Posts Tagged ‘decanting’

Trust Decanting Used to Implement Special Needs Provisions

OCTOBER 10, 2016 VOLUME 23 NUMBER 38
Let’s say that your mother wants to leave an inheritance for your son (let’s call him Daniel), but that Daniel is a minor. How can she arrange his inheritance? By putting it in trust, of course. Pretty commonly, Daniel’s trust might continue until he is 21, or 25, or some other age that your mother might choose. After that, the money can go to him outright. In the meantime, you, or your mother’s accountant or lawyer, or a family member with good financial skills, can manage Daniel’s money for him.

There’s nothing very remarkable about that setup, but one common development can change the story dramatically. What if, before he reaches the age for distribution from the trust, Daniel becomes disabled — or receives a diagnosis that you just didn’t expect when you wrote the trust?

If your mother is still living, of course, she can change the trust provisions to create a “special needs” trust for Daniel. But if she were to die before the family learned that Daniel needed a different type of trust, things could get much more complicated.

If no steps are taken before Daniel turns 25 (or whatever age the trust set), then the trustee will have no choice to turn the money over to him. That will almost certainly mean that he loses some or all of public benefits he receives because of his disability — and he may not be able to manage the money anyway. That could be a bad result.

One response might be for you, as Daniel’s parent and/or guardian, to create a new special needs trust for him after he turns 25. That might require court action, and will result in a pretty tightly-controlled trust document (because the rules are fairly restrictive). This kind of trust is usually called a “self-settled” special needs trust, even though Daniel might not actually be involved in its creation at all. This kind of trust also has to provide that, when Daniel dies later, the state’s Medicaid program will be entitled to make a claim against the trust’s remaining assets — before they pass to Daniel’s other family members.

Another excellent choice in Arizona might be for Daniel’s trustee to “decant” his trust. This notion borrows its name from decanting of wine — the trustee would simply pour (as it were) the trust’s assets from the existing trust container into a new, more appropriate (and special needs) container. But there is some uncertainty about whether that new trust container would have to be a “self-settled” trust — and include the restrictive provisions and payback clause.

It was not in Arizona and does not apply Arizona law, but a recent New York appellate court decision addressed this very question. Daniel’s trustee asked the New York courts for permission to decant his trust to a new special needs trust — but without the payback provision. The trustees gave notice to the state Medicaid agency, and its representatives appeared and objected. Because Daniel would be absolutely entitled to receive the trust balance when he reached the age in the original trust document, they reasoned, the money was really his, and the trust would need to be of the self-settled variety.

Not so, argued the trustee. The money would not be Daniel’s until he reached the age set out in the trust — and in the meantime, state law permitted the trustee’s to move the trust into a new trust, governed by a new document. That meant that no payback provision was required.

The New York Surrogate’s Court (what we would call the probate court in Arizona) agreed with the trustees and allowed creation of a new trust with no payback provision. The Medicaid agency appealed, but unsuccessfully. According to the appellate court, Daniel’s trustee was correct — the new, decanted trust was not a self-settled special needs trust, since Daniel did not have the right to receive the property at the time the new trust was created. Matter of Kroll v. New York State Department of Health, October 5, 2016.

This may seem like a small thing, but the ramifications are actually quite large. If the New York precedent holds up in other states, it will open a terrific opportunity for management of trusts when circumstances have changed (as they so often do). It might be applicable not only when beneficiaries like Daniel reach the age of distribution; it might also apply when a trust contains unfortunate language, or management considerations change.

Will this be the law in Arizona? It is hard to be certain, but each case (and this one is the first) reaching a similar conclusion will add impetus to what we can hope will be a developing trend.

“Decanting” of Trust for Medicaid Patient Challenged

JANUARY 11, 2016 VOLUME 23 NUMBER 2

Jane Murray (not her real name) died in 2003. She had created a number of trusts, including two for the benefit of her daughter Dana. Jane was very worried about Dana’s future, partly because of a long history of drug and alcohol abuse. She included some strong language guiding the trustee about whether and when to make any distributions. She might not have specifically considered long-term medical care, however.

In October, 2013, Dana entered a hospital in Connecticut as a quadriplegic. At the time, the two trusts contained assets of about $1 million, though the money was not actually available to Dana. The trusts were both “spendthrift” trusts, meaning that neither Dana nor her creditors could force any distribution. Both trusts also contained this language:

The trustee shall pay to my daughter or utilize for her benefit so much of the income and principal of her trust as the trustee deems necessary or advisable from time to time for her health, maintenance in reasonable comfort, education and best interests considering all of her resources known to the trustee and her ability to manage and use such funds for her benefits. In exercising its discretion the trustee shall bear in mind that my daughter has suffered severely from alcohol and drug abuse and that I do not want these trust funds to be used to support a drug or alcohol habit or any other activity which may be detrimental to her in the trustee’s sole opinion.

My daughter’s health, happiness and best interests are to be considered foremost in priority over those who will receive the remaining trust funds on her death. Subject to the above considerations the trustee is encouraged to be liberal in its use of the funds for her even to the extent of the full expenditure thereof.

Clearly, Dana’s trusts would be quickly exhausted on her medical care unless she could qualify for Medicaid assistance, and she had inadequate funds from other sources. Could the trustee simply refuse to make distributions for medical care? Would the trust’s assets be counted as available resources for Medicaid eligibility purposes?

In order to address these concerns, the trustee (in Florida) sought to “decant” Dana’s trusts into new trusts with more explicit language about her long-term care costs. Florida law permits such trust modification, and spells out exactly how it can be done, and the trustee followed the law’s directions. The changes were submitted to a court in Florida for approval, and Dana signed a form giving her consent to the decanting.

The two new trusts for Dana’s benefit included language that clearly made the trust assets unavailable for Medicaid eligibility purposes. In that way, the trusts could be preserved to pay for extra or supplemental needs for Dana’s benefit, permitting her to have a better quality of life. The new trusts, and the history of the decanting, were given to the Connecticut Medicaid office for review.

Shortly after the decanting was completed, an attorney for the Connecticut Medicaid office decided that Dana’s trusts were originally “general support trusts”, making them available resources for Medicaid eligibility purposes. To make matters worse, Dana’s consent to the decanting amounted to a transfer of resources for less than fair market value. That would mean that Dana was ineligible for Medicaid assistance with her long-term care needs until 2021.

After an unsuccessful appeal through the Medicaid agency, Dana filed a lawsuit in Connecticut Federal District Court. She asked for a preliminary injunction prohibiting Medicaid from suspending her benefits, and a permanent order finding that the trustee’s decanting should not be counted as a gift by her.

The federal court ruled on the preliminary injunction question last month. It is only a preliminary ruling, and it is only one trial court — and therefore not of much use to establish precedent. It does, however, suggest how courts might view similar actions in other cases.

The judge hearing Dana’s case decided that there was a high likelihood that Dana will prevail when her case finally does come to trial. If the Medicaid agency were to be allowed to suspend her benefits in the meantime, the damage to her would be irreparable. Accordingly, he ordered that Dana will continue to receive Medicaid benefits while her case proceeds.

Even though we will probably not know the final outcome of Dana’s case for months (or perhaps even years), there are some useful lessons to be learned:

  • Inclusion of specific “special needs” language in virtually every trust might make sense. Dana’s mother knew that Dana had problems, but apparently didn’t consider the possibility that Dana might end up in a long-term care setting. A single paragraph expressing her wishes for how the money was to be used in such an event would probably have prevented the current dispute, allowing Dana to easily qualify for Medicaid assistance.
  • Decanting a trust in one state but having an effect in another state, while legally permissible, can lead to confusing results. One problem in Dana’s case was that Connecticut law on the interpretation of the original spendthrift trusts, and the ability to decant the trusts, was different from Florida law. That is not a reason to refrain from using local law, but just a caution that it might make sense to take extra care when multiple states are involved.
  • State law on decanting might require the consent of the beneficiary, or make it easier to complete the process, but it will generally make sense to avoid having beneficiaries consent. Although Dana’s agreement to the decanting was clearly not a “transfer of assets” as the Medicaid agency’s lawyer suggested, it did give him something to raise as an objection.
  • Though interpretations by the Social Security Administration usually are followed by state Medicaid agencies, that is not always the case. In Dana’s case, the Social Security rules clearly provide that her mother’s trusts would not be treated as an available resource. The Medicaid agency here disagreed.

Simonsen v. Bremby, Southern District of Connecticut, December 23, 2015.

The bottom line: trust law and Medicaid eligibility law often have uncomfortable intersections. Slightly different circumstances and different states can lead to big differences in outcomes.

Exercise of a Power of Appointment Should Follow the Document

JUNE 29, 2015 VOLUME 22 NUMBER 24

Clients are often unfamiliar with the concept of a “power of appointment.” If they don’t know what it is, they can be excused for not knowing whether they have one, or how to use it.

Suppose Thomas leaves $10,000 to charities in his trust, but gives his brother Richard the authority to choose which charities. What Richard has is a power of appointment. Because Thomas says that only charities qualify, Richard’s power of appointment is said to be “limited” — in this case, limited to charitable organizations.

Now suppose that another portion of Thomas’s trust says that his other brother (you knew he would be named, Harold, didn’t you?) can decide how to distribute $10,000. Harold’s power of appointment could go to anyone — including to Harold himself. It is a “general” power of appointment.

As you can imagine, it would be good for Thomas to spell out what Richard and Harold have to say, or sign, in order to let the trustee know whom they have selected to receive their respective gifts. Since Thomas had his trust prepared by a capable lawyer (with a sense of whimsy), it says that “the power specified herein may be exercised by Richard delivering a signed, notarized document on blue paper to the trustee on a Wednesday before noon, Mountain Standard time.” Harold’s power of appointment is identical, except that it specifies green paper and afternoon delivery.

Can Thomas impose those (silly) requirements on the proper exercise of the powers of appointment he is giving to his two brothers? Of course he can — nothing in the law of trusts requires sober, businesslike language. The signer of a trust has considerable leeway to impose pretty much any technical requirements he (or she — or they) wish.

That’s the principle involved in a recent Arizona appellate decision. It involves a trust established by a husband and wife, and a power of appointment given to whichever spouse survived the other.

William and Mary Quick signed a joint, revocable trust in 1985. As is often the case, the trust was for their own benefit so long as both lived, and continued to be for the benefit of the survivor upon the death of the first spouse. One unusual provision was included in the trust, though: upon the death of the first spouse, the entire trust would become irrevocable, assuring that the couple’s two sons would receive everything upon the second spouse’s death.

The opinion does not explain whether William and Mary’s two sons were to receive equal shares under the trust’s default terms, but let us assume that they were. One thing the trust did provide, though, was that the surviving spouse would have a limited power of appointment, and could change the shares of the two sons after the first spouse’s death. The only requirement for exercise of the limited power of appointment was that it had to be done by a will, and that the will had to make specific reference to the power of appointment.

Mary died in 2003. A year later, William apparently decided that he wanted to change his sons’ shares of the trust. How did he do that? He signed a new trust document — a “restatement” of the trust — which altered the distribution shares upon his death. William lived for several years after the trust restatement was signed, but no further changes were made before his death, and he did not refer to his power of appointment in his will.

William was the sole trustee of the trust after Mary’s death. Assuming all assets were community property (which we don’t actually know to be true), half of the trust’s assets came from “his” share of the community. We can also reasonably assume that the trust permitted him, as trustee, to dip into the trust’s principal and distribute it to himself, at least in some circumstances. So was his failure to refer to the power of appointment in his will a problem?

One of the couple’s sons thought so, and a legal dispute was inevitable. Both brothers joined in asking the probate court for instructions: was William’s apparent exercise of his power of appointment valid? Should the trustee make distributions between them based on William and Mary’s original scheme, or rely on William’s restated trust document from after Mary’s death?

The probate court decided that what William had done was ineffective. Since the original trust became irrevocable on Mary’s death, and it required William to make any changes in his will, that was what was required. The original division between the two sons would be upheld.

The Arizona Court of Appeals agreed. It was not good enough that William almost did it right. Nor was it sufficient that William had the authority, and his wishes were clear. The trust required that the limited power of appointment must be exercised in William’s will, and that the will specifically refer to the power itself. William’s will did not exercise the power of appointment, or even refer to the original trust (or, for that matter, the restated version). Quisling v. Quisling, June 16, 2015.

Assuming, for the sake of education, that William really did mean to change the distribution shares of his two sons, what should he have done? The easy answer is that he should have followed the trust’s instructions: he could make the change by simply referring to the trust in his will, and no change needed to be made in the trust document itself.

Under Arizona law, though, that probably was not his only choice. William might have been able to “decant” the irrevocable trust into a new trust. He might have been able to withdraw some, most or even all of the trust’s principal and put it into his own name (and, subsequently, a new trust). He might have been able to avoid disputes by entering into an agreement with his two sons about how to handle the trust for the rest of his life and even after his death. But by simply restating the trust, without more, he failed to accomplish his goals. The lesson: exercise of a power of appointment must follow any instructions given with the power itself.

The Developing Law of Trust Decanting

NOVEMBER 3, 2014 VOLUME 21 NUMBER 40

We first wrote about trust “decanting” in this space three years ago. Since then we’ve had occasion to revisit the topic a handful of times — most recently about six weeks ago when we wrote about modifying trusts that no longer seemed to make as much sense, since the estate tax exemption numbers have increased so dramatically in the last fifteen years.

Since the idea first gained currency a few years ago, it has developed quickly. More than half the states in the U.S. have now adopted some form of trust decanting law (including Arizona, which was one of the early states but hardly the first). The state laws vary widely — from very restrictive (permitting trust decanting only in narrow circumstances) to very generous (Arizona, for instance, places very few limits on the kinds of trusts which can be decanted, and almost no limits on the kinds of changes that can be included — our entire statute is only about a dozen sentences long).

But what is “decanting,” and why is it called that? The idea evokes a fine wine metaphor: some wines improve when you simply pour them from the bottle to a carafe before serving. Wine lovers often insist that the wine “opens up” with aeration, and that the decanting gives them the chance to get a little air. There is no doubt that decanting helps reduce the sediment in the wine, if it has any (and the existence of sediment is likely an indicator that the wine was well-made and well-aged). It is not irrelevant that the new container is likely to be a beautiful crystal carafe (rather than a dusty old bottle with weathered label), which will add to the entire sensory experience.

Sometimes decanting (as applied to wine — we’re still developing the metaphor here) can be from one old bottle to another, newer bottle. The wine might then be recorked and returned to the wine cellar for additional aging. This can have the beneficial effect of allowing the sediment to be discarded, and improve the clarity and aging of the wine itself.

The metaphor actually holds up pretty well. Decanting a trust involves pouring (if you will) the trust assets from the older container (the original trust document) into a new, often more attractive, more suitable vessel (the new trust document). This can give new life to a trust of a certain age — whether it will continue for years or shortly be ready for consumption.

Why do we want to talk about decanting just now? Because I have just returned from a Chicago meeting of the Uniform Law Commission, a national group that tries to develop statutes that can be promoted in all U.S. jurisdictions. The notion is that if the law is the same — or at least similar — in all states and territories, then it will be much easier for people to figure out what works and much harder to game the legal system by constantly moving from the law of one state to the law of another.

The Uniform Law Commission committee meeting dealt with a new Uniform Trust Decanting Act, which is being prepared for adoption and distribution in the next year. A lot of progress was made — and the committee participants (formal members and a handful of observers) were dedicated, hard-working and thoughtful about the new proposed law.

A couple of things stood out (to me, anyway) about the project:

  • The uniform law will almost certainly divide irrevocable trusts into two categories before providing for decanting opportunities and limitations: those in which the trustee has broad discretion about distributing trust principal to the lifetime beneficiary, and those in which the trustee’s discretion is limited to a “recognizable standard” (like “for the health, education, support and maintenance of the beneficiary”).
  • Decanting will probably be permissible without court involvement in most cases — the trustee may simply decide that trust beneficiaries are better off with a new trust structure and make the change.
  • Before making some kinds of changes, though, the trustee will need to give notice to all current trust beneficiaries and those who would receive benefits upon the death of the current beneficiary (and sometimes notice will be required to more people).
  • The trust that comes from the decanting process will usually need to have about the same beneficial interests — if the original trust says that trust principal can be distributed to Diane but on her death everything goes to Tom and Dick, the trustee probably won’t be able to expand the list to include Harry. But if Tom is on public benefits, or is in prison, or has an expensive (and dangerous) drug habit, the trustee probably will have authority to modify the terms of the distribution to him.
  • Decanting is not the same thing as modifying or reforming a trust. Each has its place, and in a given case one may clearly be a better choice than the others. But one collective point about decanting, modification and reformation of trusts: today it is a lot easier than it once was to make much-needed changes to existing trusts, and this new statute will accelerate that change in Arizona and elsewhere.

Will Arizona adopt the new Uniform Trust Decanting Act once it is finalized? It’s simply too early to tell, but Arizona has been a relatively quick adopter of other uniform laws. The existing Arizona law would not need to be overwritten — or even modified — so it is likely that Arizona will at least consider the option. Meanwhile, other states with decanting statutes will face the same considerations, and those without existing decanting statutes will have an easy template for adoption.

How Increased Estate Tax Exemptions Affect Existing Trusts

SEPTEMBER 29, 2014 VOLUME 21 NUMBER 35

A lot has changed in American estate planning in the last decade (as you may have already heard). Estate tax thresholds have increased to (as of 2014) $5.34 million. On top of that figure, there is a relatively new concept of “portability” of the estate tax exemption, so that married couples can (more or less) double that exemption amount in most cases. Meanwhile, Arizona has eliminated its estate and gift tax regimens altogether.

It goes without saying, but we can’t avoid saying it: if you haven’t updated your estate plan in the past decade, you should contact your attorney right away about getting that process started. You probably can get by with a simpler estate plan than you needed before, and you can probably make most or all of your decisions on the basis of what you’d like to do with your money, rather than the tax consequences.

Meanwhile, we see a lot of estate plans that have not been updated. Some of those belong to people who have died with their aging wills and trusts in place. We also see a fair number of trusts for people who died years ago, and for whom estate tax liabilities turned out to be unimportant. Is there anything that can be shed to fix tax-driven complications that are no longer needed?

Yes, as it turns out. We do have a couple caveats that need to be mentioned as we open this discussion, though:

  1. We are writing about Arizona tax and estate law, not other states’. If you live in another state, or if your trust is set up in another state, you probably ought to speak with someone familiar with that state’s laws. Keep in mind, though, that the governing law might not be obvious; if your mother wrote a trust in, say, Florida, and died in Tennessee naming a California daughter as trustee, do you know which state’s law applies? Neither do we — the answer is going to be very fact-driven, and so the first question you might want to address with a lawyer is whether you’re even talking to a lawyer in the right state.
  2. Even if Arizona law applies, or the principles we describe here are the same for the state governing the trust, be very careful about generalizing the points we raise here. Discuss them with an attorney, and be alert for the possibility that seemingly small changes in facts can yield entirely different answers.

Disclaimers in mind, we can proceed to discuss what has to be done, and what can be done, with tax-driven estate plans that have not been updated to modern tax concerns. Here are a few examples of what we see:

  • Mr. and Mrs. Johnson created a joint revocable trust in 1995. It provided that on the first spouse’s death, the trust would be divided into two separate trusts. One is called the “decedent’s” trust, and it consists of the separate property of the first spouse to die, plus that spouse’s one-half interest in community property. Since Mr. and Mrs. Johnson are only worth about $1 million, they probably didn’t need such a two-trust arrangement at all — but Mr. Johnson has now died. Mrs. Johnson doesn’t want to go through the bother of dividing assets and, knowing that the estate tax exemption is now several times their combined net worth, she wonders if she can just skip the two-trust part.
  • Mr. and Mrs. Gonzales had a very similar trust. Mrs. Gonzales died in 1999, and Mr. Gonzales actually made the division into two trusts. The “decedent’s” trust is now worth about $1 million, and Mr. Gonzales is tired of paying the annual cost of preparing income tax reports for the trust and providing accounting information to his children (they say they don’t want him to have to do that, anyway). Can he just terminate the decedent’s trust?
  • Mr. and Mrs. Lee have a very similar trust. Mr. Lee is very ill, and Mrs. Lee has been handling their trust for the past several years. The Lees are worth about $6 million. Is there anything Mrs. Lee should be doing with their trust? Assuming Mr. Lee dies before Mrs. Lee, is there anything she should watch out for?
  • Mr. and Mrs. Jorgensen also created their two-trust arrangement in the late 1990s. A very large part of their estate is in Mr. Jorgensen’s 401(k), which names the trust as beneficiary. Is there anything they ought to be thinking about?

Of course the Johnsons, Gonzales’, and Lees could have made changes to their estate plans if both spouses were alive and able to understand and sign changes in each case. But since that didn’t happen, they may be stuck with their estate plans — unless either there is language in the trust or something in Arizona law allowing changes. The Jorgensens are in a little bit different situation, as the decision to name the trust as beneficiary of Mr. Jorgensen’s 401(k) was probably driven by tax considerations that no longer apply.

Let’s deal with the authority to make changes first. We have a couple suggestions for Mrs. Lee, Mr. Gonzales and Mrs. Johnson:

  1. Read the trust. Read it again. It may be hard to parse all the rules, but it will be a productive session. Look for things like the discretion to make distributions of principal, the authority to amend the trust, and any authority the trustee (or the surviving spouse) might have to modify the trust’s terms. Nothing there? Don’t panic. But you can’t just choose to ignore the parts you don’t like.
  2. Talk to a lawyer about Arizona’s law on modification of trusts. Ask specifically about three words: modification, reformation and decanting. Arizona law now makes it easy to change trust provisions in some circumstances — but note that you may well have an obligation not to hurt the interests of the remainder beneficiaries (children, step-children or whoever receives property on the death of the surviving spouse). Know that Arizona’s trust law has changed dramatically in the past few years, and so even if you got advice that nothing could be changed a decade ago, the answer today might be different.
  3. Check with the remainder beneficiaries. They might even agree with you that modification or termination of the trust might be a good idea. Just to be safe, though, talk with your lawyer first; she (or he) might give you a specific idea to discuss with them, or might want to initiate the discussion herself.

Mr. Jorgensen: get in to your lawyer’s office and discuss beneficiary designations. While naming a trust as beneficiary of a retirement account is not necessarily bad, it is usually dangerous and should only be done when you understand exactly what you are trying to accomplish.

Our takeaway: get good legal advice before you just decide to make changes. But don’t despair, as it might be possible to modify old estate plans, even after death.

Challenge to Three-Year-Old Trust Reformation is Dismissed

JANUARY 9, 2012 VOLUME 19 NUMBER 2
With the increased emphasis on (and use of) living trusts for estate planning, we lawyers are seeing more and more cases in which an old trust needs modification. Perhaps the tax laws have changed since a parent or grandparent died. Maybe what once made sense is less defensible in light of modern investment thinking, or the cost of living has caught up with what once seemed like a generous bequest. Family dynamics, always fluid, can change the reasonableness of a decades-old estate plan. Everyone knows someone whose family was once considered wealthy, and now is considerably less so. Any of those scenarios — and dozens of others — can be the basis of a desire to change something that seemed set in stone when the plan was adopted.

That’s when lawyers begin talking about trust reformation or modification. In recent years we have begun talking about decanting — pouring the contents of an older trust into the vessel of a new trust document. Not every state permits decanting, though, and state laws vary in how they approach modification of trusts. That can lead to uncertainty, family friction and even litigation.

Take, for instance, the recent Indiana case involving the trust — and the family — of John and Ruth Rhinehart. In 1997 Mr. and Mrs. Rhinehart established an irrevocable trust for the benefit of their daughter, Julie R. Waterfield. They placed $4 million in the trust, and provided that at least $100,000 per year would be paid to their daughter. When she dies her trust will divide into three new trusts — one for each of her children. Each of those trusts will pay $25,000 per year to the grandchild for whom it is set up.

That was certainly a generous gift, and should help provide for the welfare of the Rhinehart’s daughter and grandchildren for decades. In fact, the trust has grown — as of 2009 it was worth about $22 million. What could possibly be wrong with the Rhineharts’ largesse?

Sometime shortly after the trust was created, Julie Waterfield made a pledge to Indiana University – Purdue University Fort Wayne (IPFW). She promised the University $1.5 million so that a new recital hall could be built in the campus’s new music building — a building, incidentally, named after her parents.

There was only one problem with her pledge. By late in 2002, stock holdings she had expected to use for the donation had become worthless. It appeared that the only way for her to meet her pledge would be to increase the annual payments from the trust established by her parents. She would need not $100,000 per year, but more like $275,000.

She and her lawyer approached the trustees about how to reform the trust to permit the larger distributions. Everyone agreed that if she could get the approval of all of the future beneficiaries, the trust could be modified. The trustees engaged Ms. Waterfield’s lawyer to complete the process, and he filed a court proceeding seeking an increase in the distribution. The Indiana court approved the increase, conditional on getting all eighteen potential beneficiaries — current, future and contingent — to sign consents.

At a family meeting in December, 2002, all three of Ms. Waterfield’s children signed the agreement to reform the trust. One of them requested a copy of the full agreement, and the trust’s lawyer sent him a copy a few days later. Ms. Waterfield’s distributions were increased and, presumably, her pledge fulfilled.

Three years later, two of Ms. Waterfield’s children expressed concern about the increase in their mother’s distributions. They argued that their signatures on the agreement to reform the trust had been obtained by fraud, and they brought suit against their mother and the corporate co-trustee of the trust. Ms. Waterfield and the trustee argued that it was too late — that the statute of limitations on such an action ran out two years after the change was approved. In any case, they insisted, there was no injury to Ms. Waterfield’s children: there would be plenty of money available to fund their annual $25,000 distributions. The trial judge agreed and dismissed the lawsuit.

The Indiana Court of Appeals agreed. The appellate judges noted that both sons’ signatures were on the agreement, that they acknowledged they had gotten a letter from the lawyer which claimed it enclosed a copy of the agreement, and that it strained credulity to think that they would have failed to ask for the referenced enclosure if it had not in fact been in the envelope with the letter. In other words, their cause of action — if they had one — was known to them at least by the date of that letter. In Indiana, the statute of limitations on such an allegation of breach of fiduciary duty is two years — the Waterfield children waited more than a year too long before filing their lawsuit.

Furthermore, according to the appellate judges, the growth of the trust to $22 million — despite several years of increased distributions to Ms. Waterfield — adequately protected her sons’ interest so that they were not injured by the trust reformation. The Court of Appeals rejected their argument that the trust itself was injured by what they insisted was fraudulent behavior. The beneficiaries do not have the authority to bring their action on the basis of injury to the trust, but must show injury to themselves, according to the Court. Matter of Waterfield v. Trust Co., December 30, 2011.

Would the answer have been different in Arizona? Possibly. But it is more likely that the process itself would have been different in Arizona. With adoption of the Arizona Trust Code (a version of the Uniform Trust Code) it has become easier to modify or reform a trust. Some modifications can be done without the court’s involvement at all. Perhaps more importantly, it has become somewhat easier to clearly begin the running of the statute of limitations on claims against trustees under Arizona’s new law.

Decanting: It’s Not Just for Fine Wines Anymore

JUNE 20, 2011 VOLUME 18 NUMBER 22
Imagine this tragic scenario: your 33-year-old son has a serious illness, and requires extensive medical treatment. The good news is that the treatment may well effect a cure. The bad news is that it will be horribly expensive. Right now he qualifies for government assistance with that expense — after all, he hasn’t been able to work for several years. But that eligibility is about to change.

Your mother set up a trust for each of her grandchildren before her death five years ago. Each trust provided that the grandchild would receive his or her share outright at age 35. In two years, your son will be eligible to receive about $250,000 from his trust — and you think it will probably be spent immediately on medical care that otherwise would be provided at no cost to him.

Arizona (and a number of other states — but we’re not in the business of giving advice regarding state laws we don’t know about) now allows the trustee to do something about your son’s problem. It is possible to “decant” an irrevocable Arizona trust into a new trust, so long as a few basic principles are not violated. The new trust could, for example, be a “special needs” trust, allowing your son to still qualify for medical assistance.

The Arizona law is found at Arizona Revised Statutes section 14-10819. If you read it, you won’t find the word “decant” anywhere. That’s because the term is favored among trust lawyers, but not in the law itself. No matter — “decanting” is a pretty good description of what the trustee is doing. Basically, the trust’s assets are being poured from one bottle (the old trust) into a new, similar-but-different bottle (the new trust) and gaining new vigor and complexity in the process.

Your scenario might be different. It might be your daughter who is a chronic spendthrift. Perhaps one of your children married a spendthrift. You might even be the trust beneficiary interested in extending the period of the trust, perhaps for creditor protection purposes.

The amount of money might be more or less than the story we have sketched out here. You might be the trustee, or a bank or private fiduciary might have that position. None of that makes much difference — the trustee of an irrevocable Arizona trust can, unless the trust explicitly prohibits it, usually decant to solve real-world problems that have arisen since the trust was initially created.

The idea is not brand-new, nor unique to Arizona. New York adopted a similar law as early as 1992, and almost a dozen states now explicitly permit decanting. Arguably, the power to decant is not dependent on a state law — though trustees from states where there is no statute might be hesitant about testing that theory.

One requirement for Arizona’s decanting statute to be available: the trust must be an Arizona trust. That usually means that one trustee must be in Arizona, though even that might not be necessary in every case. Another requirement: the trustee must have the discretion to make a distribution to or for the benefit of the beneficiary. In other words, if Grandma’s trust required the distribution of all income directly to Junior but did not permit the trustee to ever reach the principal, decanting might not be an option.

Could you force an Arizona trustee to decant if you were the beneficiary’s concerned parent? Probably not. What if you were the beneficiary and desperately wanted the trustee to exercise its power to decant? Probably not again. Could you decant a trust if you were the trustee and the beneficiary? Oops — we’ve run out of space and time (that’s lawyer talk for “it depends”).

Decanting trusts is an interesting and useful idea. It can help “fix” problem trusts, especially where circumstances have changed since the trust was first established. If you know of a current or looming problem with distributions from an Arizona trust, you might want to talk to an experienced trust and estates lawyer about the options available.

©2017 Fleming & Curti, PLC