All About Prenuptial Agreements
A prenuptial or antenuptial agreement is a contract between spouses that is entered into before they become married which is designed to determine the rights and obligations of the parties as to any and all real and/or personal property that is either in existence or may be acquired in the future. Contractual provisions typically address financial rights and obligations, spousal support, custody and parenting responsibilities with respect to any children of the marriage, and/or other topics. Any of these provisions may be included, except those which affect a child’s legal rights of support, so long as they are not violative of public policy.
Such agreements are generally entered into in order to clarify issues such as, and to limit and control, an already existing material property interest of one or both parties to the marriage, a prospective gift , or a potential inheritance. Another purpose for such agreements may be to limit or control any spousal support obligation one may have vis-a-vis the other spouse in the event of divorce. Some couples also use such agreements to predetermine their rights with respect to children, or their obligations with regard to their children in the event of divorce (although under the law, such provisions cannot be determinative of a child’s legal rights of support).
Under New Jersey Law, a prenuptial agreement is enforceable, provided that it was entered into voluntarily, that it is conscionable, and that it comports with certain other standards. What is and is not conscionable in the context of such agreements and the extent to which the rights and obligations of the parties may be controlled is determined by the courts on a case by case basis.
Future Earnings and Prenups: What Could You Lose?
References to "future earnings" in a prenup will generally be tied to a factor like career or professional advancement. In the context of a long-term marriage, it is reasonable to expect that salary or potential salary may change over the years. This could be due to promotion, career change, early retirement, or any number of other reasons. The point of mentioning future earnings in a prenup is usually to address the idea of living standards. Even with a raised standard of living, a divorce always carries the potential for economic uncertainty.
When two people separate, the assets require valuation and assessment of an equitable distribution, but the process of isolating separate from marital assets isn’t always the central reason for a prenup. For certain individuals, greater concern about loss of future earnings than about division of current earnings may be the basis for a prenup. Once the contract is signed, the ability to make plans to secure one’s financial future from divorce might be strengthened by the prenuptial agreement.
The Legal Basis for Safeguarding Future Income
Many may not realize that financial matters are not limited to assets and liabilities at the time a couple enters into a marriage. A prenuptial agreement exists to protect both parties at the time of divorce from postmarital periods of time. Future earnings and income should be anticipated and included in a prenuptial agreement. It is common when discussing what individuals bring to the table at the time of the marriage to discuss assets, liabilities, income, expenses, and general financial stability. For many millennial members of our society, their experience in the workforce is just beginning and couples may not be yet hitched with investments. However, protection can still be offered for future earnings.
Manhattan Supreme Court Justice Matthew Cooper refused to invalidate an earnings adjustment formula in a prenuptial agreement that would permit employment-based bonuses to be considered as income for purposes of equitable distribution in the event the parties divorce. The formula included the couple’s combined base salaries for the prior 12-month period in addition to a percentage of their bonuses. The Court held that it would be against public policy to exclude or limit employment-based bonuses from equitable distribution – four-fifths of which offset costs incurred by the employed spouse – since those bonuses have an effect on the parties’ lifestyle. Further, the Court held that it is not against public policy to factor in a portion of future pension income and investment income which was established without the future knowledge of the marriage, and which would also be offset by the employed spouse’s expenses. On the contrary, the Court also would not allow the parties’ current combined mortgages or expenses on a second home to be considered in the event of a divorce.
How to Draw Up a Prenup: Considering Your Future Earnings
Prenup Drafting: What To Know About Your Future Earnings
One of the hurdles that must be overcome in drafting a prenuptial agreement, especially where one party will have some form of ongoing income – either from a salary, investments, or business interests – is how future income will be handled. In circumstances where one party is at risk of having to provide ongoing support or alimony payments to their spouse, the other spouse may be disinclined to consent to a prenup that only secures their partner’s earnings, but not their own. Having a general understanding of how future earnings can be protected or set aside (whether or not the union eventually dissolves) is perhaps the most important element of this aspect of the prenuptial drafting process.
The first step in overcoming this obstacle, and protecting both parties from the risk of certain key components of their financial future being taken away in the event of a divorce, is to identify all the financial areas where future earnings are being generated. As many individuals know, especially freelancers and self-employed people, it is often challenging to estimate future earnings, as there are several factors that can deeply impact one’s income. Once these sources of future income have been identified, the next step is to implement a formal process for how these earnings will be set aside (and thereby exempt from being subject to division in the event of a divorce).
For example, let’s say that one party owns a business and the other works for the business in a supervisory capacity. When a divorce occurs, the question of whether the business qualifies as marital property becomes an important consideration. If the business owner is permitted to sell his or her business and keep all of the assets and profits, then clearly that person has an advantage under the prenup. Conversely, the other spouse who supervised the business may be entitled to half of the profits, which could be significant (depending on how the inclusions and exclusions under the prenup are formed). Even if the business fails to grow, the capacity for income to be shared still exists. This is why parties should always consider ways in which future income varies, and how that income could be safeguarded from distribution.
Because the goal of a prenuptial agreement is to clearly delineate what property each party has a claim to, the prenup should be used to outline just how income from certain sources will be considered on a promissory note for how that income will be managed. In addition, if one party is going to be engaged in business, the prenup can provide the option for that income to be placed into a trust or foreign account that cannot be touched by the other party in the event of a divorce.
There are several points that must be addressed for a comprehensive understanding and plan to be crafted for the eventual safeguard of future earnings. For this reason, it is essential to enlist the services of a skilled Maryland attorney experienced in drafting prenuptial agreements to ensure your financial safety in the future.
Examples of Issues with Prenups and Future Earnings
While the success of prenuptial agreements or "prenups" in preserving the wealth of current marriages from future marriages may be well known, not everyone may be aware of how they can also be used to shield future earnings from wealth amassed during marriage from post-marital division. In this newsletter, we will discuss three hypothetical situations to illustrate how a pre-nup can protect future income from future wealth division concerns.
Scenario A
Wife is a nurse who works for a state hospital. She works overtime and spends her spare time watching television and on her phone. Husband is a graphics designer who works for an art magazine. He is extremely accomplished in his career and is frequently of offered new job opportunities which he routinely declines because of his relationship with Wife.
One day, Husband goes in for a job interview with what turns out to be a highly profitable advertising firm and is offered a position as a Senior Vice President of Marketing. The compensation for his position with the magazine is somewhat high but it is nowhere near what the advertising firm is prepared to offer. Knowing that she benefits from the increased earnings of her husband, Wife encourages him to pursue the new position. If the relationship were to end after six months of continued high earnings, Wife would be entitled to 50% of the increased earnings for those six months. This could to a generous amount several thousand dollars. Here, a prenup protects today’s earnings against tomorrow’s potential losses.
Scenario B
Wife is an accountant and has a comfortable salary and career. She spent her college years saving money for a down payment on her future marital home and hopes to move with her spouse to the suburbs after starting a family. Husband is also an accountant and brings the same salary to the union. At the time of their marriage, he is eligible to receive a partnership in a thriving and growing management firm. He believes that he will become a Managing Partner in the near future, but realizes that Wife may not understand what is at stake in his career . In this case, the couple executes a pre-nup where they declare that each shall retain their earnings as their sole and separate property and that upon divorce or separation, Wife shall not be entitled to any portion of the partnership gained by Husband.
Scenario C
Husband is a firefighter. He works a rotating schedule and has a second job selling insurance policies. Over the last few years, he has been considering leaving the department to enter paramedic school. He has researched the various schools and colleges and believes that upon completing the program, he is a shoo-in for a position as a Director of Emergency Services for a local hospital. This position pays significantly more than his current positions and is right up his alley based upon his personality and interests.
Although Wife is aware of this desire, Husband declines to move forward with his plans citing several factors to include; fear of starting over, sapping funds from the family, and the impact on their children. A former Prime Minister of Canada known as Wilfred Laurier, once said: "Some of the best mind’s are in the room when a marriage ends." The "room" in this case being the romantic relationship itself. A rift develops between the two that causes a complete breakdown in the relationship. Despite Husband’s future career path being described to be of great benefit, Wife files for divorce. Although quite young, Wife is able to justify maintaining a decent lifestyle without having to concern herself with his career path. And, she will collect half of his increased earnings for the foreseeable future.
An ounce of prevention is worth a pound of cure. Premarital agreements can provide a safety net for both parties in the event of a divorce. There is nothing sexy about talking about what will happen in the event of a breakup before you are ever married, but the benefits can be immeasurable if you are able to maintain a bond with your spouse afterwards.
Pitfalls and Restrictions
While a prenuptial agreement can provide a degree of security for a couple’s financial future, there are common challenges and limitations in trying to protect future earnings. First and foremost, enforceability can be a significant hurdle. Courts may not enforce agreements that they find to be unconscionable—that are overly one-sided to the point where they are deemed unjust. For example, if you and your spouse agree that your future business earnings will be your separate property but that your spouse will receive 50% of any increase in the future value of your business, the court may find that provision unconscionable if your spouse has little prospect of future income while you, as a physician, for example, earn a high salary and have significant potential for increasing wealth. Additionally, state laws vary on the level of generality used when determining unconscionability. Some states, like Texas, evaluate specific provisions in an agreement on their own, regardless of the context, while others, like California, consider the agreement as a whole. Thus, whether a particular provision is enforceable will depend on the particular characteristics of each couple’s situation, including their income and assets, the overall agreement, the discovery process during which the agreement was entered, the state law where the agreement is executed, and the state where the case is filed if the agreement is challenged during the divorce.
Other Options for Prenups
In the right circumstances, a postnuptial agreement may be a viable alternative, and one that many spouses find preferable to a prenuptial agreement. The difference is that while a marital agreement is entered into prior to a marriage, a postnuptial agreement is executed after the marriage has already been solemnized.
A prenuptial agreement sets out provisions regarding financial matters that may be difficult, embarrassing, or uncomfortable to discuss during the courtship period. Once the marriage ceremony has taken place, there may be a bit more comfort in discussing such topics during a period in which asset protection seems more desirable because the marriage has occurred.
In situations where a spouse recently acquired substantial assets, it may be simpler and less costly to obtain a postnuptial agreement than a prenuptial agreement. By waiting until after the couple has married, the time, effort and expense associated with negotiating a marital agreement may be minimized.
In a postnuptial agreement, which often contains the same provisions as a prenuptial agreement, there is no uncertainty about whether a spouse intends to marry and there is less hesitance to enter into an agreement that may seem to say "We are getting married but maybe I would not marry you if you were not rich."
That being said, married couples may prefer to use the same process used for prenuptial agreements, but sign a postnuptial agreement instead. In such cases , a couple will jointly hire a lawyer and the lawyer will negotiate the financial provisions that will ultimately be contained in the agreement, and prepare the document itself. As mentioned above, the use of lawyers and the expectations along such lines should not proceed without the advice of a divorce lawyer. If a person does not have separate assets, or has limited separate assets, a postnuptial agreement may not be necessary.
In lieu of a contractual or statutory obligation to share incomes and expenses (for example, not having a right to the other spouse’s income if one of the spouses is a stay-at-home parent), the couple may alter their responsibilities towards each other during the marriage, including the extent of their interdependence during the marriage. By defining their responsibilities to one another, the couple may be able to hand off some of their future financial risks and liabilities to their future estate planning (such as leaving all or a portion of their estate to the other spouse in a will or creating a trust whose beneficiary is the other spouse during his/her lifetime, which holds the property for the other spouse to use and enjoy during his/her lifetime, but upon the death of the surviving spouse passes to the children of the spouses). This type of estate planning needs to be done carefully by a Virginia estate planning lawyer so that the couple does not inadvertently create a gift or impose a gift tax on the transfer.