SAN FRANCISCO — The California Supreme Court recently was asked to clarify certain provisions of the state’s Probate Code.
In the case of Carmack vs. Reynolds, defendant Rick H. Reynolds was entitled to receive more than $1 million in trust principal under the terms of a spendthrift trust that was established by his parents. Reynolds filed for voluntary bankruptcy under Chapter 7 of the U.S. Bankruptcy Code the day after his father died. Trustees for the family trust then wanted a declaratory judgment on the reach of the bankruptcy trustee's interest in that trust.
Court documents showed that the bankruptcy court determined that under the California Probate Code, the bankruptcy trustee standing as a hypothetical lien creditor could reach 25 percent of Reynolds' trust interest.
The bankruptcy appellate panel affirmed. The bankruptcy trustee appealed to the 9th Circuit, which asked the Supreme Court to clarify if the Probate Code puts a cap of 25 percent on what a bankruptcy estate can access in a spendthrift trust.
“We conclude that a bankruptcy trustee, standing as a hypothetical judgment creditor, can reach a beneficiary's interest in a trust that pays entirely out of principal in two ways,” the court wrote. “It may reach up to the full amount of any distributions of principal that are currently due and payable to the beneficiary, unless the trust instrument specifies that those distributions are for the beneficiary‘s support or education and the beneficiary needs those distributions for either purpose.
“Separately, the bankruptcy trustee can reach up to 25 percent of any anticipated payments made to, or for the benefit of, the beneficiary, reduced to the extent necessary by the support needs of the beneficiary and any dependents.’’
Reynolds is entitled to $250,000 from the trust if he survived his father by 30 days, as well as to receive $100,000 a year for 10 years and then one-third of the remainder.
Court documents said the Reynolds family's assets are in undeveloped real estate that do not produce income. While they are estimated to be worth several million dollars, the exact value will be known only when there is liquidation of trust assets.
The Supreme Court also wrote that the Probate Code does not impose such an absolute limit on a general creditor‘s access to the trust.
“With limited exceptions for distributions explicitly intended or actually required for the beneficiary's support, a general creditor may reach a sum up to the full amount of any distributions that are currently due and payable to the beneficiary even though they are still in the trustee‘s hands, and separately may reach a sum up to 25 percent of any payments that are anticipated to be made to the beneficiary,” the court wrote.