Attaching Sole Management Community Property
On December 17, 2008, the 5th Circuit decided the case of Gray v. U.S., 2008 WL 5235989, the latest case to address the IRS’ ability to collect taxes by levying or attaching sole management community property of a nonliable spouse. In Gray, the nonliability of the other spouse resulted from her qualifying for innocent spouse protection. The question before the Court was whether the IRS could reach her sole managed community property to pay her husband’s tax debt.
Separate And Community Property
Texas law defines community property as property, other than separate property, acquired by either spouse during marriage. There is a rebuttable presumption under Texas law that all property acquired during marriage is community property.
Under Federal law, each spouse is considered to own a fifty percent interest in community property. Income earned by either spouse is considered community income for tax purposes. That is, if spouses file separately, each is to report one-half of each spouse’s income on their respective tax returns unless an agreement exists to the contrary.
(Note: a fifty percent presumption does not necessarily obtain on divorce. The presiding Judge in a divorce case is authorized to make a disproportionate division if the Judge deems such to be “just and right.”)
Texas law defines separate property as property owned by a spouse before marriage; property acquired by a spouse during marriage by gift, devise or descent; and any damages recovered by a spouse for personal injuries that do not represent loss of earning capacity during marriage.
Joint and Sole Management
Texas law distinguishes between community property subject to the joint management, control, and disposition of both spouses, and property subject to one spouse’s sole management, control, and disposition.
The distinction between joint and sole management community property is critical to determine how far the IRS and other creditors may reach to collect against a nonliable spouse.
A spouse is considered to have sole management, control, and disposition over community property that that spouse would have owned if that spouse were single, such as a medical practice. This sole management property includes personal earnings; revenue from separate property; damages recovered for personal injury attributable to loss of earning capacity; and the increase in value, mutations and revenue of all property subject to a spouse’s sole management, control, and disposition.
Texas law defines community property subject to joint management, control, and disposition as all community property that is not subject to a spouse’s sole management, control, and disposition, such as a joint financial account. (Note: the parties may enter into an agreement to provide otherwise.)
General Creditor’s Reach
Although each spouse has a 50 percent interest in the community property, Texas law limits the types of community property that a creditor may reach to satisfy a spouse’s separate liability. Texas law allows a creditor to reach all of a liable spouse’s community property subject to that spouse’s sole management, control, and disposition to satisfy that spouse’s separate liability. In addition, a creditor may reach all community property subject to the spouses’ joint management, control, and disposition, and all of the liable spouse’s separate property. Whether the debt was incurred before or during marriage does not matter.
A creditor may not reach any portion of the property subject to the non-liable spouse’s sole management, control, and disposition, or the non-liable spouse’s separate property. A spouse that incurs contractual liability will bind the share of the noncontracting spouse’s community property subject to the sole or joint control of the contracting spouse, but the noncontracting spouse is not ‘personally liable’ for the obligation, and the noncontracting spouse’s sole management property cannot be reached. That is, only the contracting spouse’s separate property, sole management community property, and any joint management community property can be reached by the creditor.
Under Federal law the IRS has a further reach than a general creditor. It may reach the liable spouse’s 50-percent interest in the non-liable spouse’s sole management property to satisfy a separate federal tax liability. For example, whereas a general creditor cannot reach the liable spouse’s interest in an account held in a nonliable spouse’s sole name, the IRS can reach fifty percent (50%) of that account.
Caveat 1: The foregoing analysis of a creditor’s reach does not apply to tort liability incurred during marriage. In the case of tort liability, such as personal injury to a 3rd party caused by one spouse, the sole managed property of the other spouse, but not that spouse’s separate property, is reachable by the injured party.
Caveat 2: If a debt is incurred by a contracting party for necessaries, such as emergency medical care, both the separate property and sole managed community property of the noncontracting spouse is reachable.
Caveat 3: The protection afforded by Texas homestead laws is beyond the scope of this article.