Trust Might Trip Up Your Partnership’s Succession Plan

It is not uncommon for buyout provisions to be included in a partnership agreement. The provision insures that the remaining partners are not stuck with a partner that is not qualified to be a partner, not a good fit for the partnership, etc. Living trusts help to avoid the high cost and time associated with probating a decedent’s assets. Therefore, it is not uncommon for a partner to assign his or her ownership in a partnership to a living trust during life. 

Technically, this assignment changes the identity of the assigning partner from an individual to a trustee of his or her trust. Notwithstanding, in 2009, the Fourth District Court of Appeal ruled that a trustee of an ordinary express trust enters into partnership agreement, it is the individual and not the trustee of the trust that is the party to the agreement. (Presta v. Tepper (2009) 179 Cal.App.4th 909, 918.) This ruling has stood for nearly a decade. 

A recent opinion by the Second District Court of Appeal has questioned the ruling in Presta. (Han v. Hallberg (Cal. Ct. App., May 21, 2019, No. B268380) 2019 WL 2183048.) In Hallberg, four dentists formed a general partnership. The partnership agreement included provisions whereby the withdrawal, retirement or death of a partner would trigger several deadlines. The first of these deadlines gave the estate of a deceased partner 90 days to elect to retain the partnership interest. 

Approximately 20 years after the partnership formed, the partnership agreement was amended to allow a partner to substitute himself as an individual for himself as trustee of his living trust. This amendment was ratified by all the partners. The substituting partner served as sole trustee of his trust until 2003 when he appointed his son as co-trustee. In 2009, his son became the sole trustee. 

In 2010, the substituting partner died. Neither his estate or the trust made an election within the 90-day period to retain the partnership interest. The partnership’s counsel then informed the trustee that it was exercising its right to purchase the partnership interest. The trustee responded to the letter stating that the trust was under no obligation to sell its partnership interest. 

After years of litigation, the Second District Court of Appeal cited to the plain language in California’s Uniform Partnership Act to say that a trust itself can be a partner in a partnership. Further, it ruled the trust as partner was not dissociated by the substitution of a successor trustee, rather, the disassociation occurs upon the distribution of the trust’s entire transferrable interest in the partnership. 

The court ultimately ruled that the trust was the partner, not the decedent. Further, the trust continued to be a partner and was not required to make the election that would have otherwise been required if the partnership interest was held by an individual and that individual had died. 

As with all situations, the facts of each particular relationship matter. However, the change in the way trusts are viewed warrants a review of existing partnership agreements where partnership interest has been allowed to be transferred to a trust.

Takeaways from this recent ruling:

1. When a trustee is substituted in for an individual, the trust is the partner, not the individual. 

2. A trust, business trust, and an estate may associate with other persons in a partnership. 

3. The appointment of a successor trustee does not dissociate a partner that is a trust from the partnership. 

Carl L. Jones is an attorney at Prevolos Lewin & Hezlep, ALC.

**This article is for information purposes only and does not contain or convey legal advice. The information herein should not be relied upon in regard to any particular facts or circumstances without first consulting an attorney. Any views expressed are those of the author only and not of the SDCBA or its Business & Corporate Law Section.**