Trustee Fiduciary Responsibility Concerning Beneficiaries Of Split Interest Personal Trusts: Duty Of Impartiality
March 27th, 2009
In modern estate planning trusts are often used as a dispositive vehicle to accomplish a variety of purposes. In addition to state and federal tax savings, trusts can create and customize a unique plan to hold and/or distribute assets to different groups of people over a prolonged time period. This situation is typically seen in a trust designed to qualify its assets for the Federal Estate Tax Marital Deduction with the surviving spouse receiving an income interest, with possible invasion of principal, during his/her lifetime. At the death of the surviving spouse another group of individuals, typically the children of the marriage, may then receive an income interest, with possible distributions of trust principal at a date in the future.
This distributive pattern, also seen in a Credit Shelter Trust, provides two distinct groups of individuals, or trust beneficiaries, commonly referred to as current income beneficiaries, and remainder beneficiaries or principal beneficiaries. Thus a trust established in this fashion can have beneficiaries with different and distinct interests, and is referred to as a split interest trust.
Whether the split interest trust is established at the death of the testator – a testamentary trust – or during the life time of the grantor or settlor – a living trust or trust under agreement – the designated trustee(s) have several specific duties and responsibilities in effectively administering the trust. One is the Duty of Impartiality.
DUTY OF IMPARTIALITY
The Uniform Trust Code Section 803 states that the duty of a trustee to act impartially does not mean that the trustee is required to treat the various beneficiaries equally. Rather, the trustee must treat the beneficiaries equally in light of the purposes and terms of the trust. Similarly, 4 Scott & Ascher, Section 201 states that the trustee is under a duty to act with “due regard” to the beneficiaries respective interests.
Restatement (Third) of Trusts, Section 79(2) indicates that the trustee duty of loyalty is the specific duty to treat all trust beneficiaries impartially, that is, not favor one beneficiary over another unless authorized to do so by the governing instrument. Even when so authorized the trustee’s discretionary acts favoring one beneficiary over another must be in furtherance of the intentions of the settlor/grantor and not in furtherance of the trustee’s own biases and predilections.
Again, 4 Scott & Ascher, Section 20.1 indicates that a trustee runs a major risk of breaching the duty of impartiality in the context of the competing interests of income beneficiaries and remaindermen. This Section further states that the general duty of loyalty also requires that the trustee balance the interests of the income beneficiaries and the remaindermen – the trustee must be impartial when dealing with those with conflicting equitable interests.
IMPARTIALITY INVESTMENT PROBLEMS FOR THE TRUSTEE
Recently several states have adopted revisions of the Uniform Prudent Investors Act, the Uniform Principal and Income Act and the Uniform Trust Code that may impact the traditional and common law responsibilities of handling and managing trust investments under the Duty of Impartiality when administering a split interest trust. Reallocation authority, however, is provided for under Restatement (Third) of Trusts under Section 79 allowing the trustee to make appropriate accounting adjustments to comply with the duty of impartiality even absent permissive legislation.
Consider a trustee of a split interest trust investing a significant percentage of trust assets in “junk bonds” producing an extremely high yield. Over time an erosion of the purchasing power of the trust accounting income may result in an inflationary period. Statutory reallocation authority might allow the trustee to transfer a portion of the income to the principal account without advantaging the current income beneficiaries at the expense of the remaindermen.
Conversely, reallocation authority could also be helpful where a trust investment (a concentration of trust assets in an aggressive “high growth” common stock that does not pay a dividend) advantages a remainderman at the expense of the current income beneficiary.
Unique investment problems occur concerning impartiality with a trust requiring periodic distributions of all net trust accounting income with no provisions for the invasion of principal – an “income only trust”. The potential conflict between current income beneficiaries and remaindermen may result from the traditional distinction between income and principal, a trust accounting concept that takes no account of the investment concept of total return. See Restatement (Third) of Trusts, Section 90 and 4 Scott & Ascher, Section 20.1. Some jurisdictions allow the trustee to petition the appropriate court for a judicial reformation of the trust to a Non Charitable Unitrust to address these problems.
TRUSTEE DISCLOSURE OF INFORMATION
Trustee problems concerning impartiality can arise with a trustee’s duty to disclose versus the trustee’s general duty of loyalty including the specific duty of confidentiality in communications between current income beneficiaries and remaindermen. A possible answer to this dilemma may lie in another specific trustee duty: the duty to balance the interests of the current income beneficiary and the remainderman.
Impartiality applies not only to successive equitable interests, but also to concurrent ones – simultaneous beneficiaries. Current beneficiaries – income or discretionary – may have differing needs and tax positions versus the remaindermen different objectives and risk tolerance.
A trustee of a split interest trust must be mindful of the various fiduciary duties and responsibilities, both statutory and traditional/common law, in administering the trust. A breach of any of these fiduciary duties and responsibilities could cause a significant surcharge against the trustee. This fact is especially true concerning the different interests of current income/discretionary beneficiaries and remaindermen in a split interest trust.