What Does ‘Community Property’ Mean?
Community property refers to property acquired by one or both spouses during the marriage, provided the spouses live in a state that has a community property framework, says The Milwaukee Business Journal’s recent article entitled “Is what’s mine, ours? Understanding community property.”
There are not many community property states. That is because most states have adopted common law of property laws. The only community property states are Louisiana, Arizona, California, Idaho, Nevada, New Mexico, Texas, Washington and Wisconsin. Several other states’ laws allow residents to “opt-in” to a community property regime. These states are Alaska, Tennessee, Kentucky and Florida.
While community property laws in the nine community property states differ in a number of ways, they all classify property either as community property—which is owned one-half by each spouse, or separate property, that which is solely owned by one spouse.
For example, in Louisiana, community property is referred to as being under the “community regime”, the default property regime for married persons in Louisiana. Community property is property acquired during the marriage, and it usually includes the income from separate property (unless a declaration is paraphernality is signed and delivered to the other spouse).
Separate property is generally property acquired prior to the marriage, as well as gifts/inheritances during the marriage. Significantly, any income from separate property is generally community property. For example, if you have $100,000 in a bank account before the marriage, and the account earns 5% interest (resulting in $5,000 of income) during the marriage, and at the end of the year $105,000 is in the bank account, $5,000 is community property, and the original $100,000 is separate property. This is important because over time, a separate property bank account may lose its character as separate property if you are not careful. To change this result, you need to sign and deliver a “declaration of paraphernality” to your spouse to make sure that the income (the $5,000 in this hypothetical) is classified as your separate property.
Any property acquired during the marriage is deemed to be community property, and any property, of either spouse is presumed to be community property (unless the property claiming it is separate can prove that it is separate). In a common law property regime, property is owned by the spouse whose name is on the title.
In answering the question”What Does ‘Community Property’ Mean?”, it is important to remember that a basic feature of a community property legal framework is that title does not indicate ownership. Therefore, if a married couple deposits income earned during their marriage into an account titled only in the husband’s name, it is still owned one-half by the wife despite the fact that her name is not on the account.
Also, when answering the question, “What Does ‘Community Property’ Mean?”, remember that whether assets are classified as community property or separate property can have a significant effect on a couple’s life, including issues in estate planning, income and estate tax planning and creditors’ rights.
As far as estate planning, each spouse can only dispose of one-half of community property at his or her death. Under Section 1014 of the Internal Revenue Code, community property also gets a “double step up in basis,” which means that built-in appreciation on community property is eliminated at the death of the first spouse to die. This is a great tax benefit of living in a community property state. For example, if a husband and wife purchased land for $50,000 many years ago and it is now worth $200,000, there is a $150,000 “built in” capital gain which is potentially taxable income. However, upon the death of the husband (with the wife surviving), both the husband’s half (valued at $100,000) and the wife’s half (also valued at $100,000) gets a step-up in basis to $200,000 eliminating the capital gains tax on both halves. If the wife inherits to husband’s half, she can sell the proeprty for $200,000 and will not have to pay federal or Louisiana state income taxes on the sale. This is because $200,000 sale price minus $200,000 new “stepped up” basis equals $0 taxable income.
Finally, the classification of an asset as community or separate property can affect whether a creditor of one spouse can recover from that asset.
Importantly, should one of the spouses need to apply for Medicaid long term care assistance, a needs based program, even if the non-applicant is the one that has significant seprate property (with the applicant spouse being significantly poorer), Medicaid will still count the seprate property assets of the non-applicant spouse. This is why long term care planning is important for everyone, even those who have significant separate property and those that have entered into premarital agreements.
Ask an experienced estate planning attorney who understands Medicaid qualification as well as federal and state income tax law about how community property laws may affect your financial and estate planning.
BOOK A CALL with me, Ted Vicknair, Board Certified Estate Planning and Administration Specialist, Board Certified Tax Law Specialist, and CPA to learn more about estate planning, incapacity planning, and asset protection.
If you liked this article, “What Does ‘Community Property’ Mean?” read also these additional articles: Can My Ex Get Some of My Estate? and Will Eating More Fish Help Me Stay Healthy? and What’s the Best Way to Mess Up Estate Plan? and How Does a Trust Fund Work?
Reference: Milwaukee Business Journal (Jan. 1, 2022) “Is what’s mine, ours? Understanding community property”