Trustee in Bankruptcy Shot Down on Attempt to Reach Traditionally Protected Individual Retirement Annuity

The bankruptcy case of Running v. Miller (In re Miller) is one of those cases where the Trustee in bankruptcy, in a zealous effort to grab the debtor’s assets, ignores the Internal Revenue Code (“Tax Code”), common practice and common sense. Here, the debtor filed a Chapter 7 bankruptcy case and scheduled an individual retirement annuity as exempt under 522(b)(3)(C) of the Bankruptcy Code. If an individual retirement annuity meets the Tax Code 408(b) definition, the annuity is not part of the bankruptcy estate and is exempt from creditor claims.

The Trustee stipulated that the funds to purchase the annuity were properly rolled over from a qualified retirement account. The Trustee also agreed that if the annuity met the requirements of the Tax Code, it would qualify for exemption. So what machinations did the Trustee invoke to attempt to defeat the exemption?

To qualify as an individual retirement annuity under 408(b) the premium cannot be fixed and the annual premium cannot exceed the statutory limitation on annual contributions [219(b)(1)(A) of the Tax Code]. The debtor purchased the annuity with a single lump sum using the proceeds of a $267,000 rollover. The Trustee claimed that this caused the annuity to run afoul of 408(b) because the annuity did not provide for flexible annual payments. The Trustee also claimed that the annuity was unqualified because the amount expended for the annuity exceeded the then applicable annual limitation amount of $5,000.

In affirming the bankruptcy court the Appellate Panel quickly disposed of the Trustee’s arguments. First, it found that the purchase price of $267,000 did not exceed the annual limitation on contributions because it was not a contribution-it was simply an expenditure of already accumulated IRA funds. As to the requirement that the premiums not be fixed, the Panel analyzed the purpose of the statute, IRS publications, treatises and case law. It concluded that the requirement is included to insure that if in a given year the taxpayer makes less than the annual limitation, the premium payment can be adjusted to a lower amount to avoid an excess contribution situation. It was never meant to preclude single payment annuities.

And thus the Trustee found out that taking words out of context and ignoring business realities is a path that leads to unnecessary, costly and unsuccessful litigation.