Brady, Nordgren,
Morton &
Malone, PLLC
2301 Sugar Bush Rd, Suite 450
Raleigh, NC 27612
Toll Free: 1-866-573-8832
Phone: 919-782-3500
Fax: 919-573-1430
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Trustee's Alert North Carolina's Prudent Investor Act
by Brady, Nordgren, Morton & Malone, PLLC
If you are currently serving as a trustee or if you are a beneficiary of a
trust, you should be aware of a new law that was enacted in North Carolina on
June 25, 1999, effective January 1, 2000. The law is known as the North
Carolina Uniform Prudent Investor Act. Most other states have also enacted
this statute and trusts created in those states must, for the most part also
follow the same rules.
The Act imposes statutory obligations of the Prudent Investor Rule on the
management of all trusts governed under North Carolina law. Previously,
investment standards were reflected in case law that was difficult to
understand.
The Prudent Investor Rule is a default rule. This means that the rule may be
made more or less restrictive by the person creating the trust. Unless the
rule is changed under the terms of the trust, the statutory rule applies.
The Act does not apply to ERISA retirement or pension trusts, trusts created
pursuant to a premarital or post-marital agreement, custodial accounts,
guardianships, estates, or to certain business trusts, such as voting trusts,
security arrangements, liquidation trusts or to bankruptcy trusts.
The Act directs trustee conduct with respect to all other trusts. So long as
the trustee's conduct falls within the statutory directive, the trustee's
actual performance is not relevant. The Act directs that "a trustee shall
invest and manage trust assets as a prudent investor would, by considering the
purposes, terms, distribution requirements, and other circumstances of the
trust." The trustee is evaluated by reference to the terms and purposes of the
trust rather than by trust gains or losses. Thus, the standard is that of a
prudent investor similarly situated.
The Act directs that the trustee must consider as relevant to the trust or its
beneficiaries certain circumstances. Those circumstances include: (i) general
economic conditions; (ii) possible effects of inflation or deflation; (iii)
expected tax consequences of investment decisions or strategies; (iv) the role
that each investment or course of action plays within the overall trust
portfolio; (v) the expected return from income and the appreciation of
capital; (vi) other resources of the beneficiaries known to the trustee; (vii)
needs for liquidity, regularity of income and preservation or appreciation of
capital and (viii) an asset's special relationship or special value, if any,
to the purposes of the trust or to one or more of the beneficiaries. The
trustee is directed to be aware of and act based on all of the circumstances
that affect the beneficiaries interest in the trust and not to simply monitor
the value of the trust property. Furthermore, the Act provides that a trustee
who has special skills or expertise or is named trustee upon the trustee's
representation that the trustee has special skills or expertise has a duty and
responsibility to use those special skills or expertise. This higher standard
applies to corporate trustees, tax professionals, CPA's and estate
professionals or specialists.
These provisions are the very essence of the Act. The Act imposes a standard
of the prudent investor similarly situated as related to the purposes and
circumstances of the trust. The stated terms or purposes of the trust may
alter the standard to which the trustee is held. If the grantor desires to
provide primarily for one beneficiary, a spouse for example, over other
beneficiaries or if the grantor desires that certain property, such as a
family business, be retained, those purposes should be stated in the trust in
order to provide guidance to the trustee. Where a trust benefits a spouse and
children, it may be appropriate for the trust to direct the trustee to
preserve property for children, rather than to maintain a spouse's accustomed
lifestyle. On the other hand, the trust may direct that the needs or desires
of the spouse are given primary consideration before the needs of adult
children or, that the trustee consider other means of support available to a
beneficiary prior to making any distributions for their needs.
Where a trust is void of any specific direction, the trustee is expected to
consider the impact their investment decisions will have on all of the
beneficiaries. Trustees, especially trustees who have been appointed because
of their professional expertise, are expected to be knowledgeable of capital
gains issues, step up in basis issues and the income tax effect of various
investment strategies as well as the tax impact of their decisions on the
beneficiaries. A trustee who is not meeting with the CPA for the trust and the
beneficiaries of the trust to review tax brackets, outside gains and losses,
wasting capital loss carry forwards or charitable loss carry forwards may be
embarrassed and responsible for his or her failure to do so.
The Act requires that a trustee diversify investments of the trust, unless the
trustee reasonably determines that special circumstances or the purposes of
the trust are better served without diversifying. This simply means that a
trustee must have a reason not to diversify trust assets. These reasons may
include capital gains issues, step up in basis, depreciation recapture and
family business issues. The bottom line is that given the direction to
diversify, unless there is a documented reason not to diversify, it is risky
for a trustee not to diversify trust assets.
The Act also directs that a trustee shall act impartially with respect to
asset management, "taking into account any differing interests of the
beneficiaries." A trustee is often torn between investing for income and
investing for growth. Where beneficiaries' interests are defined as an income
interest and remainder interest, then, without specific reason, the trustee
must balance the investments between income and growth.
In addition to providing a standard against which a trustee may be judged, the
Act also offers planning opportunities. Where a trust remains revocable or
amendable, it would be appropriate to amend the trust to include a purpose
paragraph, providing guidance to the trustee from the grantor. The trustee may
be directed to first take into consideration the needs and desires of a
primary beneficiary over the contingent or secondary interests of others.
Education may be indicated as a primary purpose. Language may be included
regarding retention of specific assets, investment philosophy or authorization
not to diversify. Language allowing or directing the trustee to retain family
business assets and to incur the risk associated with a closely-held business
may also be critical.
Although the statute clarifies the obligations of a trustee and the standards
to which that trustee will be held, it places a burden on the grantor to make
his or her intentions known. The Act imposes a default rule and unless the
grantor has made his or her purposes clear, the trustee must diversify, treat
all beneficiaries impartially, consider all relevant consequence of his or her
actions and be held responsible for the failure to do so by any or all of the
beneficiaries.
R. Daniel Brady, Attorney, and Certified Public Accountant is certified by the
North Carolina State Bar as a Board Certified Specialist in Estate Planning
and Probate Law. He practices law in Raleigh, North Carolina and limits his
practice to estate planning, probate, trusts and closely held business
interests in the context of wealth transfer. He may be reached by phone at
919-781-1311, fax at 919-782-0465, or e-mail at
rdbrady@mindspring.com. |
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