The document discusses creditor protection of inherited retirement accounts after the Supreme Court's ruling in Clark v. Rameker. It summarizes that the Court determined inherited retirement accounts are not protected from creditors of beneficiaries. To protect inherited accounts, beneficiaries should be trusts rather than individuals. The document provides details on properly structuring an accumulation trust to qualify it as an account beneficiary and maximize tax benefits while providing creditor protection.

1. Protection of Inherited
Retirement Accounts
After Clark v. Rameker
Matthew E. Rappaport, Esq., LL.M.
Karol & Sosnik, P.C.
600 Old Country Road, Suite 505
Garden City, New York 11530
(516) 745-0066
mrappaport@kspcwills.com

2. Creditor Protection of
Retirement Assets Generally
Under both federal and state law, an individual’s retirement accounts
are generally protected from outside creditors (i.e., creditors other
than an ex-spouse). The federal exemption is found in 11 U.S.C. §
522(b)(3)(C). The state exemption is found in § 282 of the Debtor &
Creditor Law and § 5205(c)(2) of the Civil Practice Law and Rules. The
state exemption incorporates the federal exemption by reference.
The exemptions make retirement accounts functionally impossible for
outside creditors to access. New York and federal courts will not allow
outside creditors to penetrate such accounts unless, perhaps, in truly
extraordinary circumstances.

3. Creditor Protection of
Retirement Assets Generally
The very strong creditor protection features of retirement accounts
make them excellent asset protection vehicles. However, until 2014,
there was some debate among practitioners regarding whether the
same creditor protection would apply to retirement accounts inherited
by the original owner’s designated beneficiaries.
The Supreme Court decided Clark v. Rameker in June of 2014 and
removed all doubt: retirement accounts inherited by non-spouse
beneficiaries are not protected from any creditors at all. The decision
confirmed that in order for inherited retirement accounts to be
protected from the beneficiaries’ creditors, additional measures must
be taken.

4. Clark v. Rameker, 573 U.S. _____ (2014)
Facts: Ruth Heffron set up a traditional IRA in 2000. She named her
daughter, Heidi Heffron-Clark, as the sole beneficiary. Ruth died in
2001. At that time, the total value of the assets in the IRA was
approximately $450,000. Heidi chose to take monthly distributions to
satisfy her RMD requirement.
In October 2010, the Heffron-Clarks filed for Chapter 7 bankrtupcy.
They claimed the IRA, which was still worth $300,000 at that time, was
exempt from the bankruptcy estate under 11 U.S.C. § 522(b)(3)(C).
Rameker, the bankruptcy trustee, disagreed with the exemption and
filed suit.

5. Clark v. Rameker, 573 U.S. _____ (2014)
The Supreme Court’s Holding: Inherited retirement accounts do not
fall within the definition of “retirement funds” under 11 U.S.C. §
522(b)(3)(C). Congress never meant for inherited accounts to fall
within the exemption. Three characteristics separating inherited
accounts from other accounts support this claim:
• Beneficiaries may never invest any additional money into an inherited
account.
• Withdrawal of the funds is required regardless of the beneficiary’s age or
distance from retirement.
• The holder of an inherited account may withdraw the entire balance without
any penalty.

6. Clark v. Rameker, 573 U.S. _____ (2014)
The Supreme Court’s Holding (Cont.): Exempting inherited accounts
from the bankruptcy estate would be unfair to creditors and would not
fulfill the exemption’s purpose of “protecting [only] the debtor’s
essential needs.” Exempting inherited accounts would turn a “fresh
start” into a “free pass” for the debtor.
Any other conclusion would frustrate Congressional intent, upset the
balance of creditors’ interests and debtors’ interests, and run counter
to the plain meaning of the statute’s language.

7. Creditor Protection of Inherited Retirement
Accounts After Clark v. Rameker
After the Supreme Court resolved the debate, it is now essential to take
additional measures in order to ensure the protection of inherited
retirement accounts from creditors.
The prudent way to do so is to name a trust as beneficiary of a
retirement account rather than an individual. As long as the trust
qualifies as a beneficiary of the account, distributions can be made to
the trust instead of the trust beneficiaries individually. The trust may
be written with customized asset protection language. For example,
the trust may include a spendthrift clause, and the trust may give the
trustees wide latitude when deciding whether to make distributions of
income or principal to beneficiaries.

8. Properly Setting Up an Accumulation Trust
In order to avoid adverse income tax consequences, practitioners must
take special measures during the drafting and administration process.
First and foremost, the practitioner must qualify the trust as a valid
account beneficiary. Otherwise, all of the account’s funds must be
distributed to the trust within five years of the original owner’s death.
§ 401(a)(9)(B)(ii). The trust qualifies as a valid account beneficiary if
the following conditions are met:
1. The trust is a valid trust under state law, or would be valid but for
the fact that there is no corpus (yet).
2. The trust is irrevocable, either upon formation or by virtue of the
account owner’s death (note that this rules out all joint trusts).

9. Properly Setting Up an Accumulation Trust
3. The beneficiaries of the trust must be identifiable. “Identifiable” means
(a) a named individual, or
(b) a class, provided that the youngest member of the class may be
identified.
4. The trustee of the trust provides to the retirement plan administrator, by
October 31 of the calendar year following the calendar year of the
account owner’s death, either
(a) a list of all trust beneficiaries, including contingent and remainder
beneficiaries, that is certified by the trustee to be true and correct; or
(b) a copy of the actual trust document.

10. Properly Setting Up an Accumulation Trust
The trust will qualify as a beneficiary only if all four requirements are
actually met. Treas. Reg. § 1.401(a)(9)-4, A-5(b). When the trust
qualifies as a beneficiary, the law “looks through” the trust to its
individual beneficiaries in order to determine the time frame for
required minimum distributions. Treas. Reg. § 1.401(a)(9)-4, A-5(a).
In addition to specifying the right creditor protection measures, an
accumulation trust must also be specially drafted to ensure maximum
income tax benefits.

11. Properly Setting Up an Accumulation Trust
Background: Upon the death of the owner of a retirement account, the
general rule is that the entire account must be distributed within five
years of the owner’s death. § 401(a)(9)(B)(ii). If the owner has
designated a beneficiary, distributions will instead be made over the
life of the designated beneficiary. § 401(a)(9)(B)(i). Plans may mandate
the use of the five-year rule or allow employees to choose whether the
five-year rule or the designated beneficiary rule applies. Treas. Reg. §
1.401(a)(9)-3, A-4(b), (c).
These rules raise an important question: if the law will “look through” a
qualifying trust to its beneficiaries, and the trust has multiple
beneficiaries, then whose life must be used for purposes of the
distribution?

12. Properly Setting Up an Accumulation Trust
The answer: if a qualifying trust has multiple beneficiaries, the life of the
beneficiary with the shortest life expectancy will be used as the measuring life.
Treas. Reg. § 1.401(a)(9)-5, A-7(a)(1). Even beneficiaries with remote contingent
interests will be considered for purposes of determining who has the shortest life
expectancy. Treas. Reg. § 1.401(a)(9)-5, A-7(b); see IRS PLR 200228025.
Consider the following example: an IRA’s beneficiary is a qualifying accumulation
trust with the owner’s surviving grandchildren listed as the class of beneficiaries.
The trust has a “takers of last resort” provision stating that if the class of
grandchildren does not survive, the beneficiaries shall instead be the owner’s then
surviving issue. Even if the owner has eight grandchildren, and the class is
therefore not reasonably expected to ever predecease the owner, the owner’s
spouse and children will still be considered beneficiaries for purposes of
determining shortest life expectancy.

13. Properly Setting Up an Accumulation Trust
How do we avoid such an adverse result? The accumulation trust must be
divided into separate shares. When the trust is divided into separate shares
that are considered entirely separate trusts, each individual beneficiary’s
distributions are determined by his or her own life expectancy. Treas. Reg. §
1.401(a)(9)-8, A-2(a)(2); see IRS PLR 200537044, IRS PLR 201503024.
The difference between an “accumulation trust” and a “conduit trust” is that
an accumulation trust allows for the required minimum distributions (RMDs)
to remain in trust, whereas the conduit trust passes through all RMDs to its
beneficiaries. The conduit trust has far fewer asset protection benefits, but
it may be useful if asset protection is not a major concern and the owner of
the retirement account still wants to max out the income tax benefits for
multiple non-spouse beneficiaries.

14. Properly Setting Up an Accumulation Trust
This brings up one final question: how should each recipient trust be set up
such that it properly plans for “doomsday” scenarios, but it doesn’t trigger
determination of the RMD schedule by reference to a remote contingent
beneficiary?
The answer: only name one beneficiary for each trust, and provide that the
contingent beneficiaries shall only be each beneficiary’s issue. Although not
explicitly stated, the original owner’s intestate heirs would inherit by
operation of law in default of any such issue. If the typical “doomsday
provision” is included in the trust, the remote contingent beneficiaries will
be fair game for determining who the oldest beneficiary of the trust may be.
Compare IRS PLR 200228025 with IRS PLR 201320021. The distinction may
be arbitrary, but the letter rulings show that the distinction makes a
difference for the IRS. Id.; see Bruce Steiner, LISI Employee Benefits and
Retirement Planning E-Mail Newsletter #625 (Aug. 8, 2013).

15. Questions and Further Discussion
If you have any questions or would like to discuss this topic further, feel
free to contact me.
Matthew E. Rappaport, Esq., LL.M.
Karol & Sosnik, P.C.
600 Old Country Road, Suite 505
Garden City, New York 11530
(516) 745-0066
mrappaport@kspcwills.com

16. READ THESE IMPORTANT DISCLAIMERS
This presentation is meant for informational purposes only and does not give rise
to an attorney-client relationship between the presenter and any of the attendees,
listeners, or subsequent readers of the presentation material. This presentation is
intended for general education and is not intended to be legal or tax advice. The
concepts discussed herein should not be applied without consulting a qualified
professional for individual legal and/or tax advice.
U.S. Treasury Circular 230 Notice: To the extent that there may be deemed any tax
advice contained in this presentation, it was not intended or written to be used,
and cannot be used, for the purpose of (a) avoiding penalties that may be imposed
under the Internal Revenue Code or by any governmental tax authority or (b)
promoting, marketing or recommending to another party any tax-related matter
addressed herein.