Opinion: You have been appointed trustee. Here is the good news — and the bad news.
Please accept my congratulations; it is a great vote of confidence in your abilities and your judgment.
Please also accept my condolences; you will have responsibilities, tasks and difficulties for which you are unlikely to be sufficiently remunerated or duly appreciated.
A recent case that has come to my office reflects some of the challenges of acting as a trustee. A man had died relatively young leaving a business and a son in his early twenties. He had appointed two members of his family as directors. They were having a hard time shutting down the business and dealing with the son who was on the wild side and quite picky. They also had some ideas on how they could get involved in the business themselves.
I had to advise them that no matter how difficult the son was, as trustees they had to put his best interests first. They were to be impartial and not take his criticisms, complaints or requests personally. From a business standpoint, their involvement certainly had the appearance of a conflict of interest. It would be difficult for them to establish that they were the best people they could find to run the business.
Unsurprisingly, the trustees with the difficult beneficiary did not like my advice and fired me as their lawyer. But here is what I would have told them about the duties of trustees if they had consulted me before getting involved.
Read: What is the difference between a revocable and an irrevocable trust?
Trustees are trustees, which means they must put the best interests of beneficiaries first. If they don’t, they can be personally responsible. They must avoid any conflict of interest. It also means that they must take into account the interests of all beneficiaries and cannot favor some over others.
Accounting, communication and transparency
Trustees should be able to account for all of their actions and provide regular, usually annual, accounts to beneficiaries. They must provide the beneficiaries with copies of the trust document itself. We also find that meeting with beneficiaries at least once a year is useful for building relationships, answering questions and ensuring that distributions remain appropriate. Trustees should prioritize too much disclosure rather than too little. Lack of transparency can quickly lead to mistrust and suspicion which can undermine the relationship between the trustee and beneficiaries. This in turn can result in additional costs for the trust, especially in the event of a dispute.
Read: Trusts Are Useful For Almost Everything About Estate Planning
Irrevocable trusts require the annual filing of a 1041 income tax return. However, they rarely pay taxes because any income distributed to beneficiaries is taxed to them. Revocable trusts generally do not have to file income tax returns because they use the settlor’s social security number.
Your investment in trust assets should be prudent and reasonable. This means a conservative approach that balances risk and growth, typically a mix of stocks and bonds. It would be unwise to invest entirely in bonds because historically they have not grown as fast as investments in stocks, and nowadays they produce very little interest. And it would be unwise to invest totally in stocks because their value can fluctuate considerably.
Sometimes trusts hold interests in real estate or small businesses. From a strictly investment point of view, it may be wise to sell these participations in order to better diversify the holdings in trust. But there may be other overriding factors that argue in favor of keeping these investments. A trust beneficiary can live in a house owned by the trust. Family members can work in a small business. Some trusts in fact explicitly order the trustee to continue to hold interests in particular investments.
Often, the trustees have discretion as to whether or not to make distributions to beneficiaries. The trust can say that the income is to be distributed, but the capital can be distributed as needed by the beneficiary. Trusts often include a language called the “HEMS” standard because it only allows distributions for the beneficiary’s health, education, maintenance and support. It sounds like a very broad standard, but it is limited enough to provide some tax benefits to the trust.
Where the trustee has discretion, he or she must take into account the needs of the beneficiary requesting a distribution as well as of other beneficiaries, both those who have a current entitlement to distributions and those who may do so in the future. It must also take into account current and future needs. A good rule of thumb is to limit distributions to 3% of the trust’s assets per year. This way, confidence can continue to grow with inflation and have reserves for unforeseen needs.
Yet it often seems incongruous to beneficiaries that they cannot receive larger distributions from what they feel is a very large trust. The beneficiary of a trust with $ 1 million in investments might not understand why the trustee limits distributions to $ 2,500 per month, even though larger distributions would erode the trust’s purchasing power over time. .
One problem with trusts that give trustees considerable discretion is that they often provide little advice. The trustee ends up imposing its judgments and values on the beneficiaries. Often these are consistent with those of the settlor, which is why the settlor chose the particular trustee in the first place, but not always. When the trust does not provide specific guidelines, it can be helpful for settlers to write a letter to the trustees explaining why they created the trust and how they would like the funds to be used.
I get more questions on my website about compensation for trustees than about any other estate planning issue. Professional trustees typically charge an annual fee of between 1.0% and 1.5% of the trust’s assets, a higher rate for smaller trusts, and a lower rate for larger ones. This would mean that the management fee for a trust holding $ 1 million would normally be between $ 10,000 and $ 15,000 per year.
Many clients are reluctant to pay fees year after year and prefer to name their family members. (They are also often uncomfortable having outside family members involved in their business.) I try to explain to them that it is money well spent to make sure the trust is properly run. managed. This can often help avoid tensions within families when a child is managing assets on behalf of others.
For example, for many years the brother of a family friend has managed a trust left by his father. He was very upset when our friend and her sister asked for more information about trust and questioned his handling of it, damaging their sibling relationship.
When non-professionals are appointed as trustees, their remuneration is often unclear. All Trustees are entitled to “reasonable” compensation. But just like beauty, “reasonable” can be in the eye of the beholder. Trustees often spend a lot of time managing the trust assets and are entitled to be paid, but usually not at the same rate that professionals providing the same services would charge. Otherwise, it is fair to wonder why the trustee is in fact hired rather than someone who usually provides the same service. For example, if a trustee manages rental property for a trust, can he prove that he did a better job than a professional property manager? (Of course, I’ve seen both good and bad property management companies, which muddies the water even more.) It would be better to charge less to justify the decision not to hire an outside company to provide the service.
Trusts for people with special needs raise their own issues. It is even more necessary that the trustee understands the needs of the beneficiary. Additionally, the beneficiary may depend on public programs such as Supplemental Security Income, Medicaid, and subsidized housing to provide the necessary support, requiring the administrator to ensure that distributions do not affect eligibility. Workarounds can be complicated. Due to the extra work involved, some professional trustees refuse to take on special needs trusts.
Others do, but we often let clients know that it makes sense for special needs trusts to have both a professional trustee and a family member. Thus, the professional trustee can take care of all the administrative functions described above and the family member trustee can take care of the beneficiary’s life situation and needs. It can also help when the beneficiary does not understand why the trust cannot distribute more money or pay for items or services that may be unsuitable. The family member can, in effect, blame the independent trustee.
Finally, the good news: Although trustees are held to very high fiduciary standards in their role, if they are careful to do their job, they run little risk of liability. Courts are unlikely to hold trustees accountable for decisions that prove to be wrong in retrospect as long as they have been diligent in making the decision. Thus, a trustee who continued to make distributions to a beneficiary for years without contact may be held liable if it turns out that the beneficiary’s roommate was stealing the money. But the same trustee who has met with the beneficiary every year and allowed them to continue living in the family home will not be held responsible if the value of the home decreases over time. The decision to keep the house and let the beneficiary stay there was a judgment rendered by the trustee after taking appropriate steps to consider all relevant factors.
Acting as a trustee can be very rewarding. It allows you to serve the beneficiaries. But make sure you have the time and courage to take on this role and understand that you are unlikely to be paid fully for the time you put into it.
The next time: 7 trust traps you need to know
Harry S. Margolis is an attorney specializing in estate and seniority planning in Massachusetts. He answers consumer questions about estate planning on AskHarry.info and recently published The Baby Boomers Guide to Trusts: Your All-Purpose Estate Planning Tools..