RYAN, Bankruptcy Judge.
After John F. and Holly B. Coumbe ("Debtors") filed a chapter 7
We AFFIRM in part, REVERSE in part and REMAND.
In 1994, Minnie Coumbe ("Grantor"), Debtor's mother, created a testamentary trust (the "Trust") naming her children (Debtor and Sue Ann Leonard) as the primary beneficiaries. Grantor's grandchildren were named as the secondary beneficiaries.
Trust Agreement (Jul. 31, 1994), at 27.
In 2002, Debtors filed their chapter 7 petition. As of the petition date, Debtors estimated that there was $120,000 in the Trust. Within 180 days of filing their petition, Debtor withdrew $20,000 from the Trust.
In April 2003, Trustee filed the Motion, arguing that the Trust was not a valid spendthrift trust (and therefore was estate property) because Debtor was the sole trustee and beneficiary. Further, Trustee alleged that the $20,000 was estate property pursuant to § 541(a)(5)(A). Accordingly, Trustee requested Debtors to turn over the Trust corpus and $20,000. Debtors argued that the Trust was not estate property because Debtor was not the sole beneficiary and the Trust was a valid spendthrift trust. Debtors also contended that the $20,000 was not "acquired" by "bequest, devise, or inheritance" within 180 days of filing of Debtors' petition. Rather, any acquisition occurred when Grantor
After the Motion hearing, the court took the matter under advisement.
Under Advisement Decision Re: Trustee's Motion to Compel (Apr. 29, 2003), at 2-3. Accordingly, the court entered the Order denying the Motion. Trustee timely appealed.
III. STANDARD OF REVIEW
We review the court's interpretation of state law de novo. See Paulson v. City of San Diego, 294 F.3d 1124, 1128 (9th Cir.2002). We review the court's conclusions of law de novo. See Bronner v. Gill (In re Bronner), 135 B.R. 645, 647 (9th Cir. BAP 1992). Whether property is included in a bankruptcy estate is a question of law subject to de novo review. See Sticka v. Lambert (In re Lambert), 283 B.R. 16, 18 (9th Cir. BAP 2002).
A. The Court Did Not Err in Holding That the Trust Was a Valid Spendthrift Trust and Therefore Not Property of the Estate.
The court denied the Motion because the Trust was a valid spendthrift
The filing of a bankruptcy petition creates an estate comprised of "all legal or equitable interest of the debtor in property as of the commencement of the case." 11 U.S.C. § 541(a)(1). However, the Code excludes from the estate property that contains "[a] restriction on the transfer of a beneficial interest of the debtor in a trust that is enforceable under applicable nonbankruptcy law." 11 U.S.C. § 541(c)(2). Under § 541(c)(2), an anti-alienation provision in a valid spendthrift trust created under state law is an enforceable "restriction on the transfer of a beneficial interest of the debtor," thereby excluding the trust assets from the bankruptcy estate. See Patterson v. Shumate, 504 U.S. 753, 757-58, 112 S.Ct. 2242, 119 L.Ed.2d 519 (1992). A spendthrift trust is "[a] trust in which by the terms of the trust or by statute a valid restraint on the voluntary and involuntary transfer of the interest of the beneficiary is imposed." Restatement (Second) of Trusts § 152(2). It "prevents the beneficiary from transferring his right to future payments of income or capital; the creditors . . . are also prevented from attacking the beneficiary's interest to satisfy their claims." Togut v. Hecht (In re Hecht), 54 B.R. 379, 383 (Bankr.S.D.N.Y.1985). "The purpose of a spendthrift trust is to protect the beneficiary from himself and his creditors." Richardson v. McCullough (In re McCullough), 259 B.R. 509, 517 (Bankr.D.R.I.2001) (citations omitted).
Arizona law recognizes the validity of spendthrift trusts.
A.R.S. § 14-7706(A)-(B). Therefore, "[a] valid spendthrift trust cannot exist where the sole beneficiary is also the sole trustee." Riley v. Pugh (In re Pugh), 274 B.R. 883, 885 (Bankr.D.Ariz.2002) (citation omitted).
Trustee relies on Pugh to conclude that the Trust was not a valid spendthrift trust under Arizona law. However, Trustee's reliance on Pugh is misplaced. In Pugh,
Here, it is undisputed that the Trust agreement contained a spendthrift provision restraining the transfer of the beneficiaries' interest. The only issue is whether Debtor was the sole trustee and beneficiary of the Trust. If so, the Trust was an invalid spendthrift trust under A.R.S. § 14-7706(B). Trustee argues that Debtor became the sole trustee of his own trust upon division of the Trust in 1997. He also contends that Debtor was the sole beneficiary because his children's interest under the Trust was "illusory" as it was contingent upon Debtor's death. We disagree.
Unlike Pugh, although Debtor was appointed as the sole trustee of the Trust, the Trust agreement also named multiple beneficiaries. Specifically, Debtor and Sue Ann were named the primary beneficiaries, and Debtor's children were named the secondary beneficiaries. After the Trust was divided, Debtor remained the trustee and primary beneficiary of his interest in the Trust. Likewise, Debtor's children remained the secondary beneficiaries of that interest. Trustee did not point to, nor are we aware of, any authority that eliminates from consideration secondary beneficiaries. Under Arizona law, a spendthrift trust is valid "if one of the multiple beneficiaries is the sole trustee of the trust." A.R.S. § 14-7706(A). Here, we have multiple beneficiaries when both Debtor and his children are considered. Therefore, we cannot say that the court erred in holding that the Trust was a valid spendthrift trust under Arizona law. Because the Trust was a valid spendthrift trust, Debtors' interest in the Trust was excluded from the bankruptcy estate. See Patterson, 504 U.S. at 757-58, 112 S.Ct. 2242. Accordingly, the court did not err in holding that the Trust corpus was not property of estate. See 11 U.S.C. § 541(c)(2).
B. The Court Erred in Holding That the $20,000 Withdrawal Was Not Property of the Estate.
The court held that the $20,000 paid from the Trust was not property of the estate. On appeal, Trustee contends that the court erred because a distribution from the Trust paid within 180 days after Debtors' bankruptcy constituted property of the estate under § 541(a)(5)(A).
Under § 541(a)(5)(A), property of the estate includes
11 U.S.C. § 541(a)(5)(A). The Code provides no definition of the terms "bequest," "devise" or "inheritance." Traditionally, a
The main issue is whether a distribution from the Trust is a "bequest, devise, or inheritance" within the meaning of § 541(a)(5)(A) and thus property of estate. The answer turns on whether the distribution is from the corpus or income.
i. Corpus Distribution
As stated above, a bankruptcy trustee can assert no claim to the corpus of a spendthrift trust because it is not property of estate. See 11 U.S.C. § 541(c)(2). Therefore, it flows logically that a corpus distribution from a spendthrift trust should also be excluded from property of estate. See Magill v. Newman (In re Newman), 903 F.2d 1150, 1152 (7th Cir.1990) (holding that the debtor's interest in the distribution of the corpus of the spendthrift trusts was not property of estate); see also Mitchell v. West (In re West), 81 B.R. 22, 25-26 (9th Cir. BAP 1987) ("The debtor's interest in property excluded under section 541(c)(2) is not listed in section 541(a)(5). . . . [B]y this omission, Congress intended that such property not come into the estate."). "A contrary decision would drain the spendthrift trusts of any meaning and ignore the relevant Bankruptcy Code provision." Newman, 903 F.2d at 1152.
ii. Income Distribution
On the other hand, a majority of courts have held that an income distribution from a testamentary spendthrift trust constitutes a "bequest" within the meaning of § 541(a)(5)(A) and therefore is property of the estate.
In Hecht, the debtor, a beneficiary of two spendthrift trusts, continued to receive income payments from the trust after the filing of her petition. The chapter 7 trustee sought to recover the trust income distributed to the debtor within 180 days of the filing of her bankruptcy. The Hecht court found that the trust was a valid spendthrift trust. See Hecht, 54 B.R. at 381-83. It then decided the question whether income from the testamentary spendthrift trust constituted a "bequest" within the meaning of § 541(a)(5)(A). The Hecht court concluded that the word "bequest" should be construed to "encompass[ ] testamentary gifts of income from a trust" because "a testamentary trust is itself a testamentary disposition whereby rights created under a will, together with property dispositions directed thereby, are to be given effect." Id. at 385 (quoting Roy v. Edgar, 11 B.R. 853, 855-56 (Bankr.N.D.Fla.1981)).
Similarly, in Gordon C. York, Inc. v. Kragness (In re Kragness), 58 B.R. 939 (Bankr.D.Or.1986), the debtor was a beneficiary of a testamentary spendthrift trust, and within the 180-day period following the filing of her chapter 7, she received income payments from the trust. Id. at 940. The debtor argued that the payments received within the 180-day period were not property of estate. Specifically, the debtor reasoned that such payments were not "by bequest, devise, or inheritance" because she was merely receiving an income distribution from a trust that was already established at the time of the bankruptcy filing. Id. at 944. The Kragness court disagreed because an income payment from a testamentary trust constituted a "bequest" within the meaning of § 541(a)(5)(A) and therefore was property of the estate if received within 180 days of
In addition, the payment is no longer restricted. This result is consistent with the theory of a spendthrift trust because "[o]nce trust income is paid to [the beneficiary] the income so paid is no longer subject to the protection of the spendthrift provisions contained in the trust." Kragness, 58 B.R. at 944; see also In re Hunter, 261 B.R. 789, 793 (Bankr.M.D.Fla.2001); Togut v. Hecht, 69 B.R. 290, 291 (S.D.N.Y.1987).
On appeal, Debtors rely on Newman to support their position that income from a spendthrift trust is not property of the estate even if received within 180 days of the filing. Debtors' reliance on Newman is misplaced. The trusts in Newman were not testamentary spendthrift trusts (rather inter vivos trusts) of which the debtor was a beneficiary. See Newman, 903 F.2d at 1151. Therefore, income from the trusts was not property of the estate because it did not qualify as a "bequest, devise, or inheritance" under § 541(a)(5)(A). Id. at 1154; see also Burton v. Ulrich (In re Schmitt), 215 B.R. 417, 422 n. 2 (9th Cir. BAP 1997) (stating that inter vivos trusts are not considered an interest obtained by "bequest, devise or inheritance"); In re Crandall, 173 B.R. 836, 839 (Bankr.D.Conn.1994) ("[t]he court is constrained to give a narrow construction to the words `bequest, devise, and inheritance' and to conclude such words in their plain meaning do not encompass . . . inter vivos trusts").
Relying on Chappel v. Proctor (In re Chappel), 189 B.R. 489 (9th Cir. BAP 1995), Debtors further allege that the "triggering event" to determine when Debtor "acquires or becomes entitled to acquire" by bequest, devise, or inheritance was Grantor's death. However, Chappel is distinguishable. There, four days before the debtor filed his petition, his mother passed way. The mother's will was entered into probate more than 180 days after filing of the debtor's bankruptcy. Therefore, the debtor argued that his interest in the probate estate was not property of the bankruptcy estate because he did not acquire an interest in the probate estate until the will was entered, which was beyond the 180-day period. Id. at 490-91. The bankruptcy court disagreed and held that the debtor's interest in the probate estate was property of the bankruptcy estate. On appeal, we affirmed the bankruptcy court because, under state law, a decedent's property passes to the beneficiary at the time of death. Therefore, the property passed to the debtor before the filing and became property of the bankruptcy estate on the date of filing. Id. at 492 (citing Cal. Prob. Code § 7000). Because Chappel did not involve a testamentary spendthrift trust in which the corpus was not property of the estate, see 11 U.S.C. § 541(c)(2), it is not relevant here. Further, Chappel did not answer the question whether distributions from a testamentary spendthrift trust within the 180-day period are property of the debtor's bankruptcy estate.
The court did not err in holding that the Trust was a valid spendthrift trust and therefore not property of estate. However, the court erred in holding that the $20,000 was not property of the estate without determining how the $20,000 was allocated between income and corpus distributions. Accordingly, we remand to the bankruptcy court for further proceedings consistent with this decision.
AFFIRMED in part, REVERSED in part and REMANDED.
Here, Trustee requested that the court also order Debtors to turn over certain life insurance policy proceeds. In the Decision, the court indicated that the life insurance policy issue would be resolved by separate order. Therefore, the Order was interlocutory and not appealable. Id. Nonetheless, on August 6, 2003, the court entered an order overruling Trustee's objection to Debtors' claim of exemption for the life insurance proceeds. Therefore, the Order became final upon the entry of the August 6, 2003 order.
Further, Trustee raised for the first time in his reply brief that: (1) the doctrine of merger prevented the secondary beneficiaries from taking the Trust property; and (2) he is entitled to an evidentiary hearing to determine whether Debtor had improperly controlled the Trust. Because the issues were raised for the first time in Trustee's reply brief, we need not consider them. See Eberle v. City of Anaheim, 901 F.2d 814, 818 (9th Cir.1990) ("the general rule is that appellants cannot raise a new issue for the first time in their reply briefs").