Parents want to provide for their children. Parents also worry about how inherited assets or inheritance money will be used once in their child’s hands. The interplay between inheritance and divorce is an area of particular concern for many parents of adult children who are married or in a common law relationship.
What happens to an inheritance if the child who received it later goes through separation or divorce proceedings?
Can you protect assets and inherited property from the divorce process?
As British Columbia’s premier family law and estate law firm, we have extensive experience helping clients address these concerns. In today’s blog post, we will have a look at strategies for safeguarding a child’s inheritance during a divorce. If you need more information or want to get legal advice customized to your family’s unique situation, reach out to a knowledgeable attorney at our law firm today for a confidential consultation.
Is a spouse’s inheritance separate property or is it considered marital property that must be shared with your child’s spouse? Continue reading to learn 4 legal strategies to protect against risks to your child’s inheritance!
In British Columbia, the Family Law Act applies to the division of marital property and debt on separation and divorce. The property division rules apply whether the spouses are legally married or common law spouses. The general rule is that “family property” and “family debt” are subject to division 50/50 between spouses unless it is significantly unfair to do so.
“Excluded property”, on the other hand, is presumed to remain the property of the spouse who owns it. Section 85 of the Family Law Act states that excluded property is property brought into marriage or cohabitation by one spouse. It also includes inheritances received by one spouse and gifts to one spouse from a third party (for example, the parents of one spouse gift the down payment for a house to only one spouse).
The general rule is that excluded property is not subject to equal division on separation, but there is a catch: any increase in the value of the excluded property is subject to equal division.
It’s also possible for excluded property to lose its exclusion from equal division if it’s commingled with other marital assets or used to purchase family property (e.g., one spouse puts their inheritance into a joint bank account or uses their inheritance to buy a home with their spouse jointly). The spouse claiming that property is excluded property has the burden of proving that the property is excluded property.
Section 85 of the Family Law Act created a lot of confusion in divorce proceedings and the potential for unintended unfairness. In some cases, it’s possible for the “inheriting spouse” to argue that the commingled inheritance or gift should not be considered marital property. In other cases, the exclusion is lost and the other spouse succeeds in their claim to a share of that property in the divorce proceedings.
In light of the confusion and potential for perceived unfairness, the BC Family Law Act was changed in 2023 to include the following in section 85(3):
If property is excluded from family property under subsection (1), the exclusion applies despite any transfer of legal or beneficial ownership of the property from a spouse to the other spouse.
Because of the change to the law, the gift or inheritance should be more readily traced back to the excluded property of the inheriting spouse and thus considered separate property not subject to equalization.
The addition of section 85(3) is a welcome one, but it doesn’t eliminate all risks.
First, keep in mind that any increase in the value of excluded property throughout the relationship remains subject to equal division on separation or divorce. If you leave a sizeable inheritance to your child or make a sizeable gift to them during your lifetime, any appreciation in the value of that inheritance or gift is subject to 50/50 division between the spouses upon separation or divorce—even if the money was kept in a separate account and not a joint account with their spouse.
Second, it remains possible for the other spouse to argue in court that the excluded property should be subject to equal division, despite section 85(3), because family property or family debt located outside British Columbia cannot practically be divided, or because it would be “significantly unfair” not to divide excluded property on consideration of the duration of the relationship between the spouses and one or more of the factors set out in section 96 of the Family Law Act.
Those factors include a spouse’s efforts such as direct contribution to the preservation, maintenance, improvement, operation or management of the excluded property (e.g. making mortgage payments); the terms of any agreement between the spouses respecting the excluded property; and the extent to which significant unfairness can’t be addressed by an unequal division of family property, family debt, or both.
Knowing the risks and implications of the family law rules, your best bet is to take steps to protect gifts and inheritances from marital breakdown. Even with the addition of section 85(3), it is best not to leave it to chance. It remains to be seen how the courts will apply section 85(3), and the courts continue to have the power to order the division of excluded property under section 96.
Here is an overview of the legal tools and strategies to protect your child’s inheritance from divorce:
A well-drafted agreement between two spouses can spell out rights and expectations should they later separate or divorce. The agreement can state what property each spouse is bringing into the relationship, which property is to remain excluded property of only one spouse, and whether the increase in value of any excluded property is to be divided on separation. Anticipated inheritances can also be specifically addressed in these types of agreements.
With the right legal advice from a divorce attorney, an effective prenuptial agreement, cohabitation agreement, or postnuptial agreement can be relatively inexpensive and straightforward to prepare. Antenuptial agreements entered after the marriage or cohabitation can effectively deal with marital and separate property, equitable division, etc. The main drawback of this option is that the other spouse may not be willing to enter into the agreement.
A trust can be created to protect your child’s inheritance. You can create a trust during your lifetime or in your Last Will and Testament. When you transfer property or assets into a trust, you get to select the trustee who will manage the trust, you get to select the beneficiary of the trust, and you get to set out instructions for how the income and capital of the trust can be used.
A significant advantage of using a trust to protect a gift or inherited funds is that you get to maintain some degree of control over how the trust funds are used. If you are concerned about whether your child has the financial acumen to manage and protect a gift or inheritance effectively—in addition to having concerns about inheritance and divorce—a trust may be an ideal option.
That being said, setting up and managing a trust can be complex and costly. There’s often concern about choosing the right type of trust and trustee, and there are legal and tax implications that must be considered before deciding if this option is best in your situation. It may very well be worth the investment.
Instead of an outright gift or inheritance, you can provide financial assistance to your child by way of a well-documented loan. For example, you may want to provide money to be used as a down payment for the purchase of real estate such as a condo or house.
A loan agreement can be used to express your intention with respect to the money, and who is responsible for paying back the money loaned. One option is to stipulate in the loan agreement that the amount you provided to them should be treated as a family debt, which means that it must be repaid by both your child and their spouse equally.
Whether you have a simple or complex estate, there are steps you can take to protect your child’s inheritance from divorce. There are many estate planning options that can safeguard an inheritance. For example, as mentioned above, you can establish a trust in your Last Will and Testament so that your child receives the benefit of inherited assets or inherited money but does not actually own the asset or money outright. If the trust is set up properly, the trust will not be subject to equal division on separation or divorce.
Another estate planning strategy relates to loans made to your child during your lifetime. You can bring the balance of any outstanding loan into account in your Will. If you have multiple children, you can provide instructions in your Will that the loan should be treated as part of your child’s inheritance. That ensures equitable distribution among the child you loaned the money to and your other children.
The idea of taking steps to protect an inheritance can be sensitive and may be perceived as a lack of trust in your child’s spouse, potentially straining family relationships. There’s a delicate balance between wanting to protect your child’s inheritance and respecting their autonomy and choices, including their choice of spouse.
A compassionate, caring estate planning lawyer or divorce attorney at our Onyx Law Group can provide you with confidential legal advice customized to suit the needs of you and your loved ones. Contact our law firm today to discuss the options to safeguard your child’s inheritance.
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