How can the assets of mom and dad be subject to a child’s divorce? Easily, depending upon in what state you live and/or in what state you own property.
In California, we are a community property state, which means that property acquired during marriage belongs to the spouse’s equally, regardless of title, and would be subject to equal distribution between the spouses on divorce. A prenuptial or postnuptial agreement can negate the community property presumption, and identify certain property as the separate property of one spouse or the other.
However, what many people do not realize is that often it is not enough that they have entered into a prenuptial or postnuptial agreement with their own spouse. It may well be very important for adult children to have these agreements with their spouses, not only to identify marital and separate property in the event of that child’s divorce, but to ensure that the parent’s estate isn’t taken into consideration in the child’s divorce settlement. That’s right. A court may look to an expectancy that the child has of an inheritance or gift from his/her parents to determine the value and nature of the divorcing child’s divorce settlement.
In California, a community property state, inheritances generally will be the separate property of the inheritor. However, what if the adult child does not live in California? Instead, what if the divorcing child lives in a state which does not make the distinction between marital and separate property? What if the divorcing child lives in a state which includes anything a spouse owns as subject to distribution upon divorce? Well, the unpleasant answer to this is that “everything a spouse owns” may well include that child’s share of a trust or that child’s receipt of gifts from the parents. What may come as even more of an unpleasant surprise, the trust share or receipt of gifts isn’t necessarily limited to distributions which have already occurred. Instead, a court may take into account the value of the expectancy of future gifts from the parents and include that in the divorce settlement.
As an example, let’s say that parents Bill and Betty set up a trust whereby their children Sally and Sam each receive income from the trust annually, and at Bill and Betty’s deaths, the children will each receive ½ of the principal. In addition, Bill and Betty have been making annual gifts to Sally and Sam of $20,000. Sally lives in Massachusetts and is divorcing her husband. In this example, it is likely that the court will conclude that Sally will continue to receive the annual $20,000 gift from her parents as well as the income she will continue to receive from the trust, and include that as property subject to distribution in the divorce. Moreover, it is possible that Sally’s future inheritance of the ½ of the principal from the trust may also be subject to Sally’s divorce now, depending upon how speculative her expectancy is. Indeed, that is what the court ruled in D.L. vs. G.L. (AC 01-P-1253) 61 Mass. App. Ct. 488 (2004).
What this means from an estate planning perspective, where families often engage in gifting programs or in establishing trusts to benefit children or other family members, is that these practices may make sense for estate planning, but they must be practiced in combination with sensible prenuptial or postnuptial agreements to ensure that those intended to benefit from these estate plans will ultimately be the beneficiaries.
Dianne Harmata is a business and estate planning attorney, with offices in Mission Valley and North County. She can be reached via email at firstname.lastname@example.org or by telephone at 619-233-4711 or 760-724-6880. Follow her blog at SanDiegoTrustLaw.com.