Anyone involved in a trust or estate administration or dispute will invariably encounter the term “fiduciary duty,” or a variant of the term, such as “fiduciary relationship” or “fiduciary responsibility.” This article explains what a fiduciary duty is and how it applies to trustees and beneficiaries.
What is the definition of fiduciary duty?
Black’s Law Dictionary defines fiduciary duty as “[a] duty to act for someone else’s benefit, while subordinating one’s personal interests to that of the other person. It is the highest standard of duty implied by law.”
If you are a trustee, you act in a “fiduciary capacity,” which means you owe the beneficiaries the highest standard of care under the law, placing their interests ahead of your own. One landmark case described the duty as follows:
A trustee is held to something stricter than the morals of the market place. Not honesty alone, but the punctilio of an honor the most sensitive, is then the standard of behaviorâ€¦ the level of conduct for fiduciaries [has] been kept at a level higher than that trodden by the crowd. Meinhard v. Salmon, 164 N.E. 545 (N.Y. 1928).
In managing trust property, you must use at least ordinary business ability; if you have special skills you will be held to a higher standard of care. Your management will be judged in light of the circumstances existing when transactions occur, rather than with the benefit of hindsight. If you abuse your trustee powers, you may be held liable for loss or damage to the trust estate. If you act in bad faith, you could have to personally reimburse the trust for funds lost or misappropriated.
While acting as trustee, you are subject to the “Prudent Person Rule”:
The trustee shall administer the trust with reasonable care, skill, and caution under the circumstances then prevailing that a prudent person acting in a like capacity would use in the conduct of an enterprise of like character and with like aims to accomplish the purposes of the trust as determined from the trust instrument.
What relationships create a fiduciary duty?
Although fiduciary relationships arise in many contexts (e.g., marriage and family law, partnerships, financial services), in trust and estates law fiduciary duties are most often created in estate planning documents in which one person appoints another to act on their behalf under particular circumstances.
For example, most estate plans, there are at least four instruments (documents) that create fiduciary duties on the occurrence of some future event- usually death or incapacity. A living trust names a successor trustee; a will nominates an executor; a durable power of attorney for financial affairs appoints an agent to make financial decisions; and an advance health care directive appoints an agent to make health care decisions.
A person nominated as an executor of a will does not formally become a fiduciary until he or she is appointed by the court. A successor trustee assumes the role when the person who creates the trust becomes incapacitated or dies. An agent for health care becomes an agent when the principal is incapacitated. Some powers of attorney for financial affairs appoint an agent to act immediately, while others only become effective when the principal is incapacitated.
In short, a fiduciary duty generally doesn’t arise until the fiduciary begins to act,
What does a fiduciary do?
If you agree to serve as a trustee-fiduciary, your basic duties involve the collection, management, and investment of trust assets and the accumulation and distribution of income and principal under the trust. Another important set of duties relates to tax matters.
It is a fundamental principle of trust law that you must be faithful to the interests of the trust and its beneficiaries. You occupy a position of trust and confidence and owe a duty of care to the beneficiaries. You must administer the trust solely in the interest of the beneficiaries and deal impartially with them. You cannot use trust property for your own profit or for any non-trust purpose. You must not engage in any transaction that will cause a conflict of interest between you and the trust or a beneficiary.
A fiduciary must take reasonable steps to secure trust property, preserve it, and make it productive. In most instances, you should determine if all real estate and vehicles are properly insured, and maintain or acquire insurance throughout the trust administration. You must not commingle trust property with your own property. You must take reasonable steps to enforce claims of the trust and to defend lawsuits brought against the trust.
You must carry out all trustee activities personally and may not delegate your responsibilities to others. You may hire attorneys, accountants, investment advisors, and others to advise you on the administration of the trust, but you are ultimately responsible for your acts or omissions.
A fiduciary ordinarily must invest trust property, preserve it, and make it productive. Unless the trust provides otherwise, you must comply with the Uniform Prudent Investor Act (“UPIA”) when managing trust assets. Upon becoming trustee, you should review all trust investments (real estate, stocks, bonds, annuities, etc.) to ensure that the investments comply with the UPIA. The UPIA requires trustees to meet the following standard of care:
- A trustee shall invest and manage trust assets as a prudent investor would, by considering the purposes, terms, distribution requirements, and other circumstances of the trust. In satisfying this standard, the trustee shall exercise reasonable care, skill, and caution.
- A trustee’s investment and management decisions respecting individual assets and courses of action must be evaluated not in isolation, but in the context of the trust portfolio as a whole and as a part of an overall investment strategy having risk and return objectives reasonably suited to the trust.
The UPIA directs the trustee to consider these factors in making investment and management decisions:
- General economic conditions.
- The possible effect of inflation or deflation.
- The expected tax consequences of investment decisions or strategies.
- The role that each investment or course of action plays within the overall trust portfolio.
- The expected total return from income and the appreciation of capital.
- Other resources of the beneficiaries known to the trustee as determined from information provided by the beneficiaries.
- Needs for liquidity, regularity of income, and preservation or appreciation of capital.
- An asset’s special relationship or special value, if any, to the purposes of the trust or to one or more of the beneficiaries.
A trustee also has a duty to diversify trust assets. Unless the trust instrument provides otherwise or it is imprudent to do so, the trustee should reduce the risk of loss by reasonably diversifying the portfolio.
You should consider the following factors in deciding whether the trust assets are properly diversified:
- Size, terms, and purpose of the trust;
- Representation of different asset classes;
- Correlation of returns between the different asset classes;
- Needs of the beneficiaries and the return produced by each investment;
- General economic conditions;
- Volatility of each asset and the percentage of trust corpus that the asset represents;
- Percentage of the total company that the trust holds;
- Market for the asset;
- Tax planning implications; and
- Relative security of each investment or account (e.g., are the accounts FDIC insured?)
In summary, a fiduciary typically has broad discretion but must act prudently and in the best interests of the beneficiaries. If you need any help in dealing with fiduciary duty, contact us, and our attorneys will answer all your questions.