Archive for June, 2010

Florida Court of Appeal Permits Assets to be Hidden in Trust

Friday, June 25th, 2010

A recent decision from the Florida court of appeals exalts form over substance to a achieve an unjust decision.   Here is the case in a nutshell.  Mom set up an irrevocable trust for benefit of one of sons.  The trust contained a spendthrift provision, meaning that creditors could not reach trust assets before distribution to the beneficiary.

A large judgment was entered against the beneficiary son.  After mom’s death, the second son served as named trustee, with complete discretion as to when to make distributions to the debtor brother.  In fact, the trustee son allowed all trust decisions to be made by the debtor brother.

The creditor argued that the debtor’s interest should be available to satisfy the judgment, because the debtor brother effectively exercised control over the trust property.  Notwithstanding these facts, the court held that the creditor was not able to reach the debtor brother’s interest because of the spendthrift provision.

Leni, beneath Monte Fossa della Flec

This is a terrible decision on policy grounds, as the court expressly permitted the two brothers to manipulate a legal entity to commit fraud on the creditor.  Here are the facts in more detail.

“In April 2004, Elizabeth Miller established the James F. Miller Irrevocable Trust (the James Trust) for the benefit of her son, James.  She named her other son, Jerry, sole trustee.  The James Trust is a discretionary trust under which Jerry has absolute discretion to make distributions for James and James’s qualified spouse.”

“The James Trust contains a spendthrift provision and gives Jerry, as trustee, the complete discretion to terminate the trust by distributing the entire principal to the beneficiary for any reason.”

After forming the trust, Elizabeth transferred property to the trust.  The principal asset of the trust was “a residence located in Islamorada, Florida” with a value greater than $1 million.

In 2007, Kresser obtained a judgment against James for $1,019,095. Elizabeth died on September 10, 2007.  “When Kresser was unable to collect on his judgment from James he brought proceedings supplementary against them and impleaded Jerry, as trustee of the James Trust.  Kresser asserted that he was entitled to execute on the James Trust’s assets . . . because James exercised dominion and control over all of the trust assets and over Jerry, as trustee.”

The trial court found in favor of the creditor.  The trial court “set forth a detailed account of James’s significant control over the James Trust and over Jerry, as trustee.  The trial court found that Jerry had almost completely turned over management of the trust’s day-to-day operations to James.  James controlled all important decisions concerning the trust assets, including investment decisions. ”

“Jerry never independently investigated these decisions to determine whether they were in the best interest of the trust, and some of the decisions have turned out to be unwise.  The trial court concluded that Jerry simply rubber-stamped James’s decisions and ‘served as the legal veneer to disguise James’s exclusive dominion and control of the Trust assets.’”

It’s remarkable that a court of appeal would have interest in reviewing this decision.  Even more remarkable, the trial court was reversed on appeal.  In ruling against the creditor, the court of appeal held that “the James Trust does not give James any express control over distributions of the assets.  Jerry, as trustee, has sole discretion to distribute income or principal to James, or to terminate the trust.”

Said the court of appeal, “while we agree that the facts in this case are perhaps the most egregious example of a trustee abdicating his responsibilities to manage and distribute trust property, the law requires that the focus must be on the terms of the trust and not the actions of the trustee or beneficiary.  In this case, the trust terms granted Jerry, not James, the sole and exclusive authority to make distributions to James.  The trust did not give James any authority whatsoever to manage or distribute trust property.”

That’s the court of appeal saying form matters more than substance, and adding that, “We’ll ignore what’s really going on if you right it down properly.”

Stated the court, “In this case, James may ask Jerry for as many distributions as he because Jerry has sole discretion to make distributions, he may also choose to deny James’s requests at any time, and James would have no recourse against him unless he were abusing his discretion as trustee.”

“Until Jerry makes a distribution to James, Kresser and other creditors may not satisfy James’s debts through trust assets.  Accordingly, the trial court erred in invalidating the James Trust’s spendthrift provision and allowing Kresser to reach trust assets before they have been distributed to James.”

Pokhara, Nepal

To rub salt in the wound, the court of appeal stated that “to conclude otherwise would ignore the realities of the relationship between a beneficiary and trustee of a discretionary trust – the beneficiary always pining for distributions which he feels are rightfully his, and the trustee striving to allow only those distributions that coincide with the settlor’s express intent, as set forth in the trust documents . . . In the case before us, it is not the role of the courts to evaluate how well the trustee is performing his duties.  We are instead limited, by statute, to evaluating the express language of the trust to determine the extent of the beneficiary’s control and the extent to which a creditor may reach trust assets.”

That is not correct.  It is the court’s duty to “evaluate how well the trustee is performing his duties” when the trustee has effectively turned over control of the assets to the judgment debtor.  The Florida court of appeal failed badly in reversing the trial court.

Miller v. Kresser
, — So.3d —, 2010 WL1779899 (Fla. 4th DCA May 5, 2010)

Lenders Behaving Badly

Friday, June 18th, 2010

Professor Brent T. White from The University of Arizona Law School has followed up his report issued last fall regarding troubled loans.  Prof. White personally communicated with more than 350 individuals regarding their mortgage problems.

His new report raises a number of troubling issues, but none more so than the dissembling tactics of lenders.

Writes Prof. White, “The reason that many strategic defaulters struggle so long before deciding to default is that fear and anxiety are not typically enough in isolation to cause them to stop making payments.  Rather such anxiety more frequently serves as a call to action, driving homeowners to try to do something about their situation – such as contacting their lender to try to work out a loan modification or a short sale.

“In fact, not a single strategic defaulter in the 356 accounts reviewed for this article reported having stopped paying their mortgages without first contacting their lender . . . Many underwater homeowners who seek help from their lenders, however, are turned away at the door. As one homeowner explains, ‘I called my lender and ask if I could discuss a loan modification and they said absolutely not.’  Lenders give numerous reasons for this, most commonly that homeowners are current on their mortgages.”

If you are current on your loan, regardless of the financial struggles to maintain the loan, you will never get your loan modified.  “The fact being a ‘responsible’ borrower is the surest way not to get a loan modification can be a rude awakening for many homeowners.”

Da Nang, Vietnam

Prof White continues.  “This is because most lenders don’t modify mortgages or agree to short sales for homeowners who might continue making their payments absent such accommodation. The best predictor that a homeowner will continue making payments is a good credit score and a past history of making their payments.  Homeowners with such characteristics thus have little chance of getting help unless they first miss some payments, and they are frequently told this by the loan servicing personnel who take their calls.”

Worse yet, “The loan modification process turns out, however, to be immensely frustrating[.]   Homeowners are frequently unable to reach anyone to discuss their applications’ status[.]  Their paperwork is ‘lost’ repeatedly[.]  They are treated rudely and lied to[.]  Worse, after months of frustration, most homeowners learn that their lender is not willing to work with them after all.”

Prof. White is not exaggerating.  I have yet to meet a borrower with anything positive to say about the loan modification process.  As a society, we are not serious about helping borrowers with troubled home loans.

Brent T. White, Take this House and Shove it: The Emotional Drivers of Strategic Default (May 2010)

The Mortgage Crisis Continues

Sunday, June 13th, 2010

This is an updated report on the status the foreclosure crisis in Fresno County as of June 2010, based on anecdotal evidence.  In a word, it’s brutal for troubled borrowers.

Foreclosures Are Continuing:  There does not seem to be any slowdown in foreclosures.  Lenders buy in for the amount of the unpaid debt, then sell at a slight markup.  The buyer then markets the property for a greater profit.

Example:  A house might sell at foreclosure to the lender for $120,000.  The lender resells the property for $150,000.  The buyer in turn markets and sell the house for $200,000.  All of this takes place within six months.  The original owner takes nothing on the mark up.

Banff National Park in Alberta, Canada

Cash is King: Lenders have little risk on foreclosure sales because houses re-sell quickly on all-cash offers.  Evictions follow rapidly after the foreclosure sale, and are sometimes started on the day of the sale.

Securitization Creates Murky Ownership:  Because of the securitization of mortgages, it is extremely difficult to determine who is calling the shots for the lender.  It seems that mortgages have been sold off piecemeal, and the third-party mortgage holders are conducting the foreclosures.  The owner is greatly distanced from the lender, and it is almost impossible to identify the entity that is in control of the mortgage and the foreclosure process.

The Home Affordable Modification Program is a Failure:  This writer has yet to see one mortgage that was modified as a result of the federal Home Affordable Modification Program.  The external evidence on the HAMP program is damning.

Professor Jean Braucher from The University of Arizona Law School explains that “HAMP provided for modification of first-lien mortgage loans originated on or before January 1, 2009, where the loan was secured by a one- to four-unit property, one unit of which was the borrower‘s principal residence.”

In order to qualify for a HAMP modification, “the debtor‘s gross monthly mortgage payment had to exceed 31 percent of gross income [and] the borrower had to document a financial hardship and be delinquent on the loan.”

That would cover a lot of troubled mortgages.  Explains Prof. Braucher, “The goal of HAMP is to create a partnership between the government and private institutions in order to reduce borrowers‘ gross monthly payments to an affordable level. The level has been set at 31 percent of the borrowers‘ gross monthly income.”

However, the rules have never been explained.  “The HAMP [ ] formula was not made public, in part out of concern that doing so would have allowed borrowers to game the calculation, but making it difficult for borrowers and their mortgage counselors to know whether to apply for a modification and to assess denial of an offer.”

Further, the lender bears the costs.  “HAMP made investors responsible in full for the cost of bringing the debtor‘s gross monthly mortgage payment down to 38 percent of gross monthly income.  HAMP also provided for the government to then share equally with investors the further cost of bringing the mortgage payment down to 31 percent of income.”

So, in order for HAMP to work, the lender has to admit it made a bad lending decision, and has to agree to eat part of the loss.  Sadly, given the availability of cash in the housing market, it’s easier for the lender to precipitate a foreclosure sale, then sell the property for the full amount of the loan and all delinquency charges, meaning that the lender is made whole, and the owner absorbs the entire loss.

Notes Prof Braucher, “through September 1, 2009, the Congressional Oversight Panel reported that HAMP, with a goal of avoiding three to four million foreclosures in three years, had achieved only 362,348 three-month trial modifications.  Even more disappointing, the Congressional Oversight Panel reported that the program had achieved only 1,711 permanent modifications through September 1, 2009.”

Thus, the federal loan modification program has been a profound failure.  This writer’s experiences with troubled borrowers have been similar.

Jean Braucher, Humpty Dumpty and the Foreclosure Crisis: Lessons from the Lackluster First Year of the Home Affordable Modification Program (May 2010).

Private Trust Company – A Curious Hybrid

Monday, June 7th, 2010

Attorneys Jim Weller and Alan Ytterberg published a recent article discussing an odd hybrid entity – the “private trust company.”  As the authors explain, “Similar to a regulated trust company, an unregulated trust company is an entity formed under state law for the limited purpose of providing trust services to a single family.”

A private trust company is first an entity established under state law.  “Most states that authorize private trust companies allow them to be formed as a corporation or a limited liability company.”  However, “there is no information available to ascertain the number of unregulated trust companies that have been formed in the U.S.”

By way of history, “U.S. Trust Company (est. 1853), Northern Trust (est. 1889), and Bessemer Trust (est. 1907) were originally formed as private trust companies, but today they are known and respected as public trust companies that provide a wide range of fiduciary and trust services.”

A private trust company is a state-chartered institution that is formed to manage assets for wealthy families into the future.  Thus, “it is a state chartered entity that is formed for the express purpose of providing trust and fiduciary services to a single family” and is tied to one or more irrevocable trusts established by the family.

full moon rising in Rockport, Mass

State the authors, “there are a variety of states which promote private trust companies. Most of these states have favorable tax laws, and they have modernized their trust laws.  In that regard, Wyoming, Nevada, South Dakota, and Texas are some of the more popular states where wealthy families are chartering private trust companies.”

States have different requirements for physical presence in the jurisdiction, but the requirements are not difficult to satisfy.  For example, “Licensed family trust companies in Nevada must have at least one officer who is a Nevada resident, a physical office in Nevada, and “a bank account with a state chartered or national bank having a principal or branch offices in Nevada.”

The authors further explain that, “State banking commissioners have less incentive to subject a private trust company to the same regulatory oversight that a public trust company has because there is no public interest to protect.  This distinction is formally recognized in states which permit private trust companies to seek exemption from certain regulatory provisions that apply to trust companies transacting business with the public.”

So, the state sanctions the formation of an entity, accords it the privileges of conducting business and of limited liability, but provides for little if any public or regulatory oversight.  “A private trust company must meet minimum capital requirements in order to exercise the fiduciary powers granted to it by the chartering state.  These capital requirements vary from state to state.  South Dakota has the lowest capital requirement at $200,000.”

The authors add that, “a private trust company must apply for and obtain a charter from the state where it is to be located.  Once the charter is granted, the private trust company is subject to the laws and regulations of that state.  The lone exception is an unregulated trust company which can be formed in Massachusetts, Nevada, Pennsylvania, Virginia, and Wyoming.”

That’s private justice for the very wealthy in America, which is a distressing topic.