Advising the Trustee - Issues for the Financial Advisor to Consider

by C. Kelley Corbridge & Daniel A. Bechtold, Attorneys at Law

Responsibilities of fiduciaries, whether they act as Trustees, Guardians or Personal Representatives, has never been more complicated, with more duties and areas of specific responsibility. Similarly, there has never been a time when fiduciaries are more at risk of personal liability for failure to understand and document their responsibilities. In fact, fiduciary litigation has evolved over the last decade into a significant area of potential liability for the unwary fiduciary.

Typically individuals named as fiduciaries have relatively limited experience in investment management, estate and income tax planning, fiduciary responsibilities and principal and income accounting. To complicate matters further, fiduciaries must be aware of their ongoing responsibilities under the continually changing Florida estate, trust, and guardianship rules and the IRS tax code and regulations.

At the death or incapacity of the Grantor (client), children or spouses are typically in the dark regarding the special responsibilities they are being asked to assume as successor trustee. In fact, the Florida Legislature recently included a special requirement for new trust documents that trustees be advised that they are assuming a role with “special duties and responsibilities and that they may wish to consult with an attorney if they have any questions regarding that role”.

Areas of Risk:

Estate Tax Risk:
  • Possibility of inclusion of a non-taxable entity into the trustee’s taxable estate by improperly complying with the document or fiduciary standards;
  • Possibility of inadvertent invasion of principal due to insufficient understanding of principal and income accounting requirements;
  • Possibility of inadvertent taxable gifts being construed based upon such actions as accumulation of income.
Income Tax Risk:
  • Failure to understand implications of trust funding decisions, especially in pecuniary trusts;
  • Inadvertent accumulation of income with the possibility of taxes being paid at higher tax rates, or of penalties and interest for underreporting on personal returns;
  • Failure to properly allocate deductible expenses.
Risk to Estate Plan:
  • Failure to understand Prudent Investor responsibilities;
  • Failure to recognize risks of concentrations, time horizon analysis, and allocation decision making;
  • Complications due to the new Principal and Income Act, including Unitrust and Equitable Adjustment options;
  • Unnecessary taxation due to income and estate tax risks discussed above;
Risk to Trustee, Individually
  • Failure to understand trustee duties of impartiality and fairness in making investment and discretionary decisions;
  • Failure to understand the responsibilities of documentation and analysis of discretionary decisions;
  • Complications and difficulties inherent in second marriages and with participation of “in-laws”;
Risk to Trustee’s Advisor (including investment, financial and tax advisors)
  • Failure of the professional advisor to properly direct the amateur trustee
  • Failure of the professional advisor to document recommendations
  • “Deep Pocket” of the advisor versus the trustee
  • Litigation sub-section of the Sarasota Bar’s Estate Planning section

Potential Focus Areas of Advisor Reviews

Make sure trustee distributes trust accounting, concentrating on:

  • Principal/income allocations;
  • Income distributions;
  • Discretionary principal distribution documentation; and
  • Notice to trust beneficiaries
  • Trust Disclosure document
  • Full and adequate disclosure

Review investment allocation decisions, including:

  • Reviewing allocation documentation
  • Time Horizon
  • Investment Objective
  • Allocation targets
  • Return/risk expectations
  • Documented analysis of availability for unitrust or equitable adjustment options to increase “total return” expectations
  • No analysis required if:
  • Principal invasion prohibited or
  • Document waives application of FS 738 Principal & :Income Act; otherwise
  • Review availability of principal invasion language to allow “total return” investing;
  • Review advisability of utilizing “total return” investment approach
  • Income beneficiary income needs being met?
  • Income distributions are discretionary?
  • Increased equity allocation negatively impact income production to meet needs?
  • “Total return” investment approach advisable given investment time horizon and economic circumstances?
  • Alternately, consider Equitable Adjustment between Income and Principal if other circumstances impact ability to achieve equitable investment allocation/results, for example:
  • Concentration of low cost basis assets
  • Lack of marketability of investments
  • Tax issues (i.e. IRD assets)