Thursday, May 15, 2014

Estate Planning: Issues with Trustee Selection

There are several potential tax issues to consider when selecting a trustee that is a beneficiary of the trust or the spouse. If your son/daughter is named trustee (or co-trustee), a distribution made to anyone else could be considered a taxable gift unless there is an ascertainable standard built into the trust instrument. This is a situation we would want to avoid. Because the trust would likely be set up in such a way that the child could authorize distributions to herself as trustee or co-trustee, the trust might be considered a §678 grantor trust subjecting her to serious income tax liability (which the ascertainable standard would not solve, but a jointly exercisable power of appointment could).

Aside from tax consequences, the child might not be the best suited to make objective decisions of the application or use of trust assets (despite the possibility that she is more than qualified to do so). This might not be a position that the parents want to put the child in (including the attendant fiduciary duties and potential liability therefrom). However, if a professional (lawyer, or professional trustee) and the child were to serve as co-trustees, many of these adverse potential consequences could be ameliorated with sophisticated trust instruments and a clear division of responsibilities. The family member's opinion and input on important distribution decisions can be a helpful guide to the professional trustee or lawyer in serving as a qualified, independent trustee. In either case, once both parents ass away, the importance of a professional trustee for the irrevocable trust(s) will be even more important than before because astute and prudent allocation of assets are critical to prevent potential losses to other beneficiaries in the form of tax and lost opportunity for appreciation of assets.

Note: it’s also important to verify the state in which each trustee is a resident in order to avoid unnecessary state tax issues. We would draft a standard savings clause to protect against this, but there is no such thing as undue prudence.


None of this should be construed or relied upon as legal advice. The author is not a lawyer, and does not purport to bet. This is merely a discussion of issues that arise in trustee selection.