June 25, 2012
Authored by: Kathy Sherby and Stephanie Moll
In French v. Wachovia Bank, N.A., 2011 WL 2649985 (E.D. Wis., July 6, 2011), the court issued an order granting Wachovia Bank’s (“Wachovia”) motion for summary judgment in an action by the beneficiaries of the French Trusts for breach of fiduciary duty. Wachovia was the successor trustee of the French Trusts that owned two whole life policies as well as significant other assets having a total value of about $30 million. Wachovia was appointed as such successor trustee in conjunction with its review of the policies and its recommendation to replace the whole life policies with a no-lapse John Hancock policy. The settlor (“French”) had his attorneys review the recommendation and provide him an analysis of the proposed exchange.
After an extensive year-long analysis of the advantages and disadvantages of the proposed policy exchange, including multiple detailed memoranda from his attorneys and discussions of the transaction with his attorneys and Wachovia, French completed the application for the exchange, which was then placed through an affiliate of Wachovia. The extensive discussion prior to the exchange included Wachovia’s conflict of interest in using an affiliate for the exchange, waivers of the conflict of interest by the beneficiaries, negotiations with Wachovia concerning a fee credit for the amount of the commission to be earned by Wachovia’s affiliate, the diminishing amount of cash value of the no-lapse policy, that such a policy was inappropriate if the policy would be cashed in prior to maturity, and that this policy provided a guaranteed death benefit and certainty as to performance that other trust investments lacked. However, Wachovia had not disclosed the amount of the commission ($512,000).
After the 1035 exchange of the policy, when the Frenches learned of the amount of the commission, the Frenches filed suit against Wachovia alleging that Wachovia had breached its fiduciary duty of loyalty due to self dealing by placing the policy exchange through its affiliate, had entered into the transaction in bad faith, and had failed to invest the assets as a prudent investor.
In analyzing the transaction, the court reviewed the trust instrument, which provided that “the trustee and all successors shall have, without approval of any court, the power… to continue as trustee and to deal with any trust hereunder without regard to conflicts of interest. . .” The court found that this provision authorized Wachovia’s self dealing so as to relieve Wachovia of liability to disgorge its profits, absent proof of bad faith. The court then found that Wachovia did not act in bad faith, with gross negligence, or with reckless disregard of its responsibilities, based on Wachovia’s extensive analysis of the transaction prior to completing the exchange. The court stated that the Frenches had not presented any evidence that Wachovia “was actively trying to harm the trust.” As to the prudent investor issue, the court stated that the test is not hindsight but rather what a prudent investor would do under the circumstances. Since the trust had other assets valued at about $30 million, the court found that the diversification achieved by the exchange of the policies provided a degree of certainty that made the 1035 exchange a prudent investment for this trust.