Matter of Baugher

[*1] Matter of Baugher 2013 NY Slip Op 51622(U) Decided on September 30, 2013 Sur Ct, Nassau County McCarty III, J. Published by New York State Law Reporting Bureau pursuant to Judiciary Law § 431. This opinion is uncorrected and will not be published in the printed Official Reports.

Decided on September 30, 2013
Sur Ct, Nassau County

In the Matter of the Petition of Jonathon Kirk Baugher, as Preliminary Executor of the Last Will and Testament of Phebe H. Baugher, Deceased, and as the fiduciary of a deceased trustee vested with such authority as a result of the Decision and Order of the Surrogate's Court of Queens County to discover property pursuant to SCPA 2103 and/or to recover property withheld pursuant to SCPA 2104 and for advice and direction pursuant to SCPA 2107 and for other relief.



353909/P



Rosenberg Calica & Birney LLP(for Estate)

100 Garden City Plaza, Suite 408

Garden City, NY 11530

Skadden, Arps, Slate, Meagher

& Flom LLP(for Estate)

4 Times Square, 48th Floor

New York, NY 10036

Michael J. Sepe, P.C.(for respondent Jeffrey Keith Baugher)

11 Clinton Avenue

Rockville Centre, NY 11570

Katten Muchin Rosenman LLP(for W.S. Wilson Corporation)

575 Madison Avenue

New York, NY 10022

Mahon, Mahon, Kerins & O'Brien LLC(for individual respondents)

254 Nassau Boulevard

Garden City South, NY 11530

Daniel P. Deegan, Esq.(Guardian ad Litem)

Forchelli, Curto, Deegan,

Schwartz, Mineo & Terrana, LLP

The Omni

333 Earle Ovington Boulevard Suite 1010

Uniondale, NY 11553

Edward W. McCarty III, J.

In this proceeding, denominated as a proceeding pursuant to SCPA 2103, the estate moves to compel disclosure from W.S. Wilson Corporation and respondent cross-moves for the same relief.

This proceeding duplicates a proceeding commenced in the Surrogate's Court, Queens County, in which it was concluded that Nassau County was the appropriate jurisdiction for determination of the issues presented. Thereafter, a petition was filed in this court by Jonathon Kirk Baugher, the preliminary executor of the estate of Phebe Baugher, against the W. S. Wilson Corporation. The estate seeks payment of approximately $22 million in current and retained earnings. Phebe Baugher's interest in W. S. Wilson was derived from the last will and testament of her father, Hugh H. Hirshon, which was admitted to probate by a decree of the Surrogate's Court, Queens County. The will created a testamentary trust for the benefit of Hirson's spouse and daughter, Phebe Baugher, net income to be paid to them in different percentages. The entire income was to be paid to Phebe Baugher after the spouse's death. The remaindermen of the trust are the testator's grandchildren (Phebe Baugher's children) and the testator's grandnieces and grandnephews. The trust owned 100% of the stock of the corporation.

Letters of trusteeship issued to a person or persons who are now deceased. Phebe Baugher was a nominated successor trustee but letters of trusteeship were never issued to her and she acted under color of title as a de facto trustee. The additional persons who also acted as de facto trustees, at the time of the transactions in question, (Harry Baugher, Sr. [Phebe Baugher's husband], Jonathon Kirk Baugher, Jeffrey Keith Baugher, Harry Leroy Baugher, and Robert Yule), simultaneously held positions as directors of the corporation. Prior to this proceeding, a petition was filed in the Surrogate's Court, Queens County, for the appointment of successor trustees. However, letters of trusteeship never issued.

It appears that there is a proceeding pending in Surrogate's Court, Queens County, for the settlement of the accounts of the de factotrustees. One of the issues to be determined in that proceeding is the ownership of the shares of the corporation upon termination of the trust.

Phebe Baugher died on November 4, 2008 survived by seven children: Richard Scott Baugher, Jeffrey Keith Baugher, William Hugh Baugher, Laraine Baugher Stueck, Ralph Edmond Baugher, Lisa Baugher Eppley and Jonathon Kirk Baugher. A petition for probate of an instrument dated May 11, 2008 has been filed in this court. The probate proceeding has been held in abeyance pending a determination in this proceeding. Phebe Baugher's children Jeffrey Keith Baugher and Jonathon Kirk Baugher are beneficiaries of the estate [to the exclusion of the other children] as are Phebe Baugher's grandchildren, four of whom are infants represented by a guardian ad litem. [*2]

The guardian ad litem reports that five of Phebe Baugher's children, who are remaindermen of the trust have assumed control of the corporation. They are represented by separate counsel, in their individual capacities, along with the children of Phebe Baugher's predeceased son.

On this petition, the preliminary executor, Jonathon Kirk Baugher, purports to represent, not only the estate of Phebe Baugher, but the testamentary trust, in his capacity as the fiduciary of a deceased de facto trustee. The petition seeks advice and direction (SCPA 2107) as to whether the preliminary executor has standing to represent the deceased trustee. As the question raises a jurisdictional issue, the court will address it at this time.

As a de facto trustee, Phebe Baugher would have been held liable to account for her administration of the trust (see Matter of Djeljaj, 38 Misc 3d 618 [Sur Ct, Bronx County 2012]; Matter of Buxton, 1 Misc 3d 903 [A] [Sur Ct, Westchester County 2007]). However, she would not have had the authority, as a de facto trustee, to commence a legal proceeding on behalf of the trust. That right is reserved to persons who received letters of trusteeship. The preliminary executor of her estate lacks standing, as fiduciary of a de facto deceased trustee, to represent the trust in this proceeding. The interests of the trust are protected and jurisdiction is complete, based upon the prior issuance of citation to all persons who have an interest in the trust.

The estate's motion seeks disclosure of: l) the books and records of the corporation,

2) additional business records, 3) correspondence between the corporation and an attorney and 4) corporate tax returns. The corporation's cross-motion seeks disclosure of correspondence between Phebe Baugher and her attorney and correspondence between the attorney and an accountant.

The corporation and the estate each assert the attorney-client privilege in their respective privilege logs. Application of privilege must be determined against the backdrop of the competing interests of the individual shareholders and the conflicts of interest resulting from the shareholders' status as officers and directors. Additional layers of competing interests are created by the fact that the trust owned all of the shares of the corporation.

Phebe Baugher was a director of the corporation, income beneficiary of the trust and de facto trustee. Her children were officers and directors of the corporation, remaindermen of the trust and trustees. At the time of the transactions in issue, Phebe Baugher was in a conflict of interest as an income beneficiary of the trust [asserting a claim] and a director of the corporation [which rejected the claim]).

As prospective beneficiaries of Phebe Baugher's estate, Jeffrey Keith Baugher and Jonathon Kirk Baugher had an interest in the success of the claim, in conflict with their obligation as directors of the corporation to oppose the claim, if they deemed it invalid. Harry Baugher, Sr., Jonathon Kirk Baugher, Jeffrey Keith Baugher and Harry Leroy Baugher had a duty, as trustees, to obtain payment from the corporation of any earnings due the trust which conflicted with their duty as officers/directors to oppose the claim. Jonathon Kirk Baugher and Jeffrey Keith Baugher and Harry Leroy Baugher had personal interests as remindermen in defeating the claim, in conflict with their duty as trustees to advance the claim.

It is necessary, in the application of the privilege, to distinguish between the personal interests of the parties and their obligations and prerogatives as fiduciaries, to assert the attorney-[*3]client privilege.

The estate relies on the leading case, Garner v Wolfinbarger (430 F2d 1093 [5th Cir. 1970]), in support of its argument that the corporation's attorney-client privilege must yield to the demand of the estate for disclosure. Garner involved a shareholder's derivative suit. The court permitted the shareholders access to communications between management and the corporation's attorney, upon a showing of good cause, based upon the fact that the corporation and shareholders had a "common interest" in benefitting the corporation. This principle, which is generally referred to as the "fiduciary exception" originated from the law of trusts. It provides that in connection with the administration of a trust, a trustee cannot withhold attorney-client communications from the beneficiaries, as he seeks advice for the benefit of the beneficiaries and the advice is obtained at the beneficiaries' expense (U.S. v Jicarilla Apache Nation, 131 S. Ct. 2313 [2011]).

In order for the fiduciary exception to apply, the action must be brought on behalf of the trust corpus (U.S. v Jicarilla Apache Nation, 131 S. Ct. 2313 [2011]). By analogy, in a shareholder's action, the fiduciary exception only applies if the action is for the benefit of the corporation. Therefore, the threshold issue in this case is whether the action is a direct action against the corporation or a derivative action similar to Garner.

As a beneficiary of the trust which owned 100% of the stock of the corporation, Phebe Baugher was an equitable shareholder with standing under the common law (Schlegel v Schlegel Mfg. Corp., 23 AD2d 808 [4th Dept 1965]) and by statute (Business Corporation Law § 626 [a]); Cassata v Cassata, 148 AD2d 944 [4th Dept 1989]) to commence a shareholder's derivative action.

The purpose of a shareholder's derivative action is to vindicate a wrong to the corporation, not an individual shareholder (Glenn v Hoteltron Sys., 74 NY2d 386 [1989]). The requirement of a derivative action is that it is for the benefit of the corporation Not only is the requirement not met in this case, the estate lacks standing to commence a derivative action. At the commencement of a derivative action, the plaintiff must be the legal or beneficial owner of shares (Business Corporation Law § 626 [b]). The estate represents the interests of a former shareholder and is therefore unable to commence a derivative action.

This is a non-derivative action against the corporation, solely one for the benefit of the estate. It is not necessary for the court to consider those cases (e.g. class actions) where an exception was recognized, to the general rule, that Garner does not apply to non-derivative actions (Matter of Stenovich v Wachtell, Lipton Rosen & Katz, 195 Misc 2d 99 [Sup Ct, New York County 2003]; see Construction and Application of Fiduciary Duty Exception to Attorney-Client Privilege, 47 ALR 6th 255 § 14 [2009]).

In Barasch v Williams Real Estate Co. Inc. (104 AD3d 490 [lst Dept 2013]), the court determined, without reference to Garner, that the attorney-client privilege could be asserted by the corporation in a non-derivative suit commenced by the shareholder. Indeed, the court cited a California case, Hoiles v Superior Ct. (157 Cal App 3d 1192 [1984]), in which Garner was rejected as authority in that state. In Barash v Williams Real Estate, the corporation was entitled to the protection of the privilege, beginning with the date that the shareholder had established herself as an adversary of the corporation. Parenthetically, under Garner, the same event would have been the determining factor in the application of the privilege (Sigma Delta, LLC v George, [*4]

2007 WL 4590097 [E.D. La. 2007]). In this case, the period commences no later than the date Phebe Baugher retained separate counsel. By the estate's account, January 1986 is the date that Phebe Baugher retained an attorney to represent her in connection with the claim to retained earnings (McInerney affidavit, p.7).

The following is an analysis of the motion and cross-motion as to each category of demands.

THE ESTATE'S MOTION FOR DISCLOSURE

Correspondence between Management and the Attorney Disclosure based upon Phebe Baugher's status as director

The estate contends that it is entitled to disclosure of: 1) correspondence between the president and board of directors and the corporation's attorney, and 2) the attorney's memoranda, on the subject of retained earnings. The corporation objects to disclosure of correspondence on the grounds of attorney-client privilege commencing with a document dated May 28, 1986. The corporation alleges that the communications were with Harry Baugher, Sr. (the president) alone, and even if it were established that the communications were additionally with the board of directors, they are privileged.

The estate's demand for correspondence with the corporation is based, in part, upon Phebe Baugher's status as a former director of the corporation. The corporation states that Phebe Baugher was intentionally excluded from the communications because of her conflict of interest and that the estate should be denied disclosure for the same reason.

The right to assert the attorney-client privilege is exercised by the officers and directors of a corporation (Tekni-Plex, Inc. v Meyber & Landis, 89 NY2d 123 [1996]).

An individual director's right to participate in the control of the privilege terminates when he leaves office. He can obtain information required to defend his conduct in the management of the corporation (People v Greenberg, 50 AD3d 195 [lst Dept 2008]) but not in connection with an individual claim which is adverse to the corporation. A former director should not be permitted to utilize the corporation's confidential information in support of a personal claim (Barasch v Williams Real Estate Co. Inc., 104 AD3d 490 [lst Dept. 2013]).

Disclosure based upon Phebe Baugher's status as a beneficiary of the trust

The estate argues that Phebe Baugher would have been entitled to disclosure as a beneficiary of the trust, based upon the fact that the president and directors acted in a dual capacity as trustees of the trust. In support of its position, the estate cites Hoopes v Carota (142 AD2d 906 [3d Dept 1988] aff'd 74 NY2d 716 [1989]), which was an action by a beneficiary for removal of a trustee. The trust owned a majority of the voting shares of the corporation and the trustee was chief executive officer and a director. The court determined first, that the obligation of the respondent as a trustee and director were "inextricably intertwined," so that the attorney-client communications were transmitted and received in both capacities. Secondly, the court concluded that the beneficiary had satisfied the good cause requirement.

In this case, the estate seeks disclosure of communications between the management and the corporation's attorney, at a time when Phebe Baugher had retained her own attorney and the corporation would have anticipated litigation as to the validity of her claim.

The estate cannot obtain the privileged communications through the directors and officers of the corporation. The alternative argument is that the trustees and the attorney had an [*5]independent attorney-client relationship.

In the usual case, a party carries the burden of establishing an attorney-client relationship, in order to invoke the attorney-client privilege and protect the communications from disclosure (Rossi v Blue Cross & Blue Shield of Greater NY, 140 AD2d 198 [2d Dept 1988], aff'd 73 NY2d 588 [1989]; McCann v McCann, 110 AD2d 1069 [4th Dept 1985]). Here, the estate seeks to achieve the opposite result. The estate's purpose is to establish that there was an attorney-client relationship with the trustees, that confidential communications were exchanged, and that the communications were received in a legal capacity which requires disclosure.

The record does not support the conclusion that the president or directors believed that they communicated with the attorney in their capacity as trustees (Doe v Poe, 189 AD2d 132 [2d Dept 1993]). Applying an objective standard, it is unlikely that the attorney for the corporation provided legal advice for the purpose of assisting the trustees in obtaining payment on the claim. The court concludes, therefore, that the president and board of directors communicated with the attorney in their corporate capacities.

The estate argues that the attorney-client communications are subject to disclosure as they are not "capable of being neatly separated into legal advice" communicated to the officers and directors in their corporate capacity, as opposed to their capacity as trustees. The estate further argues that the directors could not divest themselves of information once it was acquired.

In Matter of Beiny [Weinberg] (129 AD2d 126 [lst Dept 1987]), the court addressed a question concerning the inability of attorneys to disregard information. The attorneys had wrongfully obtained privileged information from their client's adversary. The court disqualified the attorney on the grounds that they would not be able to "suppress" the information in the future decision making process. The facts did not fall within any recognized category for disqualification. However, fairness required that the opportunity to utilize the information be foreclosed.

Taken to its logical end, the estate's argument, in this case, would achieve an opposite result. The theoretical inability of the officers/directors to compartmentalize information would automatically trigger disclosure of privileged communications to an adversary.

As a matter of law, a person can receive information in one legal capacity and not another. Attorney-client communications are received in the capacity as to which the recipient has an attorney-client relationship (Sieger v Zak, 60 AD3d 661 [2d Dept. 2009]). Here, the president and/or board of directors obtained legal advice on behalf of the corporation. The fact that they had a legal interest in the subject matter, in a non-client capacity, does not destroy the privilege (Fitzpatrick v America Intern. Group,Inc., 272 FRD 100 [S.D.NY 2010]). The privilege may still be asserted against the estate.

The corporation contends that, even if legal advice was provided to the president or officers/directors in their capacity as trustees, the trustees would have been entitled to withhold disclosure pursuant to CPLR § 4503 (a) (2). This subdivision, enacted in 2002, prevents the beneficiary of a trust from obtaining confidential communications between the trustee and attorney, even upon a showing of good cause. Several issues would have to be resolved in the application of the statute to this case.

First, the power of a trustee to assert the attorney-client privilege is not personal to a particular trustee. Successor trustees can assert the privilege as to communications with their [*6]predecessors (The New Wigmore: Evidentiary Privileges, § 6.5.2. [2013]). However, in this case, no trustee has asserted the privilege nor has any beneficiary, in place of a trustee. The corporation cannot raise the privilege on behalf of the trust.

Secondly, there is a question as to the application of CPLR § 4503 (a) (2) to communications which took place prior to its enactment (see McKinney's Cons. Laws of New York, Book 1, Statutes, § 51).

It is not necessary to consider the application of CPLR § 4503 (a) (2), as the court has concluded that the president and/or officers/directors received advice concerning retained earnings, solely on behalf of the corporation. The attorney's notes and memoranda, on the same subject, for the same time period, are entitled to work product immunity (Hickman v Taylor, 329 US 495 [1947]; Lichtenberg v Zinn, 243 AD2d 1045 [3d Dept 1997]).

Books and Records of the CorporationThe corporation has furnished books and records pre-dating 2008. The estate seeks disclosure of books and records post-dating 2008, including the minutes of the meetings of the board of directors and share certificates. The corporation opposes disclosure on the grounds that 1) documents which post-date 2008 (Phebe Baugher's death) are not relevant, 2) the demand is overly broad and burdensome, 3) the documents contain confidential business information, and 4) the post-2008 minutes of the meetings of the board of directors contain privileged attorney-client communications and attorney's work product.

Section 624 [b] of the Business Corporation Law confers a right of inspection upon shareholders of record. Phebe Baugher was never a shareholder of record. As a beneficial owner, she had a common law right of inspection (Matter of Ochs v Washington Heights Fed. Sav. & Loan Assn., 17 NY2d 82 [1966]) but the estate did not succeed to her beneficial interest in the corporation. Both the common law and statutory right to inspection depends upon a current interest in the corporation (Rosenberg v Steinberg-Kass, 6 AD2d 685 [lst Dept 1964]).

The right to disclosure of the books and records is governed by CPLR § 3101(a) which requires full disclosure of all evidence material and necessary to the prosecution or defense of an action (ACG Credit Co., II, LLC v Hearst, 102 AD3d 817 [2d Dept 2012]; Del Vecchio v Danielle Assoc., LLC, 94 AD3d 941 [2d Dept 2013]).

The estate has not established the right to disclosure of all of the books and records of the corporation, subsequent to the date of the transactions in question. The post-2008 financial statement should be sufficient to provide any relevant information as to retained earnings. The minutes of the meetings of the board of directors are in a separate category as the corporation concedes that they contain information pertaining to the defense of the estate's claim. If, as the corporation contends, the discussion of retained earnings contains legal advice, the minutes are protected from disclosure (Desert Orchid Partners, LLC v Transaction Systems Architects, Inc., WL 2006 1401683 [D Neb. 2006]).

There is insufficient information, in the record, to make a determination as to whether the minutes contain privileged information. The corporation is directed to submit, for in camera review, those portions of the minutes alleged to be protected by the attorney-client and work product privilege. If the minutes do not indicate whether an attorney was present, that information should be supplied by affidavit.

Financial Statements and Certificates of Shares[*7]

The corporation is directed to furnish the post-2008 financial statements. The certificates of shares for the same period are relevant as the estate is entitled to know the number of shares held by each of the parties to this proceeding.

Additional Business RecordsThe estate seeks additional business records which cover a multitude of categories. As to

these records, the demand is overly broad (Board Mgrs. of the Park Regent Condominium v Park Regent Associates, 78 AD3d 752 [2d Dept 2010]) and requests information which is either duplicated in other records or is not relevant to this proceeding. The demand further requires the corporation to determine which records are relevant to this proceeding. The court is not required to prune (Village of Mamaroneck v State, 16 AD3d 674 [2d Dept 2005]) or modify the demand

Corporate Tax Returns

The estate seeks disclosure of tax returns beginning in 2009. Disclosure of tax returns is disfavored, due to their confidential nature (Nanbar Realty Corp.v Pater Realty Co., 242 AD2d 208 [lst Dept 1997]). The standard for disclosure of tax returns is that the information is indispensable and cannot be obtained from other sources (Nasca v D.M.R. Indus., Inc.,70 AD3d 908 [2d Dept 2010]). The returns may meet the test of relevancy. In addition, as the estate observes, the corporation would be bound by the representations in the returns (Czernicki v

Lawniczak, 74 AD3d 1121 [2d Dept 2010]; Peterson v Neville, 58 AD3d 489 [lst Dept 2009]). However, speculation that there may be a discrepancy between the estate's position in this proceeding and the tax returns, is not a sufficient basis to invade the privilege. The estate has not established that the information is indispensable and unavailable from the financial statements.

Correspondence with Lending InstitutionsThe estate accepts the representation of the corporation that it does not have custody or control, nor does it know of the existence of correspondence, with lending institutions or agents, which contain references to retained earnings.

THE CROSS-MOTION OF THE CORPORATION FOR DISCLOSURE

Waiver of Attorney-Client Privilege based upon Submissions to the Court

The cross-motion of the corporation seeks disclosure of communications between Phebe Baugher and her attorney on the grounds that 1) the estate placed the subject matter of the communications in issue, and 2) the communications are necessary to determine the validity of petitioner's claim.

The corporation contends that the privilege was waived when the estate alleged, in opposition to the petition, that Phebe Baugher had been advised by counsel that her claim was valid. In support of its position, the estate submitted correspondence which contained confidential communications, to the court.

The subject of the attorney's advice was not placed in issue merely by reference to the advice of counsel (Soho Generation NY v Tri-City Ins. Brokers, 236 AD2d 276 [lst Dept 1977]). However, the actual disclosure resulted in a waiver of the privilege as to the particular documents. The court declines to make a finding that it resulted in a waiver of all privileged communications on the same subject.

The estate's claim is not based upon legal advice provided by the attorney (Manufacturer & Traders Trust Co..v Servotronics Inc., 132 AD2d 392 [4th Dept 1987]; Veras Inv. Partners, [*8]LLC v Atkin Gump Strauss Hauer & Feld LLP, 52 AD3d 370 [lst Dept 2008]).

Waiver of Privilege as to Correspondence

As to correspondence between Phebe Bauagher and her attorney, it is undisputed that the attorney furnished copies to Jonathon Kirk Baugher and Ralph Edmond Baugher. The estate argues that the privilege is not waived by disclosure to family members who act as agents for the client. As to disclosure to a relative or friend, the test to determine whether the privilege was waived is whether the participation of a third person was "reasonably necessary for the protection of the client's interests" (1 McCormick on Evid. § l91 [7th ed. 2013]); Stroh v General Motors Corp., 213 AD2d 267 [lst Dept 1995]).

The estate has failed to establish that there was an agency relationship. The court makes no finding of fact as to the capacity of Phebe Baugher or her dependency on others, except for the purpose of determining the motions for pretrial disclosure.

The privilege was waived by disclosure of the correspondence. The court declines to find that disclosure was waived as to all privileged communications on the same subject.

Waiver of Privilege Based upon Disclosure to an AccountantThe corporation contends that the privilege was waived by disclosure of confidential information to an accountant. Communications between an attorney and accountant are protected by the attorney-client privilege, if the purpose was to assist the attorney in providing legal advice (Straus v Ambinder, 61 AD3d 672 [2d Dept 2009]). As there is insufficient information as to the purpose of the communications, the estate is directed to submit the documents for in camera

review.

The corporation seeks a wide range of additional records. The demand is improper as it requires the estate to select documents based upon the estate's assessment that they support the claim.

Accordingly, the estate's motion is granted, to the extent that the corporation is directed to furnish the post-2008: 1) financial statements, and 2) certificates of shares. The court reserves decision as to the minutes of the meetings of the board of directors, pending in camera review. The balance of the motion is denied, without prejudice to the the right of the estate to serve a supplemental demand, which identifies documents which sufficient particularity.

As to the corporation's cross-motion, the estate is directed to furnish copies of the letters dated May 16, 2000 and April 30, 2007. The court reserves decision as to correspondence with the accountant, pending in camera review. The balance of the cross-motion is denied without prejudice to the right of the corporation to serve a supplemental demand, which identifies documents with adequate particularity.

The estate's separate motion for an award of fees and costs is denied.

The court intends that as to any documents to be furnished pursuant to the motion and cross-motion, disclosure to third parties is prohibited. The parties should execute a confidentiality agreement to that effect.

The documents to be submitted for in camera review are to be furnished to the court within 60 days of the date of the order following this decision.

Settle order.

Dated: September 30, 2013 [*9]

EDWARD W. McCARTY III

Judge of the

Surrogate's Court

[*10]