Serving as a trustee is a significant role. Whether a parent, sibling or friend nominated you to serve in such capacity, or you serve alongside a professional trustee, you are now entrusted with holding and managing property for the benefit of the trust’s beneficiaries. That role comes with a number of fiduciary duties to the beneficiaries, and a trustee who falls short of them can be held personally liable for damages.
The good news is that meeting those duties is less about knowing every rule and more about good habits. Exercising your authority as trustee in an impartial and prudent manner, keeping good records, and communicating effectively with beneficiaries and other interested parties provide significant effectiveness in administering the trust according to your fiduciary duties. In this article, we offer a brief reminder of the core fiduciary duties that trustees owe to a trust’s beneficiaries, along with a few practical tips for fulfilling each of these duties.
What is a trustee’s fiduciary duty?
A fiduciary duty is a duty a trustee owes to the beneficiaries of the trust. As a fiduciary, the trustee has a legal obligation to put each beneficiary’s interest ahead of their own. While there are numerous fiduciary duties, and a trustee should be aware of each, the primary duties include the duty of loyalty and the duty of prudence, along with a number of related obligations. The trustee holds legal title to the trust property and must administer the trust to the benefit of the trust beneficiaries. The fiduciary duty is what links the trustee to the beneficiaries.
What is the duty of loyalty?
As trustee, you must put the beneficiaries’ interests above your own at all times and for all purposes. In practice, that means:
- You must not engage in any self-dealing.
- You may not profit from any business dealings with the trust.
- You cannot favor one beneficiary over the others unless the trust document directs otherwise.
A trustee who violates the duty of loyalty can be held liable for appreciated damages. Some practical tips to avoid such liability include:
- Focus on the beneficiaries. Set your own interests aside. The role is about them.
- Know the beneficiaries. Know who they are and how to contact them. Focus your attention on their best interests and how to meaningfully communicate with each beneficiary.
- Know the trust documents. Understand the terms, purposes and trigger events, as well as the intent of the person who created the trust (the grantor) and what it takes to honor that intent.
- Communicate and document. Reach out to beneficiaries to learn how changes in the economy or their circumstances affect them and write down what you learn.
What is the duty of prudence?
You must administer the trust as a prudent person would, considering its purposes, terms, distribution requirements and other relevant circumstances, and exercising reasonable care, skill and caution. This is an objective standard subject to a reasonableness test, and professional trustees are held to a higher standard. A trustee who violates the duty of prudence can be held liable for actual or presumptive monetary damages.
Prudence covers several functions, as described below.
What are the custodial and administrative functions of the duty of prudence?
Your custodial and administrative duties include collecting and protecting trust property, earmarking trust property, never commingling trust funds with your own, keeping adequate records of the administration, and bringing and defending claims. Prudence also covers trustee selection and co-trusteeship, where more than one trustee shares the role.
Practical tips
- Document everything. This is especially true when you are working remotely.
- Think ahead about co-trustees and successors. Consider how changing situations affect any co-trustee or successor trustee.
What is the investment function of the duty of prudence?
You must invest the trust assets as a prudent person would, using reasonable care, skill and caution. The investment function both allows for and requires comprehensive portfolio management. You have a duty to diversify the trust assets by market, sector and stock. You may delegate investment management, but you must review and monitor the investment decisions that the delegated investment manager is making. It is also crucial that the investment decisions made reflect the beneficiaries’ circumstances, along with the purpose and terms of the trust.
Practical tips
- Use an investment policy statement (IPS). An IPS ensures that investments align with the trust goals. If the trust does not have one, consider adopting one. If it does, review it, confirm compliance and update it if needed. Document that you reviewed it.
- Review stock concentrations. Ask whether market fluctuations have increased concentration in a particular sector or company so that the investments no longer comply with the IPS.
- Revisit income needs. Adjust investments for beneficiaries’ changed income needs in the current environment.
- Document your thinking. Record your consideration of market changes and any actions taken, or your decision not to make a change.
- Do not be reactive. Prudence lies in planning.
What is the distributive function of the duty of prudence?
You must act reasonably and in good faith when making distribution decisions. To act reasonably, you need to know the beneficiaries and their needs. You must also be pointedly aware of the discretion afforded you when making distribution decisions as set forth in the trust. If the trust is intended to provide for a beneficiary’s needs for life, that intent and those needs should be factored into your decisions. You cannot let your personal bias, or that of a co-trustee, affect whether to make a distribution.
Practical tips
- Check for changed needs. Find out whether a crisis has affected a beneficiary’s health, education, maintenance or support needs.
- Review each portfolio now. Document that you completed the review and consider whether changes are needed because a beneficiary’s situation has changed.
- Keep needs in view. If you make investment changes, make sure the beneficiaries’ needs are considered.
- Follow your normal process. Do not make a distribution based only on a situational reaction.
What must a trustee tell beneficiaries?
You must keep beneficiaries reasonably informed about the administration of the trust and tell them the material facts they need to protect their interests.
Practical tips
- Consider court approval. Consider whether to seek court approval of trust accountings to approve your actions and investment decisions.
- Explain market impacts. Let beneficiaries know how market changes are affecting trust investments and future distributions.
- Respond promptly. Answer information requests promptly, as always.
How does a trustee balance current and future beneficiaries?
Under the duty of impartiality, you must remain impartial and consider the best interests of any and all current, remainder and contingent beneficiaries. Balancing the requests and needs of current beneficiaries against the obligation to preserve assets for future beneficiaries often causes some conflict. You must also ensure impartial treatment of current beneficiaries as compared to one another.
Practical tip
- Weigh everything first. Do not make a reactive decision based on changed circumstances without considering all relevant issues.
Key considerations for trustees
- Know your trust and beneficiaries. Understand the trust terms, purposes and trigger events, and know how to contact each beneficiary.
- Follow a prudent process. Plan ahead rather than reacting to changing conditions.
- Document everything. Record your reviews, your decisions to act and your decisions not to act.
- Communicate regularly. Keep beneficiaries informed and respond promptly to requests.
- Coordinate with your advisors. If you delegate investment management, keep reviewing and monitoring their activity, and keep your attorney and other advisors in the loop.
If you have questions about your duties as a trustee or about trust administration matters generally, please contact Casey Breese or your regular Lathrop GPM attorney.