The Basics of Inheritance and Divorce Planning
Updated: Jul 26, 2022
I had the opportunity to sit down with Dana Stewart with Grinke Stewart Family Law and we had a conversation about inheritance planning and divorce planning as they have some overlapping themes that were uncovered. We reviewed the basics of divorce proceedings as well as more focus on what it means to live in a community property state and how that ties into inheritances. Our full interview can be found here; however, a summary of what we discussed can also be found below.
When talking about inheritance planning, the best way to look at it is reviewing how it would be categorized and to whom it would be attributed in the event of a divorce. To start, since many of us have no context of what divorce proceedings look like, we have the following stages below but I am going to highlight the ones that stood out to me:
Source: Grinke Stewart Family Law
Filing of Petition for Divorce. In this initial state the thing I found to be especially interesting is that just because someone lives in a state now doesn’t mean that’s where the divorce proceedings will necessarily take place. If a couple were to separate and one moves to another state but then satisfies the residency requirement of that state, they could file in a different state with completely different rules.
Discovery. In this fourth stage this is where the ledgers and books come out to determine the assets and what belongs to the couple that is subject to the “that’s mine and this is yours” proceedings. This is where the concepts of what is community property and what is separate property comes into play that we discuss more below.
Settlement Conferences and/or Mediation. The interesting thing about this is that most divorces settle in the mediation state (something is the 93% range even perhaps). The movies and headlines of people in long drawn-out divorces are not as common as you may think.
When it comes to business owners and divorce planning, there’s risk in both partners getting a divorce and that divorce forcing a payment plan or even an outright sale – especially in situations where a spouse cannot own the business because of licensing. The best thing to do is to try to have enough liquidity where if something happens it doesn’t mean the end of the business but a speed bump along the way.
The big thing we discussed was looking at community property and what that means. In general, if you live in a community property state like Texas, there is an assumption that everything you own with your spouse is jointly owned together and it is marital property. That means if a divorce ever were to occur, all marital property is getting divvied up. There is an exception to the rule, and that exception is something called separate property.
Separate property consists of a few different categories. To start, property is that acquired prior to marriage is considered separate property. For example, if you had a house before getting married and then you turned that house into a rental property after getting married and kept it just in the original owner’s name, that house would be considered separate property. Where this can get more complicated, however, is that the income received by renting it can be considered marital property and using that income to fix the house up and sell it could mean a spouse has some ownership in that property.
The next example of separate property is proceeds from a lawsuit. If one spouse gets into a car accident and ends up with a settlement, part of that settlement could be considered separate property if the payment is given for pain and suffering and it is placed into an account that is separate in the one spouse’s name.
Last, but not least would be inheritances and gifts which are also considered separate property. If grandparents wanted to gift their child $30,000 for a down payment on a house, that money could be seen as separate property if it was made clear that it is a gift to that one child and not a gift to both spouses. The same would be for an inheritance as long as the beneficiary was the individual themselves. For example, if a wife’s parent passed away and she received investments totaling $500,000, that account would be considered separate property as long as she kept it titled in just her name and didn’t cause a mixed characterization of the funds.
What a mixed characterization of the funds is equivalent to is co-mingling the funds and putting separate property together with marital property. In the example above, if this wife took the $500,000 and added into that account by having her Social Security check deposited in there, and then used some money to pay for a home renovation which she put back in the account later on – all that is co-mingling the funds and it can lend itself to reducing the balance considered separate property. The best thing to do is truly keep an account like that separate.
Last, we discussed the difficulty of proving all this during court proceedings and how it’s important for spouses to know where the accounts are and the balances so that if something ever were to occur, you know what the true situation is and have some documentation ideally.
Inheritances and divorces are a part of our lives and the lives of our loved ones. Knowing the basics is important so please feel free to reach out with your specific situation when the times comes for your planning.
The information contained in this blog does not purport to be a complete description of the securities, markets, or developments referred to in this material, and does not constitute a recommendation. Any opinions are those of the author, and not necessarily those of Raymond James. Raymond James is not affiliated with and does not endorse the opinions or services of Dana Stewart or Grinke Stewart Family Law. Raymond James does not provide tax or legal services. Please discuss these matters with the appropriate professional.Expressions of opinion are as of this date and are subject to change without notice. There is no guarantee that these statements, opinions, or forecasts provided herein will prove to be correct. This material is being provided for information purposes only. Prior to making an investment decision, please consult with your financial advisor about your individual situation.