Case Closed

Robert C. Port

EVERYTHING I KNOW about managing money I learned in court. As part of my legal practice, I represent people involved in disputes over money or property. These can include claims against financial advisors for alleged misconduct, contested wills and trust disputes, and family members at odds over a family business.

These disputes can teach us important personal finance lessons. Here are four lessons—learned the hard way—from four cases my firm handled. All are based on an actual case, though names and details are changed to protect the litigants’ privacy.

Case No. 1: Life insurance goes to the ex-spouse. Jane and John’s divorce was bitter. Even after their divorce was final, Jane had to go back to court asking that John be held in contempt for failing to pay child support. Imagine, then, Jane’s surprise when 15 years later she received a letter from a life insurance company expressing its condolences on John’s death—and enclosing the forms necessary to claim his $1 million policy.

Jane was listed as the beneficiary of John’s life insurance policy, which the insurance company was obligated to follow under state law. John’s widow promptly sued to try to prevent Jane from getting the payment. Still, the court awarded the $1 million policy proceeds to Jane, along with a small bank account, for which Jane was also listed as a joint owner at John’s death.

Lesson learned: If you’re contemplating divorce, identify all financial assets which have a survivorship or beneficiary designation. These can include life insurance, and bank, brokerage, and retirement accounts. Discuss with your divorce attorney how they should be addressed.

In some states, a divorce automatically prevents an ex-spouse from being the beneficiary of a life insurance policy or receiving the financial accounts of an ex-spouse. In others states, however, the divorce decree must specifically disclaim all future rights. If it doesn’t, the law treats written beneficiary directives that are in effect at death as the deceased’s final wishes for where assets should go—even if it’s to the ex-spouse.

Case No. 2: A widow is sold unsuitable annuities and life insurance. Robert, a very successful businessman, was married to Rachel, a stay-at-home mom. They had three children under age 10. Sadly, Robert died in an auto accident.

Robert left Rachel substantial assets: a home worth more than $1.5 million, life insurance proceeds of $5 million, and stocks worth more than $2 million. Rachel was devastated and sought the help of a friend, Charles, an insurance agent.

Charles quickly got to work to protect Rachel and her children’s future, or so she thought. Within eight months, substantially all of the stocks had been sold and the proceeds placed in 10 different variable index annuities, some with surrender charges lasting as long as 10 years. Charles also sold Rachel whole-life insurance with a total death benefit of over $8 million—and premiums of almost $135,000 annually.

To pay the premiums, Charles sold Rachel a couple of single premium immediate annuities. The premiums on these totaled $1.5 million, and they generated an annual income of $175,000.

After a few years, Rachel had difficulty paying her bills because the initial premiums for the annuities and annual life insurance Charles sold her consumed most of her liquid assets. Charles, on the other hand, profited handsomely from this “financial plan.” He received more than $550,000 in commissions on the annuity sales alone. He earned another $175,000 in commissions on the whole-life insurance sales. He also charged a 3% annual fee on the total value of the annuities and insurance policies that he “managed” for Rachel. In the first three years after Robert’s death, Charles pocketed almost $1.5 million in commissions and fees.

Fortunately, Rachel consulted a registered investment advisor who put her finances on a less costly and stable path by slowly unwinding her annuity purchases. Sadly, as part of the new plan, Rachel had to sell the home in which the children had grown up.

Rachel sued Charles, who settled before trial for a substantial amount. As is often the case, Charles had spent most of his commissions and fees, and so will be paying Rachel back for decades. Even so, Rachel will never be as well off as she could have been but for Charles’s misconduct.

Lesson learned: People who come into a substantial sum are often the target of unscrupulous brokers, financial advisors, and insurance agents. They’re often sold insurance products with large initial premiums or risky investments requiring a big initial payment.

It’s wise for those with newfound wealth to take their time and evaluate a variety of options. They should also make sure that any advisor has the skill and knowledge needed to give competent advice. If you consult with an insurance agent about investing, you’re almost certain to be sold insurance products—whether they’re suitable or not.

After litigating these cases for more than 30 years, my preference is to seek advice from a registered investment advisor. By law, an RIA is required to act as a fiduciary, providing advice that’s solely in a client’s best interests, and not influenced by the size of the fees or commissions the advisor might earn.

Case No. 3: A brother and sister fall out over the family business. Hobart started a small manufacturing business in the 1940s. By 2015, it had grown into a multi-million-dollar company. Henry and Harriet were Hobart’s only children, and each had grown up working in the business. Henry was groomed to be the president, while Harriett’s role was mostly part-time, doing various administrative and bookkeeping tasks while she also raised two children.

When Hobart died, he left the business in equal 50-50 shares to Henry and Harriet. One day, when Harriet came to work, her keys to the office didn’t work. There was a sign on the door that she had been terminated and would be charged with trespassing if she didn’t leave the property.

Henry not only terminated Harriet’s salary, but also refused to distribute to Harriet her 50% share of company profits. He claimed that all profits needed to be retained for upcoming company expenses.

Harriet sued Henry, asking the court to appoint a receiver to take over the company, sell it, and distribute the net proceeds equally to her and Henry. This nuclear option was extremely distasteful to Harriet, as she did not want to harm the business her father had spent years building.

She had no choice, however, because Henry had wrongly kicked her out of the business and was not distributing her share of the profits. Before trial, Henry and Harriet reached a settlement under which Henry bought Harriet’s interest in the company and he became its sole owner.

Lesson learned: When a business is left in equal shares to a founder’s children, resentment can arise over control, especially when they have different levels of responsibility. As equal owners, though, each sibling is entitled to an equal share of the profits, just as those who own Coca-Cola stock are entitled to a dividend, even though they don’t work for Coca-Cola.

Henry and Harriet’s dispute was further complicated because there were no corporate governance documents. Written by-laws, shareholders’ agreements, and operating agreements can help resolve disputes between owners. For example, a shareholders’ agreement could have provided the procedure and formula to follow when shareholders need or desire to exit the business.

Family business owners can ask an experienced corporate attorney to prepare documents to avoid the type of costly litigation that eventually separated Henry and Harriet. Well-drafted corporate documents, for example, might have provided for a third-party tie-breaker vote if there was a 50-50 deadlock between Harriet and Henry that could threaten the company’s continuing existence if it was left unresolved.

Case No. 4: Do-it-yourself legal documents can fail. Mary and Moses were each divorced, and each had children from their prior marriage. Before they married, they wisely thought a prenuptial agreement was in order. Unwisely, they found one on the internet, printed it out, filled in a few blanks and signed it. They were married a few weeks later.

About a year later, Moses died unexpectedly. At his death, his sons from his prior marriage were listed as the beneficiaries of his substantial 401(k) account, as well as several other financial assets worth more than $2 million. The prenup stated that Moses and Mary would each name the other as beneficiaries of all such accounts, so Mary believed that she was entitled to that money.

The prenup was unenforceable, however, because it didn’t have the required number of witness signatures according to their state’s law. Because the prenup was unenforceable, Mary could not claim that Moses’s estate was required to pay her, from other assets, the amount she would have received if Moses had named her beneficiary. All the accounts that Mary thought were to be hers after Moses’ passing went to his sons, with whom she already had a tense relationship.

Mary and the stepsons resolved their dispute in a confidential settlement, under which Mary received some of the money that would have come to her under a properly drafted and executed prenup.

Lesson learned: Hiring an attorney can be expensive. But many times, the cost of untangling the mess that lay people create by playing lawyer is many times more costly. In this case, an unenforceable prenup drastically changed Mary’s expectation of the money she would have as Moses’s widow.

A client gave me a coffee mug that says, “Don’t Confuse Your Google Search With My Law Degree.” Important financial and business documents should be drawn up by a competent attorney.

For example, wills that don’t meet legal formalities might mean that the folks involved are treated as if they died without a will, and their assets will be distributed as directed by state law, which may not be as they had desired. A do-it-yourself business document, such as a shareholders’ agreement, a buy-sell agreement, a partnership agreement or an employment contract, might be ambiguous or omit common terms and conditions that can lead to a result very different than what the parties intended.

Poorly drafted documents like these can be so ambiguous that expensive litigation is necessary to sort out what was intended. Or they may have defects that prevent their enforcement. Attorneys often say “pay me now or pay me much more later.”

Robert C. Port is a partner with the Atlanta law firm of Gaslowitz Frankel LLC. He is fascinated with understanding how people deal with and manage money, especially the emerging field of behavioral finance. When not in a courtroom or before an arbitration panel, he prefers to be cycling, skiing, hiking, or swimming. Check out Robert’s previous articles.

This article is for informational purposes only, and should not be relied upon as—and does not constitute—legal advice. You should not act upon any information in this article without first seeking legal counsel from someone licensed to deliver advice in the relevant jurisdiction, and who understands your particular facts and circumstances.

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