Photo: Flickr / TGKW
Establishing a trust fund with a family member as trustee is a common practice, but it works out best when the trustee doesn’t gamble away all the assets.Unfortunately, that’s allegedly what happened over the course of six years as 73-year-old Edna Sue Pate lost more than $93,000 of her grandson’s college trust fund at an Indiana casino.
The grandson’s father became suspicious and filed suit when Pate ignored his attempts to reach her, and Pate was later arrested after skipping court appearances related to the suit. She now faces up to eight years in prison for mishandling the money.
As the trustee, Pate was legally obligated to manage the money within the terms of the trust. But with no one else watching over the trust’s assets as the years passed, the fund was empty by the time her grandson graduated from high school.
Choosing the Right Trustee
Trustworthy relatives can make great trustees when the beneficiaries are also in the family. They usually don’t deduct trustee’s fees from the fund, and their personal interest in the trust should be enough of an incentive for them to invest and manage the assets wisely. But as Pate’s case shows, familial bonds aren’t always enough.
“All too often, we don’t have the ideal trustee candidate in our lives,” said New York attorney Ann-Margaret Carrozza. “But when you don’t have that ‘A’ candidate, you’re better off picking two ‘B’ candidates. With two trustees, you arguably have the chance of more accountability.”
When a trust is established with two or more trustees, they must all approve each investment, payment or other use of the fund’s assets. Alternatively, a trust can be written so that each co-trustee has a specific role; for example, one may be authorised to use assets for investments, while another manages the transfer of funds to beneficiaries.
Still, having multiple trustees doesn’t absolutely guarantee that the trust will be managed responsibly. The most reliable trustee option is not a person at all, but rather a bank or another financial institution.
“In theory, having a bank as your trustee is great,” Carrozza said. “But banking institutions generally aren’t interested in serving trusts of less than about five million dollars. For typical family estate planning, appointing a bank as a trustee just isn’t a realistic option.”
Checks and Balances
Outside of establishing co-trustees, another way to proactively avoid trustee misappropriation is to appoint a trust protector. A trust protector does not bear the same responsibilities as a trustee, but inspects the records of the trust periodically to make sure that it’s being managed properly. Depending on the powers granted to the protector in the trust, this person may have the authority to override trustee decisions or even appoint replacement trustees.
Grantors or beneficiaries who fear that assets have already been misused can demand an accounting of the trust, but this safeguard comes at a price.
“When a beneficiary compels an accounting, the trustee must hire a CPA to conduct a formal accounting of the trust,” Carrozza said. “But the downside to this is that the expense of the accounting is borne by the trust’s assets, and it can cost thousands of dollars. So it’s not a move to be taken lightly. You’ll want to be pretty sure there’s something going on before you compel an accounting.”
If a trust fund is clearly being mismanaged, a grantor or beneficiary can also file a criminal complaint against the trustee. Carrozza warns that while this approach can be less costly than an accounting, the likelihood of criminal charges hinges on the trust’s exact language.
“Depending on the terms of the trust, the trustee may be allowed to borrow assets or the terms may simply be vague enough to allow for whatever the other parties are objecting to,” Carrozza said.
If all else fails, a court petition can be filed to have a trustee removed. But again, the existing language of the trust can make or break this effort. Trusts drafted by diligent attorneys will include language dictating how trustees may be removed or added, but a poorly written trust instrument can set the stage for a costly court battle.