The average person has had little experience dealing with trusts and often has many questions upon becoming a trustee for the first time. Through our experience in helping people administer trusts, we have found that many individuals have unreasonable expectations concerning the way living trusts operate following a death. It is true that a living trust in many cases drastically reduces the costs and delays involved in passing on assets at death. A living trust accomplishes this feat by avoiding probate.
However, even without a probate, many administrative chores have to be completed, legal documents prepared, taxes returns filed, and other matters that take time and cost money.
A. Living Trusts and Probate Avoidance
Although living trusts have been around for centuries, only recently have they achieved a high degree of popularity among the general public. The reason for this surge in popularity is that living trusts help to avoid probate. You might be wondering, “What is probate, and why is everyone trying so hard to avoid it?” The short answer is that probate is a court-supervised procedure for collecting a deceased person’s assets, paying debts and taxes, and distributing the property to the person’s beneficiaries (either according to the instructions the person set forth in his or her will or as determined by state law if the person died without a will). The probate process usually takes 8 or more months to complete, although it may take longer in complicated cases. (See our Probate tab for more information).
Living trusts avoid probate with respect to those assets that are transferred into the living trust before death. In other words, living trusts avoid the court procedure otherwise required to transfer assets to a person’s beneficiaries at death. However, even though no court procedure is involved, that does not mean there is nothing to do. The living trust makes administration easier, but it does not do away with administration altogether. For example, assets still have to be collected and managed pending distribution to the beneficiaries, appraisals of assets have to be made, debts and taxes have to be paid, tax returns may be required (living trusts do not avoid estate taxes, as some people have been led to believe), and legal documents must be prepared in connection with the distribution of the trust property to the beneficiaries. These activities are very similar to a probate. The major difference is that, with a living trust, everything is handled privately, without court supervision, which makes for (in most cases) a faster, less expensive administration process.
Thus, although it may come as a surprise to you, you should realize that postdeath administration of a living trust will take time and cost money, such as legal fees, accounting fees, asset transfer fees, and your own Trustee fees if you decide to accept any. The other beneficiaries of the Trust, if any, will also need to understand that the process may take longer than they anticipated. However, in comparison to probate, these delays and costs are substantially reduced, often resulting in time savings of months and costs savings of 50 to 90 percent.
B. Court Involvement
There is also a popular misconception that the existence of a living trust avoids all possibility of court involvement. This is true (in part) only if all of the Settlor’s assets were properly funded into the living trust. For example, if assets held outside the trust exceed $100,000 in gross value, a probate will be required for those assets in order for you, as Trustee, to collect those assets and add them to the trust.
Moreover, if at any time a beneficiary of the Trust believes that the Trustee has acted improperly or without regard for the beneficiary’s interests, the beneficiary may file a petition with the court to force the Trustee to make a full report and accounting or to redress an alleged breach of trust, including removal of the Trustee or surcharge against the Trustee.
Finally, circumstances may arise in which there are questions about whether the Trustee should or should not take certain actions (e.g., selling a business interest or real property, commencing litigation). In such cases, it may be advisable for the Trustee to petition the court for instructions whether to proceed in a certain way. The beneficiaries will be given notice of the hearing and will be given a copy of the petition that describes the proposed action. The matter will then be addressed in open court, and the beneficiaries will have an opportunity to appear in court and be heard. By obtaining an order from the court in this manner, the Trustee may be able to cut off the beneficiary’s right to complain about the particular action if he or she fails to appear in court. Such a petition protects the Trustee if there is a fear that the Trustee’s decision will be second-guessed by a beneficiary. Also, if relations between the Trustee and the beneficiaries are hostile, it may be advisable for the Trustee to seek court approval of the Trustee’s accountings to minimize potential arguments with the beneficiaries.
ADMINISTRATION OF THE FAMILY TRUST
After the Settlor’s death, the Trust continues as a management and distribution vehicle that will exist only as long as is necessary to identify and collect trust assets, pay debts and taxes, and distribute the trust assets to the beneficiaries (or in further trust, depending on the terms of the Trust). You might visualize this trust as a funnel through which all of the trust assets will pass to the beneficiaries (with the exceptions of tangible personal property, life insurance proceeds, and other nontrust assets that may pass directly to the beneficiaries outside the Trust). It is the successor Trustee’s job to collect and manage the trust’s assets, appraise trust property, pay all taxes and expenses relating to the administration of the Trust, and distribute the trust property according to the Settlor’s instructions.
DISTRIBUTIONS OF PROPERTY
A. Tangible Personal Property
Provided the beneficiaries are in agreement, the distribution of tangible personal property may be handled informally and the attorneys need not get involved. If any disagreement develops, however, the division of personal property should be handled in a more formal manner. We recommend that you carefully document and inventory the items of property available for distribution and the disposition of each. One way to document the property on hand is to videotape or photograph the household property before distribution. There are very specific rules pertaining to the distribution of personal property. We recommend that the successor trustee consult our office before making any distributions.
B. Other Distributions From the Trust
One of the first questions the Trustee and other beneficiaries usually ask us is, “When will the trust property be distributed?” Many people, having heard that living trusts avoid probate, assume that all estate administration procedures are avoided and that the property in the living trust somehow passes to them automatically. As a result of this misunderstanding, many beneficiaries are disappointed to learn that the trust administration process is often measured in weeks or months (and in some cases longer), rather than in hours or days.
In answer to the question of when distribution will take place, we anticipate that distribution will take place in several stages. Depending on how quickly assets and liability information can be assembled, you may be able to make preliminary distributions of a portion of the trust estate within a few weeks. After we help you have the assets appraised and project the expected tax liabilities and expenses with more accuracy, you may distribute more of the trust estate, making certain to reserve sufficient funds for payment of estate taxes, income taxes, administrative expenses, attorney and trustee fees, debts and liabilities, etc. However, if any litigation arises concerning the Trust (e.g., a “contest” of the Trust), you may have to withhold distribution until such problems have been completely resolved. (Our office has had cases in which a living trust that provided for distribution “at death” was not actually distributed until more than a year after death because of disagreements among the beneficiaries and the ensuing court procedures.)
Moreover, as noted above, living trusts do not avoid estate taxes. If it is determined that estate taxes or fiduciary income taxes are payable in this case, we will recommend that you retain a further reserve in the Trust after payment of such taxes until all audits are completed or until the period for assessment of a tax deficiency passes (3 years). Any legal fees, accounting fees, and your own Trustee fees incurred in connection with the audit process, and any tax deficiencies that might be assessed by the IRS, are chargeable to the Trust. If you have already distributed all of the trust assets, you, as Trustee, may have to bear these expenses and taxes yourself if the beneficiaries are unwilling or unable to contribute their fair share. If this situation applies in your case, we will assist you in determining an appropriate amount to hold as a reserve.
TRUSTEE DUTIES, POWERS, AND COMPENSATION
As Trustee, you will act in a fiduciary capacity. As such, you owe certain legal duties to the beneficiaries. In managing the trust property, you must use at least ordinary business ability. However, if you have special skills, under California law you will be held to a higher standard of care. In any event, your management will be judged in light of the circumstances existing at the time transactions occur, rather than with the benefit of hindsight. If you exceed your trustee powers, you may be held liable for loss or damage to the trust estate.
Your basic duties as Trustees 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 have a duty to administer the Trust solely in the interest of the beneficiaries and to deal impartially with them. You cannot use trust property for your own profit or for any nontrust purpose. You must not engage in any transaction that will result in a conflict of interest between you and the Trust or a beneficiary.
Under the Trust Law, you owe a duty to the beneficiaries to make them aware of the existence of the Trust and to keep them reasonably informed of the Trust and its administration. State law also requires that you provide the beneficiaries with certain information on reasonable request and that you give a full accounting and report of all trust transactions not less often than annually or when the trust terminates.
Regardless of whether you intend to make a formal accounting to beneficiaries, you must keep careful records of all trust transactions. In fact, if you do not prepare a formal accounting, you should probably keep these records forever, because there is no statute of limitations and your liability exposure will continue indefinitely.
If the trust allows, you will be entitled to reasonable compensation for your services as Trustee. In determining reasonableness, factors such as the amount of time spent in trust administration and the size of the trust estate may be considered. You do not have to accept a trustee’s fee. If you do, you should know that it is reportable as taxable income.
The successor trustee will be responsible for a variety of tax filings which can include income tax returns for the deceased person and the estate, estate tax returns, both federal and California. We will help you determine which returns are required.
HOW WE CAN HELP YOU – IF YOU ARE THE SUCCESSOR TRUSTEE
As your attorneys, our job is to assist you in carrying out your duties as Trustee. We will help you collect and value assets, pay debts and taxes, and prepare the necessary transfer documents in connection with the eventual distribution of trust property to the appropriate beneficiaries. We will also prepare any accountings and reports to be given to the beneficiaries. If any court action is necessary, we will represent you in that action.
HOW WE CAN HELP YOU – IF YOU ARE A BENEFICIARY
If you are a beneficiary of a trust, you have rights. The exact nature of those rights is governed by the California Probate Code and the specific trust document. If you feel that the successor trustee is not performing their fiduciary duties, we can assist you in enforcing your rights and assist you in moving toward a resolution of the issues.