Abstract: Borrowing money during marriage can create community property. The only way to avoid this is through a well-drafted premarital agreement. This article discusses how to address the intent of the lender rule in a prenup.
by Peter M. Walzer
Joe Fields was a successful Texas business man when he married Ann Southern, of Plano, Texas in 1990. Joe was the owner of a line of convenience stores. At the time he married Ann, he owned 50 stores. Ann and Joe settled in Plano.
Being a prudent businessman, Joe entered into a premarital agreement with Ann that made it clear that his business was his separate property. After about eight years of marriage, Ann spent more and more time at their home in Malibu. Like so many who come here, Ann had dreams of becoming an actress.
In time, because they had divergent interests, their marriage deteriorated and Ann filed a petition for dissolution of their marriage, in the Los Angeles Superior Court. She requested spousal support as well as the division of their community property.
During the marriage, Joe had expanded his business from 50 stores to 500 stores. Now there is a Joe’s in almost every mall in the United States. He was confident that the premarital agreement would protect him.
Unfortunately, Joe’s premarital agreement did not have an anti-Grinius clause, (Marriage of Grinius (1985) 166 CA 3d 1179) codified in California Family Code 770). Joe’s Texas lawyers prepared the premarital agreement, but they had never heard of the Grinius case or the intent of the Lender Rule which holds if the lender relies on community property, the proceeds of the loan is community property, and anything purchased with those funds, at least to the extent of the contribution, becomes community property.
During the marriage, Joe financed the growth of his business by entering into a series of revolving loans. In a deposition, under cross examination, Joe’s bankers testified that they relied on the general credit of the community when funding the loans. The lending institution was not going to be constrained by a premarital agreement or any other arrangement between the parties as to what they could attach if the business collapsed.
After 10 years of financing and refinancing, Joe had inadvertently commingled his community property with his separate property. Because of the difficulties in untangling the web, he was forced into a position to settle for a lot more than he should have, especially since he had a premarital agreement that designated his business as separate property.
When drafting a premarital agreement, anticipate that the agreement may be litigated in other states. It is somewhat predictable where the parties might end up if the parties have vacation homes or other contacts in those states. To protect your client advise him to retain counsel in those jurisdictions to help you draft the agreement. In other cases, the best you can do is warn the client that the agreement may not be enforceable in other states or countries. In our mobile society it is almost certain that a client will move and they may move to a jurisdiction where the agreement may not be enforceable.
In California, premarital agreement law has changed significantly in the last two years. In 2000, we had two cases which changed our premarital agreement laws. The Barry Bonds divorce that went to the California Supreme Court Marriage of Bonds (2000) 24 Cal 4th) and Marriage of Pendleton and Fireman (2000) 24 Cal 4th 39, which permitted the limitation of spousal support in premarital agreements. Then in 2002, California passed a statute that attempted to deal with those Supreme Court cases by limiting when premarital agreements can be entered into. The new law provides that the agreement must be presented to the other party at least seven days before it is signed. It also provides that the unconscionability of the spousal support limitation will be determined at the time of trial, and that spousal support limitations are unenforceable unless the parties are represented by counsel. There are rules for agreements where one or both parties are not represented by counsel, even if there is no limitation of support. It is not clear that if a premarital agreement is entered into in another state and does not comply with California rules, whether we will enforce that agreement. Your agreement should state that the agreement will be enforced according to the law of your state. But even then, the matter may be handled by a Judge in a courthouse in the wastelands of California who is asked to apply Pennsylvania law to a marriage when the couple have lived in California for 10 years. This could lead to an unpredictable result.
If you want your agreement to be enforceable in more than one state, you may have to retain attorneys in another state to protect yourself.