Protecting separate property claims in complex asset cases

Effective estate planning is critical in safeguarding separate property claims, particularly in cases involving complex assets. A thorough understanding of the legal distinctions between community and separate property is essential to prevent unintended transmutation. This article examines the legal framework governing property characterization, the stringent requirements for a valid transmutation, and best practices estate planners should employ to ensure the accurate reflection of a client's intent in estate planning documents.

Estate planning and transmutation

Be careful when establishing or making changes to your estate plan so that separate property is not changed to community property, unless one intends to make that change. Community property includes all property acquired during marriage wherever situated. Family Code Section 760. Separate property includes all property owned by the person before marriage; all property acquired by the person after marriage by gift or inheritance; and the rents, issues, and profits of the property owned before marriage or acquired after marriage by gift or inheritance. Family Code Section 761. Estate planners need to understand characterization of community property and separate property so that they dispose of the property as desired and do not "transmute" separate property to community property in the estate plan. 

A valid transmutation of real or personal property must be made "in writing by an express declaration that is made, joined in, consented to, or accepted by the spouse whose interest in the property is adversely affected." Family Code Section 852 for transmutations after Jan. 1, 1985 (and prior to that date case law at the time controls). The requirement for an express declaration is a rigid and difficult test to meet. The express declaration must unambiguously indicate a change in character or ownership of property. Estate of MacDonald (1990) 51 Cal.3d 262, 272; In re Marriage of Starkman, 129 Cal.App.4th 659, 664 (2005). Three cases found a transmutation: In re Marriage of Lund,174 Cal. App. 4th 40 (2009), where the language used the words that the property "is converted" from "separate" to "community"; In re Marriage of Holtemann, 166 Cal.App.4th 1166, 1173 (2008), where the word "transmutation" was used several times, pointedly, and with use of counsel; and In re Marriage of Kushesh & Kushesh-Kaviani, 27 Cal.App.5th 449, 452 (2018), where  the deed stated "Interspousal Transfer Grant Deed", "transfer" and "grant(s)" from husband to wife "as her sole and separate property."

In Starkman, supra, an estate planning case, the Trust Paragraph 2.03 provided as follows: "Settlors agree that any property transferred by either of them to the Trust ...is the community property of both of them unless such property is identified as the separate property of either Settlor. If either Settlor claims that a portion of the Trust Estate is separate property, the Settlor making such a claim agrees to indemnify the Trust and the Trustee from all costs and liability incurred in establishing or defending such claim. Settlors declare that any community property transferred to the Trust shall retain its character as such, notwithstanding the transfer to the Trust." Id. at 666. The spouses signed a General Assignment which "conveyed 'any asset, whether real, personal, or mixed ... [they] now own or which we may own in the future' to the Trust." Id. at 662. Significantly and of utmost importance, the "General Assignment did not specifically exclude any property that [husband] intended to remain as his separate property." Ibid. The appellate court concluded that neither provision "unambiguously" established that husband was changing ownership of his "significant separate estate." Id. at 665. The court in dicta observed the "express declaration" requirement might have been satisfied if the trust contained language stating the property transferred to the trust "becomes" or "is changed into" the community property of the parties. Ibid.

Allan B. Cutrow of Mitchell Silberberg & Knupp LLP explains that it is imperative that estate planners are knowledgeable about community and separate property characterization issues. He notes that "estate planners representing both married or divorcing clients have a conflict depending on who they represent and should obtain a conflict waiver and/or advise the clients to consult with other counsel." Best practice would be to be clear with one's role in determining character of all property and to consult family law counsel regarding the characterization issue if a significant part of the estate and if the separatizer desires to maintain the separate claim and avoid transmutation concerns. In some cases, a consult with a forensic accountant would assist with the separate property issues where the separate property has been commingled.

It is important to use carefully crafted language in estate plans to ensure that the intent is clear if not intending to change the character of the property. Importantly, if the intent is to create a transmutation then specific language for an express declaration that the property is changed must be used. Wise counsel consult with a family lawyer about a transmutation agreement to ensure that all of the elements are satisfied and that the client understands any character changes. Estate planners should be mindful of property character when considering estate plan changes for tax planning purposes, succession planning, and/or loan planning/eligibility purposes that may impact a future divorce. Since marriages end in death or 50% end in divorce, prudent counsel must consider both when creating an estate plan for their clients. 

This is the first of three articles exploring key issues in protecting separate property claims in complex asset marital dissolution cases for estate planners, business managers, financial experts and business owners.