As Trustee you may be instructed to "pay all net income" to the beneficiary. Or you may be allowed to pay income in your discretion to the beneficiary. What is Trust income?
The classic interpretation of Trust income is the dividends, coupons, interest, etc. received as income from the investments, net of any expenses such as fees. However, the Trustee now may have other options as well. Depending on the terms of the Trust and the state law, the Trustee may use a total return approach by electing into a Unitrust method, or exercising discretion under the state's income and principal act called the "power to adjust" (PTA). In both the Unitrust and PTA option income will be defined as a percentage of the Trust's total return. The concept is to free the Trustee to invest in such a way as to maximize the return of the Trust portfolio, and to share the total return with the income beneficiary. [In the classic model, any capital appreciation benefits principal and thereby usually the remainder beneficiaries.
A Unitrust option may be specified in the Trust document. If not, state law may allow the Trustee to elect a Unitrust method. Usually all current and future beneficiaries will need to receive notice in advance and given the opportunity to object.
The PTA option may be allowed under the state's Principal and Income Act. If it is, then the Trustee is typically authorized to elect this method. Notice to beneficiaries is typically not required, but is a best practice.
In all cases, the best interests of the beneficiaries should be considered and documented. How will you define income?
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Question: Why won't my Trustee agree to invest Trust funds in my start up business?
Answer: A Trustee must follow the Prudent Investor rule. While she should be open to discussing all aspects of the Trust with you, including the investments, the Trustee is ultimately responsible for making investment decisions that protect the Trust funds from decline, and produce a reasonable return. The Trust is intended to last for a long time and increase in value. The best way to reach this goal, and to maintain sufficient liquidity for distributions and expenses, is to invest in a diversified portfolio of securities.
While the Trust funds may look like a tempting pool of funds, investing in an unproven, illiquid business venture would be one of the worst investment decisions a Trustee can make. A Trustee should not speculate with the funds entrusted to her, but should make them productive and available for the beneficiaries.
If a Trustee were to invest in a start up venture, how would she respond to beneficiaries who needed funds for education, support, or medical issues when Trust funds were tied up in your business venture? If the business starts to fail, how should the Trustee respond? Walk away and admit to the beneficiaries a good portion of the Trust is gone forever? Or should the Trustee continue to invest more money into the venture hoping it can be turned around?
One exception would be if the Trustee is specifically directed in the Trust document to make funds available to beneficiaries for the start of a business.
Another exception would be if the Trustee is directed on investments. But then you would have to convince the Investment Advisor your business is a good idea!
~My Trust Co Staff
Every Good Estate Plan Deserves Great Administration.