state for the IRA account you own.
If you have minimal net worth except for a sizable IRA and you live in a state that allowed a judge to garnish your IRA, you have the option of filing for bankruptcy. The federal Bankruptcy Abuse Prevention and Consumer Protection Act, known as BAPCPA, clarified and strengthened the laws governing IRAs and the level of protection from creditors in bankruptcy. Under this law bankruptcy would protect any and all IRA assets from creditors up to a limit of $1 million.
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