Take-Away: As the law progresses, the historic nature of a trust as a fiduciary relationship seems to be giving way to a new approach to treat a trust as a separate legal entity.

Background: When I went to law school many decades ago, I was taught that a trust is a relationship and not a legal entity. Any discussion of a trust at common law always pointed out that a trust is a fiduciary relationship between a trustee and beneficiary, a relationship that is governed by fiduciary duty principles.

Relationship: Loring: A Trustee’ Handbook gives the following definition of a trust: “A trust is not a pledge, agency, debt or contract for the benefit of a third party. Nor is it a partnership, which is essentially a contract of mutual agency. It is actually not even an entity.” (Loring, page 16.)

Entity:  However, as the years passed, legal scholars began to describe a trust more like a separate legal entity and not a relationship. For example, the Restatement (Third) of Trusts, Section 2, comment a, states: “Increasingly,…[however] modern trust law and statutory concepts and terminology tacitly recognize the trust as a legal ‘entity,’ consisting of the trust estate and the associated fiduciary relationship between the trustee and the beneficiaries.” The most notable departure from the common law principle that a trust is only a relationship is Professor John H. Langbein’s scholarly article, “The Contractarian Basis of the Law of Trusts,” 105 Yale Law Journal 625 (1995.)

A recent example of this evolution of a trust from being solely a relationship to instead a separate legal entity comes from the United States Sixth Circuit Court of Appeals.

JP Morgan Chase Bank v. Winget, 129 A.F.T.R. 2022-xxx,  6th Circuit Court of Appeals (July 2, 2022)

Facts: Larry Winget (Larry) borrowed money from JP Morgan Chase (the Bank) to finance Larry’s growing multi-national business enterprises. Larry’s holding company took out a loan for $450 million from the Bank to purchase another company. Larry’s holding company ultimately defaulted on that loan. To prevent the acceleration of that indebtedness, Larry and also his revocable grantor trust guaranteed the Bank’s loan, providing additional collateral to the Bank to forestall accelerating the loan. Larry’s guaranty agreement with the Bank limited Larry’s personal guaranty to $50 million. However, there was no dollar limitation of liability applicable to Larry’s revocable trust. Larry subsequently paid the Bank the $50 million on the personal guaranty. At that time, Larry’s revocable  trust held multiple valuable LLC interests worth multiple millions.

A Decade of Litigation: (This case was appealed 9 times to the Court of Appeals over the last decade! Clearly it financed multiple lawyers’ retirements .) Larry paid the Bank $50 million to fully satisfy his personal guaranty. Larry’s  revocable trust refused to pay the Bank anything towards the outstanding loan; the trust refused to pay anything towards the debt owed the Bank after Larry’s $50 million payment claiming its obligation to the Bank had been satisfied (by Larry’s payment.) This defend then led to the start of the litigation to collect the loan from Larry’s revocable trust.

Fraudulent Transfer: Larry revoked his revocable trust and transferred all of its assets back into his own name. The Bank sued Larry claiming that the termination of Larry’s revocable trust and the distribution of the assets from the trust to Larry was a fraudulent transfer. The federal District Court agreed that a fraudulent transfer had occurred (moving assets from the trust to its settlor who no longer had any personal liability to the Bank.) After the decision that the transfer of assets from the trust was a fraudulent transfer, Larry re-transferred the assets back to his revocable trust. However,  before Larry rescinded the transfer and returned the assets to his revocable trust, Larry depleted the assets’ values by hundreds of millions worth of LLC distributions to himself.

Collecting from the Revocable Trust: The legal question was whether a judgment could be obtained against Larry’s revocable trust. Larry argued that he had a contractual right to revoke his revocable trust at any time. Larry also argued that he and his living trust were alter egos, such that the $50 million personal guaranty that Larry gave to the Bank was also the limit of the revocable trust’s guaranty. Since Larry and his trust were ‘one and the same’ then Larry’s revocable trust was not a separate legal entity

  • District Court: The court found that the guaranty agreement with the Bank did not explicitly reference in the provision that limited Larry’s personal liability. As a result, the trust was not subject to that protection/limitation. Since the trust was liable for the balance of the Bank debt, Larry made a fraudulent transfer when he revoked his trust. The court also found that Larry was unjustly enriched by the cash distributions from the assets prior to his ‘re-titling’ the revocable trust with those assets. The court imposed a constructive trust on the distributions that Larry received from the trust’s assets to Larry.
  • Court of Appeals: The Court agreed with the trial judge’s findings and analysis. In doing so, it treated Larry’s trust as a separate legal entity, not a relationship. This was pointed out in a dissenting opinion of one of the appellate judges.
  • Dissent: The dissent argued that a revocable trust is not a separate legal entity vis-à-vis the creditor. Accordingly, the dissenting judge interpreted the original guaranty agreement to list Larry’s revocable trust as just another source of Larry’s personal assets for the guaranty, and not a separate party to the guaranty agreement. The dissenting judge noted that Larry and his revocable grantor trust were essentially merged with respect to Larry’s financial obligation to the Bank. In short, the dissenting opinion  concluded that Larry’s revocable trust was not separately liable; rather, it was liable to the Bank on behalf of Larry, and thus the revocable trust was protected by Larry’s $50 million limit of liability.

Conclusion: Common law evolves over time, primarily through a judge’s view of an ever-changing society. It appears that the legal definition of a trust is changing as well, going from relationship to legal entity.