Virginia State Bar

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Trusts and Estates

A Section of the Virginia State Bar.

Spring 2014 Newsletter

Newsletter - Trusts and Estates

Volume 22, No. 10

How Equitable Distribution and the Premarital Agreement Act May Impact an Estate Plan

By Sharon A. Henderson

Marital rights are intertwined throughout Title 20 and Title 64.2 of the Virginia Code. Assets in a marital estate may be transferred on death or divorce. Estate planning and family law attorneys must each be aware of the other’s role in protecting the client’s interest. Estate plans, though not usually drafted with any idea that testators and grantors may later divorce, frequently overlap and affect the rights of divorcing spouses and the distribution of the property. Trusts can have a particular impact on the divorcing marital estate if not carefully considered.

Drafting trusts for a coordinated estate plan to avoid divorce impact requires an understanding of the Equitable Distribution statute, Virginia Code § 20-107.3, the Premarital Agreement Act, Virginia Code § 20-147, et seq., and the divorce litigation process. Trust documents should take into account the possibility of separation and divorce. To maintain client rights to equitable distribution, the estate planning attorney must be careful not to create an estate plan that grants an interest in one spouse’s separate property to the other. Trust documents and transfers not carefully drafted may constitute a “marital settlement” under the Premarital Agreement Act and waive rights the client would otherwise have to equitable distribution. This article will outline the basic process of Equitable Distribution and the impact of estate planning documents on the divorce.

Drafting for Divorce
Virginians who are divorcing present unique issues and estate planning attorneys must consider that divorce can occur late in life in long term marriages. In 2012, 60,096 people were divorced by a Virginia decree of divorce. Of that total, fifty-one per cent were over age 40. Twenty-two per cent of those who divorced that year were over age 50.1 There were 2,877 people who divorced between 60-69 years of age and 543 people age 70 or older.2 Many of these older Virginians had estate plans in place prior to their divorce.

When creating an estate plan for married couples with a revocable living trust (“RLT”), counsel must take into account the possibility of any of the following events:

• The separation of the parties.
• Filing for divorce by either party.
• Death of a spouse while the parties are separated and/or in divorce litigation.
• Final decree of divorce.

If these possibilities are not considered in drafting and plan structure, control of assets during a time of marital strife could favor one spouse over the other. Many divorces include a “race to the bank” at the time of separation, with one spouse acquiring legal title to the majority of the assets (and spending them). The other spouse may be unable to fund contested divorce litigation and ultimately receive less support and assets upon divorce. Trust provisions may wind up inadvertently settling marital rights. For example, a RLT provision that each party receives one-half of the trust assets upon divorce might not be equitable if one spouse has more separate assets than the other or one spouse has additional assets not in the trust. An estate planning attorney should therefore have some familiarity with the Premarital Agreement Act.

Premarital Agreement Act
Virginia’s Premarital Agreement Act, Code §§ 20-147 through 20-155, permits parties to waive rights they would otherwise have upon divorce or death of a spouse by a written agreement. Sections 20-147 through 20-154 define the formalities and contents of agreements executed prior to marriage. Virginia Code § 20-155 allows settlement of the same rights in Marital Agreements made during the marriage and reads in part:

“Married persons may enter into agreements with each other for the purpose of settling the rights and obligations of either or both of them, to the same extent, with the same effect, and subject to the same conditions, as provided in §§ 20-147 through 20-154 for agreements between prospective spouses, except that such marital agreements shall become effective immediately upon their execution.”

Most agreements executed pursuant to § 20-155 are Marital Agreements entered into in anticipation of divorce and settle support, custody and equitable distribution. They may be executed prior to a separation or after a separation and before a divorce. Because there is no requirement that the parties anticipate divorce before signing a marital agreement, the documents creating many estate plans and RLTs contain language that a thoughtful divorce attorney may argue has created a marital settlement pursuant to § 20-155. Courts can and do interpret estate plans in ways that impact equitable distribution. To avoid drafting language that would create a settlement of rights pursuant to §20-155, the estate planning attorney needs a basic understanding of equitable distribution and should draft trust documents with care to avoid this result.

Equitable Distribution
Prior to 1982, property was not distributed at divorce. It remained the property of the party in whose name it was titled at the time of the divorce. With the enactment of Virginia Code §20-107.3 in 1982, equitable distribution arrived in Virginia divorce. Now upon decreeing a divorce, the trial Court is directed to: (1) identify all property owned by the parties; (2) determine its value; (3) classify it as to whether it is marital, separate, or part-marital and part-separate in nature; and (4) distribute the property or its value between the parties pursuant to Sections (D) and/or (G) of §20-107.3. Virginia Code §20-107.3 does permit the Court to order the transfer of jointly owned marital property.3 Section 20-107.3 prohibits the Court ordered transfer of property that is titled solely in the name of one party, but may determine the value of that property and allocate the value between the parties. In addition, under the statute, the Court may order the “marital” portion of retirement or pension assets to be paid by direct assignment by the plan administrator.4 The power to transfer joint assets, order a monetary award, and payment of retirement assets constitutes the Court’s power to distribute the property of the spouses at equitable distribution. However, Equitable Distribution under § 20-017.3 does not mean equal distribution of marital assets and debts.

“Unequal” Equitable Distribution
Attorneys outside the family law field may have the impression that assets are “divided” equally by the Court at the time of divorce. While that is often the case, “equitable distribution” is not always an equal “division” of marital assets.5 Virginia Code § 20-107.3(E) lists eleven factors the Court must consider in determining how to affect equitable distribution of the marital assets and debts. Equitable distribution under the statute is decided on a case by case basis. The equitable distribution statute currently takes up a sprawling four and one-half pages in the Virginia Code with pages of annotations reflecting many possible permutations of distribution given the unique facts of the annotated cases. Since 1982, almost every facet of this complex statute has been revised by the legislature and interpreted by appellate decisions.

If one or more of the eleven factors listed in Virginia Code § 20-107.3(E) are significant, an unequal distribution of assets may be ordered. The physical and mental condition of the spouses, adultery as the precipitating factor in the end of the marriage, and dissipation or use of marital funds for a nonmarital purpose are frequently litigated factors which may lead to an unequal distribution.6 Statutory and case law support an unequal distribution under these circumstances and the equitable distribution statute gives great discretion to the trial judge to weigh all the factors in §20-107.3(E) at the time of the divorce. As property transfers may occur simultaneously with the creation of an estate plan, the estate planning attorney should have an understanding of separate assets and how they can be deemed to have been commingled with or transmuted to marital property or separate property of the other spouse.

Separate Property
Equitable distribution applies only to the distribution of marital assets and debts. While the transfer of marital property between spouses usually does not affect equitable distribution rights, transfers of separate property may affect a spouse’s right to retain that property. Separate property is not subject to equitable distribution under Section 20-107.3. Consequently, parties frequently litigate the question of whether property is separate or marital. The separate property analysis requires an evaluation of evidence that would be presented to the Court in an equitable distribution trial. In the course of identifying the assets, income and debts of the parties to determine the nature and extent of separate property, family lawyers inquire concerning:7

• The date of acquisition of an interest, as property obtained prior to the date of marriage is usually separate and property obtained post-separation from earnings earned after the separation will be separate.
• The source of funds for acquisition of an interest, as property acquired in exchange for or from the proceeds of sale of separate property is separate property.8
• The donative intent of gifts received during the marriage from someone other than the spouse, as gifts to only one party are the separate property of that party.
• Whether an asset was acquired by inheritance in a party’s sole name from someone other than the spouse, as such inheritance is separate property.
• Whether an asset that was separate property has been maintained separately as separate property or has become hybrid, or part marital and part separate because it was not handled properly.9
• Whether there exist any retirement assets or tort recoveries that may have a separate component.10
• Whether any gift has been made to a spouse of otherwise separate property.
• The extent to which substantial personal efforts of either spouse increased the value of any separate property.

Determination of Gift
The estate planning attorney should ascertain the intent of the client as to the property identified as separate to avoid unwittingly changing it to hybrid property, marital property or the separate property of the other spouse upon transfer. This determination depends on whether it was gifted in any way to the other party. Titling an asset in a spouse’s name is not necessarily a gift. Not all jointly-titled assets may be held to be marital. The gift may be brought back in to the separate category if it is traceable and can be shown not to be a gift.11

To determine whether or not a transfer of separate property is a completed marital gift, the elements of donative intent, delivery and acceptance by the donee must be present. If a completed gift has been made, the trier of fact must then determine the separate or marital classification of the property. If the property becomes marital, all or in part, it is subject to equitable distribution.

Given the transmutability of property from “separate” to “marital” under certain circumstances, estate planning attorneys should be alert to the possibility of unwittingly causing a transmutation when the client may not wish the transmutation to occur. There is very little authority to guide the practitioner. The only reported Virginia case addressing the question of the character of a gift within the framework of equitable distribution and revocable trusts is Kelln v. Kelln, 30 Va.App.113 (1999). In this case, the parties entered into two revocable living trusts contained in one document. The trust document divided the parties’ estates into two shares and the trust was funded by transfers of assets into the trust. The trust stated that “[t]o the extent that either [spouse’s] share [of Schedule A assets] exceeds his or her contribution to the Trust, the amount of the difference or excess contribution shall constitute a completed gift from the other [spouse].” The trust provided that during their joint lives, each party had the right to revoke the trust and receive from the Trustee their respective shares of the trust property, which the Court noted did not show donative intent to transform marital property into Mrs. Kelln’s separate property.12

Marital difficulties arose, Mr. Kelln revoked the trust before the parties separated and he filed for divorce. Mrs. Kelln claimed that the parties’ share of the property granted to her under the trust was a completed gift and her separate property for the purposes of equitable distribution. The Court found the trust was entered into for purposes of minimizing federal estate taxes and held that the standard for determining whether the assets transferred to Mrs. Kelln were a separate or marital gift was whether or not the grantor “intended to give the asset as the other spouse’s separate property or merely intended to make a gift during the marriage, which becomes marital property.”13 The Court found the property transfers to be a gift during the marriage and therefore marital and subject to equitable distribution. Of note is the fact that neither party made the claim that the property had been his or her separate property prior to transfer into the trust and that issue was therefore not addressed by the Court.

There are only a few cases outside of Virginia that address the issue of inter spousal transfers of property placed into RLTs as part of an estate plan. Of note are two Oklahoma cases. Bartlett14 and Murphy.15 In Bartlett, Mr. Bartlett transferred separate real estate to Mrs. Bartlett in joint tenancy and other assets into her individual RLT as part of an overall estate plan to equalize the value of their respective estates. He claimed the transferred assets retained their separate character. The Court ruled that a tax planning motive for the gift does not negate donative intent. Mrs. Bartlett claimed the property transferred to her trust as separate and the Court ruled that it may have become her separate property. The issue of whether the property in the wife’s trust was marital or separate was remanded to the trial court for determination based on Oklahoma case law. In Murphy, the husband and wife were co-trustees of a joint revocable family trust. Both the husband and wife conveyed their separate property into the trust. The Court found that the separate property in the trust had become marital under Oklahoma case law as the parties had jointly used and managed the property. Although the Oklahoma courts have found the transmutation of separate into marital property in these circumstances, decisions from other states must be utilized with caution as equitable distribution decisions are very state specific. Virginia cases can give guidance on when donative intent is found for other transfers.

One of the leading cases on record in Virginia addressing gifting and transmutation of separate property is Theismann v. Theismann.16 During the marriage, Mr. Theismann transferred his separate residence and two separate brokerage accounts into the joint names of the parties. Although Mr. Theismann testified he did not intend to make a gift of the assets, he admitted he wanted his wife to share equally in the home and be an owner of the accounts. Cards were admitted into evidence which reflected his intent to make a gift. The Court looked to the language of intention in determining whether or not a gift had been made and whether or not the completed gift was marital or separate property. The Court found the transfers constituted an inter spousal gift, and they were marital property and subject to equitable distribution.

In some instances, a gift to a spouse may be intended to be separate rather than marital. In McDavid v. McDavid,17 jointly titled property was transferred to the husband by Deed from the wife. The Deed contained language stating that the husband was to hold it as if he were unmarried. In that case, the Court found that the property, originally marital, had been gifted using language indicating the wife was to have no interest in the property and it was now the husband’s separate property. In Kelln, there was no language in the trust document indicating that the transfers were intended to be separate property and the revocable nature of the trust meant that present and future control of the property was not relinquished by the parties. Reading Kelln and Theismann together, a transfer of gifted separate property into a trust, even a revocable one, can transform it into marital property subject to equitable distribution. Considering the result in McDavid, a transfer with “separate” language could transfer separate property of the donor spouse and transmute it to separate property of the donee spouse. In Kelln, Theismann and McDavid, property was classified as marital or separate. In some cases, a transfer may cause the property to become part marital and part separate and require tracing the marital component.

Tracing
The third category of property “part marital property and part separate property”18 almost always requires tracing to determine the marital component for equitable distribution. Unless clients have had premarital instruction by an attorney concerning how to maintain separate assets, it is not unusual for separate funds to become commingled during a long marriage. For example, an inheritance of one spouse from another family member (which would otherwise be separate property) may be invested in the marital residence or transferred pursuant to an estate plan. Only in the event of a divorce do most clients search for documentation to substantiate a claim to separate contributions to property. When assets have been commingled and are not easily identifiable as separate in any way, they must be traced to determine any separate interest not subject to equitable distribution.

While any type of asset may be traced, the most frequently traced type of asset is real property. The two formulas most often utilized in Virginia to determine the interest of each party in the case of separate contributions to hybrid real property are set out in Brandenburg v. Brandenburg,19 (a Kentucky decision adopted by the Virginia Court of Appeals in Hart v. Hart,20) and in Keeling v. Keeling,21 a later Virginia Court of Appeals decision. Under the Brandenburg formula, Ms. Keeling would have received $19,930 and Mr. Keeling $496,016 of the equity interest in the marital home. The Keeling Court determined the Brandenburg result was inequitable. The result in Keeling awarded Ms. Keeling $187,030 and Mr. Keeling $328,915 of the equity interest. As shown by the differing results of these two formulas, the ability to claim commingled “separate” assets varies greatly depending upon the Court’s selected method of tracing. Tracing is complicated and to be avoided if possible.

Practice Tips

• When drafting individual RLTs for both parties, take care not to transfer assets to a donee spouse when the donor spouse may have a “separate” interest in the property.
• When drafting a joint RLT, take care that a “separate” interest is not added to the “marital” estate.
• If assets in one spouse’s sole name are transferred to the other’s trust in an estate plan with separate RLTs, a transfer occurs which is not within the Court’s power at divorce.
• Draft for divorce events and consider how assets may be classified in equitable distribution.
• When drafting a RLT, avoid drafting documents in a manner which may cause them to be interpreted as a Marital Agreement pursuant to Virginia Code § 20-155. If so interpreted, both parties may have waived their rights under equitable distribution and their divorce rights may be determined by the language of the trust.

Although this article is not intended to be a comprehensive list of divorce and equitable distribution issues that estate planning attorneys should consider when drafting estate plans for married couples, recognizing the issues discussed in this article should prompt the estate planning attorney to investigate further. Trust documents should not have the effect of waiving the client’s right to equitable distribution if and when the clients are divorced at some future date. It is recommended that estate planning attorneys establish guidelines for the concerns addressed in this article and consult with a family law attorney when potential divorce and equitable distribution issues appear.

Sharon A. Henderson joined Culin, Sharp, Autry & Day, P.L.C. in 2011 to practice family law with an elder law perspective. Now that one out of every five people being divorced in Virginia are over 50, Sharon’s understanding of the interrelationship between family and elder law serves CSAD clients as they look at the long term impact of divorce. Sharon teaches “Estate Planning and Probate Law” and “Trial Practice and the Law of Evidence” at Northern Virginia Community College’s Paralegal Studies Program. Ms. Henderson received a B.A in history and psychology from Westhampton College at the University of Richmond in 1973 and her J.D. from Marshall-Wythe School of Law at the College of William and Mary in 1976. She is a member of the Virginia State Bar, the Fairfax Bar Association and the Virginia Academy of Elder Law Attorneys.

(Endnotes)
1. “Recorded Divorce by Age and Race of Husband, Virginia 2011-2013”, “Recorded Divorce by Age and Race of Wife, Virginia 2011-2013”. Data on Virginia divorces is compiled by the Virginia Department of Health from VS-4 forms forwarded to the Department after every divorce in Virginia.
2. Id.
3. Virginia Code § 20-107.3(C )
4. Virginia Code § 20-107.3(G)
5. Pommerenke v. Pommerenke, 7 Va. App. 241 (1988), Virginia Practice Series, Family Law, §§11:27-11:29, Swisher, Diehl and Cottrell, 2013
6. Virginia Code § 20-107.3(E)
7. Virginia Code § 20-107.3(A) (1) and (2) set out the definition of separate and marital property
8. Virginia Code § 20-107.3(A)(1)
9. Virginia Code § 20-107.3(A)(3) further defines separate and marital property
10. The marital/separate portions of retirement assets and pensions are defined in § 20-107.3(G), the marital/separate portions of personal injury and workmen’s compensation recovery in § 20-107.3(H)
11. Virginia Code § 20-107(A)(3)(f).
12. Kelln, 30 Va. App. 113 at 127.
13. Kelln, 30 Va. App. 113 at 122.
14. Bartlett v. Bartlett, 144 P3d 173, 178 Okla. Civ. App. Div. 4 (2006)
15. In Re: Marriage of Murphy, 225 P3d 820, Okla. Civ. App. Div. 1 (2009)
16. 22 Va. App. 557, 566, 471 S.E.2d 809, 813, aff’d on reh’g en banc, 23 Va.App. 697, 479 S.E.2d 534 (1996)
17. 19 Va. App. 406, 451 S.E.2d 713 (1994)
18. Virginia Code § 20-107.3(A)(3)
19. Brandenburg v. Brandenburg, 617 S.W.2d 871 (Ky. Ct. App.1981)
20. Hart v. Hart, 27 Va.App. 46 (1998)
21. Keeling v. Keeling, 47 Va. App. 484 (2006)