Legal Issues

Financial challenges make it harder for the leaders of a family business to choose between ration­al business goals and compromises designed to resolve a family’s emotional conflicts and financial needs. If these challenges occur after generations of success, the leaders’ dilemma is complicated by the guilt, blame, disappointment and fear often uniquely present in a family business (e.g., “How could you fail after Grandpa built this great business?” or “My son spent his life preparing to run this division; how could you outsource it?” or “I can’t pay the mortgage on my house if you insist on reducing our annual dividend”).

And, of course, making the wrong decisions can cripple the wealth and well-being of the family for generations.
In these situations, making the right choices is far easier said than done.

There is no one-size-fits-all formula for finding the right path. In fact, often there are no solutions, only the opportunity to avoid making a bad situation worse. Many businesses must decide among several bad alternatives — e.g., investing more family finances into the money-losing business or making payments that benefit the family in the short run but result in years of lawsuits from former creditors.

The only comfort to those involved in such precarious situations is that several valuable principles can serve as guides.

Key perspectives
Timing is everything! Most opportunities are like windows in that they all open or close temporarily. Once an opportunity closes, there is no way to know if it will ever reappear. Indecision often leads to the need to make harder choices among less promising alternatives with a greater risk of destroying business value or family bonds.

Timing is important not only from an economic point of view but also from a legal perspective. If a family business is on the painful path toward insolvency, the actions (or inactions) of the company’s officers and directors come under greater scrutiny. If failure occurs, everyone has the benefit of 20/20 hindsight. Many will later second-guess decisions without realizing the role of emotion and that fact that tough calls had to be made in the heat of the moment.

No matter what, those who make decisions in these circumstances should understand and consider their emotional agenda to avoid regrettable choices.

Don’t hide bad news. Keeping your family advised of bad news is often difficult, but it is usually a good idea even if it causes distress, anxiety or blame. Those involved in the business will be dramatically affected by what is happening, and they deserve to know. Failing to inform them can profoundly affect long-term relationships.

This doesn’t mean leaders should tell their family everything. Many business decisions must remain private to avoid making a problem much worse. Fortunately, conversations between a business and its attorneys are protected by law against any disclosure. But beware — if that conversation is shared with anyone other than an attorney, it is no longer confidential, and other people (not just other family members, but also creditors, for instance) can find out what was discussed.

Be aware of available estate planning techniques. When a business runs into hard times, an often-overlooked strategy to protect yourself and your family is estate planning — using trusts, gifts and other techniques to place assets out of creditors’ reach no matter what happens to the business.

The strategies that will work best for you depend on your unique personal factors such as timing, your role in the business and family, your wealth, your marital status, your age and that of your children or grandchildren, and their financial circumstances and maturity.

These techniques can be perfectly legal and appropriate when implemented correctly and should always be thoughtfully explored — the sooner, the better.

Landmines to be avoided
Preferences and fraudulent conveyances. “Pref­erences” and “fraudulent conveyances” are the formal legal names of transactions that can lead to money being “clawed back.” When these situations are uncovered, a bankruptcy trustee or other legally empowered person can seek to persuade a court to order the return of money or other property that was determined to have been improperly given, sold or distributed to family members, other owners or creditors.

For example, think of a business that fully repays a supplier owned by an in-law a few days before the business closes its doors. Then, after an orderly sale of the business’s few remaining assets, the other creditors are repaid only 10% of their debts. In such a situation, the in-law who got paid in full received a “preference” of his debt over the other creditors, and thus may be subject to a court-ordered clawback.

A fraudulent conveyance, in its simplest terms, is a sale or transfer of an asset, during certain critical times, for less than full value.

The motivation for such a transaction is easy to understand. For instance, imagine a business that had a string of losses and seems headed toward closing. At that point, the owners may want a way to have family members receive value that would otherwise go to outsiders. For instance, a father/CEO “sells” a machine worth $200,000 to his son for $5,000. The CEO’s motivation may never be known, but the transaction could still be attacked as a fraudulent conveyance.

Creditors and their lawyers know exactly where to look to uncover preferences or fraudulent conveyances.

This is not to say you must always steer clear of anything that could be claimed to be a preference or fraudulent conveyance. By being aware of the laws relating to transactions like this, you can accurately evaluate the risks and rewards involved in deciding to move forward with the transaction based on sophisticated and informed analysis.

Breach of fiduciary duties. In unharmonious families facing business distress, the controlling owners might be tempted to make arrangements that benefit some family owners over others.

Like those hurt by preferences or fraudulent conveyances, those who feel they have been wronged are often prone to pointing fingers at those in control. The legal name for such claims is breach of fiduciary duty — that is, the duty of people in positions of power to be totally honest and loyal to the owners, sometimes to the other company officers and, in some limited instances, the company’s creditors.

Claims like this from family members or others who feel strongly that they were mistreated are difficult to rationally resolve, often because of complicated emotions that can make rational compromises more difficult to reach.

Family loans and personal guaranties. Generally speaking, hope springs eternal — and sometimes for good reasons, since financial problems are often temporary.

The danger of this typically loving and healthy viewpoint is that it can lead to wealthier family members giving “life support” to the “critically ill” business in the form of making loans to the business of providing personal guaranties for third-party loans.

Offers such as these must not be rejected out of hand. But if they are to be accepted, these financing arrangements should be undertaken only after careful examination of the circumstances and an understanding of who, if anyone in the family, will suffer the loss if the optimism turns out to have been unjustified.

And, unlike many other family transactions, they should be documented in carefully drafted written contracts. If the business fails, handshake agreements often will not be remembered in the same way by all involved and cannot be counted on to be lived up to or enforced. Family members who had casually promised to share in the loss from a personal loan to the business or a personal guaranty often “forget” making that offer or do not agree on some of the details.

Promises made in a situation of financial distress should always be put in writing. If everyone agrees to share in a loss based on their percentage of ownership, make sure that agreement is written by a good lawyer and signed. Even if there is no malicious intent, agreements are often honestly forgotten or misunderstood. Asking for a pledge of collateral and a demonstration of the ability to pay is simply wise, not unloving. Often merely asking that these agreements be put in writing will be traumatic. However, that trauma is far less harmful than the trauma that will ensue absent such protections.

Which advisers should you consult?
The road traveled when insolvency occurs is perilous, and it is imperative to have advisers traveling with you to help you avoid the many pitfalls. Three categories of advisers are essential in these times:

Business advisers: Professionals who can clarify and prioritize the decisions that must be made will help you make wise decisions, such as how much cash needs to be available, which creditors should be paid (and when) and what can be done to save or preserve cash.

Accountants: These professionals ensure you are basing your financial decisions on accurate numbers and not mere fantasies or guesses.

Legal advisers: You need attorneys familiar with the nature of your business, the complications of family ownership and the local, state and federal laws concerning what can be done by a business in distress. A good legal adviser will minimize the risk that the business leader’s decisions will be criticized and second-guessed by people using 20/20 hindsight.

Truly good advisers offer alternative solutions and honest risk-benefit analysis to evaluate each strategy. Every alternative comes with risks. Wisdom involves deciding which risks to take depending on the potential for rewards.

In times of financial distress, always remember: Act with a clear head. In dealing with creditors and with family members, act deliberately and with a sense of urgency. The more information at your disposal, the greater the likelihood that you will be able to save your business and your family relationships.         

Henry C. Krasnow, Esq. and Michael A. Brandess, Esq. are partners at the law firm of Sugar Felsenthal Grais & Helsinger LLP (

Copyright 2019 by Family Business Magazine. This article may not be posted online or reproduced in any form, including photocopy, without permission from the publisher. For reprint information, contact


Considering the high percentage of marriages that end in divorce, a prenuptial agreement (also commonly referred to as an antenuptial or premarital agreement) is a prudent way to protect a family-owned business, its income stream and its assets from exposure. A premarital agreement proactively imposes restraints on a non-owner spouse's ability to delve into the finances of the business, seek a piece of the entity, procure a support award and/or procure attorney fees based on business-related income.

Insisting on such an agreement does not imply that you or your family members distrust your future spouse. The overriding goal is to protect the long-term survival of the business and its owners. While there are other means of providing some degree of security in the event of a divorce (including various trust devices and stock agreements), the prenuptial agreement can address issues beyond mere ownership that arise in a divorce matter or upon death. To the extent possible, it should be viewed as a business transaction.

The degree of potential risk in the absence of a preunuptial agreement varies from state to state. For instance, residents in a "community property" state generally face an equal division of assets, while residents in an "equitable distribution" state face a division of assets based on a notion of fairness defined by that particular state's statutes and cases.

Generally speaking

As many readers already know, a prenuptial agreement is a contract between two people intending to marry, executed by them before the marriage, and in which the parties' financial rights (including, but not limited to, spousal support and asset distribution) are determined in the event of the marriage's future dissolution and, perhaps, upon death. All legal contracts require an offer, an acceptance, a meeting of the minds and a form of consideration. In the case of prenuptial agreements, the consideration is the marriage itself, which is why agreements often provide that they do not become effective until the marriage occurs. While the agreed-upon contractual language will vary in each case, depending on the nature of the assets at issue and the parties involved, an ideal agreement will provide a definitive, concrete method by which to distribute assets, address spousal support and minimize conflict between the spouses, as well as the legal fees incurred.

The legal requirements guiding the enforceability and validity of prenuptial agreements vary by state. The Uniform Premarital Agreement Act provides a basis upon which states can rely in crafting, interpreting and enforcing such requirements. At present, more than 25 states have in place some form of the Act. Notably, the Act does not cover postnuptial agreements, which are executed after the marriage occurs and, like prenuptial agreements, are designed to determine the spouses' financial rights in the event of a divorce or death. As with prenuptial agreements, the validity and enforceability of postnuptial agreements vary by state but, unlike with prenuptial agreements, postnuptial agreements may be subject to heightened concerns about the consideration exchanged and other circumstances involved.


The enforceability of a prenuptial agreement often hinges on the following fundamental concepts:

1. Each party to the agreement voluntarily entered into the agreement without any concerns regarding potential coercion or duress.

2. Each party to the agreement had access to independent legal counsel.

3. Language was included that carefully and explicitly detailed the rights being waived by each party entering into the agreement. This requirement is of critical importance, especially in situations where one party does not have an attorney.

4. Each person provided sufficient financial disclosures as to his or her respective income, assets and liabilities. While the sufficiency of financial disclosures varies by state, disclosures are commonly made through the preparation of schedules that are reviewed and acknowledged by each party, and attached to the agreement.

Thus, it is imperative that business ownership be disclosed during the negotiation process so that the non-owner spouse cannot later claim that he or she was unaware of its existence at the time the agreement was executed.

To the extent possible, disclosure should include a value for the business. If a business valuation exists, disclosing the determined value and underlying report may make sense. If a valuation does not exist, your significant other may want to speak with a forensic accountant and have one prepared. Doing so may involve a lengthy and costly process whereby the accountant examines company financials and performs tasks that may otherwise seem invasive and unnecessary, especially to the other business owners who do not want to be involved. To avoid delving into that process, the parties instead may simply agree to expressly waive any investigation into or analysis of the business and, in connection therewith, any value determination.

'Separate property'

While assets existing at the time of the marriage, or received as an inheritance or a gift, are often exempt from asset division upon divorce, there are many components of such assets that may still be subject to discussion. These components potentially include, but are not limited to, an increase in the value of the asset during the marriage and, perhaps, even the full value of the asset due to its commingling with marital assets.

A prenuptial agreement can serve to broaden and more firmly define the assets and related components of said assets that will be exempt from division through their designation as "separate property." For instance, a home owned by one spouse at the date of marriage can be deemed "separate property," as well as any income generated by the home during the marriage, any passive or active increase in the value of the home even if due to the efforts (monetary or otherwise) of the non-owning spouse, any home purchased from proceeds realized from the sale of the premarital home, and more.

Similarly, a business existing at the date of marriage can be designated as "separate property," as well as any increase in the value of the business during the marriage, any income or compensation of any kind earned from the business during the marriage, any proceeds realized from the potential future sale of the business, and any subsequent business formed or purchased with such sale proceeds.

A divorcing non-owner spouse in an equitable distribution state will often argue that he or she should receive a larger portion of the business, or a larger payout of the marital share in the business, because of efforts he or she performed to help the business grow and increase in value. As with the other protections noted above, the agreement can provide that the business (and any increase in its value) is deemed separate property and exempt from division no matter what efforts the non-owner spouse undertook during the marriage.

The agreement can also designate as "separate property" potential future businesses developed or acquired during the marriage. Thus, if you are in talks to purchase an interest in an entity during the marriage, the agreement can include language protecting even that potential acquisition in the event of divorce or death. Particularly relevant to a family business, the agreement can protect any business interest inherited, gifted or otherwise provided to you during the marriage.

Spousal support and attorney fees

Without a prenuptial agreement in place, you will be subject to your state's laws regarding spousal support. As set forth above, an effectively crafted prenuptial agreement can protect not only the family business interest and its related assets, but also its income stream. Similarly, the agreement can provide for what the precise spousal support arrangement will be in the event of a divorce. You and your spouse can agree to mutually waive spousal support, although a court may more closely scrutinize such a waiver depending on the parties' respective financial circumstances and whether, for instance, the financially dependent spouse will be receiving some other form of payment in lieu of spousal support.

In the event that you are unable to agree on a support arrangement, the issue can also be left open for a court to decide should a divorce proceeding commence. While this eliminates the level of certainty sought in executing a prenuptial agreement, it may be unavoidable.

Many agreements prohibit spouses from seeking an award of prospective attorneys' fees that will allow the spouse to litigate the divorce matter. The non-owning, perhaps financially dependent spouse may envision the business as a source of legal fees that can fund the divorce and, more particularly, a challenge to the prenuptial agreement's enforceability. For that reason, many agreements also contain language requiring a spouse who unsuccessfully challenges a prenuptial agreement's enforceability to pay for any legal fees and costs incurred by the opposing spouse.

Ownership status

In certain situations, the parties may intend on the non-owning spouse procuring an ownership interest in the business during the marriage. To aid in avoiding the battle that may ensue as to what happens to that spouse's interest in the event of a divorce, the prenuptial agreement can provide a roadmap as to what will occur. A properly drafted ownership or buy/sell agreement can also provide greater certainty in the transition process. Using such methods can prevent the divorce from threatening the very existence of the business under such circumstances.

Decisions, decisions

Only you can determine whether you need a prenuptial agreement. Although there are emotional considerations involved in entering into such an agreement with a person you care for and plan to be married to for the rest of your life, it is critical to recognize that the decision you make will affect not only you, but also your family members and the potential long-term success of your business.

Robert A. Epstein, Esq. is a partner in Fox Rothschild LLP's nationwide family law practice. He practices in New Jersey and New York (

Copyright 2016 by Family Business Magazine. This article may not be posted online or reproduced in any form, including photocopy, without permission from the publisher. For reprint information, contact

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The most critical but often overlooked policies for large family businesses tend to fall into two categories: transitions and day-to-day business operations.

Leadership and other transition issues may be frequently discussed, and sometimes put into writing, but without the proper structures you could find your policies falling short at the worst possible time—in the midst of an unexpected change. In addition, sometimes informal practices around day-to-day operations become entrenched. Failing to discuss these practices with counsel can leave you vulnerable.

In the course of attending to such “mundane” matters as keeping the business afloat and making a profit, owners and senior leaders may not focus on issues we lawyers tend to worry about. Reminding yourself now to revisit these policies could save you costly legal bills later on.

1. Don’t wait for a transition before checking your plan.

Whether your organizational documents have served you well historically or you haven’t looked at them in years because no problems have come up, a failure to examine transition policies can leave you vulnerable when change takes place.

• Retiring leaders: Consider the scenario in which the founder is contemplating retiring or limiting his or her involvement. The operative documents may have given the founder broad authority to make decisions on behalf of the business, or this may have been the practice regardless of formal policy.

If the next generation is to succeed the founder, more fine-tuning of the control mechanisms may be necessary. Which decisions can the new leaders of the company implement unilaterally, and which require approval of the governing body? Contracts over a specific amount? Change in product lines? Hiring and firing of key personnel? Budget approval? Instituting or settling litigation?

If other family members do not feel comfortable with the new leader having the same degree of power the founder had, those controls must be addressed in the governing documents. Revisiting operative documents regularly instead of waiting for transitions to hit can help you address family members’ concerns and avoid tying the new leader’s hands.

• Divorcing owners: Your operating/shareholder agreement should already contemplate owner or shareholder divorce, but periodic review with counsel can flush out any vulnerabilities.

For example, many agreements restrict transfers of ownership interests in general but create exceptions for transfers to spouses. A well-drafted agreement gives the company and the other owners the right to purchase shares from a spouse who is obtaining those shares through a divorce decree. Your documents should also ensure that the spouse obtaining shares through a divorce cannot freely convey those shares to a new spouse upon remarriage.

• Death of a leader: Don’t wait until an owner is dying (or passes suddenly) to review the other owners’ rights or obligations with regard to purchasing shares. Typically the operative documents set forth specific timelines for exercising such rights, but it behooves you to prepare in calmer times.

• Special S corporation concerns: Upon the death of a shareholder, S corporations can face another pitfall that can put at risk their S corporation status.

For estate planning purposes, shareholders often convey their shares to a grantor trust. In the event of the shareholder’s death, that trust loses its grantor status. This requires the trust to make a specific election with the IRS to remain an eligible S corporation shareholder and preserve the company’s S corporation status.

It is important to note the election deadline and obtain confirmation that the election has been made in a timely manner.

2. Stay years ahead of a potential sale.

• Audited financials: If your company produces only reviewed or compiled financial statements, it’s usually advisable to switch to audited statements three years before the business is sold.

Though no one looks forward to audit time, and it is a more expensive option, the benefits of increasing a potential buyer’s confidence and getting ahead of potential issues generally provide ample payoff.

• Key non-family employees: While a sale generally will not be disclosed to employees until the closing is imminent, the buyer may require the services of certain non-family employees.

Even when these employees have a longstanding relationship of mutual trust with the family, it’s prudent to discuss their goals for employment and tolerance for non-competition terms in the event of a sale.

• A plan for problem solving: In the early stages of considering a sale, you would be wise to develop a process and timeline to identify, quantify and (if possible) resolve any issues that would be of concern to a buyer. These might include major litigation or environmental liability.

Vigilance can also ensure that changes in tax law won’t cause problems or lead to missed opportunities. Confirm that your accountant or attorney is monitoring legal changes that could make a sale more or less advantageous from a tax perspective.

3. Establish an attorney consultation policy.

My clients will sometimes send me a contract that they have already signed and that is now causing problems. Those e-mails often include a note of regret: “I know I should have sent it to you to look at before I signed it, but …”

An attorney consultation policy can articulate cost and subject matter benchmarks for when to involve counsel. This ensures that you find the happy medium between paying your counsel’s hourly rate to review a routine vendor agreement and blindly surrendering important legal rights.

• Watch out for red flags: Some contract provisions virtually always merit attorney review. These include warranties and representations, ownership of intellectual property, insurance and indemnity clauses, defaults and remedies, jurisdiction for litigation, confidentiality and clauses concerning which document will govern in the event of a conflict.

• Your terms and conditions can’t always help you: The “governing document” provision can sneak in and wreak havoc. A client recently asked me to review a single provision of a customer’s lengthy contract, squeezed in microscopic print onto the back of an innocuous-looking purchase order.

My client and I had carefully crafted terms and conditions for the client’s company. However, the customer’s contract established that it controlled in the event of conflict between its terms and any terms and conditions established by its vendor (my client). We ultimately leveled the playing field—after extensive negotiation.

4. Review insurance annually.

Unfortunately, doing business today subjects a company to more legal risk than ever, enhancing the importance of insurance that truly protects you and your business.

• The right agent: Your insurance agent should be a true adviser, not just a robot who can pull quotes and place orders. Seek out an insurance agent who specializes in your particular industry and understands your exposures, challenges and products.

Insurance products are constantly changing. Relatively new products like cyber liability have been added and the degree of coverage offered is shifting, as with officers and directors liability insurance. You need an agent who will arm you with information to make decisions based on coverage comparisons, not simply on cost.

• Flagging new concerns: An annual insurance review can also identify issues that arose in the past year. For example, have you increased your presence in another state to the extent that you now must comply with the worker’s compensation laws of that state? Or has a promotion rendered insufficient the amount of key person insurance being carried on an employee?

5. Implement, maintain and monitor a data security plan.

A business rooted in a family culture, regardless of its size or sophistication, may operate informally in certain respects. Given the close nature of family relationships at the company’s most senior levels, sometimes informality can permeate the company culture.

These quirks in culture are often harmless, but they can create significant liability when it comes to privacy. Data security breaches can have enormous repercussions in terms of cost, time and reputation—but smart policies can help mitigate that risk.

• What data must be secured? In Massachusetts, where I practice, “personal information” is defined as a person’s name plus any one of the following: Social Security number; driver’s license; or financial account or credit or debit card number. State law requires any company holding such information to maintain a written plan for its safeguarding.

Furthermore, if a Massachusetts-based business contracts with service providers outside the state, the Massachusetts data security law mandates that its contracts with those providers require the providers to comply with our state law.

Most states currently have some form of data security law in place for businesses. Your attorney can ensure that your policies satisfy the legal requirements and help you stay ahead of future regulation and avoid costly problems down the line.

Samuel Nagler is a partner at the law firm of Krokidas & Bluestein LLP ( He represents business clients in the areas of formation, business planning and business acquisitions and sales.







Copyright 2013 by Family Business Magazine. This article may not be posted online or reproduced in any form, including photocopy, without permssion from the publisher. For reprint information, contact

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As the spinning quarter struck the glass covering the wooden table in the conference room of a suburban law office, a plunking sound disturbed the somber silence reining among the lawyers and the opposing clients—a brother and sister, “Hal” and “Joan”—sitting at opposite sides of the table. That sound was followed by a tinny grinding noise made by the quarter as it rolled on its edge in a meandering fashion until it fell, tails-up, directly in front of Joan. Tails, she loses. As a result of the coin toss, she lost the final remaining dispute in her years-long corporate divorce litigation against her brother.

One heart attack, two years of trading bitter court filings, and hundreds of thousands of dollars in legal and expert fees were just some of the costs incurred by the people involved in this scene. It marked the culmination of a lifetime of Hal and Joan’s perceived persecution or ingratitude toward each other as they lived through what for years was the good fortune of growing up in a successful family business.

The legal slugfest that ended with that coin toss made Hal and Joan question who they were. By the end of the case, it changed who they were.

Hal and Joan’s parents were immigrants and some of the parents’ Old World sexism was ingrained in Hal’s DNA, but Hal had two daughters and had shed any outward chauvinism. Nevertheless, Joan’s lawyer exploited the assignment of the case to a female judge and used his skills as an advocate to paint Hal as having Taliban-like views on women. Any generosity Hal showed to his sister was painted as patronizing sexism; any wealth he neglected to share with Joan was portrayed as part of his keeping her “in her place.” Reading numerous court filings that marked him as a villain left Hal wondering who he was. That the judge appeared to credit some of the allegations made it worse.

The case was no easier on Joan. The bile stirred up by attacking her brother put such stress on her family that her husband had a heart attack. She was also subject to intrusive discovery demands into her personal business affairs. Ultimately, Joan’s lawyer had to push the case into mediation because Joan had altered documents to cover up her tax evasion, a rash and foolish act she had committed in her eagerness to hide her sins and stay on the attack against her brother. Her credibility was destroyed. I wrote and filed the court papers that destroyed it.

Both parties were tired, sick and heartbroken when the coin toss resolved the only issue that a mediator, billing at $500 per hour, could not get the parties to settle on their own. I felt no better than Hal or Joan.

Litigation’s toll

The ferocity of this case was not an anomaly. Anyone with children or siblings knows that the level of competition and perhaps bitterness can run higher among family rivals than with rivals from outside the family. Based on my experience as a trial lawyer handling these cases for nearly two decades, I feel compelled to offer some thoughts to anyone in a family business. My overarching advice is that you should not enter into family corporate divorce litigation unless you are prepared to risk coming out of the case as a different, depleted person.

The opening line in Tolstoy’s Anna Karenina is, “Happy families are all alike; every unhappy family is unhappy in its own way.” Not every family corporate litigation has the drama and intrigue of Anna Karenina, but each case inflicts its own particular brand of harm or leads family members to commit unique outrages upon each other. Even with this variety, all cases carry similar risks and have some of the same damaging characteristics that frustrate the litigants.

The biggest risk is that people in your family probably know many of your secrets—even if you did not share secrets with the family member you are fighting with—and the secrets that are particularly harmful can be used as weapons in litigation. A brother might not have told his sister about a youthful guilty plea to dealing drugs. But their mom might have shared the secret. Worse, your brother might know about the affair you had several years ago, which you ended and did not reveal to your spouse. The rules of evidence might not allow these secrets to be introduced at trial, but that will not stop an enraged litigant from disclosing the facts in pre-trial filings, all of which will likely be public documents. It is critical that those secrets, no matter how embarrassing or damaging, be revealed to your lawyer prior to engaging in this kind of litigation. That is the only way to at least start to manage the emotional toll of this kind of litigation.

Family members involved in these cases are often eager to put before the court the most scandalous and lurid allegations, but the irony is that the kinds of secrets discussed above typically have no bearing on how these cases turn out. Courts resolve family corporate divorces based upon shareholder agreements, share valuations and executive compensation expert reports. Legal documents and numbers matter. Smut does not. Not only do the rules of evidence take irrelevant scandals out of the decision-making process, but also, on a personal level, judges typically do not care about that material. Family members involved in these cases spend emotional energy and dollars channeling their anger into vengeful court filings, but those filings are just so much static to the judge. They cause only personal damage to the attacker and the attacked.

There is one kind of secret, however, that can cause legal harm and will interest the judge: tax crimes. Most citizens pay their taxes, but most everyone does so unwillingly. There may have been instances in a family business when corners were cut, expenses were mischaracterized or revenues were hidden so that taxes were unlawfully evaded. If that is a known “secret” among the family, then all family members will enter the case with the financial equivalent of a loaded gun to their heads.

Tax crimes have a particular potency within litigation for a fundamental reason. If a family member makes a well-substantiated claim that another family member has evaded taxes and that claim is made in a court submission, then judges in many jurisdictions are obligated to notify the tax authorities. Once the taxman is involved all other issues are dwarfed. The tax authorities can pressure people with credible threats of interest, penalties and possible criminal prosecution. Again, it is in a client’s best interest to reveal these secrets to the client’s lawyer at the outset of the case.

Life-changing consequences

These are just some of the typical dangers of litigating a family corporate dispute, but each case has a twist. Maybe your children will stop talking to you because you are suing their favorite aunt. Maybe your brother will serve subpoenas on your friends or the company’s top customer and damage the business and your reputation. These cases always have a corrosive effect upon a family and a business.

I still meet Hal at a local diner for lunch from time to time. He has moved on with his life, welcomed grandchildren and regularly takes vacations with his wife. He still laughs at the fact that the coin toss at the end of the case decided one of the issues his way. Outwardly, he seems fine. But his sister is still out of his life. So are her children. And every time we meet he pauses at least once, puts down his fork, shakes his head and expresses disbelief at what his decision to litigate did to him, his family and his business. Knowing what he knows now he still might have gone forward with the case, but he might have benefited from having a sense of how fundamentally this experience could alter his life.

Anyone facing this kind of litigation owes it to himself or herself to discuss with a trusted adviser what the experience will do emotionally to the family.

Eric A. Inglis is a partner in the New Jersey law firm of Schenck, Price Smith & King LLP and chairs the firm’s Commercial Litigation Practices Group (











Copyright 2013 by Family Business Magazine. This article may not be posted online or reproduced in any form, including photocopy, without permssion from the publisher. For reprint information, contact

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The Family Business Guide:
Everything You Need to Know
to Manage Your Business from
Legal Planning to Business Strategies
By Frederick D. Lipman
Palgrave Macmillan, 2010
304 pp., $65

In the family business realm, few circumstances are as heartbreaking as an intrafamily lawsuit. In his new book, Frederick Lipman, a Philadelphia-based partner in the law firm of Blank Rome, identifies potential breeding grounds for legal strife and proposes ways to prevent this tragic fate. (Full disclosure: I will be moderating a Blank Rome program featuring Lipman in October.)

In a fascinating chapter entitled “Worst Practices: What We Can Learn from Family Disasters”—identified by Lipman as potentially the most valuable—the author reviews U.S. court cases involving family businesses and analyzes how the litigation could have been avoided. In Rosenthal v. Rosenthal et al., which occurred in the Supreme Judicial Court of Maine, for example, patriarch Lewis Rosenthal gave each of his sons a 50% interest in a family business, Bo-ed Inc., which owned and operated a Holiday Inn. When a disagreement arose over policies on reinvestment and distribution of profits, “A wise tiebreaker could have found a way to separate the brothers in a fashion that would have prevented litigation,” Lipman writes.

Other chapters (some co-authored with other Blank Rome attorneys) discuss matters such as succession, family employee and shareholder agreements, compensation, phantom equity incentives, minority shareholders, intergenerational wealth transfer and initial public offerings.

Each chapter in this extensively referenced volume identifies “best practices” (example: “Family members should neither be overpaid nor underpaid. Instead, they should be paid a fair arm’s-length compensation.”) and “worst practices” (e.g., “Fail to create an atmosphere of trust within the family, particularly with respect to inactive shareholders.”). Sample legal documents—a prenuptial agreement, an irrevocable spendthrift trust document, a phantom stock agreement and a stock option plan—are provided as appendices.

Lipman suggests that conventional family business wisdom should not be adhered to in all instances. He writes, for example, that “openly discussing succession is not necessarily appropriate for every business,” such as when already strained family relationships might be worsened if the founder’s succession plans were revealed. Lipman also asserts: “The author does not believe that a family council should automatically be established for every business.… Owners should permit grievances to be aired by individual family members, but privately instead of in a room full of relatives.”

The book’s first appendix is an excerpt from a 2008 speech by Philip Clemens, chairman and CEO of Clemens Family Corp. of Hatfield, Pa., founded in 1895. Clemens offers his thoughts on sustaining a family firm and describes governance structures and policies in his company, which has more than 200 family shareholders. His real-world perspective offers an excellent parallel to Lipman’s legal analysis.

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Recently, I spoke with a family friend about how the Employee Free Choice Act (a misnomer if there ever was one) would affect family businesses. His third-generation family company manufactures metalworking products for national and international markets. Like many business owners, he is concerned about whether his business could stay competitive in a global economy if it were unionized. Often called the “Card Check Bill,” the EFCA is high on President Obama’s agenda and would provide for significant amendments to the current legislation. The bill, highly expected to be passed by Congress, would make it easier for unions to organize. Instead of a union being certified through a secret ballot election, it would be certified immediately after a majority of employees signed authorization cards.

Many business owners are concerned that the process would eliminate the campaign period, thus removing any forum for the employer to present alternatives. Even more disturbing is the second part of the bill, which provides for compulsory binding arbitration for first contracts if the parties cannot reach agreement within 120 days. This would set wages, benefits, etc. for two years, giving arbitrators enormous power. Union representation, currently at 7.5% of the private sector, is at an all-time low but could double if the bill passes. According to labor attorney Brooke Duncan III of the New Orleans office of Adams and Reese, unions will be targeting workforces that have not traditionally been unionized.

Are family businesses more vulnerable than others? Duncan says they may actually be less vulnerable because there tends to be more goodwill and a strong relationship between the family and employees. There is often open dialogue with management, enabling employees to air grievances. However, Duncan worries that eliminating the secret ballot could enable union organizers to coerce loyal employees.

David N. Michael, chair of the human resources group at Gould & Ratner LLP, agrees that family firms may be less of a target, since they tend to be more “employee-focused” and are not beholden to shareholders who are focused more on cost-cutting and less on employee relations.

What can family businesses do to prepare? Michael advises families to be proactive by establishing a human resources department or educating a manager who can keep abreast of the situation. Both Michael and Duncan advocate creating a forum for employee complaints in an effort to eliminate the incentive to unionize. And both recommend working with trade associations for collective lobbying.

As a child in the late ’60s, I recall my father going through difficult negotiations in Buffalo, N.Y., with the unions represented at his flour mill. Small, independent mills like my family’s could not afford a long strike, which gave the unions increased leverage. After 28 years his mill, like most others in the area, finally closed. Certainly pressure from the unions contributed to the demise of the milling business in Buffalo. So who was the winner? Let’s hope President Obama considers both sides of the union equation.

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Your company name. How can anyone but you and your family know what it really means? The years of toil; the late nights and weekends; the time devoted to building a dream; the blood, sweat and tears; the integrity, the ethics, the reputation built and achieved over decades, the standing in the community. It’s more than just a name; it’s your legacy. How can you protect its meaning and ensure it continues to stand for all you have built over the years?

Will the people buying your business (whom you barely know, in most cases) attach the same meaning, awe and reverence to the name that you have? Or to them is it just a marketing tool to be used to build the top-line sales?

Welcome to the dilemma facing most family businesses when it comes to selling and diversifying investments. But do not despair; there are many techniques for protecting the name of the founder and ensuring it is not sullied by a successor or acquiring entity.

Inventorying the names

Before any sale, the company should take inventory of all ways that the founder’s name—and the different variations of it—has been associated with the business. Some immigrant families may have shortened or “Americanized” the name in order to assimilate, so the founder may have been known by a variety of names. For example, maybe the last name was changed (as in the case of Ralph Lauren, in which “Lifshitz” became “Lauren”). Or perhaps the founder had a nickname or used a shortened version of his name, such as “Jerry” in lieu of “Gerald.”

The list should also indicate just how the name was used in connection with the company’s goods and services. Once you have inventoried what has been used, you can determine what is worthy of protection.

Trade names, trademarks and service marks

Some names will qualify only for trade name protection. A trade name is the name that a business trades under and is generally considered as identifying the business and its goodwill. Trade name protection is typically obtained on a state-by-state basis where the company has transacted business or intends to transact business.

Trade names are similar to trademarks but identify the company generically rather than a particular service or good. Trade names can usually be registered online for a nominal fee through your state’s corporation department, usually part of the secretary of state’s office.

If the name is directly associated with a service or good, it likely qualifies for trademark or service mark protection. Trademarks are words, names and symbols used to indicate the source of the goods and to distinguish them from those of other companies. Service marks are similar, except they are applied to services rather than goods. (Under the Lanham Act, the federal legislation governing trademarks, a trade name can be registered as a trademark/service mark only if the trade name is also used to identify goods and services in addition to its character as a trade name.)

If not already protected, the names in use and those recently used should be registered. Trade names can last forever if the goods/services continue to be sold and if the marks are properly registered and renewed over time. In general, the owner of a registration must periodically file Affidavits of Continued Use or Excusable Nonuse under 15 U.S.C. §1058, and Applications for Renewal under 15 U.S.C. §1059. (Federal registration also entitles to the registrant to other advantages beyond those addressed in this article.)

Domain name protection

In today’s electronic age, protection of the name is not complete without researching whether domain name registration is appropriate for the founder’s name and its variants.

Depending on your intentions, you may wish to preserve only the “.com” domain extension or go for as many as you can obtain: “.com,” “.net,” “.biz,” “.tv,” “.us,” etc.

Identify the concerns

Now that you have the name protected to the extent you can, your next task is to identify your concerns related to the use of the name after the sale of the company, as well as uses the family is condoning in advance. If your attorneys know what the concerns are and know the uses that are acceptable to the family, they can draft provisions that should eliminate those concerns, or exact a penalty for any violation.

These concerns may include: changes in the scope or product lines of the business; future changes in the ownership of the company; use in advertising or marketing materials; use in ways that might embarrass the founder’s family; use by unapproved persons; use by persons of an immoral character; use by the company in connection with illegal or wrongful conduct; and use in a manner inconsistent with the political, religious and social views of the founder.

A list of pre-approved uses of the name might include: use in a manner consistent with past usage; use in pre-approved formats and with pre-approved materials, such as on letterhead or business cards, on the website or in marketing materials; use only with existing products and services; use only with the present acquirer’s ownership and management; use only for a specified duration of time after closing of the sale.

The acquirer will likely want unfettered use of all the assets, including the founder’s name. The seller, on the other hand, will want to have a number of controls to prevent undesired use of the founder’s name.

Assuming an asset sale, the family may desire to hold on to ownership of certain assets, including the trade name, trademarks and service marks. This can also be accomplished in a stock transaction by transferring the intellectual property at issue to a holding company controlled by the founding family.

To the extent that the selling family allows the buyer to use the founder’s name, they can license it under whatever terms they deem desirable. For example, the selling family can limit the license to only certain pre-approved uses of the name.

Tools and solutions

There are many tools and mechanisms available to the savvy seller to protect the name and reputation of the founder. Each case is different; what is appropriate in your case will depend on the exact circumstances of your family business and the concerns of your family.

Neal A. Jacobs is managing attorney and principal at the Jacobs Law Group PC, a boutique business law firm in Philadelphia (

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Recently a client of mine, a small-town family business owner, justifiably fired an underperforming employee with a bad temper. For several months following his termination, the ex-employee repeatedly called his former employer. He sent cryptic Christmas cards to his former supervisor. Then, one cold day in February, employees arrived at work to find a Hefty bag of slashed uniforms on the doorstep with a note stating that the company could reuse them “because they were already stabbed in the back.” They were terrified. What would happen next?

Most workplace violence is perpetrated by strangers or customers. Traditionally, employers have dealt with such threats by installing better lighting and locks and eliminating excess cash. But such anti-crime measures are useless against violence perpetrated by co-workers or former employees. A differerent set of tools and way of thinking are necessary for businesses to address intracompany threats.

According to the U.S. Department of Justice, the workplace has become one of America’s most dangerous places. Each year there are almost 1,000 workplace homicides and, by some estimates, more that 2 million victims of physical workplace violence. There is a ripple effect. Workplace violence can cripple a business if negative publicity drives customers away or valued employees resign.

Small family businesses may be more prone to workplace violence than other types of companies. First, small businesses generally lack the resources of larger businesses. Security guards, alarms and cameras represent significant fixed costs.

Second, family businesses often shy away from formal job titles and managerial organization that would assign one person the responsibility for job site security. The issue is often left to be addressed “if, when and maybe.”

Finally, a family business’s close-knit culture blurs the line between family and work and can make discipline or discharge of a problem employee more difficult. In many cases the sheer smallness of a family business can create a pressure cooker because an employee in conflict with a colleague lacks avoidance options that may exist in a larger workplace.

There is good news, however. A family business has some built-in tools to help prevent workplace violence. The closeness of the workforce and the generally long tenure of employees are the building blocks of a strong communication culture. Employees know and care about each other. In such a setting, problems often can be identified early and defused. But it takes more than a caring workforce to minimize workplace violence.

There are three elements to a workplace violence prevention program:

• Prevent, which refers to pre-employment, employment and termination rules.
• Identify, which means knowing what to do on the job to prevent violence.
• Defuse, which involves knowing how to deal with a violent incident.

Develop sound policies

The foundation of any workplace violence prevention effort is to devise and implement customized policies at every stage of the employment relationship.

Pre-employment practices: Hiring procedures must be crafted in consultation with an attorney to ensure that privacy and discrimination laws are not violated. Step 1 of the procedure, screening out potential problem employees, involves using an application that requires applicants to provide information about past jobs and the reasons for leaving those jobs, requires disclosure of any past criminal convictions (you may not, however, ask about past arrests), asks whether the employee has ever been the subject of civil or criminal orders of protection, and authorizes a background check, which includes, at a minimum, checking for criminal convictions. Caveat: Employers must actually conduct that background check.

Step 2, the interview, must include questions that can undercover the “red flags” of an aggressive or potentially violent person. Use common sense to evaluate answers to questions like:

• How do you handle disagreements with your boss?
• Have you ever had a conflict with a co-worker? Whose fault was it?
• What are your pet peeves?
• How do you deal with stress?

Employment practices: Employers must have a strongly written employee violence prevention policy. Although no single policy fits every organization, there are certain components that every policy should have. The Occupational Safety and Health Administration recommends a “clear policy of zero tolerance for workplace violence, verbal and non-verbal threats and related actions.” Violators must be terminated. The policy must apply to all employees. There must be an affirmative statement that there will be no reprisals against employees who report an act or threat of violence, and a manager must be assigned responsibility for implementation and enforcement of the policy. Weapons must be forbidden in the workplace. The policy must be distributed and explained to each employee.

Termination with dignity: Violent acts are frequently tied to termination. Being fired is stressful, but stress can be minimized with professionalism, compassion and empathy. An insensitive or cruel firing will only heighten the anger the employee might already feel. Do not fire an employee on Friday at 5 p.m. That gives the employee all weekend to stew and could cause a reaction on Monday. It is better to terminate early in the day and earlier in the week, which allows time for questions and gives the employee a head start on looking for new employment or filing a claim for unemployment compensation. Offering a severance package is a good way to institutionalize compassion and empathy in the process.

The pre-employment screening and interviewing, employee violence prevention policy and termination procedures should be customized to fit the employer’s needs and concerns. Working with your company’s attorney is essential to ensure that laws are complied with and that the policies are effective.

Identify potential workplace violence situations

Prevention of employee violence involves taking actions that will minimize the likelihood of violence. Although each of the steps discussed above is important, the most important is enforcing a zero-tolerance policy for violent acts or threats. Rarely do violent events come without precursors. The employee whose threats go unpunished is more likely to follow through. More important, by vigorously enforcing a zero-tolerance policy, the company will create a safe workplace culture.

Prevention requires awareness. External causes, like an employee’s divorce or break-up, or even a string of hot days, can cause stress. Internal causes of stress, frustration or fright include demotion, termination, implementation of new rules or procedures or even a change in management. Office romances that go sour can be a flash point. Employers must be aware of “triggers” and take steps to soften their effects.

Simple steps taken early can stop violence before it occurs. Allowing (or requiring) time off to deal with a personal issue or enabling someone to vent to management about a conflict with a fellow employee may be all that is needed to ratchet down the anger and defuse the situation. If the stressor is significant enough, the employer may refer the employee to an employee assistance program or decide that paying for professional counseling for the employee is a wise investment.

Defuse violent situations

Even the most comprehensive policies and most complete identification efforts may not be enough. Employers should train employees to deal with a violent act. Employees must stay calm, never try to grab the weapon, signal a co-worker or supervisor for help, and be courteous and patient. Keep talking, but follow the instructions given by the person with the weapon. Stall for time, but do not risk harm. Each situation is unique, but by following these common-sense practices can avoid a harmful or fatal situation.

The end of the violent incident is not the end of the process. After a violent incident, employees may react to the crisis in stages: shock, disbelief and anger followed by fear, grief, confusion, helplessness, guilt, depression, or withdrawal. Employers should be aware of these stages and allow employees to deal with them. Counseling and time off are often effective and necessary steps.

Management should immediately contact the company attorney and institute appropriate legal proceedings. First, the incident must be reported to police and the employee prosecuted for the act. Such action will ensure that the offender understands the significance and consequences of his actions and will help dissuade other employees inclined to violence. More important, by taking these steps the employer will signal to the other employees that their safety is a top concern.

In addition to criminal action, employers can, with the assistance of their attorneys, institute civil proceedings against the employee. These steps include obtaining an order of protection as well as damage actions.

Help from the legal system

What happened to the uniform slasher? The local police declined to take actions against him. The company’s HR director called me, and we filed a civil complaint for an injunction to prevent the employee from taking any action to interfere with any employee of the company. The court heard the case on an emergency basis and granted the requested relief. The former employee was served with the protective order. It’s been two years and no one has heard from him since.

The lesson for family businesses is to be aware that workplace violence is a threat, to be thoughtful in crafting an appropriate policy, and to be vigilant in enforcing the policy in a legally evenhanded and effective way.

Bret Rappaport is a partner with the law firm of Hardt Stern & Kayne in Riverwoods, IIl. ( who specializes in counseling family businesses. He thanks Joan Eagle for her suggestions and assistance with this article.

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IT WAS ON A Sunday afternoon three years ago, when I stopped by the office of Electrolizing Inc., my family's $3 million business. I found Javier, our receptionist, doing his cleaning work. He had some news to tell me. It wasn't what I wanted to hear.

Two days earlier I had received the shock of my life. A female employee complained that a male co-worker had touched her breast. Now Javier was telling me there was more...much more. He'd seen it. That's when I knew I was in for the long haul.

I made three phone calls. The first to my therapist; the second to my acupuncturist; the third to my lawyer. As CEO, I knew I would need a lot of support to get through this.

After nearly 50 years in South Central Los Angeles, Electrolizing had become the leader in the "thin dense chrome" and "hard chrome for grind" segments of the chrome plating industry. We prided ourselves on responsible work. My attorney informed me I had another responsibility: I was accountable for all the actions of my employees, whether I was aware of them or not. After a thorough legal investigation of all employees implicated in the alleged incident, it was determined that the harasser had indeed committed the acts claimed — against one female and one male secretary — and that they were due cause for termination.

I held a meeting with the harasser, the harassed, and the witnesses to announce the results of the investigation. The two secretaries agreed that if the harasser apologized and sought psychological counseling, they'd try to continue to work with him. The harasser flatly refused and said he'd see me in court. He was eventually terminated.

I then arranged counseling for the two secretaries to help them get through their difficult experience. Regardless, the woman decided to sue the company after her husband convinced her she should. At this point the harasser had already filed suit for unlawful termination; age, sex, and racial discrimination; and defamation of character. The woman sued the company for sexual harassment, and age, sex, and racial discrimination. Both sought six-figure sums.

After nearly two years of negotiating, 1 settled the two civil lawsuits against my family's business, which altogether cost the company a six-figure sum. Worse yet, I had to pay my attorney's fees which amounted to significantly more than the settlement.

I settled the cases because my attorney informed me that if we went to trial, I would pay all the court costs plus legal fees of everyone involved, regardless of the outcome, Even if I had proved that Electrolizing was not responsible for the harassment, and that the termination was justified, I would have had to pay not only my own legal fees but those of the plaintiffs. Both of them. The judge presiding over the settlement hearing said he had never before heard a case in which the alleged sexual harasser and the harassed both sued the employer.

This is an outrage. Both lawsuits, and the legal system's foisting of all costs onto the company involved, are based on a single concept: the "deep pockets" theory. It holds that employers have either the money or the insurance to cover the outcome of lawsuits or settlements, so why not just make them pay?

The fact is, employers should not be held responsible for every single action of their employees. And employers, when found innocent of charges such as sexual harassment, should not be liable for the legal costs of everyone involved. Attorney's fees should be handled as they are in all other forms of litigation, where the loser pays the costs — at least his own. Fair is fair. Is that too much to ask?

Our legal system is long overdue for a significant overhaul. It is out of control. During a recent television talk show, three female victims shared their stories, and revealed the size of their court awards: a woman who was on the job for 30 days and sued for verbal sexual harassment; a woman who was diagnosed as terminally ill for two years until she discovered the doctors were wrong; and a woman who was told she had breast cancer and had a breast removed, only to find her doctors had made a mistake too.

Guess which woman received the largest cash award? The woman who claimed she was verbally harassed.

Something is terribly wrong. Attorneys and judges don't realize how big a threat the system is to small companies. A frivolous suit or an off-the-cuff judgment can put a company out of business — fast.

No business owner should have to go through the heartache I did for two years. I have learned a great deal from the chaos I endured, and I want to share the lessons with other family business owners. The following precautions could help prevent a lawsuit based on sexual harassment:


  • Discuss the hazards in advance with an attorney and determine how best to protect your company.


  • Attend seminars on sexual harassment, wrongful termination, employee rights. Put what you learn into action.


  • Hire consultants such as human resource experts to ensure you've protected yourself and your business.


  • Provide mandatory training in these matters for your employees.


  • Explain in your company manual the proper steps an employee should take in the event of an infraction.

Unfortunately, these steps and others won't change the legal system in any way. That will only come if business owners work together to apply pressure to change the system. We must rally and form one large vocal constituency.

In the interim, it can't hurt to have a therapist on hand!


Susan Grant is president and CEO of Electrolizing Inc.


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Placing the family business or estate in trust is often an essential element in estate planning.However, in recent years, the specter of personal environmental liability has been a black cloudhanging over certain trustees.

In the recent case of Phoenix v. Garbage Services Co., the U.S. District Court of Arizona heldthat a bank which was serving as executor of an estate was liable, as “owner,” for contaminationcaused by a landfill held by the estate. This case has heightened concern about environmentalliability for trustees—whether organizations or individuals—and might deter potential trustees fromserving if real estate is involved.

In response, many state legislatures, as well as the U.S. Con-gress, are considering statutes designedto clarify that trustees are not generally personally liable for the environmental contamination ofproperty held in trust. The Commonwealth of Pennsylvania is at the forefront of this trend; itrecently enacted a statute which dramatically reduces a trustee's exposure.

The Pennsylvania statute may serve as a model for legislation in other states, and family businessowners nationwide should understand how the statute may (or may not) provide protection. In themeantime, they should also understand the effect the current law in their jurisdiction might have onpotential trust plans.

Generally, a business owner will be held responsible for the cost of cleaning up contamination on hisproperty. A multitude of federal, state, and local laws and regulations govern the cost allocation.The principal federal statute is the Comprehensive Environmental Response, Compensation, and LiabilityAct of 1980 (CERCLA). Many of these measures impose “strict liability” on present and prior owners ofenvironmentally contaminated property. In other words, liability is imposed on property ownersregardless of fault. In addition, liability is “joint and several”—any one owner can be held liablefor the entire cost of cleaning up a property.

When a trust holds contaminated real estate, it is generally clear that all the trust assets areavailable to fund the costs of cleanup. However, it has been suggested that a trustee's personalassets (or the corporation's assets, in the case of a bank trustee) should also be available. This isbecause the trustee is technically the legal owner of trust property.

In the Garbage Services case, the court found that, under CERCLA, any titleholder is an owner;therefore, a trustee, as a titleholder, is personally liable. Although imposing liability on a trusteemay appear unfair, the court said that “a defendant's degree of culpability has nothing to do withowner/operator liability under CERCLA.”


Some Protection Offered

On May 19, 1995, the Governor of Pennsylvania signed into law a new statute which purports to limitdramatically the personal liability of fiduciaries for environmental cleanup costs. The statutecontains two important limitations. First, it limits the circumstances under which a trustee may beheld personally liable. Second, in the event that the trustee is personally liable, it limits theextent of liability.

A trustee will be liable only if he was actively providing trustee services at the time thecontamination occurred, had the power to control the site or the cause of the contamination, andcaused the contamination by gross negligence or willful misconduct according to the law or standardpractices at the time.

Under these rules, a trustee's liability is limited to the cleanup cost for contamination directlyattributable to the trustee's activities. If contamination occurred prior to his activities, orcommences before and continues after, the trustee will be personally liable only for cleanup costsdirectly attributable to his exacerbating the contamination.

As a result, the “strict liability” rules are discarded. Furthermore, the “joint and several” natureof the liability is abandoned in favor of liability linked only to the trustee's actions.

By its terms, the statute protects trustees from other laws or regulations that would impose liabilityfor the costs of environmental remediation. Thus, the statute even purports to preempt federalliability imposed by CERCLA. (This portion of the statute will likely be challenged asunconstitutional.)


Estate Plan Possibilities

Despite the potential constitutional problem, the new law presents several planning opportunities tolimit a family's liability. Trusts could actually be used to isolate contaminated properties, therebysheltering other businesses or family assets. For example, a family that owns a retail store on MainStreet and a junkyard on the edge of town would not want to expose its equity in the store to a claimon the junkyard. The family could therefore set up a trust, the sole asset of which is the junkyard;only the trust assets could be attached for cleanup, and the trustee would be shielded from personalliability. Of course, owners should consult with counsel to determine whether the new law presentsthem with an opportunity to reduce liability.

The limitations of the Pennsylvania statute should also be understood. Under a technical reading, thedefinition of “trustee” may include only persons “acting for the benefit of someone else.” If thisliteral interpretation were accepted, a trustee who is also a beneficiary of the trust would not beprotected from liability.


Alternative proposals

In 1995, bills were proposed in the U.S. Senate and House to limit the personal liability of trustees.Although the bills are similar, their approach is entirely different from that of the Pennsylvaniastatute.

In particular, the bills do not limit the circumstances under which a trustee can be held personallyliable. Instead, the trustee can be held liable only to the extent that trust assets are available toreimburse him. This has the effect of permitting a trustee to be sued in a personal capacity. If thesuit is successful, the trustee would then have to seek reimbursement from the trust.

Whether or not the trustee is successful would, in most cases, depend on local trust law. Assumingthat the trustee was acting within his authority, and assuming he did not breach his fiduciary duty,he would generally be able to recover from the trust. Clearly this does not provide as much protectionas Pennsylvania's blanket release. However, the protections are far better than the existinguncertainty.

At least five other states have some form of protection. Some statutes exempt trustees from the strictliability rules applicable to owners and operators of contaminated property. Legislators in at leastseven other states have also introduced bills. While each has unique features, they tend to follow thePennsylvania rule of limiting liability to instances where the trustee is “at fault.”

Environmental liability can surface from surprising sources —former property owners, tenants,suppliers, even passers-by. Owners should assess their potential for liability—and their potential tolimit it.


David R. Glyn is a partner and Stephen D. Galowitz an associate of Wolf, Block, Schorrand Solis-Cohen, a law firm in Philadelphia. They specialize in estate planning for familybusinesses.

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