Litigation is often expensive. When a client considers filing a lawsuit or must decide how to handle a lawsuit someone else started, one of the most fundamental questions to ask is: Who pays the lawyers?
Under the American Rule, the default rule in litigation is that each party to a case must pay for its own attorneys. In trust litigation, though, the trust may end up paying the legal fees for multiple parties involved in the litigation, ultimately leaving a much smaller pot of money for the beneficiaries than originally anticipated. As a result, a beneficiary might be surprised to find out that the trust is paying to defend a trustee that the beneficiary is suing. Conversely, a trustee may receive distribution requests from a beneficiary even though the beneficiary is suing the trust.
Given the significance of legal fees, how should trustees and beneficiaries plan for legal expenses when dealing with trust litigation?
Look first to the trust document. The settlor of a trust is unlikely to want to burden a trustee with payment of legal expenses incurred in administering the trust (and a potential trustee is very unlikely to accept that role if it risks exposure to paying legal fees). As a predicable result, most trust documents permit a trustee to hire lawyers, and many will also indemnify a trustee for any expenses that do not result from intentional wrongful conduct—even if that conduct is later determined to be a breach of a fiduciary duty.1 All parties will want to know the extent to which the trust is responsible for paying the trustee’s legal fees.
The fact that a trust instrument allows a trustee to hire lawyers does not give the trustee a blank check. The legal fees incurred will still need to be reasonable to accomplish the purpose of the trust and defend the trustee. And if the trustee loses in litigation, particularly if the claim was for a breach of fiduciary duty, a beneficiary may surcharge the trustee to try to recover the decreased value of the trust resulting from the breach, which may include a reimbursement of the trustee’s legal fees. In some instances, a beneficiary may even seek a court order prohibiting a trustee from defending itself using trust funds. Those requests, which are similar to seeking a preliminary injunction, are difficult to win and should be reserved for rare circumstances involving significant evidence of intentionally wrongful conduct, not as leverage in run-of-the-mill disputes between a beneficiary and a trustee.
Beneficiaries or others involved in trust litigation can sometimes recover their legal fees from the trust as well. To do so, the party asking for reimbursement generally must show that the litigation was of significant benefit to the trust—whether by recouping money lost, removing a fiduciary who is a bad actor, or otherwise preserving the assets of the trust. The standard for recovery will vary based on the trust instrument and on the law of the jurisdiction in question and is often discretionary and fact-dependent. That is why a beneficiary should not assume the trust will foot the bill for legal fees.
Beneficiaries—even beneficiaries with a significant net worth—may also lack direct access to assets to pay legal fees. And even if a beneficiary can pay lawyers, those expenses might take up resources that would be used to pay other expenses. Beneficiaries may end up making additional requests for distributions from the trust—whether explicitly for legal fees, or to make up other shortfalls resulting from legal bills. While a trustee might be tempted to cut off all distributions to a beneficiary when the beneficiary is suing the trust, it is often better to consider such distribution requests in the ordinary course of business independent of the litigation. Ultimately, an exercise of discretion that is not tied to litigation positions is more likely to be upheld.
A final backstop is the equitable power of a supervising court. In instances where a trust instrument is vague or where circumstances are particularly compelling, a court can determine whether the trust should pay (or not pay) legal bills as a matter of equity. Like with other discretionary requests, no trustee or beneficiary should assume that a court will invoke its equitable authority to order payment of legal bills .
Some trusts have so much money that legal bills do not put a dent in them. But for most trusts, legal fees from a protracted fight can significantly reduce the assets available for supporting beneficiaries. All sides should be aware of how legal fees might be paid in a dispute and should continue to evaluate the payment of fees as the dispute evolves.
1 In addition to indemnifying or exculpating a trustee, some trusts might contain language that disinherits or excludes a beneficiary if the beneficiary sues the trust. Many jurisdictions limit the use of these “in terrorem” or “no contest” clauses as a matter of public policy, but all interested parties should understand the potential impact when such clauses appear in the trust.
