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September-October, 2009 Tax Tip

Options for Taking Joint Title to Property

 

There are basically three ways a married couple can take title to property:  joint tenancy with rights of survivorship, community property, or tenants in common.  A fourth, and more recent, way, which has become the popular form of ownership, is community property with rights of survivorship.  The latter essentially provides the benefits of both the joint tenancy and community property.  (See discussion under community property, below).  While real estate is probably the most important asset in which to be concerned about choice of title, it can apply to most assets, including securities and bank account holdings.

 

Joint tenants with rights of survivorship

 

This is the most common method of holding title, particularly if the owners are not married.  The couple jointly owns the property.  If one dies the other owns the property outright by operation of law through survivorship.  There is no probate of joint tenancy assets.  For a married couple there are tax disadvantages to this method.  If a married couple purchases a home, the purchase price plus any Improvements becomes the tax basis in the property.  If one spouse dies only half the basis in the property is stepped up to its fair market value (FMV) at the date of death.  To illustrate, if the basis of the house were $250,000 and one spouse dies, and the FMV at time of death is $400,000, then the new basis for the surviving spouse would be $325,000 (half of the basis of $125,000 is stepped up to $200,000 and the original basis of $125,000 is retained for the survivor’s half).  Therefore, if the survivor sold the house for $400,000, she or he would have a capital gain of $75,000.  Keep in mind that there is an exclusion of up to $250,000 of gain on the sale of a principal residence.  (The exclusion may actually be as high as $500,000 if the sale occurred after December 31, 2007 under certain circumstances).   Thus, for most homes, the gain would be excludable without regard to the step-up of the survivor’s half – but only for principal residences.

 

Community property

Arizona and California are two of the nine community property states.  Community property is the preferable way of taking title by a married couple.  If one spouse dies the entire property, not just one-half as was the case with joint tenancy property, gets a step up to FMV.  Therefore, in the above example, the property would be stepped up to $400,000 at the first spouse’s death and no tax would be paid upon sale even if the property were not a personal residence.  However, there is a drawback even here.  When property is owned as community property, a probate is normally required and the deceased spouse’s one-half of the community property would go into the probate estate.  Probates can be both lengthy and costly and are also public records.  Can this dilemma be resolved?  In the 1980’s and 1990’s several states, Arizona and California included, state legislatures passed laws that authorized ownership of real property by a husband and wife to be as community property with right of survivorship.  Therefore, full step-up in basis at death of the first spouse (the community property aspect) and avoidance of probate (the rights of survivorship aspect).   If a husband and wife wish to transfer title to their home from joint tenancy with right of survivorship to community property with right of survivorship, they would be well advised to consult with an attorney or. Preferably,  a title company

 

Tenants in common

This form of ownership allows two or more people to jointly own an undivided interest in property.  Upon one owner’s death, his (or her) interest in the property is transferred to his beneficiary while the surviving owners retain their original percentages, unless they were also beneficiaries.  Tenants in common are not often used and when they are it is usually when two or more friends buy a rental house or boat, etc.  Each party owns his percentage share of the asset and can bequeath that share to anyone he wishes through his will or a trust.  A tenancy in common is much like a partnership, but without a lot of the formality.

 

 



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