NEW LAW PROVIDES FLEXIBILITY FOR OWNING IDAHO REAL PROPERTY
By: Sandra L. Clapp
Sandra L. Clapp & Associates, P.A., Eagle, Idaho
It’s not often that new property laws appear to make life simpler for the citizens that it affects; however, recent changes appear to do this. Idaho has addressed the issue of how to efficiently transfer real property (real estate) between spouses while maintaining the estate tax advantages of community property law. Under existing Idaho law, married couples had few options to retain the community property character of Idaho real property and provide a means of simple title transfer upon death of the first person. Community property is the character of an asset where each spouse owns an undivided one-half (1/2) interest (as compared to separate property which is the sole property of the spouse who owns it). Effective July 1, 2008, Idaho law will authorize real property to be held by a married couple as “community property with rights of survivorship.” Prior to this law, it was common practice to title Idaho real estate as community property through designation on the deed using the phrase “husband and wife.” Upon death of a spouse, a probate proceeding is often required to transfer the decedent’s interest in the community real property to the surviving spouse. It can come as a surprise to the surviving spouse to learn that probate is required to accomplish this title transfer because many believe that jointly held property automatically transfers title to the surviving spouse. The need for a probate is often disclosed and required when the surviving spouse (or even the children or other heirs) try to sell the real property, only to learn from the title company that probate is required to obtain title insurance on the transaction. This is not time dependent and is required even years after a death and may result in a closing delay or losing the transaction.
One presently available option to automatically transfer title to the surviving spouse is to hold the title as “joint tenants with rights of survivorship.” The risk of holding title as JTWRS is the possibility the income tax basis in the entire real property is not stepped-up or increased on death of the first spouse because the real property is not considered community property. Consider how fortunate Idahoans are to live in a community property state. Under current law, upon the death of a spouse all community property receives a “step-up” in the tax basis of the property. This applies to the entire property value not just half of it. For example, if a married couple purchased a parcel of real property for $100,000, the income tax basis in the real property is $100,000 (assuming no depreciation or other tax adjustments). If the parcel of real property appreciates to $500,000 when the first spouse dies, the new income tax basis for the community real property is “stepped-up” as of the date of death and, in this example, would be $500,000 (which avoids a potential capital gain of $400,000 which is the difference between the fair market value and the original income tax basis). In comparison, if the asset is considered to be joint tenancy (and not community property), the basis may only be stepped up in the interest owned by the deceased spouse (and not the entire community property). Using the foregoing example, if each spouse owned one-half (1/2) of the real property, the new income tax basis for the deceased spouse’s share would be $250,000 (1/2 of the fair market value) and the surviving spouse’s interest continues to have an income tax basis of $50,000 (1/2 of the original income tax basis).
A second transfer option previously available for community property real estate was the use of a devolution agreement or community property agreement. This agreement is recorded with the county recorder, describes the real property using a valid legal description, and must be updated with each parcel of real property that is acquired. Many couples forget they even have such an agreement, let alone keep it updated as they move residences or acquire different real property. A community property agreement can cause results over time that are not expected and which may not be consistent with the testamentary plan of the decedent.
The final option available under current law is to hold the real property in a revocable trust or other entity format. This option can generally be more cumbersome and costly than a simple change on the vesting deed.
The new law will allow married couples to obtain the best of both worlds – an income tax basis step-up for the entire community real property and a simple title transfer through the “joint tenancy” designation. However, as with all title changes, please consult your legal or tax advisor to ensure the change in title is consistent with the character of the asset and doesn’t conflict with your estate and tax planning. This information is provided as general guidance and should not be relied upon in lieu of legal and tax advice that is particular to your situation. And if appropriate, let your state legislators and governor’s office know how much you appreciate their work in this area. It simplifies and clarifies real estate asset transfers for many of the state’s citizens.