Same Dollars, Different Treatment: Tenth Circuit Holds That Distributions From a Retirement Plan Do Not Fall Within the Colorado State Law Exemption Statute

Contributed by Debra McElligott
Although almost all of an individual debtor’s assets become property of the estate upon a bankruptcy filing, certain exceptions exist to the rule at both the federal and state level.  In some jurisdictions, funds held for a debtor in retirement plans are exempt assets.  An open question, however, is whether payments distributed from such plans prior to the petition date are also exempt assets.  The United States Court of Appeals for the Tenth Circuit recently held in Gordon v. Wadsworth (In re Gordon) that these payouts are not exempt assets under Colorado’s exemption statute, relying on the plain language of the statute and legislative intent to support its decision.  
The Debtors’ Assets
Two individual chapter 7 debtors held assets that included a 401(k) retirement account and a savings account holding prepetition distributions from the retirement account.  The debtors sought to treat the savings account as an exempt asset under Colorado’s bankruptcy exemption statute, which exempts, among other things, “[p]roperty . . . held in or payable from any pension or retirement plan or deferred compensation plan, including those in which the debtor has received benefits or payments, has the present right to receive benefits or payments, or has the right to receive benefits or payments in the future . . .”  The Trustee objected, arguing that the exemption does not apply to funds that have been paid out from a retirement plan.  The United States Bankruptcy Court for the District of Colorado sustained the Trustee’s objection and denied the debtors’ motion for reconsideration.  The United States District Court for the District of Colorado affirmed.  The Tenth Circuit reviewed the lower courts’ interpretation of the state statute de novo.
Plain Language
The Tenth Circuit began its analysis by examining the plain language of the statute.  The debtors argued that the statute’s references to “benefits or payments” extend the exemption to payouts from a retirement plan.  The court, however, held that “no rational interpretation of this language” leads to the conclusion that “benefits or payments” are exempt under the statute; rather, the words are merely used to describe retirement plans that qualify for exemption.  The court also noted that, even though Colorado liberally interprets statutes granting exemptions from creditor actions, there is no support in the statutory text for the debtors’ argument.
Use of Property
The debtors also argued that Colorado law generally does not limit how a debtor may use exempt property, claiming that where a statute does not expressly limit the use of property, courts should not infer limitations that would restrict or defeat the purpose of an exemption.  With respect to the retirement plan exemption, the debtors argued that nothing in the statute suggests that it protects “only” retirement assets “held in or payable from” retirement plans, or only protects them “for so long as” they remain in such a plan.  The court rejected this argument as well, stating that the state legislature is explicit when proceeds are exempt; for example, the words “proceeds of” are specifically used to exempt life, fire, and casualty insurance payouts, and the phrase “all money received” is used to exempt military pensions.  Based on these portions of the statute, the court held that if the legislature intended to exempt proceeds from a retirement plan, it would have explicitly done so.
Legislative History
The debtors also argued that the court should interpret the statute consistently with a repealed garnishment exception that had previously been interpreted to protect retirement benefits received by a debtor.  The repealed statute exempted 75% of “disposable earnings” from garnishment, defining “earnings” to include “avails of any pension benefits.”  The statute also defined the term “avails of any pension benefits” as “profits or proceeds in any pension . . . plan . . .”  The Tenth Circuit noted that the legislature changed both the structure of and terminology used in the statute and that this alteration more likely signals the legislature’s intent to change the law rather than to uphold its prior meaning.
Broader Scheme
Finally, the debtors argued that the court’s interpretation would run counter to the purpose of Colorado’s broad exemption scheme, relying on two other statutes to support their argument.  First, the debtors relied on a subsection of the exemption statute stating that “notwithstanding” the statutory exemption, any pension or retirement benefit or payment shall be subject to attachment or levy to satisfy arrearages for child support or child support debt.  The debtors argued that applying the lower courts’ interpretation of the exemption statute in the unpaid child support context would make the subsection meaningless, as there would be nothing to “notwithstand” if distributions from a retirement plan are not exempt.  Second, the debtors relied on Colorado’s definition of “earnings” subject to garnishment for the purposes of collecting child support, which includes “pension or retirement benefits or payments.”  The debtors argued that the lower courts’ interpretation would make the definition of “earnings” meaningless if payments from a retirement plan are not exempt.  The Tenth Circuit disagreed, holding that a reasonable interpretation of these statutes is that notwithstanding the general exemption of retirement plans from creditor actions, a party owed child support obligations can garnish the plan to obtain a percentage of payments thereunder.  Otherwise, the creditor would have to wait until the plan’s distributions were made to collect support from the funds.
In the context of section 541 of the Bankruptcy Code (which creates the estate as of the commencement of the case) and the facts of this particular case, the court’s decision in Gordon appears applicable only to the treatment of funds transferred prepetition.  It is worth noting that the court does not directly address how the distributions would have been treated if they were made postpetition.