Powers of appointment are the Swiss Army knife of modern estate planning. They’re deceptively simple yet adaptable to almost any planning contingency. And they’re ubiquitous, often incorporated into even the most basic trust agreements for all sorts of good reasons (see here). These clauses don’t get litigated all that often, but when they do, the stakes can be huge (see here).
Because power-of-appointment clauses are so common, it’s easy to take the standard formulation for granted. For example, a standard power-of-appointment clause will almost always include some form of “specific-reference” requirement. Here’s a typical example, which was quoted by the 1st DCA in Cessac v. Stevens, a 2013 power-of-appointment case I wrote about here.
Upon the death of my daughter, SALLY, the Trustees shall transfer and deliver the remaining principal of this share of the trust, together with any accumulated or undistributed income thereon to or for the benefit of such one or more persons, corporations or other organizations, in such amounts and subject to such trusts, terms and conditions as my daughter may, by her will, appoint, making specific reference to the power herein granted . . .
Not only is the specific-reference requirement included in most power-of-appointment clauses, it’s also baked into our probate code at F.S. 732.607, which provides as follows:
A general residuary clause in a will, or a will making general disposition of all the testator’s property, does not exercise a power of appointment held by the testator unless specific reference is made to the power or there is some other indication of intent to include the property subject to the power.
Ever wonder where the specific-reference requirement came from? If you see it everywhere, it’s safe to assume it didn’t just get there by accident. Well look no further. As explained in an excellent RPTE Law Journal article that was just published entitled Using Equity To Aid The Exercise Of A Power Of Appointment that Fails To Specifically Refer To The Power, this requirement was originally meant to address a specific estate tax issue — that ceased to exist over half a century ago!
Federal estate tax law prior to October 21, 1942, provided that the value of property subject to a general power of appointment was included in the donee’s gross estate for federal estate tax purposes only if the general power was exercised. Thus, to prevent inadvertent exercise of the general power and inclusion of the appointive property in the donee’s gross estate, a specific-reference clause was usually added to the provision granting the general power.
Concern over inadvertent exercise of a general power of appointment for estate tax purposes disappeared for general powers of appointment created after October 21, 1942. Section 2041 of the Internal Revenue Code of 1986, as amended (Code), provides that the value of property subject to a general power created after October 21, 1942, is included in the donee’s gross estate irrespective of whether the power is exercised. Thus, “inadvertent exercise of a general power created after October 21, 1942, no longer has adverse estate tax consequences.” See Restatement (Third) of Property § 19.10 cmt. d.
Equitable exception doctrine to the rescue:
A typical will or trust agreement is going to be chock full of archaic sounding clauses that may or may not continue to serve a useful purpose. These clauses are usually harmless, but sometimes they’re not. Making specific reference to a power-of-appointment clause may not sound like much of a burden, but you’d be surprised how often this gets mucked up by sloppy drafting.
Rather than hammer family members (and other favored classes of beneficiaries) for these drafting mistakes, the English courts of chancery developed the “equitable exception” doctrine, which salvages bad drafting as long as the defective will or trust is arguably somewhere close to the mark. The doctrine’s been applied in the U.S. (but not Florida), and is articulated in Restatement (First) of Property § 347 as follows:
Failure of an appointment to satisfy formal requirements imposed by the donor does not cause the appointment to be ineffective in equity if (a) the appointment approximates the manner of appointment prescribed by the donor; and (b) the appointee is a wife, child, adopted child or creditor of the donee, or a charity, or a person who has paid value for the appointment.
If you ever find yourself litigating a power-of-appointment clause — no matter what side of the case you’re on — you’ll want to be aware of this equitable rule and how it might impact your case. And to do that you’re going to want to read Using Equity To Aid The Exercise Of A Power Of Appointment that Fails To Specifically Refer To The Power. For example, here’s what the author had to say about the significance of the 1st DCA’s opinion in Cessac v. Stevens:
In summary, the Cessac decision is important on three fronts. First, the decision revealed the court’s willingness to move from case precedent requiring strict compliance with a specific-reference requirement to use of the equitable rule when facts and circumstances permit. Second, the decision highlighted the fact that to have substantial compliance under the equitable rule, the donee must execute a document containing at least a blanket-exercise clause. Third, the decision determined that a state statute corresponding to Uniform Probate Code section 2-610 [such as F.S. 732.607] does not apply when a power contains a specific-reference requirement.
The willingness of the Florida District Court of Appeals in Cessac to move from case precedent requiring strict compliance with a specific-reference requirement to possible use of the equitable rule appears to have been influenced by three factors. First, the court’s willingness to even consider use of the equitable rule reflects its role as a court of equity as well as a court of law. Second, the court recognized that each decision regarding the effectiveness of an exercise of a power should be limited to the facts and circumstances of each case because the court wanted to apply the equitable rule after recognizing under the facts there that “Ms. Cessac will not receive the assets the decedent [donee] apparently intended for her to receive,” but could not apply the rule because the donee’s will failed to even refer to the powers of appointment there. Third, the court cited with approval In re Passmore, where the Supreme Court of Pennsylvania was also willing to move from prior Pennsylvania case precedent requiring strict compliance with a specific-reference requirement to use of the equitable rule when facts and circumstances permit. . . .
Accordingly, the Cessac and Passmore decisions reveal that the equitable rule can be considered and applied by a state court even though precedent applicable to that court may advocate strict compliance with a specific-reference requirement.
Good stuff, well worth holding on to.