TRUSTEE DUTY TO BE LOYAL TO THE TRUST

It has been observed that, “…two general principals underline much of the Anglo American law of trusts: the trustee’s duty of loyalty and prudence. As the duty of loyalty is the more ” fundamental” of the two, the trustee is under a duty to act solely in the interest of the beneficiaries as to matters that directly and indirectly involve the trust property”. 3 Scott & Ascher, Sec. 17.2. Also see Uniform Trust Code Sec. 802(a). In fact, a national bank exercising fiduciary powers shall adopt and follow written policies and procedures that address, where appropriate, the bank’s methods for preventing self dealing and conflicts of interest. See Revised Reg. 9 (effective January 29, 1977) in 12 C.F.R. Sec. 9.5(c).

BACKGROUND

In acting in a fiduciary capacity a trustee assumes various general duties. One of the fundamental duties assumed by a trustee in the establishment of a trust relationship is the duty to be loyal to the trust, which includes acting honestly in good faith, and in accordance with the purposes of the trust. The Uniform Trust Code Sec. 105(b)(2) indicates that this duty may not be waived by the grantor/settlor.

The trustee, according to Uniform Trust Code Sec. 802(a) has a duty to act solely in the interest of the beneficiaries concerning matters that directly and indirectly involve trust assets. The duty of undivided loyalty is called the “bedrock” of the trust relationship in Restatement (3rd) of Trusts Sec. 78, comment c(2). The loyalty rule in equity was established because it is usually humanly impossible for the trustee to act fairly in two capacities and on behalf of two interests in the same transaction.

Again, Uniform Trust Code Sec. 802 indicates that a transaction impacted by a conflict between the trustee’s fiduciary and personal interests is voidable by a beneficiary who is affected by the transaction. These transactions could include a corporate fiduciary purchasing or holding it’s own stock for a trust, or depositing funds in it’s own banking department. Indeed, 3 Scott & Ascher Sec. 17.2.14.6 states that “…as long as banks have both trust departments and commercial banking departments, questions of divided loyalty, sometimes quite difficult, will continue to arise.” However, see Rest. (3rd) of Trusts, Sec. 78, comment c(4) and 3 Scott & Ascher Sec. 17.2.

POSSIBLE RESIGNATION AND REMOVAL OF THE TRUSTEE

The fact that a trustee may not allow personal interests to conflict and compete with the interests of beneficiaries could require the trustee to resign from the trust, unless all of the beneficiaries provide their informed consent to the trustee’s retention of the office. See Rest(2nd)Trust Section 170, comment C(1959), 2A Scott on Trusts, Section 170.23 and Rest.(2nd)Trusts, Section 216, Comment g (1959). In fact, the acquisition of a confl;icting interest may be grounds for removal of the trustee. See Rest. (3rd) Trusts, Section 37, Comment e.

EXCEPTION – TRUSTEE FEES AND REASONABLE EXPENSES

A trustee is entitled to take a reasonable fee from the trust for fiduciary services and reasonable expenses, even though this would appear to be a conflict of interest. See Rest. (3rd) Trust, Section 78, Comment c(4), and 3 Scott & Ascher, Section 17.2. It would be unreasonable and unrealistic to expect a trustee to serve without reasonable compensation. See UTC, Section 802 (h)(2), and Rest. (3rd) Trusts, Section 78, Comment c(4). In fact, the trustee has a security interest in the trust assets for reasonable compensation. See Rest. (2nd), Section 242, Comment e(1959).

The reasonableness of the trustee’s compensation can be determined by applying several relevant factors including:

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trustee’s skill, experience and facilities
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time devoted to trust duties
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amount and character of the trust assets
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degree of difficulty, responsibility and risk assumed in administering the trust, including making discretionary distributions

Corporate fiduciaries should be mindful of these relevant factors in their internal annual budgeting process for trust department fees. Occasionally, bank trust departments participating in an income/expense ratio analysis universe with other similar institutions experience pressure from senior management to increase trustee fees resulting in a higher ranking in their performance universe.

DIRECTED TRUSTS

Trustee powers of fiduciaries were traditionally considered personal and, therefore, non-delegable. Currently the trustee may, however, delegate some investment responsibility to an appropriate investment agent with adequate supervision required, and compensate the agent. See Ret. (3rd) Trusts, Section 80, Comment f, and UTC Section 807. A downward revision of trustee fees is often seen if a trustee has delegated significant duties to outside agents including a Registered Investment Advisor (“RIA”) acting as an investment manager. See UTC Section 708.

Thus, some fiduciary authority may be delegated. The trustee, however, must still personally define the trust’s investment objectives, strategies and programs, and must approve of plans developed by the agent advisor. If the trustee exercised prudence in selection the advisor, participates in setting trust investment objectives, and monitors the advisors performance, the trustee should not be liable for delegation go the advisor. See Uniform Prudent Investors Act, Section 9, versions of which have recently been enacted by several states. See Rest. (3rd) Trusts, Section 80, Comment e, and the Uniform Prudent Management of Institutional Funds Act, Section 5. Delegating some administrative and reporting duties might be prudent under UTC, Section 807 for a family trustee but unnecessary for a corporate trustee according to that Section.

CONCLUSION

Among the fiduciary duties assumed by a trustee loyalty and prudence are paramount, with loyalty generally considered to be the more fundamental. Accordingly, a trustee must act solely in the interest of the beneficiaries. This fact is especially critical with a split interest trust with various classes of beneficiaries. A violation of this duty could result in the resignation or removal of the trustee, possibly accompanied by a fiduciary surcharge.

In recent years, the adoption by various states of new fiduciary legislation cited above has allowed trustees to depart from many of their common law requirements including fees and the ability to retain and compensate outside investment counsel. Accompanying the new flexibility, however, is the increased potential for liability and fiduciary surcharge actions. The prudent trustee will promulgate and adopt internal policies and procedures to address the question of “reasonableness” in setting trustee fees and the level of compensation for outside investment advisors along with the establishment of internal oversight rules. Thus, increased flexibility presents new challenges to the trustee.

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