Often, we have clients who desire to protect their separate property before a marriage, or their gifts from parents later in life. One way to do this is with a prenuptial or postnuptial agreement. These agreements are difficult to do, for all of the obvious reasons.
Another way to maintain separate property is to create Separate Property trusts to hold assets that are separate property. Separate property assets are those assets that you owned before marriage and have not been commingled, and also any inheritance that is received as separate property. This can be accomplished as a part of overall estate planning using a three-trust setup, two Separate Property Trusts and a Community Property Trust to hold jointly owned assets.
The benefit is that the Separate Property trust assets are not subject to division in the event of a dissolution of the marriage. The income and value from the assets may be used to determine the ability to pay spousal and child support, but the assets continue to be separate property. In this trust, you can still fulfill your bequests upon passing. Usually, the desire is to give the assets to your surviving spouse and/or your children, but it could also be to share certain Separate Property Assets with others.
An added benefit is that separate property of one spouse is not liable for the obligations of the other spouse. It can be quite effective for asset protection. Also, Community Property may be converted to Separate Property with a fair and equitable Transmutation Agreement between the parties.
If you are married, at some point before passing away, it is advisable to place all of your accumulated assets into the Community Trust in order to obtain a full step-up in basis on the entire value of the property upon the passing of the first spouse. Similarly, if property is held in Joint Tenancy, it is advisable to change title to the Community Trust to obtain the full step-up in basis upon the passing of the first spouse. With a full step-up in basis, the surviving spouse can sell the property, after the first passing, for its value at the date of death without paying income taxes on the sale.