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Frederick-Conaway v. Baird

Supreme Court of Delaware

March 28, 2017

JESSE FREDERICK-CONAWAY, Appellant/Cross-Appellee,
v.
KEVIN M. BAIRD, COURT-APPOINTED EXECUTOR OF THE ESTATE OF EVERETT T. CONAWAY AND COURT-APPOINTED TRUSTEE OF THE EVERETT T. CONAWAY REVOCABLE TRUST, Appellee, and JANICE M. RUSSELL-CONAWAY, Appellee/Cross-Appellant.

          Submitted: February 8, 2017

         Court Below: Court of Chancery of the State of Delaware C.A. No. 8379

         Upon appeal from the Court of Chancery. AFFIRMED in part, REVERSED in part, and REMANDED.

          David N. Rutt, Esquire (argued), Moore & Rutt, P.A., Georgetown, Delaware, Attorney for Appellant/Cross-Appellee, Jesse Frederick-Conaway.

          Stephen A. Spence, Esquire (argued), Baird Mandalas Brockstedt, LLC, Lewes, Delaware, Attorney for Appellee, Kevin M. Baird, Court-Appointed Executor of the Estate of Everett T. Conaway and Court-Appointed Trustee of the Everett T. Conaway Revocable Trust.

          Robert G. Gibbs, Esquire (argued), and R. Eric Hacker, Esquire, Morris James Wilson Halbrook & Bayard LLP, Georgetown, Delaware, Attorneys for Appellee/Cross-Appellant, Janice M. Conaway.

          Before VALIHURA, VAUGHN, and SEITZ, Justices.

          VALIHURA, Justice.

         Jesse Frederick-Conaway ("Jesse") and Janice Russell-Conaway ("Janice") were the original co-executors of the Estate of Everett T. Conaway ("Conaway") and co-successor trustees of the Everett T. Conaway Revocable Trust (respectively, the "Estate" and the "Trust").[1] Janice is Conaway's widow, and Jesse is Conaway's adult son from another marriage. After intractable disputes arose, the Court of Chancery removed Janice and Jesse and appointed Kevin M. Baird, Esq. ("Baird") as an independent successor administrator and trustee. Baird petitioned the court for instructions on whether certain of Jesse and Janice's transactions were proper. On July 14, 2016, the Court of Chancery issued a Rule 54(b) order from which Jesse appealed and Janice cross-appealed.[2]

         Jesse raises the following issues on appeal: (1) whether the Court of Chancery properly merged the administration of Conaway's Estate and Trust; and (2) whether the Trust's interest in a limited partnership may be used to satisfy specific gifts where the Court of Chancery had held that the interest was subject to a contractual restriction on transfer and passed to Jesse as residuary beneficiary of the Trust.[3]

         Janice's cross-appeal raises the question of whether the Court of Chancery abused its discretion by (1) finding Janice liable for interest at the legal rate on $150, 000 that the court determined she had received properly but prematurely; and (2) finding Janice liable for $77, 987 she had improperly removed from the Estate, plus interest at the legal rate.

         For the reasons set forth below, we AFFIRM those portions of the Court of Chancery's Order: (1) directing Jesse to return the Trust's 69% EJKC Limited Partnership interest, together with all interest and dividends paid thereon, to the Trust, to be treated as part of the residue of the Trust; and (2) finding Janice liable for amounts totaling $77, 987 with interest at the legal rate. We REVERSE the Court of Chancery's determination that Janice's receipt of $150, 000 in deferred payments owed to Conaway was proper. We also REVERSE the portion of the Court of Chancery's Order finding Janice liable for interest at the legal rate (as opposed to a rate applicable to funds on deposit) on the $150, 000 she received. We REMAND this matter to the Court of Chancery for further proceedings consistent with this Opinion.

         I. RELEVANT FACTS AND PROCEDURAL BACKGROUND

         Conaway died testate on May 11, 2010. His Last Will and Testament (the "Will"), dated September 21, 2009, was filed with the Sussex County Register of Wills. Letters Testamentary were granted to Janice and Jesse as co-executors on May 26, 2010. Conaway also executed an Amended and Restated Revocable Trust Agreement on September 21, 2009 (the "Trust Agreement"). The Trust Agreement initially had been executed on September 3, 1993. The Will was a "pour-over" will, directing the executor to administer the Estate with the Trust as the ultimate beneficiary. The Trust Agreement contains the ultimate dispositive provisions. The inventory filed with the Register of Wills in November 2011 listed the following property as probate assets:

Probate Asset

Fair Market Value

3, 592 shares of Fulton Bank (“Fulton”)

$36, 013.39

300 shares of Heinz

$15, 750.00

133 shares of Del Monte

$2, 525.67

50 shares of Pernix Therapeutic Hldgs.

$155.99

100 shares of Golf Trust

$179.00

Delaware National Bank Account

$6, 022.41

PNC Bank Account

$4, 300.33

Household Furnishings

$25, 000.00

2002 Silverado

$6, 000.00

1978 Boat and 1955 Trailer

$500.00

2000 Utility Trailer

$2, 500.00

1973 HMDE Utility Trailer

$750.00

1987 Dodge Pickup

$1, 000.00

TOTAL

$100, 696.79

          The First Account listed total probate assets of $100, 696.79.

         Conaway's Trust owned a limited partnership interest in EKJC Partnership, L.P. (the "Partnership"), which Conaway created in 2002 to begin "transferring stock out of his estate for the benefit of Jesse."[4] The only other limited partner was a revocable trust created by Jesse. The Partnership's general partner was Confam, Inc. ("Confam"), which Conaway and Jesse owned in equal shares. Upon its formation, the Partnership owned 79, 533 shares of Fulton stock. The Limited Partnership Agreement ("LPA") precluded assignment or transfer of limited partner interests without the consent of the general partner and the other limited partner. At the time of Conaway's death, the Trust owned a 69% interest in the Partnership (the "Limited Partnership Interest" or "LPI"); a Morgan Stanley account; 32, 486 shares of Fulton stock; and a 50% interest in Confam.

         According to Baird's Petition for Instructions, these assets, upon Conaway's death, were valued as follows:

Trust Asset

Value

Morgan Stanley Active Assets Account

$36, 088.24

69% Interest in the Partnership

$814, 131.00

50% Interest in Confam, Inc.

$5, 899.50

32, 486 Shares of Fulton Stock

$336, 230.10

TOTAL

$1, 192, 348.84

         In his Will, Conaway left his household furnishings and tangible personal property to Janice, with the residue of the Estate pouring over into the Trust. The Trust Agreement set forth the disposition of Trust assets after Conaway's death. It provided for Janice to receive the Morgan Stanley account and 23, 000 Fulton shares.[5] Additionally, 1, 000 shares each were given to seven individuals, and 200 shares were designated for the Seaford Historical Society (together, the "Other Beneficiaries"). The balance of the corpus and any accumulated income were to be distributed to Jesse.

         The specific gifts of the Trust's Fulton stock to Janice and the Other Beneficiaries have never been carried out. Instead, Jesse and Janice liquidated the 32, 486 Fulton shares owned by the Trust for a total of $326, 420.76 shortly after Conaway's death to satisfy an unsecured line of credit in Conaway's name of approximately $260, 000 from Delaware National Bank (the "DNB Loan"). From the proceeds, Jesse and Janice paid the DNB loan and $10, 355.46 in funeral expenses and reimbursed Janice for $3, 118.64 in Estate expenses. Approximately $52, 500 (of Trust assets) remained, which was deposited into an "estate account" Jesse and Janice created to hold the liquidated stock (the "Estate Account"). Although the name suggests that the Estate Account should have held only Estate assets, it appears to have been funded with Trust assets instead. This comingling of Estate and Trust assets was one of the issues brought before the Court of Chancery in Baird's Petition for Instructions.[6]

         The Trust Agreement included two additional gifts to Janice, one of which was declared void by the Court of Chancery and the other of which is contested in this appeal. First, the Trust Agreement provided for the Trust's LPI to be "distributed" to Janice. In an earlier litigation (the "2012 Litigation"), the Court of Chancery had determined that a restriction on assignment of limited partner interests in the LPA invalidated this attempted transfer.[7] The Court of Chancery's February 15, 2012 ruling and its March 13, 2012 denial of reargument were affirmed by this Court in an Order dated September 28, 2012.[8] Following the 2012 Litigation, Jesse removed the LPI from the Trust, allowed the Partnership to lapse, and transferred the Partnership's assets to a personal account in his name.[9] Jesse asserts that he subsequently revived the Partnership and retitled the account in which the stock is held.

         Second, the Trust Agreement designated Conaway's stock in Conaway Development Industries, Inc. ("CDI"), or the proceeds of any sale thereof, for Janice. Before his death, Conaway entered into a contract for the sale of his CDI stock (the "Stock Purchase Agreement" or "SPA"), which entitled him to $150, 000 in deferred payments (the "CDI Payments"). Conaway signed the SPA in his own name, and nothing in the record suggests that the stock or the CDI Payments were transferred to the Trust. Nevertheless, original Estate counsel Stephen Ellis ("Ellis") instructed the buyer of the CDI stock to make the payments to Janice, which she accepted. The CDI Payments were excluded from the First Account and Inventory filed with the Register of Wills, which indicated that the total debts of the Estate exceeded the assets by $190, 169.37.[10] Had the CDI Payments been included in the Estate Inventory, the Estate assets would have been $250, 696.79, and the debts would have exceeded the assets by only $40, 169.37.

         In addition to receiving the CDI Payments, Janice removed funds from the Estate Account totaling approximately $53, 710.[11] Janice also received cash belonging to the Estate from a Del Monte merger that caused Conaway's Del Monte shares to be converted to $2, 257 and a Heinz going-private transaction that caused Conaway's Heinz shares to be converted to $21, 750. Despite Jesse's objections, Janice continued to withdraw from the Estate Account until it was nearly depleted. Between the withdrawals and the stock transactions, Janice received approximately $77, 987.

         On August 20, 2013, the Court of Chancery removed Janice and Jesse as co-executors and co-trustees and appointed Baird in their place. Baird petitioned the Court of Chancery for instructions as to the propriety of Jesse and Janice's management of the Estate and Trust, specifically with respect to the liquidation of the Trust's Fulton stock, the CDI Payments to Janice, Jesse's removal of the LPI from the Trust, and the $77, 987 in distributions to Janice.

         After several hearings, the Court of Chancery issued a Rule 54(b) order (the "Order"). The Order provided that: (1) Jesse must return the LPI to the Trust, together with all interest and dividends paid thereon; (2) Janice properly received the CDI Payments, but is liable to the Trust for interest at the legal rate because she received them prematurely; and (3) Janice is liable for $77, 987 plus interest at the legal rate. In earlier bench rulings, the Court of Chancery had stated that the liquidation of Trust assets to pay debts of the Estate was proper[12] and that the "value of [the LPI] ha[d] to be available to satisfy" the "specific bequests, [E]state expenses, creditors, " and other obligations.[13] The court commented that the "[T]rust was adopted into the [W]ill"[14] and that the Trust and Will constituted a "unified estate plan[.]"[15]

         On appeal, Jesse contends that the Court of Chancery improperly applied the incorporation by reference doctrine to hold that the Will and Trust were merged into one unified administration. As part of that argument, he contends that the "unusual ruling by the Court below had the effect of permitting $150, 000 of [Conaway's] personal assets in the form of the [CDI Payments] to be paid directly to Janice rather than be used to pay his personal debts."[16] Jesse further contends that "Janice should be ordered to disgorge the assets she received from the [E]state to the [T]rust in repayment of the [T]rust assets used to pay the [E]state debt."[17]

         Jesse further argues that the Court of Chancery erred by ordering him to return the LPI, which he asserts cannot be used to satisfy any debts or specific gifts in the Trust due to the LPA's restriction on transfers.

         In a cross-appeal, Janice contends that the Court of Chancery improperly charged her interest on the CDI Payments, and that it erred by holding her liable for the $77, 987 in "advances" she received, plus interest at the legal rate.

         II. ANALYSIS

         A. The Court of Chancery Erred in Merging the Administration of the Estate and Trust and in Concluding that the CDI Payments to Janice Were Proper

         Jesse contends that the Court of Chancery improperly relied on the "incorporation by reference" doctrine to hold that the Will and Trust were merged into a single administration. He argues that, as a result, the court improperly found that the CDI Payments to Janice and the use of Trust assets to pay debts of the Estate were proper. According to Jesse, the CDI Payments and other assets Janice removed from the Estate Account should be used to repay the Trust.

         Baird agrees with Jesse that the payments to Janice were improper, but argues that use of revocable trust assets to pay a decedent's debts is permitted by Delaware law.

         Janice argues that integration of the Will and Trust was proper under In re Estate of Arcaro, [18] such that Trust assets are subject to payment of Estate debts and expenses.

         This Court reviews questions of law, including the Court of Chancery's interpretation of written agreements, de novo.[19] We agree with Jesse (and Baird) that the Court of Chancery improperly ruled that the Will and Trust were merged into one unified, administrative scheme. In Arcaro I, the testator's son was a beneficiary under his father's will and inter vivos trust.[20] Although the son did not challenge the will, he argued that the trust, which had been drafted and executed under the same circumstances as the will, was invalid and procured by undue influence. The Court of Chancery ruled that the trust was valid because it satisfied all the elements of a trust. In dictum, the court stated, "[f]urthermore, the provision of Mr. Arcaro's will giving the residue of his estate to be distributed under the terms of the deed of trust is a valid incorporation by reference . . . ."[21] Notably, the court stated that the effect of the "incorporation by reference" was that the "assets not distributed under [the] will and not previously delivered to the trustee[] constitute[d] trust assets."[22] Arcaro I invoked the incorporation by reference doctrine in order to resolve the question of the validity of the deed of trust allegedly executed by the decedent. Here, no one challenged the validity of the Trust, and Arcaro I does not support Janice's expansive reading of it.

         On reargument in Arcaro II, [23] the Court of Chancery considered whether the trust, having been incorporated into the will, was so inextricably a part of the will so as to estop the son (a legatee) from contesting its validity. The Court of Chancery ruled that the son was estopped from challenging the trust, since he had failed to challenge the will and had accepted the benefits of the will. In so ruling, the court stated that, "once [the trust] was incorporated by reference[, ] the deed of trust became an inseparable provision of the will the validity of which was never challenged and whose benefits [the son] ha[d] accepted."[24] It stated further that "the will and deed of trust together constitute a single testamentary scheme the interlocking nature of which is evidenced by the incorporation of the trust into the will."[25] The holdings in the Arcaro decisions focus on the issue of the validity of the trust and, in our view, should not be read more broadly as general support for the merging of the Trust and Estate for administrative purposes in this case.

         To the Court of Chancery's credit, it recognized that "Arcaro doesn't specifically say you treat these as one big estate plan[.]"[26] However, it did read Arcaro to support the proposition that "the bequests in the [T]rust have to be looked at as though they are in the [E]state[.]"[27] We think Arcaro should be read more narrowly, and that the Court of Chancery erred in viewing the specific gifts in the Trust as being incorporated into the Will. In so doing, the court, in effect, improperly reordered the statutory priority scheme addressing bequests and the payment of debts. The proper treatment of the CDI Payments reduces the amount of funds needed from the Trust to satisfy the Estate's debts.

         The Trust's specific bequest of the CDI Payments to Janice is void because those payments were due to Conaway personally, and the right to those payments was not transferred to the Trust during his lifetime. An inventory of estate property, which is filed in the Register of Wills, must include "a list of all debts and credits due or belonging to the decedent or to the decedent's estate[.]"[28] The rights to the CDI Payments never belonged to the Trust and thus were personal property that should have been included in the Inventory and made available to satisfy the Estate's debts.

         Further, executors "owe a duty to pay the claims of creditors of the decedent."[29]"In terms of the priority of claims against the estate, creditors take precedence over beneficiaries, who only are entitled to their bequests after the claims of creditors have been paid."[30] The CDI Payments could not have poured over to the Trust to be disposed of according to the terms of the Trust until Estate debts were satisfied. As such, the CDI Payments were not properly paid to Janice. Accordingly, we REVERSE that aspect of the Court of Chancery's Order.

         Additionally, Trust assets should not have been liquidated to pay Estate debts until Estate assets were exhausted. Even accounting for the CDI Payments, the Estate was insolvent as of the filing of the First Account:

Estate Assets[31]

Estate Debts[32]

DNB Account

$6, 022.41

Register of Wills

$237.00

PNC Account

$4, 300.33

Coastal Hospice

$18.89

Fulton Stock

$36, 013.39

Janice

$2, 318.64

Heinz Stock

$15, 750.00

DNB Loan

$261, 396.17

Del Monte Stock

$2, 525.67

Funeral Expenses

$11, 790.46

Pernix Ther. Stock

$155.99

Attorney's Fees

$15, 075.00

Golf Trust

$179.00

Closing Costs

$30.00

Tangible Property

$35, 750.00

CDI Payments

$150, 000.00

TOTAL

$250, 696.79

TOTAL

$290, 866.16

         Payments to Janice from Estate assets prior to payment of Estate debts and other bequests were improper. Under proper administration, the Estate assets, including the CDI Payments, would have been exhausted by paying Estate debts, such that nothing would pour over from the Estate to the Trust. Instead, $40, 169.37 of Estate debt would have remained. The Trust, with assets ...


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