Regular readers know that KYEstates takes a keen interest in the cat-and-mouse game of asset protection. Before moving to Kentucky, your publisher lived in Massachusetts, and is, accordingly, a Red Sox fan. This was back in the Bill Buckner era, when being a Red Sox fan was an exercise in persistence, not success. So, your publisher learned to appreciate the underdog. In the asset protection game, the debtor is usually the underdog, and that’s one reason KYEstates cheerfully discloses a bias in favor of debtors. Although we’ve discussed asset protection in sunny places (Florida homestead, here) or complicated contexts (Alaska trusts here, Delaware trusts here), it’s important not to forget simpler options, including qualified plans such as IRAs or 401(k)s (discussed in part here, here, here, and here) and owning property as a tenancy by the entirety.
Kentucky continues to recognize the common law estate in real property of tenancy by the entirety (so, too, does Florida). Tenancy by the entirety is a powerful asset protection tool in Kentucky, because Kentucky case law provides strong support for “innocent” (or non-debtor) spouses against creditors of the other spouse.
Financial pressure often creates marital discord, and tenancy by the entirety can be severed by divorce, transforming the form of ownership to tenancy in common. Nelson v. Mahurin, 994 S.W.2d 10, 15 (Ky. App. 1998). Nonetheless, if spouses remain married after the creditor problem arises, tenancy by the entirety offers them an opportunity to continue living in their house until the death of the non-debtor spouse.
Although it’s a recap of 1L property law, it may be useful to review the summary of estates in real property involving more than one owner that the Kentucky Supreme Court provided in Sanderson v. Saxon, 834 S.W.2d 676 (Ky. 1992):
A tenancy in common is an estate in which two or more persons hold title to land in such fashion as to give each of them undivided possession. The rights of no tenant are enlarged by virtue of the death of another, that is, no tenant accedes to full, or even increased, ownership by virtue of the death of another tenant. The only “unity” involved in a tenancy in common is the possession of the entire property, to which each tenant is equally entitled. McLeod v. Andrews, 303 Ky. 46, 196 S.W.2d 473 (Ky.1946); 20 Am.Jur.2d, Cotenancy and Joint Ownership, Section 22.
A tenancy by the entirety is an estate in land shared by husband and wife, whereby at the death of either the survivor is entitled to full fee simple ownership. Under the common law, five unities were essential to the creation and existence of a tenancy by the entirety: interest, time, title, possession and marriage. Kentucky still recognizes the estate known in common law as tenancy by the entirety. Alford v. Rogers, Ky., 262 S.W.2d 676 (1953); Cowan v. Pleasant, Ky., 263 S.W.2d 494 (1954); Hoffmann v. Newell, Ky., 60 S.W.2d 607, 249 Ky. 270 (1933). A distinguishing feature of a tenancy by the entirety is that the survivor takes the entire estate at the death of the deceased co-tenant not by virtue of that death, but because, in law, each was viewed to own the entire estate from the time of its creation.
A joint tenancy, as distinguished from the tenancy by the entirety, is an estate held by two or more people who (in the case where the estate is held by only two) are not husband and wife. Each is jointly entitled to the enjoyment of the estate so long as all live; however, the interest of a joint tenant, at his or her death, passes to the survivor. McLeod, supra; Stambaugh v. Stambaugh, 288 Ky. 491, 156 S.W.2d 827 (1941).
Modern Kentucky case law on entireties property begins with Hoffmann v. Newell, 60 S.W.2d 607 (Ky. 1932). Hoffmann’s facts were, in a way, predictable. Mr. and Mrs. Newell had married in 1927. Presumably, shortly thereafter they purchased a home as tenants by the entirety (their deed said the realty was conveyed “to have and to hold the same unto said William H. Newell and Mary E. Newell, his wife, with the right of survivorship, his or her heirs and assigns forever”). Mr. Newell speculated in stocks with Hoffmann, and suffered losses. In December, 1930, Hoffmann recovered a judgment against Mr. Newell. Hoffmann filed suit seeking sale of the realty to satisfy the judgment. Mrs. Newell filed her answer and sought a declaration of her rights in the property.
The Hoffmann court described the question before it as: “whether or not the interest of either tenant by the entirety can be subjected to the payment of the debts of the other, or to what extent, if any, is a judgment against one of them for his or her personal debt, a lien against his or her interest as tenant by the entirety.” 60 S.W.2d at 611.
The Hoffmann court held that the debtor husband’s contingent survivorship interest in the property was subject to sale for the judgment creditor’s debt, but that the purchaser of the interest would take it subject to the defeasance through the wife’s surviving her husband. 60 S.W.2d at 613. The court also held that during the joint life of Mrs. Newell and the debtor husband, Mrs. Newell had a right to the possession and all the rents, issues, and profits of the whole of the entireties property, subject to the right of Mr. Newell as her husband and cotenant by the entirety. Id.
The Hoffmann rule has been applied in several subsequent Kentucky decisions and Federal decisions applying Kentucky law. One such decision is U.S. v. Real Property Located at 5205 Mount Howard Court, 755 F.Supp. 169 (W.D. Ky. 1990). In Mount Howard, the United States undertook a civil forfeiture action against entireties property owned by a child pornographer (Fleener) and his wife. 755 F.Supp. at 170. The realty had been used in the conduct of the husband’s criminal activity, but the government stipulated that the wife, an innocent spouse, had not known of or aided in the criminal conduct. Id. Federal law exposing the husband’s interest to forfeiture was clear, but the District Court had to refer to state law to determine the nature of the property interests owned by the husband and wife. 755 F.Supp. at 171.
Accordingly, the Mount Howard court reviewed the Fleeners’ deed, under which the Fleeners had taken title to the property “for and during their joint lives with remainder in fee simple to the survivor of them”. Id. The court stated that “[t]his is the standard language employed in Kentucky for conveyance of a tenancy by the entirety with rights of survivorship.” Id.
In applying Kentucky law to the facts before it, the Mount Howard court considered KRS 426.190 (a successor statute to the statute considered in Hoffmann). KRS 426.190 provides that “Land to which the defendant has a legal or equitable title in fee, for life or for a term, whether in possession, reversion or remainder, or in which the defendant has a contingent interest or a contingent remainder or a defeasible fee, may be taken and sold under execution” (emphasis added). Id. The Mount Howard court undertook to reconcile this statute with the non-debtor spouse protections in Hoffmann and related cases.
After reviewing Hoffmann’s treatment of this statute and several other decisions, including Alford v. Rogers, 262 S.W.2d 676 (1953), Barton v. Hudson, 560 S.W.2d 20 (1978), and Hayes v. Schaefer, 399 F.2d 300 (6th Cir. 1968), the Mount Howard court held that:
[Mrs.] Fleener, as an innocent owner of the defendant Property in a tenancy by the entirety with a right of survivorship, has the vested right and title to the exclusive ownership of the entire Property during her life time. Should she survive [Mr.] Fleener, she would then be vested with full title to the Property in fee simple, regardless of any interest the United States may acquire through her husband. There can be no forced sale of the Property by the United States during the period in which it is held by [Mrs.] Fleener as a tenant by the entirety with the right of survivorship. If [Mr.] Fleener survives [Mrs.] Fleener, the United States would receive title to the defendant Property in fee simple since [Mr.] Fleener forfeited his right of survivorship by his own wrongful acts. 755 F.Supp. at 173.
In Mount Howard, the government had urged a reading of KRS 426.190 that would allow sale of the land and division of the proceeds between Mrs. Fleener and the government. The court did not adopt this interpretation, because doing so would require it to “read [KRS 426.190] in isolation and disregard the decisions of the Kentucky courts in Hoffmann, [Barton, and Hayes].” Id. The court noted that if the Kentucky legislature had objected to the judicial interpretation of KRS 426.190 in Hoffmann and related cases, “they would have enacted or could now enact legislation reversing the decisions.” Id. As the Kentucky legislature had not done so, the Mount Howard court held that the government could only sell the husband’s contingent interest in the property, but that such sale could not defeat the wife’s current right to and interest in the entire estate. Id.
Another relatively recent decision interpreting and applying Hoffmann to entireties property is Judge Heyburn’s opinion in Raybro Electric Supplies, Inc. v. D.J. Barclay, 813 F.Supp. 1267 (W.D. Ky. 1992). The actual issue in Raybro concerned the relative priorities of the United States and another creditor in the sale proceeds of entireties property. 813 F.Supp. at 1268. In order to determine priority, the court evaluated treatment of the entireties interest under Kentucky law. Id. It explained some of the history underlying Kentucky’s law on entireties property:
As early as 1846 Kentucky law … [insulated] marital land from the husband’s individual debts….These statutes assured that a judgment against one spouse alone did not become a lien on the land during the joint lives of the spouses, but became enforceable only when the debtor-spouse became full owner by right of survivorship….Under ordinary circumstances, then, the property interests of the individual spouses are inferior to their joint rights as tenants by the entirety: a creditor of one spouse cannot perfect a lien against the land itself until the land passes entirely into the hands of the debtor-spouse.
Though neither spouse can deliver full present possession or ownership of marital land by unilateral act, each spouse independently holds a severable, contingent interest in the estate: the right to succeed to the entirety of title upon the death of the other spouse….Kentucky statute [KRS 426.190] further permits creditors to encumber land “in which the defendant has a contingent interest”….Thus a judgment creditor may obtain a lien against an individual spouse’s “expectant interest in survivorship” in marital land, even though the lien arises from a unilateral debt….The creditor indeed may foreclose upon this contingent interest immediately, during the spouses’ joint lives, to satisfy the obligation owed by the debtor-spouse. 813 F.Supp. at 1269.
The Raybro court noted, however, that a “creditor who forecloses upon a debtor’s contingent interest takes the interest acquired upon its sale: that is, acquires the debtor’s right of survivorship, not full title to the property. The interest acquired by the creditor is subject further [to defeasance] … in the event the non-debtor spouse survives and acquires full ownership of the land.” Id. Accordingly, it noted that on the facts before it, one of the creditors could have sold the entireties interest of the debtor spouse, and “perhaps might have realized some discounted portion of the land’s full market value.” Id.
The Raybro court noted that Kentucky has a “policy of protecting non-debtor spouses who hold land as a tenant by the entirety,” 813 F.Supp. at 1270, because “Kentucky law allows creditors to attach a debtor-spouse’s contingent interest in marital land to secure unilateral debt, but prevents creditors from foreclosing on the land itself until the debtor-spouse becomes full owner by survivorship.” Id.
The result is that “[c]reditors of both spouses are therefore assured priority for their liens against marital land, even though such liens arise later than those securing unilateral debt, since these joint-debt liens attach to present rather than contingent interests in the property.” Id. Under a contrary rule, “a single spouse could effectively encumber marital land unilaterally: a later creditor would not take such land as security, even for joint debt, if that creditor would be entitled only to such proceeds that remain after the unilateral debt has been satisfied. Such a policy would deprive the non-debtor spouse of the full enjoyment of marital land, contrary to the intent of Kentucky law.” Id.
More recently, In re Brumbaugh, 250 B.R. 605 (Bankr. W.D. Ky. 2000), reviewed Kentucky entireties law, including Hoffmann and KRS 426.190, to find that the interest in land that “creditors may attach and sell [pursuant to KRS 426.190] is the debtor-spouse’s right of survivorship, subject only to the possibility that the non-debtor spouse will outlive the debtor spouse, in which case the holder of the right of survivorship takes nothing.” 250 B.R. at 608.
Citing Hayes and Mount Howard, the Brumbaugh court determined that:
[U]nder Kentucky law, property held by husband and wife as tenants by the entirety is subject to attachment and execution upon the debtor-spouse’s interest, but that interest is limited to his or her right of survivorship…Kentucky law does not permit the sale of the debtor-spouse’s or innocent spouse’s present possessory interest in the property or the right during the life of the non-debtor spouse to rents, issues, and profits of the whole of the property. 250 B.R. at 608-09.
A very recent unpublished decision, Coleman American Companies, Inc. v. Leasure, 2008 WL 5191463 (Ky. App. 2008), indicates that Kentucky courts continue to follow the Hoffmann rule as applied in Mount Howard and Raybro. In Coleman American, the Kentucky Court of Appeals restated the rule that although a creditor can sell the debtor spouse’s expectant interest in entireties property, 2008 WL 5191463 at *1, a “judgment creditor may enforce the execution of and sale of ones spouse debtor’s interest in property held by a tenancy by the entirety, but may not compel the sale of the land itself.” Id.
This body of Kentucky case law and Federal court decisions analyzing and applying Kentucky law indicates that for a Kentucky non-joint debtor who is able to avoid divorce after creditor problems arise, ownership of real property in a tenancy by the entirety is a simple, strong form of asset protection.
When advisors are working with Kentucky clients with happy marriages who own or may be acquiring real property, they should keep in mind the asset protection benefits of entireties property. For instance, shifting ownership of entireties property to one spouse’s name alone (often done to equalize assets and fully realize the benefit of A-B credit shelter estate tax planning) may carry a price in lost asset protection benefits. Similarly, when married clients are taking title to property, the asset protection potential of entireties ownership should be carefully considered before sole ownership or tenancy in common is used.
Compared to other states (e.g., Florida) Kentucky is not a very positive environment for asset protection. Entireties property is a significant exception to that rule, and advisors and married Kentucky clients should make the most of the asset protection opportunities entireties property offers.