Reduce Income Taxes

The Tax Trap of Joint Tenant Ownership vs.

Community Property with Right of Survivorship

The Tax Penalty of Joint Tenant Assets
Married couples in Arizona who title their home or investment assets as Joint Tenants with Right of Survivorship (JTWROS) lose the benefit of “step-up-in-basis” which results from Community Property ownership.

With joint tenant assets, when you die, your spouse only gets a 50% step-up in basis.

But if you hold your home or investments as Community Property with Right of Survivorship (CPWROS) upon the first to die, the surviving spouse gets 100% tax free step-up in basis.

For example:
You have investments worth $200,000 with a tax basis (your cost) of $100,000. When you die your spouse sells the assets for $200,000. If held as joint tenants, the spouse would have to pay taxes on half the gain - $50,000. By contrast, if held as Community Property with Right of Survivorship the spouse would have ZERO gain to pay taxes on!

On your personal residence you may qualify for the $500,000 capital gain exclusion for married couples. But in order to get the $500,000 home exclusion the surviving spouse has to sell the property in the year of the death, otherwise the exclusion is $250,000, the same as for single people.

But there is no exclusion for investments, so it is even more important to consider holding investments as CPWROS.

Of the nine states that are community property states only a few of them, including Arizona and California, recognize the title of CPWROS. We are fortunate in Arizona that we can take advantage of the favorable tax treatment if you change title of assets to CPWROS.

Since only a few states have CPWROS not all brokerage firms are set up to allow this title on accounts. We however can open an investment account with this title.

Other considerations:
Obviously if you have separate assets before marriage and have kept them segregated you would not want to have them in either a joint or CPWROS account, since they would lose their separate status.

Assets held in a Living Trust avoid the taxation problem. You can not take advantage of this titling in retirement plans, IRA’s or annuities, since they have direct beneficiaries and different tax rules.

If the spouse that is likely to die first has possible judgments pending you may not want to use CPWROS, since these assets can be attached by creditors of the deceased spouse.

CPWROS can only be used for married couples. If you do not have a spouse, Arizona Beneficiary Deeds for real estate enjoy a 100% step-up in basis vs. only 50% if you own it with another heir as joint tenants. You can not use deeds to transfer non-real estate assets.

Another Danger of Joint Tenancy:
Can Transfer Without Consent of Joint Tenant
Of course your spouse would never do this… but it does happen.

A spouse has an affair and unknown to the other spouse, he (let’s assume it is the husband) secretly gave his mistress a deed to the house or transfers other jointly held assets to her.

Guess what? The wife now owns the assets with the mistress! (Probably not what either desired.)

With joint tenancy any owner can transfer his interest without the knowledge or consent of the other joint owner. He can only transfer his 50% interest, so the wife and the mistress now own the home or other assets as tenants in common.

If the assets were held as CPROS, both spouses must consent to any transfer of interests.

The above is for informational purposes only concerning titling of assets and is not intended as definitive legal or tax advice. You should not act upon this information without seeking independent legal counsel. If you desire legal, tax or other professional advice, please contact your attorney, tax advisor or other professional consultant.

Resources:

http://en.wikipedia.org/wiki/Community_property 

http://www.ggu.edu/school_of_taxation/tax_news/attachment/Jim+Henderson+Article.pdf 

http://www.wwlaw.com/cpjt.htm 

http://www.arizonarealestatenotebook.com/2006/06/15/community-property-with-right-of-survivorship-vs-joint-property-with-right-of-survivorship/ 

http://www.arizonarealestatenotebook.com/2006/11/22/joint-tenancy-interest-can-be-conveyed-without-spousal-knowledge-or-consent/#more-382 

The views and opinions expressed by Dave Hutchison, CFP are as of the date of the report, and are subject to change at any time based upon market or other conditions. The material contained herein is for informational purposes only and should not be construed as investment advice since recommendations will vary based on a clients goals and objectives. Information is believed to be from reliable sources; however, no representation is made as to its accuracy. All economic and performance information is historical and not indicative of future results. Please consult one of our financial advisors for more information. Hutchison Investment Advisors, Inc. is an Arizona registered investment advisor. Part II of Form ADV (Disclosure Statement) has been given advisory clients and is available upon request.

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Last updated 5/7/2008

Securities are offered through Multi-Financial Securities Corp, Member FINRA/SIPC. Investment advice is offered through Hutchison Investment Advisors, Inc, a Registered Investment Advisor. Multi-Financial Securities Corp. is not an affiliated company of Hutchison Investment Advisors, Inc., or Hutchison Financial Advisors.

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