It’s not uncommon for one person to establish a trust, fund it with some nominal amount (say, $100.00), and then have another person come along and contribute a more significant amount to the trust (say, $70,000.00).  Under these circumstances, who is the settlor of that trust?  A federal appellate court recently answered that question in Roberts v. McConnell.  So, why did a seemingly simple question of “who was the settlor” have to go from a bankruptcy court, to a federal district court, to a federal appellate court?

This case involved a spendthrift trust where – surprise – the beneficiary owed some people some money.  In fact, the beneficiary ended up filing for Chapter 7 bankruptcy protection.

The trust had an exception to the spendthrift provision which allowed the beneficiary to make withdrawals of principal in certain fractions after the settlor’s death.  The trust instrument named only the beneficiary’s grandmother as the “settlor.”  The grandmother funded the trust with $100.00 and never made another contribution to it again.  The beneficiary’s mother, however, made seven $10,000.00 inter vivos gifts to the trust over a period of eight years.

Well, the beneficiary filed for bankruptcy protection never having made any withdrawals from the trust.  The bankruptcy trustee, however, sought to bring trust funds into the bankruptcy estate free of trust  So, the bankruptcy court’s first task was to decide whether the “settlor” of the trust was deceased.  Easy analysis, right?  Apparently not.

The grandmother was deceased, but the mother was still living.  The beneficiary claimed that both his grandmother and mother were settlors of the trust because they both contributed funds to it and, therefore, he had no withdrawal rights.  The bankruptcy court agreed with the beneficiary and decided that all persons who contribute funds to a trust are settlors – a ruling which has support in current Texas statutes defining the term “settlor.”

A federal district court reversed and a federal appellate court affirmed that portion of the district court’s ruling.  Although the trust agreement did not define “settlor,” it identified the grandmother – and only the grandmother – as the settlor.  The trust agreement contemplated that other people may contribute to the trust, but never referred to these future contributors as “settlors.”  The trust agreement also did not specify a process by which anyone other than the grandmother could become a settlor.  If the grandmother (or the drafter of the trust agreement) intended for someone else to become a settlor, she could have stated as much.

The state statute also provided guidance on the definition of “settlor.”  The court’s interpretation of the term “settlor” was consistent with the applicable Texas law at the time the trust was created wherein “settlor” was defined as “the person who creates the trust.”  The definition of “settlor” under Texas law had changed since the creation of the trust.  “Settlor” is now defined under Texas law as “a person who creates a trust or contributes property to a trustee of a trust.”  The grandmother’s intent was to be analyzed at the time the trust was created and, therefore, the definition of “settlor” at the time of the trust’s creation was applied.

Some sloppy boilerplate likely contributed to the confusion.  The beneficiary tried to rely on a phrase in the trust instrument that stated “if the Settlor of this trust (or each Settlor if more than one) is then deceased,” as support for his contention that his mother became a settlor by contributing to the trust.  The court found that this phrase was “likely boilerplate language inadvertently lifted (or not deleted) from some book or trust agreement used by drafters from time to time in varying situations, including some in which there would be more than one settlor.”  This never happens, right?

While it doesn’t seem this family could have completely avoided litigation over the trust, a little bit more careful drafting (including checking and eliminating unnecessary boilerplate) could have helped minimize the litigation risk (or at least issues on appeal).  Likewise, statutes change over time.  Today’s definition of “settlor” or some other term may later be redefined in the applicable state statute making it all the more important to either carefully define terms or make clear that the grantor desires that the law at the time of the trust agreement shall apply where the instrument is otherwise silent.