TRUSTEE DUTIES TO BENEFICIARIES (Bloomberg-BNA)
Trustees of irrevocable trusts have an affirmative duty to inform (some) beneficiaries of (some) information about the trust, and beneficiaries have the right to demand certain information from their trustees. At common law, a trust settlor generally may not, as a matter of public policy, waive the trustee’s duty to inform or “account” to beneficiaries.
These duties of the trustee and rights of the beneficiary are intended to ensure that trust beneficiaries have the information necessary to protect their beneficial interests in the trust. In some states, the settlor is able to limit or waive this requirement in the trust instrument; in other states, this requirement is not waivable as a matter of public policy.
WHAT IS A SILENT TRUST?
A silent trust generally is an irrevocable trust in which the settlor waives entirely, or severely limits, a trustee’s duty to inform the beneficiaries of the existence of the trust, or to notify beneficiaries of other trust information. The terms of a silent trust may expressly direct the trustee not to inform the beneficiaries of the existence of the trust, its terms or the details of the administration of the trust. Ultimately, silent trusts represent a departure from the common law duties imposed on trustees and the general understanding of the fiduciary relationship between a trustee and the beneficiaries of the trust.
Identification of Beneficiaries. As with any trust, beneficiaries of silent trusts are identified in the trust instrument, either by name or by class description. However, the extent to which any one or more of them will be notified of information relating to the trust may vary. How much information is provided, and to which beneficiary, generally depends on the terms of the trust instrument and the law of the jurisdiction that governs the administration of the trust.
Information Disclosed. Depending on the settlor’s directions in the trust instrument and the requirements of the governing law, the limitations placed on the trustee’s duties (or authority) to disclose may vary. For example, the trustee may be (a) required to disclose trust information to current beneficiaries, but not to contingent beneficiaries; (b) required to provide a copy of the trust instrument, or any other trust information, to a beneficiary only upon request (i.e., the trustee is prohibited from volunteering trust information to any beneficiary); (c) prohibited from providing a copy of the trust instrument, or any other trust information, to a beneficiary, even upon a beneficiary’s request; (d) permitted to provide information only to certain beneficiaries; or (e) permitted to provide information only to a “surrogate” specifically designated under the trust instrument to receive information regarding the administration the trust on behalf of the beneficiary.
Period of Nondisclosure. The period of nondisclosure or “silent period” varies, but usually will extend until a beneficiary reaches a certain age (e.g., age 25, in jurisdictions that adopt the Uniform Trust Code), or may extend for a defined length of time (e.g., a “period [of time]” for silent trusts created under the laws of the State of Delaware).
Also available on Bloomberg Tax
Designed by tax practitioners for tax practitioners, Bloomberg Tax is a complete, comprehensive tax research solution that will help you access expertise, news and analysis, and practitioner-developed tools. An easy-to-use interface and improved search deliver the fastest and easiest access to the expert analysis, in-depth news, extensive primary source material, and full range of practitioner-developed tools only available from Bloomberg BNA. We've got tax reform covered. The “Tax Cuts and Jobs Act” is the most substantial changes to the U.S. tax system since 1986. Our editors, reporters, and network of leading practitioners are tracking, reporting, and providing insights and analysis on the new legislation. Try Bloomberg Tax and see for yourself how the next generation in tax research can help you get to the right answer faster and more efficiently.
UNIFORM TRUST CODE
The Uniform Trust Code (UTC) has now been adopted in 33 jurisdictions; however, no two states have enacted an entirely identical version of the provisions related to the duty to inform and report. The drafters of the UTC acknowledge that the duty to keep the beneficiaries of a trust reasonably informed of the trust’s administration is a fundamental duty of the trustee. At the same time, the drafters admit the desire of some settlors to keep knowledge of a trust’s bounty from younger beneficiaries until they have reached an age of maturity and self-sufficiency. Therefore, although the UTC imposes broad disclosure requirements on the trustee to the “qualified beneficiaries” of the trust, the enacting jurisdiction may choose to allow the settlor to override these requirements in the trust instrument.
In addition, the concept of a “qualified beneficiary” was developed to avoid involving beneficiaries whose interests are remote and contingent, as those beneficiaries are not likely to have much interest in the day-to-day administration of the trust.
A qualified beneficiary is a beneficiary who, on the date the beneficiary’s qualification is determined: (a) is a distributee or permissible distributee of trust income or principal, (b) would be a distributee or permissible distributee of trust income or principal if the interests of the distributees described in (a) terminated on that date without causing the trust to terminate, or (c) would be a distributee or permissible distributee of trust income or principal if the trust terminated on that date. In essence, the qualified beneficiaries are those beneficiaries currently eligible to receive a distribution from the trust and the “first-line remaindermen.”
Section 813 of the UTC sets forth the duty to inform and report and imposes several separate but related duties on the trustee. However, Section 105 of the UTC also provides for default rules (those that apply if the trust instrument is silent) and mandatory rules (those that cannot be altered by the trust instrument), which allow the enacting jurisdiction to opt in or out of the mandatory nature of the disclosure requirements. Notably, the provisions which relate to the disclosure requirements were expressly made optional by a 2004 amendment to the UTC and appear in brackets in the UTC.
IS A SILENT TRUST RIGHT FOR MY CLIENT?
Silent trusts, and whether they should be included as part of an individual’s estate plan, are controversial among legal and financial advisors.
U.S. individuals are wealthier than ever, yet common law and statutes of many states have not kept pace with this wealth, or the changes in the attitudes, behaviors, goals, or needs of high net worth individuals, or even advances in technology.
All of these factors create desires, reasons, and even needs, for waiting longer to disclose family wealth to younger family members, while tax and estate planning considerations continue to encourage intergenerational transfers sooner rather than later.
Despite certain concerns raised for silent trusts, increasing numbers of states are enacting silent trust statutes, and increasing numbers of individuals are creating them. And, for individuals who want to transfer wealth to their children but do not want to talk to them about it, silent trusts can be a way to bridge the gap.
Silent trusts also allow individuals to engage in tax planning early on to achieve substantial tax savings while keeping the details of the tax planning silent for a longer period of time.
Reasons to Create a Silent Trust
Many settlors create trusts because they perceive that their children, and potentially their more remote descendants, are not prepared to handle significant wealth if distributed to them outright. Families also create trusts for privacy reasons, as a wealth preservation/asset protection tool, and also for the tax planning benefits traditional trusts offer. Families who create trusts as silent trusts do so for similar reasons, but often have additional reasons for including the nondisclosure feature that silent trusts offer. Some of the top reasons cited for creating silent trusts include the following:
Silent Trusts Protect Against Perceived Unpreparedness and Immaturity. Many wealthy families feel a strong responsibility to their children, and most believe that leaving wealth to their children is important. Yet, many worry about the effect that a substantial legacy may have on their children’s personal and professional lives and, therefore, a majority have not engaged their children in discussions about the families’ wealth and the responsibilities in brings.
Silent Trusts Promote Fiscal and Social Responsibility. Many settlors want to promote fiscal and social responsibility among their children, and are legitimately concerned that if their children have knowledge of a large trust created for their benefit, it may negatively impact their work ethic, they may lose motivation to work hard and be productive, and may turn instead to a life of greater leisure.
Essentially, if a beneficiary knows his or her future is financially secure, he or she may not pursue a productive and financially secure lifestyle.
Silent Trusts Are a Preferred Alternative to Incentive Trusts. In general, incentive trusts include distribution provisions that are intended to inspire a trust beneficiary to behave in a certain way or achieve goals that are highly valued by the settlor. Incentive trusts are similar to silent trusts in that they are geared toward counteracting the reaction of a beneficiary when he or she learns that they are a beneficiary of a trust with significant wealth, with that reaction being that the beneficiary loses incentive to be financially independent.
However, incentive trusts may fall short of a settlor’s intended objectives, and also may be too inflexible or too difficult to draft to anticipate all possible circumstances. Those who advocate silent trusts take the position that simply not disclosing the trust’s existence to a beneficiary is a better means of accomplishing the settlor’s goals (i.e., to motivate a beneficiary or, put another way, not create a situation that will cause the beneficiary to lose motivation to become a productive citizen). A further benefit to silent trusts not offered by incentive trusts is that a silent trust provides the settlor with an opportunity to prevent a demanding beneficiary from making unreasonable information, investment or distribution demands from a trustee—at least for a period of time.
Silent Trusts Promote Wealth Preservation/Asset Protection. Some settlors believe that the less a child knows about the family wealth (or the child’s own inheritance), the less likely the child will be subject to frivolous lawsuits, undesirable friends, identity theft, and even kidnapping. If a beneficiary has emotional or psychological issues, drug problems, a troubled marriage, or creditor risks, a settlor may prefer that the beneficiary be unaware of the trust and, therefore, unable to request access to trust funds to perpetuate these circumstances and deplete trust funds for unintended purposes.
Privacy Concerns. Privacy concerns are increasingly cited for reasons to create trusts as silent trusts. Some wealthy parents have not disclosed wealth to their children because they are worried about family privacy and fear their children will discuss family wealth publicly. For example, the rise in social media has generated serious concerns among some settlors.
A young beneficiary who carelessly publicizes his or her wealth, whether via social media or by carelessly leaving trust statements in plain view for friends to see, needlessly expose themselves to frivolous lawsuits and identity theft. High net worth individuals and, in particular, those in the public eye, have significant presence in social media and, therefore, may be at a much higher risk for security attacks.
For these individuals, if the beneficiary knows of his or her wealth, so may the public, and the settlor may wish to create a trust as a silent trust to minimize the risks attendant to the publicity of a beneficiary’s wealth. If a beneficiary does not know the trust exists, his friends on Facebook and Instagram followers won’t know either.
Cyberattacks in the form of client impersonation also could be avoided where a beneficiary does not know of significant inherited wealth and, therefore, is without the ability to disclose it. Criminals can gain significant information about a high net worth beneficiary from internet research, social media, and shrewd tactics to “friend” or engage the beneficiary on multiple social media platforms. These stealth investigations enable phishing attacks against beneficiaries and in turn can lead to an attacker taking over a beneficiary’s online financial accounts (and possibly online trust accounts made available to the beneficiary), fraudulently obtaining credit in the beneficiary’s name, and even sending spoofed asset transfer requests to the beneficiary’s family office. When wealth inherited by a beneficiary remains silent for a period of time, the beneficiary is less likely to attract these kinds of attacks. This may minimize the risks to the beneficiary, the beneficiary’s family and family office (if any), and other, unrelated families of high net worth. These risks make keeping trusts holding significant wealth no longer just about making sure a beneficiary is productive, but also about security, and protecting the privacy and wealth of trust beneficiaries and generations of their family members.
Increased Risks for Family Offices. Just like a beneficiary’s disclosure of his or her wealth, or access to it through a substantial trust created for his or her benefit (whether that disclosure is intentional or unintentional) can create the personal risks for the beneficiary, that disclosure also can create significant risks for a family office that manages the wealth of the beneficiary, his or her family, and potentially many other family office clients. This is increasingly relevant given the proliferation of multi-family offices in recent years, and families that rely on them to plan for, manage, and protect their wealth. A beneficiary’s knowledge of his or her wealth, and even the inadvertent disclosure of it (whether to younger, less mature family member beneficiaries, or by tweeting to the general public) can increase the visibility of an otherwise low-key family office and its clients.
Tax Reasons. Many settlors are motived by tax reasons to create trusts during their lifetimes for the benefit of their heirs, often times making gifts in trust to the extent permitted without incurring gift or generation-skipping transfer tax. The issue for many settlors, however, is the fact that once a lifetime trust is created and funded with significant wealth, the settlor’s children or other heirs are notified of the transfer, if not immediately, then at least upon attaining age 18. For many settlors, this is a reason not to transfer wealth in trust for their children. Specifically, settlors express the concerns noted above associated with creating trusts for the children, and having their children know about the wealth that has been set aside for them. Therefore, while the primary reason for a settlor creating a trust may be for transfer tax reasons, the settlor may not necessarily be keen on the concept that his or her child will know about the trust at an early age.
Benefits That Silent Trusts Offer
Permits Settlors to Engage in Tax Planning that Might Not Otherwise Happen. Sound estate planning requires that individuals engage in wealth transfer planning during life by transferring assets to irrevocable trusts, and trust law traditionally mandates that the trustee disclose to the beneficiary the trust’s existence, and other detailed information about the trust. However, some settlors are concerned that disclosing the existence of the trust to the beneficiary will diminish the beneficiary of at least some, or possibly all, of any drive the beneficiary may have had. This often is a reason why some engage in no lifetime planning, and disclose details of their estate plans to their heirs only at death.
Silent trusts can benefit the settlor who wants to transfer wealth during his or her lifetime to maximize tax planning, but does not want his or her child, as a beneficiary of an irrevocable trust funded with the settlor’s gift and generation-skipping transfer tax exemption, to know about the inherited wealth by the time he or she reaches the age of majority.
Permits Settlors to Adjust Tax Planning Done Too Soon. During 2012, many settlors rushed to engage in wealth transfer planning and created irrevocable trusts for the benefit of their heirs to avoid the looming reduction in the estate and gift tax exemption and increase in tax rates (absent acts of Congress, in 2013 the gift and estate tax exemption would have fallen to $1 million and the tax rate would have increased to 55 percent). Settlors thus sought to lock in favorable tax rules before the possible change in 2013. In so doing, many failed to consider the non-tax (i.e., emotional) consequences of their actions, including the fact that their heirs would learn of their inheritance (i.e., the trust) sooner than the settlor may have anticipated or even realized.
For those individuals who had considered these non-tax considerations, a solution for many of them was to create a silent trust. For those individuals who had not considered these non-tax considerations, the settlor now could consider modifying the trust to make the trust a silent trust, so long as the beneficiary has yet to learn of the trust’s existence.
Permits Settlors to Delay Disclosure. A silent trust can be used to simply delay disclosure to a beneficiary until a later time (e.g., age 25 in states that adopt the UTC, or later, in other states like Delaware), but not forever. A silent trust may allow the silent period to extend as long as may be needed for a determination to be made as to when and whether a child (or more remote descendants) is mature enough to handle the news of their inherited wealth, or has exhibited signs of social and fiscal responsibility. Essentially, the constraints on the beneficiary’s access to information may provide a solution for individuals to deal with a beneficiary who is particularly immature, and also address an individual’s concern that knowledge of the trust could corrupt character not yet tested.
Addresses Changing Times. The non-waivable trustee duties under the UTC represent an attempt to balance the settlor’s desires for non-disclosure against the interests of the beneficiaries who may need to enforce their rights under the trust. However, trust laws have evolved over time, and must continue to evolve, to adjust to contemporary issues and concerns.
For example, modern trust laws have relaxed the restrictions on perpetual trusts by eliminating, or at least reducing the reach of, the rule against perpetuities. Similarly, procedures to change irrevocable trusts and settle trust disputes have expanded and become available among more and more jurisdictions.
Some take the position that the same should hold true for rules prohibiting nondisclosure, that a settlor should be able to waive the a trustee’s customary duty to disclose, and that laws should continue to change to meet the recent and developing demands of individuals who wish to keep a trust silent, at least for a period of time.
Reasons Not to Create Silent Trusts
There also are arguments against the use of silent trusts. Some take the position that the use of silent trusts hinders the education of the next generation. Others point to the risk of personal liability run by trustees who fail to provide beneficiaries with information material to their trust interests, even when following the apparent wishes of the settlor. Some of the top reasons cited for not creating silent trusts include the following:
Family Wealth Should Be Discussed Openly. Informing children at an appropriate age of their parents’ estate plan encourages open discussions of financial matters in family setting. When children are treated with respect and are included as part of the planning process, they are more likely to develop responsible attitudes. Providing financial and estate planning detail can set the stage for educating the child on financial matters and instilling family values at an early age.
Disclosure Avoids Litigation. Once a beneficiary does learn about a silent trust, the beneficiary may question the administration of the trust during the silent period, ask questions and seek legal advice, all of which could lead to litigation between the beneficiary and trustee. Some believe that disclosing the trust (and, instead, possibly creating a discretionary trust or an incentive trust) and keeping the beneficiary informed from inception is more likely to avoid litigation.
At a minimum, providing beneficiaries with material information about their interests and regular accountings will start the clock running on the applicable statute of limitations period for any beneficiary complaints.
On the other hand, if the trust has been properly managed and administered during the silent period, the beneficiary should have no claim against the trustee.
The concern is that during the silent period the trustee will have no way to know whether the beneficiaries would object to any aspect of the trust administration.
By the end of the silent period, the alleged damages to the trust may have increased significantly, either from lost returns compounded over the years or because the trustee has repeatedly engaged in similar transactions before the beneficiaries knew enough to object. In either case, the silent period itself would not cause the trustee’s exposure, but it could greatly increase its magnitude.
Of course, beneficiaries can and do initiate litigation against trustees even when they are given information about their trust interests on an ongoing basis. Affirmative disclosures and regular reporting to the beneficiaries are no guarantee that a trustee will not have to defend its administration in court.
Issues Silent Trusts May Raise
Those less in favor of silent trusts commonly cite the following as issues that should discourage their use:
Trustee Duties. Silent trusts make it more difficult for a trustee to keep beneficiaries informed about the administration of the trust. However, proponents of silent trusts would respond that designating a “surrogate” to receive information on behalf of the beneficiary during the silent period could resolve this issue.
Breaches of Trust. Informing a beneficiary of the existence of a trust and reporting to the beneficiary during administration may help to prevent breaches of trust, or may allow breaches that do occur to be discovered timely. As a solution to this concern, proponents of silent trusts maintain that a surrogate could act as a trustee-watchdog on behalf of the beneficiary during the silent period. In jurisdictions where surrogates are not considered to be fiduciaries, however, the watchdog function is significantly curtailed.
Practical Issues. When a trust is silent, how are the beneficiary’s income tax issues addressed, what if the beneficiary decides to get married and decides to sign a premarital agreement, and how does a trustee respond to direct inquiries by a beneficiary who suspects a trust for his or her benefit exists?
HOW TO CREATE A NEW SILENT TRUST
Get to Know Your Client
Key Preliminary Considerations. To effectively advise clients and customize planning solutions for them, it is critical that advisors educate themselves about their clients, and consider whether a silent trust might be appropriate for them. Advisors should identify the experiences and emotions that drive their decisions about how to manage their wealth.
This is essential if advisors want to advise clients effectively and identify planning solutions that are customized for and aligned with their personalities, priorities, values and objectives.
Consider the client’s attitude towards their wealth, and whether the client inherited his or her wealth, or established it on their own.Understand the personal life experiences that have shaped the client’s attitudes and beliefs about money and wealth, and the emotions that drive the estate planning process.
Understand that although many clients may have come from inherited wealth, and knew about it from an early age, certain clients may have very different attitudes about what their own children should be told, and when, particularly where a client’s child already has established himself or herself as a spendthrift or fiscally irresponsible and, therefore would be better off not knowing about his or her inherited wealth for a period of time after that wealth is transferred in trust for him or her.
Discuss Options and Needs With Clients & Dialogue With Fiduciaries. Advisors who believe a silent trust may be an appropriate planning tool for their client should not only discuss the benefits and issues raised above, but also establish that the client has clear understanding of the parties involved and the issues that may arise during the administration of the trust.
In addition, neither the adviser nor the settlor should assume that individuals the settlor has selected to act as a fiduciary under a silent trust, whether as a trustee or a surrogate, will be willing to take on such a role.
Some may be wary of doing so, so the adviser and settlor should approach these potential fiduciaries early in the process to discuss the settlor’s objectives before the trust instrument is finalized or even drafted.
Preliminary discussions with the fiduciaries should include a review of the contemplated provisions of the proposed trust instrument in an effort to ensure that the terms of the trust instrument are clear and unambiguous to those who must carry them out, and also address any potential conflicts arising out of the duties allocated among fiduciaries.
