Tuesday, December 1, 2009

Recent California Decision Highlights Trustee's Breach Of Duties And Misconduct When Trustee Is Also A Beneficiary

A recent California Court of Appeal decision from Division 4 highlights what can happen when a trustee who is also a beneficiary commits misconduct and breaches fiduciary duties to the other beneficiaries. The case is Chatard v. Oveross, Case No. B213392.

In sum, the Chatard case held that a trust beneficiary whose misconduct as trustee harmed the trust cannot rely on a spendthrift provision to protect her interest from other beneficiaries. The Court of Appeal reasoned that damage from the breach of duty would otherwise be sustained by the others, and held that they could hold liable a spendthrift trust beneficiary’s distributive share for a surcharge imposed due to her misconduct as a trustee.

In other words, when the trust beneficiary was held liable to the other beneficiaries for her malfeasance as a trustee -- the trustee's share of the estate (which she was to receive as a beneficiary) could be impounded to pay the over $433,000 in damages and legal fees assessed against her.

Grown Adult Child Served as Trustee

Joyce Chatard began serving as a trustee of her family’s trust in 2003 after the death of her mother, Vera Chatard, who created the trust in 1989 with her husband Frederic Chatard. The trust included a "spendthrift provision", by which beneficiaries could not assign or alienate their own interests, and those interests were not subject to the claims of beneficiaries’ creditors.

When Frederic Chatard died in 1995, the trust divided into two subparts for his wife’s benefit, and after her death their three adult children—Joyce, David and Jeanee Chatard—each received one-quarter of income and principal from one of the subparts.

The remainder of the subpart was to be split between the four children of deceased sibling Douglas Chatard when each reached the age of 30, while the other subpart was split into equal thirds among beneficiaries other than Joyce Chatard, subject to the same age restriction.

Disputes Over Trust Administration

After disputes arose over Joyce Chatard’s administration of the trust, other beneficiaries filed a lawsuit in Los Angeles County Superior Court. Judge Aviva K. Bobb, who has since retired, imposed a surcharge of more than $333,000 on Ms. Chatard for breaching her duty as trustee and an award of more than $100,000 for other beneficiaries’ legal fees and costs.

Judge Bobb held that Ms. Chatard:
(1) failed to rent or pay rent on residential property she occupied that was owned by the trust;
(2) awarded herself excessive compensation;
(3) inappropriately used trust assets to pay personal expenses;
(4) unnecessarily incurred attorney fees opposing well-founded petitions to remove and surcharge her for mismanagement; and
(5) failed to distribute her siblings’ shares of assets within a reasonable time.

Relying on Judge Bobb's judgment, an interim trustee then sought to reduce Joyce Chatard’s share by the amounts of the surcharge and attorney fees. In an interesting argument, Ms. Chatard contended the surcharge could not be taken from her share because of the spendthrift provision.

Former Trustee And Beneficiary Ms. Chatard Unsuccessfully Appeals

Judge Bobb rejected Ms. Chatard's argument and concluded that the provision was inapplicable and granted the interim trustee’s request. Ms. Chatard appealed and the Court of Appeal affirmed Judge Bobb's ruling. The Court of Appeal's decision explained its opinion as follows:

The justice explained: “Reasonably construed, the language of the spendthrift provision here suggests protection against the claims of persons foreign to the trust—‘creditors, or others’—who might use a writ of ‘attachment, execution or other process of law’ to satisfy a claim from a beneficiary’s interest. The language does not reasonably refer to the claims of fellow beneficiaries relating to a breach of trust, which might be satisfied, in the exercise of the probate court’s equitable power, by surcharging the interest of the trustee-beneficiary in the distribution of trust assets.

“In short, absent clear language to the contrary, we decline to read the spendthrift clause so as to permit the perverse result of depriving the court of its equitable power to surcharge the interest of dishonest trustee-beneficiary to compensate other beneficiaries for breaches of the trust.”

A copy of the decision can be found at http://www.courtinfo.ca.gov/opinions/documents/B213392.PDF

Attorney Commentary: This case is a reminder of what can happen when a trustee either (1) does not hire an attorney to represent and advise him or, at least initially or (2) hires the attorney and refuses to follow the attorney's advice because he or she is caught up in negative family dynamics (or some other issue) and is unable to think clearly and objectively.

If you are a trustee beneficiary it is important to remember that you owe fiduciary duties to the other beneficiaries and can be held liable for not performing those duties properly. Thus, I recommend hiring an attorney at the beginning to advise the trustee since many of the easiest mistakes to avoid are made in the first several months of an administration.

For those engaging in estate planning, this case illustrates why appointing one grown child as a trustee over another adult child's trust can be a disaster and create significant litigation. It can also be no problem depending on the person appointed, whether they are equipped to perform the duties and whether there are underlying family dynamics that could be problematic later.

Posted by Henry Moravec, III. Should you have any questions regarding your own situation, you can e-mail Hank Moravec at hm@moravecslaw.com or call him at (626) 793-3210. The firm website is http://www.moravecslaw.com/