Transmuting Separate Property into Community Property

How marital property, assets and debts, are to be divided is an issue that must be resolved in every couple’s divorce. Community property will be divided between the spouses because it is marital property. Separate property will not be divided because it is not marital property. The challenge is in characterizing each item — not every asset or debt is obviously separate property or obviously property of the community.

In general, assets and debts acquired during the marriage will likely be characterized as community property. Exceptions to that rule are limited to assets owned before the marriage, or acquired by gift or inheritance during the marriage.

Transmutation of Property

To transmute property means to convert it into another form. The transmutation of separate property, then, means converting what started as separate property into community property. Transmutation is a fairly common occurrence with couples.

The methods of transmuting separate property into community property are easily understood. Transmutation can be accomplished by agreement between the spouses, by gift from the owning spouse to the community, or by commingling the separate property with community property so much so that it loses its prior character as separate property.

Changing Sole Ownership into Community Property

In Arizona, we presume that a gift to the community occurs when one spouse conveys his or her separate property interest to both spouses (making the spouses co-owners). This is a legal presumption and it can be rebutted, but only with clear and convincing evidence. This presumption of a gift has taken many people by surprise.

Here’s how transmutation of real property typically occurs. One party owns a home prior to the marriage and, after the marriage, conveys title in joint tenancy to both spouses as “husband and wife.” By doing so, they gift the value of the home to the marriage, and it becomes a community asset. Separate property can also be transmuted into community property by refinancing a loan during the marriage. And unless the parties can agree to a different result in the negotiation of their divorce, that community asset must be divided.

Overcoming the Presumption of a Gift to the Community

The only way to defeat the legal presumption that a conveyance is a gift to the community is to convince the court, by a burden of clear and convincing evidence, that no gift to the community was ever intended. Meeting the burden of proving something in court by “clear and convincing evidence” is very difficult. Not impossible, but certainly difficult.

Equitable Reimbursement Principles

There may be reimbursement for money spent by the contributing spouse under equitable reimbursement principles.  When one spouse used his or her separate funds to cover the cost of improvements to jointly held property, then he or she may have an equitable right to reimbursement from the other spouse for the enhanced value of the property.

Conclusion

In every divorce, property, assets, and debts are divided between the spouses. The process of asset allocation can raise some very challenging issues in what may seem at first blush to be a simple procedure of listing “His, Hers, and Ours.”

In Arizona, it is safe to presume that the court will start from the position that community assets should be divided equally, unless there is reason to deviate. In a dissolution of marriage, the court can’t order a substantially unequal division of property held in joint tenancy for the purpose of reimbursing the spouse who used separate funds to acquire property. A substantially unequal division of real property held in joint tenancy can only be agreed upon by the parties.

The same rule applies to community property – the court cannot order a substantially unequal division of community property for the purpose of reimbursing the spouse who used separate funds to acquire the asset. There is no reimbursement for subsequent expenditures on community property in a divorce either, unless, once again, there is an agreement between the parties.