Yearly Archives: 2016
Mar 11, 2016 Lynda Wray Black
Traditionally, irrevocable trusts have been, well, irrevocable. The terms of the trust are fixed and the life of the trust cannot be cut short. Whether irrevocability emanates from the trust document itself or from circumstances such as the settlor’s death or incapacity, traditional irrevocability tied the hands of those interested in modifying the trust to accommodate changes in circumstances. Irrevocability was the doctrine through which the settlor could maintain control of the trust property throughout the life of the trust. Trust law acknowledges the tension between the original intent of the settlor’s dead-hand control and the current desires of the beneficiaries. As this tension is being resolved by greater accommodation of the current beneficiaries’ desires, has the doctrine of irrevocability lost its relevance?
In his recent article entitled Sherlock Holmes and the Problem of the Dead Hand: The Modification and Termination of “Irrevocable” Trusts, Dean Richard Ausness proposes a compromise. The first generation of trust beneficiaries would remain subject to the traditional rules disfavoring modification and early termination of trusts; subsequent generations of trust beneficiaries, however, would possess a liberating ability to modify a trust without court approval. The language of irrevocability would have renewed life, but only a short life.
Even under traditional trust practices, an irrevocable trust is somewhat of a false moniker. There are several avenues around true irrevocability, but each requires either the consent of the settlor or judicial approval. These avenues are, however, consistent with the norm of honoring the settlor’s wishes.
Under the Claflin doctrine, the beneficiaries of an irrevocable trust may petition for its termination when all material purposes of the trust have been satisfied. Having done what it was supposed to do, a trust under Claflin in effect no longer serves the settlor’s intended purpose. Claflin writes in an assumed premise, namely, that once the settlor’s objective in creating a trust has been accomplished, the trust need not continue. Irrevocability is merely a guarantee of the fulfillment of the trust’s purpose.
The Claflin doctrine, however, is inapplicable to several categories of trust such as spendthrift trusts and support trusts, as the continuance of such trusts is the material purpose thereof. The Claflin doctrine is also ill suited to modify trusts terminating at a set age of the beneficiary or upon a set occurrence. The purpose of the trust is, by definition, not fulfilled until such age or occurrence materializes. When faced with strict adherence to the irrevocability required by a settlor, courts at times embrace “partial termination” of the trust as a middle ground. The portion of the trust continuing intact preserves the original intent while distribution of some trust assets free of the trust accommodates the beneficiaries. Partial termination is a logical form of judicial relief when appreciation of trust assets has resulted in the overfunding of a trust relative to the trust’s purpose. True irrevocability in such cases would not add anything to the fulfillment of the settlor’s intent. The doctrine of equitable deviation offers some relief from strict adherence to the terms of an irrevocable trust, but only with respect to administrative (as opposed to distributive) provisions.
In a nutshell, traditional doctrines provide little support for modifying or terminating an irrevocable trust. Both the Uniform Trust Code and the Restatement (Third) of Trusts relax the stance on trust irrevocability. The Uniform Trust Code permits flexibility to accommodate circumstances not anticipated by the settlor. The restatement permits weighing the material purpose of the trust against the reasons for modifying or terminating the trust. However, both the Uniform Trust Code and the Restatement (Third) of Trusts require judicial involvement in trust modification and termination.
There are various roundabout ways of terminating or modifying a trust without involving the courts. First, the settlor may vest the trustee with the power giving to terminate or modify the trust. A trustee with this authority may act without court intervention unless the trustee abuses his discretion or acts unreasonably. Second, in the trust instrument, the settlor could authorize the trustee to “decant” the trust. This option involves transferring the trust property to a separate trust, created for the beneficiaries. And finally, the settlor could designate a trust protector who has the power to modify or terminate the trust. A trust protector is “a person, other than the settlor or a trustee, who is authorized to exercise one or more powers over the trust.” Despite the fact that trust protectors are separate and distinct from trustees, they still owe a fiduciary duty to the beneficiaries of the trust.
Dean Ausness proposes a chronological limitation on the settlor’s dead hand control by requiring adherence to the settlor’s intent with respect to first generation trust beneficiaries. This acknowledges the settlor’s “right to control the trust property during the lives of persons who are personally known to him.” However, Dean Ausness recognizes that the duration of dead hand control must be limited to protect the legitimate interests of beneficiaries. He thus suggests that members of succeeding classes of beneficiaries – i.e., the settlor’s grandchildren – should be able to freely modify or terminate the trust. Those beneficiaries who do not wish to terminate their interest in the trust may request that their share be placed in a separate sub-trust. This solution “strike[s] a reasonable balance between the rights of the deceased settlor (the dead hand) and those living beneficiaries.”
Cite as: Lynda Wray Black,
How to Bolster the “Ir” in Irrevocable, JOTWELL
(March 11, 2016) (reviewing Richard C. Ausness,
Sherlock Holmes and the Problem of the Dead Hand: The Modification and Termination of “Irrevocable” Trusts, 28
Quinnipiac Prob. L.J. 237 (2015)),
https://trustest.jotwell.com/how-to-bolster-the-ir-in-irrevocable/.
Feb 25, 2016 Anne-Marie Rhodes
Mary F. Radford, Predispute Arbitration Agreements Between Trustees and Financial Services Institutions: Are Beneficiaries Bound?, 40 ACTEC L. J. 273 (2014).
Disputes are a persistent reality of trust law and even the most meticulously-drafted and expertly-administered trust can be embroiled in litigation, often involving trust investments. In an effort to avoid litigation, many investment advisors and banks include in their routine account agreements, provisions requiring arbitration in the event of any dispute. When a trustee opens an account that contains a mandatory arbitration provision, are the beneficiaries also bound?
Professor Mary Radford delves deep into the practice, cases, and theory of predispute arbitration provisions. Her discerning and experienced eye expertly distills the essence of a trustee’s fiduciary responsibilities with the practical realities of investing in the 21st century. This article appealed to me because it offers a thoughtful, sophisticated, and wide-ranging look at an increasingly common provision. At a time that arbitration clauses are under review, the article connects trust law to the wider world; it is a good example of the law as “seamless web.”
Part I presents the background of predispute arbitration agreements, with a focus on those used in the securities industry. Professor Radford marshals this material in a clear and concise fashion to provide the necessary starting point for the analytical framework going forward. Noting the longstanding federal policy favoring arbitration for the resolution of disputes, it is the SEC and the Financial Industry Regulatory Authority (FINRA) that developed the rules that actually govern these account agreements. The still-controversial rules became widespread after the Supreme Court effectively upheld the enforceability of the provisions in the late 1980s. This securities industry perspective, however, must be reconciled with a trustee’s fiduciary duties. Radford concludes that a trustee does have the authority to enter into these agreements, but that does not necessarily answer the question as to the beneficiary’s rights.
Part II reviews the cases that consider whether a nonsignatory trust beneficiary can be bound by the trustee’s agreement to arbitrate. The cases are few in number and weigh in favor of upholding the arbitration provision. Because the cases tend to be in state court proceedings and some are unpublished opinions, Radford wisely uses the cases, not as precedent, but as illustrations of the range and depth of the legal theories courts use in upholding the arbitration provision.
Part III is the legal center of the article. It discerns and examines the main theories courts have used in determining whether to enforce the arbitration provision against nonsignatory beneficiaries. Estoppel theory, a common approach, simply provides that a person cannot assert a claim that is based on an agreement and then disavow another portion of that agreement. Third party beneficiary is the second theory that courts have used and its focus is on the intent of the parties. Agency theory is also applicable given the contractual nature of the transaction. Often the agreement will include a provision that extends the agreement to the signatory’s successors and assigns. Finally and returning to the basics, courts note that there is a strong federal and state policy favoring arbitration of disputes. Radford provides a useful template for evaluating the impact of predispute arbitration provisions, agreed to by a trustee, on the nonsignatory beneficiaries.
Part IV discusses the current landscape of arbitration agreements. It starts by pointing up the flaws in the cases that allow nonsignatory beneficiaries to avoid arbitration. One court premised its refusal to enforce the provision because the beneficiary had no knowledge of the agreement. Radford points out that this theory would create a “dangerous” precedent. A beneficiary would only need to deny knowledge of the contract in order to avoid the contract. She rightfully points out that it would be far better to allow a beneficiary to proceed against the trustee on grounds of failing to keep the beneficiary reasonably informed than to fail to enforce contracts properly entered into by the trustee. Another court attempted to make the financial services institution a fiduciary to the nonsignatory beneficiaries separate and apart from the account. This is “troublesome” as Radford points out because without the account agreement there is no connection to the nonsignatory beneficiaries. While there may in some circumstances be some duty, it is necessary to first find a relationship between the parties in order to define the duty. Duties do not just exist in the ether.
Taking on the big picture, Radford asks the basic question: what is it that we lose when we force a securities arbitration on a nonsignatory? Radford addresses two major issues to the beneficiary – costs and fairness, and the larger societal issue of the negative impact on the development of trust law. There are no easy answers here. The differential in costs between an arbitration and litigation will depend on a number of factors and cannot be answered definitively. Fairness is equally elusive. Investors are skeptical of the overall fairness in FINRA arbitrations. There is a sense, supported by scholarship, that arbitration favors the “big guys” over the “little guys.” There is also the perception that arbitrators have an industry bias. Interestingly and in response to this criticism, a recent change in FINRA procedures allows customers with claims of $100,000 or more to choose a panel composed entirely of public arbitrators (that is, arbitrators who are not associated with the financial services industry), rather than a mixed panel. A study in 2013 showed that customers who used an all public panel were successful 62% of the time, compared to a 44% rate when a mixed panel was used. This corresponds favorably with a 60% success rate generally for plaintiffs in trials. Finally, there is the policy concern that FINRA arbitrations are not required to give reasons for the decisions. While the result in any particular arbitration may be understandable to the participants, the lack of a reasoned decision means that the “development and the evolution of theories in this area of the law cannot occur” because the “decisions are made under a shroud of secrecy.”
In the conclusion, Radford acknowledges that she has ”grappled with the issues” and “has not been very successful in coming up” with workable solutions. This is not a failure, this is a generous recognition that as long as Congress does not prohibit the predispute arbitration provision, there is little that can be done from the trust law perspective. To prohibit trustees from signing these agreements would likely foreclose trustees from using most financial services institutions; that is simply not practical. Similarly labelling these agreements as a breach of fiduciary duty is equally impractical and runs afoul of the prudent investor standard. Most promising and original is the author’s proposal to amend FINRA rules in cases involving a trust beneficiary. If the panel of arbitrators could include arbitrators who have knowledge of trust law, the “subtleties of the trust-related claims” would not be lost in the arbitration process. This could address the bias perception and perhaps reduce the need to pursue a secondary action against the trustee in court.
Radford’s article is a reminder that in understanding trust law, it is as important to have a sense of the practical realities in which a trust operates, as it is to know the history and theory of the law.
Jan 28, 2016 Tom Simmons
Kai Lyu explains some of the unique characteristics of Chinese trust law in Re-Clarifying China’s Trust Law: Characteristics and New Conceptual Basis. China’s civil law basis makes for a strange soil in which to transplant (and codify) a common law concept such as the law of trusts, which owes its origins to Medieval England. But other jurisdictions (Japan and South Korea, for example) have adopted trust law without generating the odd mutations that China has. What happened and how can one approach an understanding of the unique creation that is Chinese trust law?
The two principle unorthodoxies with trust law in China are the ambiguous title to the trust res and the almost unrestrained retained powers of a settlor that the 2001 trust act (enacted by the National People’s Congress after two false starts in 1996 and 2000) generated. Lyu grounds the thinking of the Chinese legislators in the law of contracts, and identifies how contract law falls short as a theory in explaining trusts, even—or perhaps especially—Chinese trusts. Instead, Lyu proposes, Roman law’s patrimony theory provides a lens for understanding the unique characteristics of Chinese trust law.
The Anglo-American trust model contemplates that in most cases the settlor will exit the stage after conveying property to a trustee with the trustee’s acceptance of the res. Following the conveyance, the trustee holds legal title while the trust beneficiary holds equitable title; a bifurcation of legal and equitable title in the property formerly held by the settlor occurs when a trust is created. Following the settlor’s conveyance of property to the trustee, the settlor typically retains little or no further involvement. The tension between the fiduciary duties and expansive property management powers of the trustee and the rights—but rather limited powers—of beneficiaries, creates a dynamic which supports the common law trust and its administration.
Chinese trust law stands some of these basic principles on their heads. Chinese trusts are “shapeless,” according to another recent article by Professor Adam Hofri. Some scholars (e.g., Lusina Ho) hold that the settlor continues to own trust property in a Chinese trust, while others (e.g., Zhen Qu) support the trustee-owned model. Others have concluded that the beneficiaries own trust property, or that the settlor and trustee, or even the settlor, the trustee and the beneficiary, co-own trust property.
Indeed, as Lyu points out, Chinese trust law does not even require a settlor to convey property to a trustee; the settlor can retain possession and merely “entrust” (weituo, 委托) her property to the trustee, invoking perhaps, something more in the nature of a bailment than a trust. The settlor of a Chinese trust does not want to let go; Chinese trust law contemplates trusts where settlors retain extensive rights: the right to accountings and information relative to the administration of the trust; the right to revoke and amend the trust or to intervene and correct a trustee’s actions; the right to dismiss and replace the trustee; the ability to approve self-dealing transactions and trustee fees; and the status of a remainderman upon trust termination.
In many ways, Chinese trust law’s default provisions describe what Anglo-American law would characterize as a revocable or “living” trust with the settlor in essence retaining ownership of trust assets and the trustee merely idling, at least until the trust later becomes irrevocable.
The contract paradigm for Chinese trust law helps explain a 2004 decision by the Shanghai High Court, Huabao Trust Investment Co. v. Shanghai Yanxin Shiye Investment Co. which is explicated and criticized by Lyu. There, a trust was created for commercial purposes (as indeed all Chinese trusts are at present) with the settlor transferring funds to the trustee which was directed to buy shares of the corporate settlor. The settlor transferred its interests to a third party, intending that its assignee step into its shoes. The trustee refused to recognize the transfer and litigation resulted.
The court held—consistent with contract law—that the settlor could assign its rights as a settlor (as well as its rights as a beneficiary) with the consent of the other contractual party, the trustee. Absent the trustee’s consent, however, the assignment was invalid. Thus, the trustee prevailed. The holding contravenes two principles of Anglo-American trust law which would characterize the settlor’s position in a trust as one of status and not contractual right (one’s status cannot be assigned or transferred) and maintain that absent a spendthrift provision a beneficiary’s interest is freely assignable without any requirement of trustee consent.
Lest one conclude that Chinese trusts are not trusts at all, Lyu explains that a trustee’s creditors’ cannot reach assets held in trust. Trust assets are also segregated from the settlor’s separate assets; a settlor cannot truly retain ownership since a bankruptcy of the settlor will not affect trust property. Moreover, the Chinese law imposes genuine duties on trustees to distribute to beneficiaries, account to beneficiaries, protect the confidentiality of beneficiaries, and avoid conflicts of interest.
Into this troubled doctrinal thicket, Lyu introduces patrimony, a Roman law concept which describes the collection of all movable, immovable, real and personal property rights, debts and obligations of a person; their estate. As the French jurist Pierre Lepaulle asserted in the 1930s, special or separate patrimony is a rubric by which common law trusts in a civil law jurisdiction can be explained. A trust, Lepaulle claimed, is an ownerless special patrimony independent of the settlor, the trustee and the beneficiary.
Lyu concludes by showing that separate patrimony theory can explain why a trust can have its own creditors but retain immunity from the creditors of the settlor and the trustee. “The trust patrimony is like a juristic person to some degree,” Lyu notes.
Lyu’s article provides a comprehensive overview of Chinese trust law. Extensive footnotes provide ample support for the article’s conceptualizations as well as its details. Theoretical confusion is often the product of an examination of an area of the law thick with confusion. But Lyu’s article dispels more cobwebs than it spins.
