And worked hard throughout all the years of your marriage in order to achieve your financial goals.
But now that you’re facing a divorce, you have questions about community property and exactly how the division of assets and liabilities works.
You’ve heard that for couples divorcing in a Community Property state, spouses split everything 50-50, but you don't know how to decipher community property vs separate property, how to untangle assets or debts that have been co-mingled during the course of your marriage and whether or not you and your spouse actually get a say in how to divide your property and debts in a fair and equitable way.
You also want to make sure that all the income you worked so hard to earn doesn’t wind up getting wasted on divorce attorneys and outrageous legal fees.
Community Property States
The states having community property are California, Washington, Wisconsin, Arizona, Texas, New Mexico, Louisiana, Nevada and Idaho.
When it comes to getting a divorce in a community property state, community property division is one of four topics that must be discussed, negotiated and resolved along with:
Alimony / Spousal Support / Maintenance
And Child Support
A “community” is comprised of two people and is formed when a couple legally marries or registers a domestic partnership.
In a community property state, any property or debts acquired by one and/or both members of the community during the marriage or domestic partnership, in theory, belongs equally to both parties.
Any property, cars, boats or other vehicles purchased, accumulated income and savings, 401(k)'s, stocks and bonds, etc. acquired during the marriage (or domestic partnership) are presumed to belong to both spouses or domestic partners – i.e. the “community.”
Similarly, any mortgages, credit cards, car loans or other debts accumulated during the marriage (or domestic partnership) also belong to the community - regardless of which spouse or domestic partner actually acquired the income (or community asset) or incurred the debt during the marriage (or domestic partnership).
What is Separate Property in Divorce?
Unlike community property, separate property is anything the spouses can prove they owned or owed before the marriage, and continued to keep completely separate during the marriage.
Some examples of separate property include, but are not limited to:
Inheritances and/or gifts received during the marriage;
Property acquired while one or both spouses were living separate and apart;
Any property acquired using separate property (funds);
And any property acquired after the couple's date of separation.
What is Transmutation (Transmuted Property) in Divorce?
Transmutation occurs when the characterization of a piece of property changes during marriage.
As a married couple, spouses reserve the right to make:
Separate property into community property; or
Community property into separate property; or
The separate property of one spouse, into the separate property of the other spouse.
And while changing the characterization of property is one part of the equation, it also needs to be done via written agreement. Documenting and agreeing that the property changed from one form to another.
Without a written agreement, unless you're able to prove using something called the tracing principle where you clearly show how the property went from one form to another, and the property in question has been transmuted, the property will be considered to take on it's original form.
That is - community property or separate property.
How Does Community Property Work with Respect to Division of Assets and Liabilities?
Some people think that every community asset acquired, or debt incurred during a marriage will be split right down the middle during a divorce.
And any piece of separate property, or debt acquired prior to marriage, will remain with the spouse who acquired them and not be subject to division. Factoring in, of course, any transmuted property.
But like everything in divorce, resolving the issue of community property is not as simple as it might appear on the surface...
There are a few things you need to understand about the challenges surrounding the division of community property and debts in a divorce:
The division of community property and debts in a divorce does not have to be 50-50;
There is more than meets the eye on this subject and in the majority of cases, this issue is much too complex to try to resolve on your own.
That's why you’ll get the best result by mediating with us.
"There’s a lot more to community property in divorce than just taking everything you own and owe and splitting it down the middle.
You might not realize the flexibility you and your spouse actually have to come to an agreement you both find fair. Even if that agreement doesn’t result in you equally sharing your assets and debts.
Dividing property and debts in a divorce is a complex financial matter. So in order to get a settlement that's equitable to both of you, it’s critical to work with an experienced divorce mediator with a financial acumen like me."
In Community Property, Equal Doesn’t Necessarily Mean Fair.
If there’s one thing divorcing spouses commonly agree on, it’s that they both want a fair settlement outcome.
But everyone has their own separate definition of fair.
For some, fair means 50/50. Cut everything in half and I take mine, you take yours. But to others, fair may be more like 60/40, 30/70, or some other permutation.
Fair is in the eye of the beholder - and it’s often during divorce proceedings where differing opinions on what’s fair really stand out.
If you’re in a situation where you have to split everything 50-50 because you live in a community property state, giving or getting only half of your assets might not meet your own definition of fair.
To better explain the concept of differing definitions of fair, consider this example of Dave and Chris, two friends who have just completed a vigorous hike up Tiger Mountain and are about to take a break for lunch:
Dave had been up with a sick child the night before the big hike, and as a result, got very little sleep. But he didn’t want to miss out on spending time with his buddy, as the two had been planning this hike for months.
Knowing that his friend was exhausted, to be a good sport, Chris offered to carry all of the gear which weighed well over 30 pounds.
As the hours passed, the sun got hotter, the gear got heavier, and Chris was really working up a sweat! Dave, on the other hand, was walking along without a care in the world.
When they finally reached the top of the mountain, Chris took out the thermos filled with ice-cold water.
“Should we each drink half?” Chris asked.
“No, since you did all the work carrying all the gear up the mountain, I think you deserve more water than me,” Dave replied. “I’m not even very thirsty so go ahead and drink as much as you need and I’ll finish off whatever is left,” Dave continued.
“Thanks, Dave. We’re on this hike together and I expected to share the water equally. But you’re a good friend for letting me have more than half and I’m happy to take you up on that,” Chris replied.
So what are your thoughts about Chris and Dave and how they split the water? Was it fair to both of them?
On the one hand, maybe you’re thinking it wasn’t fair because Chris drank more water than Dave.
But on the other hand, Dave didn’t carry any of the hiking equipment and only wanted a little bit of water and that’s exactly what he got.
Not to mention that Dave and Chris were both happy with the way the water was divided. In other words, each found this outcome to be fair. Even though it wasn’t a 50/50 split.
So as you can see, one’s definition of fair can change based on the situation.
What does this example have to do with community property division in divorce?
Whether you’re dividing community property and debts or a bottle of water, fair is subjective.
Not only that, but your definition of fair might vary from issue-to-issue.
For example, you might think a 50-50 split of your joint checking account is fair as each of you worked to earn that money equally.
But your spouse wanted to start a band and went out, bought a whole bunch of new gear, and racked up some serious credit card debt. So you want them to take on that liability separately as you have no dream of being the next pop sensation.
Hopefully you’re starting to understand one of the many challenges surrounding community property.
Couples often find that defining what’s fair and coming to agreements on splitting their assets is not always so easy to do.
Community Property vs Separate Property is Not Always Easy to Identify.
Let’s now take a closer look at community property versus separate property. And what can happen when it becomes co-mingled.
Because like all issues that need to be resolved in a divorce, pinpointing community vs. separate property isn’t always so clear cut.
To better explain the challenges of untangling co-mingled assets and debts, meet Jeff and Emma:
Jeff and Emma were a husband and wife who always dreamed of owning a vacation home on Lake Chelan. And for years, they worked with a realtor to keep an eye on the MLS so as not to miss any good properties that came up for sale.
One day, they got a call from their real estate agent to say that a great place had just been listed! And since it was such a steal, it was going to go fast, so if Jeff and Emma were seriously interested, they’d have to put a bid in on it immediately.
The agent even implied that if it was an “all cash sale,” it might persuade the seller to accept their offer over another buyer who’d need to obtain a mortgage.
Jeff and Emma jumped on it. But now they needed to come up with the cash – fast!
Emma's parents had done well financially over the years. And last year when they passed away, they left Emma a sizable inheritance – more than enough to cover the price of this charmer.
So Jeff and Emma put in a bid on the house and it was theirs in a matter of months.
As it was a bit of a “fixer-upper” and Jeff was handy, he made a number of significant repairs and upgrades to the house. He put on a new deck, installed new hardwood flooring throughout and renovated the kitchen and both of the bathrooms.
Three years later, Jeff tells Emma he wants a divorce.
Separate property was used to purchase a community asset. So now that Jeff and Emma are getting divorced, who gets the Lake Chelan house?
Is it split 50-50 because it was purchased while Jeff and Emma were married?
Is it Emma's separate property because she used her inheritance income to purchase it?
Should Jeff get half of the value of the house and 100% of the increased value for all the work he did on it?
Or just the value of the improvements he made to it?
As you can see, in this example (and many others just like it), coming to agreements on the division of property in a divorce are complicated. Especially when things get co-mingled.
And it’s not so easy to identify what’s community property and what’s separate property.
The division of assets in divorce is just one piece of a larger picture.
In the example above, we discussed the “assets” side of the equation.
But also included is the division of community debts (liabilities.)
And for many couples, the debts accumulated during the marriage are much greater than the assets.
A few years after Jeff and Emma got married, Jeff started his own sales software automation company. To set up the business, he and Emma took out a home equity loan on their main house and Jeff used the money to purchase equipment, hire a team and lease a work space.
But the competition was fierce and the financial pressures just too great for Jeff to continue. He had no choice but to close the business and get a job working for another more established competitor.
To this day, Jeff and Emma still have a $50,000 outstanding home equity loan to pay back.
But now that they’re getting a divorce, how should this community debt be handled?
And what really is fair?
On the one hand, maybe you’re thinking since it was Jeff's idea to start the business, maybe it should be 100% on him to pay back the debt.
On the other hand, Emma could have said “no” to Jeff starting a business. But she went along with it and so maybe you think it’s fair for Emma to help re-pay Jeff's debt as a community liability.
But even if Emma agrees it’s fair that she contribute, how would she do it? The money for all of Jeff's equipment is tied up in a home equity loan taken against their marital home. And Emma was planning on living in that house after the divorce was final.
So how can she be sure Jeff will pay her back or pay his fair share? That is if you even think she should pay for his equipment in the first place!
As you can see, defining what is community property (debt) and separate property (debt) isn’t always easy to figure out, let alone agree upon.
There is more than meets the eye when it comes to community property and division of assets and debts.
Divorce is different for every couple. And because no two couples or situations are exactly the same, there is no “one-size-fits-all” approach to fairly resolving the division of a couple’s marital assets and liabilities.
And as you’ve been learning, coming to agreement on what each of you feels is fair and which of your assets and liabilities are considered community vs. separate can be quite tricky.
The division of assets and liabilities is often much too complex for you to try to resolve on your own.
But when the law gets involved with resolving community property, it’s a problem.
So far we’ve talked about the difficulty in defining what’s fair. And the challenges surrounding what constitutes a community or separate asset or liability. Especially when they’ve been co-mingled or transmuted.
But there’s one more thing you need to be aware of...
If you hire divorce lawyers who can’t help you and your spouse come to agreement, you’ll have no choice but to battle it out in court.
And in a litigated divorce, the division of assets and liabilities is determined by a family law judge.
And the concept of fair could go right out the window as there's a good chance everything will be split 50-50.
A family law judge doesn’t care about what you think is fair.
They’ll order the terms of your settlement and you and your spouse could very well wind up with something neither of you finds fair. Or, doesn’t meet your needs or interests.
Sounds scary, doesn’t it?
Consider this example of Rick and Suzanne
Rick is 61, Suzanne is 48, they’ve been married 25 years, there’s no dispute about pre-marital assets, and Suzanne wants the divorce.
Rick and Suzanne determine the value of all of their marital assets and their two largest are their house in Madison, which is worth $1,300,000, and their retirement account, which is worth $900,000.
Because Rick is closer to retirement, he’s willing to give Suzanne the $1,300,000 house in exchange for the $900,000 in retirement funds. He wants to downsize and move into a small condo.
In divorce litigation, you really never know which side of an issue a judge will rule in court.
But even if a judge mandates in court that everything be cut everything in half, in this situation, it’s still not going to be a good outcome for Rick or Suzanne because it isn't what either of them finds fair. And it doesn't serve their interests.
They are far better off negotiating a settlement they each find fair. Instead of having divorce attorneys or a family law judge force one upon them.
Remember, when a judge decides in court, you don’t get a say.
That’s why it’s better to negotiate this topic. Which is exactly what mediation is all about.
In divorce mediation, you get to decide - and come to an agreement you both agree is fair - out of court - instead of letting your future be decided by a stranger.
You will get the best community property result by mediating with us.
Using our extensive financial knowledge of the complex matters of community property, we’ll help you and your spouse determine which of your income, assets and liabilities are subject to division.
We’ll actively guide you through negotiations on areas of disagreement while empowering and helping you to create an agreement you both find fair.
We’ll also make sure your agreement minimizes tax issues, avoids penalties and improves cash flow whenever possible.
And along the way, educate you about what we’re doing, why we’re doing it and how it directly benefits you and your children.
And if you weren’t the spouse who managed the household finances, not to worry. We’ll balance the playing field by taking the time to explain in detail what everything means and how it will impact you.
Joe Dillon, MBA is a professional divorce mediator and founder of Equitable Mediation Services. Joe is passionate about helping couples avoid the destruction of attorney-driven litigation and specializes in helping couples resolve the issues required for divorce -peacefully, fairly and cost-effectively. When he’s not mediating, you can find him exercising, cooking, and watching Cubs baseball.
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