Posts Tagged ‘lawyer as fiduciary’

Court Invalidates Will and Trust Naming Lawyer as Beneficiary

JULY 11, 2016 VOLUME 23 NUMBER 26
One principle governing lawyers is obviously and intuitively correct: A lawyer may not prepare a will or trust (or, for that matter, any other document or arrangement) by which a client makes any substantial gift to the lawyer. Similarly, lawyers are precluded from preparing documents giving or leaving anything of value to the lawyer’s close family members, either.

The American Bar Association, in its “Model Rules of Professional Conduct,” codified the principle. Rule 1.8(c) of the Model Rules says:

“A lawyer shall not solicit any substantial gift from a client, including a testamentary gift, or prepare on behalf of a client an instrument giving the lawyer or a person related to the lawyer any substantial gift unless the lawyer or other recipient of the gift is related to the client. For purposes of this paragraph, related persons include a spouse, child, grandchild, parent, grandparent or other relative or individual with whom the lawyer or the client maintains a close, familial relationship.”

That rule has been adopted in 49 states, the District of Columbia and the U.S. Virgin Islands. Some of those jurisdictions may have modified the rule slightly, but the basic principle is pretty nearly universal. It also is clearly appropriate.

But lawyer ethics rules are not the same as laws, and it is not that hard to imagine that an ethically-challenged lawyer might be willing to violate the rule — if he or she could still inherit a substantial estate, it might not matter whether the license to practice law is revoked. Most court decisions dealing with lawyers who write themselves into wills (they are blessedly rare) recognize that the document itself should also be found to be invalid, at least to the extent of any gifts to the lawyer or his/her family.

You may have noticed that there is just one U.S. state which has not adopted the ABA’s Rule 1.8. In fact, California has not adopted any of the ABA’s Model Rules. What California has done, though, is to adopt an even stronger law. Under its law governing wills and trusts, any document prepared by anyone in a fiduciary relationship with the signer is presumed to be invalid — and the law is clear that lawyers are fiduciaries. In other words, California’s go-it-alone approach to this issue results in a stronger proscription than in most states.

That provision was put to the test last month in a case involving 74-year-old California lawyer John F. LeBouef, who was accused of having prepared (and possibly forged) a will and trust naming himself as principal beneficiary of a client’s $5 million estate.

LeBouef’s client, himself 73 years old at the time of his death, had been in poor health since the death (seven years before) of his life partner. The client was reported to have serious problems with alcohol, to the point that neighbors reported that he frequently would fall down in his home, howl like a dog, and occasionally soil himself.

The client had two nieces who were probably named as his principal beneficiaries in a will and trust he signed in 2006. “Probably” because, as it turns out, the original documents were lost — in a burglary of the client’s home after his death, in which his prior estate planning documents (and LeBouef’s laptop computer) were among the only items stolen. At trial, the probate court judge found LeBouef’s testimony about the burglary, the preparation of the new documents, and the client’s intentions all unbelievable.

Some part of the judge’s incredulity was related to LeBouef’s prior behavior. It developed that, after he helped an 86-year-old caretaker claim a $2.5 million inheritance from the estate of the man she had cared for, LeBouef’ marred his client (he would have been about 60 at the time) and, ultimately, inherited the bulk of her estate. Meanwhile, another, 90-year-old, client of LeBouef’s had left most of her $1.3 million estate to LeBouef’s life partner (and business partner), Mark Krajewski. LeBouef had prepared the four amendments to that client’s trust, of course.

After the California probate judge invalidated the will and trust naming LeBouef, she also ordered him to pay the client’s nieces over $1.2 million legal fees — those fees and costs were incurred in their successful challenge of the documents prepared by LeBouef. Perhaps the most impressive act of bravado, though, was LeBouef’s final request of the probate court: he asked the court to approve payment of a fee to him for acting as trustee during the litigation, including a separate fee for managing the trust’s real estate (including the decedent’s home, in which LeBouef lived for three years rent-free). The probate judge declined the request.

The California Court of Appeals reviewed the case and, in a strongly-worded decision, approved the probate court’s rulings on every score. In fact, the Court of Appeals directed that a copy of its decision should be sent to the State Bar of California and to the local prosecutor’s office. “We express no opinion on discipline and/or the decision to initiate criminal prosecution,” wrote the Court. Butler v. LeBouef, June 20, 2016.

Lawyer, Acting as Trustee, Challenged for Self-Dealing

One of the great advantages of a trust can be the ability to bypass court supervision and review. One of the great disadvantage of a trust can be that it bypasses court supervision and review. A recent California Court of Appeals decision highlights the problem nicely — and at the same time provides a warning for trustees.

California attorney Douglas Mahaffey represented Tom Matthews (not his real name) in a personal injury action in 1992. He helped Matthews recover a $3.5 million settlement, and then agreed to act as trustee, handling his client’s money. One concern lawyer and client shared was Matthews’ possible exhaustion of the funds; they agreed that a separate trust would be set up to protect $356,967 for the benefit of Matthews’ daughter Katrina (not her real name). Mahaffey would act as trustee of that trust, as well.

Four years after Katrina’s trust was set up, Mahaffey loaned himself $210,000 from the trust. He signed a note, with an indicated rate of 8%. There was no security for the loan — Mahaffey did not pledge his home, his office or business, or any other assets to protect the trust from default. His law firm did guarantee the note, indicating that if he did not make payments the firm itself would be liable.

Mahaffey did not make payments on the loan, and did not tell anyone about it at the time. Later Matthews, the father of the trust beneficiary, found about it, and Mahaffey asked him to sign a a set of documents ratifying what Mahaffey had done with his, Matthews’, money. After Katrina reached her majority she found out about the loan and sued Mahaffey.

A California judge agreed with Katrina that Mahaffey should not have loaned himself the money, but also that his motivation included a desire to “protect” Katrina’s money from, among other things, the possibility of litigation brought by Matthews against Mahaffey. Nonetheless, the judge removed Mahaffey as trustee, ordered him to repay the loan immediately, and added interest of almost another $200,000, and imposed additional interest of $110/day for each day the sums remained unpaid.

The California appellate court reviewed the record (after Mahaffey appealed) and concurred with the outcome. The appellate judges noted that “the trial judge went easy on Mahaffey.” The court notes a number of items in the litany of objections to Mahaffey’s administration of the trust:

  1. The loan was self-dealing, even if Mahaffey motivation was not abjectly self-interested. He should not have loaned trust money to himself.
  2. The interest rate (8%) was slightly less than the “prime” interest rate at the time. That made the self-dealing more obvious and problematic.
  3. The fact that the note called for no actual payments — not even interest — for 10 years, and that it was unilaterally extended by Mahaffey when it came due, further showed his self-dealing. In fact, no payments were made on the note at all until 2002, and then only interest payments were made up until the time of trial.
  4. The failure to adequately secure the loan was another strike against Mahaffey. The significance of that failure was not truly evident until after the trial; the appellate court notes that Mahaffey and his law firm filed for bankruptcy after the judgment was entered but before the appeal was decided.
  5. The opinion is replete with information about another trust Mahaffey administered — the trust for Matthews, holding the rest of his lawsuit settlement proceeds. It turns out that Matthews separately sued Mahaffey for mismanagement, but that lawsuit had been dismissed because it was filed too long after Matthews learned of the items he later complained about.

It is easy to criticize what is appears to be obvious self-dealing by a trustee after the fact. What happens time and again, however, is that trustees reach a tipping point by degrees — first rationalizing that they will pay interest rates above what the trust could get in other investments, then by adding the thought that they are good credit risks, then by rationalizing that it saves everyone time, money and taxes to keep the transaction in the trust “family.” The right answer: just say no. If you are a trustee, do not borrow money from the trust. Period.

As the Court of Appeals noted in this instance: “It is strong poison for attorneys who double as trustees to make loans to themselves.” Indeed. It is equally strong poison for any other trustee, though attorneys face the additional risk of losing their law licenses as well as being removed and surcharged for self-dealing. Although the appellate opinion does not indicate what has happened or might happen, Mahaffey could still face discipline or even disbarment by the State Bar of California. Grunder v. Mahaffey, November 7, 2012.

A critical reader might note that nothing about the description here explains our introductory observation. Trusts ordinarily do not have to be supervised by any court — that is one of the primary selling points for trusts, in fact. We generally agree. The cost of posting a bond, filing periodic accountings with a court and giving formal notice can be high, and there is often no need to seek an independent review of trustees’ behavior. But there is a trade-off involved. If the informal and extra-judicial alternative of trust planning is being considered, there really ought to be some way to monitor the trustee’s behavior.

Could Matthews, in the story told above, have demanded accountings, and more closely followed Mahaffey’s actions? Undoubtedly. Would that have prevented the self-dealing, or at least caused it to be cured earlier? Perhaps. But the very advantages of trusts (privacy, lack of formal accounting requirements and limited independent oversight) can often lead to the largest risk inherent in trust administration.

How is a thoughtful planner to respond? Pick your trustees carefully (you might, for instance, want to know how often the trustee acts in that capacity), and then provide a monitoring mechanism (accountings to a trusted third person, perhaps). It can be a challenge to balance efficiency and risk.

Some More of Our Readers’ Questions Answered

Two weeks ago we answered some of our readers’ frequent questions, and we solicited more. We heard from several of you with good questions of general interest. Among those (with identifying information and some details stripped out):

My wife and I do not have any obvious family member to handle our estates. Whom should we name as executor? Most (but not all) married couples will leave administration of their estate in the hands of the surviving spouse after the death of one spouse. Most (but not all) will name one or more of their children to act in the case of simultaneous death, or upon the second death. But what are your choices if you do not want to name your children, or if you have no children?

Of course you can name other family members to handle your estate. Some clients even name parents, although of course it is uncommon for parents to live longer than their children. Siblings, grandchildren, cousins can all be good candidates. Cousin Emily, the lawyer in Illinois, might be a perfectly good candidate. Same for nephew Dale, the CPA in California.

Some clients — occasionally even those with children — may choose to have a professional named to handle their estate. In that case there are at least four types of choices to consider:

1. Bank trust offices. Not all trust companies are related to banks, so we do not mean to limit the choice to bank trust companies — but the image of a bank officer acting as trustee is at least a little bit familiar to most. The good news: it is likely that your bank trust department will still be around, even long after your death. Even if it changes names, or merges with another bank, it will still exist and be identifiable. We can safely predict what the bank trust office will look like, and how it will make its decisions, even well into the future; we have several centuries of experience to draw on in describing how a trust company works.

There are two problems with trust companies for many of our clients. First, the banks have begun to set their fees and selection criteria to favor larger estates. For many banks, that means that they are not interested in acting if your estate does not exceed a million dollars in value — though many banks’ minimums are half that, and banks will often accept estates that are less than their stated minimums.

The other objection we often hear to naming a bank: they tend to be an expensive option. To administer a continuing trust, most banks will charge between 1% and 1.5% of the value of the trust each year (although the precise figures vary widely and are often negotiable). To handle the administration of an estate that will be closed in a year or so, the bank may charge 3%-5% of the value of the estate — or more, if there are complicated assets, difficult administration issues or a modest estate.

Banks also tend to be very conservative organizations, with plenty of rules and a complicated decision-making hierarchy. They may decline to handle real estate, for example, or have a very methodical and inflexible approach to investments or to making distribution decisions. For many clients that is exactly why the banks are a comfortable choice. For others, that can make them look less attractive.

2. Professional fiduciaries. In recent decades an industry of non-bank private fiduciaries has grown up in Arizona (and in many other states). There is even an organization of professional fiduciaries — the Arizona Fiduciaries Association. If your estate is too modest to interest the banks, or if you anticipate that there will be a need for a lot of personal oversight (if, for example, you want to set up a special needs trust for your child who has a disability), the non-bank fiduciaries may be an option.

The good news: the ranks of professional fiduciaries include social workers, accountants, lawyers, money managers, and individuals with a variety of backgrounds and interests. There is a high likelihood that you can locate someone who will be a good fit for your personal situation.

There are a number of problems with naming professional fiduciaries to handle your estate, however. First, the individual fiduciary is probably (we might even say “likely”) mortal. They might not outlive you, in fact — and they probably won’t still be around to handle the trust you set up for your great-grandchildren. Unlike the centuries-long experience with bank trust companies, we do not yet know what the professional fiduciary industry will look like decades into the future.

Private fiduciaries can also be expensive. Many private fiduciaries will charge hourly rates (which tends to save some of the expense, though it can actually increase the cost). Some will charge amounts similar to those charged by bank trust companies — though they may provide additional services, like care management, in those similar costs.

3. Other trusted professionals. Many of our clients choose to name their accountant, or their investment adviser, or their lawyer, to handle their estate. Yes, that can sometimes mean they name our office, and we are willing to name ourselves in documents we prepare — though we encourage clients to think of us as a last choice.

The good news: if you name someone who has already been involved in your life you increase the likelihood that the “fit” will be good. As you continue to work with the person named in your estate plan, you can periodically re-assess that fit and modify your estate planning if it becomes an issue. You will also have a fairly good idea of how rates are set, and whether the costs are reasonable.

As with other non-institutional fiduciaries, one big problem with the professional adviser is (how do we say this delicately) a general lack of immortality. Your accountant’s firm may continue for years after your own accountant dies (or retires), but are you comfortable in predicting that it will have the same values, principles and personality?

4. Friends. Sometimes clients name long-time friends to handle their estates. They may reason that friends’ values and reliability are known quantities. Friends, in turn, are likely to know your values and to make decisions in a way that you would have approved, had you still been around to monitor the administration of your estate.

The good news: friends tend to be less expensive than most of the professional choices, and there is indeed a high likelihood that they will know your family situation and personal values. If you name a close friend, however, you should periodically pull out your estate plan and reconsider whether it remains the right selection — our personal relationships do tend to fluctuate over time.

The bottom line: there often is not a perfectly obvious answer. It can be challenging to balance costs, availability (over the long term) and suitability to come up with the best choice to handle your estate. And we haven’t even discussed the differences between naming a personal representative for your will (the more modern term for the commonly-used “executor”), a trustee for your trust (what many people actually mean when they say “executor”) and an agent for your power of attorney (the role that is often most important while you are still alive). Maybe another day. In the meantime, keep those questions coming.

Protecting Clients From Their Own Mistakes Can Be A Challenge

DECEMBER 14 , 2009  VOLUME 16, NUMBER 64

Preparation of an estate plan is more than the individual documents. A good attorney considers the client’s circumstances and wishes, and analyzes the best course of action. The process requires the attorney and the client to communicate, and to work together.

Too often, however, problems arise after the attorney’s work is done. Clients are often pulled in different directions by family members, bankers, accountants, and other professionals. Television, radio, newspaper and magazine presentations aimed at mass audiences may confuse or mislead the client. Even if the client resists all of those voices, documents may get lost or inadvertently destroyed. What is a conscientious estate planner to do?

Many lawyers routinely hold on to original documents prepared for their clients. The best argument for doing so: it helps prevent accidental destruction or loss of the documents, and makes it harder for clients to make inadvertent changes.

Other lawyers do not like the practice. It takes considerable resources to manage a large collection of original documents. Holding on to originals also conveys the (false) impression that the children or other successors must return to the same lawyer later for administration of the estate.

A small minority of lawyers regularly prepare multiple originals of wills, trusts and powers of attorney. If one original document is in the lawyer’s office, at least it will not be misplaced by the client. This approach also helps reduce the concern that family must return to the same lawyer, since originals in the client’s possession can be used without the lawyer even knowing about the disability or death of the client.

Neither of these techniques does much to protect against the client becoming subject to undue — or unwise — influence. The scenario is common enough to be clichéd: the carefully considered estate plan prepared while the client is clearly competent is changed at the behest of a grasping relative or friend without the original lawyer ever being consulted or even advised.

One Illinois lawyer came up with an unusual way to protect against inadvertent or misguided changes to his clients’ estate plan. Attorney Lawrence Patterson included a provision in at least one married couple’s documents. It prohibited revocation or amendment of the estate plan without the attorney’s written consent.

Was Mr. Patterson’s approach effective? That depends entirely on how one defines “effective.” He has now been sued by his former clients AND is the subject of a pending ethics complaint through the Illinois Bar. Did he “overreach,” or was his concern for clients “admirable?”

We offer those two terms advisedly. They appear in two of the available documents responding to Mr. Patterson’s approach. Here is what has happened in the public record so far:

First, Mr. Patterson’s clients visited a new lawyer to modify their estate plan. The new lawyer wrote to Mr. Patterson, asking him to acknowledge that the clients had the right and power to do that. Mr. Patterson wrote back, telling the new lawyer that he would first need to meet with the clients to “determine whether the changes are consistent with the interests and protections embodied in the original plan.”

Rather than meet with Mr. Patterson, his clients filed a lawsuit seeking a declaration that Mr. Patterson could not control whether they amended their estate plan. The trial judge agreed, dismissing Mr. Patterson’s objections summarily and assessing legal fees and costs of $5,393.75 against him. Mr. Patterson appealed both determinations to the Illinois Court of Appeals.

Meanwhile someone (it may have been the clients, the opposing lawyer or even the judge in the trial case) notified the Illinois Attorney Registration and Disciplinary Commission of Mr. Patterson’s refusal to consent to the changes without first meeting with his (now) former clients. The Commission (which regulates lawyers practicing in Illinois) filed a two-count complaint against Mr. Patterson for what it saw as “overreaching.”

Interestingly, the first count in the ethics complaint dealt with an entirely unrelated matter, in which Mr. Patterson brought a guardianship petition against a client when she disagreed with his advice in a contested probate matter–a practice we have previously written about in another unrelated case out of Washington State. The ethics complaint against Mr. Patterson is still pending.

Then the Illinois Court of Appeals ruled on the lawsuit against Mr. Patterson. Its analysis indicated that his clients had given Mr. Patterson a fiduciary role over and above his standing as their attorney. They had made an irrevocable decision, according to the appellate court, to give him the power to oversee their estate planning changes in the future. Even though they subsequently fired him as their attorney, he remained as the arbiter of their future estate planning changes.

Far from criticizing him for his role, the Court of Appeals found his conduct to be “admirable, and consistent with the highest ideals of the bar.” The appellate court noted that the documents prepared by Mr. Patterson gave his clients the power to seek court approval of any change if they did not want to deal with him, and that his power was tempered by a duty to act as a fiduciary for his clients. “In light of the obvious expense to Patterson,” noted the appellate court with understatement, “we will leave it to other estate planners whether they wish to use this particular method of estate planning.” Dunn v. Patterson, November 18, 2009.

Note: we owe a considerable debt to the research work on Mr. Patterson carried out by Illinois estate planning attorney Joel Schoenmeyer. His excellent, entertaining and informative blog “Death and Taxes” has tackled the Patterson case, as well.

©2016 Fleming & Curti, PLC
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