Incorrectly relying on the decision in Clark v. Rameker, the Eighth Circuit found that the chapter 7 debtor was not entitled to exempt funds in his ex-spouse’s IRA and 401(k) which he obtained through a dissolution agreement but which had not been transferred to his name at the time of his bankruptcy petition. Lerbakken v. Sieloff & Assoc., P.A. (In re Lerbakken), No. 18-3415 (8th Cir. Feb. 7, 2020).
The debtor acquired his ex-wife’s IRA and half of her 401K in a dissolution. When the debtor failed to pay his divorce attorney’s fees, his lawyer obtained an order from the court placing an attorney’s lien on the funds in the IRA and the 401K. The lien exceeded the value of the accounts. Six months later, Mr. Lerbakken filed for chapter 7 bankruptcy seeking to exempt the two accounts under section 522(b)(3)(C). At the time of his petition, he had not filed a Qualified Domestic Relations Order (QDRO), nor had the accounts been transferred to his name. Upon objection by the divorce attorney, the court found the two accounts were not “retirement funds” and disallowed the exemption. The BAP affirmed. Lerbakken v. Sieloff & Assoc., P.A. (In re Lerbakken), 590 B.R. 895 (B.A.P. 8th Cir. 2018).
For funds to be exempt under section 522(b)(3)(C), they must be both “retirement funds,” and held in an account that is exempt from taxation under specified provisions of the Tax Code. In determining whether the funds at issue constituted “retirement funds, the Eighth Circuit relied heavily on Clark v. Rameker, 573 U.S. 122, 130 (2014), which established that for funds in an inherited IRA to be deemed “retirement” the account holder: (1) must be able to make additional contributions to the funds, (2) must not be obligated to withdraw the funds, and (3) must pay a penalty to withdraw the funds prior to age 59 ½.
With Clark providing the framework for analysis, the court began with the IRA. It noted that at the time Mr. Lerbakken filed for bankruptcy, the IRA had not yet been renamed or transferred to an account in his name. Therefore, his interest at that time was merely “conditional.” Determining exemptions according to the status of the asset at the time of the bankruptcy petition, the court applied the three Clark elements to the IRA as of that date. The court found that, at the time of his petition, Mr. Lerbakken could make additional contributions to the accounts. As to the second Clark element, however, the court reasoned that his property interest was governed by state law, and was therefore subject to the dissolution agreement and the court-ordered attorney’s lien. For that reason, he had an obligation to withdraw the funds from the account. As to the third element, the court acknowledged that the IRS considers IRAs transferred through divorce to belong to the recipient. Here, however, at the time of Mr. Lerbakken’s bankruptcy petition, no transfer had taken place and he was not obligated to adhere to the rules for early withdrawal. Element three, therefore, was not met. Based on these conclusions, the court found that the IRA was not subject to exemption.
The court turned to the 401(k), explaining that, under ERISA requirements, Mr. Lerbakken could not access his account because he had not filed a QDRO in connection with the dissolution or thereafter. In the absence of the QDRO, the court turned to state law to determine Mr. Lerbakken’s property interest in the 401(k) and found, like the IRA, the court-ordered attorney’s lien eliminated his claim to those funds. Applying the Clark elements, the court stated that the first was not met because only an employee or employer can make contributions to a 401(k). Second, the court-ordered attorney’s lien demanded that Mr. Lerbakken withdraw the funds. Third, he could not access the funds at all without a QDRO.
The court made quick work of Mr. Lerbakken’s counterarguments. It began by rejecting his contention that the bankruptcy court erred in applying a rule that for funds to be “retirement funds” they must be in an account created by the person claiming the exemption. In answer, the court fell back on its application of the elements of Clark to find that the accounts do not have the necessary legal characteristics of retirement funds.
The court was likewise unpersuaded by Mr. Lerbakken’s argument that, because the Tax Code treats IRAs obtained through divorce the same way it treats IRAs inherited by surviving spouses, the bankruptcy exemption should be the same as well. The court found that in order for an inherited IRA to be exempt the account must have been rolled over into the surviving spouse’s name. Here, Mr. Lerbakken had not rolled over the accounts prior to his bankruptcy petition.
To Mr. Lerbakken’s argument that courts should look at the purpose behind the accounts which, in this case, was to provide for both Mr. Lerbakken and his spouse post-retirement, the court found that Clark does not weigh the subjective intentions of the debtor in its analysis of retirement funds.
Finally, the court found that policy concerns did not support Mr. Lerbakken’s position. To the contrary, the court opined that permitting him to exempt the funds would result not in a “fresh start” but in a “free pass.”
NCBRC submitted an amicus brief on behalf of the NACBA membership in support of the debtor in this appeal. In its brief, NCBRC argued that the courts’ reliance on Clark was misplaced as that case involved an IRA inherited by a non-spouse and was not applicable to transfers between spouses. Rather, NCBRC pointed to the Bankruptcy Code under which Congress imposed three requirements for exemption of retirement funds: (1) the amount the debtor seeks to exempt must be retirement funds; (2) the retirement funds must be in an account that is exempt from taxation under one of the provisions of the Internal Revenue Code set forth therein; and (3) the aggregate amount of funds to be exempted must be $1,283,0257 or less. Those requirements were met in this case. The court disregarded NCBRC’s argument that, due to ERISA’s anti-alienation provision, the funds in the 401(k) never entered the estate, stating simply that Mr. Lerbakken had waived the argument.
The court affirmed.
Tags: Exemptions, retirement funds
