In this article we will answer the questions:
- Can a creditor file a claim against a deceased person’s retirement accounts?
- Does the beneficiary named in the retirement account affect a creditor’s claims against the accounts?
- What steps can be taken to secure retirement accounts prior to death and avoid the reach of creditors?
Most people don’t even consider what might happen to their retirement accounts in the event of an early demise, because most of us plan retirement with the idea that we’ll be around to enjoy it. But, like many aspects of estate planning, we must plan for the worst and hope for the best. Your retirement accounts can end up in probate if the proper steps are not taken prior to death.
First, let’s discuss naming a beneficiary and what effect that has on the retirement accounts avoiding probate and creditors
- Naming the estate as the beneficiary - If for some reason a person wanted the funds from their retirement account to pass through probate then they could simply elect to have their estate be the beneficiary of the retirement accounts. This may be the case if the person wants the funds to pay off debt during the probate process. Usually, this is unlikely.
- Naming the spouse as the primary beneficiary - This is very common and usually the default method when naming a beneficiary. Upon death, the decedent’s retirement accounts would pass directly to the spouse, outside of probate.
- Designating alternate beneficiaries - Another important aspect of estate planning in regards to retirement accounts is being sure to have at least one or more alternate beneficiaries. In the event that the primary beneficiary, let’s say the spouse, for example, does not survive the death of the retirement asset owner, like if a husband and wife died in a car accident, then the retirement account and it’s funds would pass to the alternate beneficiaries. This is why it’s very important to update beneficiaries if there are any pertinent changes to the alternate beneficiaries that would affect the transfer of the retirement account.
Can a creditor file a claim against my IRA, 401(k), etc?
First, it depends on the type of retirement account. Generally, 401(k) accounts are safe when alive and after death. However, depending on your state certain types of IRA accounts are accessible to creditors when you’re still alive and after death. The good news is in Illinois just about all types of retirement plans are considered protected from creditors. The Employee Retirement Income Security Act of 1974 (ERISA) requires that an employee’s interest be nontransferable, Also stating the funds are out of reach of the creditors. Furthermore, nearly all non-ERISA retirement benefits are considered safe during the participant’s life and after death in the state of Illinois.
When retirement benefits are in jeopardy and what can be done to protect them.
As stated above, the exemption law for retirement accounts is very generous to the account participant and casts a narrow and somewhat ambiguous net with regards to what might not be protected. However, there are a few situations when funds paid out from a retirement plan might be in reach of creditors.
- Not properly designating beneficiaries - We covered this earlier in the article, but as a summary make sure your beneficiaries are up to date and are the appropriate person or entity in order to have retirement benefits avoid probate upon death.
- When rolling over existing retirement accounts or when receiving funds from retirement accounts, while debt is owed, make sure that the funds enter an account that can be traced to the retirement account and shown to be used primarily for living expenses and other essential purchases, and not for frivolous items or for other investment vehicles outside of what is protected under the Illinois exemption statute (the safest option would likely be just to have the retirement account go into another retirement account or something similar. We suggest working with a qualified professional when in this situation.) For more information on protecting assets from creditors check out our article How To Protect Assets From Creditors.
- In Illinois, when an IRA is inherited after death, meaning the original account holder died and the IRA was transferred to the named beneficiary, and that IRA continues in the benefit of the named beneficiary, it becomes claimable by the creditors of the beneficiary, because it is no longer considered a retirement fund. This last note may differ from state to state but should be considered what is current under the law in Illinois.
The first step in protecting your assets when alive or after death is speaking to a qualified professional and organizing your assets into the right vehicle, such as a living trust. For more information on this process check out our other articles and videos on Learn About Law and don’t hesitate to call O’Flaherty Law with any questions or concerns.