Posted on: July 1st, 2018
Many successful families use trusts to minimize taxes, transfer wealth and protect assets from creditors and others. You may have already set up a trust, or you may hold an inheritance you received in a trust that was created decades ago.
Trouble is, too many families relinquish more control over their trusts than they need to, basically hoping that the trustees they have put in charge will serve them well. They take a passive role in their trusts rather than an active or proactive role.
The result: Families can potentially put their goals at risk. Yes, trustees have a legal obligation to serve you and your family. But they also have a duty to serve their owners and shareholders! These corporate trustees have a real financial interest in retaining control over your trust. They also try to avoid controversy: If a dispute among beneficiaries breaks out, they often become passive and look to a court to instruct them.
Clearly, relying on a third party to think and act solely in your best interests at all times is rarely the smart move. The good news: You don’t have to put your faith entirely in someone else when it comes to your trust.
Over the years, trust law has evolved significantly. Today, there are more options than ever that allow for greater family control—options that didn’t exist or that weren’t commonly used back when many current trusts were established. By thinking and acting more like an asset owner than a trust grantor or trust beneficiary, you can potentially set yourself up for better results down the road.
Here are three ways to ensure you take the reins when it comes to a trust.
The person or entity serving as your trustee will have a large impact on how the trust assets perform and how they are distributed—so it’s crucial to serve as a check and balance to a trustee. A simple trust provision providing that a beneficiary (perhaps a surviving spouse) has the power to remove the trustee for any reason can act as an important control over your trust. This power incentivizes the trustee to manage the assets well and make distributions appropriately. No matter what other interests the trustee may have or what his or her preferences may be for managing the trust, if you have the power to remove the trustee, the trustee needs to listen.
Important: If you remove a sole trustee, you need to appoint a new one. With an “absolute discretion” standard (which is necessary to provide creditor protection), the rules say you cannot appoint yourself, your spouse, your children or other close family members, or your employees. That leaves plenty of options. Common choices include a trusted family advisor, a best friend from college, a bank with which you have a close relationship, an accountant, or a lawyer. The ability to remove a trustee, coupled with the ability to appoint almost anyone as trustee, is an effective mechanism to keep control over the person who has the ability to make distributions.
If you’re a beneficiary of an “absolute discretion” trust and appoint yourself as trustee with distribution power, the trust’s assets will be taxed in your estate and creditor protection benefits will be undone.
But making distributions is just one of the trustee’s functions. There’s also the vital matter of how the trust’s assets are managed to preserve and grow family wealth—and in this area, you can exert some power and control.
Specifically, you and your spouse and children (or any other beneficiary) can serve alongside another independent trustee and have all powers of a trustee except for the power to make distributions. Combining the ability to serve as a “family” or “non-independent” trustee with the ability to remove the independent trustee who has distribution powers gives you control over and flexibility in the management and performance of your trust.
Example: A beneficiary could have a trusted friend (as long as the friend is not a close relative or employed by a company the grantor controls) serve as co-trustee with distribution powers. The beneficiary can be comfortable that the trustee will make distributions to the beneficiary and his or her family when appropriate. However, if the friend’s performance as trustee is not good, he or she can be removed and replaced with someone who would be better suited to the position. Likewise, a non-independent trustee has a say in investment decisions about the assets in a trust.
There are two significant benefits that an institutional trustee can provide that cannot be obtained with individual trustees (such as your old college roommate).
What differentiates a directed trustee from a traditional trustee is right in the name—the trustee is “directed.” Instead of making distribution or investment decisions, the trustee is directed by appointed advisors to take such actions.
Trust law has evolved rapidly over the past two decades, and certain states (Delaware, South Dakota, Alaska, Nevada and New Hampshire, among others) have been in a virtual race to liberalize their respective laws relating to trusts. Their aim is to attract nonresidents to utilize their “user friendly” trust laws (and to create jobs for trust companies, professionals, lawyers, CPAs and investment advisors in their state).
Among the “user friendly” changes are provisions that eliminate or reduce a trustee’s powers by moving distribution decisions or investment decisions to someone other than the trustee. The decision is made by a third party, and the trustee is “directed” to do the act. The trustee must follow the direction—hence the term “directed trustee.”
In the case of investment decisions, the person who receives the power to direct the trustee is often titled an “investment advisor.” In the case of the distribution power, that person is often titled the “distribution advisor.” The distribution advisor or investment advisor may be an individual, an LLC or another entity that can exist for a very long time.
The idea behind these modern full-featured trusts that are only available in some states is that the advisor may not be suited to the full fiduciary role but may have special knowledge as to trust investments or trust beneficiaries. Example: The trust may own a specialized class of assets or a closely held business that is best managed by an “insider.” A distribution advisor will usually have a close relationship with the class of beneficiaries. Unlike the trustee, the distribution advisor would usually have long and deep interactions with the beneficiaries over many years, but he or she may not have the other skills necessary to be a trustee.
Having a directed trustee can provide great benefits at a modest cost. By having a directed trustee, you can establish a trust or possibly move an existing trust (through a decant) to a jurisdiction that provides additional benefits to you, your family and your trust. You, or another person, could have the power to remove the directed trustee at some future point if the arrangement is no longer beneficial.
You do not have to worry about the directed trustee going “maverick” and not following instructions from the advisors. You could have “trustee like” power to manage trust assets by serving as the investment advisor. You can have a friend serve as distribution advisor and you could retain the power to remove the distribution advisor. You get your choice of jurisdiction and the professional trust administration, record keeping, tax preparation, and reporting provided by an institutional trustee.
Those may be great action steps for setting up a new trust. But your existing trust may have been created at a time when such flexibility and control were not available.
Or maybe personal, family or economic circumstances have changed in a manner that was not anticipated by the grantor. The trust assets may be substantially larger than expected at the outset, or a change in federal or state tax law may now warrant a change in the trust to minimize the tax bite. Likewise, creditor protection may be a bigger issue now than it was at inception.
Some of the key mechanisms that can be used to update a trust accordingly and gain some of the control outlined above include:
Know your limits: There are several limitations to the changes that can be made through amendment, trust decanting or court modification. Specifically, none of those mechanisms can be used to extend the term of the trust for a period longer than the maximum duration under the law at the time that the trust was created.
Don’t be passive when it comes to your role as a trust grantor or trust beneficiary. Think like an owner and use the power available to you. That way, you’ll maximize your trust’s effectiveness and ensure that your trust—and the people involved in it—is behaving as it should based on your needs, goals and wishes.
Next step: If you think you could benefit by having a review of your existing trusts done to look for ways to increase your control, reach out to your financial or legal professional.
This report was prepared by, and is reprinted with permission from, VFO Inner Circle. AES Nation, LLC is the creator and publisher of VFO Inner Circle reports.
Disclosure: The opinions expressed in this commentary are those of the author and may not necessarily reflect those held by Kestra IS or Kestra AS. The material is for informational purposes only. It represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. It is not guaranteed by Kestra IS or Kestra AS for accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. Securities offered through Kestra Investment Services, LLC (Kestra IS), member FINRA/SIPC. Investment advisory services offered through Kestra Advisory Services, LLC (Kestra AS), an affiliate of Kestra IS.
Fusion Wealth Management is not affiliated with Kestra IS or Kestra AS. https://www.kestrafinancial.com/disclosures
VFO Inner Circle Special Report
By Russ Alan Prince and John J. Bowen Jr.
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