How often do hopeful beneficiaries of a last will and testament expect to receive what they think will be a valuable bequest of a business interest, only to find their joy turn to despair when they discover the bequest violates a buy-sell agreement or transfer restriction in the business’s governing instrument?
Fairly often, actually. In the past few years, we’ve written about at least three such instances (see Finlaw, Harris, and Worbes).
How do courts resolve a direct conflict between a will, in which the testator tries to bequeath an ownership interest in a business, and the entity’s contract, in which the owners forbade conveyance of that very interest?
In short: not in favor of the beneficiary.
A growing body of case law – including a new, treatise-like decision from Bronx County Commercial Division Fidel E. Gomez – holds that a business entity’s governing instrument executed by a deceased owner will trump an attempted, conflicting testamentary bequest of an ownership interest in violation of the entity’s contract.
Pappas v B & G Holding Co. (2024 NY Slip Op 51218(U) [Sup Ct, Bronx County Sept. 6, 2024]), was reminiscent of the Worbes case I blogged about and then substituted in as counsel helping to bring the case to a successful conclusion – but with the parties’ roles reversed.
In Worbes – a case also before Justice Gomez – a shareholders’ agreement forbade conveyance of a stock interest to anyone but the shareholder’s children. In his will, a 50% shareholder attempted to bequeath his stock interest to his wife. The sole surviving shareholder argued that because of his deceased co-owner’s violation of the transfer restriction, the shares “reverted” or “forfeited” to the corporation. This argument was the inspiration for our piece about unenforceability under public policy grounds of stock transfer restrictions that would result in “forfeiture,” render a valuable ownership interest “void,” cause “annihilation of property,” or “bestow a windfall.”
Pappas was something of an inverse of Worbes. In Worbes, the surviving owner sought to take the decedent’s interest for zero consideration, and the deceased owner’s widow had to force the surviving owner to pay for that interest. In Pappas, the surviving owner tried to force the deceased owner’s estate to accept payment for his interest, but the beneficiary / estate fiduciary refused, preferring to try to persuade Justice Gomez he was a direct owner. Let’s see how that went.
The General Partnership, the Contract, and the Forbidden Specific Bequest
B & G Holding Company (“B & G”), a New York general partnership, owned two adjacent commercial properties in Bronx, New York.
In 1994, Eugene Leogrande (“Leogrande”) and William Egan (“Egan”), as equal 50% general partners, entered into a written partnership agreement (the “Partnership Agreement”) for B & G.
Paragraph 2 of the Partnership Agreement provided: “No Partner shall sell, transfer, pledge, hypothecate, negotiate, assign, mortgage or otherwise dispose of or encumber any of his interest in the Partnership, except in accordance with this Agreement.”
Paragraph 2, addressing lifetime transfers, provided that any attempted sale by one partner “shall be deemed an offer” to sell to the other, who then had the “option” to purchase the partnership interest.
Paragraph 4, addressing transfers upon death, provided: “The death of a . . . Partner shall constitute an offer of the personal representative of such deceased . . . Partner’s estate to sell all of his . . . Partnership Interest held by the estate . . .” Paragraph 4 required the surviving partner to “elect to purchase” from the decedent’s “estate” the partnership interest “within twelve (12) months of death.”
In 2009, in his last will and testament, Egan nominated as his executor Dean George Pappas (“Pappas”), and attempted to bequeath his partnership interest to Pappas as follows: “I give, devise and bequeath all my right, title, shares of stock and interest in B & G Holding Company to DEAN GEORGE PAPPAS, outright, absolutely and forever.” Egan also named Pappas his sole residuary beneficiary.
The Buyout Exercise, The Refusal to Sell, and the Commencement of Litigation
In 2020, Egan died. Two months later, Leogrande sent a letter exercising the buy-sell option in paragraph 4 of the Partnership Agreement for a purchase price calculated to be $318,348 based upon a buyout formula in paragraph 5 and a later amendment to the Partnership Agreement. Pappas refused, suing Leogrande six months later.
In his complaint, Pappas alleged three counts: (i) judicial supervision of the winding up of the partnership under Partnership Law § 68; (ii) accounting of the partnership under Partnership Law § 74; and (iii) partition of the real estate owned by the partnership.
The Dismissal, the Appeal, and the Partial Reversal
Leogrande moved to dismiss. Justice Gomez’s predecessor on the Bronx County Commercial Division, Hon. Eddie McShan, issued a Decision and Order dismissing the complaint in full, holding that paragraphs 4 and 5 barred Pappas’s claim of partnership status because it has long been the law that “agreements to meet the contingency of death of a partner are binding” (In re Eddy’s Estate, 175 Misc 1011, 1016 [Sur Ct, NY County 1941], affd 262 AD 1015 [1st Dept 1941], affd 290 NY 677 [1943]).
Pappas appealed and the Appellate Division affirmed dismissal except for its reinstatement of the accounting claim based upon the appeal court’s conclusion that even without partnership status, the fiduciary of a deceased general partner’s estate “has the right to demand an accounting from the surviving partners upon completion of the winding up of the partnership affairs” where, as in the case of B & G, the partnership dissolved by operation of law upon the death of a partner under Partnership Law § 62.
The Specific Performance Counterclaim and the Dueling Summary Judgment Motions
On remand, Leogrande filed an answer with a single counterclaim for specific performance, a cause of action which, as we have written, is well suited to enforce buy-sell agreements against recalcitrant buyers or sellers (see Estate of Collins, Neville, Roadie and Shaw, and Berle).
Pappas moved for summary judgment on his sole surviving accounting claim for a declaration that Egan’s “partnership interests vested in [Pappas] as a specific devisee upon the death” of Egan.
Pappas argued two interrelated legal theories.
First, Pappas argued that paragraph 2 prohibited only lifetime transfers, not testamentary bequests,
Second, Pappas argued that the buy-sell on death provision in paragraph 4 permitted purchase of a deceased partner’s interest only if “held by the estate.” According to Pappas, at the moment of death, Egan’s partnership interest transferred from Egan to Pappas, Pappas became the interest’s vested owner, so the estate never obtained an interest, and there was no partnership interest “held by the estate” for Leogrande to purchase.
Leogrande cross-moved for summary judgment on his sole counterclaim for specific performance of the buy-sell upon death provisions in paragraphs 4 and 5 of the Partnership Agreement.
You can read the full set of briefs here, here, here, and here.
The Grant of Specific Performance
Justice Gomez wrote that “in order to declare to what extent the PA applies, the Court must first determine whether Pappas or [the Estate] now own Egan’s shares of B & G.”
The Court referenced three statutes:
- Section 103 (19) of the Surrogates Court Procedure Act (the “SCPA”) (defining the term
“[e]state” in estate administration proceedings as “[a]ll of the property of a decedent, trust, absentee, internee or person for whom a guardian has been appointed as originally constituted”);
- SCPA § 103 (44) (defining the term “[p]roperty” in estate administration proceedings as “[a]nything that may be the subject of ownership and is real or personal property, or is a chose in action”); and
The Court ruled:
Here, contrary to plaintiffs’ assertion, the terms of the PA proscribe the bequest of Egan’s shares to Pappas. This is true, despite, as urged, that there is no language in the PA proscribing the testamentary disposition of a partner’s shares. Indeed, plaintiffs’ suggestion that where, as here, the PA clearly proscribed the transfer, pledge, and/or assignment of a partner’s shares, such terms did not necessarily include a testamentary disposition, is absurd and turns the well settled principles of contract jurisprudence on their head. Accordingly, contrary to plaintiffs’ assertion, because at the time of his death Egan owned his shares of B & G and his conveyance to Pappas was a nullity, the shares did not pass outside the estate and instead, became [the Estate]’s property.
The Court concluded:
Hence, here, at the time of his death, Egan was precluded from transferring his shares of B & G by the PA, . . . and upon his death they became part of [the Estate], and per section 4 (A), triggered an offer to Leogrande to purchase them.
(citation omitted]).
As a result, denied Pappas’s motion and granted Leogrande’s cross-motion for specific performance of the buy-sell agreement.
A Basic Summary of the Rules of Law
Based upon my experience, here are the basic rules of decision in cases like Pappas, some of which Justice Gomez cited, some he did not.
First, an equity interest in a business, whether a partnership, corporation, or LLC, is personal property:
Second, as personal property, equity ownership interests are “included as an asset in the decedent’s estate” (Matter of Steward, 229 AD2d 500 [2d Dept 1996]).
Third, by operation of law, partnership interests, corporate stock, and LLC membership interests become property of the deceased shareholder’s estate immediately upon death pursuant to EPTL § 13-1.1, which provides: “For purposes of the administration of an estate, . . . every . . . species of personal property pass[es] to the personal representative . . . .”
EPTL § 13-1.1 applies to business equity interests, which become vested personal property of the estate by operation of law immediately upon death, to be administered by the estate’s personal representative upon his or her appointment as fiduciary (see e.g. In re Brown, 295 AD2d 127 [1st Dept 2002] [“Upon the testator’s death, his estate became the owner of the shares . . . inasmuch as they . . . passed to the executor as personal property by operation of law”]).
Fourth, where an attempted specific bequest fails because of some legal obstacle, impediment, or impossibility – i.e., a conflicting stock transfer restriction or buy-sell agreement – the transfer is deemed “ineffective” or “lapsed,” and passes as if the decedent died without a will pursuant to EPTL § 4-1.1 (see e.g. In re Endell’s Estate, 192 Misc 503 [Sur Ct, NY County 1948], affd 275 AD 1029 [1st Dept 1949] [death of beneficiary of specific bequest of corporate stock before testator’s death resulted in lapse of the specific bequest requiring disposition of stock as part of the decedent’s residuary estate]).
Under this fourth and final rule of law, if (as in Pappas), there is a controlling buy-sell on death agreement, the estate’s fiduciary must sell the interest in accordance with the formula set forth in the contract.
If (as in Worbes), there is no buy-sell on death agreement, the estate is entitled to receive the fair value of that interest in an amount to be determined in the litigation.
In either case, the proceeds of the sale are distributed pursuant to the intestacy statute, EPTL § 4-1.1.
The Unfortunate Outcome of Pappas
Under these rules of law, Egan’s intestate distributees can expect to receive $318,348 for Egan’s former interest in B & G under the buyout formula in the Partnership Agreement – exactly what Leogrande offered to pay at the very beginning.
In hindsight, Pappas probably should have just taken that gift horse, rotten teeth and all. After four years of litigation – including a trip back and forth to the Appellate Division – one has to expect that legal costs will consume most, if not all, of the estate’s final monetary recovery.
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