Business Law

Ninth Circuit BAP holds that California’s community property presumption prevails over the record title presumption in bankruptcy cases

The following is a case update analyzing a recent case of interest: 

SUMMARY

In Brace v. Speier (In re Brace), 566 B.R. 13(9th Cir. BAP 2017), the United States Bankruptcy Appellate Panel of the Ninth Circuit (“BAP”) affirmed a ruling by the bankruptcy court holding that, where the avoidance of transfers of interests in real properties restored title to a married couple as joint tenants, California’s community property presumption (California Family Code § 760) (the “Community Property Presumption”) prevailed over California’s record title presumption (California Evidence Code § 662) (the “Record Title Presumption”).  As a result, both the debtor’s and the non-debtor spouse’s interests in the recovered real properties were assets of the bankruptcy estate despite the couple’s arguments that either transmutation was not required with respect to a transfer from a third party, or that the taking of title as “joint tenants” was a sufficient transmutation of their interests in the real properties from community to separate property.  To read the full published decision, click here.

Facts

Debtor and his non-debtor spouse acquired title to three real properties while married and domiciled in California.  They took title to each of the properties as “husband and wife as joint tenants.”  Debtor later formed the Crescent Trust as an irrevocable trust, with debtor as the sole trustee and his non-debtor spouse as the sole beneficiary.  Thereafter, debtor executed and recorded trust transfer deeds transferring his interests in two of the properties (the “Properties”) to the Crescent Trust for no consideration.  At the time of the transfers, debtor was a defendant in pending litigation, and a judgment was entered against him a few weeks later.  Importantly, other than the title documents reflecting the purported joint tenancy, there was no evidence that debtor and his non-debtor spouse intended to hold their interests in the Properties separately (e.g., a written transmutation agreement). 

The debtor filed a chapter 7 petition almost seven years later. The chapter 7 trustee sued the debtor and the non-debtor spouse to recover the transfers. The bankruptcy court eventually found that the transfers constituted fraudulent transfers and restored title to the Properties to the debtor and non-debtor spouse as joint tenants.  Relying on the Community Property Presumption (property acquired during a marriage is community property absent a transmutation agreement), the bankruptcy court further determined that the entirety of the recovered Properties were assets of the debtor’s chapter 7 estate.   

After judgment was entered, debtor and non-debtor spouse (hereinafter, the “Appellants”) appealed the fraudulent transfer findings, which the BAP later affirmed.  Appellants also moved to amend the judgment, arguing that the bankruptcy court should have concluded that the Properties, as recovered, were owned 50/50 by the Appellants as tenants in common.  The bankruptcy court denied the motion to amend the judgment, finding that Appellants had not rebutted the Community Property Presumption, and that the Properties were therefore assets of the debtor’s estate pursuant to 11 U.S.C. § 541. The bankruptcy court later amended its judgment to clarify that the Properties, with title restored, were held by Appellants as joint tenants and as community property under California law.  Appellants then appealed the amended judgment and the bankruptcy court’s findings that the entirety of the Properties were assets of the debtor’s estate.

The BAP affirmed the bankruptcy court on appeal, holding that the bankruptcy court correctly applied the Community Property Presumption and that, pursuant to the California Supreme Court’s holding in Valli v. Valli (In re Marriage of Valli), 58 Cal.4th 1396 (2014) (discussed further below), the bankruptcy court correctly concluded that Appellants had failed to meet their burden of rebutting the Community Property Presumption because they offered no evidence of an intent to transmute, other than the act of taking title as joint tenants. Thus, the Properties were appropriately characterized as community property.

Reasoning

This case involved a conflict between the Community Property Presumption and the Record Title Presumption, which the BAP identified as promoting “fundamentally important, but nonetheless fundamentally different, public policies favoring the integrity of property transactions.”  Brace, 566 B.R. at 19.  The determination that the Properties were community property was the direct result of the California Supreme Court’s holding in Valli,which explicitly rejected the Ninth Circuit’s interpretation of California law as set forth in Hanf v. Summers (In re Summers), 332 F.3d 1240 (9th Cir. 2003). 

The Record Title Presumption provides, generally, that the holder of legal title to the property is presumed to be the holder of the full beneficial title. The Community Property Presumption provides, generally, that property acquired by a married person during marriage while domiciled in California is community property. The Community Property Presumption may be rebutted by evidence that the spouses agreed to recharacterize or transmute the property from community property into another form of ownership.  Transmutations are only valid if in writing and consented to or accepted by the adversely impacted spouse.

Prior to Valli and based upon Summers, courts could conclude that the transfer documents themselves (e.g., a grant deed conferring title to spouses as joint tenants), could be evidence of an intent to transmute sufficient to rebut the Community Property Presumption.  The Ninth Circuit in Summers went further and concluded that the transmutation requirements of the Community Property Presumption only applied to interspousal transactions, and, with regard to transactions involving third parties, that the Record Title Presumption would trump the Community Property Presumption.  Thus,  where spouses acquired title to a property from a third party as joint tenants, they didn’t need to enter into a separate transmutation agreement for the spouses’ interests in such property to be characterized as their individual separate property.  In Valli, the California Supreme Court rejected the Ninth Circuit’s interpretation of California law as set forth in Summers, and rejected the notion that the California law transmutation requirements applied only to interspousal transactions.  Thus, after Valli, a finding of transmutation could not be based solely on the form of title and would necessarily require the existence of an additional writing (consented to by the adversely affected spouse) evidencing the spouse’s intent to transmute community property into separate property.

With these principles in mind, the BAP rejected all of Appellants’ arguments on appeal.  The BAP in Brace noted that Appellants advanced somewhat “shift[ing]” arguments over the course of the dispute “in an apparent attempt to respond to the California Supreme Court’s holding in Valli.”  Brace, 566 B.R. at 20.  The BAP further noted that Appellants did not dispute in the bankruptcy court that the Community Property Presumption applied and instead, based on Summers, relied on the fact that they took title as joint tenants as evidence that they had rebutted the Community Property Presumption.

Moreover, the BAP considered and rejected Appellants’ arguments that:
(i) principles of statutory construction required the application of the Record Title Presumption over the Community Property Presumption; (ii) prior case law compelled reversal of the bankruptcy court’s findings (concluding that the cases relied upon by Appellants in advancing this argument were either distinguishable based on the facts or were no longer good law after Valli); (iii) the concurrence in Valli limited the application of the Community Property Presumption to marital dissolution cases; and, (iv) the BAP’s ruling had the potential to “wreak havoc on marital communities” (rejecting the notion outright).

After extensively examining the holdings in Summers and Valli, and considering and rejecting all of Appellants’ arguments, the BAP in Brace ultimately affirmed each of the bankruptcy court’s rulings, recognizing that Valli explicitly abrogated Summers and concluding that Appellants failed to provide sufficient evidence that they had effectively transmuted their interests in the Properties. 

Author’s Commentary

This opinion (as well as the California Supreme Court’s opinion in Valli) will have significant ramifications for California debtors, trustees, and creditors. The community property/separate property distinction significantly impacts a trustee’s analysis of whether a sale of property is in the best interests of the estate. The distinction affects the method, manner, and costs of sale (whether a property may be sold in the ordinary course, and whether an 11 U.S.C. Section 363(h) complaint is required), and whether the estate is entitled to the entirety of the net proceeds of sale, or only a portion thereof (e.g., whether proceeds must be shared with a co-owner).  California couples (and the attorneys representing them) considering a single-spouse filing are well-advised to consider the holdings of Brace and Valli before they file.  Non-filing spouses should be especially diligent with respect to their separate property interests in real property, as the failure to address the transmutation requirements may result in the loss of significant value.

These materials were prepared by ILC member Michael W. Davis of Brutzkus Gubner Rozansky Seror Weber LLP in Woodland Hills, California ( mdavis@bg.law ). Editorial contributions were provided by ILC advisor John Fiero, a partner with Pachulski Stang Ziehl & Jones LLP.

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