In Boyle v. Anderson, No. 210382 (Va. April 14, 2022), the Supreme Court of Virginia addressed an emerging topic in trusts and estates: whether a settlor can require that trustees and beneficiaries submit any disputes to arbitration, rather than allow them to proceed through litigation. This type of clause could be referred to as a “donative arbitration clause,” because it exists in a will or trust agreement, as opposed to a more conventional contract between parties.
It might come as no surprise that many settlors and advisors seek to include such a clause in their trusts. Compared to litigation, arbitration can result in savings in time, money and relationships. Importantly, arbitration itself is often private, while litigation is a public affair. Further, arbitration procedures can be specifically tailored to the trust and estate context; for example, an arbitrator might provide that discovery is limited in certain respects or might allow the admission of evidence regarding past practices and family dynamics, which may not otherwise be admissible in open court. Despite such potential benefits, the question remains whether such a clause can be enforced against a beneficiary or a trustee, when such beneficiary or trustee wants to proceed in court.
Under the common law, arbitration clauses were not enforceable. Instead, such clauses are enforceable only by statute.
To date, a handful of states — including Arizona, Florida and South Dakota — have enacted specific statutes to expressly enforce such clauses in trusts. Ariz. Rev. Stat. Ann. § 14-10205; Fla. Stat. Ann. § 731.401; SDCL § 55-1-54.
Absent such a specific statutory provision, state and federal arbitration statutes provide that an arbitration clause is enforceable if contained in a contract or agreement. However, some courts cast doubt on whether an arbitration clause contained in a will or a trust would be enforceable against trustees and beneficiaries.
Against this backdrop appeared the case of Boyle v. Anderson, which addressed the enforceability of a trust’s arbitration clause under Virginia law.
In this case, Strother Anderson had three children: Sarah Boyle, John Anderson and Jerry Anderson. Jerry predeceased Strother, leaving two surviving children, Claire and Craig.
Strother died in 2011, while a resident of Fairfax County, Virginia. Strother’s estate plan included a revocable trust agreement, which named Sarah as the trustee at Strother’s death. The terms of the revocable trust provided that three shares were to be created upon Strother’s death: a share for Sarah, a share for John and a share for Jerry’s children.
The value of the assets of Strother’s revocable trust subject to this division were about $1.5 million. Accordingly, each share was to be funded with about $500,000.
Sarah and John’s shares were to be held in separate, lifetime trusts for their respective benefit, with each child serving as sole trustee of his or her separate trust. The terms of the child’s separate trust provided that the trustee could make distributions for the “health, education, maintenance, or support” of the child during the child’s lifetime. And then the child’s trust provided that, upon the death of the child, the remaining funds would pass to his or her descendants, or, if none were then living, then to Strother’s descendants, to be added to the other shares for those descendants under the revocable trust.
The revocable trust also contained an arbitration provision, which required that any dispute be resolved by arbitration, rather than litigation. The provision read in pertinent part as follows:
Any dispute that is not amicably resolved, by mediation or otherwise, shall be resolved by arbitration conducted in accordance with the Commercial Arbitration Rules of the American Arbitration Association (“AAA”) then in effect.
The arbitration clause included other terms; for example, it clarified that the dispute would be resolved by a single arbitrator and further specified that the arbitrator “shall have the authority to determine whether any such dispute is properly subject to resolution by arbitration.”
In a subsequent paragraph, titled “Contesting Beneficiaries Disinherited,” the revocable trust further elaborated on Strother’s intent: “The Trustor desires that this Trust, the Trust Estate and the Trustees and beneficiaries shall not be involved in time-consuming and costly litigation concerning the administration of this Trust and/or the distribution of its assets.”
This particular dispute arose in connection with the administration of John’s share. John survived his father, but he died a resident of South Carolina in September 2016, with no descendants and before the revocable trust was divided into each child’s separate share. In November 2016, John’s wife, Linda Anderson, as administrator of John’s estate, brought an action against Sarah in South Carolina court, alleging that Sarah had breached her fiduciary duties as trustee.
The key allegation of Linda’s complaint was that Sarah had unreasonably delayed funding the separate shares following Strother’s death. Linda alleged that if Sarah had funded those shares in a reasonable amount of time, then John’s share would have been available for his benefit, particularly during the illness leading to his death. In fact, Linda argued that John had “unfettered” access to the trust, which would have enabled him to distribute the entire trust to himself. She further argued that “he would have done so,” suggesting that John would have terminated his separate trust and distributed the remaining funds to himself. But, as a result of Sarah’s delay, Linda alleged, John’s share remained in trust, and John’s estate was smaller than it should have been.
Moreover, Linda alleged, Sarah’s delay had benefited Sarah personally. Because John’s share was in trust at the time of his death, pursuant to the terms of the revocable trust, his entire share would pass back to Strother’s other living descendants: Sarah and Jerry’s descendants. Linda painted Sarah as a bad actor; one of Linda’s briefs argued, “Sarah knew John was ill and she delayed distributions to him so that she could take his share when John passed.”
Linda’s complaint in South Carolina was ultimately dismissed for lack of personal jurisdiction. Linda then brought an action in Fairfax County, Virginia, in 2020. Once the matter was before the Fairfax court, Sarah moved to compel arbitration.
The trial court ruled that the arbitration provision was not binding on Linda, in her role as administrator of a beneficiary of the trust, and it denied Sarah’s motion to compel arbitration. Accordingly, the trial court permitted the case to proceed in court. Sarah appealed.
On appeal, the Supreme Court of Virginia upheld the ruling of the trial court. The court first held that, in Virginia, “Access to the courts to seek legal redress is a constitutional right,” under the Virginia Constitution (citing the petitions clause, Va. Const. Art. I, Section 12).
The court noted that this right can be waived, so long as a party’s waiver meets the requirements of the Virginia Uniform Arbitration Act, which enforces a predispute arbitration clause if contained in a “written contract.”
However, the court reasoned, a trust is not a contract, and therefore, any alleged waiver was not effective. The court determined that trusts are not contracts for the following three reasons: (1) trusts do not require the offer and acceptance that is required of contracts, nor do trusts have consideration for formation; (2) the duties of parties to a contract are different than, and are indeed less than, the fiduciary duties of a trustee; and (3) the trust provides for divided ownership, whereas contracts simply require the parties to perform.
The opinion is notable for its short summary of the hallmarks of a trust. In support of its argument regarding the high standard for duties imposed on fiduciaries (compared to the duties imposed on contracting parties), the court quoted Judge Benjamin Cardozo from the famous case Meinhard v. Salmon from 1928:
A trustee is held to something stricter than the morals of the market place. Not honesty alone, but the punctilio of an honor the most sensitive, is then the standard of behavior…. Only thus has the level of conduct for fiduciaries been kept at a level higher than that trodden by the crowd.
In her briefs, Sarah had relied heavily on Rachal v. Reitz, 403 S.W.3d 840, 847 (Tex. 2013), in which the Texas court held that a beneficiary, while not a signatory to a trust, became bound by its terms, through “direct benefits estoppel,” thereby making an arbitration clause effective under the Texas Arbitration Act (which makes enforceable an arbitration clause in a “written agreement”). Though the court in Boyle did not cite Rachal in its opinion, it presumably rejected that argument, as it held that a trust was not a contract or agreement.
The court concluded that because the arbitration clause was not contained in a written contract, it was not enforceable under the Virginia Uniform Arbitration Act (or the Federal Arbitration Act). But the court ended the opinion with the enigmatic statement that the court “express[es] no opinion” on whether an arbitration clause in a trust can be enforced on some basis other than the Virginia Uniform Arbitration Act (or the Federal Arbitration Act). The court did not expand on what those other bases might be, or if it would be receptive to other avenues of making such a clause enforceable.
For the time being, Boyle at least clarifies that, in Virginia, a settlor (and likely a testator) cannot require fiduciaries and beneficiaries to resolve their disputes through arbitration. Settlors might have some alternatives to still carry out their wishes, such as providing that the law of a state that does recognize those clauses applies to this question, or building a similar mechanism into the document whereby an independent trustee or trust protector resolves the issue. Meanwhile, trustees administering such a trust might explore changing the situs of the trust to another jurisdiction where the arbitration clause would be enforceable, and beneficiaries who oppose the application of such a clause should be on guard against such attempts to change the situs.
Moreover, even in jurisdictions where donative arbitration provisions are possibly enforceable, settlors should still be mindful of the host of other issues arbitration provisions can create in drafting and administering trusts and estates, as well as their potential tax implications. See, e.g., Mikel v. Commissioner, T.C. Memo 2015-64 (April 6, 2015) (with respect to withdrawal rights in an irrevocable trust, the IRS argued in part that when the beneficiaries had to enforce those withdrawal rights in a private forum akin to arbitration, the withdrawal rights were illusory and did not have the tax benefits the settlors intended; on appeal, the Tax Court found that such withdrawal rights were enforceable). McGuireWoods’ Fiduciary Advisory Services has been following these cases (see McGuireWoods alert Recent Cases of Interest to Fiduciaries: April 2021), along with arbitration clauses in investment advisory agreements (see McGuireWoods alert Recent Cases of Interest to Fiduciaries: July 2018).
In the meantime, settlors and proponents of arbitration clauses in trusts will have to explore those alternatives to arbitration clauses. It remains to be seen whether the Virginia General Assembly will enact a statute that provides for enforcement of arbitration clauses in trusts.