Individuals purchasing real property in California quite often do so jointly with others. Whether investing, starting a family, or for business purposes, sharing the benefits and burdens of property ownership often makes good sense. We often get questions from married and non-married persons alike There are three principal ways in which parties may jointly hold title to real property in California: 1) Tenants in Common, 2) Joint Tenants, and 3) Community Property with Right of Survivorship. These three forms of title share some commonalities but differ in some important ways.
Tenants in Common (TIC)
A TIC is the most common way in which unrelated parties (think friends or business associates jointly take title to real property in California. In a TIC all parties jointly share in the burdens and benefits, in accord with their respective percentage of ownership. The shares of ownership need not be equal, however, even where the shares are unequal no co-owner can exclude another from possession or use of the property.
Further, ownership is not divided “in kind” and each owner is said to own a portion of each atom of the property in accord with his or her respective share. Absent an agreement to the contrary, each owner may freely transfer his or her interest at any time in any manner (by sale, gift, bequest, etc.). It is the independence of each ownership share and ability to unequally apportion ownership which are the primary distinguishing characteristics of a TIC, as compared to Joint Tenancies and/or Community Property with Right of Survivorship.
Joint Tenancy (JT)
A JT has historically been the most common way in which married couples and/or close family members jointly hold title. Joint owners likewise share in the burdens and benefits of ownership in accord with their share. However, in a JT that share must be equal as among all co-owners. As such, if a married couple holds a property as Joint Tenants, each holds an equal 50% interest in the property. If there are more than two Joint Tenants, the ownership is again equally divided among them according to their number. The parties cannot unequally divide their ownership.
The second, and arguably more important, distinguishing
factor of a JT is that it includes a “right of survivorship”. This survivorship right dictates that, upon
death, the surviving co-owners automatically become equal owners of the
whole. Again, in the context of husband
and wife, that means that upon the death of one spouse the other automatically
becomes the owner of the whole. Nothing
is required to effectuate this change of ownership it happens by operation of
law. A certificate of death will
ultimately need to be recorded with the County Recorder’s office, but no probate
is required to effectuate the change.
This last paragraph hints at one important distinction in
what each owner may do with his or her share during life and after death. Like a TIC each co-owner may freely transfer
his or her interest as he or she sees fit (bay sale or gift, for example)
during their lifetime. Doing so destroys
the JT as to that owner’s transferred share, creating instead a TIC, and may
have property tax and/or income tax implications for the recipient and the
transferor, respectively. However,
unlike a TIC, as a result of the right of survivorship, no co-owner may devise
his or her interest in a JT. Because the
ownership interest of the deceased automatically passes to the surviving owners
upon death, the deceased has nothing to devise.
Community Property with Right of Survivorship (CP)
CP as a form of joint ownership that was created by the
legislature in 2001. It is therefore a
more modern creation than either a JT or a TIC.
In form and function, it is nearly identical to a JT: equal ownership
shares with a right of survivorship.
Likewise, co-owners cannot devise their share of CP because that share
passes automatically to the other upon death, it does not pass though probate
and no special action is required.
As a form of holding title, the only real distinction
between a JT and CP is that CP is only available to married couples,
while a JT may exist between persons wholly unrelated to one another. The other main distinction between CP and a
JT, which has nothing to do with title or ownership, is the potentially beneficial
income tax treatment given to property held as CP, to be discussed below.
Property Tax Considerations
The State of California law assesses real property taxes annually
at the rate of 1% of the property’s tax basis.
This “basis” is initially defines as the property’s fair market value at
the time it was acquired. The property
is then reassessed, and the basis adjusted, each year. However, because of California’s Proposition
13, any increase in tax basis limited to no more than 2% where there has been
no “change in ownership”.
When there is an “ownership change”, the property tax basis
in the ownership interest affected is again adjusted to reflect current fair
market value. What constitutes a change
in ownership isn’t always what you’d expect (a remodel, for example, may trigger
an ownership change) and there are various definitions within the law as to
what is, and is not, a “change in ownership”.
There are also various exemptions to reassessment that apply, even where
property ownership is actually changing (for example, certain transfer
between parents and children).
While a full exploration of California’s property taxation
system is outside the scope of this article, it suffices to say that a “change
in ownership” and resulting reassessment at fair market value may have a
substantial property tax impact. This is
because of the traditionally substantial difference between actual appreciation
over time (which averages about X% per year in California) and the 2% per year
limit imposed by Proposition 13. Stated
simply, a change in ownership can greatly increase one’s annual property tax
bill.
When selecting a form of title, there are relevant
exemptions to reassessment to be considered. First, for married couples, regardless
of whether the property is jointly held as a TIC, JT or as CP, no reassessment
will be made for property tax purposes where the transfer is between spouses. See, California Revenue and Taxation Code,
at section 63. Importantly, this is
remains true where is interspousal transfer is the result of a right of
survivorship associated with a JT or CP.
Id.
For non-married persons, transfer upon death of a JT or TIC
interest may not result in a reassessment where there are only two co-owners, the
surviving co-owner accedes to 100% ownership of the property, and the property
has been jointly owned and was used by both as their primary residence for at
least one year prior to death. See, California
Revenue and Taxation Code, at section 62.
While to law allows for this exemption to apply equally to both a TIC
and a JT, a JT between two persons is arguably better designed to meet this
test because of the right of survivorship associate therewith.
Income Tax Considerations
First and foremost, one’s income tax liability is a
complicated issue and depends upon a multitude of other factors that may have
nothing to do with a given piece of property and/or how title to that property
is held (such as age income, dependents, other property or assets, etc.) As such, an analysis of the individual tax
consequences of form of title is outside the scope of this article and outside
the scope of this author’s expertise.
That said, one form of title discussed herein does have potential income
tax benefits to be considered.
Unique from the others forms of title discussed, taking
title as CP has one other potentially important benefit to married couples
which does not apply to a JT. In a JT,
when the surviving spouse receives the other’s ownership share, he or she
benefits from a stepped-up basis as to that 50% share only. The surviving spouse’s tax basis in his or
her own 50% share remains unchanged.
However, if the property is held as CP, the surviving spouse benefits
from a stepped-up basis as to the entire property. The tax basis becomes the property’s fair
market value at time of death. A CPA or
tax layer can analyze how this applies to your specific tax situation but,
generally, a stepped-up basis in the entire property, as opposed to just half,
can be enormously beneficial to the surviving spouse.