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Carroll v. Berland

United States District Court, N.D. Illinois, Eastern Division

October 28, 2014

JOHN AND CATHERINE CARROLL, Plaintiff-Appellants,
v.
MICHAEL BERLAND, Defendant-Appellee.

MEMORANDUM OPINION AND ORDER

EDMOND E. CHANG, District Judge.

Debtors John and Catherine Carroll appeal from the bankruptcy court's order sustaining the Chapter 7 Trustee's objection to the debtors' attempt to exempt trust proceeds from their bankruptcy estate.[1] R. 1, Notice of Appeal. For the reasons discussed below, the bankruptcy court's order sustaining the Trustee's objection is affirmed.

I. Background

John and Catherine Carroll filed a Chapter 7 bankruptcy petition in February 2013. R. 1-2, Chapter 7 Voluntary Petition [Dkt. 1]. In Schedule C to their Chapter 7 petition, the Carrolls claimed that a $30, 000 future interest from "Wife's Father's Estate" was exempt from their bankruptcy estate. Id. The Carrolls justified this exemption based on 735 ILCS 5/2-1403, which provides that creditors may not access a debtor's assets held in what is known as a spendthrift trust. Id. The property that the Carrolls claimed should be exempt from the bankruptcy estate was real estate held in a trust formed by Catherine's parents (the Miskowicz Family Revocable Trust). R. 1-2, Debtor's Resp. to Objection [Dkt. 21]. Catherine had a one-third interest in the net proceeds from the sale of the real estate. See R. 1-2, Trustee's Objection [Dkt. 15] at 3; R. 1-2, Exh. B to Debtor's Resp. to Objection, First Am. to Miskowicz Trust [Dkt. 21-9] at 1-2. As of the date of the Chapter 7 petition, the real estate held by the trust was on the market, but had not been sold. See Debtor's Resp. to Objection [Dkt. 21] at 1. Michael Berland, the Trustee of the Carrolls' bankruptcy estate, objected to this exemption. See Trustee's Objection [Dkt. 15]. Berland argued that Catherine had an unconditional right to receive the property held for her in the Miskowicz Family Revocable Trust after the death of her father in 2012. Id. at 4. Because she had an immediate, unconditional right to the principal of the trust, Berland argued that it was no longer subject to the spendthrift provision of the Trust. Id. at 6. After reviewing Berland's objection to the Carrolls' claimed exemption in the proceeds of the Miskowicz Trust, the bankruptcy court sustained the Trustee's objection and struck the exemption. R. 1-2, Order Sustaining Trustee's Objection [Dkt. 23]; R. 1-4, Hearing Tr. [Dkt. 39] at 2:7-11.

The background of the Trust begins in 1993, when it was initially settled by Henry and Mary Anna Miskowicz, Catherine's parents, to provide them with income during their lives. See R. 1-2, Exh. A to Debtor's Resp. to Objection, Miskowicz Trust [Dkt. 21-1] ¶¶ 1-18. At the death of Mary Anna Miskowicz in 1997, the trust document directed that the trust property be divided among three subtrusts. Id. ¶¶ 19-24. Henry's interest in the community trust estate and his separate trust estate were allocated to the Surviving Spouse's Trust. Id. ¶ 21. After the deceased spouse's debts and final expenses were paid from her share of the trust estate, her interest in the community trust estate and her separate trust estate were allocated between the Family Bypass Trust and the Marital QTIP Trust. Id. ¶¶ 20, 22. The surviving spouse was the sole beneficiary of the Surviving Spouse's Trust and the Marital QTIP Trust. Id. ¶¶ 26, 33. Henry was also the income beneficiary of the Family Bypass Trust, and he was to receive income from that trust periodically as "necessary for the income beneficiary's health, education, or support to maintain the income beneficiary's accustomed manner of living." Id. ¶¶ 41-42. The surviving spouse was also the primary principal beneficiary of the Family Bypass Trust, and the Miskowicz's children were additional beneficiaries. Id. ¶ 41.

At the death of the surviving spouse, the trust document directed that the remaining principal in the Surviving Spouse's Trust and the Marital QTIP Trust were to be distributed according to the distribution provisions of the Family Bypass Trust. Miskowicz Trust [Dkt. 21-1] ¶¶ 30, 37. The remaining trust estate in the Family Bypass Trust was originally to be distributed as described in Schedule B to the trust. Id. ¶ 45. Paragraph 45 was amended in 2007; the amendment provided that the remaining trust estate would be divided equally between the Miskowicz's three children, Gerard Joseph Miskowicz, Margaret Ann Poyer, and Catherine Marie Carroll, if the children survived their parent by 60 days. First Am. to Miskowicz Trust [Dkt. 21-9] at 1-2. The Miskowicz Trust's trustee had discretion to delay any distribution of the trust estate or division into separate trusts for six months. Miskowicz Trust [Dkt. 21-1] ¶ 77.

In addition to the provisions controlling the allocation and distribution of the trust estate, the Miskowicz Trust contained a spendthrift clause, which provided that:

No beneficiary shall anticipate, assign, encumber, or subject to any creditor's claim or to legal process, any interest in principal or income before its actual receipt by the beneficiary. The beneficial and legal interests in this trust, its principal, and its income shall be free from interference or control of any beneficiary's creditor and shall not be subject to claims of any such creditor or liable to attachment, execution, bankruptcy, or other process of law.

Miskowicz Trust [Dkt. 21-1] ¶ 82. The trust document also contained a "Perpetuities Savings Clause" which said that the trust shall terminate 21 years "after the death of the surviving spouse and of the trustors' descendants living at the time of the surviving spouse's death." Id. ¶ 83.

II. Legal Standard

A federal district court has jurisdiction, under 28 U.S.C. § 158(a), to hear appeals from the rulings of a bankruptcy court. On appeal, the district court reviews the bankruptcy court's legal findings de novo and its factual findings for clear error. In re Miss. Valley Livestock, Inc., 745 F.3d 299, 302 (7th Cir. 2014). "A debtor's entitlement to a bankruptcy exemption is a question of law to be reviewed de novo. " Fowler v. Shadel, 400 F.3d 1016, 1017 (7th Cir. 2005).[2]

III. Analysis

When a debtor files for bankruptcy, "all legal or equitable interests of the debtor in property" generally become part of the bankruptcy estate. 11 U.S.C. § 541(a)(1). Under the bankruptcy code, a debtor's property includes "every conceivable interest of the debtor, future, nonpossessory, contingent, speculative, and derivative." In re Barnes, 276 F.3d 927, 928 (7th Cir. 2002) (quoting In re Carousel Int'l Corp., 89 F.2d 359, 362 (7th Cir. 1996)) (internal quotation marks and alteration omitted). Some categories of property, however, are statutorily exempt from the bankruptcy estate. One of those categories is property held in a valid spendthrift trust. 11 U.S.C. § 541(c)(2); Matter of Baker, 114 F.3d 636, 638 (7th Cir. 1997). Whether a debtor's property is part of a valid spendthrift trust is determined by "applicable nonbankruptcy law." 11 U.S.C. § 541(c)(2); In re Weinhoeft, 275 F.3d 604, 605 (7th Cir. 2001). In this case, the parties agree that Illinois law applies. See R. 7, Appellants' Br. at 8; R. 17, Appellee's Am. Br. at 2, 17.

Under Illinois law, interpreting a trust is much like interpreting a contract; the unambiguous language of the document will be given effect. Dept. of Mental Health and Dev. Disabilities v. First Nat. Bank of Chicago, 432 N.E.2d 1086, 1087 (Ill.App.Ct. 1982). "When construing a trust, we cannot fix upon each of its provisions in isolation but must instead consider the document as a whole in order to arrive at the true intent of the settlor." Peck v. Froehlich, 853 N.E.2d 927, 932 (Ill.App.Ct. 2006). To determine if a trust with a spendthrift or anti-alienation clause is a valid spendthrift trust, courts look to (1) "whether the trust restricts the beneficiary's ability to alienate and the beneficiary's creditor's ability to attach the trust corpus"; (2) "whether the beneficiary settled and retained the right to revoke the trust"; and (3) "whether the beneficiary has exclusive and effective dominion and control over the trust corpus, distribution of the trust corpus and termination of the trust." Matter of Perkins, 902 F.2d 1254, 1257 n.2 (7th Cir. 1990). Even if there is a valid spendthrift trust, however, the spendthrift provision is no longer applicable to trust property when a distribution or conveyance of that property is made to the beneficiary. See In re Marriage of Sharp, 860 N.E.2d 539, 549 (Ill.App.Ct. 2006) ("[O]nce trust income is paid to the beneficiary, the income is no longer subject to the protection of the spendthrift provisions in the trust, and the ...


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