Trustee Selling a House to His Son for a Bargain Price. What Can the Beneficiary Do?

A trustee wants to sell the trust’s house to his son for $600,000. Claims he has an appraisal for that value. Zillow estimate is $700,000. Beneficiary claims that because the market is so hot right now, the house can go for over $800,000.

Questions Presented:

Can the trustee sell without beneficiary’s approval? If yes, can we reverse it?
Would it be self-dealing if he sells?
What would our remedies be?
What would be our chance of winning?
Can we put in a restraining order to stop the trustee from selling? What would our chances of winning that be?
Will the trustee be able to bill his lawyer’s fees to the trust for defending his self-dealing?

Legal Framework

Under EPTL § 11-1.1(b)(5)(b), the fiduciary, absent any limitations in his appointment, may sell real trust (not specifically devised) at a public or private sale, and on such terms as in the opinion of the fiduciary will be most advantageous to the beneficiaries.

Generally, the courts will not interfere with a trustee’s decision to sell real property, but if the value of the property is uncertain, the trustee can petition the court for advice and direction under SCPA § 2107, and this procedure will relieve the fiduciary from any objection that the trust suffered a loss on account of the sale.

The fiduciary engages in self-dealing, which is prohibited, when he sells the property to himself or to an entity he has an interest in. The trustee is required to administer the trust solely for the interests of its beneficiaries and shall avoid self-dealing and conflicts of interest. See Uniform Trust Code, Section 802(a) and Rtrustment (Third) of Trusts, Section 79, comment c(2).

In cases of self-dealing, the courts have adopted the “no further inquiry” rule, where courts set aside a transfer of property held in trust by a fiduciary to the fiduciary himself or an entity in which he has an interest, upon challenge of a beneficiary. In Kleeberg v. Eber, No. 16-CV-9517 (LAK) (KHP) (2020), the Court elaborated on the “no further inquiry” rule:

“The no further inquiry rule enforces a trustee’s duty of undivided loyalty by prohibiting a trustee from acquiring trust property for him or herself (or transfer such property to their spouse), absent certain exceptions. As explained by the Second Circuit: “Under the higher standard of undivided loyalty, the law `stops the inquiry when the relation is disclosed, and sets aside the transaction or refuses to enforce it, at the instance of the party whom the fiduciary undertook to represent, without undertaking to deal with the question of abstract justice in the particular case.'” Renz v. Beeman, 589 F.2d 735, 744 (2d Cir. 1978) (quoting Wendt v. Fischer, 243 N.Y. 439, 444 (1926); and Munson v. Syracuse, Geneva & Corning R.R., 103 N.Y. 58, 74 (1886)); see also generally Phelan v. Middle States Oil Corp., 220 F.2d 593, 603 (2d Cir. 1955) (a “`trustee violates his duty to the beneficiary not only where he purchases trust property for himself individually, but also where he has a personal interest in the purchase of such a substantial nature that it might affect his judgment in making the sale'” (quoting Rtrustment of Trusts § 170, Comment (c)). Upon finding that the no further inquiry rule is implicated, “the court is generally required, upon challenge by a beneficiary, to set aside a transfer of property, held in trust by a fiduciary, to the fiduciary himself or an entity in which he or she has an interest.””

The “no further inquiry” rule, however, does not apply in three cases: (1) when the trust instrument allows the trustee to engage in self-dealing; (2) when the court, after conducting a full exploration of the facts and permitting the trust beneficiaries to object, approves the transaction; and (3) with the consent of the trust beneficiaries. Kleeberg v. Eber, supra.

In Flaum v. Birnbaum, 120 A.D.2d 183 (N.Y. App. Div. 1986), the court held that, even with the consent of the beneficiaries, the self-dealing transaction is still voidable if the fiduciary fails to disclose material facts which he knew or should have known, if he used the influence of his position to induce the consent or if the transaction was not in all respects fair and reasonable (II Scott, Trusts § 170, at 1298 [3d ed 1967]).

The no further inquiry rule has been applied to sales of the fiduciary to his spouse. This rule, however, has not been extended to sales of the fiduciary to the son. In the Matter of Parisi, 2011 NY Slip Op 52429(U) (1998), the Court held:

“While transactions with a child may put fiduciaries in conflict with certain beneficiaries, the question remains whether this constitutes “self-dealing.” This court has not found a case extending the “no further inquiry” doctrine to transactions with children and is loathe to broaden the per se rule to the fact pattern encountered at bar. Under the circumstances presented here, the court’s role should be to determine whether the fiduciary can conclusively demonstrate that the transaction was made for full consideration under circumstances which preclude the possibility of any improper advantage to the fiduciary. Based upon the facts set forth in the motion papers herein, Petitioner has sustained this burden. Although Camille does not concede that $925,000.00 was full consideration for the 200 shares of White Birch Farms, Inc., she has not submitted proof in her motion papers that $925,000.00 was an undervaluation. In fact, the only evidence pertaining to the value of the stock submitted on the motion, apart from pure conjecture, was an appraisal Camille annexed to her motion papers which indicated that the stock had a value of $925,000.00, which was the actual purchase price. Furthermore, in the fifth branch of her motion, Camille seeks a surcharge in the sum of $145,900.00, which represents the difference between the $925,000.00 valuation and the amount subsequently collected by Joseph from Michael.”

In case a fiduciary engages in self-dealing, the beneficiaries’ remedy is to file a petition to suspend, modify or revoke the letters or remove for misconduct under SCPA § 711(2) on the ground of waste or improper application of trust assets.

In case the fiduciary is found liable for self-dealing, the court can order any or all of the following: (a) imposition of constructive trust; (b) forced reconveyance; and (c) accounting.

Analysis:

Can the trustee sell without beneficiary’s approval? If yes, can we reverse it?

Yes, the trustee can sell the real trust without the beneficiary’s approval. EPTL § 11-1.1(b)(5)(b) states that, the fiduciary, absent any limitations in his appointment, may sell real trust (not specifically devised) at a public or private sale, and on such terms as in the opinion of the fiduciary will be most advantageous to the beneficiaries.

Generally, the courts will not interfere with a trustee’s decision to sell real property, but the trustee can petition the court for advice and direction under SCPA § 2107 if the value of the property is uncertain, and this procedure will relieve the fiduciary from any objection that the trust suffered a loss on account of the sale.

In case there is a sale of real property below market value, the beneficiary has the remedy to petition the court for revocation of the letters based on an improper application of the trust assets under SCPA § 711 (2). It could also petition the court for the reconveyance of the property plus damages.

Would it be self-dealing if the trustee sells? What would our remedies be?

Self-dealing occurs when the trust property is sold to the fiduciary, an entity where the fiduciary has an interest in, or the fiduciary’s spouse. Self-dealing has not been applied in cases where the fiduciary sold the trust property to his son.

In that case, if there is no self-dealing, the “no further inquiry” rule would not apply, and the courts will not automatically set aside the transaction. However, the courts can set aside the transaction if there is proof that the property was sold below market value. The court’s role would be to determine whether the fiduciary can conclusively demonstrate that the transaction was made for full consideration under circumstances which preclude the possibility of any improper advantage to the fiduciary. See In the Matter of Parisi, supra.

3. What would be the beneficiary’s chance of winning?

It would depend on the proof submitted to the court. In the Matter of Parisi, supra, the court did not find the trustee to be self-dealing, because there was no proof shown that the property was sold below market value. The appraised value annexed to the petition was the same value of the purchase price.

In this case, if the property is sold for $662,400, but an independent third party appraiser shows a higher value, the trustee will be either: (a) liable for the balance plus a case for interest; or (b) reconveyance of the property. Other pieces of evidence can be introduce to show market value, such as proof of sales of other houses in the neighborhood, but these sales have to be certified by a government registry and there should be a showing that the two properties are similar for purposes of valuation.

4. Can the beneficiary put in a restraining order to stop the trustee from selling? What would his chances of winning that be?

Yes, there is nothing to stop anyone from filing a petition to restrain someone from selling. Chances of winning will depend on proof shown that there is an undervaluation of the property being sold.

5. Will the trustee be able to bill his lawyer’s fees to the trust for defending his self-dealing?

If the court has decided that it the property was sold below market value, then the fiduciary violated his duties and his lawyer’s fees cannot be billed to the trust. However, if it is proven that the sale was on an arm’s length transaction and there was no sale below market value, the fiduciary has a strong case that the trust should pay for his fees because he has not violated his duties.