By David Shaffer, Esq.
Suppose you have been appointed as Trustee of a family member's testamentary or living trust. Notwithstanding Justice Cardozo's famous description of a Trustee as one who upholds "the punctilio of an honor the most sensitive" you may wonder about the practical implications of this high position. What acts are required of you?
As Trustee, you hold legal title to trust assets. Your most basic fiduciary duty is to manage and invest assets for the trust beneficiaries in accordance with the settlor's intent. This requires adherence to the three "R"s: read; record; and respond.
Reading the trust document carefully is the first step in trust administration. The terms of a trust dictate how the assets are to be managed, invested, held and/or distributed. For example, if a given trust specifically restricts distributions to medical emergencies only, or requires that certain conditions be met prior to paying out trust principal, you must abide by the trust language.
You must also keep accurate and comprehensive records. Why is this important? Because you are accountable to trust beneficiaries to submit an accounting of trust receipts and expenses upon termination of the trust. Formal accountings generally include 10 or 11 "schedules" and many more "sub-schedules"; even informal accountings require a Trustee to provide a general roadmap of transactions involving trust assets. Given these responsibilities, detailed record-keeping provides you substantial protection against potential claims of negligence or malfeasance in administering trust assets.
Furthermore, thorough record-keeping allows you to respond to requests from interested parties for annual statements, or to petitions for an intermediate accounting. Thus, while your role is to carry out the settlor’s intent, you must also be prepared to answer to the trust beneficiaries.
To properly compliment the three "R"s, you must also abide by three important duties. The duty of loyalty prohibits a Trustee from co-mingling trust-owned assets with individually-owned assets. If you take title to trust assets in your own name without reflecting your capacity as Trustee, you are guilty of a misdemeanor offense under New York law. The duty of loyalty also requires that you refrain from acts of self-dealing, which include taking unauthorized loans from the trust, investing trust funds in your own business, or favoring yourself if you are also a trust beneficiary.
Two additional duties are closely related: the duty of impartiality and the duty to invest prudently. The duty of impartiality requires a Trustee to administer a trust based on what is fair and reasonable to all of the beneficiaries - both current and remainder - unless the trust instrument clearly manifests the settlor’s intent to favor one or more beneficiaries. The duty to invest prudently requires you to exercise the care, skill and caution of a prudent person in diversifying assets, delegating management functions and pursuing an overall investment strategy in a portfolio.
But what if pursuing the best long-term investment strategy leads to partiality in favor of remainder beneficiaries? Because this was a growing concern in the late 1990s when market conditions resulted in the increase in the value of trust equity, while producing low income yields, new legislation was passed in 2002 to provide a Trustee with the power to adjust and the unitrust option. The power to adjust allows you to adjust between income and principal as a means of ensuring that beneficiaries are treated in accordance with a settlor’s intent. The unitrust option allows you to provide income beneficiaries with a fixed annual income distribution of four percent of the net fair market values of the assets held in the trust for the first three years of unitrust treatment, with an average percentage calculated each year thereafter. This is true regardless of the actual income earned by the trust. These methods give you the flexibility to develop prudent investment strategies without worrying about partiality to remainder beneficiaries.
You must also be sure to pay debts and taxes as required by the trust instrument, New York and federal law. Consultation with tax professionals and attorneys facilitates the tax filing process and assists the Trustee in filing the proper forms and meeting the proper deadlines.
All of these responsibilities may leave you asking three questions: (1) May I share these responsibilities with a Co-Trustee? (2) Am I entitled to compensation for my efforts? (3) What happens if I breach my fiduciary duty?
The answer to the first two questions is "yes." There are advantages to having multiple Trustees. If you are both a sole Trustee and a trust beneficiary, the power to adjust between income and principal is not available under the Prudent Investor Act. One way to avoid this problem is to have a Co-Trustee who is not a beneficiary exercise the power to adjust where necessary. Co-Trustees may also increase administrative efficiency, as each fiduciary is able to assume more specialized and defined roles. However, Co-Trustees may also stifle each other because in the event of a disagreement, the default rule is that a majority vote is required for discretionary action. Since a majority of two is two, a deadlock situation may result, leading to uncertainty and inaction.
As for compensation, you (as an individual trustee) are statutorily entitled to commissions from principal for paying out all sums of money constituting principal at the rate of 1%. You are also entitled to annual commissions based on the value of the principal, to be paid one-third from income and two-thirds from principal (unless the trust instrument provides otherwise, the unitrust option has been elected or the trust is a particular charitable trust). In situations where more than two Trustees are serving, no more than two commissions shall be allowed unless the settlor explicitly provides otherwise in a signed writing, and such compensation is to be apportioned relative to the services provided.
A Trustee’s failure to exercise reasonable care, prudence and diligence in administering a trust may result in removal and/or surcharge; this means that a Trustee may be held individually liable for losses to the trust estate caused by his or her imprudence.
While the fiduciary responsibilities of a Trustee present a significant challenge, the good news is that professional advice is plentiful. Do not hesitate to seek assistance from a certified public accountant, attorney, investment manager or other professional in carrying out your duties as Trustee. If you have any questions regarding Trustee duties, please feel free to consult your Woods Oviatt Gilman attorney.