Creditors claims

Submitted by Bradley Bofford on Thu, 2017-05-18 15:18

I had a client ask about IRA’s when their mother passes.

Here’s the basic scenario:
Mother, NJ resident, single, 80 yrs old; health is failing
2 IRA’s for approx. $250k; beneficiary named directly to 5 kids equallys
1 IRA for approx. $400k; beneficiary named directly to an Irrevocable Trust created in 2013
No other assets to speak of in her name at this point.

The mother is a co-signer for $200k of student loans for one daughter,
Also has $200k mortgage loan for a home in Hawaii that another daughter owns/rents out but couldn’t secure the mortgage (so the Mom got it in her name).

The children are concerned that they will owe the $400k of student loans and mortgage before they receive their inheritance.

They called me to liquidate the IRA’s and get it out of her name. I explained she would be taxes in the highest bracket and net approx. $350k immediately.

My understanding is since the IRA’s have named beneficiaries we can do a stretch IRA directly with the kids, when she passes and these assets aren’t exposed to creditors.

Thanks, in advance, for your input!



Submitted by Alan - IRA critic on Thu, 2017-05-18 18:27

In June 2014, the US Supreme Court in the Clark v. Ramaker decision determined that inherited non spouse IRAs are not protected against creditors. There have been a handful of states that have passed statutes protecting inherited IRAs in those states, but the beneficiary may need to have lived in that state for 2 years in order to  file for the state exemption. For the mortgaged home, the home itself should be enough to cover default of the mortgage.

Submitted by Ben Meyer on Thu, 2017-05-18 19:46

  • If the mother is still competent, she could change her beneficiaries to remove the daughter who owes student loans and possibly the daughter who owns the house.  But then these daughters won’t share in the IRA.  She can also change the beneficiary of the $400k IRA to go directly to the daughters.  A legal review should be performed on the trust provisions to see if it offers creditor protection, which will involve knowing the various states involved, for the grantor, successor trustee(s), and beneficiaries, and could well be a complex question.
  • Since the mother resides in NJ, be sure to consider the NJ income tax implications.  In NJ all IRA contributions are after-tax, regardless of whether they are deductible for federal pusposes.  Therefore any IRA distributions to NJ persons will have a different NJ basis than for federal purposes, unless the complete IRA balance had been previously rolled over from a 401(k), with no actual IRA contributions.  If NJ basis is not taken into consideration the recipient of NJ IRA distributions will pay too much NJ income tax.  To properly file NJ tax returns it is necessary to know the history of all IRA contributions.  Since this data is likely to be difficult to find, now would be the right time to perform the research, during the lifetime of the mother.  This aspect of NJ tax of frequently overlooked, resulting in higher NJ tax.  
  • Since the mother currently has $650k of IRAs and is currently receiving RMDs, the extra NJ tax can be considerable.  For an owned IRA balance of $650k, the RMD for a person 80 years old would be around $34,750 this year.  Assuming that the IRA balances came from IRA contributions and not rollovers from a 401(k), the basis might be a considerable portion of the RMD.  If the basis included in the RMD is in the range of $10k, the added NJ tax would also be considerable, depending on the mother’s tax bracket, probably amounting to several hundred dollars per year.  Hopefully the mother is already taking this into consideration for her NJ tax.  This would also be a consideration for the future if any of the children reside in NJ.

 

Submitted by [email protected] on Fri, 2017-05-19 16:46

Alan, you said “In June 2014, the US Supreme Court in the Clark v. Ramaker decision determined that inherited non spouse IRAs are not protected against creditors.”  Does this mean not protected from the creditors of the inheritor/beneficary or the decedent?  Would the beneficiaries be held responsible for the debts of the decedent? in this case the student loans are in question and assuming the student defaults and so the mom who co-signed may be held accountable.  But, she’s now deceased.  Would the creditor in this case be able to go after the Beneficial IRAs for claim?

Submitted by Bruce Steiner on Fri, 2017-05-19 18:40

  • She should leave the share for the child with the debts in trust rather than outright.  That will protect her inheritance from her creditors.  It will also keep that child’s inheritance out of his/her estate for estate tax purposes (which may no longer be relevant), and will also protect it against his/her spouses, and Medicaid.
  • Our clients generally provide for their children in trust rather than outright for the above reasons, even if the child doesn’t already have a creditor issue.  However, in this case, each child’s share is relatively small.  She should consider whether, in light of the size of each child’s share, she wants to provide for the other children outright or in trust.
  • I practice in New Jersey (as well as New York and Florida), so feel free to ask any additional questions you may have.
  • Bruce Steiner

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