Total Return Trusts Update
Robert B. Wolf, a Partner and Shareholder at Tener, Van Kirk, Wolf & Moore, P.C. in Pittsburg, wrote Total Return Trusts—A Decade of Progress, But Are We There Yet? for the ACTEC Journal’s Fall 2006 issue. This issue includes parts three and four, the final parts of the series.
Part three analyzes new policy ideas on the design and distribution of total return trusts. Part four looks at some unscientific surveys that question whether estate attorneys are actually doing anything differently when it comes to drafting total return trusts.
In concluding part four, Wolf looks to the future and what the current policy will mean for future trustees and beneficiaries. Here is an excerpt:
Failure to properly advise, decide upon or implement total return policies can and will cause a lot of harm to trusts, beneficiaries, trustees and their counsel over time, but it is the decisions that directly affect the investment of the trust funds, rather than the distribution of the returns, that are by far the more dangerous to all concerned.
While state laws differ with respect to the extent to which the trustee may be held responsible for discretionary decisions, such as the decision to convert or not to convert to a unitrust or the decision to adjust or not to adjust, the distribution decisions are generally reparable by simply making an additional distribution or withholding or reducing a distribution in the future. And Section 105(c) of the Uniform Principal and Income Act affirms this principle by directing additional distributions to make up for a distribution that was too small, and by directing the withholding of future distributions to make up for a distribution that was too large. Only if neither of these remedies will make the parties whole should a surcharge of the fiduciary be imposed. And generally, this will not be necessary even if an abuse of discretion is found in distributing too much or too little. There is no loss to the trust beneficiaries in the aggregate, but only to one party while benefiting the other party.
It is on the investment side of things that damage can be done that cannot necessarily be undone or adjusted between the parties. And this is where the real danger to the trustee and the trustee’s counsel may lie. There are likely to be many instances in which the trustee continues to invest the trust assets on the assumption that the trustee must balance the need for the production of a certain amount of traditional income from the portfolio with the need to preserve and build principal value in the trust. And that may result in the trustee investing in a traditional 50/50 portfolio or something similar, whereas if the trustee knew that she had the ability to adjust from principal to income, the more prudent portfolio might have been 80% equities and 20% fixed income, given the various factors involving the trust under the Prudent Investor Act.[***]
And what of the measure of damages where there is a breach of fiduciary duty in investing the trust? Is it merely the loss in value from the initial value of the trust estate? Or is it the difference in value and return that might have been enjoyed if the trust had been invested as it should have been as opposed to the way it was invested? That is an active debate that for the most part is yet to be decided. The Restatement (Second) of Trusts left the question of lost profits open, whereas the Restatement (Third) of Trusts opens the door to calculate damages based upon performance of relevant assets in the trust or in comparable trusts, or the performance of appropriate securities indices. And the cases across the country to date take different views on the measure of damages, with some allowing for damages for lost profits, and some not allowing such damages. It seems that the nature and extent of the breach of fiduciary duty found by the court may well affect the scope of the damages. The more flagrant the breach, the more likely it is that there will be an imposition of damages based upon lost profits. It is a natural inclination of the courts to be hesitant to allow a flagrant breach of duty to escape liability based upon the damage being difficult to determine or speculative in nature.
But the real answer to these questions of liability and damage is to have a properly informed process for developing a total return investment and distribution policy for the trust. The vast changes in the laws over the past decade give trustees the legal, trust and investment tools they need to do the job, but in practice, “We’re not there yet.”