Can I Borrow Against Assets During Litigation

Emily just received a demand letter from her brother, contesting her mother’s trust. Mom passed six months ago, and Emily, as trustee, is now facing a potential lawsuit claiming undue influence. Emily needs funds to hire experienced trust litigation counsel – a significant expense – but her liquid assets are tied up in the trust itself. She’s asked if she can take out a loan secured by trust property while the litigation is ongoing. The answer, unfortunately, is rarely simple, and often depends on the specific asset, the type of litigation, and the terms of the trust itself. A misstep here could easily cost her tens of thousands of dollars in legal fees, or worse, jeopardize the trust’s assets entirely.

What Assets Are Typically Subject to Litigation?

The most common assets challenged in trust disputes are real estate, brokerage accounts, and closely held business interests. Litigation often centers on whether the transfer of these assets into the trust was valid, or whether the trustee has breached their fiduciary duties in managing them. This means a court might ultimately order the assets to be sold, returned to the estate, or subject to surcharge – potentially leaving a lender with nothing if a loan is taken out against them mid-dispute.

Can a Trustee Borrow Against Trust Assets During a Lawsuit?

Generally, a trustee needs court approval before incurring debt against trust assets, particularly when litigation is pending. This is because the trustee has a duty to preserve the trust estate, and taking on debt introduces risk. The court will assess whether the borrowing is in the best interest of the beneficiaries and whether it’s reasonably necessary. Think of it like this: a judge won’t allow you to gamble with funds that are in dispute.

However, there are exceptions. A trustee might be able to borrow against assets if the loan is used to defend the trust against the litigation itself. For instance, if Emily can demonstrate that the loan proceeds will directly pay for legal fees to vigorously defend against her brother’s claim, a court is more likely to approve it. But even then, the loan amount will likely be limited to the documented and reasonably anticipated legal expenses.

What About Assets Not Directly Involved in the Litigation?

It’s tempting to think that if an asset isn’t directly the subject of the lawsuit, borrowing against it is a safe bet. Not so fast. Courts often take a broad view of their authority to protect the entire trust estate. Even if a specific asset isn’t named in the lawsuit, a judge might still scrutinize any borrowing activity if they believe it could deplete the trust’s resources and disadvantage the beneficiaries.

What If the Trust Document Prohibits Borrowing?

Many trusts contain specific language prohibiting the trustee from incurring debt or borrowing against trust assets. These provisions are generally enforceable, and a trustee who violates them could be held personally liable for any losses. Emily must carefully review the trust document for any such restrictions.

What is the Impact of a Petition for Succession vs. a Heggstad Petition?

If the litigation involves real property that isn’t titled in the trust, the path to accessing funds can vary significantly, particularly for deaths occurring on or after April 1, 2025. Prior to that date, a Heggstad Petition was the traditional method for clearing title and addressing disputes over assets held outside the trust. However, AB 2016 introduces a new option: a ‘Petition for Succession’ under Probate Code § 13151 for homes valued up to $750,000. This process can be faster and less expensive than a full Heggstad trial, potentially allowing Emily to access equity to fund her defense more quickly. It is crucial to understand this distinction, and I advise my clients that a “Petition” is a Judge’s Order, not an Affidavit.

How Does Undue Influence Play a Role?

If the lawsuit alleges undue influence, particularly involving a caregiver, the situation becomes even more complex. Probate Code § 21380 creates a presumption of fraud if a care custodian is named as a beneficiary in a trust amendment drafted during their service. This means the burden of proof shifts, and any financial transactions during that period – including loans – will be subject to intense scrutiny. Digital evidence, like texts and emails, can be critical in these cases. Without specific RUFADAA authority (Probate Code § 870), it may be legally impossible to obtain these crucial records.

Why a CPA-Attorney is Crucial in These Situations

After 35+ years as both an Estate Planning Attorney and a Certified Public Accountant, I’ve seen firsthand how easily things can go wrong when navigating trust litigation. The interplay between legal and tax issues is often overlooked. For example, borrowing against assets can have significant capital gains implications. Understanding the potential step-up in basis at death is critical, as is accurately valuing the assets to minimize tax liability. A CPA’s expertise, combined with legal counsel, can ensure that Emily not only defends the trust effectively but also minimizes the financial burden on the beneficiaries.

Furthermore, if Emily faces a claim of trustee mismanagement, she could be exposed to a surcharge under Probate Code § 16420, requiring her to personally repay misappropriated funds. A proactive approach, guided by both legal and financial expertise, is the best defense.

• Trust Document Review: Carefully examine the trust agreement for any restrictions on borrowing or incurring debt.
• Court Approval: Seek court approval before taking out any loan against trust assets, especially during litigation.
• Purpose of the Loan: Demonstrate that the loan proceeds will be used to directly benefit the trust, such as paying for legal fees.
• Asset Valuation: Obtain an accurate valuation of the assets being used as collateral.
• Tax Implications: Consider the potential tax consequences of borrowing, including capital gains and income tax.
• RUFADAA Compliance: Ensure all digital evidence requests comply with RUFADAA requirements.

What separates a successful California trust distribution from a costly battle over interpretation and accounting?

California trusts are designed to bypass probate and maintain privacy, yet they often fail when assets are not properly funded, trustee duties are ignored, or ambiguous terms trigger disputes. Even with a signed trust document, families can face court battles if the “operations manual” of the trust isn’t followed strictly under the Probate Code.

• Safety: Review asset privacy options.
• Detail: Check testamentary trusts.
• Wealth: Manage long-term trust assets.

A stable trust administration relies on the trustee’s ability to balance investment duties, beneficiary communication, and tax compliance. When these elements are managed proactively, families can avoid the emotional and financial drain of litigation.

Verified Authority on California Trust Litigation & Disputes

• The 120-Day Rule (Probate Code § 16061.7): California Probate Code § 16061.7 (Trust Notification)
  The most critical statute in trust litigation. It establishes the 120-day deadline for contesting a trust after the notification is mailed. Missing this deadline usually ends the case before it starts.
• Caregiver Presumption (Probate Code § 21380): California Probate Code § 21380 (Care Custodian Presumption)
  This statute protects seniors by presuming that gifts to care custodians are the result of fraud or undue influence. It is the primary weapon used to overturn “deathbed amendments” that favor a caregiver over family.
• No-Contest Clauses (Probate Code § 21311): California Probate Code § 21311 (Enforcement Limits)
  Defines the strict limits on enforcing penalty clauses. It explains that a beneficiary can only be disinherited for suing if they lacked “probable cause” to bring the lawsuit.
• Petition for Instructions (Probate Code § 17200): California Probate Code § 17200 (Internal Affairs)
  The “gateway” statute for most trust litigation. It allows a trustee or beneficiary to petition the court for instructions regarding the internal affairs of the trust, from interpreting terms to removing a trustee.
• Asset Recovery “Backup” (AB 2016): California Probate Code § 13151 (Petition for Succession)
  Effective April 1, 2025, this statute provides a streamlined path (Judge’s Order) to resolve disputes over ownership of a primary residence valued up to $750,000, often avoiding costly Heggstad litigation.
• Digital Discovery (RUFADAA): California Probate Code § 870 (RUFADAA)
  Essential for modern litigation. This act governs who can access a decedent’s digital communications—often the “smoking gun” evidence in undue influence or capacity trials.