Can Debt Be Collected from a Retirement Account (IRA)? Here’s the Legal Position in the USA

An individual retirement account is commonly known by the abbreviation IRA. It is a savings account in which people can pay income to save for their senior years while enjoying specific tax advantages.

In the USA, self-employed people primarily open individual retirement accounts because they cannot access workplace retirement accounts like the 401(k), which is only accessible through employers.

Several IRAs are available, including Roth IRAs, Savings Incentive Match Plans for Employees IRAs, and Simplified Employee Pension IRAs.

Typically, the money saved in an IRA cannot be withdrawn before the age of 59½ without paying a tax penalty of 10% – which is a lot!

You can open an individual retirement account through a bank, an investment company, a personal broker, or an online brokerage.

If you have an IRA or are considering opening one, you may want to know whether debt can be collected from the account. Well, let us find out by looking at the legal position in the USA.

Can debt be collected from an IRA?

Creditors can potentially garnish your IRA to collect a debt that you owe. Unlike 401(k) plans and other retirement savings plans, IRAs are not covered under the Employee Retirement Income Security Act. 

Bankruptcy Exemption

Although creditors can collect a debt from an IRA, you have federal protection for your account if you declare bankruptcy.

However, because evil people can put all their money into an IRA to avoid paying creditors in the event of bankruptcy, the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 set a limit for IRA exemption.

As of April 2022, the limit is set at $1,512,350.

Federal Exemption

Apart from the partial exemption for bankruptcy, no federally-mandated exemptions from IRA garnishment are in place. That means the savings in your IRA can be garnished to pay off any federal debts, such as back taxes owed to the Internal Revenue Service.

State Exemptions 

The precise details surrounding debt collection from IRAs depend on which state you live in, as conditions in the USA can choose whether to adhere to the federal exemption system or come up with their design.

Apart from federal creditors like the Internal Revenue Service, states can restrict creditor access to IRA funds.

For instance, in New York, IRAs are fully exempt from non-federal garnishment. In other states, IRAs are exempt under specific conditions, such as the exemption only applying to funds that are deposited more than 120 days before bankruptcy has been declared.

Also, some state exemptions apply to the amount in an IRA deemed necessary to support yourself, your spouse, and your dependents; some states cap that amount while others do not.

So, if you have an IRA or are considering opening one, such as a retirement account from Sofi, look up state exemptions from learning about your location’s specific rules and legalities.

Should you get an IRA?

Yes! While the decision is yours and yours alone, if you are self-employed, getting an IRA is an excellent idea as it is a great way to save more money for your retirement. Just be aware that debt can be collected through your IRA.

But as long as you actively avoid debt, creditors will not knock on your door and collect the money you owe from your retirement account.