FAMILY LAW NEWS & REVIEW

Transcription

1 FAMILY LAW NEWS & REVIEW LOS ANGELES COUNTY BAR ASSOCIATION FIRST QUARTER 2010

2 assist in the making of the child custody decision, and further delay in proceedings would have resulted if a new child custody evaluation had to be ordered. Assembly Member Beall will no doubt sponsor another version of the bill next year. Fortunately, this year, after he amended it in the Senate, it died in the Senate Judiciary Committee. OBTAINING AN ORDER TO LIQUIDATE THE FAMILY HOME WITH OR WITHOUT EQUITY By Shannon Quinley You can find the bills and legislative history at: Shannon Quinley practices family law in Pasadena. Many couples are barely scraping by while happily married and living together. Whether facing the repercussions of a job loss, upwards adjusting mortgage payments, the decline in investment income due to a weakened stock market or the total loss of equity stemming from receding real estate markets, many are suffering from the current financial climate. Inevitably, their situations worsen when divorce proceedings are initiated. Despite successfully negotiating a fair pendente lite support award, a resident spouse may lack the ability to maintain all necessary payments associated with the family home. Similarly, the non-resident spouse may also lack that ability after financing a separate home and honoring any support obligations. Consequently, foreclosure may be a tangible risk that emerges for both parties early on in a dissolution action. The promise of a loan modification may sound enticing, but ultimately may not be possible due to a lack of cooperation from the lender or may ultimately make little difference to a homeowner s financial position in the long run. The resident spouse may be able to reduce mortgage payments to an affordable sum through a loan modification, but he or she may not be able to qualify to assume the entire mortgage and therefore relieve the nonresident spouse of the liability for the mortgage. It may seem that the best option would be the immediate sale of the family home. FAMILY LAW 11

3 COURT S AUTHORITY TO ORDER THE LIQUIDATION OF COMMUNITY PROPERTY The seminal case authorizing a court to order a pendente lite sale of real property is Lee v. Superior Court. 1 In that case, the wife appealed from a pendente lite order allowing the husband to sell a community property apartment building and use the proceeds to pay debts owing in a business operated by husband and claimed to be his separate property. 2 The court held that a pendente lite order requiring the sale of a community property asset to save another is proper as long as the order contains appropriate safeguards to protect the objecting spouse from any prejudice that may result from the sale and release of proceeds to the other spouse. 3 The court offered two examples of such safeguards. First, the trial court may conduct a partial trial limited to the determination of the community or separate property character of the asset along with a determination of the existence of other community property assets sufficient to offset any loss associated with the release of the proceeds of sale. 4 Second, the court could merely limit its determination to the value of the asset to be sold and then require security sufficient to protect the objecting spouse 5 such as requiring that the proceeds be deposited into a blocked account. The Lee court based its ruling on the jurisdiction conferred by Family Code 2010 (formerly Civil Code 4351), which allows a trial court to make orders that are appropriate concerning the settlement of the property rights of the parties. 6 The Lee court also cited the authority provided in Family Code 2550 and 2553 (both formerly contained in Civil Code 4800), which together require the trial court to divide the community estate equally and authorize the court to make any orders necessary to divide the property. 7 The holding in Lee was subsequently codified in Family Code 2108 (formerly Civil Code (g)). Pursuant to Family Code 2108, upon a finding of good cause, a court may order the liquidation of a community or quasi-community asset so as to avoid unreasonable market or investment risks given the relative nature, scope and extent of the community estate after the moving party has served an appropriate declaration of disclosure. 8 However, the statute does not require, as Lee seemed to, that an asset be liquidated for the purpose of saving another. In fact, courts regularly order liquidation of the family home for the sole purpose of preserving its equity after the parties have received a Notice of Default and it is clear to the court that foreclosure is likely imminent. LIQUIDATION OPTIONS WHERE EQUITY IS NONEXISTENT The term liquidation is not only defined as [the act or process of converting assets into cash, esp. to settle debts 9, but is also defined as [the act of settling a debt by payment or other satisfaction. 10 (emphasis added). Thus, by definition, an asset containing no equity may be liquidated by merely satisfying or settling the debt associated with the asset, which may not actually result in cash proceeds. Liquidation of a community property asset during the pendency of litigation is certainly not a new concept; however the nature of liquidation has changed with the current financial environment. In the past, it was as simple as putting the family home up for sale, waiting for a buyer and placing proceeds from the sale into a trust account to be later distributed between the parties after entry of the judgment, by stipulation or after trial. Now, many divorcing couples have no equity in their homes due to declining real estate values. Thus, liquidation may need to be accomplished in ways other than a traditional sale. For example, liquidation may be accomplished by a short sale wherein the parties would attempt to sell the home at fair market value even though the loan balance on the property may exceed that value. Upon approval of the lender, the proceeds of the sale would be paid to the lender and the remaining debt owed pursuant to the mortgage would be forgiven. Another option is to negotiate a workout of 12 FAMILY LAW

4 the loan by executing a Deed in Lieu of Foreclosure. Essentially, the parties would forfeit their home and voluntarily relinquish all interests in the home to the lender. This option should be attempted when the parties are already behind in their mortgage payments and foreclosure is imminent. The lender may be willing to accept this since it saves time and the cost of having to actually pursue foreclosure. The upside to the parties is that their credit is less affected than if they had gone through the foreclosure. FIDUCIARY DUTIES AND LIQUIDATION Each spouse is required to act with respect to the other spouse in the management and control of the community assets and liabilities in accordance with the general rules governing fiduciary relationships which control the actions of persons having relationships of personal confidences until such time as the assets and liabilities have been divided by the parties or by a court. 11 A spouse cannot sell the family dwelling without the written consent of the other spouse. 12 Likewise, a spouse cannot unilaterally take advantage of the liquidation options discussed above because each requires the participation of both parties. However, pursuant to Family Code 1101, a court can dispense with the requirement of the other spouse s consent in any transaction affecting community property if two requirements are first met. 13 First, the proposed transaction must be in the best interest of the community. 14 Second, consent of the other spouse was arbitrarily refused or cannot be obtained due to that spouse s physical incapacity, mental incapacity, or prolonged absence. 15 If the court finds that one spouse breached their fiduciary duty to the other, an award of attorney s fees and costs is mandatory. 16 Accordingly, a court may order liquidation pursuant to FC 1101 if the moving party can meet the burden of showing that the transaction is in the best interest of the community. Relevant factors could include: whether the proposed transaction will diminish the risk of negative effects on both parties credit, whether the transaction would result in the complete elimination of community debt, and whether favorable tax treatment (discussed below) is available to the parties as a result of the transaction. When the resident spouse opposes a motion for liquidation and instead argues that he should be allowed to attempt a loan modification, the moving party must prove that consent for the proposed transaction was arbitrarily refused. An inquiry similar to the inquiry conducted by a court when determining whether to make a deferred sale of home 17 order may be relevant. A court should determine whether a loan modification would be economically feasible. 18 Specifically, a court must determine that the resident spouse can maintain the mortgage payments, property taxes, insurance, and maintenance of the condition of the home. 19 The court must consider evidence concerning the resident spouse s income, the availability of child and spousal support and other sources of funds with which to make necessary payments relating to the home. 20 The Legislature s intent in requiring such a determination was to avoid the likelihood of possible defaults on the payments of notes and resulting foreclosures, to avoid inadequate insurance coverage, to prevent the deterioration of the condition of the family home, and to prevent any other circumstances that would jeopardize both parties equity in the family home. 21 In addition, it is also relevant to consider whether the resident spouse will be able to qualify for a refinance of the existing mortgage. FAVORABLE TAX TREATMENT ASSOCI- ATED WITH LIQUIDATION Under normal circumstances, a debtor may owe taxes on a canceled or forgiven debt, including a canceled debt associated with a foreclosure or a restructured mortgage. However, the Mortgage Forgiveness Debt Relief Act of amended the Internal Revenue Code to temporarily allow homeowners to exclude debt forgiven on their principal residence if the balance of their loan was $2 million ($1 million if filing married filing separately ) or less. 23 The debt must have been used to FAMILY LAW 13

5 buy, build, or substantially improve the primary residence and must have been secured by that residence. 24 Also, forgiven debt originally incurred to refinance a pre-existing mortgage may be excluded, but is limited to the amount of the pre-existing mortgage principal. 25 By taking advantage of this Act, the parties could truly become free and clear of their mortgage without having to pay taxes on the forgiven debt. Until the wilted economy recovers and starts to thrive again, attorneys will need to adjust their strategies for assisting clients in dividing their assets and debts equitably. Similarly, courts must also appreciate the depressed financial positions of litigants and must make appropriate orders that may include liquidation of the family home utilizing methods alternative to the traditional sale. Although this may not include the maximization of profits, it may lead to a minimization or complete elimination of debt, which could be quite an optimistic outcome. 21. Fam. Code 3801(c). 22. Mortgage Forgiveness Debt Relief Act of 2007, H.R. 3648, 110th Cong. (2007) U.S.C.S. 108(a)(1)(E) U.S.C. 108 (h)(2) 26 U.S.C. 163 (h)(3) (B). 25. Id. 1. Lee v. Superior Court (1976) 63 Cal. App. 3d Id. at Id. at Id. 5.Id. 6. Fam. Code 2010(f). 7. Lee v. Superior Court (1976) 63 Cal. App. 3d 705,711; Fam. Code 2550; Fam. Code Fam. Code BLACKS LAW DICTIONARY, (9th ed. 2009) 10. Id. 11. Fam. Code 1100(e). 12. Fam. Code 1100(c). 13. Fam. Code 1101(e). 14. Fam. Code 1101(e)(1). 15. Fam. Code 1101(e)(2). 16. Fam. Code 1101(g). 17. Fam. Code 3800, et seq. 18. Fam. Code Fam. Code 3801(a). 20. Fam. Code 3801(b). 14 FAMILY LAW