Trust Administration: Trust Records Provide A Roadmap To Proper Trust Management Part 1

Trusts are ubiquitous in estate, tax, financial and asset protection planning. Everyone tends to be pretty focused on the decision process involved in creating a trust. However, clients and advisors alike tend to become less focused on the formalities of trust administration as the years pass. The following items, and remaining articles in this series, might serve as a useful guide or checklist to identifying steps that might be beneficial, in some cases essential, to the trust meeting its objectives. One perspective to identify many of the steps to be taken is to consider what documents should be retained by the trustee and advisers as part of the permanent trust records. A trust permanent file should not be an afterthought. For perspective, many of the points below are not the norm, but perhaps better considered a suggestion. So the fact that a particular trust has not maintained most of the records that might be appropriate should not necessarily infer that the trust has been improperly maintained. However, for the cautious trustee, the more of the records that can be maintained, perhaps the better that trustee might fare if challenged. This is the first article in a series of three reviewing documentation that trustees might consider retaining as part of the trust records.

Type of Trust 

The nature or type of trust involved may help identify some of the documents you might need in your trust file. Caution is in order because the “type” of trust might be quite vague and many trusts serve multiple purposes (e.g., it an irrevocable life insurance trust, a “ILILT,” can serve as a spousal lifetime access trust, a “SLAT”, which might hold business or investment assets in addition to insurance, and it may hold them for generations, and hence by a dynasty trust as well.

• Charitable Remainder Trust (“CRT”). Identify the amount and timing of the required payment to the current beneficiary. A calculation of the annuity payment amount when the trust is formed, and a schedule of annuity payments should be retained. Each year’s payments should also be corroborated (e.g., copy of the check issued by the trust, or transfer documentation from a trust bank or brokerage account).  If the trust is instead a charitable remainder unitrust (“CRUT”) then a calculation of asset values each year and the required annual unitrust payment should be retained in the trust records. Corroborate that the calculation of the unitrust amount is based on a reasonable valuation of trusts assets and that the percentage is properly applied. If the trust holds hard to value assets, such as a family business, an appraisal might be necessary each year.
• Irrevocable Life Insurance Trust (“ILIT”). In most instances insurance trusts are grantor trusts and are set up to assure that the proceeds are excluded from the grantor/insured’s estate. However, there are many variations on this type of planning and the types of trusts that might own insurance. Most ILITs were pretty similar creatures. A trustee held a small bank account, the grantor made annual gifts to pay premiums, the trustee issued Crummey notices (notifications to the beneficiaries so that the annual gifts would qualify for the annual gift exclusion) and then the trustee would pay the premiums on the policy. Little more is done. While that type of ILIT may have sufficed for the Cleavers, it is not really consistent with modern insurance trust planning. Most important, it seems well acknowledged that insurance is not a “buy and hold until you die” decision. ILIT policies need to be reviewed periodically and the policies “managed” by an insurance professional. Lay persons serving as trustee can easily hire experts to provide a periodic review and analysis. Trustees should have these reviews, follow up on any recommendations, save the reports issued in those reviews as part of the trust records, as well as documentation of their follow up on recommended steps. “Modern ILITs” are likely to hold other assets, not merely insurance, be dynastic in nature, and perhaps be formed in a trust friendly jurisdiction. Each of these characteristics of the trust will have an impact on records and documentation the trustee will wish to have.
• Dynasty/GST Trusts. These may require allocation of GST exemption on a gift tax return unless it is confirmed that the automatic GST allocation rules apply. Many advisers and clients will become indifferent to filing if they do not see a likelihood of an estate tax ever being due. That could prove a mistake. The uncertainty of what might be enacted in the future suggests that proper filings be made in all instances. Also, in the event of a divorce if there was a requirement to file a gift tax return and it was not done, might the opposing party suggest that as an indication that something untoward was done, or that factor, along with other missteps that might be identified, should be used to undermine the trust? From an asset protection perspective, creating a dynastic trust in a trust friendly jurisdiction, remains a valuable plan. These steps will all impact what might be appropriate records for the trustee to retain. For example, assume a New York resident created an Alaska asset protection trust. Some of the documents that might be included in the trust records might include a solvency affidavit, a cash gift to the trust to assure some minimum balance is maintained in a bank account in Alaska, an opinion of Alaska counsel as to the validity of the trust under Alaska law if the New York attorney who prepared the trust is not admitted to practice in Alaska, and perhaps lien and judgment searches to help demonstrate that the transfer is not a fraudulent conveyance.

Each type of trust will have its own specific types of documentation necessary to its proper operation and maintenance. But most trusts, over time, tend to change. What starts out as an insurance trust will often become an investment trust holding marketable securities after the insured/grantor dies. If that trust buys stock in a family S corporation from the insured/grantor’s estate, it may become a qualified subchapter S trust (“QSST”) or an electing small business trust (“ESBT”). If that same trust loans money to the estate using a Graegin loan, in lieu of buying family S corporation stock, the nature of the trust and the documents the trustee should maintain, will differ accordingly.

Following two articles in this series will consider other documents trustees might consider retaining.