What It Means to Be a Trustee: a Guide for Those Searching for the Right Fiduciary

WHAT IT MEANS TO BE A TRUSTEE: A GUIDE FOR THOSE SEARCHING FOR THE RIGHT FIDUCIARY

FORT WORTH ▪ DALLAS ▪ HOUSTON ▪ AUSTIN 777 MAIN STREET, SUITE 700, FORT WORTH, TEXAS 76102 www.theblumfirm.com 817.334.0066 THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

TABLE OF CONTENTS

Page

WHAT IT MEANS TO BE A TRUSTEE: A GUIDE FOR THOSE SEARCHING FOR THE RIGHT FIDUCIARY ...... 1

FOREWORD ...... 1

GENERAL STATEMENT ...... 1

GENERAL DUTIES OF A TRUSTEE ...... 2

POWERS OF A TRUSTEE ...... 5

INVESTING TRUST ASSETS ...... 5

DISTRIBUTING TRUST ASSETS ...... 6

RECORDS AND ACCOUNTINGS ...... 8

COMPLIANCE WITH TAX LAWS ...... 9

COMPLIANCE WITH OTHER GOVERNMENT REGULATION ...... 10

A TRUSTEE’S CHOICE, USE AND COMPENSATION OF ADVISORS AND SERVICE PROVIDERS ...... 11

A TRUSTEE’S COMPENSATION AND LIABILITY ...... 12

RESIGNATION ...... 13

CHOOSING TRUSTEES ...... 14

APPENDIX A TYPES, PURPOSES AND PROVISIONS OF TRUSTS ...... 17

APPENDIX B A LIST OF TRUSTEES’ TYPICAL RECORDS ...... 19

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

WHAT IT MEANS TO BE A TRUSTEE: A GUIDE FOR THOSE SEARCHING FOR THE RIGHT FIDUCIARY

FOREWORD1 GENERAL STATEMENT

This Guide has been provided to you While there are many types of trusts, and because you are interested in what it means trusts are used to accomplish a wide variety to be a trustee. Perhaps you are considering of objectives, as exemplified in Appendix A naming a trustee for your family, or perhaps here, the essence of a trust is a legally someone has suggested that you serve as a binding arrangement under which a person, trustee yourself. as “grantor”2 appoints another person, as trustee, to hold property in a fiduciary3 Reading the text will not equip you to be relationship for a third person, the a trustee, but, instead should convey an beneficiary. appreciation of what it means to be a trustee. For those considering accepting a That is the essential structure, but trusteeship, the goal is not to encourage or frequently the arrangement may be for discourage but rather to insure that any such multiple beneficiaries, and sometimes in decision is made with sufficient information multiple trustees, and occasionally multiple to understand the basic ramifications. grantors. The obligations of a trustee are defined by law and by the trust instrument, This Guide is intended to provide you which may be the Will of someone who has with a general background of what it means died, or an agreement or other lifetime to be a Trustee, and is not intended to serve document, and which spells out the uses to as legal advice. Further, the fact that you which the property is to be applied. have been provided this Guide does not Appointing someone to be trustee implies a establish that you are a client of The Blum confidence in that person and an expectation Firm, P.C. If you have any questions that he or she will apply the property regarding this Guide, please contact any of faithfully and according to the grantor’s the Trusts and Estates attorneys who may be objectives for the benefit of the beneficiaries identified by search of the Firm’s website at and not for the personal benefit of the www.theblumfirm.com or your attorney for trustee. further information.

2 The authors have used the term, “grantor” throughout, to refer to the person creating a trust. “Grantor” is the relevant term used in the U.S. Internal Revenue Code. The terms “settlor,” “donor,” and “trustor” are synonymous with 1 This Guide has been adapted by The Blum Firm, “Grantor.” P.C. from a Guide prepared by the Fiduciary Matters 3 “Fiduciary” is both a noun and an adjective, Subcommittee of the American College of Trust and signifying a relationship of mutual reliance and Estate Counsel Practice Committee. faithfulness.

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

The administration of a trust is governed instrument might state that the trustee is to primarily by state laws, although Federal tax hold and invest the assets, to pay net income laws and other regulatory provisions also are to beneficiary #1 for life and then to part of the picture. State trust laws differ distribute the remainder to beneficiary #2. from state to state, so the discussion in this Beyond that, certain duties are imposed on Guide will necessarily be general in nature. trustees by state law. The emphasis on a The required amount of court involvement particular duty may depend on the purpose in the administration, for example, can vary for which the trust was created. In the rest widely and may determine how burdensome of this section are general descriptions of the job of trustee can be. For a more basic categories of a trustee’s typical duties, detailed description of the duties of a trustee, prescribed by the usual trust instrument and you should consult your attorney who governing law. specializes in trust law. Duty to Administer Trust by Its We will begin with an overview of a Terms. The trustee is obligated to trustee’s duties, some of which may be administer the trust strictly by its terms. The specified in the governing instrument and trustee must be guided in all acts by the trust some of which may be explicit or implicit in instrument, including any amendments, and, applicable state and federal law. To perform unless there is an absence of direction or those duties, trustees are given powers, and ambiguity, must be limited by the intent some of those as well are specified in the apparent from the face of the trust governing instrument while others are instrument. Therefore, it is critical that the explicit or implicit in applicable state or trustee read and understand the entire trust federal law. Following overviews of those instrument. To the extent the trustee needs subjects, this Guide will offer practical and guidance in interpreting the terms of the administrative points to consider when trust, he or she should seek advice from a addressing what it means to be a trustee and qualified attorney. points to think of in choosing a trustee or deciding whether to become a trustee. Duty of Skill and Care. The laws of most states require that a trustee administer GENERAL DUTIES OF A the trust with the care, skill, prudence, and TRUSTEE diligence that a person familiar with the job of serving as a trustee would use in the A trustee stands in a special relationship conduct of the trusts’ activities to of fiduciary responsibility to the grantor of accomplish the purposes of the trust. Thus, the trust and to the beneficiaries. In carrying even if a trustee has never previously served out his or her fiduciary duties, the trustee in such a capacity, he or she will be held to a must be mindful of that unique relationship. high standard of performance. The starting point is the trustee instrument and its specification of what the trustee is to Duty to Give Notices. The trustee must do to accomplish the purposes for which the read the trust provisions carefully to trust has been established. For example in determine the circumstances in which he or the case of the simplest trust disposition, the she is required to give notice to

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

beneficiaries, co-trustees, and successor vary from state to state, and may depend on trustees. For example, trusts typically the value of the trust and the number and require notice of a trustee wishes to resign, sophistication of the beneficiaries. delegate powers to another trustee, or Generally, the trustee is required to provide designate a successor trustee. Some trusts an accounting to each beneficiary to whom give beneficiaries rights of withdrawal out income or principal is required or authorized of new contributions to the trust, or upon in the trustee’s discretion to be currently attaining a particular age, and the trustee distributed. It may also be appropriate to must be careful to give notices to the furnish remainder beneficiaries4 with an beneficiaries of their withdrawal rights in accounting. those situations. In trusts which authorize the trustee to name a professional Duty Not to Delegate. Generally, the investment advisor, there is often a trustee has a duty not to delegate to others requirement that the beneficiaries be given the performance of any acts the trustee can written notice of such action. Similarly, reasonably be expected to perform notice of delegation in investment functions personally, particularly acts involving the may be required by statute in states which exercise of judgment and discretion. The have adopted the Prudent Investor Rule, trustee should keep records documenting the including Texas. basis for any significant decision. The trustee may employ agents, such as Duty to Furnish Information and to attorneys, accountants and investment Communicate. The trustee has the duty to advisors, to advise or assist in the keep the beneficiaries, who may be eligible performance of administrative duties. The to receive trust distributions, informed trustee may not, however, blindly follow regarding the trust and its administration. their advice. Although some states The trustee should provide the beneficiaries specifically authorize the trustee to delegate with information about the assets of the trust investment functions to a professional and the trust’s investment performance, and investment advisor, the trustee must still should provide such eligible beneficiary maintain supervisory responsibility. The with other information about the trustee’s trust instrument may authorize a trustee to acts and the administration of the trust delegate some or all of his or her powers to a which is relevant to the beneficiary’s co-trustee. interest. The trustee also should provide any additional information reasonably requested Duty of Loyalty. The trustee is by such beneficiary. obligated to administer the trust solely in the interests of the trust beneficiaries. The Duty to Account. The provisions of trustee may not engage in any act that puts most trust instruments and the laws of most his or her personal interests in conflict with states require that the trustee periodically those of any of the trust beneficiaries. provide the current trust beneficiaries with a written accounting of the assets, liabilities, 4 The terms “remainder beneficiaries” and receipts, and disbursements of the trust. The “remaindermen” mean those beneficiaries to whom the trust property is to be distributed, pursuant to the form and frequency of the accounting will trust instrument, when the trust terminates.

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

Duty to Avoid Conflict of Interest. asset allocation program. That duty begins The trustee has a duty not to use trust as soon as the initial assets are received by property for his or her personal gain or for the trustee. The trustee should become any other purpose unconnected with the familiar with the specific investment trust, nor to take part in any transaction in directions given in the trust investment, and which the trustee has an interest adverse to a also must know the investment directions beneficiary. In general, the trustee may not and restrictions under governing state law. use trust assets in any manner that benefits In those states which have adopted the the trustee personally, even if there is no Prudent Investor Rule, such as Texas, a loss to the trust. The trustee should consult trustee who is not a professional investor with an attorney regarding any proposed would be well advised to delegate transactions which the trustee suspects investment functions to a professional might violate this rule. Note, however, that investment advisor. An overall concept to the trust instrument may authorize the keep in mind is that a trustee must be trustee to engage in a transaction which prudent in his or her handling of trust would normally constitute a prohibited investments. This requires that the trustee conflict of interest; for example, if the determine the financial needs and risk trustee is a beneficiary, or is related to a tolerance of the beneficiaries in establishing beneficiary, the trust instrument may the investment objectives and program for authorize the trustee to buy designated assets the trust. from the trust. Duty to Enforce and Defend Claims. Duty to Segregate Trust Property. The trustee has a duty to take reasonable The trustee has a strict duty not to comingle steps to enforce claims on behalf of the trust personal funds or other non-trust assets with and to defend the trust against adverse the property of the trust. Trust property claims. In deciding whether to enforce a must be separate at all times from the claim, or defend the trust against a claim, the trustee’s personal funds. For example, trust trustee should consider the economic accounts at banks and other financial realities of the situation. If the costs of institutions must be segregated from enforcing or defending a claim outweigh the personal accounts, and held in separate potential benefit to the trust, the trustee may accounts which are designated as property of be well advised to settle or abandon the the trust. claim. A successor trustee may be obliged to examine the acts of a prior trustee to Duty to Invest. The trustee has the duty determine if a possible claim exists against to invest trust assets in a manner which is the prior trustee in favor of the trust. appropriate for the particular trust. Exercise of that duty is what probably comes to mind Duty of Confidentiality. The trustee initially when one thinks about what it should keep the affairs of the trust means to be a trustee. Unless otherwise confidential, unless otherwise required by required by the trust investment, the trustee law. For example, the trustee should not will generally have a duty to diversify disclose the terms of the trust, the identity investments and determine an appropriate and interests of the beneficiaries or the

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

nature of the trust assets to anyone who is locally within courts and legislatures not a beneficiary of the trust or who does not throughout North America. Since the need this information to assist in the middle of the Twentieth Century, “uniform administration of the trust. In addition, the acts” and “restatements,” as well as trustee should keep confidential any regulation of financial institutions that personal information he or she has learned provide trust services have brought some about the beneficiaries through serving as unity and innovation to harmonize diverse trustee. local rules.

POWERS OF A TRUSTEE With such a rich and sometimes confusing library of how a trustee can On becoming a trustee one enters a operate, it can be reassuring to know that relationship which is governed by rules and lawyers with relevant experience are bounded by limits. A trustee who thinks of available to help set the course and to himself or herself as controlling the provide course corrections from time to relationship is far more likely to encounter time. serious trouble than a trustee who recognizes that the more practical characterization is Although there are risks in that of a faithful partner with the grantor and generalization, the operating principle in the beneficiaries, in fulfilling the trust’s most instances is as follows: (a) if the purposes. governing instrument clearly allows an action to be taken, it may be taken if the Other sections of this Guide describe trustee believes it appropriate and fair to the what must be done or achieved by the beneficiary, or (b) if permitted by state law trustee, and to some extent what shall not be the action may be taken even if the trust done. This section addresses instrument lacks sufficient specificity, but “administrative powers,” which generally (c) if the instrument and state law are silent, enable the trustee to perform his or her and the action to be taken sufficiently duties and to achieve the assigned material the trustee may petition a local objectives. The governing instruments for probate court or other court having most modern trust relationships contain lists appropriate venue and jurisdiction, for of “powers and authorities,” describing such instructions as to the action to take. things as types of permissible investments, the manner by which trust property may be INVESTING TRUST ASSETS bought, held and disposed of, and how discretionary elections and other decisions State law governs what investments are may be made. Beyond what is in the appropriate for trust assets. The trust governing instrument lies a large body of investment can also expand or reduce the trust law which the trustee must heed. The limits of state law as to what are appropriate common law of trusts has grown over trust investments in a particular trust. The several centuries, largely originating in the law of trust investments is undergoing English courts and Parliament, and dramatic change. The governing instrument subsequently selectively adopted and varied

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

should be reviewed with that in mind, by an Modern Portfolio Theory through the attorney who specializes in trusts. Prudent Investor Rule.

Historically, most trusts have been Investment strategy must also be guided drafted to require that the trustee distribute by the purposes of the particular trust, and income to one beneficiary or several the nature of the assets held in the trust. In beneficiaries and hold the principal for the determining a strategy, the trustee must remainder beneficiaries or ultimate consider the expected duration of the trust, beneficiaries. In deciding upon investments, the needs of the beneficiaries and applicable then, the trustee owes a duty of impartiality tax consequences. to both sets of beneficiaries. Therefore, the job of investing trust assets has been viewed Trustees have always been under a duty as requiring a balance between income and to diversify trust investments by common capital appreciation. For many years, state law, but the newer laws designed to laws created lists of legal investments for accommodate Modern Portfolio Theory trustees. A trustee was protected from particularly emphasize the importance of liability for investing in the listed securities. diversification.

The late 1950’s saw the birth of an DISTRIBUTING TRUST ASSETS approach to investing often called Modern Portfolio Theory. That Theory’s premise is One of the fundamental duties of a that risk can be quantified and that risk and trustee is to make appropriate distributions return work together over time. Also, the to designated beneficiaries. While that theory holds that asset allocation, rather than obligation of the trustee is basic to the market timing or security selection, is a administration of a trust, it is also a matter of primary determinant of portfolio substantial importance and potential liability performance. Maximizing current return to the trustee. This is compounded by the might be inconsistent with maximizing fact that many trust investments give the “wealth.” Investment professionals now trustee broad discretion in the determination typically concentrate on portfolio design to of beneficiary distributions, both as to maximize “total return,” without regard to timing and amount. The issues surrounding whether particular assets are held for distributions to the beneficiary are relevant production of interest or dividends or capital not only during the existence of the trust but gains. The laws governing trust investments also at the termination date when final have struggled to accommodate those distributions are required. modern investment theories. National Required Distributions during the organizations of trust lawyers and law Existence of the Trust. Assuming the school teachers have designed model laws, language of the trust instrument is clear and including “Prudent Investor Rule” and “total unambiguous, the nature of required return” statutes, to enable trustees to employ distributions to a beneficiary during the Modern Portfolio Theory, and most but not existence of the trust are generally all states have adopted those laws. understood by both the trustee and Currently, Texas allows trustees to employ

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

beneficiary. If the wording of the trust powers. One typical approach is to provide instrument is not clear, or is ambiguous, the the trustee with authority to make trustee may need to seek judicial distributions to the beneficiary to provide for interpretation. It is common for a trust to the beneficiary’s “health, education, support contain provisions requiring the distribution and maintenance.” Even so, such to a beneficiary of all net income earned descriptive wording describing the grantor’s from the trust assets. While the required intentions regarding support distributions income distribution may be clearly stated in (often called “ascertainable standards”) will the trust instrument, it does put considerable require substantial judgment by the trustee importance upon the trustee’s proper in determining the needs of the beneficiary. allocation of receipts between the income The trustee may find it necessary to secure and principal of the trust and also upon the data from the beneficiary to justify the selection of appropriate investments. exercise of the discretionary distribution Another common form of required power. The trustee may also find it distribution is a specific dollar amount necessary or appropriate to consider the payable on a regular basis to the beneficiary. other resources of the beneficiary before That dollar amount may be calculated in making such discretionary distributions. All many different ways, such as a percentage of of those possibilities may be more the current value of the trust assets, as a specifically provided for in the trust fixed dollar amount, or as a combination of instrument, or it may be that the trustee must the two. rely upon the trustee’s experience and the trustee’s own independent judgment and Discretionary Distributions during the evaluation. Existence of the Trust. It is also common for the terms of the trust instrument to give Termination Distributions. The final the trustee certain discretion in making distribution which the trustee is required to distributions to the beneficiary during the make is the allocation of assets among the existence of the trust. Those discretionary appropriate recipients upon the termination distributions may be coupled with other of the trust. It is not unusual for the trustee required distributions or may be the sole to seek judicial authority for such method of making distributions to the termination distributions, even though the beneficiary. The provisions concerning trustee may have operated the trust discretionary distributions may vary widely independently of court supervision up to that among trust instruments. For example, the time. Determining the appropriate trust instrument may provide the trustee with beneficiaries and their respective distributive discretion to make distributions to the shares, and the powers of actual transfer of beneficiary without any guidelines or assets, are all important aspects of final without any limitations upon the trustee’s distributions. authority. On the other hand, the terms of the trust instrument may provide the trustee Total Return Trusts. With the with written guidelines within which to acceptance of Modern Portfolio Theory it exercise the discretionary distribution has become increasingly apparent that traditional principles of allocating receipts

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

between income and principal may cause provisions are varied and sometimes needless conflicts between the trustee and complex, and require careful thought and the beneficiaries. That conflict is most reliance upon qualified legal counsel in their clearly demonstrated in the circumstance of drafting and implementation. a beneficiary receiving the income for a fixed period of time and the principal being RECORDS AND ACCOUNTINGS distributed to another beneficiary at the termination of that fixed period. While the Overview. To serve responsibly a beneficiary whose interest relates solely to trustee must keep clear trust records and income distributions will seek to maximize provide accountings to beneficiaries. the allocation of receipts to the income Records and accountings are management account, the beneficiary who is destined tools that are the basis for critical actions of eventually to receive the principal will the trustee, including creation of a prefer to maximize the allocation of receipts thoughtful investment policy, selection of to principal. That divergence of interests asset managers, administration of illiquid can become difficult for the trustee to assets such as a closely-held business or real resolve, because some assets may provide estate, strategic income and wealth transfer greater income and less principal tax planning, and, of course, beneficiary appreciation while others may provide less reporting. A trustee who is unable to income and greater principal appreciation. account for the trust estate properly will As a result, there is a developing approach likely have difficulty succeeding in a legal to trust distributions encompassed under the proceeding, and may even be removed or umbrella description of “total return trust.” suffer a loss of compensation or be charged Although that subject is beyond the scope of with personal financial liability. this Guide, it does justify a simple comment. General Records of the Trust. Among the many developments under the Virtually all trusts hold financial assets, and “total return trust” approach are statutory those assets occasion written records such as changes made in Texas and other states, bank statements, cancelled checks, allowing the trustee to modify or “adjust” brokerage statements and security trade the allocation of receipts between income confirmations. Other asset classes such as and principal to more properly reflect the real estate will also have a routine set of interests of the beneficiaries, rather than records. Copies of filed tax returns are also having to use traditional rules of allocation. a standard part of trust records. All trust Another version of “total return” legislation records are important for legal and tax allows for the conversion of a mandatory purposes and need to be retained in an payment of net income into an annuity or orderly fashion. Reasonable record keeping unitrust interest (typically in the range of 3% is an inherent part of all trustee duties, to 5% of the prevailing aggregate value of particularly the duty to account. Moreover, trust assets). There also are other methods trust beneficiaries usually have a right to of distribution which are not tied to the inspect trust records, subject to legal traditional income and principal allocation limitations in some cases. Appendix B concept. The form and language of those

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

contains a list of typical records that trustees all transactions during a particular period of keep. time. Accountings for prior periods are also essential when there is a change of trustee, Records of Trustee Actions. Trustees to ensure that the successor trustee begins often are authorized by the trust instrument his or her responsibilities with full to make discretionary decisions. Those are knowledge and a clean slate. nonrecurring events and need to be documented clearly. For example, a trust Form of Accountings. While there is a instrument may authorize the trustee to trend towards uniformity in trust distribute trust principal for educational accountings, the proper form of a trust expenses. If the trustee exercises that accounting varies depending upon discretion and makes a payment, the applicable local law, local practice and the decision should be supported by specific circumstances of the trust. Most memorandum or correspondence. Records accountings should be prepared on an annual of trustee actions can be highly formal (a basis and should show initial assets, income vote of co-trustees on the sale of a business) and principal transactions and assets on hand or informal (the letter by which a at the end of the year. Obviously, accuracy beneficiary requested a payment which the and completeness of accountings, and the trustee made), but some such written support efficiency of their preparation, will depend is essential. upon the trustee maintaining accurate and orderly trust records. Indeed, if a trustee’s Trust Accountings. The beneficiaries actions are challenged in court the quality of a trust have a legal right to receive and accuracy of the accountings and records sufficient information about the trust to could have a material effect on the outcome protect their beneficial interests in the trust. of the case. That legal principle is the foundation of the trustee’s legal duty to account to the COMPLIANCE WITH TAX LAWS beneficiaries, and provides the basis for prudent trust management. In addition to A trust is normally a “taxpayer,” with its requiring trustees to account to beneficiaries, own tax identification number and the law offers mechanisms for trustees to obligation to file income tax returns with the have their decisions and actions approved, United States Treasury and probably with at thereby defining the scope of their liability. least one state or other jurisdiction, and to For example, a trustee may seek to have the pay taxes due including estimated taxes if trust beneficiaries consent to a specific required. transaction or to all transactions and trustee decisions during a specified time period. The trustee must comply with transfer Trustees who are subject to direct court tax laws such as the estate tax and jurisdiction may be required to submit generation-skipping tax and the rules for accountings for formal judicial approval. filing of relevant returns and payment of Even absent such requirement, a trustee may those taxes. seek protection and finality by asking a court for approval of specific matters or of

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

Income Taxes. Trusts generally are tax- Generally, the trust pays tax on net paying entities, but many trusts do not pay capital gains realized by the trust, even if income taxes. It is important for the trustee principal is distributed to beneficiaries in the to understand the nature of the income same year, although there are some taxation of trusts, or to retain an advisor who exceptions to that rule. will provide assistance in this regard. State laws for taxation of trust income vary Other Income Tax Considerations. widely from state to state, and although Assets included in the gross estate of a Texas does not impose tax on trust income, deceased trust grantor receive an adjustment even a Texas trust may be subject to income in tax basis for Federal income tax purposes tax in one or more states. A significant at the grantor’s death, subject to special factor is that the federal marginal tax rates rules. That adjusted basis is a factor that a on trust income are severely compressed trustee needs to consider in deciding with the top marginal rate imposed on whether to distribute trust assets during the modest amounts of trust income. grantor’s lifetime, rather than continuing to hold them until the grantor dies. A similar For Federal income tax purposes, there analysis would be required when a trustee are three types of trusts (other than those for considers whether to retain a power which charitable purposes). In the case of simple would cause the inclusion of the trust assets trusts, which are those required to distribute in the trustee’s estate, or to renounce that income currently, the recipient beneficiaries power in order to keep the trust assets out of pay the tax on whatever income is taxable, his or her estate. which may include the value of non-cash assets actually distributed as well as certain Charitable Trust. Special provisions of income which may not have been the tax laws apply to trusts established distributed. In the case of complex trusts, entirely or partially for charitable purposes. which are those whose trustees have Even if income is exempt from tax, the discretion over whether income is trustee will probably be required to file tax distributed to the beneficiaries, any income returns. Special assistance of qualified tax not distributed to the beneficiaries during the counsel should be obtained. taxable year of the trust will be taxed to the trust, while income which is distributed is COMPLIANCE WITH OTHER taxable to the beneficiary who has received GOVERNMENT REGULATION it. Income of grantor trusts is taxed to the grantor, whether distributed or not. That A trustee should acquire at least a third type includes revocable trusts, but it general idea of the impact of the securities may also include certain irrevocable trusts, laws as they apply to persons who invest but it may also include certain irrevocable other people’s money. The applicable body trusts due to special tax rules that may cause of Federal law is the Investment Advisers a person having certain powers over the trust Act of 1940, and there are complementary to be treated as “grantor” of the trust for state statutes in effect in each of the fifty income tax purposes. states. Texas has enacted its version known as the “Blue Sky” laws. A person

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

undertaking an occasional trusteeship, and A TRUSTEE’S CHOICE, USE not on a professional basis, may have no AND COMPENSATION OF involvement with those laws, but every ADVISORS AND SERVICE trustee is well advised to seek qualified legal counsel for guidance as to the need to PROVIDERS register or otherwise comply with those Upon undertaking a trusteeship an laws. individual trustee must provide for a variety It is sometimes necessary for a trustee to of services to implement the administration comply with the requirements of other of the trust. Those services will be required authorities, quite separate from those to fulfill some or all of the following administering securities laws or tax laws. functions:

Courts of probate jurisdiction exercise (a) arranging for safekeeping of trust broad authority over many categories of property; trusts, particularly those provided under (b) maintaining an accurate and efficient decedents’ Wills. All practicing lawyers system for processing and accounting for the who are familiar with probate law practice receipts, disbursements, investments and will know the requirements for such distributions from the trust on a timely basis; procedures as the following: being appointed trustee, posting required bonds (e) engaging competent counsel to and, if required, sureties, obtaining judicial advise on legal and compliance issues, instructions when necessary, and submitting including compliance with the requirements proper accountings to the court, the of any court which has jurisdiction of the beneficiaries, and, when there are charitable trust; interests, to the state attorney general or other legally designated overseer of (f) obtaining competent fiduciary income charities. tax return preparation services;

In all types and areas of compliance with (g) engaging competent advice for the laws and regulations, and throughout the continuing investment of the trust property; course of administering a trust, the trustee and should seek qualified legal advice as to peculiarities of local law and any aspect (h) providing adequate liability and which is not thoroughly within the fidelity insurance. knowledge of the trustee. Many of the foregoing services are available through a single provider, such as a suitably equipped bank, trust company or law firm. In other instances the services will be “unbundled,” meaning that different aspects will be furnished by separate individuals or organizations. Although the

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

trustee may delegate some of those functions Presumably the trustee will pay outside to outside providers, the trustee is ultimately organizations or individuals for the services responsible to the beneficiaries for the they provide to the trust, such as custody, proper administration of the trust. In this accounting, tax and investment advice. regard the trustee may aptly be considered to While it is appropriate, depending on the be the “captain of the ship.” Thus, the terms of the governing instrument, for trust trustee must make sure that any service funds to be used to pay for these services, provider he or she engages for the trust is the trustee should review the costs of fully capable of handling the assigned task administering the trust (including the and has adequate information to do so on an trustee’s own compensation) to make sure ongoing basis. that the total is reasonable and does not exceed the amount allowable under the While the trustee may delegate certain governing instrument or the law of the state trust functions to an outside provider, he or where the trust has its situs or “legal home.” she should recognize that some decisions or responsibilities are personal to the trustee A TRUSTEE’S COMPENSATION and cannot be delegated to anyone. Most AND LIABILITY importantly, the trustee alone must determine how, when and to whom trust A trustee who performs the prescribed property will be distributed. The trust duties, and who does not exceed the proper instrument will frequently describe those limits upon the trustee’s powers, is entitled functions that the trustee is required to to financial compensation for his or her carryout “in his or her sole and absolute services. Conversely, a trustee who fails to discretion,” such as deciding whether to perform duties properly, or who exceeds make a discretionary distribution of trust limits on powers, may have legal liability to property or whether the trust should be the trust and its beneficiaries. terminated before the specified termination date. Trustee compensation is governed by laws of the state in which the trust is For many years the laws of most states administered and also by the terms of the required a trustee to make all investment governing instrument. In some states, but decisions and did not allow those decisions not Texas, a fee schedule is set out by statute to be delegated to an investment advisor. or court rules. Alternatively, a fee schedule However, “Prudent Investor Rule” statutes may be described in the governing enacted recently in many states, including instrument. Otherwise, trustee Texas, do permit the trustee to delegate compensation is generally governed by investment decisions to an independent accepted standards of reasonableness in the advisor provided he or she exercises jurisdiction. Criteria for determining reasonable care in selecting the advisor, reasonable compensation may include (i) the establishes that the delegation is consistent degree of risk and responsibility assumed by with the terms of the trust, and monitors the the trustee, (ii) the time required of the investment performance on a regular basis. trustee (as supported by detailed time records), (iii) the value of the trust estate and

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

its income, (iv) customary fees charged in Trustee Liability. A trustee can the community by other trustees, (v) become personally liable for a breach of whether or not extraordinary services were duty as trustee when the breach results in a required of the trustee, (vi) the novelty and loss to the trust; however, the trustee is not a difficulty of the issues involved, and (vii) guarantor of the principal and income of the other relevant factors. Generally, the trustee trust and usually will not be liable for losses is entitled to draw fees whenever he or she that occur despite faithful performance of believes it appropriate after the services his or her duties. Grantors commonly have been rendered. The trustee is also provide in trust instruments that a trustee entitled to reimbursement for out-of-pocket may have some measure of exemption from costs that have been incurred. In Texas and liability. Different states have different many other states, trustee’s fees are guided provisions regarding accounting and by the reasonableness standard and are whether such an accounting starts the statute subject to local court review, but prior court of limitations running so that after the approval is not necessary to pay relevant period of time the trustee would no compensation to a fiduciary. In some states, longer be liable for an act which had however, prior court approval is required occurred in the past. Texas has a four year before a fee may be paid to the fiduciary. If statute of limitations for claims based on there is more than one trustee, in some breach of fiduciary duty. The trustee may jurisdictions trustee’s fees up to the statutory also be liable for the actions of agents such amount may be paid to several trustees (i.e., as an investment manager, unless there is in come states if a trust exceeds a certain specific authority for delegating size, up to three trustees can be paid the responsibility to the agent and relying on the statutory amount). In other jurisdictions a agent’s advice. For example, some trust reasonable fee is the total amount permitted instruments and some state laws, such as the to be paid for all trustees and must be laws of Texas, provide that if an investment divided between them as agreed upon. Fees manager is selected with care, and the paid to attorneys, accountants, investment actions of the investment manager are managers, and the like may be separate and reasonably monitored form time to time, the in addition to the trustee’s fee; however, to trustee is not personally liable for losses the extent that those fees are for services from investments chosen by the investment normally provided by a trustee, they may manager. In states, like Texas, which have reduce the compensation to which the enacted the Prudent Investor Rule, a trustee, trustee is entitled. with advice of legal counsel, may wish to look into possible options for delegation of If an individual trustee is a member of investment decisions to a qualified the beneficiary family, particularly if not a investment advisor, and, at least in theory, to trained or professional fiduciary, it should be relieved of liability if he or she performs be made clear in the governing instrument the required degree of monitoring of the whether or not the trustee is to be entitled to work of the investment advisor. compensation.

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

Removal. In addition to potential appointment, (b) the resigning trustee’s liability of a trustee, an additional remedy obligation to furnish accountings to the may exist for aggrieved beneficiaries. A beneficiaries, and (c) the delivery of the trust court having jurisdiction over the trust assets to the successor trustee. generally will have power to remove a trustee in cases where there has been a Resignation by Judicial Procedures. If breach of duty by the trustee or other the trust was created under a Will, or if it is misfeasance. Further, it is sometimes already subject to current supervision of a provided in trust instruments that court, the rule is quite common that the beneficiaries have the power to remove a trustee must petition the court having trustee, either with or without cause. jurisdiction for permission to resign, regardless of the provisions contained in the RESIGNATION Will. Likewise, if an inter vivos trust instrument does not provide a clear and There is perhaps no more powerful specific procedure for resignation, the measure of the seriousness of an trustee would have to petition the court appointment as trustee than the fact that having appropriate equity jurisdiction over once the appointment is accepted the trustee the trust for permission to resign. The court generally may not unilaterally resign or may accept the resignation of the petitioning refuse to continue acting for the trust. There trustee and appoint a successor trustee, but are two major exceptions. First, the the court does not necessarily have to do so. provisions of the trust instrument may The primary concerns of the court will be provide a method for resignation and even that the trust assets be preserved and that the establish a procedure for appointment of a trustee’s resignation is in the best interests successor trustee. Second, the trustee may of the trust’s beneficiaries. The court will follow applicable legal procedures to secure usually insist upon (a) the availability of a a court approved resignation. Those suitable successor trustee who is willing to exceptions, however, are not substitutes for accept such appointment, (b) the resigning the trustee’s careful consideration of all trustee’s obligation to furnish accountings to relevant circumstances before accepting the the beneficiaries, and (c) the delivery of the trusteeship. trust assets to the successor trustee.

Resignation by the Terms of the Trust CHOOSING TRUSTEES Instrument. The trust instrument may provide the trustee with a method of At least one trustee must be named when resigning as well as a procedure for the a trust is established. That may be qualified appointment of a successor trustee. If such individual or an institution having trust language is clearly contained in the trust powers under applicable law. Successors instrument, the trustee must follow those also may be named, in case the initial or written provisions. That should include prior trustee resigns or otherwise ceases to attention to (a) the trust instrument’s serve. Sometimes a trust instrument will procedure for the appointment of a successor describe a procedure by which successor trustee who is willing to accept such trustees are to be selected.

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

The duties and responsibilities of a person a co-owner or business partner in a trustee are varied. Some consider it difficult business or entity that will have to be for one individual to carryout all of the administered by that person as trustee? duties and responsibilities of a trustee; Would selecting a different person be more however, an individual trustee may, in most desirable in those cases? cases, engage the services of advisors to assist the trustee. The other option is to Availability and Communication. name a corporate trustee, intending that the Geographic proximity to the beneficiaries is corporate trustee would undertake all of the usually desirable, but the technology now duties and responsibilities of a trustee itself, available reduces the impact of this factor. without delegating them. (References to a Nevertheless, a key consideration in “person” in the following text will include selecting a trustee is the likelihood that the corporate as well as individual trustees.) trustee will be available to the beneficiaries of the trust and will be a good What are the primary considerations in communicator. A lack of communication deciding whom to select to the trustee? skills or a reluctance of the trustee to be available to the beneficiaries may cause Responsibility and Reliability. The problems over the years. trustee selected should be a person who can be relied upon to carry out his or her duties Term of the Trust. How long a trust is in a timely and responsible manner. If there anticipated to last may impact the choice of is any question whether that will be difficult trustee. A person who is aging rapidly, has for that person to accomplish, then perhaps a health problems, or is too busy, would co-trustee, with capabilities that complement generally not be a good candidate for a long- those of the other trustee, should be term trusteeship. Also, for longer duration considered. trusts, a succession of trustees should be provided. A corporate trustee can usually be Experience and Expertise. A candidate counted on to be available for the duration for trusteeship should have had experience of a longer term trust. as a trustee or at least analogous experience. Is there particular expertise that the Fees. It is generally understood that candidate would bring to the task, given the corporate trustees charge fees based on a type of assets likely to be administered and percentage of the trust’s income or principal, the problems to be faced? What are the or both. In smaller trusts that can be opinions of others who have dealt with the expensive (especially where minimum fees candidate in relevant circumstances? are used). Family members often serve without fees, or with relatively minor fees, Conflicts. Does the candidate occupy a but they usually need to hire and position that might create conflicts of compensate investment advisors, interest, real or imagined? For instance, is accountants or attorneys to assist them in the person a family member who has carrying out their duties. Generally, those problems dealing with other family fees can be negotiated, and may be payable members who will be beneficiaries? Is the

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

out of trust assets if the trust instrument or to enable the new trustee to obtain title to local laws permit. the assets. The successor trustee, like an initial trustee, has the duty to see that all the Summary. The various considerations assets are collected. above must be weighed in determining who would be best suited to act as a trustee. As the foregoing discussion implies, it is There is not always a good or clear answer. often desirable to arrange for two or more Because the initial selection may not work trustees to serve concurrently, rather than to out, it is advisable to build into the trust have one serving alone. Especially if the agreement a process for the trustee to resign potential sole trustee is to be an individual, or for the adult beneficiaries (or some rather than a corporate trustee, there can be designated third party) to remove the trustee tremendous advantages in having co-trustees and, in either event, to appoint a successor to share the required exercises of judgment, trustee. Trusts are not static. The types of as well as to assure continuity if one of them assets being administered, as well as other becomes unable to perform. In fact, even needs of the beneficiaries, are apt to change with a corporate trustee it is often desirable significantly over the years. In selecting a to appoint an individual co-trustee to serve trustee one should anticipate the changing concurrently to provide a personal touch and nature of the trust’s assets and the changing oversight. composition of the group of beneficiaries as well. AFTERWORD

In the event of resignation or removal or To summarize, a trusteeship requires a trustee’s death a successor trustee must be many disciplines, such as: painstaking appointed. Often the trust instrument will attention to detail, dogged emphasis on the name a successor and the successor can safety of the trust’s assets, a prudent and either accept the appointment or not. If the appropriate effort to maintain and enhance former trustee is still alive, the former the investment value of the trust assets, trustee has the duty to transfer all assets and awareness and management of continuing pertinent records to the successor. In the cycles of deadlines, and adequate event of the death of an individual trustee maintenance of communications with the responsibility for those actions would beneficiaries. fall upon the personal representative of his or her estate. If there is a successor trustee The authors remind you that this Guide appointed by the trust instrument, generally comprises a consensus of suggestions and a financial institution or title company will considerations, and that no written words, recognize the affidavit of death of the set down at one time, can fully describe all former trustee signed by the successor of the contingencies which may occur in the trustee together with a copy of the trust future to test the trustee and, ultimately, the instrument as sufficient to pass title. person or persons who appointed the trustee. Alternatively, if the court has appointed a Given those limitations, the over-riding successor trustee, the certificate of quality of a trustee should be sound appointment by the court will be sufficient judgment, and the ability to exercise that

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

judgment fairly in the myriad of circumstances which may arise as long as the trust continues.

The accuracy and applicability of issues raised in this Guide, and the possibility that there may be other relevant issues not raised here, should be addressed by your attorney in the context of the laws and practice in the jurisdictions whose laws govern the particular trust.

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

APPENDIX A TYPES, PURPOSES AND PROVISIONS OF TRUSTS

Trusts in our era almost always are included in the taxable estate of the grantor. established by the terms of a written Other types of irrevocable trusts are instrument, which may be the Will designed to hold lifetime gifts, as, for previously executed during the lifetime of a example, where the beneficiaries are minor person who has died, or it may be an inter children or are otherwise incapacitated and vivos instrument executed by a living person unable responsibly to manage the donated and which is effective immediately. assets.

Trusts are created for a variety of Testamentary Trusts. Testamentary purposes, but there are a few typical trusts trusts are created under the will of someone that are the ones used most often in estate who has died and thus come into being only planning. Understanding the type and at the death of that person. purpose of the trust is key to understanding the duties of the trustee. In common usage Common Separate Trusts. Either in a the governing instrument may be loosely Will or in an inter vivos trust a married referred to as the “trust”, but strictly person might create subtrusts that would speaking the “trust” is the legal entity come into effect upon the death of created under the instrument governing it. whichever spouse dies first, and then continue for the lifetime of the surviving Inter Vivos Trusts (Including “Living” spouse. Examples would be “marital Trusts). Inter vivos trusts are trusts created deduction trust” intended to qualify for the during the lifetime of the grantor. Inter estate tax material deduction and a “credit vivos trusts are either revocable or shelter trust” or similar entity designed to irrevocable by the grantor. Inter vivos trust hold assets qualifying for the grantor’s instruments are most typically called exemption from estate tax. Such trusts often “agreements” or “indentures”, or sometimes also provide separate shares for children or “declarations” if the grantor is the trustee. other ultimate beneficiaries. Inter vivos trusts which are revocable are commonly referred to as “living trusts” and Generation-Skipping or “Dynasty” are often created to hold assets in the Trusts. Trusts that are intended to take expectation that they should not be subject advantage of the exemptions from the to the probate court process following the federal generation-skipping transfer tax, death of the grantor. Living trusts benefiting distant or multiple generations of commonly continue after the disability or a person’s descendants, are sometime called death of the grantor and the trust instrument generation-skipping or “dynasty” trusts. spells out the subsequent terms of the Charitable Split-Interest Trusts. ongoing trust. One common type of Another common type of trust would benefit irrevocable inter vivos trusts is insurance one or more individuals and one or more trusts that are designed to hold life insurance charities, often called a “charitable split- so that the insurance proceeds are not interest trust”. The federal tax law imposes

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

strict restrictions on the types of charitable split-interest trusts that quality for the charitable income tax and estate tax deductions. A common type of charitable split-interest trust is a charitable remainder unitrust that benefits a family member or members for life or a period of years, after which the trust estate is to pass to one or more charities.

Changing the Terms of a Trust Instrument. Generally a trust instrument provides explicitly whether it is “revocable” or “irrevocable”. If a trust instrument is revocable, it may be changed by the grantor or someone else, by following the procedures established under the trust instrument. If a trust instrument is irrevocable, it cannot be modified unless a court having jurisdiction over the trust orders a modification, following what is essentially a trial involving all persons interested in the trust. Under certain circumstances the court will allow a modification of the terms of the trust and/or its termination if all the beneficiaries, including representatives such as guardians ad litem for unborn beneficiaries, consent to the change or termination. For example, a Will may have created a trust that was of sufficient size to be practicable when the will was written, but with the passage of time it may become so small as to be uneconomical to administer and the court might order the distribution of the trust assets to such of the beneficiaries as the court determines would most closely honor the intent of the decedent.

THE BLUM FIRM, P.C. THE RIGHT FIDUCIARY

APPENDIX B A LIST OF TRUSTEES’ TYPICAL RECORDS

Legal Records Record of adjustments between principal and income (if permitted by local law) and Governing instrument(s) (including basis for same disclaimers or documents exercising a power of appointment) Record of selection/change of advisors (legal, investment, or tax) and basis for same Written evidence of the resignations and appointments of trustees, preferably the Financial Records signed resignations and appointments themselves. Tax returns (income, gift, estate, real estate, employment, etc.) Court filings with respect to the trust (e.g., accounts, petitions for adjudication, Asset and transaction statements schedules of distribution, petitions for Deed, certificate, etc. of any non-financial appointment or resignation of trustee, with asset owned by the trust all attendant papers) Tax basis of trust assets Court judgments and decrees with respect to the trust and its trustees Appraisals of trust assets

Out-of-court agreements regarding Accountings administration/distribution/termination of the trust Operational Records

Agreements with respect to trustee All correspondence sent or received by the compensation (including fee schedules, trustee in his or her role as trustee formal waivers, etc.) Current family tree for beneficiaries Tax receipts with respect to the trust fund For each beneficiary: name, tax Legal opinions furnished by counsel to the identification number, address, telephone trustees numbers and email addresses; date of birth, adoption, marriage, divorce, and death; and Record of discretionary actions taken, and circumstances, if any, of incapacity the basis for same For each trustee: name, address, telephone Record of investment decisions made, and numbers and email address the basis for same