Community property: Definition, states that follow it and more

What happens to your home if you die? Does your spouse automatically take over full ownership? If you live in the nine U.S. states with community property laws, yes – if you and your spouse acquired the home during your marriage.

What about if you and your spouse divorce? Do you automatically take over at least partial ownership of the home you purchased and assets that you and your spouse acquired during your marriage? Again, if you live in a community property state, yes.

And if you don’t live in one of those nine states? Who gets the home might depend on whether both your name and your spouse’s name are on the property’s title or what your spouse spelled out in a will.

What is community property and how will it impact who inherits the assets that you and your spouse acquired during your partnership? Read on to find out.

What is community property?

Sometimes referred to as marital property, community property is a legal framework in nine U.S. states spelling out how property and assets are distributed in a divorce or upon the death of a spouse.

In community property states, each spouse owns a share in all income, assets and debts, no matter who earned this income, purchased these assets or racked up the debts. In some states, the spouses own everything 50/50, while in others a judge may determine who owns what percent of the share.

If you and your spouse divorce, your home, savings and debts are split equally or equitably, even if you earned most of your household’s income and even if your name is the only one on your home’s title.

The exception? Any assets that you or your spouse acquired before your marriage remain with the spouse who earned them. If a spouse dies, a home that the spouse purchased before the marriage can still go to the remaining spouse, but this arrangement will typically need to be included in a will to avoid any confusion or supersede any claims from others hoping for the property. If you want to divide property and assets in a certain way, make sure to speak to an estate planning attorney or other expert.

Where did community property originate? 

While their exact origin has yet to be determined, community property laws have been traced as far back as to ancient civilizations. The goal of community property laws is to provide legal and financial protection to spouses who might suddenly face financial distress after a divorce or the death of a partner.

These rights were especially important to women, who often lacked many of the same financial and legal protections afforded to their husbands.

Community property laws, then, were often drafted to ensure that women could support themselves and have a place to live when their husbands divorced them or died.

How does community property work?

Say you and your spouse own a home valued at $600,000. If you get divorced in a community property state – and you and your spouse did not sign any prenuptial agreement stating otherwise – you and your spouse may have equal rights to that home.

If one spouse wants to keep the home, the spouse would have to pay the other $300,000, the other spouse’s share of the home. If you and your spouse decide to sell the home, you’d split the profits from the sale evenly.

The same holds true of other assets acquired during the marriage. If you and your spouse own a car valued at $20,000, whichever spouse keeps the car would have to pay the other spouse $10,000 – that spouse’s share of the vehicle. Any money, stocks or other investments acquired during your marriage would be handled the same way.

Community property laws govern debts, too. Say you and your spouse racked up $10,000 in credit card debt during your marriage. Both you and your spouse are equally responsible for this debt, even if your name isn’t on the credit card accounts.

What if your spouse dies? In community property states, you’d typically take over sole ownership of assets such as your home, cars and the money in your bank accounts, as long as those assets were acquired during the marriage.

What Isn’t Included Under Community Property?

Different states have differing rules on what counts as community property. In general, though, the following items are not shared equally by both spouses after a divorce or death under community property rules:

• Property owned before the marriage: If you purchased a house or any other property before you got married, that home and those assets will remain yours following a divorce, unless you signed a prenuptial agreement stating differently.
• Inherited or gifted property: If someone bequeathed you, and only you, a car, vacation home or other property, you can keep it following a divorce. Inherited property is not considered shared property between you and your spouse.
• Property listed in a prenuptial or postnuptial agreement: If you and your spouse signed a prenuptial or postnuptial agreement stating, for instance, that one spouse keeps the home, a car or certain stocks and bonds following a divorce, you won’t have access to those listed assets. Legal agreements you sign with your spouse take precedence over community property laws.

How does community property affect estate planning?

With careful estate planning, you can guarantee that your assets are divided among your loved ones in the way you prefer. Community property laws can impact this planning.

Change of domicile

Most states are known as common law states. In these states, the assets that one spouse earns belong solely to that spouse, even if the assets are acquired during the marriage. Say you use your own money to purchase a car. If you and your spouse divorce, you keep the car because you paid for it. If both you and your spouse’s name are on the title to your home, though, you both have ownership rights to that property, even if your income covers the money and you paid for the down payment.

What happens when you move from a community property state to a common law state? You and your spouse will each keep your half-interest in all property that you accumulated during your marriage while you lived in the community property state. After you move to a common law state, the new assets that you acquire while married remain with whichever spouse acquired them.

As you can see, estate planning can get complicated when you move from a community property state to a common law state, unless you specifically state who gets which assets in a will or prenuptial or postnuptial agreement.

Divorce 

When you divorce in a community property state, the assets that you and your former spouse acquired during your marriage are split evenly. If you purchased a home, the spouse who wants to keep the home after the divorce must pay the other spouse 50% of the home’s value, for example.

Assets that you acquired before your marriage are not split. If you purchased a vacation home before your marriage and kept it during this marriage, you keep it after the divorce.

Again, exceptions can occur depending on any prenuptial or postnuptial agreements you and your spouse signed. Maybe your postnuptial agreement states that any investment real estate you acquire during your marriage will be passed onto your children and not your spouse if you divorce. In such a case, a judge would follow what’s stated in your agreement.

Death

Who maintains property rights to a home or other property when one spouse in a community property state dies? In most cases, it is the surviving spouse. If you die, your spouse takes over full ownership of your home, even if that spouse’s name is not on the home’s title.

If you purchased the home before your marriage, it gets more complicated. The home could start out as what is known as separate property, property owned by one spouse but not the other. In this case, the home might not automatically go to your spouse. But if your spouse contributed to paying the home’s property taxes or contributed financially to home renovations, the property could transform into community property and would again go to your spouse if you die.

You can also spell out a different scenario in your will if you purchased the home before your marriage, stating, maybe, that you want the home sold and the proceeds split between your spouse and children.

Physical separation

If you live in the states of California or Washington, a community property estate can be terminated when spouses are physically separated with the intent to permanently end their marriage. An examination of the facts and circumstances will be reviewed on a case-by-case basis, but the actions and conduct of both spouses must reflect that there is no intention to resume the marriage before a termination can apply.

What states have community property laws?

Community property states are rare. Only nine follow this framework for dividing property following divorce or death. Keep in mind, though, that community property states aren’t all the same. Some have unique rules. It’s best to speak to an attorney in your state to learn how community property rules work in your location.

The nine community property states are:

• Arizona
• California
• Idaho
• Louisiana
• Nevada
• New Mexico
• Texas
• Washington
• Wisconsin

States with optional community property systems

Alaska is unusual. While it is not a community property state, it does allow married couples to choose the community property system for dividing their assets in the case of divorce or death. Married couples in Alaska must sign a contract stating that they are choosing this option.

Are there tax consequences to living in a community property state?

The tax consequences of living in a community property state can be complicated, so it’s best to speak with an attorney familiar with your state’s tax code.

These tax consequences usually center around determining the cost basis of an inherited property or gift.

If you inherit an asset from someone, say shares of stock, that asset might qualify for a step-up in basis. This changes the cost basis of an inherited asset from its original purchase price to what might be a higher market value on the date of its previous owner's death. This means that you might not have to pay capital gains tax on those shares.

In community property states, spouses can take advantage of what is known as the double step-up in basis. According to this rule, the surviving spouse will also receive a step-up in basis for community property acquired during a marriage after a spouse dies.

Are there variations of community property laws?

Not all states follow the same set of community property laws. Here is a look at some of the variations of community property law that might be available in your state: 

• Absolute community property: Under absolute community property, all property owned by either spouse becomes jointly owned by both upon marriage. You can specify that certain assets be exempt from this if you and your future spouse sign a prenuptial agreement before marriage.
• Community of acquests and gains: In this form of community property, each spouse owns a half interest in all the property that the couple acquired during the marriage. This is how community property rules usually work in the United States. Assets that are excluded from community property include gifts made to one spouse, assets inherited by only one spouse, property acquired before the marriage or property that one spouse acquired during a time in which the spouses were permanently living apart.
• Community of profit and loss: This is similar to the community of acquests and gains version of community property laws, but spouses are individually responsible for any debts that they acquired on their own. In such versions of community property, if your spouse racked up thousands of dollars in credit card debt on a card solely in that spouse’s name, and you didn’t use the card yourself, you are not responsible for paying off that debt.

Can you avoid community property laws?

It is possible to avoid the repercussions of community property laws even if you live in a community property state. Here are some steps that you can take.

Sign a prenuptial agreement (prenup) 

Signing a prenuptial agreement before you get married will give you more control over your property and other assets if you eventually divorce your spouse in a community property state.

In a prenuptial agreement, you can write exactly how you want your savings, real estate, vehicles and other assets split after a divorce. If you and your future spouse both sign this agreement, its stipulations will then take precedence over community property law.

You and your spouse might agree that the family home will be sold, and that you will then split the profits from this sale 50/50. Or you might decide that your favorite car stays with you after the divorce. If you don’t agree to this in a prenuptial agreement, the rules of community property assert that you would be required to pay your spouse half of what the vehicle was worth if you wanted to keep it following a divorce.

Draw up a will 

You should also draw up a will when estate planning. This can be especially important when you live in a community property state.

A will outlines how your estate, including your home, savings, stocks, vehicles, investment properties and other assets are divided among your beneficiaries after your death. You can state, for instance, that you want half your savings to go to your children and half to your spouse. You might stipulate that your vehicles be sold, with a quarter of the proceeds going to your children and 75% to your spouse.

The bottom line

Understanding how community property or common law property systems work – depending on the state in which you live – is essential to making sure that you can protect your assets following a divorce and that you can bequeath them to your beneficiaries according to your wishes following your death.

But don’t let the state rules prevent you from purchasing a home if you’re ready for homeownership. You can take steps to protect your property even in a community property state.

If you are ready to become a homeowner, apply for initial mortgage approval with us today.