Using trusts as an estate planning tool is an excellent way to manage assets and ensure proper distribution to beneficiaries.
Trustees are important players in this process. A good trustee must be knowledgeable in collecting estate assets, investing and managing money, paying bills and filing accountings. Many experts recommend appointing co-trustees and successor trustees in order to best serve the interests of the trust beneficiaries. Selecting trustees can be a complicated process because no matter who is appointed, each has strengths and weaknesses and no one trustee will be a perfect fit for every situation.
For instance, individual family members can be favorites to serve as trustees of small to medium-sized trusts because they are more affordable than hiring a professional or financial institution and they usually have a good handle on the family structure and are familiar with the beneficiaries. The drawback is that they can lack financial expertise and can also get tied up in family conflicts, especially if they themselves are beneficiaries, possibly leading to breach of fiduciary duty lawsuits over their handling of the trust proceeds.
Other trustee options include engaging estate planning attorneys and banking institutions as trustees because of their familiarity with the process and the legal system in general. Banking institutions can be attractive because they may theoretically serve as a trustee indefinitely and possess professional knowledge of and expertise with investment options. However, both professional trustees and institutions often come with higher costs and can be impersonal when dealing with beneficiaries. Ultimately, splitting trustee responsibilities between a team of people, both professional and non-professional, seems to be the best way to keep the trust operating as intended and to ensure all responsibilities are covered. Team up someone who is good with investments with another who knows taxes and a third who is close to the family and can interact with the beneficiaries on a personal level.
While appointing a team of co-trustees is a great way to take care of each phase of trust management, the following cases provide some potential pitfalls to watch out for when drafting the players for the trust management lineup.
The Case of the Sneaky and Biased Co-Trustees: Pfannenstiehl v. Pfannenstiehl1. The Phannenstiehl case is a Massachusetts case involving the determination of whether trust assets were part of the marital estate between a divorced husband and wife with two special needs children. A writ of certiorari was granted by the Massachusetts Supreme Judicial Court on December 22, 2015, to review the treatment of the trust interest.2 The appellate court ruling has drawn much comment and legal gnashing of teeth regarding approval of the trial court ruling that a divorcing party’s beneficial interest in a third-party settled irrevocable trust constituted divisible property for purposes of a property division at divorce.3 For purposes of this article, however, we will concentrate on the appellate court’s discussion about the co-trustees of the trust in question.
The husband, also petitioner in the divorce, was one of eleven beneficiaries of a substantially funded spray trust. Beneficiaries included the husband’s brother and sister, among others. The trust paid out hundreds of thousands of dollars to each beneficiary each year. The husband’s family relied on this money as part of their upper-middle-class lifestyle during the marriage.4 Starting the month preceding the divorce and thereafter, the trust stopped making distributions to the husband, cutting his yearly income in half, consequently cutting the husband’s required support payments in half.5 Monthly distributions to the brother and sister continued even after distributions to the husband stopped.6
Finding the husband’s interest in the trust proceeds was a marital asset, the court made special note of the two co-trustees in this case: the husband’s twin brother and the family’s long-time attorney.7 The court specifically found that the trust was “not administered impartially by the two trustees” and that as the divorce began, “the proverbial family wagons circled the family money.”8 The continuing pattern of monthly distributions to the brother and sister and the cessation of distributions to the husband right before the divorce were two key facts cited by the court in determining that there was a deliberate manipulation to erase a major component of the husband’s income and to silence his interest in the trust.9
Specifically, the brother was a corporate officer in control of the entity funding the trust and therefore controlled what dividends were paid to the trust, impacting its principal and income available for distributions.10 The family’s attorney, who the court described as “ostensibly an outside trustee,” was found to be inextricably interconnected and aligned with the husband’s family because he had represented the husband’s father and the family business for more than forty years.11 The attorney manifested both hands off administration of the trust as well as a general unawareness of what amounts, when, and to whom distributions were made.12
The Phannenstiehl case teaches some very important lessons about selecting trustees and co-trustees. First, if setting up a trust, consider naming a truly independent trustee as a co-trustee, such as a corporate trustee. Be wary of appointing family members or anyone with a beneficial interest in the trust proceeds as a trustee without some independent co-trustee to provide oversight and to curtail potential conflicts or bias. Especially, should you choose to serve as a trustee in your
The Case of the Idle Co-Trustees: Matter of JP Morgan Chase Bank N.A. (Marie H.)14. The JP Morgan Chase Bank case is a New York case involving a multi-million-dollar trust left by a decedent for the care of her two adopted children, one of whom was severely disabled and institutionalized. After being diagnosed with terminal cancer, the mother placed her disabled son in the Anderson School, a group home where he would be cared for after her death. The mother left $12,000,000 in a revocable trust to be divided between her sons in equal shares and executed two irrevocable trust agreements, one for each son. The mother named herself trustee along with her sister as co-trustee.15 The attorney who drafted the will and trust agreements was named successor trustee if either of the co-trustees ceased to serve, and upon the mother’s death, the Chase Manhattan Bank was designated as additional trustee to service with the other trustees.16 The sister predeceased the mother, and then the mother passed away in 2005, leaving the attorney and the bank as co-trustees.17
A year after the mother’s death, the attorney brought a proceeding to be appointed as guardian of the disabled son.18 uring this hearing in 2007, the attorney admitted he had never visited the son to ascertain his condition and his needs, nor had he spoken to staff at the group home to find out whether the son’s needs were being met. Further, the attorney admitted he had never expended a single dollar on the son’s behalf in almost three years.19
A representative from the bank also came to the hearing and testified to the bank’s inaction since the mother’s death, stating that as a banking institution, it did not have the capacity to ascertain or meet the needs of the disabled and institutionalized son.20
A care manager qualified to deal with severely mentally handicapped individuals was retained to care for the disabled son only after the court ordered the appointment of a certified care manager with appropriate experience.21 The caregiver visited the son and interviewed the employees at the group home. From this, the caregiver learned that the son had not had a visitor, had not left the group home for a trip, nor had he been provided with any additional services or opportunities outside of what Medicare covered in the entire time he was at the home. The caregiver took significant steps to utilize the trust money for the first time in order to transform the son’s care, education, and daily life.22 Finally, almost four years after his mother’s death, the son started enjoying a near ‘normal’ existence in his community and had drastically improved quality of life.23
An accounting pursuant to the hearing revealed that initially, the son’s special needs trust was only funded with $18.24 In the following years, the trust should have been funded with approximately $4,000,000, but estate taxes were inexplicably allocated to the disabled son’s share of the estate rather than being divided equally, and the only money expended from the trust for the disabled son was $3,525 for the care manager who was hired pursuant to the hearing. The accounting also showed significant sums expended on trustees’ commissions and legal fees during this time. All of the son’s other expenses were paid through Medicare and not the trust.
The court took a hard line against both trustees in this case, stating that its decision should provide a “clarion call for all fiduciaries of trusts whose beneficiaries are known to have disabilities to fulfill their ‘unwavering duty of complete loyalty to the beneficiary’ or be subject to the remedies available to breach of their fiduciary obligation.”25 Once the trustees were required to make themselves knowledgeable about the son’s condition and his needs, and the availability of services to enable them to provide for those needs, they began and continued to use funds for the purposes his mother anticipated and deeply desired based on the intent of the trust language.26
The court went on to say there are heightened obligations for trustees, both individual and institutional, to provide trust income for medical, educational, or quality of life assistance to known disabled beneficiaries. In this case, the trustees left the disabled son for almost four years with inadequate care, despite the fact that the trust had abundant assets, and to do so was a failure to exhibit a reasonable degree of diligence toward the son.27 Specifically, the plain language of the trust in this case provided for the care of the son by paying any income not applied for the son’s benefit to any facility he may be residing or any organization where he may be a client or participant in any program.28 The court stated this required the trustees, at a minimum, to take the steps necessary to keep themselves fully informed of the son’s residential situation and ancillary services. It was not enough for the trustees to merely safeguard and prudently invest the assets. Rather, the trustees had an affirmative duty to the disabled son to inquire into his condition and apply the trust income to improve it.29 Not doing this was held to be an abuse of discretion and a breach of fiduciary duty by both trustees.
The JP Morgan Chase case highlights a situation where a trustee, even an institutional trustee, may be expected to take affirmative steps to carry out the trust intentions even if it is not within the trustee’s specific or institutionalized knowledge to handle those steps. This case does not stand for the proposition that a trustee should have a degree or special education to handle these things, but rather that he or she should have a clear understanding of when he or she has a duty to act and take steps to fulfill that duty, even if that means bringing in someone else who has expertise in the area.
Another consideration is the need to be extremely selective when choosing a professional trustee. Know the strengths of the trustee and the institution when a client is considering what trustees to use. Clearly define the duties to be performed by the trustee(s). It may even be a good idea to appoint a team of co-trustees: one to look after the beneficiaries, one to manage the trust property, and one who knows the legal requirements for all parties involved. An example would be appointing a related individual, a financial institution, and an attorney to all serve together to see that the intentions of the trust are realized. This way, the strengths and weaknesses of any one of these trustee types individually should be balanced out by the others.
Conclusion. The Phannenstiehl and JP Morgan Chase Bank cases are two extreme examples illustrative of what can go wrong when trustees play outside the lines or never enter the field at all. Both cases highlight the importance of assembling a team of players, each with their own strengths and weaknesses, to ensure the trust proceeds are properly managed. On one hand, the team must consist of people who are connected to the beneficiaries, who know their situation and how to best allocate the assets. On the other hand, people connected to the family are inherently biased and will be placed under scrutiny if any inconsistencies arise through an accounting or the like. Institutional trustees may be under a duty to do more than merely invest the trust assets properly, especially when it comes to disabled beneficiaries. All of these considerations should be accounted for when putting together your co-trustee lineup in order to avoid potential pitfalls and ensure smooth execution of the trust.
1. Pfannenstiehl v. Pfannenstiehl, 88 Mass. App. Ct. 121; 2015 Mass. App. LEXIS 123, writ of cert. granted 473 Mass. 1106, 2015 Mass. LEXIS 908 (Mass., Dec. 22, 2015).
2. Pfannenstiehl v. Pfannenstiehl, Mass. 1106, 2015 Mass. LEXIS 908 (Mass., Dec. 22, 2015).
3. For a well-reasoned discussion of the trust issues see, Chorney, Marc A., Pfannenstiehl v. Pfannenstiehl: Massachusetts Supreme Judicial Court Grants Petition for Certiorari in Unusual Property Division Involving Trust Interest (February 5, 2016). Available at SSRN: http://ssrn.com/abstract=2728713.
4. Pfannenstiehl, 88 Mass. App. Ct. at 125.
6. Id. at 129.
7. Id. at 128.
8. Id. at 128-29.
9. Id. at 129.
10. Id. at 128.
13. Even if the Massachusetts Supreme Judicial Court reverses the appellate court and trial court, the path to attacking such trusts is made a little wider for further arguments. We know that the law evolves and that public policy considerations can change and motivate the extension and/or adoption of new rules or standards. See, e.g., Suvada v. White Motor Co., 32 Ill. 2d 612, 619, 210 N.E.2d 182, 186 (1965).
14. Matter of JP Morgan Chase Bank N.A. (Marie H.), 2012 NY Slip Op 22387; 2012 WL 6742121, 2012 N.Y. Misc. LEXIS 5843.
15. Id. at 365-66.
18. Id. at 368.
19. Id. at 370.
22. Id. at 371-76.
23. Id. at 364.
24. Id. at 366.
25. Id. at 364.
26. Id. at 376.
27. Id. at 377.
29. Id. at 378.
Neil T. Goltermann is with Momkus McCluskey LLC in Lisle, Illinois. Neil concentrates his practice in estate planning, post-mortem planning and administration, business transactions and real estate. Neil earned his bachelor’s degree from DePauw University and his juris doctor from DePaul University College of Law. Daniel S. Porter is a member of Momkus McCluskey’s commercial litigation group. Prior to that, Dan was staff attorney for the 18th Judicial Circuit Court in DuPage County. He earned his undergraduate degree from Iowa State University and graduated magna cum laude from Northern Illinois University College of Law.