Presented by Ron J. Anfuso, CPA, ABV, CFF, CDFA, FABFA
Ron’s Corner
In a typical Moore/Marsden case, one of the parties owned a piece of property prior to their marriage. If there were payments made on an amortized mortgage in which there was principal being paid, the community would obtain an equitable interest in the property based on the amount of principal paid. The community would receive the money back plus a percentage of the property’s increase in value based on the amount of principal divided by the original purchase price.
However, if there was a rental property involved, we would need to create a comparative rental property spreadsheet that would list all the rents and expenses listed for each year side by side to see if the rental property was self-supporting every year, meaning that the principal was paid for by the rent. In such cases, where the rent exceeded the expenses and there was a profit every year the parties were married, the community would not have paid any of the mortgage principal and would have no interest in the property.
There is a caveat to this that lies in the Higinbotham case, which is the subject of our main article. In a recent case, the documents confirmed that the rental property income and expenses were in a separate bank account. According to Higinbotham, there is no separate tracing required so long as the rent exceeds expenses and there is a separate bank account.
Should the rents not cover the expenses and other money had to be allocated from the parties’ earnings during the marriage, the community would have paid some of the principal. One way to accomplish this is to assume that the community paid all the principal for that year, which is the most beneficial for the community property, or the accountant(s) would have to perform a tracing. In cases like this, tracing might be cost-prohibitive depending on how many accounts were being used.
It is always better for the parties to have a separate account for rental properties because it enables the accounting to be more straightforward. Also, it would reduce the expense of a tracing if needed. Unfortunately, this is often not the case.
The worst-case scenario occurs when there is commingling. We would then have to assume, in the Moore/Marsden calculation, that all the principal paid during the marriage would go to the community. Depending on how much time there was before the marriage and how much the property had gone up in value before they married is the Marsden part of the case.
Marsden says the separatizer gets all the growth and value from the date of purchase to the date of marriage. Then the Moore calculation is the allocation of community and separate property during the marriage for the payments made by the community. When there is a rental property, this brings up an entire new set of issues, which Higinbotham addresses.
I hope you find the review of the Higinbotham case to be a helpful reminder.
Ron
In re the Marriage of Delois G. and Maurice N. Higinbotham (Part 1: Court of Appeal, First District, Division Four)
Presented by Ron J. Anfuso, CPA, ABV, CFF, CDFA, FABFA
Maurice Higinbotham (Maurice) and Delois Higinbotham (Delois) appealed and cross-appealed respectively, from a judgment disposing of their property upon dissolution of their marriage. Maurice contended that the court erred in treating the property he bought prior to their marriage as community property. Delois contested this point.
The Church Street House
In 1965, Maurice bought a house on West Church Street in Ukiah by trading a mobile home and assuming an outstanding loan. He resided in the house until 1967, when the parties married. After the marriage, the parties lived elsewhere, and the Church Street home was rented out.
There was no evidence of a separate property source from which payments on the Church Street property might be made, other than the rent from the property itself. Rent was paid in different forms at different times as checks payable to Maurice, Delois or as cash. Each spouse maintained a separate checking account, with the rent being deposited in either account or applied to current expenses. Likewise, their earnings were commingled between the two accounts. The bills were paid out of both accounts with no apparent regard to the separate or community character of the obligation.
Delois testified that she was generally in charge of managing the money because “Maurice didn’t want records kept,” and “he didn’t want to bother with it.” At one point Maurice said that Delois had a “vested interest” in the Church Street property. Thereafter, Delois referred to the Church Street property as “our house.” Maurice apparently did nothing to dissuade her from this idea or to stop the commingling of funds.
About three months before the parties separated, Maurice discarded boxes of canceled checks and other records. Just before the separation, he deeded the Church Street house to his daughter. She subsequently joined in this action and participated in the trial but did not appeal the judgment.
The trial court concluded that the community was entitled to a pro tanto interest in the Church Street house based on all payments during the marriage that reduced the principal on the loan. Maurice asserted that this was in error.
Traceability
The community acquired an interest in the Church Street house to the extent that community funds were used to make payments on the property. (In re Marriage of Moore (1980) 28 Cal.3d. 366, 371-372). The trial court found that all payments during the marriage were made with funds that were presumably community because of the commingling of community and separate income and the impossibility of tracing house payments to a separate property source.
Where funds are paid from a commingled account, the presumption is that the funds are community funds. (In re Marriage of Mix (1975) 14 Cal.3d 604, 610-611); In re Marriage of Marsden [(1982 130 Cal.App.3d 426,441.]) “In order to overcome this presumption, a party must trace the funds expended to a separate property source. (ibid.) This issue presented a question of fact for the trial court, and its findings would be upheld if supported by substantial evidence.” (In re Marriage of Frick (1986) Cal.App.3d 997, 1910.) When the trial court found the funds to be community, the question on appeal became whether substantial evidence supported the finding. Maurice failed to address the issue in these terms. (See Trailer Train Co. v. State Bd. Of Equalization (1986) 180 Ca.App3d 565,587-588.)
The evidence does not compel the conclusion that, as a matter of law, the payments on the Church Street house were traceable to Maurice’s separate property (i.e., the rent from the house). “There are essentially two methods for tracing expended funds to a separate property source. The first is direct tracing. When separate funds deposited with community funds continue to be on deposit when the withdrawal is made, and it is the intention of the drawer to withdraw separate funds specifically, the separate property status of the withdrawn funds is established.” (In re Marriage of Frick, supra, 181, Ca.App.3d 997, 1010-1011.) In the context of periodic house payments claimed to be made with separate property, the evident effect of the language is that each payment must have been made when separate property funds were present in the account on which the payment was drawn and must have been accompanied by an intent on the part of the drawer to utilize those funds rather than any community funds.
In the next issue of Forensic Accounting Today, I will continue with the tracing issues concerning this case, including the second method of tracing.
