Opinion ID: 1797133
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Heading: Is the income from a spendthrift trust subject to seizure in satisfaction of a federal tax lien?

Text: We respond to the captioned question in the affirmative and thus affirm both the Chancellor and the Court of Appeals as to this phase of the controversy. We specify our reasoning in some detail in view of the fact that there are no guiding precedents under Tennessee decisional law. At first blush the answer would appear to be determined by Section 26-601, T.C.A., which reads as follows: 26-601. Grounds for discovery and subjection  The creditor whose execution has been returned unsatisfied, in whole or in part, may file a bill in the chancery court against the defendant in the execution, and any other person or corporation, to compel the discovery of any property, including stocks, choses in action, or money due to such defendant, or held in trust for him, except when the trust has been created by, or the property so held has proceeded from some person other than the defendant himself, and the trust is declared by will duly recorded or deed duly registered. Provided, however, that where the state of Tennessee shall be such judgment creditor, the chancery court shall have jurisdiction to subject such property to the satisfaction of the claims of the state, despite the fact that the trust has been created or the property so held has proceeded from some person other than the defendant himself and the trust declared by will duly recorded or deed duly registered. The history of this statute is simultaneously significant and interesting. In 1831 Tennessee abolished imprisonment for debt. [2] As stated in 35 Tennessee Law Review 319, at 320, [a]lthough this was entirely in keeping with the moral sense of Tennesseans at the time, it did have the effect of eliminating a part of the plaintiff's remedy at law. While the decisions are conflicting, the case of Erwin v. Oldham, 14 Tenn. 185 (1834) (decided under the law as it existed prior to the adoption of Chapter 11, Public Acts of 1832), is clear authority for the proposition that in the absence of fraud, the court has no power to subject stocks, credits, and rights of action held by a debtor to the satisfaction of his indebtedness. The Court specifically relied upon the New York case of Donovan v. Finn, 1 Hopk. Ch. 59, 14 Am.Dec. 531 (N.Y. 1823), as conclusively settling the point. By Chapter 11, Public Acts of 1832, the Tennessee Legislature enacted a statute patterned after a New York act designed to meet Donovan . This statute forms the basis for Sec. 26-601, T.C.A. Thus within a two-year period, a Tennessee creditor lost the remedy of imprisonment for debt, but gained the right to discover assets in equity and subject them to his demands. But the equitable remedy was withheld for trust funds when the trust was created by a third person by recorded will or registered deed. This provision breathed the breath of life into spendthrift trusts in Tennessee. The landmark case is Jourolmon v. Massengill, 86 Tenn. 81, 5 S.W. 719 (1887). There the Court, in an opinion by Justice Lurton, held that the 1832 act was a rule of property, and ... very many such trusts have been created in reliance upon it. Id. at 126, 5 S.W. at 734. The last proviso of Sec. 26-601, T.C.A., excepts from the application of the statute cases where the state of Tennessee is the judgment creditor. This proviso, with additional language making it retroactive, was adopted by Chapter 108, Public Acts of 1943, in an abortive effort to reach the assets of three spendthrift trusts created for Rogers Caldwell by his parents, in satisfaction of an indebtedness to the state in an amount in excess of four million dollars. This Court, in State v. Caldwell, 181 Tenn. 74, 178 S.W.2d 624 (1944), declared the 1943 amendment invalid insofar as it is retrospective in character. The Court declared that the 1832 act was a rule of property and not an exemption statute for the benefit of poor debtors. Thus spendthrift trusts are solidly entrenched in our law and it is clear that Sec. 26-601 is a rule of property and not an exemption statute. If we were dealing solely with Tennessee statutory and decisional law, we would be inclined to hold that the income from spendthrift trusts is insulated against the claims of all creditors, including the Internal Revenue Service; however, such is not the situation. Article VI, clause 2 of the Constitution of the United States contains the Supremacy Clause: This Constitution, and the laws of the United States which shall be made in Pursuance thereof; [and all treaties] shall be the supreme Law of the Land; and the Judges in every State shall be bound thereby, any Thing in the Constitution or Laws of any State to the Contrary notwithstanding. The ensuing paragraph requires that all judges state and federal, shall be bound by Oath or Affirmation, to support this Constitution. The imposition and collection of federal income taxes are governed by federal laws deriving their validity from the sixteenth amendment to the federal constitution. As a general rule, where there is a conflict between state laws and federal laws, the latter must prevail. United States v. Dallas National Bank, 152 F.2d 582 (5th Cir.1946). Under 26 U.S.C. Sec. 6321, it is provided that unpaid federal taxes, after demand shall be a lien in favor of the United States upon all property and rights to property, whether real or personal, belonging to such person. (Emphasis supplied). There is no exception in favor of income beneficiaries under spendthrift trusts and most assuredly such income is embraced within the phrase property and rights to property. This section creates no property rights but merely attaches federally defined consequences to state created rights. See United States v. Bess, 357 U.S. 51, 78 S.Ct. 1054, 2 L.Ed.2d 1135 (1958) (construing a similar provision of the Internal Revenue Code of 1939). State law governs the question of the existence of property or rights to property and the nature of the legal interest that the taxpayer has in the property. Aquilino v. United States, 363 U.S. 509, 80 S.Ct. 1277, 4 L.Ed.2d 1365 (1960). Under Tennessee law, it is essential to the creation of a spendthrift trust that (1) legal title be vested in the trustee, (2) the gift to the donee be of an equitable interest in the income, and (3) the trust be active. Robertson v. Brown, 13 Tenn. App. 211 (1931). In the instant case these criteria are met; petitioner as income beneficiary has a vested property right in the income generated by the trust. Once we have made the determination that under Tennessee law petitioner owns property or rights to property, federal law takes over for the purpose of determining whether a lien will attach. United States v. Bess, supra ; Broday v. United States, 455 F.2d 1097 (5th Cir.1972); United States v. Taylor, 254 F. Supp. 752 (N.D. Cal. 1966). As we have heretofore indicated, we are in full accord with petitioner Howard's position that Sec. 26-601, T.C.A., is not an exemption statute. See State v. Caldwell, supra . If it were, the results we reach would be no different. This follows from the established legal proposition that federal law exclusively governs what is exempt from federal taxation. United States v. Mitchell, 403 U.S. 190, 91 S.Ct. 1763, 29 L.Ed.2d 406 (1971). The lien for federal taxation arises under 26 U.S.C. Sec. 6321 and covers all property and rights to property. Levy is governed by Section 6331(a), and exemptions are enumerated in Section 6334(a). [3] Section 6334(c) specifically provides that no property or rights to property shall be exempt from levy other than the property specifically made exempt by subsection (a). The fact that we do not deal with an exemption statute is of no significance. What is significant is the fact that we deal with property and rights to property. The argument of petitioner Howard is precisely the same as was made by the taxpayer in Leuschner v. First Western Bank and Trust Company, 261 F.2d 705 (9th Cir.1958). The Court responded thusly: But the bastion of the claim built up by Leuschner is that he had a property right to receive this income.... It is for the very reason that Leuschner acquires a property right that the government has the power to levy thereon. (Emphasis supplied). 261 F.2d at 708. Petitioner Howard relies upon Meyer v. United States, 375 U.S. 233, 84 S.Ct. 318, 11 L.Ed.2d 293 (1963). But Meyer stands for the proposition that state law determines what is property or rights to property, and generally it is the policy of Congress to recognize and give effect to state exemption laws. This holding was made in the context of the applicability of the doctrine of marshaling assets. The holding is not at variance with the general rule that federal law determines exemptions from federal taxation. The conclusion of the Court of Appeals is fully validated by the cases it cited, notably United States v. Dallas National Bank, supra ; Leuschner v. First Western Bank and Trust Company, supra ; and In re Rosenberg's Will, 269 N.Y. 247, 199 N.E. 206 (1935). We fully agree with petitioner that we are not bound by the decisions of the courts of our sister states nor of the federal system; however, we respect their decisions and are entitled to follow the conclusions reached in any well-reasoned opinion irrespective of source. We affirm the action of the Chancellor and Court of Appeals and hold that respondent's share of the income generated by the spendthrift trust may be subjected to the payment of federal taxes, assuming a proper levy and the observance of all requisite procedural steps. [4]