Besides the tax benefits which provide the incentive to save for retirement, Individual Retirement Accounts contain another valuable quality that is less well known and often not appreciated until the owner needs it. Individual Retirement Accounts, as well as other qualified retirement plans, are not subject to claims by creditors. Both Illinois law and the Federal Bankruptcy Law prevents creditors from attaching the IRAs to collect debts, and considering that modern Americans live in the most litigation happy society in history this is no small benefit.
Now that IRAs have been around for almost 40 years and many deceased owners have passed their IRAs on to their heirs, some lawsuits have raised the questions whether the creditor exemption applies to the heirs or merely to the original purchasers. Unfortunately, the law is not yet settled on this point. In 2010 there were two reported cases of a bankruptcy trustee challenging whether a debtor can protect his inherited IRAs, and two bankruptcy courts came down with contradictory decisions.
This spit by the courts makes it hard for a bankruptcy lawyer to give a definite answer to the holder of the inherited IRA, but my advice would be to keep the inherited IRA in place. For one thing the view in favor of the exemption might ultimately prevail. Furthermore, one of the principals of asset protection is that creditors often will leave an asset alone that is difficult to collect on even if it is not impossible, and the fact that the creditors do not have a definite answer either will probably convince them to let the inherited IRA alone in many cases.
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