Contributed by Josh Yager, Managing Partner, Anodos 

Most estate plans are settled by non-professionals who are family members or friends of the decedent. These fiduciaries (executors/ trustees) were selected because they held the trust and confidence of the decedent. They are likely familiar with the assets held within the estate and the family’s dynamics. Unfortunately, considerations of available time, interest, or training to manage this complex project are rarely taken into account.

It is rare that the fiduciary knows what their job is or how to do it. And this lack of familiarity with estate governance matters can lead to personal risks and financial responsibility falling upon the fiduciary. 

Having served as fiduciary, fiduciary advisor and expert witness on trust and estate governance matters, the author has developed a list of the most common risk mitigation strategies that the fiduciary can adopt to dramatically reduce their personal risk and support an efficient settlement process.

Create a Governance Library   

A prudent fiduciary will develop a “Governance Library” where all important documents, exhibits, and communications are retained. To be sure, such a centralized repository will help foster an efficient settlement, but more than that, maintaining organized records is evidence that the fiduciary has acted prudently and in good faith. Generally, courts will judge the fiduciary not as much on the results of their actions, but more on the actions themselves, especially from well thought out plans.

By maintaining a governance library, the trustee is creating an evidentiary record of why-they-did-what-they-did-when-they-did-it. Failing to maintain this record of the administration would tend to undermine the fiduciary’s “good faith” defense.  That failure can also defeat the support necessary to prevail in Court actions.

Provide an Annual Account

A fiduciary is generally required to provide the beneficiaries with an annual account upon each/any of the following events: (1) the change of trustee, (2) at least annually and (3) at the termination of the trust. Providing the annual account is perhaps the single biggest risk mitigation measure, and sadly, the most often overlooked by the trustee.   It also tolls the statute of limitations in favor of the trustee.

Successor trustees may confuse the formality and cost of producing a “court accounting” with the fairly easy-to-produce “annual account”. The annual account need not adopt principal and income accounting, nor include a general ledger or detail of every transaction that occurred during the reporting period. 

The annual account can be produced using the prior year trust income tax return and QuickBooks [ ? ] file. If an annual account is provided the trustee’s maximum exposure for actions questioned by the beneficiaries is reduced to the prior three years.   

Dealing with Investment Advisors (Uniform Prudent Investor Act Compliance)

It is not uncommon for frustrated beneficiaries to have overly optimistic expectations for the performance of the trust assets. The author has been in more than one expert witness engagement where the beneficiaries have argued that the liquid assets in the trust “should have” had performance comparable to the S&P 500.  We all know that a portfolio of 100% equities would be inconsistent with the trustee’s duty to balance risk expectations and return objective.  

                  When the trustee delegates investment management authority to an investment advisor, the trustee is required to do three things: (1) act prudently in the selection of the advisor, (2) act prudently in the delegation of investment duties to the advisor and (3) monitor the advisor’s performance against the delegated duties and objectives.

• Selection: The trustee is encouraged to document the reasons the investment advisor was selected. This does not mean the trustee needs to conduct a full-blown “Request for Proposal” from multiple advisory candidates or conduct “deep due diligence” on the advisor. Rather, it means that the trustee can't just leave the money with the advisor that the decedent used simply because they are the incumbent. To be sure, the trustee may eventually select the incumbent advisor, but the basis for the selection must be “prudently made.”

• Delegation: It is prudent for the trustee to define a targeted long-term return objective and risk expectations for the asset management that is being delegated to an investment advisor. Most Registered Investment Advisors provide their clients with an Investment Policy Statement (IPS) which should document these factors. When the “compliance department” for a large bank or other investment firm prohibits their employees from providing an IPS to the trustee, it will be necessary for the trustee to summarize risk and return objectives on their own.

• Monitoring: A prudent trustee will not “set it and forget it” when delegating the management of trust assets to an investment advisor. It’s important that the trustee periodically review whether the manager accomplished the long-term return objectives with an acceptable level of risk.   

File a Notice of Proposed Action for high-risk decisions

Sometimes a trustee needs to make a hard decision that exposes them or the trust assets to risk. Recent examples that our clients have faced are “Should I sell the Private Equity position?” or “Should I 1031 exchange Grandpa’s house into an apartment building?” or “Should I make capital contributions to the trust-owned business?” These are hard decisions for the trustee to make because there is not clearly a “right” answer, and significant positive or negative outcomes may be experienced by the trust estate and the trust beneficiaries.

For these high-risk decisions, a trustee can significantly reduce their risk by filing a Notice of Proposed Action (or NOPA) with the beneficiaries. The NOPA requests from each beneficiary their written consent to the trustee’s intended action.  If consent is given – silence can be deemed consent in most cases – the beneficiaries will be unable to sue the trustee over that decision or transaction in future years.

One risk of using the NOPA is that some beneficiaries confuse its use with an invitation to “administer the trust by committee”.  This is not the case. The NOPA is designed to narrowly include the beneficiaries’ input on a high-risk administrative decision. The trustee always retains their sole authority to administer the trust as they think best.  Although a more expensive choice, it can make sense to petition the Court for instruction in these cases (this would be a decision to make in consultation with the trust’s attorney).

Keep it Moving: Avoid the Orphaned Administration

Settling trusts and estates is complicated, and many of our colleagues will agree that it takes longer than it should. Estate (and trust) settlements get delayed because life happens:  there are staffing issues and court dates and lost emails and vacation and non-responsive family members that delay the administration. But all of these legitimate factors fall on the deaf ears of the beneficiaries who are already spending their inheritance in their minds.  A fiduciary who is inefficient in the management of the estate/trust settlement can raise the ire of beneficiaries who have unreasonable expectations for haste.

A prudent trustee will diligently, proactively, and deliberatively move the administration forward. Sometimes this requires that the trustee require performance dates on projects that are stuck on the CPA’s or attorney’s list. The squeaky wheel gets oiled and – to torture the analogy – if the wheel refuses to squeak, the beneficiaries may hit it with a hammer.

Closing Comments

Being a trustee or executor is hard.  The beneficiaries' expectations are unreasonable, the professionals that the fiduciary relies upon are harried and overcommitted, the rules are complex, and the trustee often lacks the time, interest, or training to effectively manage this complex project. Whether a non-professional fiduciary engages a professional advisor to help with this process or chooses to do it on their own, deploying these strategies can help mitigate personal risk.

Josh Yager, Esq., CFP®, ChFC®, CLU®, i is a recognized content expert on the issues of fiduciary duties relating to the management and oversight of trust assets. He lectures extensively on the policies and procedures for conducting investment manager audits to CPAs, attorneys, and professional fiduciaries throughout the country. Josh is Managing Partner at Anodos and a licensed attorney. Prior to founding Anodos in 2005, Josh worked for fifteen years as an investment advisor with Mercer Advisors.