A Strong Offense
A Stronger Defense
Plenty of trust instruments are set up to permit a beneficiary to act as trustee. When the trust has more than one beneficiary, however, the testator or grantor potentially sets that trustee-beneficiary up for conflict of interest claims. In these situations, prudent testators or grantors typically appoint a neutral co-trustee to serve with the trustee-beneficiary and require the trustee-beneficiary to take no part in self-encroachments or self-distributions.
In Faville v. Burns, the Illinois Court of Appeals considered whether a trustee-beneficiary has a conflict of interest with his co-beneficiaries of a trust. The trial court had dismissed the co-beneficiaries’ efforts to remove the trustee-beneficiary based on a conflict of interest. The Court of Appeals, however, reinstated the removal claim. In 1939, Barbara Faville’s father, Martin Burns, died. His will created three trusts – one for his wife (Miriam), one for his son (also named Martin), and one for his daughter (Barbara). When Miriam died, her trust was divided equally between Martin and Barbara. Barbara was the sole beneficiary of her trust and was entitled to receive the net income from the trust. The principal was to go to Barbara’s “then living descendants per stirpes.”
Barbara appointed Martin as the trustee of her trust. Sometime after his appointment as trustee, Barbara and Martin’s relationship “deteriorated.” Before she died, Barbara requested that Martin resign as trustee. He refused. Barbara then sought to revoke her designation of Martin as trustee. Martin refused to transfer the trust property to the purported successor trustee.
After Martin’s refusal to transfer the property, Barbara legally adopted her adult stepchildren, Andrew Faville and William Faville, who were in their 50s. Andrew and William provided notice to Martin of their adoption. Prior to the adoptions, Martin was the sole remainderman of Barbara’s trust.
Barbara sued Martin seeking a declaration that Andrew and William were her descendants for purposes of distributing the trust. When Barbara died, Andrew and William filed an amended complaint naming themselves as plaintiffs and adding claims that Martin should be removed as trustee. Andrew and William sought Martin’s removal based on an alleged failure to produce sufficient income from the trust assets and Martin’s failure to recognize Andrew and William as co-remainder beneficiaries of the trust.
The trial court struck Andrew and William’s complaint on the grounds that (1) Andrew and William were not permitted under Illinois law to take any property as trust beneficiaries because they were not Barbara’s “descendants” having been adopted after they obtained the age of 18 and having never resided with Barbara before obtaining the age of 18; (2) Andrew and William did not state a violation of the prudent investor rule because Martin was not required to produce “sufficient income” or maximize the investment potential of the trust assets; and (3) Andrew and William had not alleged any facts to show that Martin abused the broad discretion afforded him under the trust agreement.
After working through the Illinois statutes regarding the rights of adopted children, the Illinois Court of Appeals determined that Andrew and William were remainder beneficiaries of the trust. While the Court of Appeals upheld the trial court’s decision that Andrew and William did not properly allege a claim that Martin had violated the prudent investor rule, the appellate court reinstated Andrew and William’s claim to remove Martin for a conflict of interest.
The court started its analysis by recognizing the duty of loyalty a trustee owes the trust beneficiaries. A trust instrument, however, may create an exception to the duty where it expressly contemplates, creates and sanctions a conflict of interest. Andrew and William properly alleged a conflict of interest when they plead that Martin’s status as a possible contingent remainderman of the trust’s assets created a potential conflict of interest with other potential beneficiaries of the trust that rendered him unfit to serve as trustee.
While few cases address the trustee-beneficiary conflict of interest, at least one prior Illinois Supreme Court decision did address the issue. The court had held that it is proper for a court to remove a contingent remainderman as an appointed successor trustee due to the inherent conflict of interest in the trust remainder versus the interest a life beneficiary may have under the trust, especially where the life beneficiary objects to the trustee’s appointment. Here, such a situation existed. Barbara had sought Martin’s removal based on an alleged conflict of interest, and Martin had refused to acknowledge the adoption of Andrew and William.
Therefore, the appellate court sent the case back to the trial court to determine whether Martin’s status as both a trustee and a contingent remainderman of the trust presented a direct conflict of interest with other potential beneficiaries under the trust agreement.