SJC takes up 'pouring' issue in Kraft family trust
To a wine enthusiast, decanting serves a dual purpose: to provide
aeration and to separate the wine from any sediment that developed
during the aging process. To decant, simply pour the contents of
the wine bottle into a separate container (the decanter), leaving
undesirable sediment behind. To the trust and estate attorney,
decanting generally means "pouring" the assets of an existing trust
into a new trust (the decanter), and the sediment are the
provisions of the old trust left behind.
It might sound fairly simple, but the power to decant can have
serious implications by changing a grantor's intent, omitting or
restricting beneficiaries, and causing unintended tax consequences.
Policy in Massachusetts, by its relative silence on the subject,
appears to recognize this. In fact, during the recent enactment of
the Massachusetts Uniform Trust Code in 2012, and a full review of
trust law during the process, Massachusetts chose not to adopt a
decanting statute.
Despite the legislative silence, the Supreme Judicial Court (SJC)
recently took up the decanting issue in Morse v. Kraft,
466 Mass. 92 (2013). Richard Morse, sole trustee of the Kraft
Family Irrevocable Trust (the trust), sought the SJC's approval to
decant the trust's assets. Created by Robert K. Kraft (the donor)
in 1982, the Kraft Family Irrevocable Trust was designed for the
benefit of the "children of the marriage of the donor and Myra H.
Kraft," a class that consisted of four sons when it closed at the
death of Myra H. Kraft in 2011. Each son was an income beneficiary
of his own subtrust, and a potential object of powers of
appointment held by the other sons.
The trust, however, allowed only "disinterested trustees" to
participate in distribution decisions. At the time the trust was
created, the sons were minors, so "it was impossible to know
whether they would develop the skills and judgment necessary to
make distribution decisions concerning their respective subtrusts."
Id.
Morse, however, wanted to delegate his trustee powers to the Kraft
sons, who were now adults and able to manage their own financial
affairs. Desirous of removing this restriction, and with the
knowledge that the SJC's imprimatur would be necessary to qualify
the new trust as "grandfathered" under IRS Generation-Skipping Tax
Regulations, Morse filed a petition asking the court to interpret
the trust's language as authorizing decanting without court
approval.
Starting with Florida in 1940, the common laws of a number of
states have also authorized decanting in some form, with varying
restrictions. See Phipps v. Palm Beach Trust Co., 142 Fla.
782, 786 (1940); See also Florida Statute §736.04117 (enacted in
2007 and authorizing decanting by statute); In re Estate of
Spencer, 232 N.W. 2d 491 (Iowa 1975); Wiedenmeyer v.
Johnson, 55 N.J. 81 (1969). These courts have generally taken
the position that a trustee who has the absolute discretionary
power to create in a beneficiary an estate in fee simple, as a
consequence of that power, has the authority to create in that
beneficiary an estate in less than fee simple. See Phipps,
142 Fla. at 786. In other words, if the trustee can distribute to
the beneficiary outright, then, absent further restrictions, the
trustee may distribute to that beneficiary in further trust.
Adopting this same position, the SJC recognized that the almost
unlimited discretion granted to Morse as trustee of the 1982 trust,
to make outright distributions to or for the beneficiaries,
inherently included the power to distribute in further trust.
See Morse, 466 Mass. at 95.
Preferring to leave the issue to the legislature, however the SJC
did little to clarify the metes and bounds of the decanting power
in Massachusetts. While the court recognized the existence of the
common law power, it stressed that whether a trustee has the power
to decant depends on the facts and circumstances of each individual
case, and placed great significance on the donor's intent. See
Morse, supra, at 97 ("in interpreting a trust, the intent of
the settlor is paramount"). The specific Morse facts strongly
supported the SJC's decision, as there was testimony from the donor
and the original drafting attorney regarding their intent to allow
decanting, even though the trust was silent. The SJC also
explicitly declined to adopt the Boston Bar Association's
recommendation of a broad decanting power, irrespective of the
language of the trust. Id. at 99. Further, the SJC put drafting
attorneys on notice that, given the prevalence of express decanting
provisions in modern trust instruments, it would be unwise to rely
on the common law power in the future. Id. at 100 ("We
will then consider whether the failure to expressly grant [the]
power suggests an intent to preclude decanting").
The SJC also recognized that the power to decant is potentially
the power to amend an unamendable trust. (See Morse, 466
Mass. at 93). With that comes potential for abuse that future
legislation in the commonwealth will need to address. Twenty-one
states have adopted some form of decanting legislation and a
handful more are actively considering it. (See M. Patricia
Culler, American College of Trust and Estate Counsel, List of
States with Decanting Statutes, Passed or Proposed, Nov. 15,
2013.) These states, in developing their legislation have developed
a myriad of restrictions and conditions on the exercise of
decanting powers to guard against such abuse.
First, restricting the class of beneficiaries of the new trust to
those identified by the original trust is a common restriction
(both by case law and statute) and was supported by dicta in
Morse. See Id at 94. This limitation was adopted by the
Florida Supreme Court in Phipps, supra, at 786-787, and in
varying forms by all states to pass decanting legislation. See
Wareh & Dorsch, Decanting: A Statutory Cornucopia,
Trusts & Estates, March 2012, 24 ("no state permits the direct
addition of a new beneficiary"). Restricting the class of
beneficiaries becomes more complicated, however, when decanting
less than the entire trust to a subset of beneficiaries, when a
future interest is accelerated, or when a distribution standard is
altered. States address these situations in varying ways, with a
minority explicitly allowing the acceleration of a future or
contingent interest,1 and others vaguely stating that
the new trust may be for "one or more" of the current
beneficiaries.
Second, explicit limitations on changes to distribution standards
are less common, but should be considered. The majority of states
are currently silent on whether a distribution standard may be
changed through decanting. See Wareh & Dorsch, supra,
at 26. It is unclear whether these states permit a change in
distribution standard. Alaska, Delaware, New York, North Carolina
and Ohio explicitly restrict the trustee's power to change
distribution standards.
Third, decanting powers may also cause adverse tax consequences.
The Internal Revenue Service has yet to issue a final decision on
the estate and generation skipping transfer tax consequences of
decanting.2 For estate tax purposes, if a beneficiary is
trustee (and can change the distribution standard or distribute
outright), or if the beneficiary has the power to replace the
trustee, the unbridled power to decant may result in trust
principal being included in the beneficiary's estate. Recognizing
the potential for adverse tax consequences, states have taken steps
to prevent this outcome. Alaska, for example, expressly requires
that the new trust adhere to the same standard for invading
principal as is contained in the original trust.3
The Uniform Law Commission (ULC) has formed a drafting committee
to explore model decanting legislation, either in the form of a
standalone statute or an amendment to the Uniform Trust Code. The
Decanting Ad Hoc Committee of the Massachusetts Bar Association's
Probate Section Council, rather than submit its own legislative
proposal, chose to wait for the ULC's recommendation.
The status quo in Massachusetts remains ambiguous. Without clear
evidence of the donor's intent to grant the decanting power, is
there a power at all? And if the decanting power does exist, then
what limitations apply to its exercise? Absent further case law,
these questions will likely be answered, in time, by the
legislature. In the interim, decanting powers should be used and
exercised carefully. Given the highly fact-sensitive nature of the
Morse opinion, trust documents should clearly address the donor's
intent. Court approval should be sought to determine the nature and
extent of the power in any particular case where donor's intent is
ambiguous or the power is not specified. Attorneys drafting new
trusts should discuss the pros and cons of adding explicit
decanting provisions with their clients.
- Missouri (R.S. Mo. § 456.4-419); South Dakota (S.D.C.L. §§
55-2-15 - 55-2-21)
- See IRS Notice 2011-101, Transfers from an Irrevocable Trust to
another Irrevocable Trust (sometimes called "decanting"); Requests
for Comments, available at:
www.irs.gov/pub/irs-drop/n-11-101.pdf
- Alaska Stat. § 13.36.157.