Real Estate Titling for Same-Sex Couples in California

For most heterosexual couples, the question of their legal status in California or elsewhere is generally a simple one – they are either married or single.[1] Under the current legal framework in California, the answer is not as clear for same-sex couples, because there are five distinct legal statuses that a same-sex couple may hold. Furthermore, if a heterosexual married couple residing in California purchases real property, it is generally understood among titling professionals that the couple can hold title to the subject property as community property with right of survivorship, community, or separate property, in joint tenancy, or as tenants in common. Unfortunately, it is becoming clear that many professionals who work on titling real property assets for same-sex couples do not understand that the same rules apply to same-sex couples that hold title to property in California, so long as the couple is in a legally recognized relationship, irrespective of its title. This can often lead even the most well-intentioned professionals to incorrectly title real estate and other assets held by same-sex couples.

Status Options for Same-Sex Couples

Under current California law, there are five distinct statuses recognizing legally related same-sex couples, each of which depends in large part on the date and location of the couple’s registration or marriage. These statuses are: Registered Domestic Partners; married; Registered Domestic Partners and married; “married equivalent”; and Registered Domestic Partners and “married equivalent.”

Registered Domestic Partners
One of the most common statuses for Californian same-sex couples is that of Registered Domestic Partners (RDPs). This status applies to any couple who registered with the State of California on or after January 1, 2000 and who did not “opt out” of the RDP status before January 1, 2005 when AB 205, the California Domestic Partners Rights and Responsibilities Act of 2003, became effective, or whose members have not formally dissolved their relationship.

Pursuant to California Family Code Section 299.2, this title also applies to those same-sex couples who entered into a legally recognized relationship in a foreign jurisdiction, whether elsewhere in the United States or in another country, that is “substantially equivalent” to a California domestic partnership.  Such “substantially equivalent” relationships include the marriages, civil unions or comprehensive domestic partnerships provided by state law in some states, such as Massachusetts or New York. However, the limited rights granted to same-sex couples in other states, such as Colorado, Maine, Maryland, or Wisconsin, are not characterized as “substantially equivalent” and, as a result, a couple who has registered in one of those states but has not subsequently registered with the State of California would not be deemed RDPs under California law.

Married
The second status, which applies to those approximately 18,000 same-sex couples that were married in California between June 16 and November 4, 2008, is “married.” As a result of the In re Marriage Cases decision of 2008, where the California Supreme Court recognized the state constitutional right of same-sex couples to marry, this title is also applicable to those same-sex couples who were validly married in a foreign jurisdiction, whether in the United States or in another country, on or before November 4, 2008.

Registered Domestic Partner and Married
The third option, which is quite common for those whose marriages are recognized by the State of California as set forth above, is “RDP and married.” Because California law allowed RDPs to marry without first dissolving the registered domestic partnership, many couples who had previously registered with the State as domestic partners subsequently married and, as a result, now hold both statuses.

“Married Equivalent”
The next status is more difficult to name. SB 54, which went into effect January 1, 2010, said, in part, that couples who have been legally married in a foreign jurisdiction on or after November 5, 2008 are entitled to all the rights, benefits, and obligations of marriage, except they may not use the term “marriage” to describe their relationship. The latter part of this language is what makes this last option difficult to name. If a couple has been legally married outside of California after November 5, 2008, and has not also registered as domestic partners in California, then they cannot be called RDPs, but they are also precluded from being called “married.”  So, you may ask, what are we to call couples that fall in to this category? Although there is no definite answer to this question, “married equivalent” is an accurate description, as is “spouses” or “spouses under the laws of [name of the officiating jurisdiction].”

Registered Domestic Partners and “Married Equivalent”
Finally, it is possible for those “married equivalent” couples to register as domestic partners with the State of California. In that case, both titles would be applicable.

This is complex and can be very confusing, both for professionals working with same-sex couples and, not surprisingly, for same-sex couples themselves.  It is precisely because of this potential confusion that professionals who work on titling real estate and other assets owned by same-sex couples must be particularly intent on making sure that they talk freely with their clients and ask as many questions as necessary to ensure that they have all of the information they need to properly identify the status of the couple on the titling documents.

Property Characterization

Once the actual legal status of clients is determined, the second, and most significant, issue is to ensure that the subject property is characterized properly in the title documents. Because RDPs, married same-sex couples, and “married equivalent” couples are entitled to all of the same rights and subject to all of the same responsibilities as heterosexual married couples under California law, they are subject to California’s community property regime. This means that there is a presumption that if such a couple acquires property during the tenure of their legally recognized relationship, the property is community property. Therefore, just as heterosexual spouses can hold property as community property with right of survivorship, community, or separate property, in joint tenancy, or as tenants in common, so, too, can same-sex couples.

It is especially important that the intended ownership of real property is properly identified on the original title because, although under California law a transfer of real property between RDPs or same-sex spouses does not constitute a change of ownership that would trigger a reassessment, same-sex couples do not enjoy federal recognition. As a result, same-sex couples do not have the option of making unlimited transfers between themselves without the potential of those transfers being characterized as taxable transfers by the IRS. This means that if title is taken incorrectly in the original title and must later be corrected to reflect the intended ownership of the property, there is a chance that this latter “change in ownership” will have negative tax consequences for the affected couple. In addition, at the death of the first partner or spouse, the survivor is entitled to a full step up in the basis of the property for purposes of California law if the property is owned as community property with the right of survivorship or community property, but not for separate property, joint tenancy property, or property held as tenants in common. Improperly titled property may ultimately create a significant capital gains issue for the survivor.

If property is incorrectly titled, it is also possible that the incorrect titling could lead to a situation where, upon the death of one partner or spouse, the survivor could lose control over the decedent’s one-half of the property. When there are hostile family members involved, this could result in the survivor’s being unable to retain ownership of the property.

Although the laws have changed significantly in recent years, and are likely to continue changing in the future, it is imperative to insure that real property assets are titled correctly. The existing legal framework does require that the professionals involved with the transfer and titling of those assets be educated, understand the issues, talk freely with their clients to ensure that they have all of the necessary information to properly title an asset, and know what resources are available for both the professionals and their clients in the event that questions arise that cannot be answered by the titling professional or the client. It is also important for the owners of real property to assert their rights when taking title. Because of the lack of federal recognition for tax purposes, each situation is different and the particular circumstances should be fully considered prior to vesting. Please call the offices should you have questions, and also see “IRS Recognizes Community Property Law in California for Registered Domestic Partners” for more information on this issue.

Ways Forward

In light of the current legal framework and the significant issues associated with titling, we recommend the following language for use in titling documents:

For RDPs:  “Jane Smith and Sally Jones, Registered Domestic Partners, as [community property with right of survivorship/community property/separate property/joint tenants/tenants in common]”

For married same-sex couples:  “Jane Smith and Sally Jones, spouses, as [community property with right of survivorship/community property/separate property/joint tenants/tenants in common]”

For RDPs and married same-sex couples: “Jane Smith and Sally Jones, spouses and Registered Domestic Partners, as [community property with right of survivorship/community property/separate property/joint tenants/tenants in common]”

For “married equivalent” same-sex couples: “Jane Smith and Sally Jones, spouses under the laws of [Name of the jurisdiction], as [community property with right of survivorship/community property/separate property/joint tenants/tenants in common]”

For RDPs and “married equivalent” same-sex couples: “Jane Smith and Sally Jones, spouses under the laws of [Name of the jurisdiction] and Registered Domestic Partners, as [community property with right of survivorship/community property/separate property/joint tenants/tenants in common]”


[1] California Family Code Section 297(b)(5)(B) permits opposite sex couples to register as domestic partners if at least one of the parties is at least 62 years old and eligible for Social Security benefits.

I Give You My Heart and My Home- Gift and Tax Income Consequences for Gifting Property (Part I)

Meet Wanda and Jane.  They have been a happy couple since January 1, 1986, and celebrated their silver anniversary by registering as Domestic Partners on January 1, 2011.

In 1999, Wanda bought a home for them to share with $600,000 of an inheritance she received from her dear spinster Aunt Jo.  Wanda wants to give ½ of the house, which is now worth $1,000,000, to Jane as a “registration” gift so that they can own it jointly.  The only question Wanda has is whether she will end up owing any taxes if she makes this transfer.

The answer is: It depends.

GIFT ONLY
If Wanda owns the home without encumbrance, the answer is fairly straightforward.  When she transfers title to herself and Jane as their community property, Wanda will be making a gift to Jane of ½ of the current fair market value of the home, or $500,000.

Gift Tax Consequences
Because of the annual gift tax exemption (currently $13,000), Wanda will be deemed to be making a taxable gift of $487,000 to Jane.  This gift tax liability may be offset, however, if Wanda has available to her any portion of her lifetime gift tax exemption amount (currently $5,000,000).  Wanda would simply need to file a federal gift tax return – acknowledging the transfer and electing to use of $487,000 of her lifetime exemption.  This would allow Wanda to make the transfer without incurring any current tax liability, but the amount used in lifetime gifting will be deducted from what Wanda can leave free of estate taxes at her death.

Income Tax Consequences
Where, as in this case, there is a gift of separate property between people who are legally related, and for whom the IRS recognizes community property rights that were given to them by the State of California when they registered, neither party incurs any income tax liability in the initial transfer.  When either party sells the property in the future, however, she may be subject to income taxes on the difference between the sale price and her basis in the property, although, with both of their names on the title, Wanda and Jane will each be eligible for the $250,000 capital gains exclusion at the time of sale.

Determining Basis
Where, as in this case, the transfer is only a gift, the donor (Wanda) will retain her original basis in the ½ of the property she retains, and the donee (Jane) will take her ½ of the property with essentially the same basis.  Wanda’s original basis is equivalent to the purchase price of the house plus any the value of any capital improvements she has made to the property, so her basis in the house after the transfer is equal to ½ of that value.  B’s basis is equal to the same value.  Accordingly, both Wanda and Jane will have a basis of $300,000 in the home (assuming no capital improvements have been made to the home).

PART GIFT/PART SALE
The answer changes if, as is often true, the home is encumbered by a mortgage.  In that case, Jane’s assumption by of ½ of the mortgage, which she does whether she signs a note to the lender or not, is in essence a reduction of how much Wanda owes on the loan and is considered to be relief to Wanda from that portion of the debt.  As a result, the transfer will be treated as part gift and part sale because Jane will be treated by the IRS as if she receives a “gift” of that portion of the equity she receives, and as if she “paid” for a portion of the home to the extent that she now owns a share of the mortgage.  This, of course, means that the tax consequences are more complex.

So, let’s assume that all of the facts are the same except that Wanda has an outstanding mortgage of $400,000 on the home.

Gift Tax Consequences
In this case, when Wanda transfers the property to herself and Jane as tenants in common, joint tenancy, community property, or community property with right of survivorship – essentially any form of equal ownership – she will be making a taxable gift to Jane of $287,000, as follows:

Fair Market Value of
½ of property at time of transfer:                         $500,000

(less) Amount of mortgage W “sold” to J:          – $200,000

Gift amount                                                         $300,000

(less) Annual Exclusion                         –  $ 13,000

Total Taxable Gift                                               $287,000

Although this $287,000 would be a taxable gift, as discussed above, Wanda could elect to use $287,000 of her lifetime gift tax exemption to offset the tax liability.

Income Tax Consequences from the “Sale”
In addition to the gift tax issue, where a transaction is part gift/part sale, the transferor (Wanda) realizes a gain for income tax purposes to the extent that the amount she “earns” in the “sale” exceeds her adjusted basis in the property.  Wanda does not, however, realize a loss if the amount she earns is less than her adjusted basis in the property.

Amount Earned
In this case, Wanda will be deemed to have “earned” the amount of the mortgage assumed by Jane in the transfer, which is ½ of $400,000, or $200,000.

Calculating Wanda’s Adjusted Basis:
Wanda’s adjusted basis in the transferred property is essentially equivalent to the original purchase price (including certain closing costs) that she paid for the portion of the property she is transferring to Jane plus ½ of the value of any capital improvements Wanda made to the property.  Since we are assuming Wanda has not made any capital improvements to the property, her adjusted basis in the transferred property would be equivalent to ½ of $600,000, or $300,000.

Because Wanda’s adjusted basis ($300,000) exceeds the amount she earned in the sale ($200,000), she will not be subject to any additional income tax liability as a result of this transfer.

Calculating Jane’s Basis:
Where a transaction is deemed to be part gift and part sale, Jane will take her portion of the property with a basis that is equivalent to (1) the larger of Wanda’s adjusted basis or the amount paid by Jane for the property plus (2) a fractional amount of any gift taxes actually paid by Wanda.

As determined above, Wanda’s adjusted basis is $300,000.

The amount Jane “paid” for the property is equivalent to ½ of the outstanding mortgage, or $200,000.

Although there is a gift tax liability created by this transfer, as discussed earlier, as long as Wanda elects to utilize some of her lifetime gift tax exemption to cover that liability, Wanda will not actually pay any gift taxes.

Accordingly, Jane’s basis in her portion of the property will also be $300,000.  Although Jane’s basis has no bearing on current tax liabilities, is important to know because it will come into play when Jane later sells and/or gifts the property, or when her interest in the property passes upon her death.

CONCLUSION
The situations discussed here are common to both same-sex and different-sex couples who are not recognized by the IRS in the same manner as different-sex spouses, and the practical results would be the same for either (although the mechanisms for offsetting gift taxes will likely differ).  What is most important to take from this is that just because you (or Wanda) intend to make a gift of property, such a transfer can have real and significant (although unintended) tax consequences.  Accordingly, it is always prudent to check with your lawyer and/or tax professional before making any property transfer.

I Give You My Heart and My Home (and My Tax Dollars?): The Gift and Income Tax Consequences of Gifting Property (Part II) will discuss the tax implications of transferring property between co-owners.