In re Smith
MEMORANDUM OF DECISION
Introduction
Debtors Elvin Warren Smith and Linda Loreen Smith filed a chapter 7
On November 2, 2016, chapter 7 trustee Noah Hillen (“Trustee”) filed an objection to Debtors’ claim of exemption as to the IRA funds (“the objection”). Trustee’s Obj.
Having considered the evidence and the parties’ arguments, as well as the applicable law, this Memorandum sets forth the Court’s findings, conclusions and reasons for its disposition of the objection. Rules 7052; 9014.
Facts
A. Closing the Provident IRA and the Life Partners’ Bankruptcy
At the hearing, Elvin Smith (“Smith”) testified that, sometime prior to 2014, he deposited approximately $419,000 into an IRA (“the Provident IRA”) managed by Provident Trust Group (“Provident”). The funds in the Provident IRA were invested in several life insurance policies sold by Life Partners, Inc. (“Life Partners”). Smith testified that, at the end of 2013, he decided to close the Provident IRA because he no longer wanted to pay the annual fees for Provident to manage the account. See also Ex. 101. On November 25, 2013, Smith opened a U.S. Bank IRA account, which did not require an annual fee, so that he could deposit any funds he eventually received from his investments in Life Partners policies. See Ex. 100.
To close the Provident IRA, Smith testified he sent a letter in which he informed Provident that he had established the U.S. Bank IRA, and that he no longer wanted Provident to monitor his account. That letter is not in included in the evidentiary record.
On January 31, 2014, Provident sent a letter to Srqith regarding “Change of Ownership, Account #2512-Elvin W Smith.” Ex. 202. The letter recites that “[w]e received your directive to close the above referenced account”, and after requesting a $250.00 account closing fee, provides, “[w]e have prepared a Change of Ownership form to re-register your assets from Provident Trust Group to you individually.” Id.
In a response letter dated February 8, 2014, Smith informed Provident that he canceled thp account because he could no longer pay the yearly maintenance fee, and that he had set up the U.S. Bank IRA. Ex. 101. He closed the letter by stating, “I am at this time not able to pay your closing fee as all you have to do is close the account.” The letter makes no reference to the “Change of Ownership” mentioned in the January 31 Provident letter. Apparently, there was no further correspondence between Srpdth and Provident concerning the closing of his account.
On May 9, 2014, Purchase Escrow Services, LLC, an escrow agent for Life Partners, sent Smith a letter indicating it had been able to resell one of his insurance policies and would be distributing approximately $2,800.
Sometime prior to August 2014, Life Partners filed for bankruptcy. The Life Partners schedules indicated “Elvin Smith” was an unsecured creditor with a
B.Tax Issues in 2016
In a letter dated April 16, 2016, Smith wrote to Provident regarding “2014 Form 1099-R.” Ex. 103. Apparently, Provident had issued an IRS Form 1099-R in 2014 after closing Smith’s account. Ex. 211. However Smith testified he did not see the 1099-R until 2016, when the IRS had contacted him requesting that he file a 2014 federal tax return. See also Ex. 103. Smith testified that neither he nor his wife had been employed or filed income tax returns for the years 2014-2016. In the April 16 letter, Smith explained that he did not receive a distribution in 2014; he requested that Provident correct the 1099-R form. Ex. 103. Apparently, Provident responded to this letter on April 27, 2016, but that letter is not on the record. See Ex. 203 (“as stated in our letter dated April 27, 2016”).
In a letter dated July 4, 2016, Smith again wrote Provident asking that it either send him the amount shown in the 1099-R as a distribution, or that it send a corrected form to the IRS. Ex. 104. Provident responded in a letter dated July 16, 2016. Ex. 203. In it, Provident stated that the “1099-R was issued for [the closing of the IRA account] as the asset was distributed in-kind from your IRA to you personally.”
During this time, Smith had also been communicating with the IRS. In a letter dated July 4, 2016, Smith explained to the IRS that he was trying to resolve the issue with Provident. Ex. 105. After receiving Provident’s July 15 letter to him, Smith sent it to the IRS with a letter dated July 15, 2015, writing “[Provident’s reply] shows that there was no money sent to me. Therefore, there was no income to be reported and no taxes to be paid.” The IRS responded in a letter dated August 15, 2016, stating “[b]ased on your information we are taking no further action at this time, but may need to contact you again if other tax issues arise.” Smith has had no further communications with IRS about the 2014 transactions with Provident.
C. Smith’s Sale of the Claim in Life Partners’ Bankruptcy Case
In a letter to Smith dated June 6, 2016, an entity known as ASM Capital (“ASM”) expressed interest in purchasing Smith’s claim in the Life Partners bankruptcy ease for $60,655.62. Ex. 205. Smith accepted ASM’s offer in a letter dated June 6, 2016, and attached a signed copy of a claim purchase agreement that had been included with ASM’s original letter to him. Exs. 206, 207. The purchase agreement indicates “Elvin Smith” was the seller of the claim; it was signed by “Elvin Smith.” Ex. 207 at 1, 3.
On June 14, 2016, ASM filed a “Transfer of Claim” form in the Life Partners bankruptcy case that listed “Elvin Smith” as the transferor. Ex. 201. On July 5, 2016, the clerk of the bankruptcy court sent a notice to “Elvin Smith” indicating that the claim he originally filed had been transferred. Ex. 208. Sometime prior to June 27, 2016, ASM sent Smith the funds for the purchase of his claim. Smith deposited those funds in his U.S. Bank IRA account on June 27, 2016. Ex. 209.
D. Debtors’ Bankruptcy
Two days later, on July 29, 2016, Debtors filed their chapter 7 petition. Dkt. No.
Analysis and Disposition
Trustee argues that the funds in Debtors’ U.S. Bank IRA are not exempt because at the time they were deposited in 2016, Debtors were not eligible to make an IRA contribution because they had no earned income. Tr.’s Suppl. Mem. at 6-8. In addition, Trustee argues that the funds were not a proper “rollover” IRA contribution for a number of reasons. Tr.’s Reply at 5-6, Dkt. No. 50; Obj. at 6, Dkt, No. 26.
Debtors urge the Court to look to the substance, not the form, of the transactions in this case. They contend that Provident is to blame for any defects in what would 'otherwise be a proper rollover contribution because Provident changed the Life Partners investments in the Provident IRA to Smith’s individual name without his aúthorization. Resp. to Tr.’s Obj. at 3, Dkt. No. 33; Resp. to Tr.’s Suppl. Mem. at 1-6, Dkt. No. 49. They argue that, to deny their claim of exemption in the U.S. Bank IRA funds would, in this case, be a “manifest injustice” because Debtors had already lost the bulk of their retirement investment through the fraud of Life Partners,
After a brief overview of the relevant bankruptcy exemption laws, the Court will address each of these arguments in turn.
A. Bankruptcy Exemptions in Idaho
This Court has previously explained:
As is well-understood, when a bankruptcy petition is filed, a bankruptcy estate is automatically created, into which flows all legal and equitable interests which Debtors have in property, as of the commencement of the case. § 541(a). The Code permits Debtors to shield certain property from administration by Trustee, through the use of exemptions. § 522(b)(1). While the Code contains a list of property which may be claimed as exempt, it also allows states to opt out of the federal exemption scheme in favor of its own. § 522(b)(3). Idaho has chosen to opt out, and thus debtors in this state may claim only those exemptions allowable under Idaho law, as well as those listed in § 522(b)(3).Idaho Code § 11-609 ;11 U.S.C. § 522(b)(3) .
In re Hall,
Exemption statutes are liberally construed in favor of the debtor in Idaho. In re Thomas, 477 B.R. 778, 782 (Bankr. D. Idaho 2012); In re Hall,
B. IRA Exemptions in Idaho
Here, Debtors claim the funds in the U.S. Bank IRA are exempt under
The right of a person to a pension, annuity, or retirement allowance or disability allowance, or death benefits, or any optional benefit, or any other right accrued or accruing to any citizen of the state of Idaho under any employee benefit plan, and any fund created by the benefit plan or arrangement, shall be exempt from execution, attachment, garnishment, seizure, or other levy by or under any legal process whatever ....
C. IRC
IRC
the term “individual retirement account” means a trust created or organized in the United States for the exclusive benefit of an individual or his beneficiaries, b.ut only if the written governing instrument creating the trust.meets the following requirements:
(1) Except in the case of a rollover contribution described in subsection (d)(3) ... no contribution will be accepted unless it is in cash, and contributions will not be accepted for the taxable year on behalf of any individual in excess of the amount in effect for such taxable year under [IRC § ] 219(b)(1)(A) ....
Given these statutory requirements, the issue before the Court is whether, in 2016, the funds Debtors received from ASM were eligible for deposit in their U.S. Bank IRA under the provisions of IRC
D. Debtors’ Right to Make IRA Contributions in 2016
Trustee first argues that Debtors’ 2016 deposit of funds into the U.S. Bank IRA did not qualify under IRC
The funds in the U.S. Bank IRA were deposited prior to the filing of Debtors’ bankruptcy petition. If they were qualified contributions under
Maximum amount of deduction.—
(1) In general.-The amount allowable as a deduction under subsection (a)5 to any individual for any taxable year shall riot exceed the lesser of—
(A) the deductible amount, or
(B) an amount equal to the compensation includible in the individual’s gross income for such taxable year.
For purposes of paragraph (b)(1)(A), “deductible amount” is generally $5,000.
However, recall, the “maximum amount of deduction” under IRC
Simply put, Debtors were not entitled to make qualified IRA contributions in 2016.
E. Rollover Contributions
Even if Debtors were not eligible to make contributions to an IRA in 2016 because they had no earned income, the amounts they deposited in the U.S. Bank IRA would still receive favorable treatment under IRC
The contribution limit for IRA deposits does not apply to rollover contributions as described in IRC
“[p]aragraph l7 does not apply to any amount paid or distributed out of an individual retirement account ... to the individual for whose benefit the account ... is maintained if—(i) the entireamount received (including money and any other property) is paid into an individual retirement account ... for the benefit of such individual not later than the 60th day after the day on which he receives the payment or distribution.”
Debtors insist that the 2016 deposits made to the newly established U.S. Bank IRA were simply the culmination of what was, in effect, a “rollover” of their original investment in the Provident IRA. But Trustee argues that Debtors’ 2016 deposit in the U.S. Bank IRA did not qualify as a rollover contribution for two reasons. First, the source of the funds Debtors used to make the deposit did not result from any rollover of Debtors’ original deposits at Provident, but instead, was the sale of their claim in the Life Partners bankruptcy case. Tr.’s Reply at 5-6, Dkt. No. 50. Second, Trustee points out that Debtors did not rollover the “distribution-in-kind” of the Life Partners insurance policies to the U.S. Bank IRA within the sixty days as in IRC
1. The funds deposited in the U.S. Bank IRA came from ASM, not Provident or Life Partners.
Trustee argues that Debtors’ contribution in 2016 to the U.S. Bank IRA was not a a qualified “rollover contribution” because the source of the funds was not another qualified IRA, but came from the payment made by ASM for the purchase of Debtors’ claim in Life Partners’ bankruptcy case. Tr.’s Reply at 5-6, Dkt. No. 50. Debtors only response is that Trustee waived this argument. Trustee did not waive this argument,
2. The U.S. Bank IRA deposit did not occur within the time required for a rollover by the IRC.
Trustee argues that, even if the source of the deposited funds were not a problem
At his request, Provident, the custodian, closed out Smith’s IRA account in late 2013 or early 2014. Provident did so by transferring the IRA investments, the interests in the Life Partners policies, into Smith’s name. Debtors do not dispute that this occurred, nor can they contest that the subject deposits were not made to the U.S. Bank IRA until 2016. Even so, Smith insists that he did not take steps to move the investments into the U.S. Bank IRA because he was unaware that they were in his name until 2016, when the IRS first requested that he file a tax return to account for the distribution. Resp. to Tr.’s Obj. at 3, Dkt. No, 33; Resp. to Tr.’s Suppl. Mem. at 1-6, Dkt. No. 49. The evidence suggests something different.
In January 2014, Provident notified Smith it intended to transfer his IRA account interests to his name. Smith received and responded to this letter. In August 2014, Smith filed a proof of claim in the Life Partners bankruptcy case indicating, under penalty of perjury, that he, not his IRA, was a creditor. Then, in 2016, he, personally, executed a contract to sell his bankruptcy claim to ASM.
The only document in the record that references the “Elvin Smith IRA” after the assets were distributed by Provident was a May 2014 notice to Smith disclosing that Life Partners resold one of the life insurance policies. But given the proximity in time to the change of ownership of the policies, the reference in this notice was likely to the Provident IRA, not any new IRA, due to a delay in Life Partners updating its records. Indeed, when Life Partners later filed for bankruptcy, it indicated in its schedules that Smith, individually, owned the remaining policies.
Despite this factual record, Debtors argue that the Court should allow them claim of exemption as if Provident had never transferred them to Smith’s name. They argue that this case is similar to In re Susan Sutton-Robinson,
In re Susan-Sutton Robinson is distinguishable. In this case, Smith was .promptly notified about the transfer of the policies to his individual name, a transfer that was not the result of any error by Provident. As noted above, the transfer was made at Smith’s request. Thus, the Court
Even assuming Smith’s deposits to the U.S. Bank IRA originated with the Provident IRA, rather than ASM, on this record, the Court concludes that Debtors’ 2016 deposit was not a rollover contribution because it did not occur within sixty days of distribution of the investments to Smith from Provident made in 2014.-
Because the deposit in the U.S. Bank IRA both exceeded the IRC contribution limit for 2016, and did not constitute a proper rollover contribution, Debtors’ deposits in the U.S. Bank IRA are not a pension, annuity, or retirement allowance accrued under a plan described in
F. Leave to Seek a Determination from the IRS
As a last ditch effort to preserve their exemption claim, Debtors request that they be allowed to seek a determination by the IRS that the U.S. Bank IRA, and the funds in that account, qualify under IRC
In Richey, the objecting party argued that funds in the debtors’ IRA could not be exempt because they had been rolled over from debtors’ unqualified plan. Id. at *10. In response, the debtors offered letters detailing a favorable determination from the IRS, although none of them had been issued as of date the debtors’ prior plan was terminated and the funds were rolled into the IRA. Id. at *3-4. The objecting parties’ expert witness also pointed to defects in the plan-that could have potentially disqualified the plan under the IRC. Id. at *4. Given those circumstances, the bankruptcy court ordered the debtors to participate in the IRS’s voluntary compliance program (“VCP”), to obtain a determination of whether the plan from which the funds originated was tax-qualified, and to request that IRS permit debtors to cure any plan defects with retroactive effect. Id. at *4. Via the VCP, the debtors identified the failures in their former plan to the IRS, and proposed various ways to correct the defects. Id. at *5. The IRS eventually issued a compliance statement allowing for a cure of the defects with retroactivé effect, indicating that IRS would not pursue sanctions or disqualification of the prior plan. Id. The bankruptcy court, relying on the IRS compliance statement, overruled the objection to the debtors’ exemption claim, Id. at *6-7, and on appeal, the BAP affirmed stating:
Here, on the date of petition, [the debtors] possessed a right under federal tax law to participate in the VCP and seek a determination from the IRS on whether or not the [former] plans were qualified on their termination dates, and to cure any defects potentially disqualifying the Plan to bring them back into IRC compliance with retroactive effect.
Id. at *11.
As an unpublished opinion, the BAP’s decision in Richey is not binding on this Court. Moreover, by blessing the bankruptcy court’s exercise of discretion in Richey, the decision would not require this Court to allow Debtors to participate in the VCP. Here, the Court declines Debtors’ suggestion that they should be able to resolve their exemption dilemma via an IRS determination.
Conclusion
The Court empathizes with Debtors’ ultimate loss of their entire original retirement investment. But while Smith argues he intended to effect a rollover of his Provident investment to the U.S. Bank IRA,, the facts suggest otherwise. As the Court has previously noted, “[ujnfortu-nately, [a debtor’s] intention to make property exempt does not, standing alone, accomplish that goal ...[;] [a] debtor’s election on how to handle his or her assets may unintentionally waive protections otherwise provided by the Code or state law.” In re Kane, 99.4 IBCR 175, 177-178,
Trustee’s objection to Debtors’ claim of exemption in the U.S. Bank IRA is sustained. Debtors were not eligible to make an IRA contribution in 2016 because they had no earned income. In addition, the U.S. Bank IRA deposit was not a proper rollover from the Provident IRA. As a result, the funds in the U.S. Bank IRA were not part of a pension, annuity, or retirement allowance accrued under an IRA as described in IRC
A separate order will be entered.
Notes
. Unless otherwise indicated, all chapter and section references are to the Bankruptcy Code,
. The letter also indicates Smith’s initial investment was $25,000. Ex. 102.
. Nothing in the record corroborates these statements.
. Debtors also claimed the account as exempt pursuant to
.
. Tr.’s Suppl. Mem. at 8, Dkt. No. 48.
. IRC
. Trustee also argues that Debtors’ interest in the Provident IRA was not IRC-qualified because their funds were invested in life insurance policies, something expressly prohibited by IRC
. Debtors argue that Trustee waived this argument. Resp. to Tr.’s Suppl. Mem. at 7, Dkt. No. 49. Trustee contends that this argument falls within his general arguments that Debtors’ contributions to the U.S. Bank IRA were not tax-qualified. Tr.’s Reply to Resp. at 3, Dkt. No. 50. At the hearing, the Court raised questions about the source of Debtors' deposits to the U.S. Bank account. Debtors were given an opportunity to respond to this issue in post-hearing briefs, but rather than addressing the merits, chose instead to argue that Trustee waived the argument. Debtors are therefore not prejudiced by the Court’s consideration of this issue.
. In re Susan Sutton Robinson cites Jankelovits v. C.I.R., T.C.M. 2008-285,
. For purposes of this decision, the Court assumes Debtors have the right to seek an