Carlson v. Sweeney, Dabagia, Donoghue

• Decision Date: 21 October 2008
• Docket Number: No. 46S05-0801-CV-27.,46S05-0801-CV-27.
• Citation: 895 N.E.2d 1191
• Parties: Norman R. CARLSON, Jr., Individually and As Executor of the Estates of Norman R. Carlson and Hilda D. Carlson, Deceased, and As Trustee of the Trusts Established Under the Last Wills and Testaments of Norman R. Carlson and Hilda D. Carlson; Margaret Ann Carlson; Beth Carlson Montigue; and David R. Carlson, Appellants (Plaintiffs below), v. SWEENEY, DABAGIA, DONOGHUE, THORNE, JANES & PAGOS; and John H. Sweeney, Appellees (Defendants below).
• Court: Indiana Supreme Court

895 N.E.2d 1191

Norman R. CARLSON, Jr., Individually and As Executor of the Estates of Norman R. Carlson and Hilda D. Carlson, Deceased, and As Trustee of the Trusts Established Under the Last Wills and Testaments of Norman R. Carlson and Hilda D. Carlson; Margaret Ann Carlson; Beth Carlson Montigue; and David R. Carlson, Appellants (Plaintiffs below), v. SWEENEY, DABAGIA, DONOGHUE, THORNE, JANES & PAGOS; and John H. Sweeney, Appellees (Defendants below).

No. 46S05-0801-CV-27.

Supreme Court of Indiana.

October 21, 2008.

Scott A. Weathers, The Weathers Law Office, P.C., Indianapolis, IN, Attorney for Appellants.

Robert G. Devetski, Barnes & Thornburg LLP, Indianapolis, IN, Attorney for Appellees.

RUCKER, Justice.

Arising in the context of a legal malpractice action, this case involves the reformation of trust provisions in two wills to comport with the testators' intent to avoid adverse federal estate tax consequences. We hold the trusts were properly reformed to include ascertainable standards in accordance with the Internal Revenue Code.

Facts and Procedural History

In 1988, Norman R. Carlson, Sr., and his wife Hilda Carlson (referred to collectively as "Testators") hired the Indiana law firm of Sweeney, Dabagia, Donoghue, Thorne, Janes & Pagos ("Law Firm") to prepare their wills. Among other things, Testators instructed Law Firm to draft the wills in a way that upon the deaths of their son Norman R. Carlson, Jr., and daughter in-law Margaret Ann Carlson property passing from them would not be subject to federal estate or state inheritance tax. In essence Testators intended that their grandchildren would avoid federal and state estate tax liability. Law Firm prepared separate wills purporting to accomplish this end. In part each will left some property to the other spouse, if surviving, and put the residue into a trust, with the First Citizens Bank as Trustee. Among other things the Trustee was instructed that upon the death of the last of Norman, Jr., and Margaret, any remaining balance in the trust was to be distributed to two named grandchildren, Beth Carlson and David Carlson. In addition each will provided that the Trustee could be replaced by a majority of the current beneficiaries. Relevant to this litigation the wills directed the Trustee to pay Margaret and Norman, Jr., "such sums from principal as the Trustee deems necessary or advisable from time to time for either of their medical care, comfortable maintenance and welfare, considering the income of either from all sources known to the Trustee." App. at 49, 58 (emphasis added).

Norman, Sr., died in June 1992, and his wife Hilda died shortly thereafter in August 1992. Both wills were admitted to probate. Thereafter in 1994 Norman, Jr hired a Texas attorney to assist with management of the trust. In counsel's opinion the language of the trust provisions in the wills subjected the property to federal estate taxes. Specifically, there were no "ascertainable standards" for the distribution of the trust principal. Thus the trust created a general power of appointment under Internal Revenue Service ("I.R.S.") Treasury Regulations, and property held under a general power of appointment is taxable upon the death of one holding the power. I.R.C. § 2041(a)(2)(b)(1).¹

At the request of Norman, Jr., his wife Margaret, and their two children Beth and David (referred to collectively as "Beneficiaries") on July 27, 1994, Law Firm filed in the LaPorte Superior Court a "Petition to Reform Testamentary Trust" with respect to Norman, Sr.'s will. App. at 65. The trial court granted the petition on August 4, 1994, and entered an order that the will be reformed to read: "The Trustee may also pay to my said son, Norman R. Carlson, Jr. and/or his said wife, Margaret Ann Carlson, such sums from principal as the Trustee deems necessary from time to time for either of their health and maintenance, considering the income of either from all sources known to the Trustee." App. at 67 (emphasis added).² In support of its order the trial court entered the following pertinent findings:

6. That if First Citizens Bank, N.A. is removed as Trustee and if Norman R. Carlson, Jr. or Margaret A. Carlson were appointed as Successor Trustee, the balance of the property in this Trust at the time of their respective deaths could be considered as an asset of their estates for federal estate tax purposes since they would have the power under Item III Section 2 [of the will] to make distributions of principal to themselves not limited by an ascertainable standard.

* * *

9. That the reformation of the trust to prevent any beneficiary as Trustee from exercising, for his own benefit the discretionary power of distribution authorizing invasion of principal not limited by an ascertainable standard would be in the best interest of his children who are the remaindermen.

10. That the [intent] of the Testator, Norman R. Carlson [Sr.], was to preserve the principal of the Trust for distribution to his grandchildren except for invasion of principal by Trustee pursuant to an ascertainable standard.

11. That to subject the balance in the trust at the death of Norman R. Carlson, Jr. and Margaret A. Carlson under the existing standard of invasion could result in payment of death taxes, unnecessarily shrinking the amount that is passed on to the grandchildren, thereby substantially impairing the accomplishment of the purposes of the trust. * * *

16. That the Last Will and Testament of Hilda D. Carlson has been probated in this Court and her estate is now pending and the Court now finds that her Last Will and Testament is the same as the Last Will and Testament of Norman R. Carlson, [Sr.] supporting the contention of the Petitioner that his parents each intended that the principal of their Trust not be taxed again at the deaths of Petitioner and his wife, Margaret A. Carlson.

App. at 65-66. No challenge was made to the trial court's findings and no appeal was taken from its order of reformation.

Thereafter on June 2, 1999, Beneficiaries filed a complaint against Law Firm alleging malpractice in the preparation of Norman, Sr.'s and Hilda's wills. In essence Beneficiaries contended property in the trust at the time of the deaths of Norman, Jr., and Margaret would be considered an asset of their estates for federal estate tax purposes because they have the power to make distributions of principal to themselves "not limited by an ascertainable standard." App. at 14. According to the complaint, in drafting the wills, Law Firm used the phrase "`medical care, comfortable maintenance and welfare . . .' instead of terminology expressly set forth and approved in the Treasury Regulations (such as `health, support and maintenance')." App. at 15. "As a result, the Internal Revenue Service would assert that any property remaining on hand at the death of Norman R. Carlson, Jr. or Margaret Ann Carlson will be subjected to federal estate tax, notwithstanding the express contrary desire of the testators . . . ." Id.

In addition to filing its answer—along with a counter-claim for outstanding legal fees—Law Firm also filed a motion for summary judgment essentially contending: (1) the provisions in the original wills for "medical care, comfortable maintenance and welfare" created an ascertainable standard, (2) even if the provisions did not create an ascertainable standard, operation of an "adverse holder" rule (also referred to as the "adverse interest" rule) prevented a general power of appointment from arising,³ and (3) in any event the trust provisions in the original wills have been reformed such that ascertainable standards have now been established. App. at 39-40. Rejecting the first contention and not addressing the second, the trial court granted Law Firm's motion for summary judgment based on the last contention.

Beneficiaries appealed contending the subsequent reformations did not insulate them from adverse federal tax consequences, and thus the trial court erred by granting summary judgment in favor of Law Firm on this issue. In any case, according to Beneficiaries, the trial court erred in granting summary judgment because they sustained damages in attempting to correct the original wills regardless of whether the attempted correction may ultimately prove to be successful. On cross appeal Law Firm argued the trial court erred in failing to grant summary judgment in its favor on the first two grounds set forth above.

Affirming in part the trial court's judgment, the Court of Appeals concluded the trial court properly determined that the original wills did not establish ascertainable standards regarding a Trustee's ability to invade the trust corpus, and that the adverse interest rule did not protect the trust from tax liability. Carlson v. Sweeney, Dabagia, Donoghue, 868 N.E.2d 4 (Ind.Ct.App.2007), aff'd on rehearing, 872 N.E.2d 626 (Ind.Ct.App.2007). We agree with both propositions and summarily affirm the opinion of the Court of Appeals on these two points. However, the Court of Appeals reversed that portion of the trial court's judgment concerning the reformation of the trust. On this point we disagree with our colleagues. Having previously granted Law Firm's petition to transfer, we now affirm in part the judgment of the trial court.

Standard of Review

When reviewing a grant or denial of a motion for summary judgment, our review is de novo. Freidline v. Shelby Ins. Co., 774 N.E.2d 37, 39 (Ind.2002). Summary judgment should be granted only if the evidence authorized by Indiana Trial Rule 56(C) shows there is no genuine issue of material fact and the moving party deserves summary judgment as a matter of law. Id.

Discussion

At the heart of this litigation is a federal court's recognition vel non of a state court's determination concerning the reformation of a will or trust. Although federal law dictates how a decedent's estate will be taxed, state law controls in determining the nature of the...