Community Property Laws
and Assets Protection
Marriage In A Community Property State:
Are Your Assets Protected?
In the United States, nine jurisdictions
have community property schemes. These states are Arizona, California,
Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin.
The laws pertaining to community property raise some interesting questions
concerning protecting assets from creditors, either for one spouse
or the other. The questions discussed will by analyzed through use
of the laws of California and Nevada. The statutory schemes of these
two states are representative of the laws of all nine community property
states, and will provide an answer to the questions raised.
How are Assets Handled Before You Get Married in a Community Property State?
If Sued, Will You Lose Everything? What about Divorce?
I.
The community property laws of both states
under review allow a married person to own separate property. This
property can be used by the married couple in the marriage, or be
held by the spouse who owns it separate and apart from the marriage
community. This raises an important question. Does separate property
receive different protection from a business creditor as it does from
a personal creditor? Further, can a creditor of one spouse reach the
separate property of the other spouse in order to satisfy the debt?
The laws of both states provide a clear answer to both questions.
These are Complex Areas that Require You to Speak to
Your Local Professional!
In Nevada, the right of a spouse to separate
property is constitutional. Article 4, § 31 of the state constitution
reads:
All property, both real and personal,
of a married person owned or claimed by such person before marriage,
and that acquired afterward by gift, devise or descent, shall be the
separate property of such person. The legislature shall more clearly
define the rights of married persons in relation to their separate
property and other property.
The Nevada Supreme Court has strictly
construed this section since its inception, making it abundantly clear
that a spouse has a right to separate property. See, e.g., Walker
v. Walker, 41Nev. 4, 164 P. 653, 169 P. 459 (1917); Thomas v. Nevans,
67 Ney. 122, 215 P.2d 244 (1950); Verheyden v. Verheyden, 104 Nev.
342, 757 P.2d 1328 (]988).
Responding to the constitutional section
regarding separate property, the Nevada Legislature enacted Nevada
Revised Statutes (NRS) 123.I30, which reads
1. All property of the wife owned by
her before marriage, and that acquired by her afterwards by gift,
bequest, devise, descent or by an award for personal injury damages,
with the rents, issues and profits thereof, is her separate property.
2. All property of the husband owned
by him before marriage, and that acquired by him afterwards by gift,
bequest, devise, descent or by an award for personal injury damages,
with the rents, issues and profits thereof, is his separate property.
Under this statute, an asset which comes
under its terms is the separate property of one of the spouses in
the absence of clear and convincing proof that the asset was purchased
with community funds or credit, or was acquired by the spouse's community
toil or talent. See, e.g., Kelly v. Kelly, 86 Ney. 301, 468
P.2d 359 (1970); Pryor v. Pryor, 103 Ney. 148, 734 P.2d 718 (]987);
Smith v. Smith, 94 Ney. 249, 578 P.2d
319 (1978). (All property acquired during marriage which does not
come within the terms of NRS 123.130 is presumed to be community property.
See NRS 123.220; Hardy v. United States, 918 F. Supp. 312 (D.
Nev. ]996); Breliant v. Preferred Equities Corp., 112 Ney. 663, 918
P.2d 314 (1996); Norwest Fin. v. Lawyer, 109 Ney. 242, 849 P.2d 324
(1993)).
Given the above rules in Nevada, the
questions presented can be answered, generally, in the negative. A
creditor of a single spouse simply cannot reach the separate property
of the other spouse to satisfy a debt. This is true whether or not
the creditor is a business creditor or a personal creditor. Cf. Norwest
Fin. v. Lawyer, 109 Ney. 242, 849 P.2d 324 (1993)(where wife did not
put up her separate property as security for a loan to the couple,
and husband declared bankruptcy, creditor could not attach the separate
property of the wife to satisfy the debt). This result is sensible;
to further the basic constitutional protection of property for those
who have not themselves created a debt, or pledged their own property
as security for the debt of another. (This rule also pertains to debts
incurred prior to marriage. See NRS 123.050, which states that
the separate property of a spouse is not liable for the debts of the
other spouse contracted before marriage.)
Despite this general rule in Nevada,
there are certain statutory exceptions. NRS 123.090 reads:
If the husband neglects to make adequate
provision for the support of his wife, any other person may in good
faith supply her with articles necessary for her support, and recover
the reasonable value thereof from the husband. The separate property
of the husband is liable for the cost of such necessities if
the community property of the spouses is not sufficient to satisfy
such debt. (Emphasis added.)
Notice that this statute concerns only
the duty of a husband to support his wife. NRS 123.110 imposes a similar
duty on a wife to support her husband:
The wife must support the husband
out of her separate property when he has no separate property
and they have no community property and he, from infirmity, is not
able or competent to support himself. (Emphasis added.)
This statute requires a wife to pay creditors
out of her separate property if they supply necessaries of life to
an infirm, impecunious husband. See, e.g., Swogger v. Sunrise
Hospital, 88 Ney. 300, 496 P.2d 751 (1972); United Fire Ins. Co. v.
McClelland, 105 Ney. 504, 780 P.2d 193 (1989).
These two statutory exceptions to the
protection of separate property only apply if a creditor supplies
goods or services "necessary" for the life of the other
spouse. Although the limits of this have not been defined, the Nevada
Supreme Court has held that a husband cannot be held personally liable
under NRS 123.090 for the debts of his wife which were incurred pursuant
to a contract to rent an automobile. Ferreira v. P.C.H. Inc., 105
Ney. 305, 774 P.2d 1041 (1989). Thus, it is likely that the word "necessary" will be narrowly construed by the Nevada courts, therefore providing
protection for the personal property of spouses.
The rules in California are quite similar
as they pertain to separate property. The right to separate property
is also constitutional in origin. Article 1, § 21 of the California
Constitution reads:
Property owned before marriage or acquired
during marriage by gift, will, or inheritance is separate property.
Similar to Nevada, the California courts
have strictly construed this constitutional provision, making it clear
that spouses have a right to own separate property. See, e.g.,
Snyder v. Webb, 3 Cal. 83 (1853); Lewis v. Johns, 24 Cal. 98 (1864);
In re Spencer, 82 Cal. 1]0, 23 P. 37, aff'd, 83 Cal. 460, 23
P. 395 (1890). Not only this, but the separate property of one spouse
simply cannot constitutionally be made to answer for any debt
of the other spouse. Lewis v. Johns, supra; George v. Ransom,
15 Cal. 322 (1860).
The California Legislature has enacted
community property statutes to further the policy of Article 1, § 21 of the state constitution. Family Code (FC) section 770 reads:
(a) Separate property of a married person
includes all of the following:
(1) All property owned by the person
before marriage.
(2) All property acquired by the person
after marriage by gift, bequest, devise, or descent.
(3) The rents, issues, and profits of
the property described in this section.
(b) A married person may, without the
consent of the person's spouse, convey the person's separate property.
The cases interpreting this section leave
it without doubt that spouses can own separate property. See, e.g.,
Peteira v. Peteira, 156 Cal. 1, 103 P. 488 (1909); In re Dargie's
Estate, 179 Cai. 418, 177 P. 165 (1918); Ia re Jafeman's Marriage,
29 Cal. App.3d 244, 105 Cal. Rptr. 483 (1972).
California law also deals specifically
with the questions under discussion. FC section 913 reads, in pertinent
part:
(a) The separate property of a married
person is liable for a debt incurred by the person before or during
marriage.
(b) Except as otherwise provided by statute:
(1) The separate property of a married
person is not liable for a debt incurred by the person's spouse before
or during marriage. (Emphasis added.)
This statute has been strictly enforced,
freeing the separate property of one spouse from the liability of
the other spouse’s creditors of all types. See, e.g., Kennedy
v. Taylor, 155 Cal. App.3d 126. 201 Cal. Rptr. 779 (1984); Mariners
Say. & Loan Ass'n v. Nell, 22 Cal. App.3d 232, 99 Cal. Rptr. 238
(1971). (The result, of course, is different if both spouses jointly
incur an obligation, thus subjecting the personal property of each
to the reach of creditors. See, e.g., In re Setrakian's Estate,
178 Cai. App.2d 833, 3 Cal. Rptr. 444 (1960); Garthofner v. Edmonds,
74 Cal. App.2d 15, 167 P.2d 789 (1946). And, of course, community
property is liable for the repayment of a debt incurred by either
spouse while married. See In re Marriage of Braendle, 46 Cal.
App.4th 1037, 54 Cai. Rptr.2d 397 (1996)).
Similar to Nevada, there is a statutory
exception to the protection of separate property. FC section 914 reads,
in pertinent part:
(a) Notwithstanding Section 913, a married
person is personally liable for the following debts incurred by the
person's spouse during marriage:
(1) A debt incurred for necessaries of
life of the person's spouse while the spouses are living together.
* * *
(b) The separate property of a married
person may be applied to the satisfaction of a debt for which
the person is personally liable pursuant to this section. (Emphasis
added.)
Under this statute, "necessaries
of life" are those that are required to sustain life. See,
e.g., Ratzlaff v. Portillo, 14 Cal. App.3d 1013, 92 Cal. Rptr.
722 (1971). Thus, like Nevada's exception, California's exception
is quite narrow and will rarely be invoked to harm the separate property
of a spouse.
All of the above clearly indicates that
both Nevada and California would answer the questions under discussion
in the negative. Because of this, the rules also provide a planning
opportunity. If one spouse owns a business and fears the possibility
that a creditor may come after him, the family assets can be protected
by having the other spouse own a majority of the assets as her separate
property. The laws of both states make this possible.
NRS 123.070 allows a husband and wife
to make contracts with one another respecting property, which any
unmarried person could make. Thus, a husband could gift his separate
property or his portion of community property to his spouse, thus
making her the owner of a great deal of separate property. See,
e.g., Kerley v. Kerley, 112 Nev. 36, 910 P.2d 279 (1996); Campbell
v. Campbell, 101 Ney. 380, 705 P.2d 154 (1985); Schmit v. United States,
896 F.2d 352 (9th Cir. 1989). As the wife's separate property, the
husband's creditors simply could not reach the property.
The laws of California allow the same
type of transfer to occur. See FC sections 850, 851, 852; Estate
of Petersen, 28 Cal. App.4th 1742, 34 Cal. Rptr.2d 449 (1994); In
re Roosevelt, 87 F.3d 311, opinion amended on denial of
rehearing, 98 F.3d 1169 (9th Cir. 1996).
There are two things which must be remembered
regarding such transmutations of property. First, the laws regarding
fraudulent conveyances must not be violated. The transfer to the other
spouse should occur prior to any attempt of a creditor to reach the
property. Second, once the transfer occurs, the other spouse owns
the now-separate property outright, with full power to control the
property. Cf. NRS 123.170. And, if the spouses later divorce,
the separate property belongs entirely to its owner. Thus, one must
be sure of the solidity of their marriage before attempting such transfers
for protection from potential creditors.
II.
After what has been stated above, the
remaining questions under consideration can be answered in a more
concise manner: How does a charging order against one spouse affect
the property rights of a married couple in a community property state?
What if the charging order is against both spouses?
As we know, a charging order, be it against
a partner or a member of an LLC, merely gives the creditor the right
to step into the shoes of the business owner and collect any money
that the business owner would have been entitled to, up until the
point that the debt has been satisfied. This rule applies in community
property states as well as non-community property states. Thus, in
the ordinary course of events, community property laws will have no
effect whatsoever in a situation involving a charging order against
either one spouse or both spouses.
Although no authority has been discovered
to support the notion that a charging order, if it does not satisfy
the debt, can be "converted" into an order to take over
the partner's or member's interest in the business, it might be theoretically
possible for this to occur. If so, if the business interest belongs
to only one spouse as their separate property, it obviously can be
reached by the creditor. Also, as stated above, the community property
can be reached as well. But so long as the other spouse did not jointly
incur the obligation, her separate property simply could not be reached
by the creditor.
Given the lack of authority regarding
a charging order being used in such a manner, it is highly unlikely
that such an event will ever occur.
If it did, however, and both spouses
jointly owned the business interest at stake, then the separate property
of both would potentially be at risk, if the business interest itself
was not of sufficient value to satisfy the debt. One way to avoid
this risk would be for only one spouse to hold an interest in any
business wherein a charging order may be used by a creditor at some
point. Since this would interfere with the already-created businesses
of literally millions of people, this is not a realistic choice. This
is just further evidence of why a court will never allow a judgment
creditor to do more with a charging order than they are designed to
do.
III.
In conclusion, the separate property
rules of community property schemes provide a great deal of protection
for non-debtor spouses, no matter if the creditor is a business creditor
or a personal creditor.
If you have incorporated and you get sued personally, can you still
lose your company?
