October 2013 Legal Briefs

  • Till death do we part
  • HUD’s new qualified mortgage proposal

Till death do we part

By Pauli Loeffler

No, this article isn’t about marriage, but more to help the bank with a customer who thinks the CSR knows the ins and outs of avoiding probate when they become “ex-customers” upon death. This article will also cover a couple of frequently asked questions dealing with pay on death beneficiaries and interest bearing accounts when the customer is deceased as well as dormancy fees and unclaimed property.

Trust DBA as sole proprietorship. This is probably the easiest situation to handle: Tyler Durden has a sole proprietorship with an account styled Tyler Durden DBA Fight Club. Tyler realizes “On a long enough timeline, the survival rate for everyone drops to zero,” so he visits his attorney who drafts The Tyler Durden Living Trust. The attorney tells Tyler to transfer all his property into the Trust. Breathing a long sigh of relief, you may simply re-style the account Tyler Durden, Trustee, Tyler Durden Living Trust DBA Fight Club. There is no need to open an entirely new account in this instance.

A similar situation would be when T. He Narrator and Marla Singer-Narrator, husband and wife, have a sole proprietorship account styled as T. Narrator and Marla Singer-Narrator, DBA Project Mayhem. The couple sees an attorney and who drafts the T. Narrator and Marla Singer-Narrator Trust. They visit you at the bank to transfer the sole proprietorship account into the Trust. Again, you breathe a long sigh of relief as you re-style the account “T. He Narrator and Marla Singer-Narrator, Trustees, T. He Narrator and Marla Singer-Narrator Trust DBA Project Mayhem” again using the T. He Narrator’s social security number. The only issue you may have to deal with is the limitation in the number of characters that your software will allow in the title of account. Please take this up with you platform provider.

If the sole proprietorship account is owned solely by Marla or T. He Narrator, and the Trust is the T. He Narrator and Marla Singer-Narrator, there isn’t a real issue. Either grantor may contribute property to the joint Trust. On the other hand, if the sole proprietorship account is owned by both Marla and T. He Narrator, but if T. He Narrator is the sole grantor of the T. He Narrator Trust, you have a problem: ownership of the sole proprietorship account and the Trust are not the same. Even if darling Marla is a co-trustee on T. He’s trust, she would have to remove herself from the sole proprietorship in order for the account to be transferred to the Trust. If Marla isn’t delighted with this prospect, then an available option would be to name T. He’s Trust as pay on death beneficiary bearing in mind that should T. He predecease Marla, she could always change the beneficiary.

Things become way more complicated when the attorney drafts TWO trusts: The T. He Narrator Revocable Trust and the Marla Singer-Narrator Revocable Trust. T. He and Marla may or may not be co-trustees on the both trusts, but this doesn’t matter. Their attorney (bless his little pointed head) tells them to put the Project Mayhem account into an account with BOTH Trusts as owners, however, neither Trust provides for commingling of Trust assets. Even if the trustees ARE the same for both trusts, this sets up a conflict of interest for the co-trustees. The trustee/s of the Marla’s Trust who owe a fiduciary duty to Marla, as beneficiary for life, to act in her best interests, and as the trustee/s of T. He’s Trust owe the same fiduciary duty to T. He. In 31+ years as an attorney, I have only seen one trust that actually provided for the commingling of assets, so neither of the grantors are going to be happy campers when you send them back to the attorney to amend the Trusts.

Additional issues with having two trusts as joint owners of the account include the fact that that it will have to be set up a joint without right of survivorship since the Trusts will not cease to exist just because Marla or T. He die. When either grantor dies, the deceased’s trust will be irrevocable, the account will need to terminate and be divided 50-50 or by whatever percentage is indicated at account opening.

Finally, there is the issue of FDIC deposit insurance. During the lifetime of the grantor, when there are 5 or fewer beneficiaries that are either natural persons or 501(c)(3) entities, such a Trust account is insured for the Standard Maximum Deposit Insurance Amount (“SMDIA”) determined by multiplying the number of grantors (NOT the number of trustees) x beneficiaries x $250,000.00 without regard to whether the beneficiaries receive equal shares. If there are more than more 6 beneficiaries the formula is the same BUT it is necessary to know each beneficiary’s share in order to determine the maximum coverage for the account.

These calculations go out the window and will NOT apply when two separate trusts are the owners of the account. The SMDIA for this account will be $250,000! This is NOT a joint account under the FDIC rules since a trust is not a “natural person” which is defined as “a human being” (31 CFR 330.1(l), and by FDIC’s definition a “joint account” must be owned by natural persons.

Admittedly, setting up an account between two trusts IS possible, but with all these issues, my advice is to “Just Say No.” I would note that having separate Trusts makes sense when either or both of the grantors have children from a prior marriage or have a great deal of separate property and do not wish the property to be distributed the same way. On the other hand, I have seen individual grantor trusts for spouses where neither situation applies, and I always wonder why. Trust DBA as an LLC. With a sole member LLC, the business of the LLC comes to a standstill until a personal representative is appointed for the estate of the deceased sole member unless the member has named someone other than himself as the manager of the LLC. Note that an authorized signer other than the member could continue to write checks and make deposits, but he would be without authority to conduct the on-going business of the LLC.

Neither an LLC nor a corporation “dies” just because the sole member or shareholder does, so Title 6 O.S. Sec. 901 cannot be used, e.g. an account styled Robert Paulson, sole member, Big Bob’s Body Builder Cancer Survivors LLC cannot have a pay on death beneficiary even though Big Bob’s social security number may be used on the account when there are no employees of the LLC or other reasons to obtain an EIN.

Keep in mind that an LLC or a corporation is set up to separate the assets and liabilities of the LLC or corporation from the personal assets and liabilities of the member or shareholder. A garnishment against the LLC will not reach an account owned by the members nor will a garnishment against the members reach an account owned by the LLC. On the other hand, as long as the grantor of a revocable trust is alive, the trust is considered to be one and the same as the grantor with regard to judgment creditor despite it being a legal entity. Also, with a few exceptions one legal entity generally cannot “do business as” another legal entity. So what do we do when Big Bob shows up and wants you to style the account Robert Paulson, Trustee, Robert Paulson Revocable Trust DBA Big Bob’s Body Builder Cancer Survivors LLC?

While I am going to provide a couple of options, in order to avoid having the CSR provide legal and estate planning advice to Big Bob, it is best to simply say the bank cannot do this and send Big Bob back to the attorney who drew up the Trust. Big Bob needs to consult an attorney on the best course to take, and there is going to be paperwork involved which is not simply a form, and will probably be beyond Big Bob’s abilities to draft.

One option is to amend the operating agreement to provide that upon Big Bob’s death, his membership will transfer to the Trust. This is less than useful if the LLC was set up by a CPA for a sole member rather than by an attorney since the CPA will not have provided an operating agreement telling the client that one is unnecessary. Fortunately, CPAs rarely do the LLC filing for multi-member LLCs, so unless the members “do it” themselves and do not bother to get a “kit” online, there will at least be a “form” operating agreement that could be amended by an attorney. Note that if the LLC chooses to be treated as a Sub-S Corporation there will be bylaws (which may be denominated as an operating agreement) because corporations are required to have bylaws by Oklahoma statute.

When no operating agreement exists, the Oklahoma statutes kick in to cover the LLC’s operations including what happens when the sole member of the LLC dies. Title 18 O.S. §2036 provides:

C. If the sole member of a limited liability company dies or dissolves, or a court of competent jurisdiction adjudges the member to be incompetent or otherwise lacking legal capacity, the member’s personal representative accedes to the membership interest and possesses all rights, powers and duties associated with the interest for the benefit of the incompetent member or the deceased member’s estate.

So if Big Bob doesn’t want the LLC to end up as part of a probate that would otherwise be unnecessary because the rest of his property is in his trust, he will either need to have an operating agreement drafted (or amended) to transfer his membership to the Trust upon death. Another option is for Big Bob to transfer his membership to the Trust now so that the Trust IS the member. If he chooses the latter option, Big Bob, as trustee of the member (the Trust), would designate who the authorized signers are for the LLC, and upon Big Bob’s resignation, incapacity or death, the successor trustee would step in. So as long as Big Bob is Trustee, the Trust could be under his SSN provided the LLC did not already have an EIN. It would be titled Robert Paulson, Trustee, Robert Paulson Trust, sole member, Big Bob’s Body Builder Cancer Survivors LLC. The document transferring Big Bob’s membership interest would have to comply with the terms in the operating agreement if one exists.

Not only should the bank avoid providing Bob with legal/estate planning advice, but it should not assist Bob in amending the operating agreement nor in preparing a transfer of membership whether an operating agreement exists or not.

Trust DBA as a corporation. As indicated in the prior section, Oklahoma requires corporations to have bylaws, and so even a sole shareholder corporation must adopt bylaws. In this case, generally an attorney will have been involved (some cheap and deluded individuals will have gotten a “kit” on the internet). So if Tyler Durden, sole shareholder of Paper Street Soap Co. wants to avoid probate, he either needs to transfer his shares to the trust, provide in the bylaws that his interest as shareholder transfers to his trust upon death or the shares of corporate stock must provide Transfer on Death (TOD) to his a Trust. Again, this is something Tyler needs to consult his attorney about taking care of.

When the Trust indicates the account is in the Trust but your account records don’t. It is not uncommon for the bank to have several accounts with some titled in the name of the trust and one or more others that aren’t and lack a pay on death beneficiary. So when Robert Paulson dies, and Tyler Durden, the named successor trustee on Big Bob’s Trust with the EIN for the Trust only to be told that there is a CD that is in Big Bob’s name rather than the Trust, and it has no POD things get “interesting.” Tyler presents “Exhibit A” of the Trust which shows property transferred to the Trust, and the CD is shown along with the other four accounts the bank has that did get put into the Trust. So what do you tell Tyler?

The nature of a revocable trust is that it allows the grantor to put whatever property he owns into the Trust, remove it from the Trust or never put it into the Trust as he chooses. The bank is bound by the deposit agreement, something a lot of attorneys just don’t “get” when they send a letter telling the bank to transfer “Account No. 12345, Account No. 56789, etc.” believing this will take care of transferring the accounts into the Trust. I am not sure why they think this would be sufficient when other contracts would require execution in the name of the Trust or an assignment and real property would require a deed to the Trust to complete the transfer, but for some reason, they do.

Generally, unless a court determines the account belongs to the Trust, the CD belongs to Big Bob’s estate. I used the term “generally” for a reason. Most of the time when an attorney drafts the Trust, she will also draft a “pour over” will for the grantor as well. Under the “pour over” will, all property that is not in the Trust at the time of death will “poured over” into the Trust when the will is probated. If there is a “pour over” will AND the account contained $20,000.00 or less at the time Big Bob dies, Tyler can use the Affidavit of Heirship under Title 58 O.S. Sec. 393 to claim the funds as Trustee. On the other hand, if the amount exceeds $20,000.00, or there is other property left out of the Trust, a probate proceeding is required. Note that the estate and the Trust will have separate EINs.

Pay on death beneficiary who predeceases the customer. Unless the pay on death beneficiary is the sole primary beneficiary AND the customer provided for one or more contingent beneficiaries, if a beneficiary predeceases the customer, any amount due the predeceasing beneficiary will be payable to the estate of the named POD beneficiary rather than to the customer’s estate. Further, if there are two or more POD beneficiaries, regardless of whether the predeceasing beneficiary is primary (in which case contingent beneficiaries CANNOT be named) or a contingent beneficiary, the funds are still payable to the estate of the beneficiary rather than one or more the surviving joint beneficiaries. This is covered in Title 6 O.S. Sec. 901.

This causes a problem for the bank with regard to the funds owed the predeceasing beneficiary. Title 6 O.S. Sec. 906 only works when the bank has funds “without designation of a payable-on-death beneficiary.” Title 58 O.S. Sec. 393 provides for distributions of funds “owned by the decedent and subject to disposition by will or intestate succession at the time of the decedent’s death.” Since at the time the beneficiary died, the account holder was still alive, the beneficiary did not “own” the funds in the account.

Whether the amount owed to the predeceasing POD beneficiary is $10.00 or $100,000.00, the bank will be stuck holding the funds until they may be sent to the Oklahoma Treasurer as unclaimed property UNLESS the beneficiary’s estate has been probated. If that is the case, if the bank is provided a certified copy of the order determining heirs and distribution, it may be possible (subject to the provisions of Title 58 O.S. Sec.393 set out below) for the bank to distribute the funds as provided by the court order.

Pay on death beneficiary who dies after the customer but before funds are distributed. In this case, again Sec. 906 of the Banking Code (Title 6) will not work, BUT Sec. 393 of the Probate Code (Title 58) may be used without a probate since the beneficiary did “own” the funds at the time of his death. Title 58 O.S. Section 393 may be used to distribute the funds owed the POD beneficiary if: 1) the fair market value of property located in Oklahoma at the time of the beneficiary’s death less liens and encumbrances, does not exceed Twenty Thousand Dollars ($20,000.00), 2) no application or petition for the appointment of a personal representative is pending or has been granted in Oklahoma or any other jurisdiction, 3) each heir-at-law (no will) or each heir-at-law, legatee or devisee (when there is a will) who is entitled to payment signs an affidavit agreeing to the respective proportions set out in the affidavit, and 4) the affidavit states that all taxes and debts of the estate have been paid, provided for or are barred by statute of limitations. If the net estate of property in Oklahoma of the deceased POD beneficiary exceeds $20,000.00, a probate proceeding is pending in Oklahoma or another state, or the heirs-at-law or all parties named in a will cannot agree on how the funds are to be distributed or do not swear all taxes and creditors of the estate have or will be paid or the claims are barred, then the bank will have to wait and remit the funds to the Oklahoma Treasurer as unclaimed property.

Interest bearing accounts, dormancy fees and unclaimed property.

If the bank has one or more POD beneficiaries, whether alive or dead at the time the customer dies, reporting interest on the account is an issue. Since interest accrued after the customer’s death should not be reported under the customer’s social security number and the bank probably does not have the social security numbers of the beneficiaries, the bank needs to distribute the funds quickly. The bank has a specific right to convert the account to non-interest bearing under the Banking Code, Section 901(B)(9):

Caveat: This would need to be spelled out in your bank policy. It only applies to an interest-bearing account with one or more PODs, and there is no similar provision under Sec. 906 for sole ownership accounts. Although it is not specifically stated, the bank would have had to make a reasonable effort to contact the named PODs after knowing of the death of the account holder.

So what do we do when there are no PODs? In that case, the provisions in the Banking Department’s rules found in the Administrative Code with regard to dormant accounts, as well as the State Treasurer’s rules for unclaimed property which also covers dormant account issues provide guidance. The Banking Department’s provision for payment of interest provide:

Title 85:10-11-16 – (c) Interest on a deposit may or may not be paid on a dormant account as determined by policy of the bank’s board even if the specific terms of the contract between the bank and the customer are silent with regard to interest. A bank may determine by policy when an account is considered "dormant" and such policy may determine an account is dormant even though it may not be considered abandoned or unclaimed under applicable law.

If the account agreement is silent as to payment of interest after death, this could be addressed by the bank’s Board of Directors defining an account as dormant 60 days after the later of the death or notice of the death of the last remaining account holder and instituting a dormant account policy to curtail payment of interest when the account agreement is silent. It would be necessary to provide consumers appropriate TISA change in terms notification. The provision would be stated in the account agreement itself thereafter.

If the board chooses to adopt and/or include curtailment of interest as part of a dormant account policy or as part of the account agreement itself, it needs to be aware of the Unclaimed Property Statutes as well as the rule found in the State Treasurer’s Administrative Code regarding curtailment of interest as well as dormancy fees.

Title 60 O.S. Sec. 652 provides:

C. A holder may not impose with respect to property described in subsection A of this section any charge due to dormancy or inactivity or cease payment of interest unless:

1. Reasonable notice that the holder may impose the charge or cease payment of interest is given to the owner of the property, either:

a. at the time the account is opened,

b. through a schedule of charges sent to the owner of the property, or

c. through a statement in the rules, regulations, or bylaws of the holder that the holder may impose the charge or cease payment of interest; and

2. The holder regularly imposes such charges or ceases payment of interest. If the holder regularly reverses or otherwise cancels such charges or retroactively credits interest for a reason other than an error or omission by the holder, then in proportion to the extent that it does so with respect to other deposits, the holder shall likewise reverse or otherwise cancel charges or retroactively credit interest with respect to property that is reported to the State Treasurer as unclaimed under the Uniform Unclaimed Property Act.

The provisions for Unclaimed Property are:

735:80-5-1. Charges and deductions that may be withheld

(a) Charges shall not be deducted from unclaimed intangible property unless:

(1) A reasonable notice of service charges or deductions is given to the owner at the time the account is opened; or

(2) A schedule of service charges or deductions has been mailed to the owner; or

(3) A statement concerning such charges has been incorporated in the rules, regulations, or bylaws of the holder.

(b) Such charges or fees may not be excluded, withheld, or deducted from property subject to the Uniform Unclaimed Property Act if, under its policy or procedure, the holder would not have excluded, withheld or deducted such charges or fees in the event the property had been claimed by the owner prior to being reported or remitted to OST.

(c) If charges are deducted from property, a holder shall include or attach as a part of the report filed pursuant to the Uniform Unclaimed Property Act:

(1) The value or amount of each item or property before any charges are deducted therefrom;

(2) The amount of the charges deducted from each item and the date or dates on which such charges were deducted.

(3) Policy that the holder regularly imposes such charges and does not regularly reverse or otherwise cancel them.

(4) Such other information or documentation that substantiates the deduction of the charges.

What these statutes and rules mean: while the bank is free to define when an account will be determined as "dormant" as well as which accounts will be subject to dormancy fees and/or curtailment of interest and the amount of the fees, if it reverses dormancy fees or would retroactively pay interest on accounts for other than an error or omission by the bank (such as on the request of "good" customers), the bank will be required to reverse the fees and pay the interest to the Oklahoma Treasurer when remitting unclaimed property.

HUD’s New Qualified Mortgage Proposal

By John S. Burnett

The ink is barely dry on the Bureau’s latest revision to its 2013 final mortgage rules, and another federal agency is getting into the act. On September 30, the Department of Housing and Urban Development (HUD) published a proposal in the Federal Register that would define Qualified Mortgages (QMs) that are insured by HUD under the National Housing Act (commonly referred to as “FHA loans”).

Loans that are eligible for such insurance are already defined as QMs under the Bureau’s Ability-to-Repay (ATR) requirements in section 1026 43(c) of Regulation Z. The QM “special rules” (sometimes referred to as “transition” rules) in section 1026.43(e)(4)(ii)(B) declare that a “loan that is eligible to be insured, except with regard to matters wholly unrelated to ability to repay, by [HUD] under the National Housing Act” is a qualified mortgage, and as such, will provide either a safe harbor (if it is not a higher-priced covered transaction) or presumption (if it is a higher-priced covered transaction) of compliance with the ATR requirements. However, that Regulation Z provision will sunset when HUD exercises its own authority to issue a rule under TILA section 129C(b)(3)(ii) to define a qualified mortgage (or on January 10, 2021, if HUD doesn’t issue a final rule).

HUD’s proposal is just that, and it is likely to be amended a bit before it coalesces into a final rule, but lenders who make FHA loans should understand what’s being proposed.

HUD’s proposed QMs

As noted earlier, the Bureau’s regulation provides either a safe harbor of compliance with the ATR requirements, or a presumption of compliance with those rules. Whether a QM enjoys the safe harbor or presumption of compliance protection is determined by whether it’s secured by a first lien or a junior lien and the number of percentage points the APR of the loan exceeds the average prime offer rate (APOR) for comparable transactions.

HUD, on the other hand, proposes to classify all insured mortgages under three of its programs as safe harbor QMs. Title I (home improvement), Section 184 (Indian housing) and Section 184A (Native Hawaiian housing) insured mortgages and guaranteed loans under HUD’s proposed rule would carry safe harbor QM status, with no changes to current underwriting requirements under those programs.

For loan insured under Title II of the National Housing Act, however, HUD would assign two QM categories: safe harbor QMs and rebuttable presumption QMs.

Safe harbor QM status would go to Title II-insured loans (other than reverse mortgages) that meet the Bureau’s multi-tiered points and fees cap under Regulation Z section 1026.43(c)(3) and have an APR that does not exceed the APOR for a comparable mortgage by more than the combined annual mortgage insurance premium and 1.15 percentage points for first-lien loans.

Title II-insured loans (other than reverse mortgages) that meet the Regulation Z point and fees cap and have an APR that exceeds the APOR for a comparable mortgage by more than the combined annual mortgage insurance premium and 1.15 percentage points for first-lien loans would be rebuttable presumption QMs.

According to HUD’s prefatory remarks to the proposed rule, about 19 percent of its Title II-insured loans that would be rebuttable presumption QMs under the Bureau’s regulation would meet safe harbor QM requirements under the HUD proposal. About 7 percent of Title II loans would not qualify as QMs under either the Bureau or the HUD rule due to exceeding the points and fees limits, and about 74 percent of its insured loans would meet either the Regulation Z or HUD safe harbor QM definition.

HUD states in its prefatory comments that it would no longer insure loans with points and fees in excess of the CFPB level for QMs, and anticipates that lenders will adapt their pricing to avoid exceeding those limits.

For lenders who make FHA loans, this rulemaking is one to watch. Comments on HUD’s proposed rule are due by October 30, 2013.