Make sure you understand the facts before you set up a trust.
Monique Valbuena, Head of U.S. Trusts
Even the most sophisticated individuals hold common misconceptions about trusts.
Here, we hope to dispel three of the most widely held myths so that, if and when you choose to establish a trust, you are sure to make the best possible choices for you and your family.
Myth #1: My family member will make a great trustee
It may be true that a respected family member is intelligent, knowledgeable, organized, responsible, sensitive and financially secure enough to act as the trustee of a trust you create to support your beneficiaries.
But before you name the family member as the trustee (that is to say, before you make this person alone responsible for the trust that will support your children, grandchildren and legacy), consider these three questions:
- Do you and the family member understand the impact that acting as a trustee can have on a person’s life?
- Are you sure you want to lay such a burden on someone you care about?
- Have you looked into naming a corporate trustee but giving the family member power to oversee, remove and replace the corporate trustee?
Most people do not fully realize what a considerable undertaking acting as a sole trustee can be. Nor do they anticipate the difficult decisions that trustees routinely face and the tensions that making those decisions can generate.
Trustees are legally responsible—and they are personally liable—for handling the trust’s investments, safeguarding trust assets, recordkeeping, tax filings and interpreting the trust, as well as making necessary disclosures and distributions to beneficiaries.
A trustee needs specialized knowledge to comply properly with these requirements. It’s not always simple to make distributions according to a trust document’s stipulations. Beneficiaries don’t always like decisions trustees are obliged to make. Well-intentioned mistakes are all too common.
One example: A trust required payment of beneficiaries’ educational expenses. One beneficiary attended an expensive private college with an annual tuition of more than $60,000, while another went to a state school charging half as much. The trustee, a family friend, sought to preserve family harmony by distributing the cost differential to the state school attendee—only to find that such a distribution violated his duty as the trust’s fiduciary. Family gatherings suddenly became extremely uncomfortable for all—especially when the private college attendee sued the family friend personally to recover the distributed funds.
How might you avoid such problems?
Many find it wise to name a corporate trustee instead—with a family member overseeing the trustee. The family member can oversee, remove and replace the corporate trustee, but isn’t burdened with the same risk and fiduciary duty, and can still ensure the corporate trustee is effectively fulfilling its duty. Another solution is for the trustee to hire a trust company as “agent for trustee", allowing the trustee to pass on certain administrative responsibilities to experienced professionals.
A corporate fiduciary can also act as a buffer between your personal trustee and beneficiaries. (For example, a corporate trust officer might be charged with having difficult conversations, such as delivering news that a beneficiary’s requested distribution is outside the scope of a trust’s provisions.)
Of course, many trust creators mistakenly believe choosing a family member to be the trustee is more cost-effective, as they’ll often be willing to perform the duties at no cost. However, once the family member hires all the accountants, attorneys, financial advisors and administrators to carry out the necessary duties, the aggregate cost is often higher (and less controllable) than it would have been to simply hire a corporate trustee.
Myth #2: It’s tough to get distributions from a corporate trustee
Trust creators may wonder: “Will a corporate trustee take the time to know the beneficiaries of my trust and understand their needs?" And: “Will a firm’s bureaucracy make it cumbersome for my beneficiaries to access the trust funds to which they’re entitled?”
First, nondiscretionary distributions are automatic. If the trust says a beneficiary is to receive mandatory net income, those distributions are required and must be distributed to the beneficiary as specified in the trust.
To understand how discretionary distributions might be handled, you’ll want to look carefully at the firm you might name as corporate trustee or agent for trustee.
You might ask the firm to detail:
- How much communication is common between beneficiaries and trust officers?
- Does the firm welcome “letters of wishes”?
- How many people are involved in distribution decisions, and how much time does it actually take, routinely, for the firm to fulfill a request for discretionary distribution that is in line with a trust agreement?
Getting complete answers to such questions—with examples and commitments—will give you the peace of mind that your beneficiaries will be supported the way your trust agreement says they should be.
Myth #3: A corporate trustee can’t manage a trust that has illiquid assets
Trust creators used to worry that if they put their businesses, art collections, real estate and such into a trust that a corporate trustee’s legal obligation to avoid concentrations would force them to sell those assets.
But trust law has evolved dramatically in the last 20 years. Now, as a creator of a trust, you have options both within directed and discretionary trust scenarios.
Directed trusts
The laws of some states, such as Delaware, have become so flexible that you can break up the trust functions among multiple parties. That means responsibility for specific trustee functions such as investment management or, say, distributions, can be given to another person or committee (often a family member or close connection).
Many families opt for a directed trust, as it gives them a great deal of control over heirloom assets. For example, if the asset is an art collection, the investment manager would make all decisions about holding, selling, insuring, maintaining and loaning the art. The corporate trustee then would carry out the directions of the investment advisor with respect to those decisions.
At the same time, a directed trust provides the family with the benefit of a corporate trustee’s experience and administrative expertise (handling, for example, the tax work, bookkeeping and communications to beneficiaries). Having a corporate trustee also helps with continuity, as a corporate trustee does not age out of the position as individuals do.
Discretionary trusts
Trustees have a duty to invest a portfolio prudently, which includes a duty to diversify investment portfolios. At J.P. Morgan, we generally ask that no single asset (such as real property) is more than 10% of the total assets in a trust.
A trust document might be worded so that it relieves the trustee of the duty to diversify specific assets. Your J.P. Morgan team would be happy to work with your attorney on appropriate enabling language.
In addition, you might want to look into the benefits of having our experienced specialists manage the real estate, oil and gas interests, or closely held entities that are held in trust.
Stay up-to-date. We can help.
After you’ve established and funded your trust with a structure and trustees that work for you, it is extremely important that you check regularly to make sure everything continues to operate as you intended, and that life events haven’t made some of your trust’s terms obsolete.
Your J.P. Morgan team can help you and your estate planning lawyers review your options and holdings, and their projected growth, to help you make sure your estate plan and trusts are supporting the goals you have for yourself—and for all of your loved ones.
