Miller v. Kresser: Lessons Learned From a Creditor Attack on a Third-Party Spendthrift Trust
“In Miller v. Kresser, the Florida 4th District Court of Appeals overturned a controversial trial court decision which allowed a creditor to pierce a third party spendthrift trust. While finding the trustee of the trust may have abdicated some or all of his fiduciary duties, the appellate court reversed the trial court opinion and upheld the sanctity and the creditor protection aspects of the third party spendthrift trust.
The facts of this case take asset protection planning perilously close to the edge, and certainly some would, and some did argue, that this case went beyond the edge), which is precisely what makes it a good example from which planners may learn.
While this case may give comfort to some who plan with family members as trustees, it also highlights how much trouble a family can get into if they do not adhere to their fiduciary responsibilities. Further, it highlights the value of using a quality trustee who will respect its position and duties and the important role an independent or professional trustee may play.”
Jeffrey Baskies, Jonathan E. Gopman and Robert L. Lancaster, provide LISI members with their analysis of an important opinion handed down by the Florida 4th Circuit Court of Appeals on May 5th. Although Miller v. Kresser nominally involves the Florida Trust Code, this case contains important lessons for asset protection planners in all disciplines. Underscoring this point, LISI members will surely appreciate the fact that our experts have included at the end of their commentary a helpful checklist titled: “12-steps To Make Your Third-Party Spendthrift Trusts More Protective.”
Jeffrey A. Baskies is a Florida Bar certified expert in Wills, Trusts and Estates law who practices at Katz Baskies LLC, a Boca Raton, FL, boutique trusts & estates, tax & business law firm. Jeff has been a frequent LISI contributor. In addition, his articles have been published in Trusts & Estates, Estate Planning, Probate and Property, the Florida Bar Journal, Lawyers Weekly USA and other journals. He’s been frequently quoted as an expert estate planner in the Wall Street Journal, the New York Times, the Boston Globe, Forbes Magazine and other news publications. Jeff is listed in Best Lawyers in America, in the Worth magazine list of the Top 100 attorneys, in Florida Trend’s Legal Elite, in Florida SuperLawyers (Top 100 in Florida) and in other similar publications. He can be reached at /.
Jonathan E. Gopman is a partner in the law firm of Cummings & Lockwood LLC in its Naples, Florida office. Jonathan is co-author of the revised version of the BNA Portfolio Estate Tax Payments and Liabilities. Jonathan focuses his practice on sophisticated wealth accumulation and preservation planning strategies for entrepreneurs. Jonathan has substantial experience in assisting high net worth families with international and domestic estate planning, implementing foreign trust structures, business planning and general tax planning. In addition to his BNA Portfolio Jonathan has authored and co-authored numerous publications on estate planning, tax and wealth protection matters.
Robert L. Lancaster, a Principal of Cummings & Lockwood LLC, is a member of the firm’s Private Clients Group in Naples, Florida. Rob focuses his practice on sophisticated wealth accumulation and preservation planning strategies for high net worth entrepreneurs, executives, doctors, and other professionals. Rob’s personal practice emphasizes foreign and domestic wealth preservation planning. Rob has authored and co-authored publications on estate planning and wealth protection matters. Rob is a member of the Florida Bar Association, the Real Property, Probate & Trust Law Section of the Florida Bar, as well as a member of the Asset Preservation Committee of the Florida Bar. Additionally, he is active on the Board of Directors for the Young Lawyers’ Section of the Collier County Bar Association.
The authors wish to acknowledge and thank the appellate counsel, Brian O’Connell and Ashley Girolamo, of the law firm of Casey, Cicklin, Lubitz, Martens & O’Connell, for their assistance providing the background information and insight into the strategies they used in this case.
Now, on to their commentary:
In Miller v. Kresser, the Florida 4th District Court of Appeals overturned a controversial trial court decision which allowed a creditor to pierce a third party spendthrift trust. The trial court held for a creditor of the beneficiary based on evidence that the beneficiary essentially controlled the trust (that is, the beneficiary was a “de facto” trustee and the acting trustee, the beneficiary’s sibling was merely his “rubber stamp”) and concluding the beneficiary had the power to have the principal conveyed to himself as beneficiary.
However, while finding the trustee of the trust may have abdicated some or all of his fiduciary duties, the appellate court reversed the trial court opinion and upheld the sanctity and the creditor protection aspects of the third party spendthrift trust.
The facts of this case take asset protection planning perilously close to the edge (and certainly some would – and some did argue – this case went beyond the edge), which is precisely what makes it a good example from which planners may learn.
While this case may give comfort to some who plan with family members as trustees, it also highlights how much trouble a family can get into if they do not adhere to their fiduciary responsibilities. Further, it highlights the value of using a quality trustee who will respect its position and duties and the important role an independent or professional trustee may play.
Even though this beneficiary “won” his appeal, the real lesson of this case may well be temperance. Had there been a true, independent trustee, protracted litigation and undoubtedly a significant legal bill could have been avoided. As planners, we should consider these lessons when drafting spendthrift trusts for our clients. At the end of this commentary we offer 12 steps to consider in your drafting to make your trusts more protective.
In the case the plaintiff (“Plaintiff”) obtained a judgment against the defendant (“Beneficiary”) and Castles Construction and Development, LLC (“Castles Construction”) on June 21, 2007 for slightly more than $1,000,000. The judgment related to a business deal involving Plaintiff, Beneficiary and Castles Construction.
In April 2004, Beneficiary’s mother (“Mother”) established a trust (the “Spendthrift Trust”) for the benefit of Beneficiary. Mother designated Beneficiary’s brother (“Brother”) sole trustee of the Spendthrift Trust. The Spendthrift Trust vested Trustee with absolute discretion to make distributions for Beneficiary and Beneficiary’s “qualified spouse.”
Subsequent to the execution of the Spendthrift Trust, Beneficiary divorced his wife and, thus, became the only current beneficiary of the Spendthrift Trust because his former wife no longer qualified as his qualified spouse under the terms of the Spendthrift Trust.
The Spendthrift Trust included a spendthrift provision. It also granted the Trustee full discretion to terminate the trust and distribute the entire corpus to the beneficiaries for any reason whatsoever.
The spendthrift provision in the Spendthrift Trust provided:
The right of any person to receive any amount, whether of income or principal, pursuant to any of the provisions of this agreement, shall not, in any manner, be anticipated, alienated, assigned or encumbered, and shall not be subject to any legal process or bankruptcy or insolvency proceeding or to interference or control by creditors or others.
The termination provision in the Spendthrift Trust provides in pertinent part:
In granting the trustee discretion over the payment of the income and principal of the trusts under this agreement, it is the settlor’s intention that the independent trustee . . . shall have complete discretion to terminate any trust by distributing the entire principal to the beneficiary or beneficiaries eligible to receive distributions from such trust (and if more than one, in equal or unequal shares and to the exclusion of any one or more of them) without further accountability to anyone if the independent trustee determines that continuation of such trust is inadvisable in view of the size of the trust or for any other reason.
Mother transferred a one-third interest in a home located in the Florida Keys (the “Keys Home”) to the Spendthrift Trust. Mother also transferred a one-third interest in the same residence to a trust for Brother and retained a one-third interest in the property in her own name.
The Keys Home was valued at over $1,000,000 when Mother made these gifts. The Spendthrift Trust also held a one-half interest in an LLC which owns an office building and former funeral home, and a one-third interest in another LLC which owns five acres of unencumbered vacant property and another vacant lot.
Prior to establishing the Spendthrift Trust, Mother created her own revocable trust. This trust included provisions that provided for outright distributions to Brother and Beneficiary upon Mother’s death. The court mistakenly referred to this trust as a “testamentary trust,” however, the record indicates it was Mother’s inter vivos revocable trust agreement.
Shortly following entry of the final judgment by the trial court in favor of Plaintiff, Mother modified her revocable trust agreement by eliminating the outright gift to Beneficiary and replacing it with a pour-over gift directly to the Spendthrift Trust. Mother died less than three months later. Plaintiff was unsuccessful in his attempts to collect any portion of his judgment from Beneficiary or Castles Construction.
Thus, Plaintiff commenced proceedings supplementary against Beneficiary, and Castles Construction and impleaded Brother as trustee of the Spendthrift Trust. Plaintiff argued that he was entitled to foreclose on the assets held in the Spendthrift Trust to satisfy his judgment because Beneficiary exercised significant authority and control over the trust assets and substantial influence over Brother. Plaintiff also recorded a lis pendens against the Keys Home.
While the post judgment proceedings were pending, the Keys Home was sold. The Spendthrift Trust received its one-third share of the sale proceeds. After the sale, $168,000 of the Spendthrift Trust’s share of the proceeds was disbursed to various entities, including Beneficiary’s law practice. Beneficiary testified that the distributions were loans and produced copies of promissory notes at trial although Brother testified that he was unaware they were loans, and Beneficiary held the original promissory notes.
The trial court conducted a non-jury trial during the post judgment proceedings to determine if the spendthrift provision could be invalidated. Although the trial court determined that the spendthrift provision in the Spendthrift Trust was valid when created, it ultimately held that the spendthrift provision and discretionary aspects of the Spendthrift Trust were invalid because of the degree of control Beneficiary exercised over the trust assets and over Brother as the trustee. Consequently, the trial court held that the Spendthrift Trust could be pierced by Plaintiff to satisfy his judgment.
The trial court determined that Brother had nearly relinquished all management of the day-to-day operations of the Spendthrift Trust to Beneficiary. It noted that Beneficiary seemed to exercise authority over all important decisions concerning the trust assets, including investment decisions, and Beneficiary possessed and kept control over the checkbook for the Spendthrift Trust.
For example, when Beneficiary requested Brother as the trustee form an LLC and execute a note and mortgage for $1,400,000, Brother did so without any investigation or analysis. The trial court order found that Brother appeared to never conduct his own independent investigation of any major decisions involving the Spendthrift Trust, and made no independent determination if such decisions were in the best interest of the Spendthrift Trust.
The trial court summarized that Brother had limited knowledge of trust assets and was merely a puppet of Beneficiary and “rubber-stamped” Beneficiary’s decisions. According to the trial court Brother “knows little about the Trust, has limited knowledge regarding what assets it own and …serves as the legal veneer to disguise [Beneficiary’s] exclusive dominion and control of the Trust assets.”
As a result of the foregoing, the trial court held that while title to the assets may have been in the Spendthrift Trust, Trustee, “by giving [Beneficiary] complete access to, as well as dominion and control over the Trust’s assets, has effectively turned over to Beneficiary all of the assets of the Trust…thereby subjecting the Trust’s assets to execution.”
Citing a number of Florida cases for authority as well as the Restatement (Second) of Trusts (Sec. 153(2)), the trial court held that a beneficiary who is entitled to have the principal of a trust conveyed to himself at his direction, essentially has dominion and control of the trust assets; as such, any purported restraint on his right to voluntarily or involuntarily transfer his interest in the principal should not be enforced.
The Florida Trust Code (the “FTC”) specifically recognizes spendthrift trusts, although Florida common law already recognized the validity of a spendthrift provision in a trust when the trust is created and funded by one individual for the benefit of one or more other individuals. Pursuant to the FTC, a spendthrift provision is valid only if the provision restrains both voluntary and involuntary transfer of a beneficiary’s interest.
There is no required statutory language to create a spendthrift trust. A term of a trust that provides that the interest of a beneficiary is held subject to a spendthrift trust, or words of similar import will sufficiently restrain both voluntary and involuntary transfers of a beneficiary’s interest under Florida law.
Generally, a creditor of a beneficiary may not reach an interest or a distribution by a trustee before receipt of such interest by the beneficiary. The FTC only permits certain “exception creditors” to overcome the restraint on alienation.
Plaintiff did not qualify as an exception creditor under the FTC, but even if he did, such status would only grant him the ability to attach present or future distributions from the Spendthrift Trust. Whether or not a trust contains a spendthrift provision, if a trustee may make discretionary distributions to or for the benefit of a beneficiary, a creditor of the beneficiary (including an exception creditor) may not (i) compel a distribution that is subject to the trustee’s discretion; or (ii) attach or otherwise reach the interest, if any, which the beneficiary might have as a result of the trustee’s authority to make discretionary distributions to or for the benefit of the beneficiary.
Note, however, a trustee’s discretion does not limit the right of a beneficiary to maintain a judicial proceeding against the trustee for an abuse of discretion. A trustee has a duty to administer the trust in good faith, in accordance with its terms and purposes and the interests of the beneficiaries, and in accordance with the FTC.
The FTC requires that a trustee administer the trust as a prudent person would, by considering the purposes, terms, distribution requirements, and other circumstances of the trust and that the trustee must exercise reasonable care, skill, and caution in satisfaction thereof. A violation of these duties is a breach of trust for which a court may, among other remedies, compel the trustee to redress the breach by paying money or restoring property or by other means;
The appellate court in Miller relied on a distinction between express powers in a trust and implied powers. The court recognized that Florida’s common law recognizes the validity of spendthrift trusts. However, the court noted that other courts have invalidated spendthrift provisions where a trust provides a beneficiary with express control to demand distributions or to terminate the trust and to acquire the trust assets. According to the appellate court:
“If the trust allows the beneficiary to control all of the trust assets by terminating the trust or demanding distribution of the entire trust corpus, a court will allow the beneficiary’s creditor to reach the entire trust corpus . . . . Likewise, if the trust allows for the beneficiary to demand a distribution of only a portion of the trust property, the courts have allowed a creditor to attach that portion over with the beneficiary has express control.”
The court noted, however, that the Spendthrift Trust did not give Beneficiary any express control over the trust principal or distributions. While the appellate court agreed with the trial court that “the facts in this case are perhaps the most egregious example of a trustee abdicating his responsibilities to manage and distribute trust property, the law requires that the focus must be on the terms of the trust….[and] The trust did not give [Beneficiary] any authority whatsoever to manage or distribute trust property.”
In an earlier, but similarly important spendthrift clause case, Sligh v. First National Bank of Holmes County, the plaintiff obtained a judgment for serious personal injuries resulting from the defendant, who was driving while intoxicated. As in Miller, the defendant had no assets to satisfy the judgment. He was, however, the beneficiary of two spendthrift trusts established by his mother before her death.
Each trust had an independent bank serving as its trustee with complete discretion to distribute income or principal for the benefit of the defendant. Although the plaintiff’s complaint was dismissed, on appeal the Mississippi Supreme Court carved out a public policy exception to the spendthrift doctrine for involuntary tort creditors. After weighing the public policy considerations in favor of spendthrift trusts, the court held that society had a stronger interest in insuring a tort creditor arising from claims of gross negligence or intentional torts did not become a pauper.
The court gave short shrift to the beneficial interests of the remaindermen. From a trust administration standpoint, it is important to recognize that the Mississippi Supreme Court created new law in the face of facts that were far superior than Miller. Focusing exclusively on the terms of the Spendthrift Trust in Miller allowed the Florida appellate court to rule that although the trust beneficiaries may have a cause of action against Brother as the trustee, the Spendthrift Trust could not be pierced by the creditor.
While it is nice to see that even in the most “egregious” case imaginable, the court found a spendthrift trust cannot be violated, as noted herein, it seems getting that close to the edge proved dangerous and expensive for this family.
Designing a Third-Party Trust to be More Debtor Friendly: 12 Steps to More Protective Trusts
For those planning ahead and seeking to incorporate the lessons of these two cases, here are 12 steps to take to make your third-party trusts more protective of the beneficiaries in case of creditor attacks:
- Do not appoint a beneficiary as a trustee, or if a client insists that one or more beneficiaries serve as trustees, vest the distribution authority solely in an independent trustee. An “independent trustee” should be defined as an (a) individual who is not the settlor, the settlor’s spouse or a beneficiary of the trust and who is not related by blood or marriage to any of the foregoing individuals; and (b) an individual who, or trust company that, is not “related or subordinate” to the settlor and any beneficiary within the meaning of § 672(c) of the Code.
- Make all interests in income and principal discretionary unless a mandatory income interest is required to qualify for a tax benefit as in the case of a qualified terminable interest property (“QTIP”) trust or a qualified subchapter S trust (“QSST”). If a mandatory income interest is necessary to qualify for a tax benefit as in the case of a QSST or a QTIP trust, understand the parameters necessary to qualify for that tax benefit to design the trust to maximize the protection of its income and corpus from the claims of potential creditors of a beneficiary. For example, to qualify as a QSST § 1361(d)(3) merely requires that all of the income of a trust (within the meaning of § 643(b)) be distributed to the beneficiary, however, it does not require the trust to provide the beneficiary with a mandatory income interest. Furthermore, to qualify as an income interest under § 2056(b)(7), trust income need only be distributed annually. Quarterly payments required in common boilerplate marital trust provisions are not required.
- Provide that distributions of income and principal may only be made in an independent trustee’s sole, absolute, uncontrolled, unfettered, unlimited and full discretion.
- Do not provide a beneficiary with a withdrawal right over trust assets such as a five and five power, unless such power is necessary to qualify transfers to the trust for the annual exclusion. If a withdrawal right is required by a client or for tax planning purposes, limit the period during which such a power may be exercised by the powerholder. For example, while an extended period might be prudent when the withdrawal power is necessary to qualify a gift for the annual exclusion, a five and five power in a credit shelter trust given to a surviving spouse can be designed to be exercisable on one day during any calendar year. If the trust must contain withdrawal rights, consider counseling a client to settle or move the situs and administration of the trust to a state with favorable law protecting the powerholder-beneficiary’s interest in the portion of the trust subject to, or previously subject to, a withdrawal right. See, e.g., Subchapter VI of Chapter 35 of Part V of Title 12 of the Delaware Code.
- Draft the trust to continue for a beneficiary’s life rather than providing for outright distributions or unfettered withdrawal rights.
- Do not give a beneficiary a testamentary general power of appointment unless it is required to qualify the trust for a tax benefit (such as is the case with a § 2642(c) trust). If a testamentary general power of appointment is required to qualify the trust for a tax benefit, understand the parameters necessary to qualify for that benefit to design the trust to maximize the protection of its assets from the claims of potential creditors of a beneficiary.
- Consider selecting a forum to settle the trust or move the situs of the trust (and change the applicable governing law) to a jurisdiction with more debtor friendly laws to maximize the protection of the corpus from the claims of potential creditors of a beneficiary. As a corollary to the foregoing rule, under the trust document give an independent trustee the flexibility to move the situs of the trust and change the governing law applicable to the trust in the independent trustee’s sole, absolute and uncontrolled discretion.
- Notwithstanding the holdings in Revenue Ruling 95-58, Wall Estate and Vak Estate, avoid giving a beneficiary the authority to remove and replace any trustee because a court may view it as placing with the beneficiary ultimate control over the trust. See In re Lawrence; In re Baldwin; In re Herzig.
- Give the trustee the authority to distribute income or principal to multiple current beneficiaries rather than a single current beneficiary. Do not provide a statement in the trust document providing that any one of the current beneficiaries is a primary beneficiary or his or her interests must be considered first. Instead, a settlor or testator should consider giving the trustee precatory guidelines in a memorandum or letter of wishes.
- Consider including provisions that might automatically eliminate or suspend a beneficiary’s interest in the trust or give an independent trustee the authority to eliminate or suspend a beneficiary’s interest in the trust. This is a common provision used in many foreign trusts.
- To further protect the assets of discretionary trusts, consider limiting the beneficiary’s access to all or a portion of the trust for the term of the trust or a lesser period (e.g., until age sixty-five (65) the beneficiary can only receive distributions of income from the trust and not principal). Although state law may already protect the assets of a discretionary trust, such limitations may be prudent defensive drafting for “problem beneficiaries.”
- Consider giving an independent trustee the power to distribute the assets of the trust to the trustee of another trust (whether located within the same jurisdiction as the trust or a different jurisdiction). Following the distribution from one trust to the other, the terms of the distributing trust should permit the assets of such trust to be held, administered and disposed of in accordance with the terms of the trust receiving such assets. The independent trustee could also be given the authority to create a new trust to receive such assets. Either the receiving trust or the new trust could provide terms that significantly increase the protection of the wealth that was originally held in the first trust. Of course, any provision permitting such a distribution or appointment of trust property must be carefully drafted to avoid forfeiting a tax benefit. This type of provision is referred to as a “decanting provision” and is commonly found in foreign trusts. See, e.g., Fla. Stat. ch. 736.04117; Del. Code Ann. tit. 12, § 3528; Alaska Stat. § 13.36.157.
- Do not permit a beneficiary to assign any part or all of his or her beneficial interest in a trust to anyone, not even a limited class of individuals such as a beneficiary’s descendants. The authors are aware of some spendthrift provisions that permit such assignments based upon common law prior to the FTC. Other states may have similar exceptions.
HOPE THIS HELPS YOU HELP OTHERS MAKE A POSITIVE DIFFERENCE!
TECHNICAL EDITOR – DUNCAN OSBORNE
LISI Asset Protection Planning Newsletter # 155 (June 9, 2009) at http://www.leimbergservices.com/ Copyright 2010 Leimberg Information Services, Inc. (LISI). Reproduction in Any Form or Forwarding to Any Person Prohibited – Without Express Permission.
Miller v. Kresser, 2010 Fla. App Lexis 6152 (Fla. 4th DCA 2010); Croom v. Ocala Plumbing and Electric Co., 57 So. 243 (Fla. 1911); Fla. Stat. ch. 736.0502; 736.0503; 736.0504; 736.0801; 736.1001; Sligh v. First National Bank of Holmes County, 704 So. 2d 1020 (Miss. 1997); Restatement (Third) of Trusts § 60; Rev. Rul. 95-58, 1995-2 C.B. 191; Wall Estate v. Comm’r, 101 T.C. 300 (1993); Vak Estate v. Comm’r, 973 F.2d 1409 (8th Cir. 1992), reversing T.C. Memo 1991-503; In re Lawrence, 279 F.3d 1294 (11th Cir. 2002); In re Baldwin, 142 B.R. 210 (Bankr. S.D. Ohio 1992); In re Herzig, 167 B.R. 707 (Bankr. D. Mass. 1994); Fla. Stat. ch. 736.04117; Del. Code Ann. tit. 12, § 3528; Alaska Stat. § 13.36.157