Debtor’s (Non-Spousal) Inherited IRA Not Exempt from Civil Judgment – IL First District Rules

Case: In re Marriage of Xenakis, 2015 IL App (1st) 141297

Fact Snapshot: The judgment debtor successfully moved to discharge citations issued to the custodian of an individual retirement account (IRA) he inherited from his deceased mother.  The judgment creditor appealed, arguing that the IRA wasn’t properly exempt from the judgment’s reach.

Result: The First District agreed with the creditor and reversed the trial court’s discharge of the citations.

Memorable Quote: “We find no indication that the Illinois legislature intended to allow a judgment debtor to exempt assets that could be spent freely and frivolously at the debtor’s whim.  The [post-judgment statute] is aimed at protecting retirement assets as opposed to funds that could, conceivably, be used to supplement the lifestyle of a non-retiree debtor.”

Reasoning:

The purpose underlying exemptions from judgments is the protection of a debtor’s essential needs.  Setting aside funds for retirement is a court-recognized example of a debtor protecting his essential needs;

– Code Section 12-1006 exempts retirement plan assets from actions to collect a judgment so long as the retirement plan is intended in good faith to qualify as one under the Internal Revenue Code of 1986;

– Code Section 12-1006 is silent on the difference between a traditional IRA and an inherited non-spousal IRA, such as the one involved in this case and is the functional equivalent of Section 522 of the Bankruptcy Code which governs debtor exemptions from the bankruptcy estate;

– The US Supreme Court has held that money in an inherited IRA does not qualify as “retirement funds” under Bankruptcy Code Section 522 1

– Funds in a non-spousal inherited IRA, on their face, are not set aside for purposes of retirement;

– Unlike in a traditional IRA, the beneficiary of an inherited IRA can freely withdraw funds at any time with no tax penalty.  In fact, the owner of an inherited IRA must withdraw its funds – either in total within 5 years of the original owner’s death or via minimum annual withdrawals 2;

– Since inherited retirement funds can be withdrawn and spent by the account holder whenever he wants, these funds don’t serve the purpose of providing a debtor with the “basic necessities of life” and so do not implicate the policies that underlie judgment exemptions;

– An inherited IRA has nothing to do with retirement since the holder can spend it at will.  It is more akin to a discretionary bank account;

(¶¶ 18-26)

After canvassing the Federal bankruptcy Code, the Internal Revenue Code, the Illinois judgment exemption statutes and the foundational rationale for the exemptions, the First District squarely held that non-spousal inherited IRAs can be attached (i.e. are not exempt) by judgment creditors.

Afterwords:

1/ Exemptions serve salutary purpose of protecting debtor from destitution and abject poverty;

2/ Retirement accounts further that prophylactic purpose;

3/ This policy of protecting debtors has limits though.  If “retirement” funds can be withdrawn and spent at will, the funds won’t be treated as retirement funds and will be within a creditor’s reach.

————————-

References:

Clark v. Rameker, 134 S.Ct. 2242 (2014); 11 U.S.C. §§ 522(b), (d).

2  26 U.S.C. § 408(d)(3)(C)(ii)(2012)

When The Person You Have A Judgment Against Has His Property Tied Up In A Trust: What Then?

images (photo credit: www.dreamstime.com; Google images (visited 11.26.14)

In earlier posts, I’ve discussed how time-consuming and frustrating it can be to collect on a money judgment.  The primary creditor enforcement methods include freezing the debtor’s bank accounts, garnishing his wages, and liening his real estate by recording the judgment in the county where his land is located.  Recording a lien against a debtor’s real estate is an especially strong tactic.  Once a creditor records the judgment, he can sue to foreclose the property and force its sale.  But where a debtor has no assets or source of income, the judgment is worthless. 

Adding yet another layer of difficulty to the collection process is where a debtor’s property is sheltered in a trust.  The most common scenario I encounter this in my practice is with real estate held in a land trust.  Typically, the property will be owned by a trustee (usually a bank) and lived in by the debtor who most likely is the trust beneficiary. 

In Illinois, a debtor’s beneficial interest in a land trust is regarded as personal property: he (the debtor) doesn’t possess a direct ownership interest in the trust real estate.  The practical effect: you can’t lien the real estate by recording the judgment since the trust – not the debtor – owns the land.  The debtor’s beneficial interest in a land trust is considered intangible personal (not real) property.  

Illinois’ post-judgment statutory scheme expressly allows a creditor to impress a lien on a debtor’s intangible property via the citation to discover assets.  Once a citation is served on the debtor, the judgment becomes a lien on all of a debtor’s nonexempt personal property (including a beneficial interest in a land trust) on the date the citation is served. 

The citation results in the judgment binding the debtor’s personal property (everything that’s not land basically: cars, jewelry, stereo equipment, stocks, bonds, etc.) in his possession or which later comes into his possession before the citation expires.  735 ILCS 5/2-1402(m)(1). 

Code Section 2-1403 (735 ILCS 5/2-1403) provides that no court can order the satisfaction of any judgment out of property held in trust if (a) the trust was created in good faith; and (b) created by someone other than the debtor.  So, if the trust was created by a third party, the trust property is protected from creditors.  However, once any trust property is distributed “out of” the trust, the creditor can attach and lien the disbursement.

Creditor’s counsel should be leery of property held in trust for the debtor’s benefit and be cognizant of other standard exemptions (property that creditor’s can’t touch) like pension funds, retirement accounts, unemployment benefits, etc. 

Assuming there is no fraud or other suspicious circumstances surrounding the trust’s creation, the trust property will be shielded from creditors.  However, once the trust income is disbursed to the debtor, it’s fair game.  The creditor should then promptly move for a turnover order or ask the court to impress a judicial lien on the trust funds being distributed to the debtor. 

Collecting Your Cook County (IL) Judgment: A Primer

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735 ILCS 5/2-1402 and Supreme Court Rule 277 govern post-judgment or supplementary proceedings in Illinois. 735 ILCS 5/12-101 through 12-183 provide additional post-judgment specifics like the mechanics of levying on a debtor’s property, the seven-year period to enforce a judgment (12-108), the lien on debtor’s real estate and personal property, enforcement in other counties, etc.

The Citation to Discover Assets

The first step is to issue a Citation to Discover Assets and Citation Notice.  The Citation and Notice of Citation are pre-printed fillable forms found on the Cook County website.

On the form, I list the name of the creditor (my client), the debtor (the person we got a judgment against), the date and amount of judgment and address of debtor.  I attach a copy of the underlying judgment and include a Rider to the Citation asking for documents relating to the debtor’s assets.

In the Rider, I usually ask for State and Federal tax returns for the past 2-3 years, a years’ worth of bank statements, six most recent paystubs, title papers to cars and real estate, and a signed statement of personal and real assets.  I may also request documents pertaining to any stocks, bonds, securities, furnishings or electronic equipment.  The larger the judgment, the more painstaking I am in my Citation Rider requests.

Section 2-1402(b-1) now requires a creditor to include an Income and Asset Form with the Citation. The debtor is supposed to fill out and bring it to the Citation hearing.  A sample Income and Asset Form is included in the statutory text.

To “issue” the Citation, I take it to the 6th floor (Muni cases) or 8th floor (Law Division) pay $80 (usually) and get it certified by the Clerk.  I am then given the “return date” which is the day it is set for hearing.

The Citation hearing will be in Room 1401 of the Daley Center (if judgment is less than $30K) or Room 2503 if the judgment is over $30K (or for judgments entered in Law Division cases).  Chancery money judgment citations are scheduled before the Chancery judge.

Serving the Citation

Once the Citation is issued, I either place it with the Sheriff or a Special Process Server (SPS).  A citation can be served in the first instance by a process server (unlike a complaint and summons – which must first be placed with the county sheriff).  I’ve found that an SPS is usually more persistent and able to track down evasive debtors with better success than the county sheriff. For this reason, I almost always serve a Citation through an SPS.

But with a corporate debtor that usually has a registered agent, I will usually serve through the sheriff (since there is less chance of dodging service).

The Citation Examination

The examination often takes place in the glamorous Daley Center hallway!  Sometimes, the judge will allow you to do the exam in a jury room.  I’ve also agreed to conduct examinations at my office or opposing counsel’s office.  However, to avoid the stonewalling debtor situation, I usually prefer to do the examination at the courthouse so I can ask the judge to intervene if necessary.

On the Citation return date, if the debtor shows up, he is sworn in by the Clerk and I conduct the examination.  I ask myself: “If this person owed me money, and I really wanted it, what would I ask this person?”  Simple as that.

I first ask if the debtor brought the requested Rider documents – such as their  tax returns, bank records, motor vehicle title, pay stubs, etc.  More often than not, the debtor brings  nothing and I have to continue the hearing for another date.  Even if the debtor shows up empty-handed, I still conduct the examination but in the continuance order, I specify which documents the debtor must produce within 7 or 14 days.  I then continue the citation hearing for 3-4 weeks.  I also reserve the right to re-examine the debtor if the documents he produces raises additional questions.

If the debtor or his/her counsel is uncooperative, threatening  or verbally abusive during the citation exam (I’ve experienced all three), I stop the exam and simply say “I’m going to have the case called”.  Usually, that results in some cooperation.  If not, and the debtor persists in not cooperating (giving “I don’t know” answers to every question) I let the judge scold the debtor for being obstructionist. In my experience, collection judges have little tolerance for a debtor that is not taking the citation proceeding seriously.

At the examination, three key questions I focus on before I look through the debtors’ documents are: (1) is he/she employed?; (2) Does he/she have bank accounts?; and (3) does the debtor own real estate?

(1) Employment: If the debtor answers yes to Item 1 (debtor has job) – I issue a wage deduction against the debtor’s employer.  You can have 15% of debtors’ gross, pre-tax wages under Illinois law under the Wage Deduction statute: 735 ILCS 5/12-801 et seq.

(2) Bank Account: If debtor has a bank account, I find out where and immediately issue and send a third-party citation to the bank’s Keeper of Records and serve it by certified mail.

Once the debtor’s bank receives the third-party citation, the bank must freeze the debtor’s account until further order of court.  I usually wait 2-3 days to send the debtor notice of the third-party citation.  Otherwise, if the debtor catches wind of the third-party citation, he/she can race to the bank, empty his/her accounts and you will get nothing (and NOT like it).

(2)(a) The Third-Party Citation

I have found a third-party citation to be a very  powerful enforcement tool.  People don’t like it when they can’t withdraw money from their account (individual) or make payroll (corporate debtor).

But, more often than not, the debtor’s bank account has little or no money in it.

Illinois law also has a $4,000 catch-all exemption: a debtor can declare up to $4,000 in his account as exempt (this is good information for someone representing a judgment debtor).

Example: debtor’s bank answers the third-party citation that the debtor has $4,050 in his/her checking account.  The debtor could declare $4,000 exempt and you (the creditor) would only get a paltry $50.  The burden is clearly on the debtor to claim this exemption.

The third-party citation will have a separate “return date”.  I try to schedule both the underlying “first party” citation (the one against the debtor) and third-party citation (against the debtor’s bank, e.g.) on the same day.

If the bank (or other third party respondent) files an answer stating that the debtor does have funds on deposit, I request a Turnover Order.  This is a court order which requires the bank/third-party to remit funds to the creditor’s counsel.

Once the turnover order issues, I send it to the bank/third-party with a letter saying “enclosed please find a copy of today’s order requiring you to turn over the sum of $____ within 7 days.  Please remit to the undersigned and make your check payable to_____”.  If the bank fails to pay (a rarity), I move to vacate the dismissal of the third-party citation and request that a conditional judgment enter against the bank. This almost always gets the bank’s attention since it doesn’t want to deal with a money judgment against it.

(3) Real Estate

If the debtor owns real estate, I record a Memorandum of Judgment against the property.

The Memorandum of Judgment must be signed by the judge that entered the underlying judgment (not the 1401 judge).  So, if a Muni judge entered it (on the 11th floor), you must have that judge sign the Memorandum.  If you forget at the time of judgment, simply file a motion requesting the judge to sign the Memorandum.

I attach a legal description to the Memorandum of Judgment along with the real estate PIN number.  Then, I record the Memorandum in the Recorder of Deeds.  For a Chicago-land debtor, I record in the Cook County Recorder of Deeds.  This puts a cloud on the debtor’s title.  The lien will interfere with the debtor’s attempts to refinance or sell his property.

If there is equity in the real estate, I can file suit to foreclose the lien and force a sale of debtor’s property.  But, before I do this, I run a title search – or at least check Cook County Assessor’s and Recorder of Deeds site to determine any prior recorded liens on the property.

A prior mortgage or other lien will trump my judgment lien and can make foreclosing the lien ( forcing a sale of the property) cost-prohibitive.

If the debtor answers that he has non-exempt personal property (e.g. car, jewelry, furniture, etc)., I explore whether the client wants to levy on the property.  Usually, it involves placing documents with the Sheriff and posting a bond.  This is where 735 ILCS 5/12-101-183 comes into play.  Levying on personalty can be time-consuming and expensive.

Other exemptions a debtor can assert in citation/supplementary proceedings are found at Section 2-1402(b)(1) and include unemployment benefits, Social Security benefits, worker’s comp benefits, $2,400 in car, $15,000 in home, $4,000 catch-all exemption among others.

Conclusion

There are many more details and nuances to collecting on a judgment.  But the above steps are a good starting point for a collection attorney trying to enforce a judgment for his client.  I can tell you this: when you are able to recover monies in citation proceedings through dogged efforts, clients are very appreciative which is very gratifying.