Game show winners have frequently complained about California’s “prize tax,” which applies to lottery winnings as well as prizes won in other contests such as game shows. So does the state treat lottery winnings differently from other income? How does the state deal with lottery winnings in a divorce situation? There are several factors that can affect the treatment of lottery winnings in a California divorce, and it will be important to take tax issues into consideration.
California’s Community Property Rules
Under California law, all property “acquired by a married person during the marriage” is considered community property unless it meets a specific exception. Community property belongs equally to both spouses.
So, it is important to understand what the exceptions are and what “during the marriage” means.
When property is not community property equally owned by both spouses, it is considered separate property belonging solely to one spouse. Some property can be considered hybrid, where part of the value belongs to one spouse alone and the remaining value is jointly owned as community property and divided in divorce. Property each partner owned before the marriage is generally that spouse’s separate property. However, if separate property gets mixed together with community property, it can become hybrid property or at least be very hard to trace.
Property acquired during the marriage can also be considered separate property if it is received by “gift, bequest, devise, or descent.” The last three terms refer to property received through inheritance rights. So, if someone in your family won the lottery and gave you part of the winnings or they left you winnings as a bequest in their will, those winnings would be your separate property even if you received them while you were happily married. If you put those winnings in a joint bank account and used them to pay the mortgage on a home you own with your spouse, those winnings could become hybrid or even entirely community property. So if you have separate property and want to keep it separate, you need to take careful steps to maintain the separate nature of the property.
Timing is Everything
Inherited winnings received while you are married may be separate property, but if you or your spouse win assets directly “during the marriage” then those winnings are community property jointly owned by both, even if one spouse bought the lottery ticket without the knowledge of the other. “During the marriage” means after the wedding and before the “date of separation.” So determining the official date of separation becomes crucial in any California divorce because it establishes the date at which community property accumulation ends.
Sometimes the date of separation is obvious, but many times it is not. Living apart is often a key indication, but it must be followed by actions that indicate an intent to end the marriage. For instance, in one case, a man who moved out of the family home to live with his girlfriend but who still came back to have dinner with his wife and kids most nights was not considered to be separated from his wife, so income earned while he lived with his girlfriend was still treated as community property. It was not until he filed for divorce that he was considered to have separated from his wife.
So, lottery winnings acquired before the date of separation are community property while winnings acquired after the date of separation are that spouse’s separate property. It is unclear what would happen if the ticket was purchased before the date of separation but the drawing was held after the date of separation. There is also a case to be made for treating lottery winnings as separate property if they were purchased with funds acquired before marriage (or by gift or inheritance) that had been kept scrupulously apart from marital funds.
Even if lottery winnings do not have to be divided as community property, it is important to be aware that they can impact decisions regarding child support and alimony.
Take Taxes into Consideration When Allocating Lottery Winnings
When couples need to divide lottery winnings during a divorce, they need to be aware of the tax consequences. If the divorce is not yet final before the end of the year, they may want to file a joint tax return to simplify the process of allocating the tax burden. Otherwise, it will be necessary to calculate the likely tax impact on the spouse who holds the winning ticket and divide that liability as well as dividing the winnings.
No Matter How Complicated Divorce Becomes, Holstrom, Block & Parke is Prepared to Protect Your Interests
The challenge of allocating lottery winnings in a California divorce is pretty rare, but it is important to work with a divorce lawyer who is ready to protect you in every complex situation that could arise. With 300+ years of collective experience, the team at Holstrom, Block & Parke APLC understands how to develop the best strategy to safeguard your interests regardless of the issues that surface during your divorce. Contact us today for a confidential consultation to learn how we can help.
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