To celebrate Valentine’s Day, we at APEL Center thought once again we would put a sexy spin on an otherwise incredibly “unsexy” topic – Transmutation. After all, what says I love you like “what’s yours stays yours, and what’s mine stays mine!” All joking aside, CA is what is called a Community Property state. Thus, all property acquired during marriage is considered the asset of both spouses. That can be great for tax purposes, but what about asset protection reasons? I bet you can’t wait to find out more about this, so dive right in!
The general population sees asset protection as a legal instrument you “build”, pour your assets into it, and voila! The assets inside the trust would be protected. Well, it’s a little more complicated than that. There are other means of protection, such as gifting, use of exemptions, annuities, and so forth. This month, we will study transmutation. First of all, by definition, transmutation is a marital contract that provides that the ownership of a particular piece of property will, from the date of the agreement forward, be changed. Contrary to the joke above, a loving spouse would actually do that in order to prevent the other partner from getting exposed.
Imagine Husband (H) and Wife (W), married for a long time. However, H is in an exposed field, such as medical surgery, while W holds an ordinary job with little litigation exposure. As a form of protection, if H&W owned a home outright, H could agree to “transmute” the property owned jointly to belong to the W alone. This way, should anything happen to the H’s practice, i.e., he gets in litigation over a negligent procedure; such a lawsuit would not potentially bring the home into the case.
Keep in mind that transmutation agreements are not exempt from fraudulent transfers. Meaning there are a lot of things asset protection attorneys disagree about, but they are unanimous that timing is everything. In order for a transmutation agreement to be valid, it must be in writing, recorded, and prior to any lawsuits.
One last caveat, transmutation agreements do not incur a gift tax between interspousal gifts. However, it may result in increased income taxes if the spouses own appreciated income taxes if the spouses own appreciated property and die in an untimely order. This relates to the step-up in basis benefit, but is a bit onerous to cover for purposes of this article.
So there you have it, once again another technique in the asset protection universe. This method is especially efficient in community property states such as CA. I hope 2014 is treating you well and that success is knocking at your door! Should you come across estate planning or asset protection questions, you know who to call!