The Pennsylvania Supreme Court, in In Re Passarelli Family Trust, held that to void an irrevocable trust based on fraudulent inducement pursuant to 20 Pa.C.S. § 7736, a challenging settlor must prove the elements of common-law fraud by clear and convincing evidence.
The Facts Of In Re: Passarelli Family Trust
Margaret and Joseph Passarelli were married in November 1998 and had two children.
On May 14, 2015, Joseph met with Attorney Perna to discuss estate planning options, including the creation of an irrevocable trust.
On May 21, 2015, both Margaret and Joseph met with Attorney Perna to discuss estate-planning matters. At the meeting, Attorney Perna presented Margaret with documents for the creation of the Passarelli Family Trust (the “Trust”) and spent most of an hour answering her questions. Margaret’s desire was to ensure that assets accumulated during their twenty years of marriage remained in their family. In particular, she wanted to secure the assets for the children of their marriage in the event Joseph, at some future date, remarried and had more children. At the end of the meeting, the parties executed the Trust.
The Corpus Of the Trust
The corpus of the Trust consisted of numerous assets totaling approximately $13 million, including two real estate property companies called Japen Holdings, LLC, and Japen Properties, LLP (collectively “Japen”), which were valued collectively at approximately $4.2 million.
Unbeknownst to Margaret, among Japen’s assets were two residential properties in Florida (the “Florida Properties”). When presented with the Trust inventory of assets (“Schedule A”), Margaret did not question its contents, which included Japen, but not a listing of its specific holdings, e.g., the Florida Properties.
The Affair – Wife Tries To Terminate the Irrevocable Trust
Approximately four months after the creation of the Trust, in September 2015, Margaret discovered that Joseph had been having an affair and that his paramour was living in one of the Florida Properties.
On January 19, 2016, Wife filed in the orphans’ court a “Petition for Citation to Terminate Irrevocable Trust” pursuant to Chapter 77 of Pennsylvania’s Probate Estates and Fiduciaries Code.
At the hearing before the orphan’s court, Margaret proceeded exclusively on the ground of fraudulent inducement, namely, that she was fraudulently induced to create the Trust by not disclosing the Florida Properties.
The Pennsylvania orphan’s court applied the two-part Glover test (discussed below) to the irrevocable trust challenge and determined that Margaret proved fraudulent inducement by clear and convincing evidence.
Joseph appealed, and the Superior Court reversed, rejecting the orphan’s court’s reliance on Glover. Instead of the Glover test, the Superior Court relied for its disposition on the elements of a common-law fraud claim.
The Superior Court concluded that Margaret failed to prove a material misrepresentation.
The Pennsylvania Supreme Court reviewed the decision, to answer the question: What is the burden of proof for a settlor of an irrevocable trust in order to void the trust on grounds of fraudulent inducement in the creation of the trust?
Setting Aside A Pennsylvania Irrevocable Trust
Irrevocable trusts are used to avoid probate, reduce taxes, shift income, and to afford protection from creditors. As stated by the Pennsylvania Supreme Court:
Given the shelter that is created and to provide certainty and stability in the protection and disposition of assets, an irrevocable trust is not easily changed. Of course, the use of an irrevocable trust carries a price — irrevocability. Because a grantor gives up the right to amend or rescind an irrevocable trust, care must be taken in drafting, reviewing, and funding a trust, as undesirable control and financial consequences may occur.
An irrevocable trust can be set aside under 20 Pa.C.S. § 7736, which provides that:
A trust or an amendment to a trust is voidable to the extent its creation was induced by fraud, duress or undue influence.
Pennsylvania Law and The Standard For Fraudulent Inducement In the Creation Of Trusts
The Pennsylvania Supreme Court analyzed two cases to determine the appropriate standard for fraudulent inducement in the context of a trust.
Paul’s Estate involved a will contest based on a claim of undue influence through fraud and misrepresentation. The court closely examined the record to determine whether fraudulent inducement occurred. The Pennsylvania Supreme Court stated:
It is clear in context that the Court parsed the record for a misrepresentation and that the materiality was patent ($50 per share versus $800 per share); the court considered whether there was an intent for the testatrix to rely on it (the attorney and the testatrix were aware of the dividends); and whether the testatrix relied on it (no evidence that she did not know the true value or that it made a difference in the bequest).
Glover involved a will contest based on claims of undue influence and fraudulent inducement. The Glover court extracted from Paul’s Estate a two-part test to establish fraud in the context of a will contest : (1) the testatrix had no knowledge of the concealed or misstated fact, and (2) the testatrix would not have made the same bequest had she known the truth.
The Pennsylvania Supreme Court rejected the Glover test for fraudulent inducement, stating:
Presented with a fraudulent inducement challenge, the Glover court ostensibly relied on Paul’s Estate. In doing so, the Glover court generalized its truncated factual summary of Paul’s Estate by omitting the key elements of materiality, knowledge/recklessness, reliance, and injury. The effect of the Glover court’s interpretation of Paul’s Estate was to eliminate, inter alia, the need to prove a misrepresentation of a material fact by act or omission in a fraudulent inducement case. As a result, we reject Glover, as it stands out as an anomaly in the test for common-law fraud by reducing decades of fraud jurisprudence to a two-part test derived from a summation of select facts in Paul’s Estate.
Elements Of Common Law Fraud Used to Void Irrevocable Trust Based On Fraudulent Inducement In Pennsylvania
The Pennsylvania Supreme Court held that to void an irrevocable trust based on fraudulent inducement pursuant to 20 Pa.C.S. § 7736, a challenging settlor must prove the elements of common-law fraud by clear and convincing evidence.
Applying the common-law test for fraud, the Pennsylvania Supreme Court addressed whether nondisclosure of the Florida Properties was a material misrepresentation that induced Margaret to create the Trust. The Pennsylvania Supreme Court determined that it was not.
“A misrepresentation is material when it is of such a character that if it had not been made, the transaction would not have been entered into.” The record contained no evidence that Margaret would not have signed the Trust documents if the Florida Properties had been specifically identified. Instead, Margaret’s clear intention was to ensure that all of the assets that were accumulated during the twenty years of her marriage to Joseph remained in her family.
In addition, Pennsylvania trust law does not require that irrevocable trust property be identified or described in any particular manner or detail.
The Pennsylvania Supreme Court further stated:
Further undermining Wife’s position is that she now challenges the non-disclosure of only the Florida Properties.18 At the time she settled the Trust, Wife’s intent was to secure all of the marital assets for her and her children’s financial security. The Florida Properties are income-producing assets, jointly valued at $445,000, that inure to the benefit of Wife and the Passarelli children. If the Florida Properties, which represented only a small percentage of the entire $14 million Trust corpus, were material to creating a trust that protected the marital assets and provided the children with financial security, then disclosure of all of its assets would be material to those same purposes, including the other Japen assets and the unidentified stocks in the two brokerage accounts listed on Schedule A. Wife has not demonstrated how identifying two minor assets that became Trust property through the transfer of their corporate owner to the Trust would have negated creation of the Trust.
When Margaret settled the Trust, transferring the marital assets into the Trust to protect them and provide for herself and her children was exactly what it professed to be — her choice. Thus, Joseph’s failure to identify the Florida Properties does not serve as a basis for voiding an otherwise valid, irrevocable trust agreement under Pennsylvania law.
In sum, under Pennsylvania law a settlor trying to void an irrevocable trust by averring fraud in the inducement must prove by clear and convincing evidence the elements of common law fraud.