Unitrusts & Equitable Adjustment

Kristi Arakaki has published her article entitled Promoting Trustee Adherence to the Fiduciary Duty of Impartiality: A Case for Enacting Unitrust Conversion Statutes in Conjunction with Equitable Adjustment Statutes, 28 Hawai`i L. Rev. 105 (2005). 

Here is her introduction:

For as a trust is an office necessary in the concerns between man and man, and which, if faithfully discharged, is attended with no small degree of trouble, and anxiety, it is an act of great kindness in any one to accept it.
   
The position of trustee “on which the law has fastened many burdensome duties, is onerous.” Trustees act in a fiduciary capacity and are thus held to extremely high standards of conduct, that is to say “a level higher than that trodden by the crowd.” Ensuring the adherence of trustees to the fiduciary duties imposed upon them by state law, is vital in providing individuals with the confidence and peace of mind that their property will be disposed of according to their final written wishes.
   
One type of fiduciary duty, the duty of impartiality or the duty to refrain from favoring the interests of income beneficiaries at the expense of remainder beneficiaries (and vice versa) can be an especially difficult duty to fulfill, and has thus been the basis of much litigation arising between beneficiaries and trustees. Nationwide trends in trust and estate law that endow trustees with greater discretion in making investment decisions and in allocating the earnings among income and remainder beneficiaries, further exacerbates the difficulty a trustee faces in acting impartially with respect to these two types of beneficiaries. Specifically, the Uniform Prudent Investor Act (“Prudent Investor Act”), and the Uniform Principal and Income Act (“UPIA”), adopted in a majority of states over the last decade, attempt to maximize return on investments by providing greater flexibility to trustees in both pursuing investment strategies, and in allocating trust assets among beneficiaries.
   
While the goal of maximizing return on investment instruments is a worthy aim, the Prudent Investor Act may have granted trustees excessively free reign in creating the investment portfolio. Similarly, the UPIA may have granted trustees too much discretion in allocating trust earnings to income or principal as this discretion may hinder the trustee’s ability to act impartially. Given that a trustee’s exercise of discretion generally increases potential risk of mistake, abuse, and controversy, the trustee may conceivably be more apt to err by improperly favoring one type of beneficiary because the trustee relied upon his own personal opinions and values rather than upon established, time-tested guidelines focused on promoting impartiality. This Article examines the possible impairment of trustees’ ability to fulfill their duty of impartiality as a result of the Prudent Investor Act and the UPIA. This Article also proposes that this impairment can be minimized by using the Unitrust Conversion (“UC”) method of allocation in conjunction with the Equitable Adjustment (“EA”) method of allocation.   

Both the UC and EA allocation methods allow the trustee to better fulfill his duty of impartiality. The EA method, described and incorporated in the 1997 UPIA, accomplishes this by enabling the trustee to increase or decrease distributable net income by “adjust[ing] between principal and income to the extent the trustee considers necessary”  in order to fulfill the duty of impartiality, or to fulfill the purpose of the trust. The UC method, adopted from charitable remainder unitrusts, also enables the trustee to change the amount of distributable net income that may be too high or too low by granting the trustee the authority to annually distribute as income a certain percentage of the aggregate value of trust assets.
   
Part II of this paper provides background information on the history and development of trust investment laws and trust earnings allocation laws. Part III describes the challenges that the Prudent Investor Act and UPIA pose to the trustee in fulfilling the duty of impartiality, and examines how the UC and EA allocation methods can mitigate those problems. Part IV offers concluding remarks.