Today’s Decision in Rousey v. Jacoway
This summary was written by Allon Kedem, a Yale 3L who worked on the case with us this summer.
When a debtor files for bankruptcy, most of the debtor’s property becomes part of the bankruptcy estate. The federal Bankruptcy Code allows debtors to exempt certain property from the estate, thereby shielding it from creditors. Petitioners Richard and Betty Jo Rousey attempted to exempt their Individual Retirement Accounts (IRAs) under 11 U.S.C. § 522(d)(10)(E), which allows a debtor to exempt:
a payment under a stock bonus, pension, profit-sharing, annuity, or similar plan or contract on account of illness, disability, death, age, or length of service, to the extent reasonably necessary for the support of the debtor and any dependent of the debtor.
The Court of Appeals for the Eighth Circuit concluded that because the Rouseys could access the funds in their IRAs, subject only to a 10% penalty for withdrawals before the age of 59½, their IRAs provided no right to receive payment “on account of age.” In a unanimous opinion written by Justice Thomas, the Supreme Court reversed, holding that IRAs may be exempt as necessary for the debtor’s support.
Petitioners amassed $55,000 in company-sponsored retirement plans while working for Northrup Grumman Corp. When their employment with Northrup Grumman ended, the company required them to move what they had accumulated, and they “rolled-over” the funds into two IRAs. They filed for bankruptcy several years later in Arkansas, which is one of several states that permit debtors to choose between federal exemptions and those available under state law. The Rouseys sought to exempt their IRAs under § 522(d)(10)(E). The bankruptcy trustee, Respondent Jill Jacoway, objected that the exemption did not apply, winning in Bankruptcy Court and on appeal at the Bankruptcy Appellate Panel. The Eighth Circuit affirmed, and the Supreme Court granted certiorari to resolve a conflict among the lower courts about which IRAs, if any, qualify under the provision.
In concluding that § 522(d)(10)(E) applies to IRAs, Justice Thomas focused on two of the statute’s requirements: first, that the payment be made “on account of illness, disability, death, age, or length of service”; and second, that any exempted payment be made “under a stock bonus, pension, profit-sharing, annuity, or similar plan or contract.”
Addressing the first requirement, Justice Thomas held that Petitioners’ right to receive payments was “causally connected to their age.” Section 408 of the Internal Revenue Code, which governs the tax status of IRAs, penalizes withdrawals made before the accountholder turns 59½. This “substantial” penalty demonstrates congressional intent to deter early withdrawals—an aim that has largely succeeded. The considerable barrier to withdrawal belies Respondent’s claim that IRAs are freely accessible and therefore akin to ordinary savings accounts. Indeed, “[t]he Rouseys no more have an unrestricted right to payment of the balance in their IRAs than a contracting party has an unrestricted right to breach a contract simply because the price of doing so is the payment of damages.”
Because IRAs are clearly not stock bonus, pension, profit-sharing, or annuity plans, whether they could satisfy the second requirement turned on whether they were appropriately considered a “similar plan or contract.” Respondent argued that since early withdrawals are permitted—albeit subject to a tax penalty—IRAs are less like the other plans listed in § 522(d)(10)(E) and more like a normal savings account. In rejecting this argument, Justice Thomas wrote that, like the other listed plans, IRAs “provide a substitute for wages.” The Internal Revenue Code defers taxation on funds put into IRAs until those funds are withdrawn, and any attempt to withdraw before the age of 59½ is tax-penalized. Moreover, account holders must begin distributions from their IRAs by age 70½ or face a substantial penalty. Justice Thomas concluded that “these features show that IRA income substitutes for wages lost upon retirement and distinguish IRAs from typical savings accounts.”
As an “aging baby boomer,” this may be the most significant decision, affecting the most people, of any decision this term. [I believe this was the correct decision from both a legal and policy perspective--not that my opinion matters.]Although I attempt to follow the SC, I first learned of this case in a September 2004 presentation in which Tom was one of the “faculty.” Upon further investigation, my initial reaction was confirmed. I have been astounded that many who work on pension-policy-related issues on Capitol Hill, both staff and lobbyists, were unaware this was pending before the SC. Given the radically increasing workforce mobility and continual shift to defined contribution plans, this is a massive issue affecting tens of millions of Americans and their retirement security/insecurity. Creditors, of course, see this a a huge pot to get their hands on. The other side is that if the creditors end up getting into this pot through legislation (or a change by the Court from this decision) this will diminish the retirement income of future retirees and, as a practical matter, increase governmental expenditures to keep the elderly from starving. People will not let the elderly starve; they will demand governmental suuport. The policy issue is whether creditors receive instant gratification or the taxpayers get a future bill to allow for this instant gratification.
Comment by Dave Whalin — April 5, 2005 @ 11:06 am
I’m a little late to the fair on this, but just for the record, I think the SC’s decision in this case was dead wrong. I wrote an article several years ago that was cited by both sides in their briefs, but that more strongly supported the bankruptcy trustee’s argument. I am a pension and Social Security scholar, formerly on the Hill, and I don’t think the Court had much to support its holding beyond strong feelings that retirement savings ought to be protected. Fair enough – but IRA’s are very often tapped for a variety of purposes long before retirement. Ask anyone who’s lost a job recently, for example. The ten percent penalty and tax consequences of taking an IRA distribution into income are a disincentive, certainly – but if you really want to use that money for a house or tuition bills, you can get out of the penalty completely, and even if you don’t, it’s not a prohibition on spending before retirement in the same way as a qualified retirement plan.
Of course, it was all rendered moot by the bankruptcy bill which I believe flatly protects IRA’s in the statute – but the Court was wrong on this one.
Comment by Patricia Dilley — April 24, 2005 @ 10:23 pm