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January 04, 2017 Article

Beware the Enforceability of Arbitration Clauses in Wills and Trusts

The arguments for and against enforcement, and recent cases.

by Joseph D. Kropp

It has become more common to include mandatory arbitration clauses in wills and trusts, but there is very limited case law on their enforceability. This article reviews the arguments for and against enforcement, and recent cases.

To understand the debate, you must go back. Way back in the early days, English courts rejected mandatory arbitration and viewed it as an ouster of court jurisdiction and against public policy. Phillips v. Bury, 89 Eng. Rep. 624 (1690). The most widely known early example of an arbitration clause in the United States was the colorful language of George Washington’s 1799 will:

My Will and direction expressly is, that all disputes (if unhappily any should arise) shall be decided by three impartial and intelligent men, known for probity and good understanding: Two to be chosen by the disputants—each having the choice of one—and the third by those two . . . and such decision is, to all intents and purposes to be binding on the Parties as if it had been given in Supreme Court of the United States.

But since the 1956 passage of the Uniform Arbitration Act, mandatory arbitration clauses for wills and trusts have been generally viewed as unenforceable because the state acts require a written agreement or contract to be enforceable. Trusts were not viewed as contracts by legal scholars long prior to 1956. Austin Scott, reporter of the first Restatement of Trusts, rejected any view of trusts as contracts. “The Nature of the Rights of the Cestui Que Trust,” 17 Colum. L. Rev. 269, 269 (1917). He acknowledged trusts were similar to third-party-beneficiary contracts. But the law did not then recognize third-party-beneficiary contracts. Id. at 270. Professor John H. Langbein has advocated viewing trusts within contract law. “The Contractarian Basis of the Law of Trusts,” 105 Yale L.J. 625, 671 (1995). There has been very little discussion of Professor Langbein’s view by courts since his article was published.

Two main theories are cited to support the enforceability of arbitration clauses in wills and trusts. The first is the benefit theory (also referred to as “direct benefits,” “deemed acquiescence,” or “conditional transfer” theory), which contends that beneficiaries who accept trust benefits are bound by all the trust terms, thus making arbitration clauses enforceable as an “agreement” under state arbitration statutes. Counterarguments, however, are that a beneficiary who contests the trust without accepting the benefits should not be bound and that mandating arbitration is an improper restriction on a beneficiary who never accepted that provision.

The second is the intent theory, which is also used to support enforceability of an arbitration clause. This focuses on the settlor’s intent and right to require arbitration. Counterarguments against include that it restricts many generations’ rights and that courts should view this as an unreasonable limitation. The ouster of the courts’ equity jurisdiction and the loss of the due process rights of a trial are also used to oppose enforceability.

The Uniform Trust Code (UTC) states that “[s]ettlors wishing to encourage use of alternative dispute resolution [including arbitration] may draft to provide it.” Unif. Trust Code § 816 (23) cmt. ¶ 23 (Unif. Law Comm’n 2010). However, the code does not resolve whether mandatory arbitration clauses are enforceable. No reported case has interpreted whether this provision could make a binding arbitration clause enforceable.

Texas, which has not adopted the UTC, held that an arbitration provision in a trust was enforceable. In Rachal v. Reitz, 403 S.W.3d 840 (Tex. 2013), the Texas courts addressed the enforceability of a mandatory trust arbitration clause, acknowledging the “dearth of authority on the issue.” Id. at 848. The Texas Court of Appeals, in a split en banc decision, affirmed the denial of arbitration based on (1) no contract, (2) no consideration, (3) no beneficiary consent, and (4) that this was a decision for the legislature. Id. at 743. The Texas Supreme Court reversed, finding the clause enforceable under both the benefits theory and the settlor’s intent theory. It interpreted the Texas Arbitration Act to encompass the trust as a “written agreement.” Id. at 845.

Other state courts, by contrast, have refused to enforce mandatory arbitration clauses. The California Court of Appeal, on narrow grounds, refused to enforce an arbitration provision where the beneficiary had not accepted or sought any trust benefits under the challenged 2011 trust amendment, which contained the arbitration clause. McArthur v. McArthur, 168 Cal. Rptr. 3d 785, 786 (Cal. Ct. App. 2014). The District of Columbia Court of Appeals held that an arbitration clause in a testamentary trust was not binding. In re Calomiris, 894 A.2d 408, 409–10 (D.C. 2006). The court concluded that a testamentary trust was not a contract and not covered by the Uniform Arbitration Act. In Schoneberger v. Oelze, 96 P.3d 1078, 1083–84 (Ariz. Ct. App. 2004), the trustee relied on third-party-beneficiary, equitable estoppel, and settlor’s intent theories to enforce the arbitration clause. The Arizona Court of Appeals rejected those arguments.

Some states have tried to address this issue through legislation. Florida and Arizona (after the Schoneberger decision) passed legislation enforcing will and trust arbitration clauses except for challenges to the validity of the document. Legislation in Hawaii and Ohio was introduced but failed to pass.

There are disadvantages to arbitration in the trusts and estates context. As in other contexts, any judicial review of an arbitration award is extremely limited. As Judge Posner critically stated, “Judicial review of arbitration awards is tightly limited; perhaps it ought not to be called ‘review’ at all.” Baravati v. Josephthal, Lyon & Ross, Inc., 28 F.3d 704, 706 (7th Cir. 1994). Other disadvantages include the expense, the lack of ability to file dispositive motions, and limited discovery, which limitation can be a significant problem for a beneficiary challenging a fiduciary. While it may, especially with a single arbitrator, reduce time and expense in certain cases, these advantages often do not overcome the disadvantages noted above.

Until the law is settled on the enforceability of such clauses, there will be costly and time consuming litigation in the trial and appellate courts on initial motions challenging the enforceability of arbitration clauses. Hence, litigators and estate planners alike should be aware of these issues.

Keywords: real estate litigation, alternative dispute resolution, ADR, arbitration, wills, trusts, Uniform Trust Code, UTC

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