A California trustee can be excused from liability for breaches of trust if a judge determines that it would be equitable to do so.

We see many situations where a family member trustee strays from the requirements of the trust instrument. Still, if the trustee does not favor himself or herself, and the beneficiary is not appreciably harmed, then the trustee may get a pass from the court under California Probate Code section 16440.  That’s the lesson of Orange Catholic Foundation v. Arvizu (2018) ____ Cal.App.5th ____, published last month by the California Court of Appeal.

A Life Estate for a Dear Family Friend

Life estates are common in California wills and trusts, but they can become a source of controversy. The creator of the will or trust may want to favor a family member or friend by allowing that person to continue to reside at a residential property so long as certain conditions are met.

Josephine Kennedy took that approach with her house in Orange County. Although not related to Kennedy or her husband by blood, Paul Senez worked for the family business and lived with the Kennedy family for some 60 years.  Kennedy treated Senez like a son, and he took care of her in her old age.

Kennedy created the Trust in 1997. She specified that the residence was to remain in trust for the use and benefit of Senez for the remainder of his life, provided that he pay “ordinary maintenance expenses.”  When Senez died or vacated the residence, it was to be distributed to the Orange County Catholic Diocese “to be used for the benefit of abused and needy children and the needy elderly, as said Diocese shall determine.”

Kennedy named her niece Rosie Mary Arvizu, with whom she was close, as successor trustee.

Kennedy died in 2007 at the age of 100. By then, Senez was elderly and showing signs of dementia.  When Arvizu offered Senez a room in her house, Senez became irate and vowed that he would stay in Kennedy’s house until he died.

Arvizu was in her 70s. She was not legally nor financially sophisticated.  She had not graduated from high school.  She had worked as a beautician and on an assembly line.

Even though the Trust expressly required Senez to pay for expenses relating to the residence, he lacked the resources to do so. Arvizu used tens of thousands of dollars of trust assets to cover the expenses because she thought that was what Kennedy wanted her to do and that she was doing the right thing.

Arvizu’s estranged daughter, Mary Ann, moved into the residence to help take care of Senez. She bathed and fed him, and helped him with medications.  As his dementia progressed, Mary Ann prevented Senez from wandering off.

When Senez died in 2012, Arvizu asked Mary Ann to move out. Mary Ann said she would do so, but remained.  Arvizu was distracted by her health problems and those of her husband.  Arvizu did not collect rent from Mary Ann.

Almost two years later, with help from her attorney, Arvizu got Mary Ann to move out of the residence. Arvizu then sold it for $546,000.

Foundation Tries and Fails to Remove and Surcharge Trustee

The Orange Catholic Foundation, which administers gifts for the Diocese of Orange, filed a petition seeking to remove Arvizu as trustee and to obtain damages from her. A judge in Orange County Superior Court heard evidence during a two-day trial, then ruled in Arvizu’s favor.

The judge concluded Arvizu had acted in a way that she thought carried out the wishes of Kennedy, notwithstanding the language of the Trust. The judge observed that Arvizu had not acted to benefit herself personally.

While allowing Mary Ann to remain in the property rent free after Senez’s death fell below the standard of care of a trustee, the judge found that the alleged loss of nearly $70,000 in rent was more than offset by the $136,000 increase in the market value of the residence as a result of the delayed sale. Hence, the Foundation was “hard-pressed to demonstrate any real losses attributable to Arvizu’s actions.”

The Court of Appeal affirmed, applying deferential standards of review. A trial judge’s exercise of equitable power is reviewable only for “abuse of discretion,” which means that the appellate court affirms unless the trial court decision “exceeds the bounds of reason and results in a miscarriage of justice.”  This was a high bar for the Foundation to cross and it failed to do so.

Probate Code section 16440(b) provides that if a trustee “has acted reasonably and in good faith under the circumstances as known to the trustee, the court, in its discretion, may excuse the trustee in whole or in part from liability [for breach of trust] if it would be equitable to do so.” The object of equity, after all, is to “do right and justice” in the particular factual context before the court.

The appellate court emphasized that Arvizu had not engaged in self-dealing, e.g., she had not occupied the residence rent-free after Senez’s death, and that the Foundation actually gained (as a result of California’s rising real estate market) from Arvizu’s inaction. The Foundation’s counsel admitted in trial that he could not quantify the dollar amount of any damage caused by the delayed sale, even though the residence may have deteriorated during that time.

As for the Foundation’s argument that Arvizu willfully disregarded the terms of the Trust and breached her fiduciary duties, the Court of Appeal observed that section 16440 can excuse a breach of trust even where the trustee acts negligently or willfully. The court did not pause to reconcile the concepts of negligence/willfulness with the statutory requirements of reasonableness and good faith.

The appellate court cautioned that a trustee does not have free reign to ignore trust terms in the name of doing the “right thing.” Instead, under the facts presented, the trial court had discretion to excuse Arvizu’s breaches of trust.

A Rising Tide Lifts Well-Intentioned Boats

The past decade of economic growth in California, a period of rising stock markets and real estate values, has helped trustees avoid liability for breaches of trust. As long as a trustee does not favor himself or herself with trust assets, and generally acts in good faith, the trial court may excuse strict compliance with trust terms and pardon the trustee for being inattentive to trust administration.

Yet trustees should not rest easy. Those who stray from the terms of a trust might face a judge who is unsympathetic.  If trust assets drop in value, as typically happens in a downturn, the inattentive trustee may be dinged for the loss.