What is a private total return unitrust versus a net income trust?

March 8th, 2016

Net Income Trusts

If you have a client that is either the income beneficiary or the remainderman of a traditional net income trust, they might be receptive to exploring the suggestion to convert the investment and dispositive provisions of that trust to a private unitrust.

Trusts have been used for many years to hold title to property and, in some cases, pass title to a beneficiary. A trust holds title to property for someone’s benefit. In establishing a trust the person establishing it, the grantor or settlor bifurcates the ownership of the property, the trust corpus or principal placed in to the trust. The designated trustee, or co-trustees, receive the legal title to the trust corpus, and the equitable title passes to the trust beneficiaries.

Quite often a trust is established with two classes of beneficiaries: the income beneficiaries who receive the current income produced by the trust corpus, and the remainder beneficiaries who will receive the trust corpus upon the occurence of a given event such as the termination of the trust. This arrangement is often described as a split interest trust or a net income trust .

Private Unitrusts

Unfortunately with a net income trust the rigid demarcation between trust income and trust principal is counter productive when it comes to trust investments. The trustee is often caught in the middle between the life income beneficiaries who are clamoring for more income and the remaindermen who are clamoring for more growth in the trust principal. Under these circumstances Modern Portfolio Theory and a total return investment strategy aimed at growth rather than income is difficult to pursue. See 4 Scott & Ascher, Section 20.11 and Section 20.610.

Over the past several years the significant decline in interest rates and an unprecedented decline in dividend yields has produced an impossible task for the trustee today to satisfy both the income beneficiaries and the remaindermen of a net income trust. The typical noncharitable unitrust governing instrument will provide that all of the trust accounting income shall be added to principal and the life beneficiary in a given year shall then receive a fixed percentage of the net market value of the trust estate valued at the end of the prior year. The more a trustee pursuing a total return investment strategy invests for growth the more the duty of impartiality is implicated.

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