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    TRUSTS & ESTATES, WILLS, AND TAX LAW UPDATE

    TRUSTS: Charitable Trusts and Bankruptcy Proceedings

    Posted by Matthew T. McDavitt on Mon, Mar 6, 2017 @ 17:03 PM

    The Lawletter Vol 42 No 2

    Matt McDavitt, Senior Attorney, National Legal Research Group

         Where testators or settlors create charitable gifts in trust for named institutional beneficiaries, when the contemplated distribution is ready to be made, sometimes it is found that the intended charity is involved in bankruptcy proceedings. Therefore, the question arises as to the proper disposition of such charitable gifts in trust to the bankrupt institutional beneficiaries.

         There is little law, even nationally, discussing the proper course of action in the event that a named charitable beneficiary is found to be in bankruptcy at the time of distribution. It is logical that a testator who makes a charitable gift would not want his or her gift to be subject to collection by the intended recipient institution's bankruptcy trustee, as such action would solely benefit the charity's creditors, rather than advancing the intended charitable purpose. There is at least one federal opinion interpreting and predicting state law on this point, holding that: (a) Under Massachusetts law as predicted by the First Circuit Court of Appeals, a charitable organization that has ceased to perform charitable work, and that is incapable of redirecting funds for charitable purposes, is ineligible to receive a charitable bequest or gift, absent a contrary provision in will or trust instrument; and (b) It is "difficult to imagine" that, absent special circumstances, a testator seeking to advance general charitable interests would ever intend her gift to be used for the benefit of creditors rather than to promote charitable purposes actually intended. In re Boston Reg’l Med. Ctr., Inc., 410 F.3d 100 (1st Cir. 2005).

       Similarly, in Matter of Kraetzer's Will, 462 N.Y.S.2d 1009, 119 Misc. 2d 436 (Sur. Ct. 1983), a general gift to a hospital was intended to fund the provision of actual and continued acute patient care services, and not to benefit the hospital itself, so that hospital's filing for bankruptcy caused the intended remainder gift to fail, even though the hospital was still performing customary patient services at the time the gift became payable. The Kraetzer's court held that the charitable gift be redirected to an equivalent charitable institution under the cy pres doctrine because the named hospital beneficiary had ceased charitable operations when it declared bankruptcy.

         Finally, the decision in Freme v. Maher, 480 A.2d 783 (Me. 1984), shows the circumstance where a charitable entity is in bankruptcy but is still capable of channeling funds to the intended charitable purpose. In Freme, a testatrix left the residue of her estate to a named college in trust, and provided that the net income of the trust was to be used for such general purposes of the college as its board of trustees determined. After the college was adjudicated bankrupt and its physical plant was closed, the court held that the trust did not fail, and the doctrine of cy pres need not be applied because the college as a continuing corporation possessed the "legal capability'' of accepting the gift. The trustees' proposal to use the trust income to provide scholarships to students in the area was consistent with testatrix's general charitable purpose.

         Based upon the above-cited cases, the rule appears to be that if the entity in bankruptcy has ceased its charitable operations that were the subject of the gift, then the gift lapses, and a successor taker should be nominated under the cy pres doctrine, as charitable testators are presumed to not want their gift to pay the entity's creditors, but to fund actual future charitable endeavors. However, if the entity in bankruptcy continues to perform charitable works and can effectively channel the gift to such purposes (rather than have the funds applied to the bankrupt entity's creditors), then the gift in trust should be applied to the intended beneficiary despite its bankrupt status.

    Topics: trusts, charitable trust, bankruptcy, proper disposition of gift

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