Community property pitfalls

Continuing on my theme of community property and co-ownership of property, I wanted to address a common misunderstanding that creates a pitfall for the unwary: in Idaho, just because you have a particular beneficiary designation on an account or on life insurance does not always mean that the beneficiary will receive those funds.

Take, for example, a divorced couple who has children between them. Perhaps they agree to take out life insurance policies benefiting each other in the event of the former spouse’s death. This can be a sensible practice, since co-parents are often dependent on each other for money (child support) and services (parenting), despite the fact that they are divorced and potentially at odds with each other.

Now imagine that one of the former spouses, say the husband, remarries. He continues to pay the premium and continues to have the first spouse as the designated beneficiary — the policy, after all, is genuinely for the benefit of the first spouse, who relies on the husband for financial and parenting support, which would need to be replaced were he to die. The premium continues to be automatically withdrawn from his bank account each month, and his paycheck continues to be automatically deposited to that account each month.

Some time later, the husband dies and his then-current spouse decides she should get the life insurance money instead of the first spouse, despite the beneficiary designation. Who wins? The answer is that, because the premiums for the life insurance were paid, at least in part, with funds that were the community property of the husband and second wife (his paychecks during the time of their marriage), the second wife is entitled to half of the insurance payment, while the remainder goes to the designated beneficiary.

A similar problem arises where a married person has a joint tenancy with right of survivorship with someone not his or her spouse, such as a joint tenant bank account. If the funds in the account were community property of the married person and his or her spouse, the surviving spouse may have a claim to half the funds in the account, despite the designation of another person as the survivor to the account.

These pitfalls can be avoided, through use of a prenuptial agreement for example. But the moral of the story is that, where community property funds an asset and the designated inheritor of that asset is not the surviving spouse, a potential problem is created.

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