Creditor Claims Create Traps for Homeowners Using California Transfer-on-Death Deeds
A California Revocable Transfer-On-Death Deed form (TOD Deed) is a special form of deed that allows a California property owner to transfer property at death while retaining complete control over the property during life. The TOD Deed works like a beneficiary designation on a bank account. When the original owner dies, the property passes automatically to the beneficiaries designated on the deed. There is no need to probate the deceased owner’s estate.
Although TOD Deeds are relatively new in California—they were first enacted in 2016—they are already becoming popular. They promise the ability to avoid probate without forfeiting control during the owner’s lifetime. TOD Deeds avoid many of the downsides of Life Estate Deeds and are far less expensive than a living trust. Although there are limitations to TOD Deeds that can be avoided with living trusts, a TOD Deed often provides a “good enough” solution for California homeowners that want to transfer property at death.
TOD Deeds are usually used as part of a larger—but informal—plan to avoid probate. In the typical situation, the California property owner’s real estate is transferred by the TOD Deed. The owner’s other assets are transferred using a small estate affidavit, assuming that the other probate assets are collectively worth less than $150,000. Assets that pass automatically via joint ownership or other forms of beneficiary designation are not counted toward the $150,000 threshold. Taken together, these elements provide a “poor man’s estate plan” that California property owners can use to avoid probate.
California Revocable Transfer-On-Death Deeds and Creditor Claims
California TOD Deeds create potential traps for property owners with creditors. Along with inheriting the property, the beneficiary also inherits personal liability for the deceased owner’s debts. The TOD Deed statute provides that each beneficiary that receives property by TOD Deed is personally liable for the unsecured debts of the transferor. This debt includes unsecured debts, like credit cards, even though they are unrelated to the property.
Thankfully, the beneficiary’s personal liability for debt is capped. The amount of debt that the beneficiary is responsible for is limited to the sum of:
- The fair market value of the property received by the beneficiary, measured at the time of the deceased owner’s death and excluding any mortgage or other liens against the property;
- The net income (rent) that the beneficiary receives from the property; and
- If the property has been sold, interest on the fair market value of the property from the date of the sale.
If a creditor decides to be aggressive about collecting the debt, the creditor can bring a probate proceeding in California within one year of the deceased property owner’s death. The probate proceeding allows creditors to assert their own claims against the beneficiary.
Once the estate is opened, the personal representative appointed by the court has three years to seek restitution from the TOD Deed beneficiary. If the creditor’s claim is successful, the beneficiary must return the property and any net income (like rent) that the beneficiary has collected since receiving the property. This could be tricky if the beneficiary has already borrowed money against the property. That would require the beneficiary to return the property and sufficient funds to pay off the mortgage on the property.
If the beneficiary has already sold the property, the beneficiary must return an amount equal to the fair market value of the property. Fair market value is measured at the time that the beneficiary received the property, not when it is sold. If the beneficiary sold the property for a lower value—for example, if the property depreciated between the time that the beneficiary received the property and the date that the beneficiary sold the property)—then the beneficiary must return the higher amount. The beneficiary must also pay statutory interest at a 10 percent annual rate. The interest begins on the date of the transfer and continues to run until the date of repayment. A decrease in market value or ongoing interest payments could cause the beneficiary to pay out of pocket, receiving no value in return.
Options for Beneficiaries Who Receive Property by TOD Deed
The risks associated with creditor claims may not be a significant concern for many beneficiaries. Because the value of the property will usually exceed the amount of unsecured debts, most beneficiaries will still come out ahead by accepting the property and paying off the debt. If the beneficiary cannot pay off the debt, the beneficiary may sell or mortgage the property to raise money.
Selling or mortgaging the property should be done with caution and the advice of an attorney. Until the property is sold, the beneficiary is only liable to the extent of the value of the property that the beneficiary receives through the TOD Deed and any rent received from the property. Once the property is sold, though, the beneficiary becomes liable for interest on the sale proceeds and for any decrease in value after the beneficiary received the property. If there is a question about creditor claims, the prudent beneficiary will not sell or mortgage the property until all creditor issues are resolved.
Sometimes the debts may equal or exceed the value of the property. This could be the case, for example, if the deceased owner has high medical or credit card bills. In this situation, the value that the beneficiary receives from the property would be offset by the debt against the property. It may not be in the beneficiary’s best interest to accept the property. To avoid the hassle of having to deal with the property only to pay creditors, the beneficiary may file a disclaimer in the land records within nine months of the deceased owner’s death. A disclaimer is a refusal to accept the property. Once the disclaimer is filed, the beneficiary is treated as though he or she died before the deceased property owner. This protects the beneficiary from having to deal with the property and any related creditor issues.