What is a Trust?

Trusts are a common estate planning device, but many people (including a few lawyers!) don't completely understand what one is.  We’ll start the discussion with a definition of a trust that I've used in several CLE presentations I've given:

A trust is a relationship created by a grantor who transfers legal title to property (known as the trust corpus or trust principal) to a trustee, who holds it as a fiduciary for the benefit of one or more beneficiaries.   The beneficiaries’ rights of enjoyment are set forth in the terms of the trust, which are usually contained in a governing document (which may be called a “Declaration of Trust” or “Trust Agreement” or a “Declaration and Agreement of Trust” or sometimes just a “Trust.”)

There are several important concepts contained in that definition: 

• A trust is a fiduciary relationship between the trustee and the beneficiaries, not a separate legal entity (person) like a corporation or LLC. 
• Since the trust is a relationship and not an entity, legal title to the trust corpus is held by the trustee.  While we often casually speak about "the trust" doing something (conveying property, making a distribution, or so on) as if it were an entity, it's actually the trustee who is the actor.
• Since the trustee is a fiduciary for the beneficiaries, it naturally follows that beneficiaries are the persons with standing to enforce the terms of the trust—that is, they’re the ones who sue the trustee when the trustee fails to follow the terms of the trust.

The terms of a trust do not need to be written down in order for there to be a valid trust,  but they usually will be found in a governing document.  At the minimum, a trust’s governing document should do all of the following:

• Clearly identify the parties to the trust: the grantor, trustee, beneficiaries, and any trust advisors.
• Indicate if the trust is revocable or irrevocable, and identify who may hold powers to amend the terms of the trust (reserved powers to amend; powers of appointment).
• Clearly set forth the dispositive (enjoyment) terms of the trust (including those circumstances where the distribution is subject to review or approval by a trust advisor or other outside party) so that the trust accomplishes the grantor’s objectives.
• Provide a mechanism for succession in the office of trustee.
• Confer powers on the trustee to permit him to efficiently manage the trust. While the dispositive provisions of every trust--who gets what, when--will be unique, basic trustee powers and other “administrivia” will not vary much from document to document.  (The Ohio Trust Code has a nearly-comprehensive set of statutory trustee powers which drafters may incorporate by reference, and most of us who practice in this area have standard language we use for nearly every trust document. Some trust companies have their own standard trustee power language which they will require in the document as a condition of accepting the trust.)
• Do all of these things with sufficient clarity that both the trustee and the beneficiary can understand what the trustee is supposed to do and who receives what without having to ask a judge to construe or interpret the document.

Fiduciary Duty

The terms "fiduciary" and "fiduciary duty" get used a lot in estate planning. The legal term "fiudciary" derives from the Latin words fides, meaning "faith", fiducia, meaning "trust," and fiduciarius, meaning "holding in trust." As a generic term, a "fiduciary" is a person who has ownership or control of property for the benefit of someone else.

A trustee owns title to the property in a trust, but holds it for the benefit of the trust's beneficiaries, not himself. We would therefore say that the trustee is a fiduciary over the trust property. While a trustee is the classic example of a fiduciary, there are others: the executor or administrator of an estate is a fiduciary with respect to the estate; a guardian is a fiduciary with respect to the property of the ward (person under guardianship); an agent under a power of attorney is a fiduciary with respect to the property of her principal; and the officers and directors of a corporation are fiduciaries with respect to the corporation's assets (which are owned by the shareholders).

If you're a fiduciary, you have a "fiduciary duty." Fiduciary duty is often described as the highest duty of loyalty in the legal system. My shorthand explanation I use with clients is that "fiduciary duty" means "it ain't your money!"  For instance, a trustee owes a "fiduciary duty" to the trust beneficiaries to manage that property for their benefit in accordance with the terms of the trust. If the trustee breaches that duty by using the trust property for his own benefit, that is a rather serious matter. The trustee will be liable to the beneficiary for damages caused, and for any profits he made, will very likely be removed by the court, and in certain situations may be hit with punitive damages, statutory penalties, and even criminal prosecution.

Trust Protectors and Trust Advisors

A "trust advisor" or "trust protector" is a person who has some official role in the administration of a trust, but is not the trustee.  In our office, we call them "advisors"; "protector" is a term that tends to be favored in Commonwealth countries.  An advisor/protector can have as much or as little control as the situation demands:

• He or she can be a pure advisor: the trustee is directed to consult with the advisor on certain matters, but is not bound by the advice given.
• The advisor can have veto power over particular actions, such as selling a business or making discretionary distributions to a beneficiary.
• The advisor can have the power to direct the trustee on certain matters.  A couple of common arrangements are to have an advisor directing the trustee in voting shares in a closely-held business, or in making insurance investments in a life insurance trust.  (Some banks and trust companies will require an advisor with authority over the selection of insurance policies as a condition of accepting a life insurance trust.)
• The advisor can have the power to remove the trustee, and/or name a successor trustee.

There can be multiple advisors, each with a particular area of responsibility.  There will also be language in the trust providing that the trustee will not be liable to the beneficiaries for any actions taken on the advice, or at the direction, of a trust advisor.

If you want to learn more about trust advisors and protectors, there is a very good short article on them at the Forbes magazine website.

Durable Powers of Attorney

Durable powers of attorney, which appoint someone as your agent and grant them authority to transact business on your behalf, are a commonly-used estate planning device. They can be used to appoint an agent to handle your affairs if you are disabled, thus saving the expense and complexity of a guardianship. Even if you are not disabled, having a trusted individual available who has formal authority to act for you can make it easier to conduct your affairs.

The key phrase there is "trusted individual." While your agent under a power of attorney has the same basic fiduciary duty to you as a guardian or trustee, the agent is not subject to the active supervision of a court like a guardian would be. A recent article in the Wall Street Journal discussed some of the problems that can arise if your agent decides to work for his own benefit instead of yours. Because there's no active supervision, and fewer formalities than with a trust, it can be difficult to detect when an agent is misusing his powers, and the problem is often not discovered until a lot of damage has been done. I've been involved in litigation over the misuse of powers of attorney on several occasions, and I've seen it first-hand.

Does that mean you shouldn't use a durable power of attorney? I wouldn't say that, but you do need to think about who you select as your agent and what authority you give that agent. The terms of the power of attorney can restrict the agent's authority to certain transactions or certain types of activity, or even condition the existence of that authority on certain events. I have also had clients escrow their powers of attorney with me, to be released to the agent only at the client's direction, or in the event the client becomes disabled.

These are all matters you should discuss with your estate planning advisor.