Senate Bill S7228A

                                BILL NUMBER:S7228A

TITLE OF BILL:
An act
to amend the estates, powers and trusts law, in relation to the payment
of
interest on delayed legacies; and to repeal paragraphs (d) and (e) of
section 11-1.5 of
the estates, powers and trusts
law
and subdivision 7 of section 2102 of the surrogate's court procedure act
relating thereto

PURPOSE OF BILL:
The purpose of the bill is to change the law regarding the payment of
interest on a delayed pecuniary legacy. In addition, this bill
proposes to change the interest rate paid on legacies from the
statutory rate of six percent, to an interest rate based on the
Federal Funds Rate. This way, the beneficiary is compensated
according to the time value of money for the delay in payment of
their legacy.

JUSTIFICATION:
EPTL 11-1.5 currently provides that interest is not payable unless a
demand is made upon the fiduciary prior to commencing a proceeding in
Surrogate's Court to compel payment of the legacy. The current
              

statute fixes interest at 6% starting seven months from the time that
letters testamentary, including preliminary letters testamentary, are
granted and permits the Court to award interest at the legal or
judgment rate set forth in the CPLR if the delay in paying legacies
was unreasonable.

1. 6% Interest Rate Is Unreasonable

Although the testator or settlor of a trust may specify a desired rate
of interest, the statutory default rate merely should reflect the
time value of money where the delay is not unreasonable and the
interest is paid by the estate or trust. Paying interest at too high
a rate is unfair to the residuary beneficiaries whose share of the
estate is diminished. Likewise, paying interest at too low a rate
unfairly enriches the residuary beneficiaries at the expense of the
legatee who is not compensated for the delay in payment.

The current statutory fixed rate of 6% is far too high based on
current market interest rates and imposes a significant economic
burden on the residuary beneficiaries. However, the rate may be
deemed to be too low in a different economic environment. Surrogate
Roth identified this problem in Matter of Schwarz, 161 Misc. 2d 471,
476 (Sur. Ct., N.Y. Cty. 1994) characterizing "any fixed numerical
rate as insufficiently flexible to be fair over time." Similarly, the
legislative history surrounding the increase in the interest rate
from 3% to 6% during high-interest rate economic environment
identifies the problem of undue hardship on beneficiaries when the
rate is too low or too high, " '[T]he three percent rate is clearly
too low for the present time, when interest rates of nearly ten
percent are not uncommon... The proposed figure of six percent in the


case of a reasonable delay in payment of a legacy is appropriate
because that amount is a minimum reasonable rate of return for estate
assets prudently invested... the proposed changes are intended to
encourage prompt payment of outright pecuniary dispositions and to
prevent the imposition of undue hardship on beneficiaries of such
dispositions.' " (Id, at 47576), Yet, the current rate
of 6% just does that: it imposes undue hardship on residuary
beneficiaries because estate investments are not earning anywhere
near 6%.

In situations where the Court finds the fiduciary's conduct
unreasonable, the Surrogate should retain the power to surcharge the
fiduciary (as this bill allows), at an appropriate penalty rate.
Penalty interest should be paid by
the errant fiduciary and not the estate or trust, as there is no
justification in these situations to impose an economic burden on
residuary beneficiaries; yet, the current statute allows for just that.

2. Current Law Is Unclear

The current statutory scheme is not optimal from the viewpoint of the
fiduciary, the legatee and the residuary beneficiary. In fact, the
current statute seems to encourage disputes and unnecessary litigation.
The courts have added greatly to the uncertainty of how the statute
applies when there is a delay in the payment of a legacy. Some courts
have allowed payment of interest even when a legatee did not bring a
proceeding for payment of interest (Matter of Schwartz, 614 N,Y.S.2d
668 (Sur. Ct., N.Y. Cty. 1994); Matter of Park-Montgomery, NYLJ,
5/19/1997 (Sur. Ct., Nassau Cty.)). Some courts require a legatee to
make a demand upon fiduciary for the payment of interest prior to
bringing a proceeding for payment of interest (Matter of Erlich,
NYLJ, 7/6/2001 (Sur. Ct., Kings Cty.)), while other courts say that
the demand is not necessary (Matter of Fisher, NYLJ, 1/21/2003 (Sur.
Ct., Westchester Cty.); Matter of Kasenetz, 196 Misc. 2d 318 (Sur.
Ct., Nassau Cty. 2003)). Adding to the uncertainty, some courts hold
that interest may be awarded (Matter of Park-Montgomery, NYLJ,
5/19/1997 (Sur. Ct., Nassau Cty.)), while other courts deem it
mandatory (Matter of Lancaster, NYLJ, 12/27/1996 (Sur. Ct., Suffolk
Cty.)). The cases also disagree whether the residuary beneficiaries
(Matter of Goodman, NYLJ, 5/19/2000 (Sur. Ct., N.Y. Cty.)) or
fiduciary (Matter of Bozzi, NYLJ, 3/31/1999 (Sur. Ct., Nassau Cty.))
pay the cost of interest to the legatee.

The core issue is not which cases were correctly decided. Rather, the
fact that the existing law is not clear is itself the crux of the
problem, a point addressed by Surrogate Roth in Matter of Schwarz.

The existing statute leaves all parties uncertain as to what is
appropriate regarding payment of interest. For example, fiduciaries
pay interest on a legacy at their peril in the absence of a judicial
proceeding. As a practical matter, only legatees of larger cash
bequests will institute a judicial proceeding to compel payment of
interest. Most fiduciaries wish to satisfy cash legacies as soon a
practicable. When legacies cannot be paid promptly, many fiduciaries
pay interest because they believe it is the proper course,
irrespective of the vagaries of the existing statute. Moreover, since
most estate accountings are settled non-judicially, requiring a


judicial proceeding for the Surrogate's Court to authorize payment of
interest seems wasteful. However, the existing statute seems to
indicate that a residuary beneficiary has a valid claim against the
fiduciary if interest was paid without judicial authorization.

Thus, the existing law often puts the residuary beneficiary in a
quandary in that this beneficiary may feel that payment of interest
in the absence of Court authorization is an impermissible benefit to
the cash legatee. In situations where the residuary beneficiary is an
institution, its governing body may be placed in an awkward position
vis-a-vis its shareholders, members or other constituents. When the
residuary beneficiary is a charitable organization, the Attorney
General's presence as an interested party further complicates matters.

In short, the existing New York law requires each leg of the triangle
- the fiduciary, the legatee, and the residuary beneficiary - to
safeguard his or her interests which may result in expensive legal
proceedings. In the majority of situations where judicial proceedings
do not take place, there is a lack of uniformity of practice and
outcome. This is not desirable and therefore, the statute should be
revised to provide predictability.

3. Accrual of Right to Interest

Unless the governing instrument provides otherwise, interest should be
paid starting seven months from the date of issuance of either
preliminary or permanent letters, or if letters are not required,
seven months from the date
of death or other date a beneficiary is entitled to receive a legacy.
The legatee should not be required to make a formal demand or
institute a judicial proceeding. It is unfair to require a legatee to
institute a judicial proceeding in order to collect interest on a
delayed payment of a legacy. If the law requires a judicial
proceeding, then, as a practical matter, only the legatees who are
the most aggrieved will institute a proceeding and collect interest.
Most likely, larger sums will be involved. If interest can only be
awarded at the discretion of the Court, then most legatees will never
receive interest because someone must institute a proceeding in order
to get the Court involved. In New York, many estates - large or
small, upstate or downstate - have no Court involvement following the
probate of the will.

The payment of interest on a delayed payment of legacy should apply to
all estates, including illiquid estates. An executor has a duty to
make the estate assets productive, and the prior underproductive
property rule has been replaced by the flexible power to adjust. In
certain situations, the residuary estate may be illiquid causing
difficulty in paying debts, taxes, administration expenses and
legacies. Many of these cases are the result of faulty estate
planning or poor drafting, and interest on delayed payment of a
legacy is not the focal issue. The cash shortfall for payment of the
legacy itself is the central issue here, and not payment of interest
on that legacy - which is only a small fraction of the legacy.
Furthermore, requiring a judicial proceeding in this situation seems
counterproductive, as the legal fees incurred will exacerbate the
liquidity problem.


In other situations, there may be a probate contest or other
litigation preventing a bequest from promptly being paid. Unless the
testator provides otherwise, interest should run with the legacy,
even in cases where the legatee filed objections to the will, thereby
causing the delay. In the absence of language in the will akin to an
in terrorem clause, there is no reason why such a legatee should not
receive interest - which is nothing more than compensation for the
time value of money. It is not a windfall as the residuary estate is
earning income on its assets, or should be. If a proceeding is
pending in Surrogate's Court, be it a will contest or a judicial
accounting, the Court always has discretion to disallow interest or
surcharge a fiduciary.

The bill does not intend to change existing law with respect to the
right of election by a surviving spouse (In re Kasenetz, 196 Misc.2d
318 (Sur. Ct. Nassau Cty. 2003)) and does not affect the Court's
right to surcharge the fiduciary in abusive cases, thereby preserving
useful judicial oversight. However, the right to surcharge is not a
part of this bill since additional specific statutory language is not
required for a surcharge action.

4. Applicable Interest Rate

The interest rate on delayed legacies should not be permanently fixed
by statute, but should fluctuate depending on current economic
conditions. This is critical to the fairness of this proposed
statutory reform. There is no one correct interest rate to use as a
reference. Therefore, this proposal requires the interest rate be set
(or reset) on the first business day of each calendar year and fixed
for that calendar year at the Federal funds rate less 1%, but in no
event less than 1/2 of 1%.

As of January 27, 2011 the Federal funds rate (.25%) less 1% was a
negative number, so the bill would fix the interest rate at 1/2 of 1%.
Three month risk-free treasury bills yielded .14%, and money market
funds yielded a negligible amount. By having the rate reset once each
year, fiduciaries can easily comply with the statute and do the
necessary computation. It should not be necessary to engage an
accountant or other professional to
compute the interest. Moreover, the legatee will receive a competitive
interest rate based on current economic conditions in light with what
the estate should be earning. There will be no need for the
Surrogate's Court to compute or verify interest, absent formal
objections to the computation within an accounting or other proceeding.

Example:
The testator died on April 15, 2009. His will provides for a
$100,000 cash legacy to A. The executor was appointed on June 16,
2009 and 7 months from the issuance of letters is on January 16,
2010. The legacy was paid on March 14, 2012, with income calculated
pursuant to the proposed statutory scheme. The
target Federal funds rate on the first business day of each applicable
year was as follows:

o January 4, 2010 - .25% (thus .5% rate applies);
o January 3, 2011 - .25% (thus .5% rate applies); and
o January 3, 2012 - .25% (thus .5% rate applies).


The executor would compute the income due A as follows:

As to 2010: $100,000 x .005 / (349/365) = $478
As to 2011: $100,000 x .005 / 365$ = $500
As to 2012: $100,000 x .005 / (74/366) = $101

Thus, A would be entitled to a payment of $101,079.

5. Deductibility of Interest for Estate Income Tax Purposes

Under  current income tax law, the legatee must report the interest as
interest income on Schedule B (Form 10991NT issued by the estate), but
the estate cannot deduct the interest as an expense due to limitations
on deductions for personal interest. Therefore, the current  New  York
statutory  scheme  is not tax efficient. In order to be tax efficient,
the  interest  paid  on  delayed  payment  of  a  legacy   should   be
characterized  under the New York Principal and Income Act (EPTL 11-A)
as  accounting  income,  so  that  its  payment  will  carry  out  the
distributable  net income ("DNI") in the same manner that the share of
income due a pecuniary legacy in trust carries out DNI.

LEGISLATIVE HISTORY:
New bill, 2012.

FISCAL IMPLICATIONS FOR STATE AND LOCAL GOVERNMENTS:
None.

EFFECTIVE DATE:
This act shall take effect sixty days after having become  a  law  and
shall apply only to the estates of decedents who shall have died on or
after such effective date.