AMDs: THE SUCCESSOR TO THE LIVING WILL
ADVERSE POSSESSION
ANNUITY CAN TAKE STING OUT OF ESTATE TAX
ASSUMPTIONS
BUY-SELL AGREEMENTS
BUYING AND SELLING SECURED NOTES
CEMETERIES AND GRAVEYARDS
WHAT IS A "CONTINGENT" CONTRACT
CONTRACT FOR DEED
CRUMMEY TRUST VS QPR TRUST
DECEDENT'S ESTATES--DESCENT AND DISTRIBUTION
DIFFERENCES IN POWERS OF ATTORNEY
EASE TAX BURDEN WITH AN INSURANCE TRUST
EASEMENTS
EASEMENTS (Continued)
EASEMENTS
EMINENT DOMAIN
UNDERSTANDING ESCROWS
FAMILY INCOME SHIFTING AND THE KIDDIE TAX
FAMILY LIMITED PARTNERSHIPS
FIXTURES
FORECLOSURE
GAIN ON ROLLOVER OF PERSONAL RESIDENCE
GENERAL POWER OF ATTORNEY
DEFINITION OF A GIFT OF REAL ESTATE
HOLDING TITLE
WALK THRUS AND HOME INSPECTIONS
HOMEOWNER'S ASSOCIATIONS
HOMESTEAD DEEDS
HOW TO SELECT AN EXECUTOR FOR YOUR ESTATE
IMPOSSIBLITY OF PERFORMANCE
INTESTATE DISTRIBUTION
"LACHES"--WAITING TOO LONG TO CLAIM OUR RIGHTS
LIABILITY OF POND OWNERSHIP
LIENS
LIFE ESTATE
LIKE-KIND EXCHANGES
LIVING TRUSTS AND REAL ESTATE
LIVING TRUSTS CAN SAVE ON PROBATE COSTS
"LIZ PENDENS" DEFINED
LOCAL GRASS CUTTING ORDINANCE
MARITAL PROPERTY
MORTGAGE ESCROW ACCOUNTS
NEW HOME WARRANTIES
NOTE GUARANTY
OPTION TO PURCHASE
OVERHANGING TREES
PLANNING OPPORTUNITY FOR JOINTLY-OWNED PROPERTY
POWER OF ATTORNEY
PRIVATE CEMETERIES
PRIVATE ROAD DEDICATION
PROPER PARTIES TO A CONTRACT
PROPERTY DISCLOSURE
PROPERTY OWNERS ASSOCIATION ACT
LIABILITY IN THE USE OF REAL ESTATE FLYERS
REAL ESTATE TAX ASSESSMENTS
REAL ESTATE TAX DEDUCTIONS
RELEASING DEEDS OF TRUST
RESCINDED DEEDS
RESIDENCE TRUST CAN OFFER TAX SAVINGS
RESULTING TRUSTS
SALE BY EXECUTOR, ADMINISTRATOR OR HEIRS
SALE OF NEW HOMES
SALE OF REAL ESTATE FROM A PROBATE ESTATE
SALE OF RESIDENCE - ROLLOVER
SELLER-HELD FINANCING
SELLER DISCLOSURE
STANDING
SUBORDINATION AGREEMENTS
SUPPORT LIENS
WHY IS A SURVEY NECESSARY IN A HOME PURCHASE?
SURVEY REQUIREMENTS
SURVEYS REQUIRED FOR TITLE INSURANCE
SWIMMING POOL LIABILITY
THE TAX BENEFITS OF CHARITABLE GIFTS
TITLE EXAMINATION
A TITLE INSURANCE POLICY IS A CONTRACT
TRESPASSERS vs INVITEES
TRESPASSING TURKEYS
TYPES OF DEEDS
UNDERSTANDING THE TRANSACTION
WET SETTLEMENT ACT
WHY IT IS IMPORTANT TO UPDATE YOUR WILL
AMDs: THE SUCCESSOR TO THE LIVING WILL
The fear of losing the ability to control the course of one's medical treatment haunts many people, regardless of their age. This fear frequently focuses on the possibility of being subjected to intrusive and expensive artificial methods of sustaining life when recovery is beyond hope.
Such fears may be fueled by cases such as the 1991 U.S. Supreme Court case concerning Nancy Cruzan. Nancy's parents brought their case all the way to the Supreme Court in an effort to end the artificial feeding and hydration of their daughter, who had lapsed into a coma eight years before as a result of injuries sustained in an automobile accident.
The Supreme Court held that a state may require a surrogate. In this case Nancy's parents, to produce clear and convincing evidence of an incapacitated person's wishes to terminate treatment. The court agreed with the Missouri Supreme Court, however, that Nancy's verbal remarks to her former housemates that she did not want to live unless her life could be "halfway normal" did not constitute clear and convincing evidence of her wishes concerning medical treatment.
As a result of this decision, the Virginia General Assembly has made alternatives available to Virginia residents to provide independent evidence of a person's wishes that preserves the right to self determination in medical decisions even in the event of that person's physical or mental incapacity.
A progressive alternative available to Virginia residents is the Advanced Medical Directive.
REQUIREMENTS OF THE AMD
Virginia Code Section 54.1-2983 permits a Virginia resident to appoint an agent or surrogate to consent to medical treatment on the individual's behalf through a written statement, the AMD. If the individual becomes incapable of making an informed decision after executing the AMD, the individual will have nominated agents (up to three, one primary and two successors) to make health care decisions for the individual.
To be valid under Virginia law, the individual must sign the AMD in the presence of two witnesses, who are not related by blood or marriage to the individual, and who also must sign.
Also, by definition, the AMD can become effective only when the individual is "incapable of making an informed decision." Virginia Code Section 54.1-2982 quires the certification of the individual's attending physician and a second physician or licensed clinical psychologist, after personal examination that the individual is suffering from either a mental or physical disorder that either impairs the individual's judgment or precludes his or her ability to communicate his or her consent to the administration or withdrawal of medical treatment.
Only after this certification will the AMD be consulted and relied upon in determining whether to give, withhold or withdraw medical treatment to the individual.
LEGAL EFFECTS 1. Insulation of health provider from liability. A health care facility, physician or personnel acting under the direction of a physician are immune from civil or criminal liability for relying on an AMD.
2. No liability for lack of consent. No person or facility providing, withholding or withdrawing medical treatment in accordance with the instructions of an AMD shall be liable for its actions on the basis of lack of consent.
3. Transfer of treatment to another physician. A physician who will not comply with the AMD must make a reasonable effort to transfer the patient to another physician who will comply.
4. Not considered suicide. Withholding or withdrawing medical treatment pursuant to an AMD is not considered suicide. Neither the making of an AMD nor acting pursuant to an AMD will adversely affect any life insurance policy.
BENEFITS OF AN AMD
The AMD offers much more detail, flexibility and opportunity to customize than the standard living will. Some of these benefits are:
1. Appointment of agent(s): The individual may designate primary and secondary agent(s) to make health care decisions for the individual.
2. Explanation of law: The AMD provides more of a detailed explanation of the applicable law in the document itself to guide the agents in the performance of their duties.
3. Customization: Unlike the standard living will, the AMD offers the individual the ability to express his or her personal views and values, which will impact the types of medical treatment the individual would like administered or withdrawn.
a. Because the AMD is intended to be a comprehensive declaration of the individual's intentions concerning his or her medical treatment, the AMD offers the individual the opportunity to customize the document to encompass his or her personal and/or religious beliefs.
b. The AMD also allows the individual to provide detailed instructions to his or her designated agent(s) of the specific medical treatment to be administered or withdrawn depending upon the individual's specific medical condition a the time.
HOW TO USE
The AMD serves its purpose only if the appropriate parties know of its existence. These parties include the individual's treating physician or family doctor, the agent(s) designated in the document, and other family members who may be able to bring the document to the attention of medical personnel in the event emergency treatment is needed.
We suggest in our office that only one original AMD be executed, and that photocopies be distributed to the appropriate persons with a notation of where the original is located. Then, in the event the individual desires to change the instructions, only the executed original will be the latest version of the document.
ADVERSE POSSESSION
The concept of adverse possession is unusual in the law. It is based on a Virginia Statute which reads that no person can sue to recover land after fifteen years. This theory allows a person who does not own a piece of property to acquire ownership of that land. In my practice, I sometimes receive questions such as, a person wants to claim ownership of a piece of property because he has mowed the lawn on the property for several years, or he has a fence over the property line or he has used the property as part of his own property. These events alone will not rise to the level of adverse possession so that the user can claim that he owns the property. There are certain legal requirements for a claim to mature into a right to take someone else's land. These requirements are that the land must be held under color of title, exclusive possession, open and notorious, and continuously for the statutory period of fifteen years. "Color of title" is the term used to describe one requirement of an adverse possessor. This term means that the adverse possessor, in good faith, believes he is the owner of property based on a written instrument such as a deed. Recent cases have held, however, that no written document is required, and an adverse possessor need only have a claim of ownership. Mere possession is not adequate. The claimant must intend to make the land his own. A careful title search should resolve this issue, but the title could still be defeated by a claim of adverse possession if the other requirements are met. "Exclusive possession" means that the party claiming under adverse possession must actually occupy the land to the exclusion of all others, including the rightful owner. The possession must also be "open and notorious" during the statutory period. The reason for this requirement is that a person cannot take someone's property in secret. The claiming party must prove that the other party had or could have had actual or constructive notice that someone is using his land in an open and notorious manner and claiming it by using it as his own. Lastly, the possession must be continuous for the statutory period. If the use is not continuous, then the law states that during that break in adverse use, possession is placed back in the legal owner and the fifteen years required for adverse possession must begin again when the adverse use begins again. A defense to a claim of adverse possession is when the legal owner is acting under a disability. A legal disability is a situation where the legal owner may be a minor who cannot legally claim the land; or it may be that the owner is insane or even in prison. In these situations, the time for claiming adverse possession will not run while the owner is under a disability, but not more than twenty-five years. Another defense might be that, if a person mistakenly believes that the property is his own, then he cannot be claiming property not his own and, therefore, the possession cannot be notorious and adverse to the real owner. Also, a tenant or a co-owner cannot claim adverse possession. Payment of taxes on the property is neither conclusive proof of adverse possession nor is it a necessary requirement to prove adverse possession. It is evidence, however, of the adverse possessor's claim of open, notorious and exclusive use. Also, there can be no claim of adverse possession against the Commonwealth of Virginia. So, there are many factors required to prove adverse possession and to obtain a title good enough to convey to a subsequent purchaser. The adverse possessor may obtain a court order proving his ownership, which order will probably be required by a title insurance company before a sale or before any financing would be available.
ANNUITY CAN TAKE STING OUT OF ESTATE TAX
If you own property that has high appreciation potential, such as your own business or undeveloped real estate, you should consider steps you can take today to reduce the future tax costs of transferring such property to your children or other beneficiaries.
If you retain the property until your death and the property appreciates substantially, there will be a corresponding increase in the size of your taxable estate. This increase may be taxed at marginal estate tax rates, currently ranging from 37 percent to 55 percent.
The private annuity is one alternative to head off a significant estate tax increase. It also offers a number of income tax and practical advantages.
The strategy is simple. A person transfers the property to a child or other individual in exchange for the transferee's promise to make annual payment for life to the original owner of the property.
There is no gift tax on the transfer, provided that the value of the property does not exceed the present value of the payments, as determined under IRS tables. The interest factor used in applying the IRS tables changes monthly.
Thus, the present value of an annuity fluctuates with interest rate movements. When interest rates are relatively low, the property can be transferred, without gift tax costs, for smaller payments by the younger family member than would be required when interest rates are higher.
ESTATE TAX ADVANTAGES
- Transferring property in exchange for annuity payments removes the property from your taxable estate for estate tax purposes. Unless your death is imminent at the time of the transfer, this result will be achieved even if you die shortly after the transfer.
- The annuity payments you receive will be included in your taxable estate. You can avoid this result, however, by using the payments to make gift tax-free annual exclusion gifts to children, grandchildren and other beneficiaries.
INCOME TAX ADVANTAGES
- Advantage over a sale. A private annuity offers an income tax advantage if you are transferring a capital asset that has already increased in value from the time you acquired it.
Unlike an ordinary sale, with an annuity you do not pay tax on the entire capital gain in the year of the transfer. Instead, your gain is spread out over your lifetime.
This may reduce your taxes in other ways, such as keeping your income below a level that would trigger the reduction or loss of itemized deductions or other tax benefits or would trigger taxation of Social Security benefits.
- Advantage over an installment sale. A private annuity also has an advantage over an installment sale. With an installment sale, depreciation recapture income is taxed in the year of sale, regardless of when payments are made, and a resale of the property by the purchaser could accelerate the seller's deferred gain.
With a private annuity, any recapture is taxed as payments are made, and a resale of the property by the child has no impact on the annuitant's tax situation.
PRACTICAL ADVANTAGES
Private annuities also offer practical advantages. A private annuity can relieve you of the burden of managing business or investment property. In addition, private annuities can save estate administration costs because the transferred property is removed from your probate estate.
The estate and other advantages outlined above can be achieved only if the property is transferred in exchange for your child's (or other individual's) unsecured promise to make the annuity payments.
The estate planning benefits may be lost if you retain an interest in the property or if payments are tied to the property's income.
The private annuity is certainly one of a number of ways to pass the ownership and control of a substantial asset from one generation to the next. The advantages and practicalities of private annuities highlight the importance of succession planning for individuals with business or real estate assets that have the likelihood of future appreciation.
ASSUMPTIONS
The recent increase in interest rates has created a resurgence of loan assumptions. In turn, this has led to much confusion in what it means to assume a mortgage loan. There are many misconceptions about how to assume a loan and what are the ramifications of the assumption to both the buyer and the seller. A loan assumption is when a person buys a piece of property against which there is recorded a lien or mortgage and that mortgage is not paid off at the sale. Rather, the buyer makes the payments on the mortgage. The most important question for the seller is whether that seller is relieved from liability on the mortgage. That is to say, that, if the buyer stops making payments on the loan, is the seller responsible for the payments? The answer depends on how the mortgage was assumed and what legal requirements were contained in the original loan documents. In the 1970's and early 1980's, all government loans, that is, loans insured by the Veterans Administration (VA) or Federal Housing Administration (FHA), were freely assumable. This meant that any person, partnership, or corporation could purchase the property and make payments on the seller's loan without prior approval by the lender. The problem was that the seller was not released from liability on the loan. When the buyer stopped making payments, and the decrease in property values prevented the sale of property at a profit, the lenders began to foreclose on these properties. If the foreclosure sale did not bring in enough money to pay off the loan, the original seller had to pay. So, the seller, who sold his home thinking that the buyer was going to be responsible for his loan, began receiving bills for thousands of dollars which represented deficiencies on his loan. Many sellers believed that, if the buyer defaulted, the seller could take the property back and begin making payments. This was simply not true. So, VA and FHA changed the rules. It is now the case that a loan taken out today will require the buyer to qualify to assume a loan, as though they were obtaining a new loan. The procedures are different depending on whether the seller has an FHA, VA or Conventional loan; but, in all cases, the buyer must apply to assume the loan. If the buyer qualifies, then the seller will be relieved from liability and will never be faced with a deficiency bill or judgment if the buyer defaults in his payments. This is a difficult area to lay out rules for because there are transitional rules for loans originated between 1986 and 1989. After 1986, FHA rules for assumptions are different if the purpose of the loan was for the purchase of a principal residence as opposed to a loan for the purchase of an investment property. Also, under VA loans, besides a change in the assumption rules in 1989, even if the veteran-seller is released from liability, his eligibility will not be restored unless the proper procedures are followed with the Veteran's Administration. Some loans are not assumable at all. Most conventional, fixed-rate loans are not assumable, while most adjustable-rate loans are assumable with qualification. A seller must obtain the help of a knowledgeable Realtor or call his current lender to determine if and how his loan is assumable.
BUY-SELL AGREEMENTS
A buy-sell agreement is like a will for your company. It spells out the terms for buying out your or all of your partners? interest in your company in the event of death, disability or retirement. Many lawyers and accountants agree that a buy-sell agreement is a necessary tool of the closely held business owner-- but surprisingly, many owners don?t take advantage of them.
A buy-sell agreement is not just an effective tool to head off possible disputes. If you are seeking financing, you may have to draft a buy-sell agreement as a condition to obtain a loan. Banks that finance closely held businesses often recognize that the principal partners play a vital role in the running of the business, and they want to know what will transpire in the event an owner or partner is no longer with the company. The buy-sell agreement may satisfy this requisite information and soothe any concerns.
What the agreement should include
The agreement, which should be drafted by an experienced attorney and reviewed by an experienced accountant, should cover five basic terms:
1. Who will purchase your share in the company? Generally, there are three types of buy-sell agreements that state who the purchaser will be.
* A redemption agreement is when the company buys out your shares. If there are several partners or owners of your company, this may be the way to go. If your company will purchase life insurance to fund a buyout, it will only have to own and pay premiums on one policy for each owner--as opposed to all the partners having to own policies on all the other partners, which can add up to dozens of policies.
* A cross purchase agreement provides for the remaining owners to buy out your interest. This type of agreement is often considered the best because, although you may have a taxable gain, the payment is not considered a dividend, so it will not be taxed at your or your heirs? regular income tax rate. The purchasers also get a 'step-up? in their income tax basis equal to your gain (that way, they don?t pay capital gains tax on that amount if the business interest is later sold). However, this method may be a disadvantage if there are several owners and the agreement is to be funded via insurance policies. Insurance policies will have to be purchased by each owner to cover every other owner in the company.
* A hybrid agreement is a combination of the two methods. Upon your withdrawal, your stock is first offered to the other shareholders of the company. If they do not wish to buy you out, the corporation then buys the shares. Alternatively, a hybrid agreement may be structured so that part of your stock is redeemed by the corporation and the remaining shares are purchased by the other shareholders.
2. What events will trigger the buy-sell agreement? For example, a buy-sell agreement could be tailored so that it is triggered if the company owner dies, retires or even gets a divorce.
3. How will the business be valued? Several methods for valuing a principal's shares are often used. Getting several appraisals and using an average is an option, and setting up an annual meeting to agree on a value for the following year is another.
It is also important to consider the estate tax requirements of the IRS. For the agreement to be binding, the valuation must be considered ?reasonable? and be binding during your life and after your death. Your attorney or accountant can help you ascertain what the IRS deems reasonable. If the IRS has to value the business, it may be appraised at an inflated rate and your heirs could be looking at substantial estate taxes.
4. How will the buyout be financed? Sometimes payments are made directly from the business? normal operations. Or, as mentioned in the redemption agreement example, life insurance payable upon an owner's death is often used. This type of funding can prevent the business--especially small businesses-- from being crippled with a large payout.
5. What is the method of payment? A lump-sum payment could be produced if life insurance was involved. However, if the corporation is to buy out owners or heirs, a lump sum may be impossible. Instead, payments over a specified duration may have to be scheduled. Interest and collateral also should be addressed if a payment plan is established.
The method of payment also should ensure that your heirs have money when they need it. Without the terms specified, your family could end up receiving a stock certificate, which may not produce any immediate income.
The bottom line
Drafting a buy-sell agreement does a great deal in ensuring a smooth transition of your business interest and heading off possible disputes from partners, spouses and children. It also can help keep a lid on estate taxes. So, if you feel that your business would benefit from a buy-sell agreement, contact your attorney or financial advisor for more information.
BUYING AND SELLING SECURED NOTES
I was asked this week to explain the mechanics of buying and selling secured trust notes and to explain the advantages, disadvantages and the risks and benefits of such transactions. A note, whether secured by a deed of trust or not, is a "negotiable instrument". It is a piece of paper that can be bought and sold. A note is similar to an ordinary check from your personal checkbook. It is a promise by someone to pay another person a certain sum of money. A note is a more detailed promise; it usually contains the promise to pay a certain amount of money over a certain time period, at a stated rate of interest, with fixed payments and contains a date when the entire sum must be paid. Often, however, the holder of the note does not want to wait out the term of the note and would rather have his cash immediately. The way this is done is by the sale of his note in exchange for cash. If the note is sold, the purchaser of the note then has to wait for the money to be paid according to the note terms. The risk of non-payment is then shifted to the note purchaser. That purchaser takes the risk that the note might not be paid at all. The note seller now has no risk because he has sold the note for cash and has received his money. Because of the note purchaser's risk and because of the length of time that will pass until the note is paid, the buyer is usually not willing to pay the full face value of the note. He, therefore, offers to buy the note at a discount. A $20,000.00, five-year note may be sold for $16,000.00. The seller gets $16,000.00 cash immediately and the buyer gets the promise of $20,000.00 in five years, plus interest on any unpaid balance for five (5) years. This sounds like a perfect situation, except for one problem--what if the notemaker does not pay as promised? The note purchaser must protect himself against such a default. One way the note purchaser can protect himself is by retaining the right to sue not only the maker of the note, but also the note seller, the person who sold him the note. The method for retaining that right is through the endorsement to the note purchaser on the back of the note. If the note is sold "with recourse", the buyer can sue the seller; if the note is sold "without recourse", the purchaser can only sue the notemaker. This specific language must be written on the endorsement. Sellers of notes always want to sell without recourse. Their argument is that the note is secured by a lien on real estate. This security is the other way note purchasers can protect their investment. The note purchaser should receive not only the note, but also the deed of trust. This is the document which creates a lien on property. The note purchaser can foreclose on that property if the note is not paid according to its terms. The noteholder will then get his money at the foreclosure sale or upon a subsequent sale of the property. A note purchaser should also obtain a title insurance policy, insuring the title and priority of the trust. The sale of secured notes is done quite often, but a note purchaser must be aware of the risks involved and the ways to protect his interests.
CEMETERIES AND GRAVEYARDS
As we near the night of Halloween our thoughts turn to ghosts, goblins and graveyards. Ghosts and their haunted houses will be addressed in a subsequent article. Graveyards will be discussed here. There are at least two issues that need to be discussed when we think about graveyards. One is the creation and expansion of a graveyard or cemetery and the other is the rights of private individuals to visit family plots which are located on private property. This week the creation of cemeteries is the topic.
A statute in Virginia (Va Code ?57.25) allows a city, town, or magisterial district to establish a cemetery or enlarge an existing cemetery. The statute also allows such a governing body to take property from individual land owners by the process of "eminent domain" if the property for cemetery purposes cannot be otherwise acquired. This means that property of individual owners will be condemned and the city or other body must pay the individuals for their property. The problems associated with eminent domain such as when the taking occurs and what value to place or the property is a topic to be discussed at a later time. This statute does not apply to family plots or cemeteries owned and maintained by trustees of a church. This statute applies only to municipal cemeteries.
One of the provisions of this statute is that no cemetery can be established closer that 250 yards to a residence without the owners permission. One has to wonder what prompted that prohibition. Also the cemetery cannot be located within 300 yards from property that obtains water from driven wells. Municipal cemeteries are held by trustees. These trustees are appointed by the circuit court of the county in which the cemetery lies. The duties of the trustees include the making of rules and regulations for burial of the deed, sale and transfer of burial lots and the care and preservation of the grounds.
There is a case in Virginia (Temple vs. City of Petersburg 182 VA 418) where the landowner tried to prevent the City from taking land to enlarge a cemetery. His position was that the City was attempting to establish a cemetery too close to his residence. The statute reads that the City could not "establish" a cemetery closer than 250 yards to his house. The City, on the other hand, argues that since the cemetery had been in use for over 100 years and that due to a road relocation it was simply "enlarging" the cemetery, it did not have to comply with the 250 yard restriction. The landowner claimed that the meaning of the words in the statute "establish" and "enlarge" should have the same meaning which would allow homeowners protection against the "ill effects" of being too close to a cemetery. The case did not expand on what those ill effects are. Presumably some people do not like living close to a cemetery. However, the court agreed with the city and allowed the cemetery to be enlarged to within 70 feet of Temple's house. I wonder how many Trick or Treaters he now receives on Halloween.
WHAT IS A "CONTINGENT" CONTRACT
A contingent contract is a contract that will become void or voidable if certain conditions are not met. The usual contingencies in a contract for the sale of real estate are the ability of the buyer to obtain a mortgage loan, the sale of the buyer's present residence or a home inspection. Most contingencies are protection for the buyer. If any of those events fail to occur the buyer can void the contract, receive his deposit back and have no further liability on the contract. Contingencies are normal and common. They are in the contract to ensure that the buyer will be able and willing to purchase the property. They are not in the contract to take unfair advantage of the seller. If a buyer cannot sell his house or obtain a loan, he cannot buy the new house. The seller, however, does not have to accept any contingency presented and should take steps to limit the effect of the contingency and protect his interests. If the contingency is one that makes the contract contingent on the sale and settlement of the buyers home, the seller has certain limitations to the contingency that he can add. The first is to put a time limit on the buyer's attempt to sell his home. The seller needs to be reasonable and allow the buyer time to market his home, but the seller must also look out for his own interests. He must ensure that the time for the contingency does not expire, for instance, in the middle of January, when sales are slow, and he then has to put his house back on the market. Also, if there is no time limit on the contingency, the entire contract
may be unenforceable due to a theory in the law called "the Rule against Perpetuities", which will be discussed in a future column. The seller has another option also. The seller can add to the buyer's contingency that the seller can continue to market his own home during the time the buyer is trying to sell his house. This is called a "Kick- out" clause. Most Realtors have these clauses pre-printed in their contracts or as attachments to their standard contracts. This "Kick-out" clause allows the seller to accept another contract on his home during the time of the contingency. The seller then gives the buyer time, usually 48 to 72 hours, to remove the contingency and prove that he is able to go forward with the contract. If the buyer is unwilling or unable to remove the contingency, the first contract will be voidable by the seller, and the seller can sell his house under the second contract. Contingent contracts are quite common in the real estate industry and whether you are a buyer or seller a well-drafted contingency clause can protect your interests.
CONTRACT FOR DEED
September 27, 1996
Dear Mr. Quaynor: Although this firm does not advocate the use of contracts for deed, occasionally the use of this method of financing is the only viable alternative for some homeowners. I believe that promoting this type of "sale" is dangerous for the real estate agent. Most sellers who leave the settlement table feel that they have sold their homes and will never have to worry about the property again. I try to stress to sellers that all they have is a contract to sell the property. During the term of the contract, whether it is set to last one year, three years, five years or 30 years, the purchaser pays the carrying costs of the home. These costs include the mortgage payment, the taxes, insurance, homeowner's dues and repairs. The purchaser pays the mortgage payments either directly to the lender or through an intermediary like a bank or a real estate management company.
If the purchaser does not make the payments, the buyer is then in breach of the contract. At settlement the buyer signs not only the contract for deed, but also a note to the seller for all amounts due as well as a release of contract. This release is held in escrow in the event of a breach by the purchaser. If the purchaser does in fact breach the contract, after proper notice, I will record the release. The seller then regains complete ownership of the property. The seller must then resume making the payments on the mortgage and make up any arrearages that have developed. At this point the seller then realizes that he never did really sell his house and cannot understand why he paid a commission to the realtor and a fee to the attorney to handle the transaction.
In an attempt to avoid this unpleasant situation, I try to fully explain the rights of the parties to both the buyer and seller. If either party or both wish to have a consultation prior to entering into the transaction, I would be pleased to meet with them. I would charge a consultation fee of $75 at that time.
Very truly yours,
Edward M. Quinto
CRUMMEY TRUST VS QPR TRUST
A client recently called to inquire about the advisability of placing his residence in a so-called "Crummey Trust". Apparently he had heard that by placing his personal residence in such a trust he would protect his home from possible creditors as well as removing the property from possible estate taxes. Unfortunately, using such a trust would not accomplish either goal. There are many types of trusts and much misinformation concerning such legal agreements. A trust is an agreement between people whereby property is transferred to a trustee who then deals with the property in accordance with the wishes of the creator of the trust as set out in the trust agreement. A "Crummey" trust is a trust based on a case, Crummey v. Commissioner of I.R.S., 397 F2nd 82 (1968) wherein the grantor of the trust wanted to take advantage of the $10,000 annual gift exclusion. The idea was to give a gift of property to the trust which would qualify for such exclusion. The problem is that giving property to a trust is a gift of a future interest in property. That is, the beneficiary of the trust would not receive the property until a future date. This gift does not qualify for the annual $10,000 gift exclusion because it is a gift of a future interest rather than a present gift. In order to qualify for the annual exclusion the beneficiary must be given the power to withdraw the amount gifted to the trust for a short specified period of time. This power is now called a Crummey power. The most common use of this power is for irrevocable life insurance trusts, not for real estate. Usually the annual premium for life insurance is given to the trust so the trustee can pay for life insurance on the life of the grantor and the beneficiary is given the "Crummey" power to withdraw the premium amount. Thus the gift will qualify for the annual exclusion. As you can see this has little to do with real estate. A better choice for placing real estate in a trust would be a Qualified Personal Residence Trust (QPRT). In this case the client conveys his residence or second home to the QPRT. He
retains the right to use the home for a certain time period, for instance 10 years, and then have the ownership of the home pass to his children. The benefit of this trust is that the gift to the children is only the remainder interest in the property and therefore rather than a gift valued at the fair market value of the property, the gift is the value of the remainder interest which is considerably less than the current market value. This is a great tax savings device and may be more suited to the clients needs. When the children finally do get the property, they will receive it at the fair market value and hopefully the property will even appreciate in value. Some of the requirements of the QPRT are that the trust can only hold one personal residence and that the ownership of the residence must pass to a spouse, ancestor or descendant or sibling of the grantor of the trust. These rules are strict, but if the client can take advantage of this trust, the tax savings are well worth the effort.
DECEDENT'S ESTATES--DESCENT AND DISTRIBUTION
A common misconception is that when a person dies without a will, his property goes to the State and his heirs are left nothing. That is true only in very rare cases. Normally, property goes to the heirs of the decedent either by choice and selection as set out in a will; or by operation of law, where there is no will. Both of these cases are discussed below. If a person dies intestate, which means without a will, the Virginia law of descent and distribution determines who inherits the property. If a person is unmarried and childless, his parents inherit the property; and, if he has no parents, then his brothers and sisters inherit equally. If there are no brothers and sisters, then the property goes to his grandparents, then to aunts and uncles and so on. Only if there are no lineal descendants does the property escheat to the State. If the person has children or is married, the situation becomes more complicated. Upon the death of a spouse, the other spouse will inherit all the property of the decedent as long as the couple has no children or the decedent only has children by his surviving spouse. If the decedent has children by a prior marriage or any children by anyone other than his surviving spouse, upon his death the spouse inherits only one-third of his estate and all of his children, legitimate or illegitimate, divide the other two-thirds of his property. The reason for this is both obvious and appropriate. The lawmakers knew that if a surviving spouse inherits all of a decedent's property the spouse will probably have no desire to spend her inheritance on children which are not her own. This would be especially true if the other children are living with a former wife or if the decedent never told his spouse about his other offspring. On the other hand, if a person dies testate, i.e., with a valid will, the property will be distributed whatever way the testator has determined. The deceased person can leave the property to his spouse or to one child to the exclusion of other children. This is subject, however, to the right of the spouse to claim a portion of the decedent's estate, so that she is not left with nothing. This right used to be called the spouse's "dower" right, but Virginia abolished the right of dower and the spouse can now claim rights under the "Augmented Estate" rules. The sale of the property of a decedent is subject to many rules. In an intestate case, the property becomes the property of the heirs at the moment of the death of the decedent, and the heirs can sell the property. Subject to certain exceptions, however, all of the proceeds of the sale must be held for a year from the date of death to protect creditors and to allow for the possibility of a later-discovered will to be presented for probate. Many heirs are surprised and upset by this rule because they want the money from the sale immediately. There is a method to accomplish this which involves the posting of a bond with an insurance company. Once the bond is posted, the money can be distributed. In a testate situation, the personal representative of the decedent, such as the Executor, can sell the property if such power is given in the will. If there is no power to sell stated in the will, the Executor must seek court approval. There are many rules which must be followed in the sale of probate property and the personal representative would be well advised to seek the advice of a professional in this area.
DIFFERENCES IN POWERS OF ATTORNEY
Buying or selling real estate using a power of attorney requires knowledge of the different types of powers of attorney and when each should be used. There are powers of attorney to sell and to purchase, and general powers of attorney. A power of attorney should not be given without the person to whom it is given receiving very specific instructions about how to exercise the power. A power of attorney is a written authority that enables one person to act for another. It is created only by a specific and deliberate act and can never be created by operation of law or by implication. It must be written and executed with all of the formalities of a deed and must be acknowledged by a Notary Public. Giving someone a power of attorney does not give them legal title to the property only the right to buy or sell on behalf of the principal who granted the power. Usually a power of attorney to sell real estate and a power of attorney to purchase real estate are separate documents. The power of attorney to sell must be recorded on the land records. Merely possessing the document is not sufficient. It should be recorded immediately prior to the recording of the deed. A power of attorney to sell may also contain language to sign contracts and amendments thereto and to lease the property. Often an owner of property may have to leave the area before his house is sold and he may want someone to be able to sign contracts in his absence. On the other hand, an owner may trust only himself to make such important financial decisions and only wants his attorney-in-fact to sign settlement documents on his behalf after the financial matters have been settled, so the power of attorney may be limited in scope. Also in some circumstances a power of attorney may not be used. The Virginia Housing Development Authority will not allow certain documents to be signed using a power of attorney. In such cases, the principal must execute certain documents himself. A power of attorney to purchase usually includes the power to sign loan documents, including the note and deed of trust to the lender. This power of attorney must be very specific. Some lenders insist on reviewing the power of attorney in advance. Some lenders even have their own power of attorney forms to use. In the case of a purchaser obtaining a loan guaranteed by the Veterans Administration, the power of attorney must be even more specific, in that the veteran's eligibility amount must be stated in the document as well as the loan terms. Also in the case of a veteran, many times the lender will require a letter from the veteran's commanding officer that at the time of the execution of the documents by the attorney-in-fact, the veteran was alive and well and not missing in action. The reason for this statement is that death or mental disability voids the Power of Attorney. There is a statute in Virginia (VA Code ?11.9-1) which, if stated within the Power of Attorney document, allows the power of attorney not to terminate in the event of the "subsequent disability, incompetence, or incapacity of the principal at law." If the person who gave the power is deceased, the power of attorney is no longer effective. Many powers of attorney have a termination date, especially powers of attorney done by the military. These usually last for one year or for some shorter period. If no termination date is stated, then it is presumed that none was intended. The power of attorney lasts for as long as the principal is alive unless the principal decides to revoke it. There are also general powers of attorney which allow the attorney-in-fact to do almost anything the principal could do. There are contingent powers of attorney which take effect upon the occurrence of a specified even or at a future specified date. So when a power of attorney is used for the sale or purchase of real estate, it should be prepared by a professional and reviewed prior to settlement by the attorney and the lender.
EASE TAX BURDEN WITH AN INSURANCE TRUST
Most people buy life insurance to protect their family, not to increase the amount of federal estate tax their estate may have to pay. Your estate may bear a greater tax burden, however, if you are the owner of an insurance policy, or if you have an "incident of ownership" in an insurance policy.
Examples of an "incident of ownership" are: (1) the right to name and change the beneficiaries: (2) the right to borrow against the policy's cash value, or (3) the right to surrender the policy for cash.
Your ownership of the policy or possession of an incident of ownership of the policy will cause the insurance proceeds to be included in your taxable estate, even though the proceeds may be paid directly to the designated beneficiary and not through your probate estate.
If your surviving spouse is the beneficiary, the insurance proceeds generally will not be subject to an estate tax, even if the proceeds are included in your gross estate for estate tax purposes. This is because the proceeds should qualify for the unlimited estate tax marital deduction. This opinion merely defers the estate taxation of the insurance proceeds until the spouse's death, to the extent that the spouse does not exhaust the proceeds during his or her lifetime.
The result is the same if your spouse owns a policy on your life. Another alternative is to have your children own the policy.
However, this may not be appropriate if your children are not fiscally mature or if you want the surviving spouse to have use of the proceeds.
The life insurance trust has become a popular estate-planning tool because it can be structured to give your spouse use of the policy proceeds while preventing the proceeds from being subject to estate tax at either your death or the death of your spouse.
In fact, the trust can be used to insulate the insurance proceeds from estate tax for multiple generations. In addition to reducing estate tax costs, the trust serves as a vehicle for managing the insurance proceeds for the beneficiaries.
NOT A PANACEA
There is one circumstance in which an irrevocable insurance trust will not reduce estate taxes. If you transfer an existing insurance policy to a trust and do not survive the transfer by at least three years, the policy will be included in your gross estate for estate tax purposes. The trust may provide for such a contingency by causing the policy proceeds to qualify for the marital deductions, thereby deferring the estate tax until the surviving spouse's death.
TRUST DURING INSURED'S LIFETIME
A life insurance trust is funded by transferring existing policies to the trustee or transferring funds to allow the trustee to purchase a new policy. The latter alternative avoids the possibility that the proceeds could be drawn back into your taxable estate should you die within the following three years.
You must also make periodic contributions to the trust to provide funds sufficient to allow the trust to make the premium payments.
The policies and funds transferred to the trust are taxable gifts by you to the trust's beneficiaries. The gift tax value of an existing policy generally approximates the policy's cash value.
The gift tax can be reduced or eliminated by allowing the trust's beneficiary's the right to withdraw the money or property transferred to the trust.
It is not intended that the beneficiaries exercise this right, but the withdrawal right allows the trust transfers to qualify for the annual $10,000 per donee exclusion from the gift tax ($20,000 if you are married and your spouse elects to join in the gift).
Each beneficiary's withdrawal right may be further limited to $5,000 to ensure that, under another provision of gift tax law, the beneficiary is not treated as having made a gift by forfeiting his or her withdrawal right.
As a result, the amount of the annual premium that can be paid to the trust free of gift tax may be limited to $5,000 multiplied by the number of trust beneficiaries.
If the value of an existing policy transferred to the trust exceeds the annual gift tax exclusion, you may use a portion of your "unified credit" against gift and estate taxes to shelter up to $600,000 for gift tax.
TRUST AFTER INSURED'S DEATH
Following your death, the trustee collects the insurance proceeds and invests them in income-producing assets. The income and principal may be used to provide support for your spouse and children.
Following your spouse's death, the trust may continue for the benefit of your children and grandchildren, or may be distributed to your descendants when they reach specified ages.
This article provides only a broad and general survey of some of the features of life insurance trusts. Even from this general overview, you can realize some of the sophistication involved in establishing and properly maintaining an insurance trust. The costs of establishing and maintaining a trust like this, therefore, must be weighted against the benefits derived from the potential estate tax savings and estate planning flexibility.
QUINTO & WILKS, P.C. 3441 Commission Court Woodbridge, VA 22192 (703) 492-9955 Fax(703) 492-9455
Article by David B. Wilks as published in The Potomac News Article No. 12
EASEMENTS
An Easement is the right or privilege of the owner of a piece of property to use another property for a specific purpose. The most common easements are public utility easements and driveway easements. Telephone companies, electric companies, gas and water companies usually are granted easements in order to bring their wires or pipes upon property in order to provide the required service. These companies could not enter another person's land unless they had permission and that permission is granted through an easement which is recorded on the county land records. If an owner has granted such an easement or has purchased property subject to such an easement, the utility company has the right not only to lay the pipes and wires, but also to come on to the property of the owner to repair and maintain their equipment. If this means digging through the front yard, or taking down a fence, or tearing up a driveway, the owner cannot object. Most utility companies, however, will try to put the property back in the condition in which they found it. But, if one is planning to build a permanent structure on their own land, one must be sure not to build on or over an easement area. Another type of easement is a driveway easement or an easement for "ingress" or "egress". This allows the person who is the beneficiary of the easement to cross the "servient" property. The land which receives the benefit of the easement is called the "dominant" property or estate. The easement that is granted over the servient easement should be specific not only as to the use but also as to the boundaries and locations of the easement. If an easement is created for the driveway for one house, the owner of the easement is not allowed to expand that use. In other words, the owner of the dominant estate cannot turn his house into a hotel and have cars and trucks travelling over the easement if the intent was for the use by a single family residential purpose. In a 1992 Virginia Supreme Court case concerning property in Stafford County,
the owner of a marina was sued by the owners of the servient estates when the marina owner planned an expansion of his business. The marina was to be expanded from 84 boat slips to 280 boat slips. The question that the Court had to decide was whether the easement was about to become "overburdened". Generally speaking, an easement is overburdened when the use is changed, for example, from a residential use to a commercial use. In this case, the use was not changed, but it was to be expanded. The Court found that the expansion would not overburden the easement. It felt that the increase in traffic over the easement would not change the type of easement, which was commercial in nature. It would change the degree or usage, but this was permitted. Also, since the recorded instrument which created the easement did not limit the use to be made of it, the Court said "...the easement may be used for any purpose to which the dominant estate may then, or in the future, reasonably be devoted". The owners of the servient easements probably did not realize that when they gave the easement thirty years earlier over a gravel road for a 10-slip marina that the patrons of a 280-slip marina would be using a paved road as the easement. Easements must, therefore, be carefully drafted when granted to avoid unforeseen circumstances. Next week, other types of easements will be discussed.
EASEMENTS (Continued)
Last week this column covered easements, such as utility easements and easements for ingress and egress. These easements were easements granted by an owner of property to allow some other person or company to use the grantor's land for a specific purpose. However, easements can be created by law, rather than being given or granted by the owner. The two most common ways of creating easements without the owners grant is by "necessity" or by "prescription". An easement by necessity usually arises where one owns land and conveys a portion of the land without access to the land conveyed. If the only way to get to the land conveyed is over, across or through the remaining land of the grantor, the law may imply an easement of necessity. There are three requirements for the law to impose an easement on property. The first is that both parcels must have been under common ownership at some time. The second is that the separation or severance of the pieces gave rise to the need for the right-of-way, and, lastly, the need for the easement must be proved by clear and convincing evidence. The easement will not be established if other access is available, even if the other access would be less convenient. An easement by prescription, on the other hand, is similar to acquiring property by adverse possession except that this is acquiring only a certain right in the land. The use of the easement must be adverse, under a claim of right, exclusive, continuous, uninterrupted and with the knowledge and acquiescence of the landowner for at least twenty years. So, it is clear that the law does not grant these types of easements lightly, because, in effect, this is taking away the right of the owner of the land over whose property the easement crosses to use his own land as he pleases. These two ways of acquiring an easement are different, in that, if the conditions for a prescriptive easement exist, the need for an easement of necessity will not exist. Because of the many conflicts over easement rights, it is not difficult to find cases on this matter. In a recent case in Fairfax, a claim was made for a prescriptive easement. In this case, a buyer was given a right of way over a driveway. The buyer in order to enhance the look of the driveway entrance built brick columns in the easement area. The owner of the land over whose land the easement crossed objected and sought an injunction to have the columns removed. The lower court held that the columns did not interfere with the use of the easement and could remain standing. When the case reached the Supreme Court in 1992, the Court held that no prescriptive easement was established. For that reason and other legal theories, the defendant was forced to remove the columns. This case illustrates that buyers of property should consult with their Realtor or an attorney to determine their easement rights and obligations before purchasing property.
EASEMENTS
In a case just decided by The Supreme Court of Virginia, [252 Va. 50 (1996)], owners of a tract of land won their case claiming an easement over an adjoining parcel of land. The Greenan's own a 10-acre parcel of land in Fauquier County, and allege that they have an easement to use an old private road across an adjoining 50-acre parcel owned by the Solomons. The Solomons deny that the Greenans have such an easement.
The facts are that the original tract was a rectangular 100- acre parcel owned by Jonathan Burke. When he died intestate in 1936, the land was divided into three pieces. The northern 40 acres were given to Susan and John Hall, Burke's daughter and son-in- law. The middle 50 acres were sold to Allie and Lillie Hall by the Clerk of Court for delinquent taxes. The southernmost 10 acres were apparently owned by Allie's father, Taylor Hall, although no deed to this property could be found and no deed was ever recorded. In 1957, Allie Hall and Lillie Hall granted Taylor Hall by recorded deed an easement over their 50-acre parcel over an "old existing private roadway." The Solomons acquired the 50- acre parcel from Allie and Lillie Hall. The Greenans acquired the 10-acre parcel through a quiet title lawsuit.
The Solomons claim that the easement purportedly granted by Allie and Lillie Hall was not a valid easement because at the time of the grant there was no proof that Taylor Hall owned the 10- acre parcel. The Solomons are correct as to the law. If Taylor Hall did not own the property, then the easement would not be valid. But the Greenans had a clever and valid defense. The Greenan's defense was that any grantor of land or interest in land, including an easement, is prevented, or estopped from denying anything in derogation of title. In other words, since Allie and Lillie Hall granted the easement to Taylor Hall, they and their successors in title cannot now claim that no easement existed. Also (and this may be the real reason for the court's decision) the Solomons had notice of the easement when they purchased the 50 acres from the Halls. Therefore the court allowed the Greenans to continue to enjoy the easement from their property over the Solomon's property.
EMINENT DOMAIN
There is a theory in the law called "eminent domain". This is the right of the government to take private property from private citizens for use by that government. Property may be taken for many uses. Roads and streets are probably the most common forms of taking. But the state can condemn land for railroads and for utility companies such as water and electric. Companies that provide pipelines for oil and gas can invoke the power of condemnation. Also property can be taken for public buildings, public parking, public parks and sewers. The government, County, State or Federal, must pay the owner a just compensation for the taking of the property. Taking private property against the will of the owner seems foreign to our sense of fairness and private property; but rest assured, a state only takes property when it is necessary for public use. But what is necessary is not always clear. Necessary may only mean "reasonable" , in some cases. So where a water authority, acting under the power of the state, condemned more land than was currently necessary, the court found that it was reasonable to anticipate certain needs. But most of the cases in this area of the law are not disputes about the power of the state to take property because the condemnation of property is so common and well settled, rather disputes arise over the amount of compensation to be awarded for the taking.
The Fifth Amendment to the Constitution prohibits the taking of private property without due process and just compensation. "Just compensation" is not necessarily the market value of the property; it is what a jury decides it is. The jury consists of 5 or 9 people who own property in the county or city where the condemned property is located. All evidence is considered and each party may have experts testify as to value, rental income, comparable sales and the value before the taking verses the value after the taking. In other words there is more to be considered when determining the compensation, than merely the amount of land taken. If all of a person's land is not taken, then the remaining land may be diminished in value and a jury can take that into consideration. The idea is that the owner is to be put in as good as position as he would have been if his property had not been taken.
UNDERSTANDING ESCROWS
One of the most confusing parts of the real estate settlement is understanding the escrow account. This is an account that is required by most lenders set up to pay certain expenses for the homeowner. One reason that lenders set up these accounts is that lenders do not trust their borrowers to pay their own hazard insurance and real estate taxes. If applicable, private mortgage insurance premiums are also escrowed. These items must be paid in order to protect the lenders. The hazard insurance must be paid because the house constitutes most of the value of the property securing the loan. Without adequate insurance coverage, if the house burned to the ground, the lenders would be left with no security, except the land on which the house stood. The homeowner might then abandon the property and the lender would have lost the money it loaned for the mortgage. The hazard insurance policy is paid one year in advance. Also, the taxes must be paid. If taxes are not paid, the municipality would have a lien on the property superior to the lien of the lenders' mortgage. Under certain circumstances, a tax sale could be held and the property could be sold without paying off the mortgage. The lenders, therefore, require that the homeowner place sufficient funds in an escrow account held by the lenders so that when the next tax payment or the next insurance premium is due, the lenders can pay the bills directly to the county tax collector or the insurance company. Recently, the Department of Housing and Urban Development (HUD) has issued new regulations to curb certain abuses engaged in by some lenders. One of these abuses was the practice of escrowing excess funds. The lenders like a lot of money in these escrow accounts, because money earns interest. If the property securing the mortgage is in Virginia, the lenders are not required to pay any interest to the borrowers on the money held in escrow. In other states a minimum amount of interest must be paid to the homeowner. Interest on a few hundred dollars may not be important to each homeowner, but it is quite significant to the lenders. The more money held by the lenders the more interest the lenders earn. At settlement the amount of money is calculated to allow the lenders to pay the taxes and insurance plus a cushion of additional funds, but no more than two months of taxes and insurance can be held as additional reserve for unexpected increases. Some lenders, however, either initially or during the term of the mortgage loan, recalculate the amount they say they need in escrow. Without this new law the lenders could unfairly increase the amount held simply to allow them to make more interest income. HUD has now issued new regulations which include full disclosure to the homeowner of the amounts held and how the amounts are computed. If the calculations result in a surplus of over $50.00, such surplus must be refunded to the homeowner. The lenders must also send an easy-to-read escrow statement to the borrower. Also an adjustment to the escrow account is made at settlement. This adjustment is called the "aggregate escrow adjustment" and has the effect of reducing the escrow collected at settlement to the two month cushion required by law. These new regulations should stop the excess funding of the escrow accounts.
FAMILY INCOME SHIFTING AND THE KIDDIE TAX
Family income shifting has been an appealing idea to higher income parents for a long time. If the family's overall tax burden can be lessened by shifting income from parents in a high tax bracket to children, whose income is generally lower and thus taxed at a lower rate, the family as a whole will be able to enjoy more of their money. Most parents are spending a large proportion of their income on their children anyway. It is no surprise that they are looking for ways to use the children's lower tax rates to avoid a high tax bill.
Changes in the tax law in the mid-1980s eliminated many opportunities for family income shifting. For example, parents used to be able to set up a trust, name their children as beneficiaries for a time, then reclaim the trust principal after ten years or more. This technique, referred to as a Clifford trust, will not shift income to the children anymore. The grantor trust rules now cause the income of such a trust to be taxed to the parents. Allowing trust income to accumulate in a trust, where it will become available for the children's use in future years, is no longer a successful tax- saving strategy either. The income of a trust is now taxed more harshly than the income of an individual, with any trust income in excess of $7,800.00 (in 1996) taxable at the top rate of 39.6%.
In light of these changes, many people seem to think that family income shifting is a thing of the past. With some knowledge and thoughtful planning, however, it is still possible to accomplish overall family tax savings.
Avoiding the Kiddie Tax
You have probably heard of the kiddie tax, an important part of Congress? attempt to cut down on family income shifting. Most of the unearned income of a child under the age of 14 is now taxed at the parents? top rate. Unearned income includes dividends, interest, and other kinds of passive income. Despite the kiddie tax, however, a child's first $1,300 of unearned income will generally escape tax at the parents? highest rate. The first $650 is protected from tax by a special standard deduction. Instead of using the standard deduction, a child may use the amount of allowable itemized deductions directly connected with the production of unearned income. A child's next $650 of unearned income will be taxed at the low rate of 15%. It follows that parents who transfer enough stock or property to generate $1,300 of investment income to a child who has no other income can save the family as much as $417 in taxes, the difference between the tax on $1,300 at the highest, 39.6%, rate and the tax on $650 at the lowest, 15% rate. Families with several children and lots of property to transfer can achieve the $417 savings many times over. These savings will increase as the $1,300 figure in effect for 1996 is adjusted for inflation in future years.
Additional Income Shifting Strategies
If a child's unearned income is approaching the $1,300 limit, you might want to consider one or more of the following strategies that can still be used to shift family income and reduce the family's overall tax burden.
釩fts of Growth Stock: Growth stocks can be a very rewarding gift for children. Like cash, stocks can easily be transferred under the Virginia Uniform Transfers to Minors Act. Growth stocks generally do not provide much dividend income, eliminating potential problems with the kiddie tax. The value of a growth stock is expected to increase substantially over time. However, the appreciation in value will not be subject to tax until the stock is sold. If growth stocks that are given to a young child can be held until the child is 14 or older, any increase in value will be taxed at the child's own rate. For 1996, the first $23,350 of taxable income for a child who has reached the age of 14 will be taxed at the lowest rate of 15%. So, the potential tax savings are quite large.
釩fts of U.S. Savings Bonds. U.S. Savings Bonds are often given as gifts to mark the early milestones in a child's life. The interest on Series E and EE bonds is not taxed until the bonds mature or are redeemed, so the bonds provide a convenient way to avoid the kiddie tax. If you or other family members give your child a savings bond that will not mature until after the child is 14, the interest that is payable when the bond is redeemed will be taxed at the child's rate.
You may also have heard that the interest paid on U.S. Series EE Savings Bonds will be exempt from tax if the bonds are used to pay a child's college expenses. To qualify for this favorable tax treatment, the bonds must be issued after 1989. In addition, the income of the student's parents cannot exceed prescribed levels (between $63,450 and $93,450 in 1995) when the bonds are redeemed to pay for tuition and fees at an eligible educational institution. If you hope to take advantage of this tax benefit, you will want to be sure that the bonds are issued in your name. Savings bonds issued in the student's name will not be exempt from tax, even if the parents? income falls within prescribed limits.
釩fts of Life Insurance: There are advantages to transferring life insurance to children. A life insurance policy can be transferred to a trust, with the child as a beneficiary, or a gift may be made under the Uniform Gifts to Minors Act in many states. An insurance policy will typically have a low value when it is given to a child, but the cash value of the policy can build up to substantial amounts over the years. Unless the policy is paid up at the time of the transfer, it will be necessary to arrange for the payment of insurance premiums after the transfer. However, the required premium payments will often be less than the $10,000 annual gift tax exclusion.
酭ployment in the Family Business: If you own and operate a family business, you may want to employ one or more of your children in the business. This is a popular way to shift income because it not only provides tax savings but also introduces the children to the family business and can help them to develop a sense of responsibility. The kiddie tax is not levied on a child's earned income, so wages that a child earns from working in the family business will be taxed at the child's tax rate rather than the parents? rate. Also, the income that a child earns from work will be sheltered from tax up to the full amount of the normal standard deduction ($3,900 for 1996). If you are able to use this strategy for income shifting, you will want to be sure that your children are paid an amount that is reasonable given their age and ability. You will also want to take care of all formalities such as wage reporting and withholding.
These are just a few of the strategies that can help build family wealth by minimizing taxes on family members. If you are interested in exploring any of these techniques further, or in learning about others, you should consult your tax advisor to review your overall financial picture and to integrate these opportunities with the rest of your financial plan.
FAMILY LIMITED PARTNERSHIPS
Does this sound familiar: You have assets you would like to keep in the family from generation to generation. They might include an investment portfolio, real estate or perhaps a family business. You would like to keep control of the assets rather than give too much too soon to younger family members who may not be ready for that responsibility. But you want to transfer the assets during your lifetime to protect them from future creditors and remove them from your taxable estate. After all, minimizing gift and estate taxes can help preserve more of the family wealth.
A family limited partnership might be an appropriate solution for all of these challenges. In a typical family limited partnership arrangement, you would be the ?general partner? and, through the partnership, retain ownership of a small portion of the assets. You would give ?partnership interests? representing ownership in the rest of the assets to your ?limited partners?, which may include your children and/or grandchildren. A partnership interest transfers ownership but not control of the assets to the limited partners. As general partner, you would manage the partnership and have control over its operation, its assets, and even the distribution of income the assets may produce. Consider the advantages of this arrangement:
Control
Although there may be benefits to shifting assets to younger generations during your lifetime, there also can be important drawbacks, depending on your strategy. For instance, you may want to give assets, but not control of the assets, to your 4-year-old granddaughter. And perhaps your 21-year-old son needs more experience or maturity before he will be ready to manage the assets.
As the general partner of a family limited partnership, you generally can have complete discretion over the operation and earnings of the partnership as long as you continue to own your general partnership interest. You may reinvest earnings as you see fit or distribute them to the limited partners.
Family Asset Protection
A family limited partnership may be used to protect assets from future creditors. Although a creditor may obtain a ?charging order? against the partnership interest owned by an individual, this only allows the creditor to receive cash distributions that the individual partner is entitled to receive, and those distributions are given at the discretion of the general partner. It does not give the creditor access to the partnership assets.
For additional protection, you may draft the partnership agreement to prohibit the pledging of interests to cover debts. It also can be structured to prevent transfers of partnership interests outside the family. For example, if a partner tries to transfer his or her interest to a non-family member, or if a non-family member tries to claim a partner's interest, the other partners may be given the right to acquire the interest.
Simple Division
Some types of assets, such as real estate or a family business, may be difficult to divide, creating a challenge when you want to split portions of an asset among several heirs. With a family limited partnership, you can easily divide the partnership interest, in units, among your heirs in any way you see fit.
Flexibility
Life is full of change, and it can be helpful if your financial and estate planning strategies are flexible and adaptable to your evolving circumstances. A limited partnership agreement can be amended or ended if all partners agree to the change or termination.
Tax Benefits
Ordinarily, the transfer of an asset is subject to federal gift or estate tax based on the fair market value of the asset at the time of transfer. In the case of a lifetime gift, appreciation which may accumulate after the time of transfer is free of federal gift and estate tax.
A family limited partnership can offer greater gift and estate tax savings because the value of a family partnership interest, for transfer tax purposes, is usually less than the fair market value of the underlying partnership assets. It is discounted because the terms of the partnership agreement restrict the recipient's enjoyment of the assets. A typical discount may range from 10% to 35% or more off the fair market value of the assets.
Also, you can use the $10,000 annual gift-tax exclusion to transfer partnership interests to any number of recipients each year free of federal gift tax. That's $10,000 worth of partnership interest, so the fair market value of the underlying assets indirectly transferred through the partnership may be much greater. If you and your spouse so elect, you may jointly transfer up to $20,000 per recipient annually free of federal gift tax. Because of the discounting involved, you should make sure that the partnership interest is valued accurately to make the most of the exclusion and to help avoid a challenge by the IRS.
Limited partners generally are responsible for paying income taxes on their share of the annual partnership income produced, even if it is not distributed. Keep in mind, of course, that a partnership may help reduce your overall family tax bill if any of the limited partners, such as your children or grandchildren, are in lower tax brackets than you.
Seek Professional Assistance
A family limited partnership can offer a wealth of benefits and may be an appropriate tool for your estate plan. It is a flexible vehicle that can be structured to suit your family's specific needs. Talk to your financial adviser for more information and specific guidance based on your situation.
FIXTURES
When a Realtor or an attorney prepares a contract for the sale of real estate or even during a real estate settlement, a discussion about what items convey with the property often occurs. Normally, there is no question that the land and improvements which are the subject of the contract convey. The improvements are the house and other structures built on the land, or permanently attached to the land. An in-ground swimming pool or a fence are improvements that convey, but questions arise concerning those items that are temporarily attached to the land as improvements or are simply placed on the land. What we are attempting to define is the difference between personal property and fixtures. Personal property is everything other than real property. Real property is not only the land, but also everything attached to the land as well as all the rights and interests that flow from land ownership. This includes easements, life estates, the right to use water as it flows across the land, the right to use the air space above the land and the rights to the minerals under the ground. Personal property is all other property. This includes furniture, dishes, pots and pans, clothes and wall hangings. Personal property is movable and, as such, is removable. Usually if an object can be easily removed from the property; that is, without damage to the real estate, it is personal property and, therefore, not included in the sale of real property unless separately identified. But an item of personal property can become real property. This happens when personal property is permanently affixed to the real estate. For instance, I recently installed a mailbox near the road at my home. I put a metal post into cement and allowed it to dry. I converted personal property to real property by permanently affixing the mailbox, post and cement to the land. This can also be done inside a house. Kitchen cabinets, sinks and bathtubs are examples of personal property which have been permanently attached and thus become fixtures. Is a rug or carpet a fixture? Is a stove, a microwave oven, curtains and rods, a wood stove or a bookcase fixtures? There is a legal test to determine what is a fixture. The test includes the intention of a person who installed the item, the method of attachment, the purpose and use of the item and the agreement of the parties. Without giving examples of each of these, suffice it to say that if there is any questions in the mind of the buyer or seller, the item should be listed in the contract of sale as an item which does convey with the real estate or an item which the seller intends to remove. It is far better to be over-cautious and insist that everything be written into a contract than to assume that everyone in the transaction is of the same mind regarding all items which are or are not to convey.
FORECLOSURE In my practice I am often asked to foreclose on property. This happens when a creditor, be it a seller who took back financing, an investor who has purchased a note secured by real estate or an institutional lender, has a note that is delinquent. Rather than sue the debtor, the creditor may foreclose on the property securing the note. If the property sells at the foreclosure sale to someone other than the creditor, the creditor will recover the money owed to him. On the other hand, if the creditor is forced to buy back the property he will then have to sell the property in order to recoup his money. This is the normal course of events. The debtor can, however, delay or even prevent the foreclosure by filing bankruptcy.
Bankruptcy is an action filed under Federal law and because of that all state action must cease. An example of such state action is all collection efforts including foreclosure. This means that if the foreclosure has started, and even if it is in the final stages, the foreclosure must stop. This is called an "automatic stay" under Sec. 362 of the U. S. Bankruptcy Code. The creditor is then forced to go to the Federal Bankruptcy Court and apply for a relief from the stay. If the property is owned by a husband and wife, the filing of bankruptcy by either party will stop the foreclosure. This is frustrating for the creditor. First one spouse files and the creditor has to go to court to get relief and then the other spouse can file and the creditor has to apply for relief from stay again. Meanwhile no one is making the mortgage payments. This allows for an abuse of the system by homeowners. Recently, homeowners were granted another tool in their efforts to frustrate lenders and other creditors.
In the case of Harris v. Margaretten & Company, Inc.(1994), the Bankruptcy Court for the Eastern District of Virginia held that the defendant mortgage company had to foreclose twice on the plaintiff's property. Barbara Harris and her husband Frank bought property in 1977. In November, 1992, Barbara filed bankruptcy and was discharged of any personal liability on the mortgage in March, 1993. The husband also filed bankruptcy. In his case, Margaretten applied and was granted a relief from stay and thereafter foreclosed on the Harris' property. It then attempted to sell the property, but Barbara sued Margaretten and claimed that she was not given proper notice under the Consumer Debt law. This is a law under a different section of the U. S. Code which protects debtors and their property. If a consumer loan is in default all debtors must be given notice that the creditor is instituting collection action. If a debtor is in Bankruptcy a similar relief from stay must be obtained in order for the creditors to proceed with any collection action. In the past a mortgage debt was not considered a consumer debt and foreclosing mortgage companies did not seek relief from the consumer debt provisions. Barbara Harris insisted in her suit that a mortgage is a consumer debt. The Court agreed. So even though Barbara obviously knew what was happening, she waited until after the first foreclosure to make her claim. This allowed the Harrises a few more months of nonpayments before the creditor could ultimately foreclose. This will become a real problem for creditors who seek to foreclose on property if they are dealing with debtors who know how to take advantage of bankruptcy and consumer protection laws. They will have to obtain relief from stay from both the Bankruptcy provisions and the consumer debt provisions in order to foreclose on property.
GAIN ON ROLLOVER OF PERSONAL RESIDENCE
A retiring military officer asked me recently about the reporting of the gain on the sale of his home. He is in the process of selling a home that he has owned since 1987 so that he may purchase a new and more expensive home. The issue he raised is whether he has to pay a tax on the profit he makes on the sale of his old home. Section 1034 of the Internal Revenue Code allows a taxpayer to "roll over" the gain from the sale of a principal residence into a new residence. This rule does not apply to investment property. If the house that is sold is the taxpayer's principal residence, then no gain is recognized to the extent that the profit or gain is used to purchase the new house. There are many rules concerning the calculation of gain, including the addition of the selling expenses and the fix-up expenses to the existing basis, and then figuring the "adjusted basis" of the house being sold. But the officer was trying to determine whether he was even qualified for the rollover. After purchasing his home, he received orders to travel and went to live in various places throughout the world. Most of the time he lived in base housing with his family. Once he even bought another house and sold it after three years. During all of this time, he kept the old house and rented it out. Did the house then change character from principal residence to investment property? Remember, if the house is an investment property rather than a principal residence, the rollover rule does not apply and a tax is payable on the gain when it is sold. Renting the house out does not in itself disqualify it from the rollover, nor does the fact that a taxpayer takes deductions for expenses, or takes depreciation on the property necessarily change the character from principal residence to investment property. The determination is made by the facts and circumstances of each case. In most of the cases, it is the intent of the taxpayer that is the most important test. If the taxpayer always intended to return to that first house and make it his home, the court will give that great weight. Some other factors that a court will consider are: the reason for renting the property; whether the house was listed for sale during the taxpayer's absence; if it was the only home the taxpayer did not sell during his military career; his ties to the community; and evidence of his intent to return to that house upon retirement. If the taxpayer can pass most of these tests, then he will be able to defer the gain on his first house until the sale of his new and more expensive house. At that time he can hopefully take advantage of his over-55, one- time, $125,000.00 exemp
ion.
GENERAL POWER OF ATTORNEY
This column last week discussed specific Powers of Attorney. This week General Powers of Attorney will be the topic. On occasion, I receive a General Power of Attorney to be used in the purchase or sale of real property. If the General Power of Attorney is properly drawn, there is usually no problem in the use of the document for the transaction. As was discussed last week, a lender may object if the type of loan the purchaser is obtaining does not contain language uniquely required by the lender. So, if the purchaser plans to use any type of Power of Attorney, the lender should be given a copy by the purchaser or by the Realtor for review and approval. That review should occur with enough time before settlement to allow for a correct Power of Attorney to be obtained, if necessary. More commonly, though, I see General Powers of Attorney used by sellers, especially when a person is acting for an aged or incompetent relative. A General Power of Attorney is usually executed at the time a will or estate plan documents are completed. A will only comes into effect at a person's death, but most attorneys who prepare wills make a General Power of Attorney part of the estate planning documents. The common law rule regarding all powers of attorney is that if a person becomes incompetent or mentally disabled and thus cannot himself revoke the Power of Attorney, the Power of Attorney is automatically revoked. This rule defeats the purpose of a power of attorney in many cases, especially in a situation where a person is not competent. The statute in Virginia prevents this from happening as long as a statement is put in the Power of Attorney stating that the Power of Attorney shall not terminate if the principal becomes incompetent or mentally disabled. That language would allow the attorney-in-fact to act even if the principal is incapable of revoking the Power of Attorney. Also, Virginia statutes provide that if a person is a member of the armed services of the United States and is listed as "missing in action" the Power of Attorney shall not terminate. Also, it does not terminate unless a termination date is specified, or unless language giving events of termination are stated. This type of Power of Attorney is called a General Durable Power of Attorney. Another use for the Power of Attorney is when a person using such a document wants to sign for the seller or grantor, and give real estate of the seller to himself. I always recommend against doing this especially if no money goes back to the Seller. Although, the statute governing this situation allows the attorney-in-fact to sell to himself or even give a gift of property to himself, the transaction not only looks suspicious, but also can be attacked by others such as relatives or heirs who might benefit if the transaction were disallowed. They would claim that the attorney-in-fact acted beyond the power given to him and took advantage of the principal. Lastly, there is no simple and effective way to revoke a Power of Attorney. The best way to do this is to sign a revocation document and send notice to the attorney-in- fact. The document should also be recorded in the County land records wherever the principal owns property.
DEFINITION OF A GIFT OF REAL ESTATE Another football player, another divorce and another real estate problem. Two weeks ago I reported on a case involving John Riggins. This week the subject is Joe Theismann and his ex- wife. This case, Theismann v. Theismann, was decided June 18, 1996. In this case the issue was how much of Mr. Theismann's estate the ex-Mrs. Theismann was entitled to receive. The parties were married on May 26, 1991 and finally divorced May 12, 1995. This four year marriage really ended as a practical matter in April of 1993 when Mr. Theismann began an adulterous affair. This was the grounds for the divorce. The problem from a real estate point of view was how much of the farm in Leesburg, Virginia was to be given to the wife. This farm was owned by Mr. Theismann alone prior to the marriage. Mr. Theismann's assets when he married were approximately $4 million. Mrs. Theismann's assets were $40,000, half of which she used to purchase a car for Mr. Theismann. After they had been married a short time, Mr. Theismann deeded the farm to himself and his wife jointly as tenants by the entireties. If this was a completed gift of a half-interest in the property to Mrs. Theismann, then it was hers alone as her separate property and not a marital asset. As her separate property it could not be called "marital property" and would not be subject to the rules of property division in divorce cases. If it was not a gift then it would be marital property and subject to division and distribution, along with all the other marital property, at the discretion of the court. The wife obviously wanted this re-titling of the property to be considered as a gift of half of the farm to her.
In order to make a gift the donor must (1)intend to make a gift, (2)deliver or transfer the property and (3)the donee must accept the gift. It was not disputed that there was a transfer and acceptance; so the only question was whether Mr. Theismann intended to make a gift. He denied that his intention was to make a gift. He does have some law on his side. A statute in Virginia (?20-107.3)(A)(3))(f) and (g) states that no presumption of a gift arises simply because one spouse re-titles property into the joint names of the husband and wife. The reason for this law is that the re-titling of property can be done for reasons other than making a gift such as asset protection from creditors or estate planning. In this case however there was evidence of Mr. Theismann's intent to make a gift. Evidence was presented that he wanted his wife to share equally in the home; that no provision was made for him to reclaim the property in the event of divorce; that he sent her cards indicating that the farm was now "our home" and that Mr. Theismann even bragged that he had made her a "millionaire". The court concluded that a gift had been made. This case was really an equitable distribution case pursuant to a divorce and the twenty-eight page decision in much more complex than I have set out here. The lesson here is that transferring separate property to a spouse may or may not be a gift. It is the intent of the parties that determines the nature of the transfer.
HOLDING TITLE
Often I am asked to explain the differences in the way title to real property is held. This usually occurs during a real estate settlement when title to the property is passed by deed to the purchasers. The deed creates the "tenancy," which is the way property is held. There are many ways of holding title to real property, such as corporate or partnership form, and an individual may hold property as Trustee or Nominee for others. However, for people who are buying a home or an investment property, the most common tenancy is Tenancy by the Entirety. Tenancy by the Entirety is reserved only for married couples. This is a joint tenancy with the right of survivorship. The survivorship aspect of this type of tenancy is attractive to married couples because it means that upon the death of either owner, the property is automatically by operation of law vested in the surviving spouse. The property does not become part of the probate estate and is not an asset subject to the authority of the probate court. Similar to joint tenancy, creditors of one spouse cannot reach the property; creditors of both spouses, however, can have a valid lien against the property. Also if the couple becomes divorced, the tenancy is converted by law into a tenancy in common. Tenants in Common is usually reserved for two or more unrelated people. This is the type of tenancy wherein individuals own undivided interests in a parcel of real property. The main difference in this type of ownership is that there is no survivorship between the parties. If one of the Tenants in Common dies, his or her interest passes by will to their heirs or by the laws of intestacy if there is no will. Also, undivided interests can be attached by creditors and individual interests can be conveyed. In both Joint Tenancy and Tenancy in Common, if one party wants to sell and the other or others do not, a sale can be forced by a Partition Suit. This is a lawsuit wherein a Court will order the sale of the property and divide the proceeds among the Co-Tenants in accordance with their ownership interest in the property. Joint Tenancy is a type of ownership in which two or more people, such as father and daughter--but not husband and wife--hold title usually in survivorship. Each joint tenant owns an undivided portion of the real property. Historically, joint tenancy protected each joint tenant from claims of creditors attempting to attach their undivided interest in the property. The reason for this was the legal fiction that each joint tenant owned a part of the whole and that the whole ownership was impenetrable. Lately, joint tenancy has lost much of the protection it once enjoyed. Survivorship between joint tenants used to be presumed, but now survivorship must be specifically stated. Also, creditors can now attach and place liens on individual interests. The difference between Joint Tenancy and Tenants in Common has all but disappeared. Sole Ownership is when an individual owns property by himself or herself. A recent change in the law in Virginia has allowed both men and women to hold property on an equal basis. Years ago women could not hold title to property. When women were finally allowed by law to own property, married women were allowed to hold property free of any interest that their husbands might have. Men, on the other hand, could not own property free of their wives' interest. This was called the law of Dower and Curtesy. Recently, the law of Dower and Curtesy was all but abolished and now property interests are subject to different marital property laws. Men and women can hold property free of the interest of their spouses, and can convey property without their spouses joining in the signing of the deed. If you have any questions regarding real estate matters, you may write to Edward M. Quinto at the Potomac News at ___________________________.
WALK THRUS AND HOME INSPECTIONS
A recent Virginia Supreme Court case Brooks v Bankson, 248 Va. 197, (1994), points out the advisability of obtaining a home inspection as a contract contingency. In this case the sellers and buyers entered into a contract for the purchase of a house built in 1895 and restored in the 1980's. Also included was approximately thirty acres of land. The contract which was used was a form contract prepared by the Seller's broker. It contained pre-printed language, two paragraphs of which constitute the dispute in this case. The first provision of the contract, which is similar to the contracts used in Northern Virginia, stated that the purchaser had inspected the property and "agrees to accept the property in its present condition except as may otherwise be provided" in the contract. This is a typical provision in a residential real estate contract. It means that the buyer accepts the house in "as is" condition, unless the buyer asks that repairs or alterations be made, which requests must be contained in the contract and agreed to by the seller. The second provision, which was also pre-printed in the contract, allows the buyer the right and opportunity to conduct a "walk-through" inspection of the property preceding settlement to inspect the condition of the property. Two days before the settlement was to occur, the Buyer and an electrical contractor conducted an inspection of the property which was the "walk through" referred to in the contract. After that inspection the Buyers notified the sellers that they would not honor the contract. Their position was that the two provisions in the contract should be read together and that the purpose of the final "walk through" inspection was to discover defects which could not be easily seen or detected at the time the contract was signed. The trial court, from which court this case is appealed, allowed evidence of defects found by the inspector to be admitted as evidence at the trial. The court reasoned that the clause "except as may be otherwise provided" in the first provision means that the walk through is a contract provision which allows a purchaser a second inspection prior to finally accepting the property. The argument of the Seller's attorney was that the doctrine of caveat emptor ("Let the buyer beware!") was still good law in Virginia and, in the absence of the buyer making a claim of fraud or misrepresentation by the Seller, the "walk through" should only be for the purpose of comparing the condition of the property on the date the contract is signed to the condition immediately prior to settlement. The Supreme Court agreed with the Seller. It is up to the buyer to protect his own interests, by conducting a thorough inspection of the property prior to final acceptance of the contract. If the buyer does not have the knowledge or expertise to conduct such an inspection there are many qualified home inspectors who are able to give buyers an honest evaluation of the property they are about to purchase. In this case the buyers forfeited their $24,500 deposit, as well as having to reimburse the Sellers for their costs and expenses. This was an expensive lesson that could have been avoided by having the professional inspection performed at the outset of the transaction rather than two days prior to settlement.
HOMEOWNER'S ASSOCIATIONS
Last week the Virginia statute regarding Property Owners Associations was discussed. This week the effect of recorded covenants will be covered. When a developer creates a subdivision, which means he transforms a large piece of land into many smaller building lots, that developer will sometimes record a Declaration of Covenants along with the Deed of Subdivision. That Declaration imposes certain restrictions and obligations on subsequent purchasers of lots in that subdivision. This is usually seen as a positive action on the part of the developer to enhance and protect the value of each owner's lot and to maintain the attractiveness of each lot and thus of the entire subdivision. People buy lots in such a subdivision because of the protection these covenants afford. The covenants usually state that the lots will be used only for residential purposes and that no commercial activity shall take place. These are "use" restrictions. The covenants sometimes require that any house built on a lot shall be of a certain minimum size, that the roof have a certain slope, that the building materials be of a certain type, that certain types of fences be prohibited, that the structure be adequately maintained, that temporary structures will be disallowed. These are called "architectural" restrictions. Some covenants require each owner to offer their lot for sale to the adjoining landowners first or give to the Association a right of first refusal to buy the property. Some restrictions require that dues be paid to maintain and insure the common areas in the subdivision. Every lot owner who buys is subject to the covenants and must abide by them. This also gives every lot owner or the Association, if one exists, the right to enforce the restrictive covenants through a court action. A Homeowners Association usually requires that dues be paid in a timely manner. If the dues are not paid, then the Association can sue the delinquent homeowner for the dues and attorney fees. The Association can also place a lien against the lot on the land records so that the homeowner cannot sell the property without paying the dues. However, non-monetary covenants are more difficult to enforce.
In a 1992 case before the Supreme Court of Virginia, the Homeowners Association sought to enforce a restrictive covenant prohibiting the keeping or storing of a truck overnight except in an enclosed garage. The Association asked for an injunction against the homeowner. The homeowner ran a "wrecker service" and began to park a red tow truck at his home. Prior to that time, two other homeowners parked pickup trucks owned by a utility company on their lots. The Association allowed the parking of the pickup trucks because it determined that they were not commercial vehicles. However, the restrictive covenant read "No truck of any nature..." shall be parked overnight. The Court found that a pickup truck is a truck within the meaning of the covenants. The homeowner then argued that the Association could not prevent him from parking his truck since it did not prevent the prior homeowners from parking their trucks overnight. The Court did not accept that argument, holding that the non-enforcement of the prior violation did not preclude the current enforcement action. This is just one example of an enforcement action. There is a 1982 Supreme Court Case regarding the parking of a mobile home on a lot and a 1989 case concerning a right of first refusal. Restrictive covenants have been the subject of many lawsuits not all of which reach the Supreme Court. One would be wise to read the covenants in a subdivision prior to purchasing a lot so that these types of problems can be avoided by knowing in advance what activities have been prohibited.
HOMESTEAD DEEDS
Virginia law allows a householder to exempt certain property from claims of creditors. This is done by means of a Homestead Deed. This type of deed has nothing to do with the conveyance of property from one person to another. It is a document put to record to give notice to creditors that an individual is taking advantage of the exemptions allowed by law to prevent creditors from taking property for unpaid debts. The exemption is not overly generous. It allows a householder to exempt real or personal property, including money and debts due, as long as the amount does not exceed $5,000.00 in value. The statute allows $500.00 additional for each dependent. Disabled veterans are allowed to claim an additional $2,000.00 of property. In addition to the above, exemptions are allowed for the family Bible, wedding and engagement rings, family portraits, a burial plot and, most importantly, tools of debtor's trade. These include tools, books, equipment up to $10,000.00 and even cars as long as the value does not exceed $2,000.00. There are also special exemptions for farmers. The purpose of these statutes is to allow a person who is insolvent to keep at least some assets. These laws protect debtors from becoming destitute, and by requiring the filing of the Homestead deed allow creditors to inspect the property claimed as exempt. This insures that the debtor is not taking unfair advantage of the law. Only a "householder" is entitled to file a Homestead deed. This does not mean that only one person per household may file a Homestead deed. A husband and wife living together could both be householders. These laws are liberally construed to protect debtors. To allow only one householder per family would conflict with federal Bankruptcy laws which allows certain exemptions to every person who files bankruptcy. The Homestead deed can, therefore, be used to protect debtors and their assets from creditors, and the filing of a Homestead deed on the land records where the debtor lives or where the real estate is located is a necessary prerequisite to claiming the exempt
on.
HOW TO SELECT AN EXECUTOR FOR YOUR ESTATE
Preparing a valid will is one of the most important steps you can take to ensure that your estate goes to those whom you want it to, at the least cost in administrative expenses and taxes. But an equally important task is to select a qualified executor, or personal representative, who will carry out instructions according to the terms of your will.
Most people simply choose their spouse, adult child, or a close relative for this task. While this often is a good choice, the decision should not be made hastily. An executor must make numerous critical decisions, meet court-dictated duties and deadlines, prepare complicated tax returns, and spend considerable time wrapping up your affairs. (If there is no valid will, the court will appoint an administrator, usually a bank trust department or attorney, to handle the estate.) The duties of an executor/ administrator can include:
* Identifying and gathering the assets in your estate, such as real estate, jewelry and investments, and determining their value.
* Identifying which assets must pass through probate (not always clear-cut) and filing a list of those assets with the court.
* Providing living expenses for your dependent survivors.
* Collecting any money owed to you before you died.
* Paying all estate debts.
* Paying for any expenses associated with probating the estate, such as asset appraisals and attorney fees.
* Preparing and filing your final personal income-tax returns (federal and state), the estate's income- tax returns (federal and state), the federal estate-tax return, and a state death-tax return.
* Selecting and selling estate assets to pay creditors or taxes.
* Developing an investment strategy for the remaining assets.
* Distributing any remaining assets, including personal effects, to the beneficiaries designated in the will. (If there is no will, the administrator will distribute assets according to the state's intestacy laws.)
Obviously this is not an easy task. For example, the timing of the sale of assets for taxes or debts may affect the asset's value. Failure to adhere to probate procedures and deadlines can cause problems for the estate and its beneficiaries. An executor should have no conflicts of interest and be sensitive to conflicts among the beneficiaries. And the executor must be willing and able to spend the time?probate of even the simplest estate can take several months to more than a year, depending on the probate process in that state.
If your estate is large or complex, particularly if you own a business, you may want to name a certified financial planner, lawyer or bank trust department to serve as the executor or co-executor. While friends or relatives usually waive fees, professionals typically are paid three to five percent of the value of the estate. Fees often are fixed according to a court or statutory schedule, though fees may be negotiated for larger estates.
Name an alternate personal representative should the original nominee be unwilling or unable to serve. (Some states require that the executor live in the same state unless it is a relative.) Whomever you choose, it will benefit your estate, beneficiaries, and the executor if you discuss your will and wishes with the executor before death. Explain your choice of executor to other family members, and review your choice periodically. You can always change.
IMPOSSIBLITY OF PERFORMANCE
I read an interesting case this weekend Long Signature Homes, Inc. v. Fairfield Woods, Inc., 248 Va. 95,(1994). What made it more interesting is that after I had decided to write this week's column about this case, I met the plaintiff in the case who I have known for many years. He told me that, as the purchaser, he had written the contract the way he had purposely and that was the reason he was successful in the case when it was appealed even though he lost at the trial level. It seems that a contract was written for the purchase of 382 building lots in the seller's subdivision. Although the county had some existing sewer capacity, there was a question as to whether the sewer capacity would be sufficient to serve all of the lots. At the request of the purchaser, the contract contained a provision which made the contract contingent on the availability of sewers. The purchaser could terminate the contract if sewers would not be available. All parties also knew that the county was planning to expand its sewer system. Because of the possible delay, the purchaser added language to the contract that allowed him 60 days to settle after the contingencies had been satisfied, whenever that might occur. A year after the contract was signed, and after some lots had been purchased, the county notified both parties that there was not adequate sewer capacity for any additional lots. The Seller then notified the purchaser that he was terminating the contract due to the inability to satisfy the contingency. The purchaser responded by advising the Seller that it was only the purchaser who could terminate the contract if the contingency could not be met. The purchaser filed a suit against the Seller asking the court to decide what the contract meant. The Seller had witnesses from the county testify that there were no plans to expand the sewer capacity. It was the Sellers position therefore that the contract failed due to "impossibility of performance." The trial court agreed with the Seller in that "further performance is impossible within a reasonable period of time" and found the contract void.
On appeal the purchaser prevailed. The Court reasoned that there was only a delay in the contingency. Although the possibility existed that the sewer would never be built, it was also possible that the sewer might be built. That means that it was possible, not impossible, to fulfill the sewer contingency. Also, the Court ruled that the Seller's duty to perform was not discharged, that was because the contract required the Seller to perform past what would have otherwise been a reasonable time. The Seller assumed the risk of an unreasonable delay. The Supreme Court held that the lower court was in error to discharge the Seller merely because of a temporary impossibility. The Court also held that the "rule against perpetuities" applied and that the contract was in effect for 21 years from the signing of the contract. The Court did say that if the Seller could prove that no sewer facility would be provided prior to the year 2008, the Seller could file an action to void the contract. Thus a temporary impossibility of performance will not necessarily void a contract.
INTESTATE DISTRIBUTION
I met with a client recently whose husband died in 1973. At that time he owned a piece of property which he acquired in his own name prior to their marriage. His three children by his prior marriage have refused to give my client a deed to the property as well as refusing to pay the taxes on the property. My client has paid the taxes on the property since 1973. My client now wants to sell the property, and the question is how do we sell the property and how much are the children entitled to receive from the sale. In order to determine the interests of the widow and the children, the Virginia Statute on descent and distribution must be examined. Currently, the Virginia Statute (? 64.1-1) states upon the death of a spouse, the surviving spouse will inherit all the property of the decedent as long as the couple has no children or the decedent only has children by his surviving spouse. If the decedent has children by a prior marriage or any children by anyone other than his surviving souse, upon his death the spouse inherits only one-third of his estate and all of his children, legitimate or illegitimate, divide the other two-thirds of his property. The reason for this is both obvious and appropriate. The lawmakers know that if a surviving spouse inherits all of a decedent's property the spouse will probably have no desire to spend her inheritance on children which are not her own. This would be especially true if the other children are living with a former wife or if the decedent never told his spouse about his other offspring.
But the law in 1973, when the spouse of my client died, was different. At that time if a married person died intestate his or her children inherited the property subject to the dower or curtesy right of the surviving spouse. This means that the spouse had a one-third life estate interest in all of the decedent's property. The surviving spouse was responsible for one-third of all the expenses and was also entitled to one-third of any rents or profits from the property but only for his or her life. At the death of the surviving spouse, the property became the property of the children in fee simple absolute. In 1977 Virginia changed the law so that the surviving spouse's dower or curtesy right was a one- third fee interest, rather than a one-third life estate interest. This allowed the surviving spouse to pass the one-third interest to anyone and not necessarily the children of the first spouse to die. This met with much opposition and the law was again changed in 1982 to its present form. My client, however, is bound by the law as it was in 1973.
The answer then to the question as to how much each party is entitled to receive as a result of a sale is determined by the 1973 statute. The surviving spouse is entitled to the value of her life estate in the property plus a reimbursement of two-thirds of the expenses from 1973 to the date of sale. This amount is determined by actuarial tables contained in the statute. The children of her spouse are entitled to the rest. As to whether a sale will actually occur, depends on whether the children cooperate or if a partition suit will have to be filed. This is a costly and time consuming action, bu
