Trusts Flashcards
Allocation of receipts in a trust
Receipts earned during the administration of a trust are allocable either to income or to principal. Almost all states have adopted the most recent or an earlier version of the Uniform Principal and Income Act (the Act), which specifies how such receipts should be allocated. Under the Act, rents and cash dividends received from a corporation are allocable to income and are distributable to the income beneficiary of the trust. Sales proceeds and dividends paid in the stock of the distributing corporation are allocable to principal and added to the principal of the trust.
Rule of convenience
When a trust remainder is given to a class, the class closes (i.e., no new persons can join the
class) when there is no outstanding income interest, and at least one member of the class is then entitled to demand possession of his or her share of the remainder. This principle is called the rule of convenience.
When a class member can demand their share
A class member may demand possession of his or her share of the remainder upon termination of the income interest only when the class member’s interest is not otherwise subject to a condition precedent.
Effect of disclaimer
When a beneficiary timely disclaims an interest in a trust, that beneficiary is treated as if he had predeceased the testator.
Effect of renouncing a life estate at common law
Under the common law, if a life estate is renounced, the remainder interest accelerates and
becomes immediately distributable to the remaindermen of the trust if the remainder is vested but not if the remainder is contingent.
Trustee obligations until the trust becomes distributable
When trust principal is not immediately distributable, the trustee must continue to hold trust
assets until the ultimate remaindermen are ascertained. During this period, trust income will be
distributed or retained according to any instructions contained in the trust instrument.
Approaches to distribution of trust income
One approach would have the trustee distribute the trust income to the testator’s heirs on the theory that the income represents property that was not disposed of by the testator’s will and which thus passes by partial intestacy to the testator’s heirs.
A second approach would have the trustee accumulate trust income for distribution to the
ultimate remaindermen. Under this approach, only those individuals ultimately entitled to the
principal would share in the income.
A third approach would have the trustee distribute trust income to those individuals who would be the remaindermen if the trust were to terminate when the income is received by the trustee.
Trusts and public policy
Provisions of trusts that violate public policy are void. Trust provisions that restrain a first
marriage have generally been held to violate public policy.
Trustee duties to the trust
A trustee owes a fiduciary duty of loyalty to a trust; self-dealing, such as a purchase of trust
assets by the trustee in his individual capacity, violates this obligation. Under the “no further
inquiry” rule, there is no need to inquire into the motivation for the self-dealing transaction or
even its fairness. Any trust beneficiary can cause a self-dealing purchase by a trustee to be set
aside or obtain a damages award. If a beneficiary elects to set aside the transaction, the trust
property purchased by the trustee is returned to the trust and the amount the trustee paid for the
property is refunded by the trust. If a beneficiary seeks damages, those damages are based on the difference in the fair market value of the trust assets at the time of the self-dealing transaction and the amount paid by the trustee.
No further inquiry
As noted in the Restatement (Third), under the no-further-inquiry rule, “it is immaterial that the
trustee may be able to show that the action in question was taken in good faith, that the terms of
the transaction were fair, and that no profit resulted to the trustee.” This strict approach is
justified on the grounds that “it may be difficult for a trustee to resist temptation when personal
interests conflict with fiduciary duty. In such situations, for reasons peculiar to typical trust
relationships, the policy of the trust law is to prefer (as a matter of default law) to remove
altogether the occasions of temptation rather than to monitor fiduciary behavior and attempt to
uncover and punish abuses when a trustee has actually succumbed to temptation. This policy of
strict prohibition also provides a reasonable circumstantial assurance (except as waived by the
settlor or an affected beneficiary) that beneficiaries will not be deprived of a trustee’s disinterested and objective judgment.”
The Uniform Trust Code takes a similar approach. It adopts the no-further-inquiry rule and
provides that a self-dealing transaction is voidable by trust beneficiaries. As noted in the
comments, “transactions involving trust property entered into by a trustee for the trustee’s own
personal account are voidable without further proof. . . . It is immaterial whether the trustee
acts in good faith or pays a fair consideration.”
Standard that a trustee must comply with when administering the trust
A trustee shall administer “the trust as a prudent person would . . . [using] reasonable care, skill,
and caution.” One of the hallmarks of prudent investing is diversification. A balanced portfolio
reduces aggregate risk by investing in different investment categories. Diversification thus is
strong evidence of prudent investing. Indeed, failure to diversify is likely the reason why the
trustee in this case was advised to sell the closely held corporate stock.
A trustee has a duty to administer the trust “diligently and in good faith, in accordance with the
terms of the trust and applicable law.”
Power to revoke, modify or amend a trust
A retained power to revoke a trust includes the power to modify or amend the trust instrument.
Courts have taken this position to avoid the triumph of form over substance; the contrary
position would require a settlor who wants to amend a trust and lacks clear authority to do so to
first revoke, and then to completely restate, the terms of the trust with the intended amendment.
Such cumbersome formalities should not be encouraged; thus, the power to revoke includes the
power to amend. The Uniform Trust Code (UTC) follows this approach; under UTC § 602, a
trust is both revocable and amendable unless the trust instrument expressly provides otherwise.
Under the UTC, the power to revoke or amend is exercisable by will unless, as here, the trust
instrument provides otherwise.
Donee of special power can only appoint property to permissible appointees
The donee of a special (nongeneral) power can appoint the property over which the power is
exercisable only to “permissible appointees” or “objects” of the power. Permissible appointees
are “the persons to whom an appointment is authorized.” Appointments to impermissible
appointees are invalid. However, objects of a power include only those who receive a “beneficial
Interest.”
“If part of an appointment is ineffective and another part, if standing alone, would be effective,
the effective part is given effect, except to the extent that the donee’s scheme of disposition is
more closely approximated by concluding that some or all of the otherwise effective part should
be treated as ineffective.”
Spouses and the illusory-transfer doctrine
Under the illusory-transfer doctrine, a surviving spouse can reach assets transferred during the
marriage by the deceased spouse into a revocable trust on the theory that the transfer is
economically “illusory” because, by the simple expedient of exercising the power of
revocation—typically with nothing more than a signature on a piece of paper—the deceased
spouse could have recaptured the assets she had placed in the trust.
Spouses and the fraudulent-transfer doctrine
Under the fraudulent-transfer doctrine, a surviving spouse can reach assets transferred into a
revocable trust on the theory that, as to the surviving spouse, the transfer was “fraudulent.” The
assumption behind this doctrine is that a state statute providing surviving spouses with an
elective-share entitlement gives spouses a legitimate expectancy in assets that would have been included in the decedent spouse’s probate estate but for their transfer into a revocable trust; such a transfer is treated as defrauding the surviving spouse of his or her expectancy.
