Marital Property

Marital property, sometimes called the marital estate, is a state-law category that names the assets and debts subject to division between spouses at divorce or on the first death. Each state uses one of two systems. Nine community-property states — Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin — treat most property acquired during the marriage as owned equally by both spouses by operation of law from the moment of acquisition. The remaining states are common-law states, where each asset is initially owned by whoever's name is on it and is reallocated equitably at divorce. Both systems distinguish marital property from separate property (what each spouse brought in or received individually), and in both the line between them can shift over time.

The two systems, and how they answer three different questions. During the marriage: in a community-property state each spouse has a one-half undivided interest in each community asset from the moment it is earned or acquired, regardless of whose name is on it. In a common-law state each asset is owned by whoever's name is on it during the marriage, and marital-property status only matters if the marriage ends. At divorce: community-property states generally divide community assets equally, though some (California most notably) apply equal division strictly and others (like Texas) allow disproportionate division on grounds such as fault or need. Common-law states apply equitable distribution, which is not necessarily equal — factors include contribution, length of marriage, earning capacity and custodial arrangements. At death: this is where the tax difference shows up. IRC 1014(b)(6) steps up the basis of both halves of community property when the first spouse dies, while a common-law state generally steps up only the decedent's share of a jointly held asset. On a long-held appreciated asset the two-halves adjustment can erase decades of unrealized gain for the surviving spouse.

Separate property, and how it becomes marital. Property owned before the marriage, and property received during the marriage by gift or inheritance from a third party, is generally separate property in both systems. The classification is not permanent. Commingling (depositing separate funds into a joint account and using the account for household spending) can turn all of it into marital property because there is no way to trace the separate portion. Retitling (moving separate real estate or a separate account into joint names) is usually treated as a completed gift to the marital estate. Transmutation is the formal term for either of these; some states require a written agreement to transmute separate property into marital, others infer it from conduct. Income earned on separate property, and the appreciation of separate property, are treated differently in different states: some treat the income as marital even while keeping the principal separate; others keep both separate as long as neither spouse's labor contributed to the appreciation.

Domicile decides which system applies. Not where the couple was married, not where the account is held, not the address on the statement — where the couple is domiciled when the asset is acquired. A couple who moves from Texas to New York keeps the community character of the assets they acquired in Texas; a couple who moves from New York to California generally does not turn their common-law New York assets into community property, though California recognises a category called quasi-community property for the divorce-and-death rules. Any couple who has lived in more than one state during their marriage should be prepared for a mixed portfolio.

A handful of common-law states let couples opt into community-property treatment, and they are worth naming because they are frequently misdescribed. Alaska, Tennessee, South Dakota, Kentucky and Florida let a married couple elect community-property treatment for particular assets, typically through a community-property trust. The IRS has issued no ruling confirming that the double basis adjustment applies to these elective trusts, so it cannot be relied on for them without qualified advice.

In a common-law state marital property is usually invisible until a divorce or death forces the court, the surviving spouse or the personal representative to identify what belongs to whom. Titling during the marriage decides ownership on paper — a house titled only in one spouse's name is that spouse's on paper — but equitable distribution and the marital-estate rules on the first death can reallocate the asset regardless of titling. In a community-property state the classification is continuous. Community assets are the couple's from the moment they are acquired, and each spouse has legal authority to manage the community's ordinary affairs (with two important exceptions: real property and gifts of community assets, each of which usually requires both spouses' consent).

A hypothetical example of the basis difference. Erin and Chris live in California. In 2005 they bought $200,000 of a low-cost index fund with community-earned dollars. Twenty years later the fund is worth $1,100,000 and Erin dies. Under IRC 1014(b)(6) Chris's basis becomes $1,100,000 — both halves reset. He can sell the entire position without a federal capital-gains tax. Their neighbours across the street, who moved to California from New York last year, bought the same $200,000 in a New York brokerage account titled jointly with right of survivorship. If they had never left New York, only the deceased spouse's half would have adjusted at death, leaving roughly $450,000 of unrealized gain against the surviving spouse. That single difference — the second half's basis — is the strongest reason to understand which system applies before making any large asset decision late in life.

Pros (of marital property law generally)

• Ensures the non-earning spouse's share in assets built during the marriage, whether by earnings or by joint effort, so the marriage's economic reality is preserved at divorce or death.
• Community-property states offer the double basis adjustment at death, which is the single most valuable federal-tax feature of marital-property law.
• Both systems recognise separate property, so premarital assets and inheritances remain the individual spouse's if not commingled or retitled.

Cons and traps

• Commingling separate property into a joint account can convert it to marital, sometimes without the owning spouse realising it.
• Community property is generally liable for either spouse's debts contracted before or during the marriage, so one spouse's creditors can reach jointly earned funds.
• A couple who moves between systems will hold a mixed portfolio (community and common-law property) whose classification depends on where each asset was acquired.
• Elective community-property trusts in Alaska, Tennessee, South Dakota, Kentucky and Florida do not carry a clear federal-tax answer; the IRS has issued no ruling on whether the double basis adjustment applies.