U.S. v. Milovanovic – Ninth Circuit Adopts a Sloppy Fiduciary Standard

Case law reflects a tension in the interpretation of fiduciary duties. One camp favors a “I know it when I see it” approach, while the more rigorous jurists seek to discern the basis for imposition of such liability.

This tension is on full display in the recent en banc decision in U.S. v. Milovanovic, ___ F.3d ___ (9th Cir. April 24 2012). The majority decision found liability under the Mail Fraud Statute, 18 U.S.C. § 1341, based on the holding in Skilling v. U.S., 130 S. Ct. 2896 (2010).

Explained the Ninth Circuit, “A close examination of the Supreme Court’s opinion in Skilling reveals that embedded in the Court’s holding – ‘that § 1346 criminalizes only the bribe-and-kickback core of the pre-McNally case law’ – is the implication that a breach of a fiduciary duty is an element of honest services fraud.”

The Ninth Circuit then reached for soft law, holding that “a fiduciary duty for the purposes of the Mail Fraud Statute is not limited to a formal ‘fiduciary’ relationship well-known in the law, but also extends to a trusting relationship in which one party acts for the benefit of another and induces the trusting party to relax the care and vigilance which it would ordinarily exercise.”

Truly, that’s about as soft and broad a definition of a fiduciary relationship as is possible.  Continued the court, “Because allegations in the indictment, which we must take as true for the purposes of this appeal, assert that the State, through outsourcing the work to private contractors, reposed a special trust in Lamb and Milovanovic to ensure the integrity of the testing of CDL applicants, and thus relied on the provision of their honest services in administering the tests and certifying the results, we hold that a jury could find that Milovanovic’s and Lamb’s conduct falls within the ambit of §§ 1341 and 1346.”

Remember, this is the same Ninth Circuit that held that, when a raisin grower is required to turn over a portion of his crop to an agency of the federal government, there is no “taking without just compensation” for Constitutional purposes.  Horne v. U.S. Dept. of Agriculture, ___ F.3d ___ (9th Cir. July 25, 2011). The Horne opinion is certainly a low point in the scholarly tenure of Judge Michael Hawkins.

Back to U.S. v. Milovanovic. The concurring opinion by Judge Richard Clifton drives home the casual nature of the majority’s analysis. Judge Clifton begins by “repeat[ing] an observation made nearly 50 years ago:

A small fishing village in Malta

“‘Fiduciary’ is a vague term, and it has been pressed into service for a number of ends.  My view is that the term `fiduciary’ is so vague that plaintiffs have been able to claim that fiduciary obligations have been breached when in fact the particular defendant was not a fiduciary stricto sensu but simply had withheld property from the plaintiff in an unconscionable manner.”

Judge Clifton continues.  “’Fiduciary’ has not gotten any clearer in the half-century since then, and our decision here does not help.  We accede to the agreement of the parties that the Supreme Court defined a breach of fiduciary duty as an essential element required for honest services mail fraud.  But we conclude that ‘fiduciary’ here does not mean a ‘formal, or classic, fiduciary duty.’  Rather, we hold that a fiduciary duty as an element of mail fraud ‘is not limited to a formal fiduciary relationship well-known in the law.’”

Here’s where Judge Clifton shines. “But we should not muddy the meaning of ‘fiduciary’ any further by employing it here to mean something other than ‘fiduciary.’  By doing so we further devalue the term and invite that much more confusion as to what the word means in other situations.”

“In some contexts, after all, the term ‘fiduciary’ is intended to mean ‘fiduciary,’ not our variation on that concept.  We should instead simply define the essential element for honest services mail fraud as the trusting relationship described in the majority opinion and leave the word ‘fiduciary’ out of it.”

The concurrence has the better of the argument. A published opinion that establishes a soft, murky definition for the essential term “fiduciary” does no benefit to the development of the law.

U.S. v. Milovanovic, ___ F.3d ___ (9th Cir. April 24 2012).

A History Lesson on the Development of Cash Rents

In early English society, rent was paid by way of labor or other services.  Only gradually did rent became an item paid in money.  Consider this analysis by Oxford Prof. A. W. B. Simpson.

“At the time of the Conquest [in 1066] large parts of the country were not cultivated, and those that were, were not farmed by individual farmers acting independently of each other, each relying on his own resources, but by a communal system of agriculture which depended for its success upon the co-operation of all the members of a small village community, formed an economic unit which was largely self-supporting.”

“The lands occupied by such a community would be partly cultivated and partly waste land … In this arable land the inhabitants of the manor had individual holdings, often consisting of scattered strips, each unfenced from those of his neighbor. The great open fields which were the result of this practice were cultivated and cropped uniformly in accordance with local custom.”

Comment – Note how joint tenancies, which carry with them the joint right of possession of property, fit neatly into this ancient system.

“Feudalism [ ] imposed upon each lord the duty to administer justice to his tenants, and to hold a court in which they might litigate … The Royal justices, when, in Glanvil’s time [he died 1190] were working out the embryonic land law, took a momentous decision. They decided that the Royal courts would concern themselves only with persons who held their lands by free tenure.”

“If we are to understand who these unfree tenants were, and what were the marks of their curious status, we must look at the history of that manorial system of economy which prevailed over a large part of England in the Middle Ages, and which, in some isolated instances, has lasted even up to the present day.”

“Before 1066 a high proportion of these communities had fallen under the domination of powerful individuals, but the precise relationship between such lords and the inhabitants of the manors varied enormously … A large proportion of the humbler cultivators were men who were personally free, but who were bound by custom [ ] to perform services of an agricultural nature or supply produce to the lord.”

The agricultural services would usually take the form of a duty to cultivate the lands which the lord farmed as his own – the demesne lands, as they came to be called … After the Conquest the personal status of many of these landholders tended to be depressed, and many of those whose ancestors in Anglo-Saxon times had been free men came to be reduced to some form of personal subjection to their lord.”

Italy

“Such men, the villeins of medieval law, came to occupy a curious position in consequence of the way in which the early lawyers worked out the legal implications of their status.  Broadly speaking they became only relatively unfree.”

“In most manors there was to be found a class of tenants who were undoubtedly free men. Some such men might hold their lands by services obviously appropriate to free men alone – by knight service for example.”

“In many cases, however, they might be bound to perform services which did not differ noticeably from those owed by villeins … In the end this forced the courts to alter their attitude to such tenants, but this was not to happen until the very end of the fifteenth century.”

“Though there would be oppressive lords, and villeins whose complaints have not come down to us, yet in general the services due from a villein tenant were as rigidly
fixed and probably as generally observed as those due from free tenants.  They were defined by local custom, which was thought to be binding on lord and tenant alike.”

“In practice the villein tenant was frequently as well off as the tenant who held by free tenure.  His services were fixed and recorded, and so were the various incidents of his tenure … In the course of the fourteenth century the practice of commuting rents and services in kind for money payments became widespread, and the process continued in the fifteenth and sixteenth centuries.  Various factors have been selected by historians as being the causes of this phenomenon.”

“In some manors commutation was probably introduced because it led to more efficient estate management …The Black Death destroyed a large proportion of the villein tenants of manors, and the ensuing competition for labour amongst manorial lords brought into being a class of labourers prepared to hire out their services to the highest bidder they could find.”

By the middle of the fifteenth century the mass of villein tenants no longer laboured for their lords, but paid him a fixed rent for their holdings in lieu of personal service … The commutation of services naturally enhanced the social status of tenants in villeinage, and, at the same time as it becomes common, we find the name villein tenure giving way to the more modern name of copyhold tenure … The court roll itself became a sort of register of titles to copyhold land, for since all transactions were recorded upon the roll, it provided conclusive evidence of a copyholder’s rights.”

“Throughout the course of the Middle Ages the number of villeins declined, and the class became extinct by the beginning of the seventeenth century: the law tended to encourage liberty, and there were many ways in which a villein could become free …The last reported case is Pigg v. Caley (1618). The disappearance of villein status is still rather a mystery; there were still a considerable number in Elizabeth’s reign.  The status of villeinage was never formally abolished.”

A. W. B. Simpson, An Introduction to the History of the Land Law (Oxford University Press 1961), pages 146-151.

A. W. B. Simpson on English Wills in the 12th and 13th Centuries

A study of the ancient English common law begins, for many points, with the law that developed after 1066.  The history of inheritances of land is certainly curious, as we inevitably find it tied to the duties owed in a feudal, agricultural society.

Here is an excellent analysis from Oxford Prof. A. W. B. Simpson.

The medieval law did not recognize the validity of a will of lands. In Anglo-Saxon times [i.e., before the Norman invasion in 1066] it is clear that ‘bookland’ – land held by written charter – could be devised [i.e., transferred at death by way of a will], and this power of devise was the chief peculiarity of such land.”

“After the Conquest a power of testamentary disposition of land continued to be recognized for a while in the post obit gift.  In the twelfth century this power was discountenanced by the Royal court.”

Pause here.  Prof. Simpson states, and he is supported by many learned writers, that the courts in the 12th century did not recognize the transfer of real property at death by way of a will.  Consider also that jurisdiction over wills and testaments was found in the ecclesiastical courts, to wit, the courts organized under the auspices of the Catholic Church, then the predominant religion in England.

Comment – A “testament” is a written document that transfers ownership of personal property at death.  In contrast is a “will,” which is a written document that transfers ownership of real property at death.

Jasper National Park, Alberta, Canada

Prof. Simpson continues.  “Once it became clear that (in general) a gift of land required a delivery of seisin, a gift to take effect upon the donor’s death and not before could hardly be accepted, for the gift lacked the essential requirement of livery of seisin. Thus the post obit gift as such was doomed by ordinary principle.”

“But the line between a deathbed gift (perhaps accompanied by livery), a gift inter vivos to take effect on death (the post obit gift), and a will which ‘makes an heir’ is not easy to draw, and it does not seem that the Royal court in the twelfth century indulged in any subtle analysis; rather it condemned anything in the nature of a testamentary disposition, whatever form it took.”

So we find the law in England, at least into the time of Henry II, the king who helped establish the great tradition of the common law.

Adds Prof. Simpson, “In the thirteenth century the attitude changed …Quite why it was adopted is a difficult question; perhaps a desire to prevent disherison of heirs, coupled with a desire to prevent the loss of feudal incidents, influenced the Royal judges.”

Two more points from Prof. Simpson.  First, the desire to avoid taxes runs deep in English legal history.  Notes Prof. Simpson, “Consider a gift to A, with a remainder to his heir in fee simple. The remainder is contingent, but this is not the only possible objection to such a limitation …”

“This is simply a tax-dodging trick, and early contingent remainders were often tainted by connexion with evasion of this kind. One can well see that the courts were predisposed to treat them with caution, and the learned Littleton regarded them as always invalid, though Littleton’s view was hardly law in his own day, and did not prevail after his time.”

And a final comment on the power of the courts, which was as true in the year 1300 as it is today:

“But this need not surprise us, for the loss which is suffered when a judgment goes unsatisfied through the defendant’s lack of means is not in the nature of things remediable by the courts.  It would be odd in any branch of the law to question the validity of a judgment simply upon the ground that the losing party was penniless or landless.”

A. W. B. Simpson, An Introduction to the History of the Land Law (Oxford University Press 1961), pages 96-131.

L.S. Sealy – Categories of Fiduciary Duties

In a law review article published 50 years ago, Cambridge law professor L.S. Sealy reviewed two centuries of English case law on fiduciary relationships.  He concluded, correctly, that different relationships give rise to different duties.

As a starting point, “Fletcher Moulton L.J. once warned against what he called ‘the danger of trusting to verbal formulae’ in this way. After illustrating a number of fiduciary situations and describing the ways in which the courts had interfered to grant relief in these cases, he said:

“Thereupon in some minds there arises the idea that if there is any fiduciary relation whatever any of these types of interference is warranted by it.  They conclude that every kind of fiduciary relation justifies every kind of interference.  Of course that is absurd.

“The nature of fiduciary relation must be such that it justifies the interference.  It is obvious that we cannot proceed any further in our search for a general definition of fiduciary relationships. We must define them class by class, and find out the rule or rules which govern each class.”

AustriaSuch statement is too often ignored by lawyers and judges alike.  Consider this further analysis:

“Fry J.’s definition emphasises the essential quality of all fiduciary relationships: every remedy which can be sought against a fiduciary is one which might be sought against a trustee on the same grounds.  But it is really not a definition at all: although it describes a common feature, it does not teach us to recognise a fiduciary relationship when we meet one.

“Still less does it assist us when we are faced with a particular relationship and asked the practical question: does a certain principle of the law of trust and trustee apply?  John is my agent and is therefore, on good authority, in a fiduciary position towards me.  Does this mean that he must not mix with his own money the sums which he holds on my account?  Is there a presumption of undue influence if I make him a gift?  Is he disqualified from becoming the lessee of land formerly held by me, after I have failed to secure a renewal of the lease for myself?  Do all the trust principles apply to this fiduciary situation?

When we examine the authorities, we learn – perhaps with some surprise – that this is not so. The word ‘fiduciary,’ we find, is not definitive of a single class of relationships to which a fixed set of rules and principles apply.  Each equitable remedy is available only in a limited number of fiduciary situations; and the mere statement that John is in a fiduciary relationship towards me means no more than that in some respects his position is trustee-like; it does not warrant the inference that any particular fiduciary principle or remedy can be applied.”

And he elegantly explains why banks do not owe fiduciary duties to their borrowers: “No trust can, of course, exist where there is a debtor-creditor relationship: In equity, restitution stopped where repayment began.”

L. S. Sealy, Fiduciary Relationships, 1962 Cambridge L.J. 69 (1962)

Prof. Ribstein Proposes a Single, Unified Standard for Fiduciary Obligations

Prof. Larry E. Ribstein from the University of Illinois School of Law, a leading scholar on business entities, has given considerable thought to the concept of fiduciary duties.  When this author thinks of fiduciary duties, he thinks of three broad obligations – care, confidentiality, and impartiality.

Prof. Ribstein, in a recent article, seeks a unified fiduciary standard centered in the entrustment of property by one person to another.  More precisely, Prof. Ribstein’s “definition [of a fiduciary relationship] focuses on the particular type of entrustment that arises from a property owner’s delegation to a manager of open-ended management power over property without corresponding economic rights.”

In this way, “a fiduciary relationship differs from the broader category of agency relationships.”  Prof. Ribstein finds the existence of a fiduciary relationship when “the resulting separation of ownership and control means the agent might manage the property so as to realize benefits without incurring the full costs of her conduct.”

As a corollary, Prof. Ribstein adds that his “view of the fiduciary relationship is necessarily contractual in the sense that one becomes a fiduciary only by contract, including by contracting for a relationship in which the law says fiduciary duties arise.”

This interpretation makes a great deal of sense, because it focuses on the situations in which a fiduciary relationship may be said to arise.  We look a transfer of control or management to a third party, in which the third-party is not subject to contractual restraints on misconduct.  In this way, the law of fiduciary duties seeks to restrain misconduct by managers who otherwise may not be held accountable.

While I applaud Prof. Ribstein’s coherent frame to determine when fiduciary relationships may be said to exist (more on this below), this author does not fully endorse his definition of fiduciary duties as consisting solely of “the strict fiduciary duty of selflessness.”  Prof. Ribstein adds that,

  • “Fiduciaries commonly have a duty of care. However, this is not a fiduciary duty, which as described above is a duty of unselfishness.”
  • “The duty not to misappropriate information, business opportunities or other property is not a fiduciary duty. It simply reflects the limits on business owners’ and agents’ rights to property owned by the firm.”

Fall in New HampshireYet this author disagrees with the conclusion that, “The fiduciary duty of unselfishness should be distinguished from duties that can exist outside the fiduciary setting, including the duties of care, good faith and fair dealing, and to refrain from misappropriation.”  The fact that these duties can be said to overlap with other obligations at law does not mean that we should exclude them from the list of duties found applicable once a fiduciary relationship is established.

Returning to issues of management and control, Prof. Ribstein argues that, “Although partners, majority shareholders and creditors may control the firms in which they invest, this control is not necessarily open-ended enough to warrant fiduciary treatment. The control exercised by ownership factions often is carefully negotiated and limited to the power to approve major transactions and, in corporations, to elect directors …

“It follows from this analysis that partners do not have fiduciary duties merely as such …Even a partner who contributed most of the funding may be outvoted by two service-only partners under the one-partner-one-vote partnership default rule.”

This is a well-reasoned point, and explains why fiduciary obligations are (or should be) imposed only in limited situations: “Managers’ and directors’ wide discretion to control this residual justifies their strong fiduciary duty of unselfishness to shareholders.”

Continuing this theme, Prof. Ribstein articulately argues that a person who provides advice, but who does not hold management powers, should not be bound by fiduciary standard.  “One who is only an advisor or professional sells advice, not management … The client purchases the advice… Applying fiduciary duties to all advisors and professionals therefore would be unrealistic and would dilute the concept of fiduciary duties.”

“Contrast this situation with the fiduciary context. One who decides not only to obtain advice from an expert but to entrust her property to the expert’s management ceases to make her own decisions concerning whether and how much to rely on each of the fiduciary’s judgments. This open-ended delegation of control to the fiduciary calls for more than just disclosure of material facts.”

This is a thoughtful piece, with its sage recommendation that “The usefulness of the fiduciary duty depends on its being kept in a corral rather than set loose to roam broadly among commercial relationships where it does not belong.”

Prof. Larry E. Ribstein, Fencing Fiduciary Duties (Illinois Public Law and Legal Theory Research Paper No. 10-20)

Trustee’s Foreclosure Sale Is Valid, Despite Substantial Error in Opening Bid

A recent case illustrates the need for a beneficiary to exercise care when making a bid at a trustee sale.  In Biancalana v. TD Service Company (Oct. 31, 2011) 2011 DJDAR 15972, the secured debt was $219,105.  However, due to error by the beneficiary, the trustee was instructed to make an opening bid of only $21,894.  “The auctioneer was not instructed by TD to make any further because of the property over above the opening bid.”

The buyer made a successful bidder $21,896.  A day later, the beneficiary discovered the error, and instructed the trustee not to issue a trustee’s deed to the buyer.  The buyer sued to compel the trustee to issue a deed for the sales price.  The court of appeal held in favor of the buyer, rejecting the beneficiary’s argument that there had been a “procedural defect” in the sale.

The Court of Appeal explained the nonjudicial foreclosure process as follows.  “The purposes of this comprehensive scheme are threefold: (1) to provide the creditor/beneficiary with a quick, inexpensive and efficient remedy against a defaulting debtor/trustor; (2) to protect the debtor/trustor from wrongful loss of the property; and (3) to ensure that a properly conducted sale is final between the parties and conclusive as to a bona fide purchaser.”

The court rejected the argument that the sale was not “bona fide” because of the substantial difference between the fair market value for the property and the opening bid.  (The successful buyer was the only bidder at the sale.)   “Mere inadequacy of price, absent some procedural irregularity that contributed to the inadequacy of price of otherwise injured the trustor, is insufficient to set aside a nonjudicial foreclosure sale.”

Eiffel Tower at Night

The court distinguished the decision in Millennium Rock Mortgage, Inc. v. T.D. Service Co. (2009) 179 Cal.App.4th 804.  In Millennium Rock Mortgage, the auctioneer was set to sell two properties on the same street in Sacramento. “The script prepared for the 13th Avenue auction contained the proper trustee sale number and legal description of the property, but due to a clerical error, listed the address for the Arcola Avenue property, rather than the 13th Avenue property.”

The Millennium Rock Mortgage sale was reversed for the following reasons.  “”The auctioneer called out the legal description and credit bid applicable to one property, while announcing the street address of a different property.  This created a fatal ambiguity in determining which property was being auctioned.  Due to the contradictory descriptions of the property, the auctioneer’s mistake went to the heart of the sale.  Since irregularity, gross inadequacy of the price, and unfairness were all abundantly present, the sale was voidable at the option of the trustee.”

No such facts were present in Biancalana.  “The beneficiary’s servicing agent miscalculated the amount owed on the subject property … This error, which was wholly under the agent’s control and arose solely from the agent’s own negligence, falls outside the procedural requirements for foreclosure sales described in the statutory scheme.”

“In the instant case, TD was acting as the beneficiary’s agent in preparing the property for the foreclosure sale.  It submitted the incorrect credit bid to the auctioneer, and twice confirmed the incorrect bid when the auctioneer called to inquire just prior to the sale.”

“Consequently, the mistake was made by TD in the course and scope of its duty as the beneficiary’s agent, not by the auctioneer as in Millennium Rock. The auctioneer simply announced the bid submitted by TD. The error was wholly under TD’s control and arose solely from its negligence … As a result, there was no procedural irregularity in the foreclosure sale and TD’s motion for summary judgment should have been denied.”

The moral of the story – a beneficiary should always be diligent to confirm the proper amount of the opening bid at a foreclosure sale, or suffer the loss.

Biancalana v. TD Service Company (Oct. 31, 2011) 2011 DJDAR 15972

Strict Compliance Regarding Three-Day Notice Essential for Eviction Proceeding

A recent case reinforces the necessity to comply with the technical requirements for prosecuting an unlawful detainer complaint in California. [Commonly known as an eviction.]  Specifically, the issue at trial was whether the three-day notice had been served properly.  The trial court held that service was defective.  This was reversed on appeal, based on the statutory presumption arising from service by a registered process server.

The take away rule is that you should always have a registered process server serve the three-day notice.  If you do not, make sure that the person who effected service of the three-day notice is present in court to testify on behalf of the landlord.

The situation in Palm Property Investments, LLC v. Yadegar (2011) 194 Cal.App.4th 1419 involved years of unpleasant litigation.  In 2002, the “penthouse apartment” was been leased out for $3,500 per month.  The rent was later increased slightly, followed by a third addendum in 2003 which reduced the rent to $32,000 per year, subject to rent being prepaid one year in advance.

The prior owners had engaged in bitter litigation with the tenant.  The landlord was not successful in its prior eviction lawsuit, and was ordered to pay $109,062 in attorney’s fees to the tenant.  The landlord took that matter up on appeal, lost, and was ordered to pay a further $70,770 in attorney’s fees to the tenant.

[No, I am not exaggerating.  These are the dollar amounts recited in the appellate decision.]

Not surprisingly, the tenant applied the judgment amount to offset future rent payments.  Thereafter, the property went into foreclosure and was sold to a third party, who then sought to enforce the lease against the tenant.  The new owner filed an unlawful detainer action, asserting that the property was held on a month-to-month tenancy, with rent payable amount of $3,500 per month.

The new owner lost at trial.  Specifically, the “the trial court sustained the [tenant’s] objection to the admission of the proof of service of the three-day notice and found that appellant failed to meet its burden to show that the notice was properly served.”

As discussed below, this decision was reversed on appeal.  The appellate court made the following observations regarding the unlawful detainer process in California.

“Unlawful detainer is a unique body of law and its procedures are entirely separate from the procedures pertaining to civil actions generally … An unlawful detainer action is a statutory proceeding and is governed solely by the provisions of the statute creating it.  As special proceedings are created and authorized by statute … the statutory procedure must be strictly followed.”

Cannon Beach, Oregon

Importantly, “proper service on the lessee of a valid three-day notice to pay rent or quit is an essential prerequisite to a judgment declaring a lessor’s right to possession under section 1161, subdivision 2.  A [landlord] must allege and prove proper service of the requisite notice.  Absent evidence the requisite notice was properly served pursuant to section 1162, no judgment for possession can be obtained.”

In the case on appeal, the three-day notice had been served by a registered process server.  The appellate court cited to Evidence Code section 647, which provides that “the return of a process server registered pursuant to Chapter 16 [] of Division 8 of the Business Professions Code upon process or notice establishes a presumption, affecting the burden of producing evidence, of the facts stated in the return.”

The court then reversed the trial court for the following reasons.  “Where service is carried out by a registered process server, Evidence Code section 647 applies to eliminate the necessity of calling the process server as a witness at trial.  This conclusion is consistent with the purpose of the unlawful detainer procedure to afford a relatively simple and speedy remedy for specific landlord-tenant disputes …

The trial court erred by failing to apply the evidentiary presumption afforded by Evidence Code section 647.  The excluded proof of service established that a registered California process server served the three-day notice

“As explained in Evidence Code section 604, ‘the effect of a presumption affecting the burden of producing evidence is to require the trier of fact to assume the existence of the presumed fact unless and until evidence is introduced which would support a finding of its nonexistence, in which case the trier of fact shall determine the existence or nonexistence of the presumed fact from the evidence and without regard to the presumption. Thus, the [tenants] were required to come forth with evidence – beyond their answer – in order to overcome the presumption …

“The [tenants] offered no evidence to show that they were not properly served and instead relied on their answer and appellant’s asserted failure to satisfy its burden of proof.  On retrial, they will have the opportunity to present evidence to rebut the presumption afforded by Evidence Code section 647 … [The landlord] is awarded its costs on appeal.”

Always be careful with your three-day notices.  Make sure they comply with the requirements established by law, and make sure that they have been properly served on the tenant.  Otherwise, the landlord will not prevail at trial.

Palm Property Investments, LLC v. Yadegar (2011) 194 Cal.App.4th 1419

The Long-Standing Connection Between Real Estate Law and Probate

I am reading a series of lectures delivered in 1972 by S.F.C. Milsom and collected in The Legal Framework of English Feudalism (Cambridge University Press 1976).  The text is difficult, as it frequently refers to rights, remedies, and procedures that long ago ceased to be relevant in the law of English-speaking nations.

Still, as I read along, I can see contours develop that explain how the law evolved from the year 1200 forward.  The lecturer concentrates on legal writings from the early 1200s, when England was still operating under a feudal system.

Scholars tell us that the law of real property and the law of descent (i.e., succession to real property) were closely connected, at least through 1850.  So intimately connected that both topics were covered in one treatise, which focused on grants in real property.

Disney Cruise Line's DreamConsidering the feudal roots of English law, this connection makes sense.  The feudal system was dependent on duties and obligations owed by the holder of a tenement to his lord.  (Note that I did not say “tenant” – this word implies a more modern relationship.)

Feudal duties were greater than those relating to (i) payment of rent and (ii) the maintenance and use of the real property, which are the predominant issues in contemporary landlord-tenant relationships.

Obviously, the lord wanted to have control over the person in possession of his property, so that he could obtain proper satisfaction of the obligations owed in connection with the land.

Listen to Prof. Milsom’s explanation.  “Conveyance, inheritance, litigation:  for us these are distinct processes transferring or determining abstract rights.  The ancient reality, preserved into later times only in the formalities of copyhold, saw all three as preliminaries to what mattered: the lord’s acceptance of this tenant …

“The lord must consent lest he be forced to receive homage for his fee from an enemy or some otherwise unsuitable person … Only the lord’s acceptance can make a tenant.”

When you consider the feudal obligations, and the impact that the death of the tenement holder would have on the discharge of these obligations, you can understand why real property law and the law of inheritances were closely connected.  

Another matter of interest is the shift from trial by combat to trial by jury.  Again, with consideration to the substantial impact of the law real estate law as it pertains to a feudal society, the procedural shift (who is the trier of fact?) makes sense.  In a dispute between a tenant and his lord, the lord always could be expected to produce a better, stronger champion for his cause.  Thus, the deck was stacked against the tenant, and preservation of fairness required that the dispute be resolved by recourse to peaceful means, such as a jury.

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Estate of Giraldin – Trustee Does Not Owe Duties Future Beneficiaries of Estate Planning Trust

This author has often complained that the trust laws have not kept pace with modern practice as it relates to estate planning.  Estate planning trusts (a.k.a. “living trust”) are used as will substitutes.  The rules pertaining to wills are well known, and are established by case and by code.

In contrast, the statutory rules relating to estate planning trusts come from general trust law, which law was developed in response to traditional property management trusts.  Yet, the property management trust is functionally different from an estate planning trust.  Typically, a property management trust manages property for benefit of current third-party beneficiaries.  In contrast, an estate planning trust does nothing until the death of the trustor, when the trust assets are distributed according to the “trust” agreement.

The recent decision in Estate of Giraldin (Sept. 28, 2011) 2011 DJDAR 14642 fully reinforces the proposition that an estate planning trust is a will substitute, and that no duties are owed to the heirs or beneficiaries prior to the death of the trustor.  The same result applies in connection with a will – an heir cannot sue on the ground that the testator sold or gifted property owned by the testator before death, such that the property was not included in the estate after death.

Bill Giraldin was a savvy investor, with a fortune worth $6,000,000 or more before his death.  He placed his assets into his estate planning trust.  The trust was fully revocable and/or amendable by him during his lifetime.  He appointed one of his sons to act as trustee.  (Nine children qualified as future beneficiaries under the trust.  Later, four filed suit.)

Following the instruction of the father, the son invested $4,000,000 in a company called SafeTzone.  Thus, one son (Tim) was the trustee of the trust; at the instruction of his father, Tim invested a substantial amount of his father’s wealth in Tim’s company.

Needless to say, the SafeTzone investment went badly, “and by the time Bill died in May of 2005, the family trust’s stake in the company was worth relatively little.”  In response, four children sued Tim for breach of his fiduciary duties, alleging that the investments he made as trustee during his father’s lifetime were in violation of the fiduciary duties owed to them as successor beneficiaries under the trust.

Comment – The court found that Bill invested in SafeTzone of his own free will, and was not unduly influenced by Tim, the trustee.

Shiprock

Tim lost badly at trial, but the appeal court fully vindicated him.  Specifically, the court of appeal focused “on the question of whether respondents have standing to maintain claims for breach of fiduciary duty and to seek an accounting against [Tim] based upon his actions as trustee during the period prior to Bill’s death.”

The court’s analysis was as follows.  “In this case, the family trust was revocable by Bill during his lifetime, and thus Tim’s duties as trustee were owed solely to Bill, as settlor, and not to respondents …As explained by our Supreme Court, ‘property transferred to, or held in, a revocable inter vivos trust is deemed the property of the settlor.’”

The court continued.  “A settlor with the power to revoke a living trust effectively retains full ownership and control over any property transferred to that trust.  Any interest that beneficiaries of a revocable trust have in trust property is merely potential and can evaporate in a moment at the whim of the settlor.”

As explained by the court, “statutes recognize that when property is held in a revocable trust, the settlor and lifetime beneficiary has the equivalent of full ownership of the property.  Thus, during Bill’s lifetime, Tim’s duties as trustee were owed solely to Bill – the settlor with the power to revoke – and not to respondents. Instead, respondents occupied a position analogous to heirs named in a will.

Revocable living trusts are merely a substitute for a will.  And just as a will ‘speaks’ only as of the date of the testator’s death, a revocable trust confers enforceable property interests to the beneficiaries only at the time it becomes irrevocable. Prior to that time, those beneficiaries have no rights to the trust property, and thus no say in how it is managed.”

The court made plain its position.  “In our view, the statute supports the conclusion beneficiaries lack standing – ever – to assert claims based upon conduct occurring during the settlor’s lifetime.”

Also, Tim owed no “duty” to stop his father from making an “unwise” investment.  “That was not a claim Bill himself could have brought. ‘Stop me before I do something I’ll regret’ is not a recognized cause of action, even against the trustee of one’s revocable trust …

“Bill remained legally entitled to do what he wanted with the trust assets – which were effectively his own property – including doing financially risky or downright stupid things. No one – including Tim – had the authority to stop him. Thus, in the absence of an adjudication of Bill’s incompetency, we cannot discern any legal basis on which Bill might have justified holding Tim liable for carrying out Bill’s own wishes with regard to the assets in the family trust – even if those wishes appeared to be objectively unreasonable.”

Such a sound and well-reasoned opinion is welcome in an area that suffers from needless confusion.

Estate of Giraldin (Sept. 28, 2011) 2011 DJDAR 14642

Weinberger v. Morris – Why Doesn’t the Merger Doctrine Extinguish Many Living Trusts?

This writer has commented regularly that the modern estate planning trust is a legal fiction.  A convenient legal fiction, mind you, but still a legal fiction.

The estate planning trust (also known by the unfortunate term, “living trust”) is a merely a will substitute.  It takes effect – meaning, it provides a benefit to a third party – upon the death of the settlor.  That’s precisely what a will does – it transfers property at death.  The difference is, the administration of a decedent’s will is subject to the jurisdiction of the probate court, whereas many estate planning trusts operate extra-judicially.

Remember the essential legal premise of an estate planning trust – one person (sometimes a married couple) acts simultaneously as the settlor (trustor), trustee, and beneficiary.  The same person retains the full power to amend or revoke the trust, and/or to withdraw all of the assets for his or her own benefit.

Enter the merger doctrine.  The merger doctrine is conventionally considered a principle of real estate law.  It holds that temporary (or partial) interests in real property become joined – unified – when held by one person.  The legal doctrine (whether or not intended) causes the partial interest to merge into the greater fee interest.

Thus, when one person is both the tenant and the landlord at the same time, the lease “merges” into the fee ownership, and ceases to have legal significance.

Likewise, when the owner of real property is simultaneously the beneficiary of a deed of trust encumbering the property, the beneficial interest under the deed of trust merges into the fee ownership, and is no longer independently enforceable.

One more common example.  If the same person holds a fee interest in real property and also holds an easement against the property, the easement will merge into the fee ownership, and cease to function for legal purposes as an easement (at least while the ownership is unified).

Cheyenne Frontier Days Rodeo
Why doesn’t the same result occur with estate planning trusts?  We know that real estate trusts have their genesis in real estate law, starting in about 1250 in England.  (Other Continental legal systems do not recognize trusts.)

When one person is simultaneously the grantor, the grantee, and the beneficiary, why don’t the legal interests merge so that the trust is disregarded?  That’s an interesting question: a recent case brushes against it, but fails to consider the full impact of this analysis.

Thus, we find the following discussion in Weinberger v. Morris (2010) 188 Cal.App.4th 1016:

“Robert’s argument implicates the ‘merger doctrine,’ which may be summarized as follows: when the sole trustee of a trust and the sole beneficiary of the trust become one-and-the-same person, the duties of the person, in his or her role as trustee, and the interests of the person, in his or her role as beneficiary, ‘merge,’ meaning that the trust terminates as a matter of law, and the trust’s assets irrevocably vest in the beneficiary. (See Ammco Ornamental Iron, Inc. v. Wing (1994) 26 Cal.App.4th 409, 417.)

“The determination whether the duties of a trustee and the interests of a beneficiary have become united in a single person is a question of law resolved by construction of the trust instrument.”

(Interesting observation by the court of appeal.  Why isn’t the legal construction of the document an issue of law to be resolved by the court?)

Continued the court.  “In the current case, the trial court rejected Robert’s claims for the following stated reasons: ‘The Sue Weinberger Trust did not terminate upon Sue Weinberger’s death. The merger doctrine does not apply.  In interpreting Sue Weinberger’s intent, as expressed in the Sue Weinberger Trust, the Sue Weinberger Trust continued until there was a final distribution of the assets of the Sue Weinberger Trust …

“Upon Sheila Weinberger’s death the real property continued to remain in the Sue Weinberger Trust and was distributed by Lee Davis acting as trustee of the Sue Weinberger Trust to himself.  Upon Lee Davis’ distribution of the real property, the Sue Weinberger Trust terminated.”  Based thereon, the court concluded that the trust interests had not merged at an earlier time.

To me, that’s a legal conclusion: it’s not a matter for resolution strictly by factual reference to the decedent’s estate planning trust.  The reality is that conventional trust law is applied carelessly in the case of estate planning trusts, because the round peg doesn’t fit the square hole.  We advance the fiction of estate planning “trusts,” with the result that probate administration is avoided.  We need a coherent body of law controlling the treatment of estate planning trusts, because the Restatement of Trusts does not fit well.

In Weinberger, the court offered no analysis as to why the merger doctrine did not apply, as a matter of law.  The question is profound, and worthy of further thought.

Weinberger v. Morris (2010) 188 Cal.App.4th 1016