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Asset Tracing to Establish the Existence of Separate Property in a Marital Dissolution
Why Asset Tracing?

Under Colorado's Uniform Dissolution of Marriage Act, separate assets are not subject to equitable distribution. Therefore, a spouse who can establish that assets are separate, to the court's satisfaction, gets to keep them. The task at divorce is to show that assets now in existence are the same separate property that existed at the time of marriage or were acquired in exchange for property acquired before the marriage or in exchange for property acquired by gift, bequest, devise, or descent. The "Disposition of Property" Section 14-10-113 of Colorado's Uniform Dissolution of Marriage Act establishes a rebuttable presumption that "all property acquired by either spouse subsequent to the marriage" is marital property. How does one overcome this presumption? The answer is asset tracing.

What is Asset Tracing?

Asset tracing is an accounting process that traces an asset from its separate property beginnings through all of its mutations and demonstrates that the resulting asset in existence at the date of divorce is either separate, marital, or a combination of the two.

Interface of the Accounting and Legal Professions

The practical problems in producing a successful asset tracing accounting, in my experience, come from attorneys not understanding accounting concepts used in asset tracing and accountants not understanding the legal concepts that provided the rules for asset tracing. Too often, attorneys give accountants ten to fifteen minutes of verbal guidance on the legal aspects of asset tracing and send them away to produce an accounting. Usually, unless the accountant is experienced in asset tracing cases or is an accomplished conceptual thinker, the asset tracing accounting produced is seriously deficient. In addition, by the time the attorney usually has a chance to review the accountant's work, it is late in the litigation process, the accountant has spent thousands of dollars in fees, and it would be prohibitively time consuming and expensive to correct any problems with the accounting.

To avoid the above described problems, it is important, at the outset of an asset tracing engagement, for the attorney and accountant to conceptually understand and agree to the asset tracing methodologies to be used by the accountant. It is equally important for the accountant to understand when he or she needs to consult the attorney on legal issues and principles involved in the asset tracing.

Colorado Statute 14-10-113 allows for separate property to be exchanged for replacement separate property. A question often arises when a spouse intends to exchange separate property in a commingled fungible type asset account (that has been properly traced to comply with Colorado Statute 14-10-113) for other replacement separate property. What methodology should be used to determine the marital and separate components of the replacement property? Assumed for example, that a cash account contains $300,000 of which $100,000 is the wife's separate property and $200,000 is marital property. Also assume that the wife writes a check on the account to purchase a vacation home for $100,000 and it is the wife's intent that she exchange her separate property contained in the checking account to purchase the home. What is the compositional mix of separate and marital property in the replacement vacation home? Two possible answers are as follows:

"Pro-rata" Method

Under the pro-rata method, the vacation home would consist of $33,333 of separate property and $66,667 of marital property. Under this method the distribution or withdrawal from an asset containing separate and marital property would always be proportional to the relationship of separate to marital property contained in the asset account at the time of the withdrawal to purchase the exchange property.

Positive attributes of method

This is a mechanical test and is easy to apply.

Negative attributes of method

This method precludes, or at least severely limits a spouse's ability to exchange separate property. In the above example, why should a spouse not be allowed to use $100,000 of separate property in the cash account to acquire $100,000 of replacement separate property? This method, in effect, limits the spouse's freedom to exchange separate property.

"Intent" or "Facts and Circumstances" Method

Under the intent method, the vacation home would consist of $100,000 of separate property and no marital property. Under this method the distribution or withdrawal from an asset containing separate and marital property would be determined by the intent of the party withdrawing the funds. To the extent that enough separate property exists in the asset to purchase exchange separate property, the resulting exchanged property would be classified as separate property.

Positive attributes of method

This method allows a spouse the opportunity to exchange separate property without being forced to include a marital component to the exchanged property. Since it is not a mechanical test, it allows the court the opportunity to examine the spouse's intent along with the surrounding facts and circumstances.

Negative attributes of method

This is a facts and circumstances test and is more difficult to apply than the pro-rata method.

Colorado Statute 14-10-113 does not explicitly endorse either method. I am not aware of any Colorado case law that explicitly endorses either method. Therefore, until there is controlling case law, it is presumed that the court will make its decision based on each individual judge's impression of the legislative intent of Section 14-10-113.

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