Memorandum Decision and Order on Trustee’s Objection to Debtors’ Claim of Exemptions
This case involves an issue of apparent first impression in Wisconsin: whether an *910 inherited individual retirement account may be claimed exempt under Wis. Stat. § 815.18(3)0)- The facts behind this interesting legal issue are undisputed. Ruth Kirchen established an individual retirement account (IRA) on August 22, 1996, designating her son, Thomas Kirchen, as the sole primary beneficiary. Pursuant to the IRA agreement, upon Ruth Kirchen’s death, the remaining funds in the account would be distributed to her beneficiary at an annual rate based upon his life expectancy.
Thomas Kirchen (hereinafter, the “Debt- or”) and his wife filed a joint chapter 7 petition on June 24, 2004. Ruth Kirchen died at age 73 in September 2004, and as a result, the Debtor inherited cash, accounts and insurance proceeds. As the sole primary beneficiary of his mother’s IRA, the Debtor also succeeded to an interest in the funds remaining in the IRA, which totaled $283,892.90. Pursuant to Bankruptcy Code § 541(a)(5), which gathers into the bankruptcy estate property inherited within 180 days after the bankruptcy petition, the Debtor disclosed the inheritance to the chapter 7 trustee. The Trustee has taken possession of the non-IRA assets, but the Debtors have amended their exemptions and claimed the IRA interest exempt under Wis. Stat. § 815.18(3)(j). The Trustee timely filed an Objection to the Debtor’s exemption of the IRA.
A hearing was held on the Trustee’s Objection, and both parties submitted briefs in support of their argument. Citing cases from other jurisdictions with similar statutes, the Trustee asserts that the Debtor’s interest in the IRA is not exempt because the asset is no longer an IRA. The Debtor counters that Wisconsin’s retirement account exemption provision is sufficiently broad to include the type of beneficiary interest the Debtor has in his mother’s IRA. The Debtor urges a plain reading of the statute and cites Wisconsin cases that support a debtor-friendly application of exemption laws. After considering the provisions of the IRA Agreement and the well-argued positions of the parties, this Memorandum Decision constitutes the Court’s findings of fact and conclusions of law pursuant to Bankruptcy Rule 7052.
The Trustee cites several cases from other jurisdictions illustrating a trend against allowing debtors to exempt IRAs that are not funded by the debtor.
E.g., In re Sims,
The Debtor has invoked Wis. Stat. § 815.18(3)©, which provides in pertinent part:
(3) EXEMPT PROPERTY. The debt- or’s interest in or right to receive the following property is exempt ...
© Retirement benefits. 1. Assets held or amounts payable under any retirement, pension, disability, death benefit, stock bonus, profit sharing plan, annuity, individual retirement account, individual retirement annuity, Keogh, 401-K or similar plan or contract providing benefits by reason of age, illness, disability, death or length of service and payments made to the debtor therefrom.
2. The plan or contract must meet one of the following requirements: 1
a. The plan or contract complies with the provisions of the internal revenue code ....
To succeed under § 815.18(3)©, the Debt- or must have (1) an interest in some type of retirement account; (2) providing benefits by reason of age, illness, disability, death or length of service; that (3) complies with the provisions of the Internal Revenue Code. The Debtor argues that the statute is broad enough to cover his inherited IRA, and he supports his argument with a trio of decisions from the Bankruptcy Court for the Western District of Wisconsin.
First, the Debtor relies on
In re Staniforth,
Whether a debtor’s right to payment from an IRA is “on account of age” was answered last year by the Supreme Court.
Rousey v. Jacoway,
The statutes governing IRAs persuade us that the Rouseys’ right to payment from IRAs is causally connected to their age. Their right to receive payment of the entire balance is not in dispute. Because their accounts qualify as IRAs *912 under 26 U.S.C. § 408(a), the Rouseys have a nonforfeitable right to the balance held in those accounts, § 408(a)(4). That right is restricted by a 10 percent tax penalty that applies to withdrawals from IRAs made before the accountholder turns Wk. Contrary to Jacoway’s contention, this tax penalty is substantial. The deterrent to early withdrawal it creates suggests that Congress designed it to preclude early access to IRAs. The low rates of early withdrawals are consistent with the notion that this penalty substantially deters early withdrawals from such accounts. Because the 10 percent penalty applies proportionally to any amounts withdrawn, it prevents access to the 10 percent that the Rouseys would forfeit should they withdraw early, and thus it effectively prevents access to the entire balance in their IRAs. It therefore limits the Rouseys’ right to “payment” of the balance of their IRAs. And because this condition is removed when the account-holder turns age 59/£, the Rouseys’ right to the balance of their IRAs is a right to payment “on account of’ age.
In Rousey, the Court focused on the condition that the debtors reach the age of 59lk before they could receive distributions from their IRAs without penalty. Here, the Debtor is required to begin receiving distributions beginning with the calendar year following the date of his mother’s death. 2 The contrast between being penalized for receiving distributions until reaching a certain age and being required to begin taking distributions without regard to age means that the right to payments under an inherited IRA are not on account of age.
Since the Debtor’s inherited IRA is providing immediate required distributions unrelated to the Debtor’s age, and since none of the other factors (illness, disability, length of service) apply, the IRA does not qualify for the Wisconsin exemption. For the same reason, the inherited IRA does not “comply with the provisions of the internal revenue code” as required by § 815.18(j). To show that the inherited IRA complies, the Debtor cites
In re Farmer,
In that regard, the Debtor’s citation to
In re Bruski,
The Debtor points out that the funds in the Debtor’s inherited IRA grow tax deferred as did the funds in Bruski’s annuity. However, compliance with the Internal Revenue Code means more than simply allowing a taxpayer to delay the payment of taxes on investment income until a distribution is taken. Compliance with the Internal Revenue Code in the context of § 815.18(j) entitled “Retirement Benefits” requires compliance in the context of retirement. To determine whether an IRA complies with the Internal Revenue Code in this context, one must consult the Internal Revenue Code, specifically 26 U.S.C. § 408. Section 408(a) defines IRA, and provides several requirements for IRAs to qualify for special tax treatment. If an account does not satisfy each of these requirements, it will not qualify or comply with the Internal Revenue Code. Even if the account does satisfy all of the requirements, § 408(d)(3)(C) provides an exception for “inherited IRAs” that are not inherited by a surviving spouse. Entitled “Denial of rollover treatment for inherited accounts, etc.” this provision changes the tax treatment for inherited IRAs and prevents rollover treatment of the funds:
(C) Denial of rollover treatment for inherited accounts, etc.
(I) In general. In the ease of an inherited individual retirement account or individual retirement annuity—
(I) this paragraph shall not apply to any amount received by an individual from such an account or annuity (and no amount transferred from such account or annuity to another individual retirement account or annuity shall be excluded from gross income by reason of such transfer), and
(II) such inherited account or annuity shall not be treated as an individual retirement account or annuity for purposes of determining whether any other amount is a rollover contribution.
26 U.S.C. § 408(d)(3)(C). This Tax Code provision is explained in Sims,
Once classified as an “inherited individual retirement account,” the Internal Revenue Code places an entirely different set of rules upon the use, distribution and taxation of the funds in the individual retirement account. Once the account has been “inherited,” the beneficiary may make no contributions to the account, nor may he or she “roll over” the inherited individual retirement account into another retirement plan. He *914 or she is required to take distributions from the account over a relatively limited period of time, in most cases five years. Upon receipt, those distributions are fully taxable.
The
Taylor
court denied an exemption in an inherited IRA for the very same reason.
See Taylor,
After a detailed dissection of Alabama’s exemption statute, the
Navarre
court reached an identical result. There, a debt- or attempted to claim an exemption in his beneficial interest in an IRA inherited from his mother.
Navarre,
The question becomes whether an inherited IRA is equivalent to an IRA for purposes of determining whether it is exempt from the bankrupt estate. Examination of the Internal Revenue Code would suggest that it is not because the tax code treats an inherited interest different than an IRA. See, 26 U.S.C. § 408(d)(3)(C) (which distinguishes “inherited individual retirement accounts” from “individual retirement accounts.”) For this reason, an “inherited individual retirement account” does not fit within the definitional scope of § 19-3-1 and therefore, it is not exempt from the bankrupt estate.
Id.
Here, upon the death of the Debt- or’s mother, the nature of the IRA changed. What was previously maintained to provide tax-deferred income during the mother’s retirement years had transformed into a source of immediately payable income to the Debtor, regardless of his age or retirement status. The IRA Account Agreement and applicable law require the Debtor to receive certain minimum distributions, even though the Debt- or has not reached retirement age. As a result of this change, the Tax Code no longer afforded the account preferential tax treatment. Absent tax-deferred treatment connected to age or retirement, the inherited IRA is not a “Retirement Benefit” that “complies” with the Internal Revenue Code as required by Wis. Stat. § 815.18(3)0). Since the funds in the account are not payable on account of the Debtor’s age, and the inherited IRA fails to comply with the Internal Revenue Code provisions for retirement accounts, the Debtor’s inherited IRA is not exempt under Wisconsin law.
For these reasons,
IT IS ORDERED: that the Trustee’s Objection to Debtors’ Claim of Exemptions is sustained, and the Debtor may not claim his interest in the inherited IRA exempt under Wis. Stat. § 815.18(3)0).
Notes
. The other requirement in Wis. Stat. § 815.18(3)(j)(2) is not relevant to this discussion because the IRA was not employer-created.
. According to Section 6.5(a) of the Edward Jones Self-Directed Traditional IRA Custodial Agreement, if the account owner dies after age 7016, and the beneficiary is not die spouse of the account owner, the remaining balance of the IRA "will be distributed at least as rapidly" as annual distributions based on the beneficiary’s life expectancy calculated pursuant to IRS tables.
. Sims ' reference to a five-year limit on distributions is apparently to IRAs in which the account owner dies prior to her required beginning distribution date.