Disclaimer is an important tool in the estate planning toolbox. After an individual’s death, they obviously can’t fix any estate planning mistakes. Sometimes a disclaimer will allow the decedent’s intentions to be carried out. But there are problems with disclaimers. It is important to figure out how to use the strategy fairly and effectively.
Joanne Black’s special needs trust
Consider the special needs trust established by Renata Black. Renata’s daughter Joanne is mentally ill, and her mother got good advice and established a special needs trust for her benefit. She also prepared a separate trust for her son Bernard Black and his children (her grandchildren). Perhaps because of Joanne’s mental illness, and the fact that Bernard was a successful law professor, she left 2/3 of her estate to Joanne’s trust and 1/3 to Bernard’s family’s trust.
Shortly before her death, though, Renata changed the beneficiary designation on the largest two assets she owned. One account now named Joanne — not her special needs trust — as beneficiary for 95% of the balance. The other 5% on that account was divided among Bernard’s five children.
The other account, a Roth IRA, now named Joanne as the sole beneficiary in her own name. No special needs trust, no grandchildren.
As it turned out, about $3 million of assets now would go to Joanne outright. Bernard was certain this was a mistake, and he wanted to change the outcome. He felt that he and his children should receive 1/3 of that money. Besides, Joanne’s share should go into her special needs trust.
The conservatorship and disclaimer
Though Joanne normally lived in New York, shortly after her mother’s death she was in Denver. She was homeless and in a particularly bad cycle of her mental illness. Bernard initiated a petition to be appointed conservator of Joanne’s estate.
In his petition, Bernard noted that Joanne, individually, was named as beneficiary of about $3 million in assets. He indicated that the money was likely to be wasted or dissipated, and that his mother’s beneficiary changes were “inadvertent.” He proposed that, once appointed as his sister’s conservator, he would disclaim her right to receive the money directly, and it would then flow into her special needs trust.
What is a disclaimer? It is a simple concept: no one can force you to accept a gift or inheritance. You can choose to disclaim your inheritance, and then it will pass to the next person or entity in line, as if you had died before the gift was made.
The Colorado court appointed Bernard as Joanne’s conservator, and he signed the disclaimer of her interest in the account leaving 95% to Joanne. That meant that the account flowed through to the mother’s estate — and then got divided into two shares. Two thirds of the 95% ended up in Joanne’s special needs trust, and one third in the trust for Bernard and his children.
The Roth IRA was handled differently. Rather than moving it through the estate, it simply went into separate accounts in Bernard’s children’s name. Presumably (the reported court decision doesn’t clearly spell this out) the children were named as alternate beneficiaries on the account, so when Joanne’s disclaimer was filed the account did not go to the estate — and Joanne’s special needs trust received no share of that account.
By making these changes, Bernard effectively moved about $1 million into the trust for him and his children, plus taking all of the Roth IRA from Joanne’s side of the ledger. He justified this partly on the basis that he believed his mother’s change in beneficiary designations was inadvertent. He also testified later that he thought his actions were the only way to avoid the litigation he would be forced to undertake if his trust did not receive its full share of his mother’s estate.
Bernard might have had more information and understanding about what he had done than most people. He was, and remains, a professor of law at Northwestern University. Somewhat ironically, one of his principal areas of expertise is in the fiduciary responsibilities of corporate directors.
Joanne returned to New York soon after the conservatorship steps were undertaken in Colorado. Once she was back in her home state, a new guardianship was initiated. In the course of that proceeding the earlier transactions came to light.
Joanne’s representatives petitioned the Colorado court to surcharge Bernard for his use of the disclaimer strategy. The probate court agreed that Bernard had behaved inappropriately, and entered a judgement against him for the actual damages — plus additional damages under Colorado’s theft statutes. The judge did not reverse the disclaimers, but did award damages totaling $4,534,068 against Bernard.
Meanwhile, separate proceedings were initiated in New York (where Renata Black had lived and died) and Illinois (where the trust’s bank and brokerage accounts are located). And Bernard appealed the Colorado judgment.
The Colorado Court of Appeals
Last week, the Court of Appeals upheld Colorado’s probate court judgment against Bernard. He argued that he could not have breached any fiduciary duties he owed Joanne, because he had gotten court approval for his disclaimer proposal. But the appellate judges agreed with the probate judge that Bernard had deceived the court in his earlier petition. He had asked for authority to disclaim Joanne’s interest so that it would flow into the special needs trust. But that wasn’t what happened after he signed the disclaimer.
To compound matters, Bernard had filed an inventory of Joanne’s assets with the Colorado probate court. He had used the value of her trust after he had removed more than $1 million into the separate trust for his (and his children’s) benefit. He failed to list the Roth IRA funds altogether. Black v. Black, January 25, 2018.
Does this Colorado case mean that disclaimer is a dangerous, or inappropriate, approach? Not at all. Disclaimer can often be a very useful tool for redirecting inheritances.
There is a closely related proposition that this case does illustrate, however. A fiduciary has a duty of loyalty; that means that the fiduciary must act in the interests of the principal. There is a duty not to self-deal, or to benefit from the fiduciary relationship (beyond reasonable fees for acting as fiduciary, of course). When a decision, such as a disclaimer, benefits the fiduciary, it raises real possibilities of surcharge. Or, as in this case, actual damages and a possible multiplier for what amounts to a theft.
There is another lesson here, as well. We have often written about the importance of beneficiary designations, and Renata Black’s actions shortly before her death illustrate the problem we see too often. Did she intend to move most of her estate from Joanne’s special needs trust into Joanne’s name outright? Did she think about the possible consequences, given Joanne’s history? Did she appreciate how she was changing her estate plan? It is difficult to tell, from this distance, whether she really understood, and meant, the changes she made.