Retirement Benefits Planning Update provides information on developments in the field of retirement benefits law. The editors of Probate & Property welcome information and suggestions from readers.

Qualified Plan Rollovers to IRAs

Compared to the more restrictive provisions of many tax qualified profit sharing and pension plans, IRAs facilitate deferred distribution tax planning and provide increased participant control over investments. Recommending the rollover to an IRA of plan benefits to which a participant has access often advances tax and estate planning goals, but practitioners should understand the creditor protection implications of such a transfer.

Qualified Plan Creditor Protection

Private employee pension benefit plans are required by ERISA § 206 (d)(1) and corresponding Code § 401 (a)(13) to provide that a participant's benefits may not be assigned or alienated. The federal labor and tax laws generally shelter ERISA plan benefits from state law attachment, execution and seizure to satisfy a participant's debts and prohibit participants from pledging plan benefits to secure debts. The only ERISA exceptions are:

  • benefit assignments made under to qualified domestic relations orders (QDROs), 
  • federal tax levies and judgments resulting from unpaid federal tax assessments, 
  • "assignment" of plan benefits as security for plan loans to participants, and 
  • the voluntary assignment of up to 10% of any benefit payment to a participant from a benefit in pay status.

Plans not subject to Title I of ERISA include church and government plans, some Section 403(b) plans, IRAs (and SEPs), Keogh plans that do not benefit common law employees, employee welfare benefit plans and nonqualified deferred compensation plans (Labor Regs.§§ 2510.3-2 and 2510.3-3).

Exclusion from Bankruptcy Estate

Under the Bankruptcy Code, all legal and equitable interests of the debtor in property as of the filing of a bankruptcy petition are included in the bankruptcy estate except to the extent specifically excluded. Bankruptcy Code § 541(c)(2) provides exclusion of a debtor's interest in a trust if there is "[a] restriction on the transfer of a beneficial interest of the debtor in a trust that is enforceable under applicable nonbankruptcy law."

Until 1992, when the Supreme Court decided that ERISA was an "applicable nonbankruptcy law" in Patterson v. Shumate, 504 U.S. 753, most of the federal circuits had held that § 541(c)(2) referred only to state spendthrift trust laws. Under most state laws, spendthrift trust creditor protections do not apply to a trust created by the debtor or to a trust the terms of which permit the debtor to withdraw trust assets. Plans that are not ERISA qualified plans may occasionally be excluded from the bankruptcy estate under state spendthrift trust rules. For example, a Keogh plan that was not self-settled and that sufficiently restricted a participant's control over benefits met the § 541(c)(2) standard in In re Moses, 167 F.3d 470 (9th Cir. 1999). Because IRAs are created and funded by the owner and the assets can be withdrawn, an IRA will not qualify as a spendthrift trust under state law even if the IRA agreement has an anti-alienation clause. I n re CRS Steam, 217 Bankr. 365 (Bankr. Mass. 1998).

ERISA Qualified Plans

In the case of an ERISA qualified plan, exclusion from the bankruptcy estate does not rely on spendthrift trust criteria but on the provisions of ERISA. As a result, a participant's access to (or control over) plan funds (via a right to request a distribution or loan), the "in pay status" of benefits or a pending request for a distribution does not vitiate the exclusion except to the extent funds have actually been received by the time the bankruptcy petition is filed. Whetzal v. Alderson, 32 F.3d 1302 (8th Cir. 1994); Smith v. Mirman, 749 F.2d 181 (4th Cir. 1984). Similarly, a participant's after-tax contributions to a plan are excluded. In re Conner, 73 F.3d 258 (9th Cir. 1996), cert. denied, 519 U.S. 817 (1996).

Does the phrase "ERISA qualified plans" used in Shumate to describe excluded plans mean that a plan must be tax-qualified under the Internal Revenue Code as well as be an employee benefit plan covered by ERISA Title I? Some bankruptcy courts have held that a plan must be tax-qualified to be an ERISA qualified plan. In re Hall, 151 Bankr. 412 (Bankr. W.D. Mich.1993). Other courts state that an ERISA qualified plan need not be tax qualified. In re Baker, 114 F.3d 636 (7th Cir. 1997). Although the administration of a plan in complete statutory compliance is not required to support the ERISA qualified status, egregious disregard of ERISA requirements will result in denial of the exclusion. In re Harris, 188 Bankr. 444 (Bankr. M.D. Fla. 1995).

IRA Exclusion Under State Shield Statutes

Principally in response to the pre- Shumate concern that a participant's qualified ERISA plan benefits, otherwise insulated from creditors' claims by the anti-alienation clause, might not be protected in the event of a participant's bankruptcy, most states enacted statues to shield qualified plan (and often IRA) benefits. These statutes typically exempt (in whole or in part) specified benefits from execution by creditors or declare certain benefit plans to be spendthrift trusts. By ruling that ERISA is an "applicable nonbankruptcy law" even though ERISA does not require that the interest in trust be restricted to the extent required by state spendthrift laws, Shumate created the possibility that the restrictions on creditors imposed by a non-spendthrift shield statute might qualify IRAs for exclusion under § 514(c)(2).

Whether non-ERISA qualified plan benefits are excludable from a bankruptcy estate depends on the state statute's specific provisions and interpretation of § 514(c)(2) by the courts. A debtor's IRA was held to be excludable under a New Jersey statute that provided that property held in a qualifying trust (defined to include IRAs) was exempt from all creditors' claims and excludable from an estate in bankruptcy. In re Yuhas, 104 F.3d 612 (3d Cir. 1997), cert. denied, 521 U.S. 1105 (1997).The court concluded that a restriction on transfer under § 514(c)(2) includes a restriction on a creditor's access to a trust and need not also limit a debtor's access to funds. In In re Meehan, 102 F.3d 1209 (11th Cir. 1997), the court held that a Georgia statute prohibiting the garnishment of IRAs was an applicable nonbankruptcy law, noting that the transfer restriction did not have to be in the IRA agreement or extend to the debtor participant. The court in In re Fulton, 240 Bankr. 854 (Bankr. W.D. Pa.1999), in dicta, held that a Pennsylvania statute providing that IRAs were exempt from attachment or execution constituted a restriction on transfer under § 514(c)(2) even though the statute did not preclude a debtor from transferring the IRA, but denied the exclusion in the case of an IRA annuity because it was not an interest in trust. IRAs, exempted from levy and sale under execution by a similar Michigan statute, however, were held not to be excludable because the restriction on transfer was not contained in the IRA agreement and did not apply to the debtor as well as creditors. In re Zott, 225 Bankr. 160 (Bankr. E.D. Mich.1998).

Exemption From Bankruptcy Estate

If non-ERISA qualified plan or IRA benefits are not excluded from the bankruptcy estate under § 514(c)(2), an exemption may be available to the debtor participant under Bankruptcy Code § 522. Exemptions from the bankruptcy estate under state and federal law will be discussed in the next Retirement Benefits Planning Update.

Retirement Benefits Planning Update Editor: Harvey B. Wallace II, Joslyn Keydel & Wallace, LLP, Albert Kahn Building, 9th Floor, 7430 Second Ave., Detroit, MI 48202-2717,