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A War Story By Ron Klein Editor’s Note: “War Stories,” drawn from Camico claims files, illustrate some of the dangers and pitfalls in the accounting profession. All names have been changed. Subject: Trustee Services Successful real estate developer Marc Haviland creates a revocable living trust and asks his old friend and accountant, Jordan Shepard, CPA, to serve as trustee. Shepard accepts, even though he knows there is much friction between Haviland’s adult son, Bud, from a previous marriage, and two adult daughters, Faye and Kate, from Haviland’s current marriage. Haviland has also been retaining a tax and estate planning attorney, Brian Lawton, who is a good friend of Haviland’s second and current wife. Lawton drafted the trust documents for Haviland and serves as the trust attorney. He also helps oversee Haviland’s $55 million estate, the principle asset of which is South Park Shopping Mall. When Haviland dies in February 1996, the rental income from the mall becomes income for his wife, while the mall itself is bequeathed to Bud, Faye and Kate upon the death of Haviland’s current wife. Shepard and the three siblings are all named managers of the mall, with Shepard having a 34 percent vote and the siblings each having 22 percent votes on all property decisions. They all receive property management fees from the trust. Over time, Shepard and the three siblings notice that the shopping mall, while still producing a good income for Mrs. Haviland, is deteriorating due to poor construction. Bids from contractors to rehabilitate the mall are too high to be financed by the mall’s income, which is protected for Mrs. Haviland by the provisions of the trust, so Bud, an aspiring real estate developer himself, and Shepard then devise a plan: Spruce up the mall enough to refinance it, and use the proceeds to either rehab the mall or purchase another property. Bud and Shepard prefer the idea of purchasing another property, because the neighborhood of the mall is showing signs of deterioration as well. Faye and Kate oppose the purchase of another property and advocate putting the refinance proceeds into a reserve fund that will grow and help them maintain South Park Mall. Their concerns are that: 1) additional property is not covered in the trust provisions; 2) their mother might be excluded from its income; and 3) they might be excluded from inheriting it. The relationships among the siblings continue to worsen, making management of the mall so difficult that Shepard uses his vote with Bud to remove Faye and Kate as managers. The daughters’ property management fees are also discontinued. Meanwhile, Shepard’s billings for his trust work are running about $6,000 per month. He has been using the tax services of the accounting firm where he is employed, paying the firm’s fees out of the trust. Lawton’s billings have increased steadily to around $8,000 per month, and the siblings begin to complain about the size of the bills, including the scope of Lawton’s services, some of which duplicate the CPA firm’s services. Shepard is in a quandary, because he, the accounting firm, and the family have all been consulting with Lawton as the trust attorney and following his advice on several trust matters. On the other hand, as trustee, Shepard is supposed to be monitoring Lawton’s work. Shepard ultimately decides to obtain signed consent letters from the beneficiaries that will empower him to approve or disapprove all work done by Lawton. Shepard receives consent from Bud and Faye, but Kate and Mrs. Haviland do not give theirs. Kate eventually hires her own attorney and files a suit against Lawton and Shepard, alleging that Lawton has overbilled for his work and that Shepard’s actions as a trustee are substandard, self-dealing and negligent. The complaint asks for $1.1 million in damages. Lawton then hires counsel to represent him, and they file a cross-complaint against Shepard and the CPA firm, alleging that if excessive fees were charged by Lawton, the trustee and his firm were to blame for a failure to supervise his work. The CPAs are incredulous at the allegations, because they were often acting on Lawton’s advice in their trust work. Results A jury trial date is set, but the judge calls for a mandatory settlement conference one month prior to the trial date. The conference is attended by five attorneys, four clients, and three insurance representatives. Negotiations progress slowly. Lawton and his team are willing to pay half of the damages ($550,000), but they want the other half to come from the trustee and the accounting firm. The CPAs are adamant that they acted on Lawton’s advice in their trust work, and they offer to pay 10 percent. The parties and the judge ultimately negotiate a 25 percent share of damages for the trustee and the accounting firm ($275,000). Loss Prevention Tips Appropriate pre-engagement client-screening processes will help the trustee and the accounting firm better manage the potential risk areas. Engagement letters will help establish more of an arm’s-length relationship between the parties, mitigating any conflicts of interest, real or perceived, between them. The
accounting services rendered by the firm for the trust should
be supervised by someone other than the trustee. The trustee should be sensitive to the potential conflicts, perceived or real, with the parties and take appropriate action. The trustee should also avoid the perception that he or she has “taken sides.” Periodic reporting to all affected parties help keeps the beneficiaries better informed. Timely reporting also starts the clock ticking on the time within which anyone can object to an action or decision made by the trustee. Ron Klein, J.D., CFE, is vice president of claims for Camico. He recently received the 2002 Award for Outstanding Conference Speaker from the Education Foundation of the California Society of CPAs. |
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