Understanding the New Florida Community Property Trust, Part I
The Florida Community Property Trust Act,[1] which is effective for such trusts created on or after July 1, 2021, provides many benefits to married couples, the most significant of which is the potential income tax treatment of trust assets at the first spouse’s passing.
Because Florida is a common law property state, Floridians may not have a good understanding of community property. In Florida, like in most other common law property states, how an asset is titled generally dictates who owns the asset and who has the ability to convey it during life or at death. Before the act, the primary forms of joint ownership in Florida consisted of tenants in common, joint tenants with rights of survivorship (JTWROS), life estates, and a form of ownership only available to married couples called tenants by the entirety (TBE).[2]
In contrast, in a community property state, of which there are only nine,[3] assets acquired during marriage are generally considered to be owned one-half by each spouse regardless of how the assets were acquired or titled.[4] Therefore, when a spouse in a community property state dies owning such property, he or she may devise only his or her one-half interest in the asset.
The act allows spouses to opt into community property treatment of any assets held in a Florida Community Property Trust (FLCPT). To explain the significant federal income tax benefits of a FLCPT, Part I of this article begins with a basic explanation of applicable tax law assisted by examples and illustrations of the same. Next, Part I of this article summarizes the act and the requirements to create a FLCPT. The rest of Part I and all of Part II of this article is dedicated to important considerations before using a FLCPT, including tax basis, the death of a spouse, homestead, creditors, business entities, gifts to spouse, nuptial agreements, and enforceability issues.
Tax Law Basics
The Internal Revenue Code (I.R.C.)[5] imposes an income tax[6] on taxable income “from whatever source derived.”[7] This broad definition captures, among a long list of items, gain from the sale of an asset. Gain is the difference between the amount received and the basis of the asset being sold.[8] Generally, a taxpayer’s basis in an asset is equal to the amount paid for the asset.[9]
• Example 1 — If a taxpayer pays $300 for a share of stock, the basis in that stock will be $300. If the share is then sold for $700, the taxpayer will recognize gain of $400 ($700 sales price less the $300 cost).
Whenever an asset is acquired, the buyer has a basis in that asset. When purchased, the basis is generally equal to the purchase price. Assets may also be acquired by gift or inheritance. When an asset is acquired by gift, the recipient (donee) takes a basis in the asset equal to the basis the gift giver (donor) had in the asset immediately before the gift.[10] When an asset is acquired by inheritance upon the donor’s death, the donee takes a basis equal to the fair market value (FMV) of the asset determined on the date of the donor’s death.[11] If the FMV basis adjustment is upward due to the asset’s appreciation, the basis adjustment commonly is referred to as a “step-up” in basis.[12]
• Example 2 — Donor owns a limited liability company taxed as an S Corporation[13] (LLC) worth $150,000 that she had purchased for $100,000. If she sells her LLC interest, she will have to recognize gain of $50,000 ($150,000 FMV – $100,000 basis). If she gifts the LLC, the donee will have a carryover basis of $100,000 (the same basis as the donor). Thereafter, if donee sells the LLC for $150,000, Donee will be taxed on $50,000 of gain.
• Example 3 — Same donor and LLC as in Example 2. Donor dies and leaves the LLC to donee in his or her will. Donee will have a stepped-up basis in the LLC of $150,000.[14] Thereafter, if Donee then sells the LLC for $150,000, he or she would have no gain ($150,000 FMV – $150,000 basis = $0) and owe no income tax on the sale.
The basis adjustment at death is also impacted by the manner in which the property is owned. If the donor owns all of an asset and dies with it, then all of that asset gets a FMV basis adjustment in the hands of the donee. Nonetheless, when an asset is owned as JTWROS, TBE, or community property, the basis determination gets trickier. For unmarried taxpayers who own property as JTWROS, the asset’s basis adjustment will depend on the extent of its inclusion in the first owner/decedent’s gross estate at death.[15] “The entire value of jointly held property is included in a decedent’s gross estate unless the executor submits facts sufficient to show that property was not acquired entirely with consideration furnished by the decedent, or was acquired by the decedent and the other joint owner or owners by gift, bequest, devise, or inheritance.”[16]
• Example 4 — Unmarried A and B own real property worth $1.2 million as JTWROS. A contributed $400,000 and B contributed $100,000 to acquire the property, resulting in A owning a 4/5 interest and B owning a 1/5 interest. If A dies first, his estate will include $960,000 as his FMV of the real property out of the total $1.2 million FMV, or 4/5 of the total). Thereafter, A’s 4/5 interest will have an adjusted basis of $960,000. Since the investment was owned as JTWROS, B will now own all of the real property. Her new adjusted basis will be $1,060,000 ($960,000 basis step-up attributable to deceased A’s interest added to B’s original $100,000 basis). After A’s death, if B sold the real property for $1.2 million, she would recognize only $140,000 in gain ($1.2 million sale price – $1,060,000 basis).
In the case of married taxpayers who own property as JTWROS or TBE, special inclusion rules apply whereby only half of the asset is included in the deceased spouse’s estate regardless of the individual amounts invested by either spouse in acquiring the asset.[17] Therefore, upon the death of the first spouse, the surviving spouse will receive a basis adjustment on half of the FMV of the property (excluding any valuation discounts).[18]
• Example 5 — Married H acquired stock with an initial investment from his separate assets of $300,000. He took ownership of the stock with his wife, W, as TBE, effectively gifting her one-half of the stock and resulting in each of them having a $150,000 basis.[19] Then H dies when the stock is worth $700,000. Half of the value of the stock, or $350,000, is included in H’s estate. Since the stock was owned as TBE, W will now own all of it. Her new adjusted basis will be $500,000 ($350,000 basis step-up from H’s interest added to W’s carryover basis of $150,000). After H’s death, if W sold the investment for $700,000, she would recognize only $200,000 of gain ($700,000 sale price – $500,000 basis).
• Example 6 — Same married taxpayers as in Example 5. H and W sell the stock before H’s death. They will recognize gain of $400,000 ($700,000 FMV – $300,000 combined basis of H and W).
In contrast, when a married couple acquires an asset as community property, provided at least half of its FMV is included in the deceased spouse’s estate,[20] the surviving spouse generally will receive a basis adjustment of the entire FMV of the asset.[21]
• Example 7 — Married H and W buy publicly traded stock as community property, each paying $300,000. H then dies when the stock is worth $700,000. Half of the stock’s value of $350,000 is included in H’s estate. Since the stock was owned jointly as community property, W will now own all of the investment. Unlike JTWROS or TBE property, W’s new adjusted basis will be $700,000 (a full FMV step-up in basis). After H’s death, if W sold the investment for $700,000, she would recognize no gain ($700,000 – $700,000 basis = $0).
The Figure 1 illustrates the effect on basis adjustments, taxable gain, and tax due of complete ownership by the deceased spouse, no ownership by the deceased spouse, TBE ownership between spouses, and community property ownership between spouses.
Florida Community Property Trust Act
Florida’s adoption of a community property trust option in a noncommunity property state is not unique. Similar laws have been adopted in Alaska (1998), Tennessee (2010), South Dakota (2016), and Kentucky (2021).[22]
To establish a FLCPT, the trust agreement must 1) expressly declare that it is a FLCPT;[23] 2) have at least one “qualified trustee”;[24] 3) be signed by both spouses with the “formalities required for the execution of a trust”;[25] and 4) contain the following statement in capital letters near the beginning of the trust agreement:
THE CONSEQUENCES OF THIS COMMUNITY PROPERTY TRUST MAY BE VERY EXTENSIVE, INCLUDING, BUT NOT LIMITED TO, YOUR RIGHTS WITH RESPECT TO CREDITORS AND OTHER THIRD PARTIES, AND YOUR RIGHTS WITH YOUR SPOUSE DURING THE COURSE OF YOUR MARRIAGE, AT THE TIME OF A DIVORCE, AND UPON THE DEATH OF YOU OR YOUR SPOUSE. ACCORDINGLY, THIS TRUST AGREEMENT SHOULD BE SIGNED ONLY AFTER CAREFUL CONSIDERATION. IF YOU HAVE ANY QUESTIONS ABOUT THIS TRUST AGREEMENT, YOU SHOULD SEEK COMPETENT AND INDEPENDENT LEGAL ADVICE. ALTHOUGH NOT A REQUIREMENT, IT IS STRONGLY ADVISABLE THAT EACH SPOUSE OBTAIN THEIR OWN SEPARATE LEGAL COUNSEL PRIOR TO THE EXECUTION OF THIS TRUST. [26]
The FLCPT agreement may specify the rights, obligations, management, disposition of assets, revocability, and generally any other terms as long as they are not illegal or against public policy.[27] This freedom enables spouses to designate within the FLCPT agreement how each spouse’s one-half interest in the trust’s assets will pass upon death.[28] Nonetheless, even when a FLCPT agreement is irrevocable, upon the death of the first spouse, the surviving spouse may still amend or revoke his or her one-half interest in the trust.[29] After formation and funding of a FLCPT, all property that was transferred to it converts to community property (as long as the property remains in the trust).[30] Therefore, upon the death of the first spouse, the FLCPT assets should receive a FMV basis adjustment on all of the trust’s assets.[31] As shown above, this treatment, if respected, can provide significant income tax savings to the surviving spouse. Nonetheless, before jumping into an FLCPT for the potential tax benefit, there is much more of the act that must be considered to determine if the FLCPT is the appropriate planning vehicle for spouses and in situations when it is, what provisions practitioners need to consider incorporating into the FLCPT agreement.
Considerations Before Creating an FLCPT
• Tax Basis — The significant income tax benefit a FLCPT is intended to provide, as previously discussed, is the basis adjustment on all of the FLCPT’s assets to FMV upon the first spouse’s passing. Unfortunately, the IRS has not yet directly addressed whether it would allow community property treatment for assets placed in a community property trust in a common law property state, such as Florida.[32] Therefore, risk exists that the IRS could oppose the full basis adjustment of assets in a Florida FLCPT. Nonetheless, despite the lack of direct guidance by the IRS, support exists for the full basis adjustment of FLCPT assets in a common law property state.[33] For example, Tax Court cases from 1984[34] and 1986[35] appear to indicate that:
if a state incorporates characteristics of the community property statutes from the eight original community property jurisdictions in its community property trust legislation, it should be respected by the IRS (or at least by the Tax Court if the IRS challenges a taxpayer’s classification of property as community in nature).[36]
Additionally, a 1993 IRS Field Service Advisory addressing community property treatment of community property brought to a common law property state held that “the controlling factor is the characterization of the property under state law.” It concluded that under Oregon law (a common law property state) the assets brought from California (a community property state) would retain community property treatment and a surviving spouse, thus, would have a FMV basis in the entire asset.[37]
The Estate and Trust Tax Planning Committee of the Real Property, Probate and Trust Law Section of The Florida Bar, which drafted the act, was optimistic that the FLCPT would withstand IRS scrutiny.[38] Many commentators who have discussed the FLCPT concept in common law property states have reached a similar conclusion.[39] However, others have questioned whether the IRS will respect the intended community property basis adjustment treatment in a common law state.[40] Therefore, before using the FLCPT, the IRS risk should be carefully considered and disclosed to spouses. Nonetheless, if the IRS and courts do not permit the community property treatment of the FLCPT assets, spouses are unlikely to be any worse off (generally from a tax perspective) than had they not used the FLCPT.[41]
• Tax Basis: Death Bed Funding — I.R.C. §1014(e) provides that if a donor gifts appreciated assets, the donee dies within one year of the gift, and the property passes back to the donor, then the donor will maintain a carryover basis and not receive a basis adjustment to FMV on the donated assets. When spouses contributed equally to acquire an asset or held it jointly for more than one year before converting the asset to community property, converting the asset to community property would not constitute a gift, and the carry-over basis limitation would not apply.[42] Nonetheless, when common law property is converted to community property and the non-transferring spouse dies within one year of the conversion, I.R.C. §1014(e) likely will limit the basis adjustment that the transferring spouse receives in the reacquired asset.[43]
When converting property to community property, the donor spouse generally retains a one-half interest in the asset; therefore, only one-half of the donated asset may be considered a gift to the donee spouse (see Part II of this article). If the donee spouse dies within one year of the gift and the gifted property passes back to the donor spouse, the donor spouse will not receive a basis adjustment in the one-half interest that had been gifted. Nonetheless, the one-half interest the donor spouse retained should receive a basis adjustment because such one-half interest was not “gifted,” making I.R.C. §1014(e) inapplicable.
Pursuant to I.R.C. §2033, the one-half interest gifted to the donee spouse will be included in the donee spouse’s gross estate, and, because the property was community property, I.R.C. §1014(b)(6) will provide the donor spouse with a basis adjustment in the one-half interest the donor spouse retained.[44] In such a situation, the donor spouse should receive a basis equal to one-half of the FMV, plus one-half of the deceased spouse’s carryover basis. Assuming the asset appreciated, the net effect would still result in an upward basis adjustment, and if the donee spouse survived by at least one year, then the donor spouse would have a full FMV basis (assuming no discounts apply).
• Tax Basis: Fractional Ownership — A decedent’s gross estate consists of assets included pursuant to I.R.C. §§2033-2044.[45] The value of an asset to be included in the gross estate generally is determined by its “fair market value at the time of the decedent’s death.”[46] FMV is “the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts.”[47] For freely tradeable (e.g., not subject to securities law restrictions) publicly traded stock, that price is readily determinable. For nonpublicly traded assets, such as real property and nonpublic business interests, determining the value is much more complicated. For example, two individuals each own an undivided one-half interest in the same real property. If only one owner desires to sell, his or her one-half interest is worth less than simply one-half of the entire FMV because a willing buyer would pay less than one-half the FMV because his purchase of only one-half would not allow him to control all aspects of the property ownership. The price discount that would be demanded by the buyer is known as a “valuation discount,” and discounts for lack of control and lack of marketability (e.g., for nonpublicly traded assets) are typical. Thus, the gross estate of a decedent who owns an undivided one-half interest will have an estate tax-includable valuation of less than one-half of the full FMV of the property. Conversely, when a business co-owner has an interest greater than one-half, a “control premium” may be added to the fractional interest because a seller could demand more for that control power.[48] The methodologies for determining valuations can be complicated and are affected by the type of asset and benefits and burdens of it.[49]
As discussed above, the I.R.C. §2040 special inclusion rules apply to TBE and JTWROS assets owned by spouses. This results in one-half of the FMV of each joint asset, without valuation discounts, being included in the estate of the deceased spouse.[50] Conversely, when a spouse dies owning community property, I.R.C. §2033 includes the “value of all property to the extent of the interest therein of the decedent at the time of [] death” in the deceased spouse’s gross estate.[51]
Community property is by its very nature a fractional form of ownership whereby each spouse has an interest in the community property.[52] Therefore, upon the death of a spouse, FLCPT assets may be subject to valuation adjustments based upon the type of asset and the interest being included in the gross estate.[53]
For estate planning purposes, valuation discounts are routinely available to reduce taxable estates and shift more economic value outside of the estate at lower costs.[54] Estates have successfully applied valuation discounts to nonpublicly traded community property assets upon the death of the first spouse, even when the deceased spouse’s interest passes to the surviving spouse.[55] Nonetheless, when an estate is nontaxable, a higher valuation resulting in a greater tax-free basis step up is more desirable than valuation discounts. Unfortunately, valuation discounts, when applicable, generally are not optional.[56]
Fortuitously, the act provides flexibility upon a spouse’s death to decide if a valuation discount or premium is desired. As discussed in Part II of this article, each spouse’s one-half interest generally is not determined until the death of the first spouse and need not be pro rata for each community property asset. Therefore, it is possible for the deceased spouse’s interest to be entitled to a valuation discount or a premium depending on the asset allocation left to the deceased spouse’s one-half share. Several circumstances could influence the desired allocation, such as: 1) elective share funding (control premium allows to satisfy more with less); 2) QTIP marital share funding; 3) taxable estate (discounts preferred to reduce taxable estate); 4) nontaxable estate (premiums preferred to increase basis); 5) creditor concerns; and 6) basis adjustment avoidance for depreciated assets (if a deceased spouse’s one-half share consists of less than a one-half interest in a particular asset, then there is no corresponding basis adjustment to the surviving spouse’s share of the interest).[57]
Generally, when there is a 50/50 business interest, a discount will apply due to lack of marketability and lack of control (assuming a majority vote is required for action), which results in the sum of the parts being worth less than the whole. Conversely, if a business interest is a controlling interest, it should receive a control premium under the same circumstances. The sum of the parts (the business interests that collectively add up to 100% ownership) cannot exceed the FMV of the business as a whole.[58] Therefore, when a business is wholly owned by an FLCPT, upon the death of the first spouse, the maximum basis adjustment that may be obtained is the full FMV of the whole business, but if the business interest is divided in any manner between both spouses’ one-half share (instead of being allocated all to one spouse or the other), more likely than not, the collective basis adjustment will be something less than the full FMV.[59]
A fractional interest in real property not owned by a business entity generally will receive a lack of marketability discount and a potential discount for the costs to partition the property, but these discounts generally will be less than the discounts one would receive for a business interest because an owner of undivided real property interest has more inherent rights than one does owning a business interest.[60] Understanding these rules is critical when a goal is to receive a premium or a discount adjustment for community property assets. Nonetheless, when the goal is basis adjustment to the community property without valuation adjustments, it becomes less clear and more challenging.
• Tax Basis: Community Property “with Rights of Survivorship” — Most community property states have enacted legislation adding a form of ownership called “community property with rights of survivorship.”[61] This form of ownership is intended to avoid probate with the “rights of survivorship” while at the same time preserving the community property basis adjustment.[62] Principal support for this hybrid treatment stems from Revenue Ruling 87-98,[63] whereby spouses in a community property state used community property money to purchase real property that was titled with rights of survivorship. After acquiring the property, the spouses executed wills showing that their intent was for the real property to retain its community property status. The IRS determined that because under applicable state law the real property was still considered community property, the real property would qualify for I.R.C. §1014(b)(6) treatment. Importantly, the IRS noted that the basis of the real property in the hands of the surviving spouse was the FMV of the property. The IRS took a similar position in a field service advisory[64] when spouses used community property funds to purchase real property in Oregon, a common law property state, titled as JTWROS. Oregon had enacted the Uniform Disposition of Community Property Rights at Death Act, which provided that property acquired in Oregon with community property would retain its community property status. The IRS found that despite the JTWROS titling of the property, the asset was community property, and the surviving spouse received a full FMV basis in it. In neither scenario did the IRS discuss the cause for inclusion in the decedent’s gross estate. Nonetheless, if the community property was includable pursuant to I.R.C. §2033, the surviving spouse should have received a basis less than the FMV. The only method for the surviving spouse to receive the full FMV as basis without discounts was if the inclusion was pursuant to I.R.C. §2040. Therefore, the Revenue Ruling and Field Service Advisory support the position that community property assets with rights of survivorship should be treated as hybrid property equivalent to TBE or JTWROS.[65]
F.S. §689.15 provides that “real estate and personal property held by joint tenants shall not prevail…unless the instrument creating the estate shall expressly provide for the right of survivorship.” Consequently, in Florida to create an interest with rights of survivorship, the instrument creating the ownership must include express survivorship language.[66] The act provides that “[a]ll property owned by a community property trust is community property under the laws of the state during the marriage of the settlor spouses.”[67] Therefore, by including explicit survivorship language in the FLCPT agreement, the FLCPT assets will mirror the hybrid property in the above-referenced Revenue Ruling and Field Service Advisory and should be entitled to similar treatment with the surviving spouse receiving a full FMV basis (without any valuation adjustments) upon the death of the first spouse.
[1] Fla. Stat. §§736.1501-736.1512 (2021).
[2] TBE property in Florida passes to the surviving spouse upon the death of the first spouse to die (similar to JTWROS), requires both spouses to participate in the transfer during life, and provides creditor protection from the individual creditors of either spouse. Beal Bank, SSB v. Almand & Associates, 780 So. 2d 45 (Fla. 2001).
[3] Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin.
[4] It is possible for spouses to opt out of this treatment, and this treatment also may be avoided when separate nonmarital property of one spouse is used to acquire the asset.
[5] All references to the I.R.C. are to the Internal Revenue Code of 1986, as amended, unless otherwise indicated.
[6] I.R.C. §1.
[7] I.R.C. §61.
[8] I.R.C. §1001. If basis exceeds the consideration received, then the taxpayer has a loss equal to the difference.
[9] I.R.C. §1012.
[10] I.R.C. §1015.
[11] I.R.C. §1014.
[12] This discussion assumes that the FMV at death will be greater than basis. Of course, that is not assured, and if the FMV is less than the basis, the estate’s basis still becomes the FMV, resulting in a basis step down. See Tax Basis — Death Bed Planning section.
[13] By default, a single-member LLC is considered a “disregarded” entity (meaning the entity is ignored and ownership is attributed directly to the owner of the entity) and a multimember LLC is a partnership. Treas. Reg. §301.7701-3(b)(1). Nonetheless, any LLC can elect to be taxed as a C corporation (a taxable entity) or, when otherwise eligible, as an S corporation (a passthrough entity) by filing a Form 8832 with the IRS. See Joseph M. Percopo, LLC: Disregarded Entity or S Corp Tax Status, Florida Bar Tax Section Bulletin (Fall 2018).
[14] Because the entity elected to be taxed as an S corporation, the basis adjustment occurs on the actual membership interest of the LLC and not the underlying LLC assets. I.R.C. §1014. Nonetheless, if the entity is disregarded for tax purposes, then the basis adjustment will occur on the entity’s underlying assets. When the entity is taxed as a partnership, an election may be made to adjust the partnership basis in the underlying assets (inside basis) to match the stepped-up basis in the partnership interest (outside basis). I.R.C. §754; Rev. Rul. 99-5.
[15] I.R.C. §2040; see also I.R.C. §2033 (“[T]he value of the gross estate shall include the value of all property to the extent of the interest therein of the decedent at the time of his death.”) (emphasis added).
[16] Treas. Reg. §20.2040-1(a) (2022).
[17] I.R.C. §2040(b); see Estate of Young v. C.I.R., 110 T.C. 297, 317 (1998) (court concluded that “fractional interest discount and a lack of marketability discount [were] inapplicable to” JTWROS property due to inclusion in the gross estate under I.R.C. §2040). Nonetheless, when JTWROS property has owners other than the decedent and surviving spouse, then the special one-half inclusion of I.R.C. §2040(b) does not apply and I.R.C. §2040(a) will control the inclusion in the gross estate and therefore the amount subject to a basis adjustment.
[18] Note, if the property was gifted by a donor spouse to a donee spouse within one year of the donee spouse’s death and the appreciated property passed back to the donor spouse after the donee’s death, the donor spouse will not receive a step-up in basis. Instead, the donor spouse will have a carryover basis, which is the basis of the donee spouse immediately before his or her death. I.R.C. §1014(e).
[19] I.R.C. §1041(a) (provides that no gain or loss is recognized for transfers between spouses), I.R.C. §1015(e) (provides that the basis of a gift between spouses will be determined by I.R.C. §1041(b)(2)), and I.R.C. §1041(b)(2) (provides the donee spouse with a carryover basis, which is the basis of the donor spouse immediately before the gift by the donor spouse). Nonetheless, I.R.C. §1041(a) does not apply to a nonresident alien donee spouse. I.R.C. §1041(d).
[20] I.R.C. §2033.
[21] I.R.C. §1014(b)(6). See Travis Hayes, To Share and Share Alike: An Examination of the Treatment of Community Property in Florida and the New Florida Community Property Trust Act, unpublished manuscript on file with the author, for a more detailed understanding of the history and original purpose of I.R.C. §1014(b)(6).
[22] Hayes, To Share and Share Alike.
[23] Fla. Stat. §736.1503(1) (2021).
[24] Fla. Stat. §736.1503(2) (2021). “‘Qualified trustee’ means either: (a) A natural person who is a resident of the state; or (b) A company authorized to act as a trustee in [Florida].” Fla. Stat. §736.1502(6) (2021).
[25] Fla. Stat. §736.1503(3) (2021). To create a trust in Florida, the trust’s creator (settlor) must have capacity, the settlor must indicate an intent to create a trust, the trust must name a beneficiary, the trustee must have duties, and the same person cannot be sole trustee and sole beneficiary. Fla. Stat. §736.0402 (2021). Further, if the trust contains testamentary aspects, it must be executed “with the same formalities required for the execution of a will.” Fla. Stat. §736.0403(2)(b) (2021). Thus, the trust must be signed by the settlor at the end of the document in the presence of two witnesses and signed by both witnesses in each other’s and the settlor’s presence. Fla. Stat. §732.502 (2021).
[26] Fla. Stat. §736.1503(4) (2021).
[27] Fla. Stat. §736.1504 (2021).
[28] Fla. Stat. §736.1507 (2021).
[29] Fla. Stat. §736.1504(3) (2021).
[30] Fla. Stat. §§736.1505(3) & (5) (2021).
[31] Fla. Stat. §736.1511 (2021); I.R.C. §1014(b)(6).
[32] IRS Publication 555, Community Property, was revised in March 2020 and in the “What’s New” section stated: “The states of Tennessee and South Dakota have passed elective Community Property Laws. This publication does not address the federal tax treatment of income or property subject to the ‘community property’ election.” 2020 WL 1942786.
[33] See McCollum v. United States, 58-2 U.S.T.C. ¶9957 (N.D. Okla. 1958) (married couple elected to treat property as community property under Oklahoma’s opt-in community property law. The court provided that “local law…property rights [are] determinative for tax purposes.” The court determined the property was properly considered community property from the time of the original election and therefore, a full basis step-up was applied. Nonetheless, it is important to note that the court included in its analysis a reference to a change in the community property laws that occurred after the spousal election, but before the decedent’s death causing marital property to be treated as community property.).
[34] Westerdahl v. Commissioner, 82 T.C. 83 (1984).
[35] Angerhofer v. Commissioner, 87 T.C. 814 (1986).
[36] Hayes, To Share and Share Alike.
[37] 1993 WL 1609164 (Nov. 24, 1993).
[38] Hayes, To Share and Share Alike (provides a detailed analysis of the issues considered by the committee during the research and drafting phase of the Act).
[39] See Jonathan G. Blattmachr, Howard M. Zaritsky & Mark L. Ascher, Tax Planning with Consensual Community Property: Alaska’s New Community Property Law, 33 Real Prop. Prob. & Tr. J. 615 (1999) (“Alaska community property should receive the same basis treatment under section 1014(b)(6), because community property under Alaska law, like community property under Wisconsin law, is community property under the “community property laws of [a] State,” as section 1014(b)(6) requires.”); Terry Prendergast, South Dakota Special Spousal Property Trusts: South Dakota “Steps-Up” to the Plate and Hits a Home Run for Surviving Spouses, 61 S.D. L. Rev. 431 (2016) (“South Dakota legislation clearly intends that the surviving spouse would receive a 100% step-up in basis on the property held in the Special Spousal Trust by the decedent and surviving spouse. Some have suggested that a state cannot allow an opt-in to community property in this specific circumstance, but in each of the nine states where community property is the default, spouses may opt-out by agreement. To allow spouses to opt-in, where common law property is the default, should be considered another side of the same coin.”) (footnotes omitted); Alan Gassman & Christopher Denicolo, The FLCPT: Rethinking Client Trust Logistics with a New Powerful Catalyst, LISI Estate Planning Newsletter #2893 (July 8, 2021), available at www.leimbergservices.com (“The McCollum decision seems consistent with the notion that Section 1014(b)(6) applies to elective community property as well as mandatory community property.”).
[40] Lester Law & Howard Zaritsky, Basis After the 2017 Tax Act — Important Before, Crucial Now, Heckerling 2019 (“In light of the fact that there is disagreement among many who have studied this issue, what is clear [is] that it is unclear in Florida. What is clear is if you have jurisprudence in a state where the property ‘is’ community property and not that the surviving spouse has ‘rights’ in property that was at one time community property, then the property can be adjusted under I.R.C. §1014(b)(6). If the property is not community property under the laws of Florida, then there can be no adjustment.”); William Roberts, A Cautionary Tale Community Property Trusts, 47 Tennessee Bar Association Law Blog (July 2011), available at https://www.tba.org/index.cfm?pg=LawBlog&blAction=showEntry&blogEntry=9623 (“It is not clear that a Tennessee CPT will accomplish the legislative purpose of giving a married couple a [FMV] tax basis in assets held in the CPT at the time of the first death.”); Jeremy T. Ware, Section 1014(b)(6) and the Boundaries of Community Property, 5 Nev. L. J. 704, 722 (2005) (“The elective nature of the regime calls into question whether the Service will allow the full step up for Alaska community property.”).
[41] Blattmachr, et al., Tax Planning with Consensual Community Property at 631-33.
[42] Oh, What a Relief It Is: Curing Estate Plans That No Longer Make Sense in Light of the American Taxpayer Relief Act of 2012, 2016 ABATAX-CLE 0506048 [hereinafter Relief] (“If spouses are converting property they own as tenants in common to community property, Code section 1014(e) should not apply. Each spouse owned an undivided one-half interest in the property both before the conversion and after the conversion, so the conversion should not result in a transfer of property between them. They are simply changing the legal attributes of their existing co-ownership.”).
[43] Prendergast, South Dakota Special Spousal Property Trusts at n. 16 (“It is possible, depending upon the date of death and the nature of the property transferred (e.g., if one spouse owned 100% of the property put into the trust), that I.R.C. [§]1014(e) would preclude step-up in basis.”).
[44] See Relief (providing an illustration in which wife converted an asset with a basis of $50 and a FMV of $100 into community property. Husband died within one year of the conversion. Wife’s one-half interest received a FMV adjustment to $50 while the interest received back from husband kept its share of the carryover basis of $25. Therefore, wife started with a $50 basis and ended with a $75 basis.).
[45] Treas. Reg. §20.2031-1(a).
[46] Treas. Reg. §20.2031-1(b).
[47] Id.
[48] Estate of Jackson v. C.I.R., 121 T.C.M. (CCH) 1320 (T.C. 2021) (acknowledging “that a premium may be appropriate when valuing large blocks of stock”); Estate of Chenoweth v. C.I.R., 88 T.C. 1577, 1581 (1987) (“The courts have likewise recognized that an additional element of value may be present in a block of shares representing a controlling interest, for valuation purposes under [§]2031.”).
[49] An in-depth analysis of valuation rules is beyond the scope of this article. See generally Thomson Reuters, 706/709 Deskbook Key Issue 34G: Discounts and Premiums, 2021 WL 11691351.
[50] I.R.C. §2040(b).
[51] I.R.C. §2033.
[52] Dan W. Holbrook, Community Property Trusts, Tenn. Bar J. (Dec. 2010) (“because each spouse owns an undivided one-half interest in all community property, each half may be eligible for a discount in value for transfer tax purposes on account of being a fractional interest, especially if the community property is real property or a closely held business interest”); J. Paul Singleton, Yes, Virginia, Tax Loopholes Still Exist: An Examination of the Tennessee Community Property Trust Act of 2010, 42 U. Mem. L. Rev. 369, 371 (2011) (“[C]ommunity property states generally regard property acquired during marriage as a community asset, meaning that ‘each spouse has a present, vested, one-half ownership interest’ in such property, regardless of which spouse acquired the asset or the title.”).
[53] Estate of Mitchell v. C.I.R., 83 T.C.M. (CCH) 1524 (T.C. 2002) (“When valuing unlisted stock, it may be appropriate to apply a discount for lack of marketability, a discount for a minority interest, or a premium for control.”); Estate of Godley v. C.I.R. 286 F.3d 210, 214 (4th Cir. 2002) (“Often, a discount or premium must be applied to reflect the value an investor places on things such as managerial control, ability to re-sell the shares, and other risks.”).
[54] See generally Holbrook, Community Property Trusts.
[55] Estate of Lee v. Comm’r, 69 T.C. 860 (1978) (married couple owned vast majority of stock in a closely held corporation, and upon the first spouse’s death, the court held the stock to be received from the decedent by the surviving spouse was to be valued separately from the shares owned by the surviving spouse); Estate of Bright v. United States, 658 F.2d 999 (5th Cir. 1980) (upheld a discount in community property and rejected the argument that no discount should be applied since assets were passing to family); Propstra v. United States, 680 F.2d 1248 (9th Cir. 1982) (upholding a 15% discount for community property); Estate of Elkins v. Comm’r, 140 T.C. 5 (2013) (community property art work received a 67% valuation discount when the assets passed on spouse’s death and the other spouse surviving the term of his grantor retained income trust).
[56] Thomson Reuters, 706/709 Deskbook Key Issue 34G: Discounts and Premiums, 2021 WL 11691351 (“[T]hese adjustments are not optional, and the preparer must resist the temptation to overvalue assets (e.g., by not taking a discount for lack of control or marketability) to receive a larger stepped-up basis for the recipient.”).
[57] I.R.C. §1014(b)(6) (requires at least one-half inclusion in the deceased spouse’s gross estate for the surviving spouse’s interest to also receive a FMV basis adjustment).
[58] Ahmanson Foundation v. United States, 674 F.2d 761 (9th Cir. 1981).
[59] $100,000 business owned 60/40. Assuming the 60% interest receives a 15% net premium, it is worth $69,000 and the minority interest receives a 30% net discount, it is worth $28,000. Thus, while the whole is equal to $100,000, the sum of the parts only equates to $97,000.
[60] See generally Thomson Reuters, 706/709 Deskbook Key Issue 34G: Discounts and Premiums, 2021 WL 11691351.
[61] Jeremy T. Ware, Section 1014(b)(6) and the Boundaries of Community Property, 5 Nev. L. J. 704, 722 (2005).
[62] Nonetheless, there is debate over whether this hybrid ownership will truly provide the benefits of both worlds. See Arthur W. Andrews, Community Property with Right of Survivorship: Uneasy Lies the Head That Wears a Crown of Surviving Spouse for Federal Income Tax Basis Purposes, 17 Va. Tax. Rev. 577, 596 (1998).
[63] 1987-2 C.B. 206 (1987) (arguing against the likely treatment); Ware, Section 1014(b)(6) and the Boundaries of Community Property at 722 (arguing that the IRS would likely permit the treatment).
[64] 1993 WL 1609164 (Nov. 24, 1993).
[65] See Treas. Reg. §25.2515-1(a)(3) (Although it applies to TBE established before 1982, it expands the type of property to be considered TBE: “the term ‘tenancy by the entirety’ includes a joint tenancy between husband and wife in real property with right of survivorship, or a tenancy which accords to the spouses rights equivalent thereto regardless of the term by which such a tenancy is described in local property law.”) (emphasis added). Contra Arthur W. Andrews, Community Property with Right of Survivorship: Uneasy Lies the Head That Wears a Crown of Surviving Spouse for Federal Income Tax Basis Purposes, 17 Va. Tax Rev. 577, 596 (1998) (arguing that the regulation would likely not be applicable).
[66] See Hirsch v. Bartels, 49 So. 2d 531 (Fla. 1950) (holding that a partnership agreement with express survivorship provisions created an interest under F.S. §689.15 with rights of survivorship among the partners).
[67] Fla. Stat. §736.1505(3) (2021).
Joseph M. Percopo practices law in Orlando. His practice concentrates on estate and trust planning and administration, asset protection planning, business, and tax law. He is a board member of the Central Florida Estate Planning Council, a former RPPTL section fellow, and recent graduate of the Florida Fellows Institute of the ACTEC.
This column is submitted on behalf of the Real Property, Probate and Trust Law Section, Sarah Swaim Butters, chair, and Allison Archbold and Homer Duvall, editors.
