DBTC Law Firm

Estate Planning and Probate

Powers of Attorney: They Mean What They Say.

Powers of attorney are documents used to designate a person (the attorney-in-fact) who is authorized to act for the signer under particular circumstances (a limited power of attorney), or generally (a general power of attorney), and may be drafted to allow the attorney-in-fact to act even after the signer becomes incompetent (a durable power of attorney). In one recent case, a durable power of attorney giving the attorney-in-fact the power to sell real property on any terms he deemed appropriate was interpreted to allow the sale of a home for $10.00.

The Arkansas Court of Appeals’ decision in Shriners Hospital for Children v. First United Methodist Church of Ozark, 2018 Ark. App. 216 (March 28, 2018) provides a cautionary tale for those who draft, and sign, powers of attorney. In that case, L.G. Foster made a will in 2008 that designated Shriners Hospital as the residuary beneficiary of his estate. In 2012, Foster signed a codicil to his will directing his executor, Frederick Romo, to sell Foster’s residence and contents and distribute the proceeds to Shriners if Foster still owned the residence at his death.

In March of 2013, Foster signed a durable power of attorney, naming Romo as his attorney-in-fact. Importantly, the power of attorney did not give Romo the power to make a gift. It did, however, give him the authority to sell Foster’s real property “at such times, in such places, and upon such terms and conditions” as the attorney-in-fact deemed “appropriate”. In April of 2013, Romo sold Foster’s residence to the First United Methodist Church of Ozark for $10.00. Foster died in May of 2013. In 2014, Shriners filed suit against the Church, contending that the residence should have been included as part of Foster’s estate and should have passed to Shriners under Foster’s will. (Although the opinion does not state the value of the home, it is a reasonable assumption that it was worth enough to justify the cost of a legal challenge.)

The circuit court ruled against Shriners and in favor of the Church and, on Shriners’ appeal, the Court of Appeals affirmed the lower court. Shriners argued that the sale of the residence to the Church for only $10.00 was in essence a gift and that Romo had no authority under the power of attorney to make a gift. The appellate court disagreed with Shriners, noting that if there was no fraud or deception, the question of consideration – the amount of money paid in exchange for the property – is immaterial. The court found that there was no fraud or deception in this case, relying on the affidavit of Romo stating that Foster had decided he wanted the Church, and not Shriners, to receive his residence; that Foster desired to transfer the residence to the Church before his death to avoid having to execute a new will; and that because the power of attorney did not authorize the making of a gift, Foster was fine with selling the residence to the church for $10.00. According to the Court of Appeals, because a donation was not possible under the terms of the power of attorney, “[n]ot only was this sale within the letter of Romo’s authority under the power of attorney to convey Foster’s real property upon such terms as he deemed appropriate, it was also within the spirit of the power of attorney.”

There is a lesson to be learned from this case: be very careful with the wording of any power of attorney you draft or sign, and think through its potential consequences, because that document will likely be interpreted as meaning exactly what it says.

The “terror” of no-contest clauses

Clients, seeing or hearing of bitter and expensive legal disputes in other families over estates, concerned about their own family engaging in such disputes after their death, or both, often seek to avoid that by requesting their attorney insert “In terrorem” (Latin– “about fear”) or “non-contest” provisions in their wills or trusts. Simple in concept, these clauses rarely serve the intended purpose and, as a recent decision of the Arkansas Court of Appeals demonstrates, can cause, as well as resolve, probate litigation.

Such a clause in a will or trust may read, “any beneficiary challenging the validity or distribution of this will or trust shall be disinherited and take nothing.” Clients do not realize the various ways that estate litigation can, and sometimes should, arise: Has the executor or trustee who controls the estate after the death of the client actually stolen from or been negligent with the assets of the estate? Was grandma competent, or because of age, senility, poor judgment and ungrounded fears, actually incompetent or under substantial improper influence when she signed such a will or trust giving her entire estate to Hari Krishna? Is the language of the will or trust truly so ambiguous that how it should be distributed is completely uncertain? Families and next of kin feel strongly and morally justified to set such wrongs right, but barring the door is a “no-contest” clause!

In a recent decision, the Arkansas Court of Appeals refused the request of one son to enforce an in terrorem clause against his brother because neither son abided by their mother’s wishes or the terms of the trust. Scott v. Scott, 2016 Ark. App. 390. Our courts have also generally ruled that when a challenger of a will prevails on whatever claim they have, the no-contest clause is deemed inapplicable. So, has it really accomplished anything? One must also realize that the sanction of taking nothing from the will or trust has no validity if the purported beneficiary is given nothing in the first place: a prodigal child is given one dollar in the will, but faces the sanction of losing “everything” if he challenges the will– really what does he have to lose? To make this work against a beneficiary to whom the client may want to leave little, the client will have to leave that beneficiary enough that he risks a significant forfeit if he does challenge the will.

In summary, most if not all of the claims against a will or its administration that a “no-contest” clause may stop can nevertheless be asserted, may prevail, and perhaps should prevail. That is not to say in very carefully considered circumstances, a properly and carefully conceived and drawn no-contest clause could effectively and substantially diminish the possibility of spurious estate litigation, but such a clause is almost never the simple, “cut out the bad apple” result that clients would presume when using one.

A Jewel Falls from the Crown of Qualified Retirement Plans– Inherited IRAs are No Longer Immune from Creditor Claims.

Since the mid-1970’s, qualified retirement plans in all forms (profit-sharing, pension, IRA, SEP, 401K, etc.) have been the crown jewels of financial planning: funded with before-tax dollars, compounding rapidly in tax-deferred investments, and protected in bankruptcy from creditors.  What could be better?  A recent Supreme Court decision took one of the jewels from the crown when it found that inherited IRAs are not protected from creditors.

In the approximately 40 years since qualified retirement plans took center stage, their favored status  has been proven by the fact that they now own close to a majority of the publicly traded stocks in the United States, trillions of dollars’ worth.  Available in many forms, they allow earned income to avoid income taxes when first invested in the plan; the plans then grow rapidly because the  earnings  compound annually without income taxes being assessed against the growth; and finally, in the payout years, when income taxes are assessed, tax brackets are typically much lower than the years when the contributions and earnings were accruing.  As if this weren’t enough, such plans are flexible, allowing transfers from one plan to another, or rollovers to an IRA, and permit one spouse to inherit them from another spouse without paying either estate or income taxes.  All of this is significantly enhanced by the fact that such plans are generally immune from the claims of creditors, even when the owners of those funds file bankruptcy.  In recent years, it has become legally possible to inherit IRAs, so that succeeding generations may continue the deferral of income on these growing assets.

Finally, one jewel has fallen from this many-faceted crown of the investment world.  In its decision of June 12, 2014, the United States Supreme Court decided in Clark v. Rameker that inherited IRAs are not exempt from the claims of creditors.  Pointing out the many, significant differences between an inherited IRA and one that has been created by a person’s own earned income, the Supreme Court refused to make such assets immune from creditors’ claims in bankruptcy.  In that case, Ruth Heffron died and left her IRA of $450,000 to her daughter.  Her daughter had drawn it down to about $300,000 when she was compelled by her debt situation to file bankruptcy.  The exemption of inherited IRAs from bankruptcy claims had been a topic of much speculation and contradictory rulings in lower courts.  The daughter argued that the IRA funds should be preserved to her through the bankruptcy because they were retirement funds.  The Bankruptcy Court agreed  with creditors that the funds could be seized; the United States District Court for the Western District of Wisconsin reversed the Bankruptcy Court, and was reversed in turn by the U.S. Court of Appeals for the 7th Circuit, landing the long-pending question before the U.S. Supreme Court.  It is now clear and final that inherited IRA funds are not exempt in bankruptcy from the claims of creditors.

That is not the end of the story.  There remain ways to continue the deferral of income tax on such funds for the benefit of successor generations, after the contributor’s death, while protecting such funds from creditors (see our April 7, 2014 post on Spendthrift Trusts). However, this is a far more complex arrangement than simply naming your heirs as beneficiaries of your IRA, and requires specialized legal assistance and planning.

Putting Family Wealth Beyond the Reach of Creditors: Using the “Spendthrift” Clause.

An ancient and often overlooked drafting technique can have huge ramifications for preserving family wealth, and regularly disappoints creditors of the “wealthy” when debts are not paid. This is the “spendthrift clause,” which has existed under both case law and specific state statutes for centuries. Its concept is simple: when assets are put into trust for various beneficiaries, typically a spouse, children or descendants, if the trust includes a “spendthrift clause” which specifically prohibits the trust assets from being sold, assigned, mortgaged or seized by creditors, then it is possible for the beneficiaries to receive substantial, continuing, long-term benefits from the trust, while all of their creditors are “frozen out” from recovering any unpaid debts from the trust. Sometimes, this creates great surprise to creditors who believe they are dealing with a wealthy person, who lives in an expensive house, drives expensive cars, takes expensive vacations and lives well – all as the beneficiary of a spendthrift trust which the creditor cannot reach. Families are wise to include trusts with spendthrift clauses in their estate planning, and it is essential for creditors of all kinds to scrutinize these trusts before extending credit, lest they find themselves without remedy to collect their debts.  A recent federal case decided in Arkansas, and confirmed on appeal at the United States Court of Appeals for the Eighth Circuit (Wetzel vs. Regions Bank), protected $2.4 million of assets left by a husband for his wife and those assets survived intact for her when she later filed bankruptcy. The Court ruled that the creditors in bankruptcy could not touch the money, because it had been left in a spendthrift trust for the benefit of the wife; the wife then discharged in bankruptcy all of the debts of the creditors, retaining nevertheless the full assets of the trust and her beneficial interests in it.

A spendthrift clause has different important perspectives. From the perspective of a wealthy family, it becomes a tool to preserve almost indefinitely the family wealth for the benefit of the descendants, despite their financial imprudence or misfortunes. From a creditor standpoint, it is very much a trap for the unwary, if the creditor in making lending decisions does not discover that the source of the borrower’s apparent wealth is actually a trust with a spendthrift clause which, for all practical purposes, makes the borrower a very bad credit risk. From the aspect of the estate planning draftsman, it requires care to ensure that the spendthrift clause is properly drafted so that it will provide the family the protection needed.

Clients will regularly ask if they can establish a trust for their own benefit which includes a spendthrift clause, so that they can use their wealth but protect it from creditors. On its surface, this appears to be a valid use of the technique. However, another legal doctrine, that of “self-settled trusts,” generally holds that a person cannot put their own assets into trusts, retain the benefit of them and still defeat the claims that creditors would make against the trust. In summary, a self-settled trust cannot enjoy the protections of a spendthrift clause.

It is thus a cardinal principle that spendthrift clauses can only be used to protect beneficiaries when the money in the trust comes from another source– typically a parent, grandparent, spouse or other family member who has created the trust with wealth during life or at their death. Even with a valid spendthrift trust in place, which has been funded by a third party gift or bequest, the strength of the spendthrift clause is defeated if the trustee of the funds is also the beneficiary of the funds. Thus, leaving funds in trust for a surviving spouse or surviving children, and making that spouse or those children the trustee for their own benefit, has caused some courts to set aside the spendthrift clause because the decisions to distribute are not truly independent of the beneficiary’s own desires. In such cases, it is advisable that the draftsman provide alternate trustees, and if the beneficiary foresees financial difficulties, that they resign in favor of an independent trustee.

Used in ancient English law, the spendthrift clause remains a very viable and effective technique for family wealth planning.

Too smart for their own good: unintentionally leaving everything to the just-divorced spouse

Most people in the uncomfortable throes of a divorce want to ensure that upon the conclusion of the process, their property salvaged through difficult proceedings will not go, in the event of their subsequent death, to their former spouse.  Both estate planning attorneys and divorce lawyers are aware of this and typically take steps to ensure it won’t happen.  From another practice angle, revocable trusts are generally considered the “smart” or “best practice” alternative for estate planning – but in divorce cases can become a trap for the unwary, of which both clients and lawyers need to be aware. Our experience in a recent case shows that the intersection of divorce and estate planning law and circumstances can result in a divorced spouse receiving the ex’s entire estate.

 

To the extent the settlement agreement or divorce decree doesn’t specifically resolve all property interests, Arkansas law provides a backstop for the presumed intent of the parties. Arkansas Code Annotated Section 9-12-317 (see End Note), provides that upon divorce, any property owned by the divorced parties with rights of survivorship is automatically converted to property held as “tenants in common” where each is deemed to own one-half, with no survivorship rights.  And Arkansas Code Annotated Section 28-25-109 provides that a will or any part thereof is revoked by a divorce as to all provisions in the will in favor of the divorced spouse. One would think (and probably many divorce lawyers presume) that this provision, without further action, takes care of any estate planning done during the marriage by writing the divorced spouse out of it.  Wrong.

 

It has become very popular in recent years to avoid probate proceedings by setting up a revocable trust, which holds all of the clients’ property, is managed by the clients as trustees for their benefit as beneficiaries and has terms identical to what would be typically found in a will for disposing of their property at death. If, indeed, all of the clients’ property is owned by the trust at death, the successor trustee assumes duties and administers and distributes the trust assets informally, completely avoiding probate, and any related costs, hassle and delay. An adjunct will is also drawn, to catch any property that may not have been titled to the trust at death and directs it to the revocable trust so that all of the property will be held in a single “pot” and distributed according to the comprehensive directions in the trust.  Such wills are referred to as “pourover wills.” Revocable trusts are unquestionably a valuable estate planning tool; a complete discussion of them is beyond the scope of this brief post.  However, in a divorce situation, they become a trap for the unwary.

 

Arkansas statutes do not address any effect that a divorce may have on a revocable trust. Thus, if the parties’ house or investment accounts are owned in a trust, which leaves everything to a surviving spouse, unless the divorce settlement or decree specifically addresses those assets, post-divorce, they will still be owned by the trust, and upon the death of the first ex-spouse, will all pass to the survivor.

 

Most attorneys would catch this, and make sure the trust properties were specifically addressed and resolved in the divorce.  Here’s the trap for the unwary: The couple has a revocable trust which holds all of their property, leaving it all upon the first death to the surviving spouse; divorce occurs; the attorneys and court very carefully define and distribute the trust-held property equally between the parties.  Ex-husband later dies, holding separately in his own name half of the formal marital property.  Ex-husband (and apparently his attorney), relying on Arkansas law to void any will provisions for a surviving spouse, has not amended his will.  However, his will, drawn during marriage, leaves nothing to the surviving spouse, but being a pourover will, leaves it all to their (still existing though empty) revocable trust – which has as its primary beneficiary the now divorced wife.  Because the will itself has no “provisions . . . in favor of the testator’s spouse so divorced,” it is not revoked; under applicable law, the revocable trust is a separate legal entity, as distinguished from the ex-wife, and thus receives all of the ex-husband’s estate for the benefit of his ex-wife –  though undoubtedly this is contrary to the deceased ex-husband’s final wishes.  The conclusion: Any divorce proceedings should be accompanied by concurrent, focused and careful estate planning.

 

(End Note:

Arkansas Code Annotated is an indexed organization of all of Arkansas’ written laws, available on the internet; search for “Arkansas Code”  or go to http://www.lexisnexis.com/hottopics/arcode)

Huge (!) development in estate and gift tax law.

On January 2, 2013, President Obama signed into law the American Taxpayer Relief Act of 2012.  Generally, it “kicked the can down the road” for a few months on the pending “fiscal cliff,” but it permanently enacted one of the most significant changes in estate and gift tax law in the last several decades.  Now couples, with proper estate planning, can leave up to $10.5 million  in estate value to their chosen beneficiaries without paying any federal estate taxes.  This resolved a vast amount of uncertainty and difficulty which has existed in the estate planning area for the last several years. Continue reading

Who Needs An Estate Plan? You Do! When Do You Need To Update Your Estate Plan? Probably Now…

Many people assume that they are not wealthy enough, their affairs are not complicated enough, or that time is not ripe for implementing an estate plan, such as a Will, Power of Attorney, Living Will document, etc. Usually, they are “dead” wrong: if you have minor children, regardless of your wealth or lack thereof, the formal designation of guardians for them is essential. Many married couples assume that their spouse will inherit their property, so they do not need a Will.  Again, wrong: the spouse is second in line to inherit most of your assets, after the children. Even a relatively modest amount of less than $100,000 left to a child can literally eat itself up with guardianship administrative expenses, or be disbursed to that child regardless of his or her  maturity at age 18, if you do not establish a trust to take care of your children’s inheritance, both to save the administrative costs and avoid squandered distributions. Even inexpensive real estate (including timeshares) that are owned in more than one state will require two probates, where the cost of probating can eat up a modest estate– all avoidable with relatively simple estate planning. Finally, many people think that once they have implemented a Will and/or Trust, they are “done”. The one thing that does not change about life is the fact that it changes: your relationship with people who would serve as your executors, trustees and guardians can change throughout the years; children can mature rapidly (or unhappily fail to mature), changing how their inheritance should be treated; your wealth and how it is comprised in assets, and the effect of the tax laws, can all change over a few years. Though a “checkup” may only require a short phone call with your estate planning attorney, estate plans can quickly and unexpectedly become obsolete, making them worse than no estate plan at all. Continue reading

New to Arkansas–estates in other states

Are you recently arrived in Arkansas, or about  to leave?   A frequently asked question is whether clients must revise their Wills, Trusts and other estate planning documents to make them valid in their new state of residence. The answer is, “no and yes.”  The United States Constitution requires that each state give “full faith and credit” to legal actions taken in another state. Thus, a Will, Trust, Power of Attorney or Living Will Declaration properly drawn in Arkansas must be legally respected in another state, if the client changes residence. However, each state has its own laws–which can differ substantially from the laws of other states–regarding property, taxes, the identification of heirs, the administration of trusts and estates, the authority and responsibility of trustees, executors, agents, etc.  Thus, while a Will drawn in Arkansas will be held valid in Texas, for example, the interpretation and administration of that Will which was drawn in contemplation of Arkansas internal laws may be considerably different, or even unworkable, when administered in Texas, which has community property laws (which Arkansas does not), different tax laws pertaining to property and estates, and different laws as to the responsibility of trustees and executors. It is thus always advisable, when one takes up residence in a new state, to have your estate plan reviewed by a competent attorney in that state. Continue reading