IRA Distributions Lose Exempt Status if Not Rolled Over

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By Daniel Gill

Two bankrupt debtors had to turn over the value of individual retirement account distributions they took and claimed exempt, the Fifth Circuit ruled July 19 ( Hawk v. Engelhart (In re Hawk) , 2017 BL 250329, 5th Cir., No. 16-20641, 7/19/17 ).

They failed to roll the distributions over to another qualified IRA plan within 60 days as required by Texas law, the opinion by Judge Edward C. Prado said in a case of first impression.

The applicable Texas law changed the status of the once-exempt asset when the debtors withdrew the funds. They changed from an unconditionally exempted interest into a conditionally exempted interest, the court said.

Gregory and Marcie Hawk filed a Chapter 7 case in December 2013. In Chapter 7, a debtor’s assets are administered and liquidated by a trustee for the benefit of creditors. However certain assets, such as IRAs, can be exempted from liquidation.

The Hawks claimed an exemption in their IRA, and when no one objected, it became officially allowed under the law.

However, between December 2013 and July 2014, the Hawks withdrew all the funds from their IRA, using most of the approximately $133,000 to pay for living and other expenses, the court said. The trustee sought an order requiring the Hawks to turn over the funds.

The court here agreed. The funds lost their exempt status under Texas law because the Hawks didn’t roll them over to another IRA within 60 days.

The court analogized the situation to homestead exemptions. Under Texas law, the proceeds from the sale of an exempt homestead lose their exempt status if they are not invested in a new homestead within six months.

Although the IRA would have retained its exempt status had it been left intact, by withdrawing the funds the debtor changed the “essential character” of the asset, the court said. It changed from an unconditionally exempt interest to a conditionally exempt interest, with the condition being a required roll over to a qualified plan.

Chief Judge Carl E. Stewart and Circuit Judge Jacques L. Wiener Jr. joined in the opinion.

William Pimlott Haddock, Houston, represented the Hawks. Eva S. Engelhart, the Chapter 7 trustee, was represented by Aaron J. Powers, Houston.

To contact the reporter on this story: Daniel Gill in Washington at dgill@bna.com

To contact the editor responsible for this story: Jay Horowitz at JHorowitz@bna.com

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