Dividing a Rental Property in a San Antonio Divorce

This page is for the landlord. If you and your spouse own a rental house, a duplex or a small multifamily property with tenants in it, a divorce adds questions that do not come up with the family home: what happens to the lease, who collects and spends the rent, who is responsible for the mortgage and the repairs, how the property is valued, and what the tax bill looks like if it is kept, transferred or sold. The answers depend on when and how the property was acquired and on what the court has ordered while the case is pending. This page covers each of them, including a federal tax rule that catches owners who bought through a 1031 exchange.

As a San Antonio property division lawyer practice, we help owners sort out the rental before it becomes the argument that holds up the whole settlement. It is one part of real estate and marital home division, and the first consultation is free. If you are asking about the home where your family lives, see the guides below.

Your Tenant’s Lease Doesn’t Care About Your Divorce

A lease is a contract between the landlord and the tenant. A divorce is a separate dispute between the spouses. When one spouse files for divorce, the tenant’s rights and obligations do not change. The tenant still owes the rent, and the landlord still owes the repairs and the other duties the lease and the Property Code impose. The tenant does not need to renegotiate anything, and neither spouse should treat the filing as a reason to change the lease terms.

The property still needs a landlord while the case is pending: rent must be collected, repairs handled and the mortgage, taxes and insurance paid.

Security Deposits When Ownership Changes

One lease issue does turn on who owns the property. Under Property Code Section 92.105, a new owner is liable for the return of security deposits from the date the new owner acquires title, and must give the tenant a signed statement that acknowledges the acquisition, accepts responsibility for the deposit and states its exact amount. The person who no longer owns an interest remains liable for a deposit received while the person was an owner until the new owner receives the deposit or assumes the liability, unless a written contract says otherwise. If one spouse will take over the property in the divorce, the decree or the settlement should say who holds the deposits and who sends the tenant that statement.

Is the Rental Community or Separate Property?

Before anyone decides who keeps the rental, the court has to know what it is. Property a spouse owned before the marriage, or received by gift or inheritance, is separate property. Property acquired during the marriage is presumed to be community property, and a spouse who claims separate property must prove it by clear and convincing evidence (Family Code Sections 3.001, 3.002 and 3.003). Our guide to the characterization of assets and debts explains how that proof works.

A rental raises problems that a family home does not.

• The rent can be community even when the house is separate. As we understand Texas law, income earned during the marriage from a spouse’s separate property is generally community property, unless a premarital or partition agreement says otherwise. A rental you owned before the marriage can still produce community income.
• Paying down a separate loan with community money creates a claim. If the property was bought before the marriage and mortgage payments, taxes or improvements were paid during the marriage with community funds, the property usually stays separate and the community may have a reimbursement claim (Family Code Section 3.402). Our guide on reimbursement claims covers how those claims are calculated.
• Title decides more than who paid. A property acquired before the marriage generally stays separate, and one acquired afterward is presumed community unless you can trace the purchase to separate funds. A property bought with a mix of funds, or one that changed hands during the marriage, takes careful tracing.
• An LLC changes what is being divided. If a company holds title, the divisible property is the membership interest, not the building. Our guide to dividing an expensive marital home explains how trusts and LLCs complicate the analysis.

Who Manages the Property, and Who Gets the Rent, While the Divorce Is Pending

Two sets of rules apply from the day the petition is filed. The Civil District Courts of Bexar County use a standing order that, as we read it, takes effect on filing and binds both spouses. It restricts selling, mortgaging and encumbering property, incurring debt other than legal expenses, withdrawing from accounts and spending cash, except as the order specifically authorizes. Among the things it does authorize are acts reasonable and necessary to a party’s usual business or occupation, reasonable attorney’s fees and reasonable living expenses. A temporary restraining order under Family Code Section 6.501 follows the same pattern.

For a landlord, that means ordinary operation of the rental, collecting rent and paying the mortgage, taxes, insurance and repairs, may fit within the authorized acts, but we would not rely on that without an agreement. Some things clearly need the other spouse’s agreement or the court’s permission: selling the property, refinancing it, borrowing against it and taking the rent for personal use in a way that looks like withdrawing community funds.

• Agree in writing. If you can communicate, sign a short agreement that says who handles tenant calls and repairs, which account receives the rent, which account pays the mortgage and expenses, and how the surplus is held. A signed writing is much more reliable than a verbal understanding. An agreement about a pending suit is enforced only if it is in writing, signed and filed, or made in open court (Texas Rule of Civil Procedure 11).
• Keep records. Keep a ledger of rent received and every expense paid, and keep the receipts. Each spouse may later have to account for what the property produced.
• Do not make large changes alone. A long lease, an option to purchase, a rent increase far above the market or a refinance can change what the property is worth. Talk first. Our guide on who pays the mortgage covers the loan payments while the case is open.
• Consider a neutral manager. If the spouses cannot cooperate, a professional property management company can handle the tenants and give both sides an accounting of income and expenses.

When Neither of Those Works: Court-Appointed Receivership

Family Code Section 6.502 lets the court, after notice and a hearing, appoint a receiver for the preservation and protection of the property of the parties. A receiver is a neutral person who manages the property under the court’s order. The statute requires the receiver to give notice of the appointment to each lienholder and requires the court to issue written findings of fact and conclusions of law within seven days of the appointment (Section 6.502(b) and (c)).

A receivership is a significant step. It adds a person to be paid, and the cost usually falls on the property or the estate. Courts tend to reserve it for a real risk, such as withheld rent or a neglected property. A receiver’s authority is limited to what the court orders, and an order that gives more authority than the facts support can be challenged. It is an option for when a rental becomes a flashpoint, not a first step.

How a Rental Property Is Valued and Divided

A court dividing property aims for a division that is just and right (Family Code Section 7.001). For a rental, that usually leads to one of four outcomes.

• Sell it and divide the proceeds. This is the simplest path for many couples. It triggers the tax issues below, so price the after-tax result before agreeing.
• One spouse keeps it and the other receives other assets. The spouse who keeps the rental takes its loan and its tax history, and the other receives cash, retirement accounts or other property of equal value.
• One spouse keeps it and buys out the other over time. This needs a note, security and clear default terms, and it works only if the spouses can accept being tied together for years.
• Keep owning it together. This is rare and needs a detailed written agreement.

Valuation matters more than it does for a family home. An income property is usually valued with an appraisal that looks at comparable sales and at the income the property produces: rents, vacancy, expenses and net operating income. The appraiser will want the leases, the rent roll and the expense records. Condition, deferred maintenance and the length of the leases all affect the number. If a business entity runs the rentals, our guide to business valuation methods explains the approaches a court may see.

Look at the loan, too. Federal law limits a lender’s ability to call a residential loan due when a property of up to four units is transferred to a spouse or under a divorce decree (12 U.S.C. Section 1701j-3(d)), but it does not release the borrower, and a commercial loan may not fit. Our guide to a mortgage in one spouse’s name explains the options.

The Tax Cost of Keeping, Transferring or Selling a Rental

Two rentals with the same equity can be worth different amounts after tax. The court may consider the tax consequences of a property division (Family Code Section 7.008), and you should ask a CPA to run the numbers before you agree to a split.

• Depreciation comes back at sale. Depreciation lowers a rental’s tax basis. When the property is sold, the gain that comes from prior depreciation (unrecaptured Section 1250 gain) is generally taxed at a rate that can reach 25 percent, and the rest of the gain at capital gains rates.
• Net investment income tax can apply. The 3.8 percent tax applies to net investment income when modified adjusted gross income is above $200,000 for a single filer, $250,000 for joint filers and $125,000 for married persons filing separately. The IRS lists rental income and gain from the sale of investment real estate among the items that can be net investment income. See the IRS questions and answers on the tax.
• A transfer to a spouse is not taxed, but the tax history moves with it. A transfer of property to a spouse, or to a former spouse if it is incident to the divorce, produces no gain or loss, and the recipient takes the transferor’s adjusted basis (26 U.S.C. Section 1041). The spouse who receives the rental also receives its built-in gain. A transfer is incident to the divorce if it occurs within one year after the marriage ends or is related to the end of the marriage.
• The home-sale exclusion usually does not apply. The exclusion for a principal residence is for a home you owned and used for at least two of the last five years (26 U.S.C. Section 121). A pure rental does not qualify. A house that was your home for part of the time may qualify in part, which is a question for a tax professional.

The 1031 Exchange Trap Few People See Coming

A 1031 exchange lets an owner defer the capital gains tax on the sale of real property held for business or investment by buying replacement real property. Since 2018 the exchange rule applies only to real property (Instructions for IRS Form 8824). If your rental was acquired in an exchange, or if you are thinking about one, the divorce can interfere in two ways.

If the Property Is Still Within Its Two-Year Holding Period

The statute requires that the replacement property be held for productive use in a trade or business or for investment. It does not say how long. For a house or other dwelling unit, the IRS has a safe harbor in Revenue Procedure 2008-16: the taxpayer owns the replacement property for at least 24 months after the exchange, rents it at fair rental for at least 14 days in each of the two 12-month periods, and limits personal use in each period to the greater of 14 days or 10 percent of the days rented. The safe harbor is optional. Missing it does not mean the exchange fails, but it can invite scrutiny.

That is why two years matters in a divorce. If the property is awarded to the spouse who wants to live in it before then, or if either spouse starts using it as a home, the original investment purpose can be questioned. We do not know of a rule that says a divorce-driven change protects the exchange, and the answer depends on the facts. Raise it with a tax professional before you finalize a settlement.

If You’re Planning to Sell the Property As Part of Your Divorce

The exchange deadlines do not pause for a divorce. The replacement property must be identified within 45 days and received within 180 days (Instructions for IRS Form 8824). The taxpayer also cannot be in actual or constructive receipt of the sale proceeds, which is why exchanges use a qualified intermediary, and cash or other property received in the exchange is taxed to the extent of the gain.

The risk is the divorce paperwork. As we understand it, a settlement that distributes sale proceeds to a spouse, a decree that awards the property, or an agreement that transfers title at the wrong time can cost the owners the exchange, and once the proceeds are paid out the exchange may not be recoverable. Bring the exchange to your attorney before the settlement is drafted, with the dates of the closing, the identification deadline and the intermediary’s name.

What This Means for Your San Antonio Divorce

A rental means a continuing landlord and tenant relationship, a management and income question during the case, and tax rules that can cost money if the sequence is wrong. Take these steps early.

• Tell your lawyer about every rental, including any held by an LLC or a trust, and bring the leases and the loan documents.
• Get the standing order that came with the petition and read the property section.
• Agree in writing on who manages the property and where the rent goes, or ask the court for a temporary order.
• Keep a clean ledger of rent and expenses from the day the petition is filed.
• If a 1031 exchange is open or recent, tell your lawyer and your CPA before any settlement is drafted.

More About the Marital Home in a San Antonio Divorce

A rental raises some of the same questions as the family home. These guides cover the rest.

• Owelty liens: buying out house equity and why the timing of the lien matters.
• Stopping a house sale: what a spouse can do when the other wants to sell.
• Home under contract: divorcing when a sale has already begun.
• What happens to the house: a general overview of the marital home in a Texas divorce.
• What happens to debt: how the mortgage and other debts are divided.
• Whether assets are split 50-50: how a court divides what is community property.
• The Texas Family Code: how the code is organized and where these rules sit.

How We Approach a Rental Property in a Divorce

Barton & Associates has tried Texas cases since 2001, and the family law team includes Duane Graeff, our managing attorney with more than 26 years in Texas state and federal courts, and trial attorney Desirée Flye. We represent the spouse who wants to keep the rental, the spouse who wants to be paid for it and the couple who agree to sell and want the tax and exchange questions handled before the closing.

We start with what each property is: when and how it was acquired, whose name and which entity is on the title, what the loan says, what the leases say and what the rents have been. Then we decide whether the right next step is a written management agreement, a request to the court, a valuation or a call to your CPA.

Get a Real Answer for Your Specific Situation

Rental property questions have deadlines of their own, so call early. Our San Antonio office is at 115 Camaron Street, San Antonio, Texas 78205. You can get directions to our office before your visit. For the first meeting, bring what you can of the following, and call even if you cannot find everything.

• The deed, the closing statement and the date and manner of acquisition for each rental
• Current leases, the rent roll and a ledger of the security deposits held
• Mortgage statements and the loan documents
• Income and expense records, including the last two years of tax returns with the rental schedule and any depreciation schedule
• Any appraisal, broker opinion or insurance valuation
• Entity documents if an LLC or a trust holds the property
• Paperwork from any 1031 exchange: the closing statements, the intermediary agreement and the identification notice
• The cause number, the petition and the standing order or any restraining order

Frequently Asked Questions

Does my divorce affect my tenant’s lease?

No. The lease is a separate contract between the landlord and the tenant. The divorce does not change it, cancel it or affect the tenant’s rights under it. What can change is who the landlord is. If one spouse takes title in the divorce, Property Code Section 92.105 makes the new owner liable for the security deposit from the date title is acquired and requires a signed statement to the tenant.

My spouse and I can’t agree on who manages our rental during the divorce. What are our options?

Agree in writing on a temporary arrangement, hire a professional property management company as a neutral manager, or, if the dispute is serious, ask the court to appoint a receiver under Family Code Section 6.502. Until something is in place, keep a ledger of the rent and expenses, and do not sell, borrow against or refinance the property without the court’s permission or a filed agreement.

What is a receiver, and how do I get one appointed?

A receiver is a neutral person the court can appoint, after notice and a hearing, to preserve and protect property of the parties during the case (Family Code Section 6.502). The receiver must notify each lienholder, and the court must issue written findings within seven days of the appointment. It is usually reserved for a real risk of mismanagement or loss of value, and an attorney can tell you whether your facts fit.

We used a 1031 exchange to buy this rental property. Does that affect our divorce?

It can. If the property is within its first two years, a change in ownership or use can raise questions about the investment purpose, and the IRS safe harbor for dwelling units looks at 24 months of ownership and fair rental use. If you plan to sell in the divorce and do another exchange, the 45-day and 180-day deadlines keep running. Raise both with your attorney and a tax professional before a settlement is signed.

Can we just sell the rental and split the proceeds?

Yes, and for many couples it is the simplest path. A sale triggers tax: gain based on the sale price and the property’s adjusted basis, with the part that comes from depreciation taxed at a rate that can reach 25 percent. Compare the after-tax result with the other options before you agree, especially if the property has appreciated or has been depreciated for years.

Who owns the rent money while the divorce is pending?

Rent earned during the marriage is generally community property, even if the house is one spouse’s separate property. After the petition is filed, the standing order and a restraining order limit withdrawals and spending, with exceptions for a party’s usual business, reasonable living expenses and attorney’s fees. Deposit the rent in an agreed account, pay the property’s expenses from it and keep records.

Is a rental I owned before the marriage community property?

The property itself is generally your separate property if you owned it before the marriage and can prove it (Family Code Sections 3.001 and 3.003). The community may have a reimbursement claim if community funds paid the mortgage, taxes or improvements (Section 3.402), and the rent earned during the marriage is generally community income. Keep the deed, closing statement and payment records.

What happens to the security deposit if one spouse keeps the rental?

The spouse who takes title becomes the new owner and is liable for the deposits from that date, and must give each tenant a signed statement acknowledging the deposit amount (Property Code Section 92.105). The former owner stays liable for deposits received during the ownership until the new owner receives them or assumes the liability, unless a written contract says otherwise. Put the deposits in the decree or settlement.

How is a rental property valued in a divorce?

Usually with an appraisal that considers comparable sales and the income the property produces, including rents, vacancy and expenses. The appraiser will need the leases, the rent roll and the expense records. Condition, deferred maintenance and the length of the leases affect the number. The parties can also agree on a value.

Is there a tax cost if my spouse gets the rental in the divorce?

A transfer to a spouse or former spouse that is incident to the divorce produces no gain or loss when made, and the recipient takes the transferor’s adjusted basis (26 U.S.C. Section 1041). The recipient therefore takes on the built-in gain and the effect of past depreciation, and pays the tax on a later sale. Have a CPA compare keeping the rental with receiving other assets.

Can one spouse raise the rent, evict a tenant or refinance while the divorce is pending?

Refinancing or borrowing against the property is restricted unless the court or a filed agreement authorizes it. A rent increase or a normal eviction may fall within the ordinary operation of the rental, but a long lease, an option to purchase or a big change in terms can affect value and invite a dispute. Agree in writing before making a change that matters.

Talk to a San Antonio Attorney About Your Rental Property

A rental in a divorce ties together a lease, a loan, an income stream and a tax history, and the decisions made in the first weeks are hard to undo. Speak with a property division lawyer in San Antonio at Barton & Associates about your property, your documents and your goals before you sell, transfer or sign anything.

Call our San Antonio office at 210-500-0000 or complete the online Free Consultation form to schedule a confidential meeting with a family law attorney in San Antonio. The office is at 115 Camaron Street, San Antonio, Texas 78205.

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Barton & Associates, Attorneys at Law
115 Camaron St, San Antonio, TX 78205
Office: 210-500-0000

Division: Family Law San Antonio
Practice Area: Property & Debt Division
Focus Area: Real Estate & Marital Home Division