The Trustee: Part III...The Responsibilities

The last several newsletters described the importance in selecting the appropriate person to be the trustee and the powers the trustee can be given to oversee the trust. The trustee powers are utilized by the trustee to fulfill the trustee's duties and responsibilities. But what are those responsibilities?

Being appointed the trustee of a trust signifies a vote of confidence in that person's judgment and integrity. However, with that confidence, comes the responsibility of being a trustee. There are numerous types of trusts, but most trusts have a common set of basic responsibilities and duties, including:

1. Fiduciary Responsibility. It is a trustee's duty to act in a fiduciary role with respect to the beneficiaries of the trust. This duty generates many of the issues for a trustee. With a fiduciary responsibility, a trustee has to be concerned with both the current beneficiaries and any "remainderman" named to receive trust assets upon the death of those entitled to income or principal now. The trustee is held to a very high standard, and a trustee oversees trust investments, disbursements and trust management. You could even say the fiduciary responsibility means a trustee has greater responsibility to the trust then a trustee would have to their own personal accounts.
2. Investment Standards. The trustee's decisions with respect to investments must be prudent. The money in the trust may not necessarily be best invested in speculative or risky investments. A trustee, entrusted with the responsibility of managing the trust's money, is required to weigh risk versus reward when making investment decisions. Management of the trust's investments must consider both the income that may be generated by the investment and the probable safety of the invested capital.
3. Distributions. The trustee is also responsible for disbursing money to the beneficiaries. The biggest concern for a trustee maybe when the trustee has the discretion whether to make distributions to a beneficiary or not. The trustee needs to evaluate the beneficiary's current needs, future needs, and sources of income, and the trustee's responsibility to other beneficiaries before making a decision. The hardest thing many trustees may have to do is to say "no" to a beneficiary that clearly needs financial assistance when other factors weighing against the trustee making a discretionary distribution.
4. Taxes. Depending on the type of trust is being managed - irrevocable or revocable and whether or not it is a grantor trust for tax purposes, the trustee must file an annual tax return. The trust may have to pay taxes. Most of the time, the trust merely acts as a conduit for income to be passed along to the beneficiary, and the beneficiary pays any income taxes.
5. Accounting. One of the most difficult tasks for trustees may be keeping track of all the various income, expenses, taxes and distributions that are incurred by the trust. Many trusts require the trustee to provide annual accounting to the beneficiaries, so that beneficiaries can ensure all the finances of the trust are in order. Further, in strict trust accounting, the trust must keep track of and report on principal and income separately.
6. Delegation. Luckily, a trustee does not have to take all of this responsibility on their own. A trustee can delegate responsibilities out to other individuals. For example, a trustee can hire a financial advisor to make investments, accountants to keep the books and lawyers to advise on legal issues. Like any successful business venture, having a good team in place to advise a trustee will make the trustee's work that much easier.
7. Fees. Trustees are entitled to reasonable fees. Often, when a trustee is a family member, they do not accept fees. The issue becomes: what is reasonable? Reasonableness may be particularly important in the case of banks, trust companies or law firms that charge a percentage of the funds under management as a fee to the trust. In the alternative, some professional trustees charge an hourly fee. If a trustee takes a fee but hires an outside consultant, such as an investment advisor, the trustee should receive a smaller fee because of the delegation of work to the outside consultant.
8. Trust Terms. The trustee must read and understand the trust documents. The trust is a road map left by the settlor directing what actions, duties, powers and responsibilities the trustee can take. Without a clear understanding of the trust document, the trustee is more likely to make an error endangering the trust and the beneficiaries.

Basics of Estate Planning: Life Estate in Estate Planning

In the past, many people utilized a conveyance mechanism called a life estate to convey real property to another person to avoid probate. You do not see it as much now; with the rise and predominance of revocable living trusts. But some people with older, non-updated estate plans still use a life estate to convey rights to beneficiaries. Life estates are also sometimes used in conjunction with revocable living trusts. A life estate is a complex tool, and you should understand how they work before you implement one in your estate plan or are involved in one.

A life estate is property, usually a home residence. The residence is owned by an individual, called the life tenant, but, only through the duration of his or her lifetime. When the life tenant dies, the estate is returned to the original owner, or, more likely, passed on to another beneficiary, called a remaindermen. Typically, there will be language in a will or deed that says "to A for life, then B," denotes the property is impacted by a life estate.

A life estate is a form of co-ownership between the life tenant and the remaindermen. However, the co-owners do not have rights in the property at the same time. Instead, the rights in the property are stacked with the life tenant holding the current right to possession, and the remainderman's ownership rights arise on the death of the life tenant.

One of the biggest advantages in using a life estate is that the property passes to the remainderman without a probate proceeding. This made life estates very attractive in the past for people to pass on real property to other beneficiaries. There are other advantages, including:

• The life tenant has the legal right to remain in the house as long as the life tenant is alive.
• Depending on the state law and possibly the language used in conveying the life estate, the remainderman could also be on the hook to pay real estate taxes, insurance and maintenance fees. Naturally, this means that the life tenant might not be able to deduct real estate taxes on their income tax returns.

However, there are a number of disadvantages in using a life estate that make life estates less attractive then revocable living trusts. Those disadvantages include:

• Restricted ability to deal with property. A life estate gives a remainderman a real interest in the property. If the life tenant wants to sell the property or make some other major change to the property, the life tenant must involve the remainderman.
• Valuation issues. Because of restrictions on selling the property, there are fewer buyers interested, meaning a depressed sales price. But, if the remainderman and life tenant do agree on selling the property, the issue of allocating the proceeds between the two is a concern. A life tenant may think that the life estate is valuable and that the life tenant should get more of the sale proceeds; whereas, a remainderman could argue that life tenant's interest is worth little, since the life tenant's interest extinguishes at the life tenant's death.
• Conflicts between remainderman and life tenants. Many state laws dictate how expenses associated with a property are allocated between the life tenant and the remainderman. The life tenant is usually responsible for the interest portion of the mortgage, property taxes, insurance and ordinary upkeep and repairs. The remainderman is usually responsible for the principal of the mortgage payment and extraordinary repairs. The expenses might be excessive for the less affluent of the life tenant and remainderman which could instigate a conflict with the other of the remainderman and life tenant that can make the payments.
• Life tenant responsibilities. A life tenant has a duty to the remainderman to not let the property go to waste. If the life tenant cannot afford the upkeep, it could drain the life tenant's bank account. Only a sale is possible and that means getting the remainderman to agree.
• Estate and gift tax issues. A life estate given to a person's spouse generally qualifies for the federal marital deduction. There could be gift tax implications, if the life tenant-spouse, with remainderman's assent, sells the house, and, if the sales proceeds are split between the life tenant-spouse and remainderman in some manner not in accordance to the IRS's actuarial tables.
• No escape. Partition of the property only applies to co-owners who have current possessory rights. Since the interests of the life tenant and remainderman are not possessory at the same time, a judicial solution cannot split the partnership of a disgruntled life tenant and remainderman.

Estate of the Month: Disinheriting a Child and Its Unforeseen Consequences

This month, I will not be going into the estate of a famous individual whose estate is messed up, or even that of a dog. But, I will be wading into the estate of an average American. As someone that has a strong connection with my parents and also my in-laws, it was a little shocking the first time I met a parent that wanted to disinherit a child. Since then, unfortunately, I have come across this type of issue more often. And considering, a matter I recently encountered, it might not be the best idea.

As I mentioned a couple of months ago, barring some type of agreement, it is very hard for a dying spouse to disinherit their surviving spouse. The courts use what is known as spousal election to let a "cut-off" spouse receive, at a minimum, an intestate share of the decedent-spouse's estate. It is not the same for children. Almost every state allows you to disinherit a living child by specifically stating in your will that you do not want to leave anything to that childⁱ.

Most people with good child-parent relationships will wonder how this could have happened.

For example, an only child of the decedent was disinherited by the child's father in a will drafted almost 20 years prior to his death. The father's will disbursed the father's entire estate to a niece and also named the niece the personal representative. The only child stated that, at the time of the drafting of the will, the only child and father had stopped communicating. A few years before the father's death, however, they had reconciled, and a number of relatives had witnessed the only child and father becoming close, again.

But there was a problem. The will was never updated by the father to reflect that reunion. The will submitted to the probate court was the one from 20 years ago. Now, the only child who had been living in the father's home, was evicted, and the house sold. All the proceeds from that sale have flowed into the niece's bank account. No other will was found replacing the will that cut-off the only child. Thus, the court used the will from 20 years ago to probate the father's estate.

My short takeaway is that, even if you considering disinheriting a child, you should think long and hard about it. Life can bring many changes, and taking what can be a permanent step in disinheriting a child in your will could be a problem if your relationship with a child evolves.

ⁱ However, if a child, who was not born after the decedent's will was executed, is not provided for in the will, the law assumes that the decedent simply forgot to update the will following the birth of the child. A court, generally, will assume any "overlooked" child would not have been disinherited but for the lack of updating the will, and the court will usually provide a predetermined statutory share of the decedent's estate to the "overlooked" child.