Disadvantages of Joint Tenancy

When a person passes away, her assets are divided into two categories: probate assets and non-probate assets. Probate is the process through which a court or a government officer determines how to distribute a decedent's property based on the provisions of her last will.  Non-probate assets are those that go directly to beneficiaries without going through probate.

One common type of non-probate assets are property that is held in joint tenancy.  Many couples have joint bank accounts and jointly-held primary residence.  No doubt joint accounts are convenient and simple to maintain.  However, there are also disadvantages to hold property in joint tenancy.  Below are some shortcomings of joint tenancy that one should consider before using it:

Loss of Control

First of all, once property is transferred to another in joint tenancy, one cannot change her mind.  The new joint owner or owners will have equal rights over the property as the original owner. After the transfer, the original owner must get permission from the other joint tenants before selling the property or taking out a mortgage on the property.  However, the new tenants may now transfer his or her share of the property to a third party without the original owner's consent.  If so, the original owner is forced to co-own the property with others in "tenancy-in-common".  If that happens, features such as rights of  survivorship will be gone. 

Subject to Creditors and Debts

Secondly, creditors can go after the joint property if one of the joint account owner is in debt.  For instance, if a joint account holder owes the U.S. government taxes, the IRS can put a lien on the joint property.  Similarly, if a legal judgment has been entered against one of the joint owner (for example, after a bad car accident), the joint property is subject to attachment by the legal creditor in order to satisfy the judgment. 

Family Member May be Disinherited

Sometimes joint tenancy may also cut off one's intended beneficiaries such as children and spouse. For example, a person may want to give the money in his savings account to his children.  In fact, the person specifically writes it down in his will.  However, since the savings account is held jointly with his wife, when he dies the money held in the account automatically will go to his surviving spouse rather than his children.

The issue becomes more important when second or third marriages are involved. In the above example, if the person has children from his first marriage, and before he dies, he asked his wife to use the money from their jointly account to care for these children.  However, after he dies, there is no guarantee that the spouse will follow his instructions after taking control of the money.

Unused Estate Tax Excemptions

Both federal and state laws allow an amount of exclusion (or exemption) against estate taxes for each person at his or her death. For instance, in 2017 the federal estate and gift tax exemption is $5.49 million.  State exemption amounts are usually smaller.  However, if a married couple hold their property in joint tenancy, they will not be able to take advantage of their federal and state estate tax exemptions. When the first spouse dies, any "unused" exemption amount will just be wasted.  

Unintended Gift Tax Consequences
Changing ones property from solo ownership to joint tenancy may result in unintended gift taxes. This is because when a person "adds the name" of another person such as his child as joint tenant on his property, he is in effect making a gift of one-half the value of the property.  Hence, a gift tax could have been resulted in this situation.  There is an exception. Transfers to ones spouse who is a U.S. citizen is not subject to gift taxes. 

Disabled Joint Tenants

When a joint owner of a joint tenancy becomes incapacitated to the extend that he can no longer take care of his financial affairs, the probate court could step in and set up a guardianship or conservatorship to manage the assets.  These proceedings usually take a while to complete and the underlying assets would be tied up for a long time.  

Till Death Do We Part With Our Property, But How?

There are only two things that are certain in life, death and taxes, as the American saying goes. Even at death, one still cannot escape Uncle Sam's taxing power.  Advance planning is important not only for tax purposes but also for an efficient distribution of your assets.   Before we can come up with a plan, we need to first understand how property passes at death.

Broadly speaking, when a person dies, her assets are divided into three categories.  First, assets can be passed down through contractual arrangement to a predesignated beneficiary. Retirement accounts such as 401(k), 403(b), IRA, SEP, KEOGH, etc., belong to this category.  Other assets such as life insurance contracts, annuity contracts, transfer-on-death (TOD) accounts, etc., also have named beneficiaries.  These assets will pass down according to the beneficiary designation without regards to the provisions of our wills unless we specifically name our estate as the beneficiary.

The second category of assets are those that are held in joint tenancy with rights of survivorship (JTWROS).  Like the named beneficiary above, the surviving joint tenant will take property automatically by "operation of law."  For examples, many couples hold their bank accounts as joint tenants with rights of survivorship. Again, these assets are not controlled by our wills.

The last category of assets include everything that is held in our individual names, regardless of what they are or where they are located. Assets held as community property and tenants in common are also in this category.  The significance of this category of these assets is that we can control how and to whom they are distributed.  The legal instrument that we use to distribute these assets is our last will and testament, or our will.  It is important to note that the contracts and JTWROS above take effect first before the provisions of our will are executed. Although the first two groups of assets are not probated, some of them (e.g., retirement accounts) are still considered part of our estate for tax purposes.

It may seem easier to place assets in the first two categories, but your will is the legal tool that can achieve efficiency and tax savings.  For instances, many couples employ tools such as credit shelter trusts and marital trusts in their wills to maximize their tax savings.  In addition to a will, a durable power of attorney and a combined health care power of attorney/living will are also critical legal documents for estate planning and other legal purposes.  A durable power of attorney allows you to designate a legal representative to take care of your financial affairs if you become physically or mentally incapable.  Similarly, a health care power of attorney and a living will will allow you to make health care decisions in advance and also appoint another person to make such decisions for you when you become disabled or sick.