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De Facto Trustee Doctrine Recognized

Written by on Jan 23, 2009| Posted in: Estate Litigation

Washington joins other states in growing trend

The doctrine of de facto trustee is gaining popularity in its recognition by state court’s and trust and estate jurisprudence. A person is a de facto trustee where the person (1) assumed the office of trustee under a color of right or title and (2) exercised the duties of the office. A person assumes the position of trustee under color of right or title where the person asserts “an authority that was derived from an election or appointment, no matter how irregular the election or appointment might be.” A de facto trustee’s good-faith actions are binding on third persons. Because the purported successor trustee in Allen Trust acted as trustee and assumed its office through an appointment it reasonably believed to be effective, it was a de facto trustee and was entitled to compensation for its services. Washington recently joined the growing number of jurisdictions using the de facto trustee concept (Alabama, New York, Oklahoma, and Oregon all recognize the concept.)

In the Matter of the Irrevocable Trust of Michael McKean 183 P.3d 317, 2008 Wash.App.LEXIS 1062 (2008) the court dealt with the following factual scenario. Michael A. McKean has two daughters, Michelle McKean, born in 1989, and Morgan McKean, born in 1996. Laura McKean, Michael’s second wife, is Michelle’s mother; Connie McKean, Michael’s third wife, is Morgan’s mother.

In 1992, Michael created the Trust for the benefit of Michelle and his future children. Michael funded the Trust in part with shares of stock in a corporation Michael had incorporated in 1988. Michael also transferred to the Trust 20 percent of his “then owned” equity in 66 limited partnerships, which he valued at $275,000. The Trust contained a subtrust for the sole benefit of Michelle, Michael’s only child at the time he settled the trust. Michael funded the subtrust with real property managed as a rental.

The evidence elicited in the case revealed that Michael named his close friend, Gale Dahlstrom, as the Trust’s trustee. Although Dahlstrom signed the Trust documents as trustee, Michael led Dahlstrom to believe that he would have no active management responsibilities unless Michael passed away or was unable to manage the assets himself. Neither Michael nor Dahlstrom followed the formalities of trust management and administration after Michael created the Trust. Nobody filed trust tax returns, for the years 1993 through 1997, different tax identification, numbers were used for the Trust, and Michael commingled trust assets with non trust assets.

The court also found that in 1996, the federal government named Michael as a defendant in a civil lawsuit and began a criminal investigation of his activities related to the limited partnerships. When Michael learned of the lawsuit and the investigation, he began to transfer assets out of his name for the purpose of hiding them from the federal government. This included transferring additional assets to the Trust.
Michael filed for divorce from Connie which was granted by the domestic relations court in November 2000. The domestic relations court found that both Michael and Connie had abused the Trust, that Michael controlled the trustees, and that it should appoint a corporate trustee for the Trust. Michael appealed the order of the divorce court through the appellate court process.

Later, the evidence showed that in early 2000, Michael opened a bank account for the subtrust and Dahlstrom began receiving account statements as the trustee. Dahlstrom became concerned and, in August 2000, he signed a resignation of trustee, which he personally delivered to Michael. Michael did not inform Connie or the bank of Dahlstrom’s resignation. In March 2002, Michael’s sister, Shannon Keene, filed tax returns for the Trust for the years 1998 through 2000, signing the returns as the trustee.
Subsequently, in December 2001, while the appeal of the divorce decree was pending, the divorce court appointed Commencement Bay, a certified professional guardianship agency, as trustee of the Trust. Thereafter, Commencement Bay filed an action, the equivalent of which in Florida would amount to a Declaratory Judgment action. The court thereafter directed Commencement Bay to file a lawsuit against Michael, Connie, Dahlstrom, and Keene under the state trust and probate statutes.

The appeal from the divorce court order appointing Commencement Bay as trustee was then overturned since, according to the appellate court, the divorce court did not have any personal jurisdiction over the trustees. Commencement Bay then asked the court for an order appointing it as trustee (again) or dismissing the lawsuit it had filed and relieving Commencement Bay of its responsibilities. Commencement Bay asserted that another order appointing it as trustee was necessary to protect the children’s assets.  The trial court agreed and appointed Commencement Bay trustee of the Trust to preserve the children’s assets and to protect them from waste, theft, and fraud. After a trial, the court found that Michael had disavowed his gift of 100 shares of Northwest Community Housing stock to the Trust to prevent Commencement Bay from managing funds that would be distributed to the Trust from Michael’s corporation.

Michael appealed and argued that the trial court lacked jurisdiction over the action because, once the appellate court reversed the divorce court’s order requiring appointment of a corporate trustee, the divorce court’s appointment of Commencement Bay became void and Commencement Bay did not have standing to bring the lawsuit to protect the children’s interest.

Commencement Bay advanced several theories in support of the trial court’s authority to make the appointment, including that because Commencement Bay assumed the position of trustee under color of right and exercised a trustee’s duties in good faith, it became the “de facto trustee.” The appellate court agreed and Washington now joins this growing crowed recognizing the concept of de facto trustees:
“Although no Washington court has recognized the authority of a de facto trustee in a trust proceeding, the Oregon Court of Appeals recently adopted the de facto trustee concept in a similar setting. In that case, a person believing herself to be trustee appointed a successor trustee, but the trial court later invalidated the appointing trustee’s status as trustee, thereby removing her authority to appoint a successor. A person is a de facto trustee where the person (1) assumed the office of trustee under a color of right or title and (2) exercised the duties of the office. A person assumes the position of trustee under color of right or title where the person asserts “an authority that was derived from an election or appointment, no matter how irregular the election or appointment might be.” A de facto trustee’s good faith actions are binding on third persons.” [citations omitted]

The Court pointed out the facts germane to its conclusion to adopt the concept of de facto trustees: Commencement Bay assumed the office of trustee under color of right when the divorce court appointed it trustee, and Commencement Bay in fact acted as the trustee, marshalling and protecting the Trust’s assets. Commencement Bay reasonably believed it was the trustee and acted in good faith. The irregularity in the dissolution court’s appointment did not invalidate Commencement Bay’s de facto trustee status.
Therefore, the Court held that as de facto trustee, Commencement Bay had standing to bring the lawsuit to protect the interests of the children.

I’m always delighted to see a court have the courage to expand estate and trust law to come to the right result, which in this case, was to find the result which was in the best interest of the children.

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