California’s Disappointed Trust Income Beneficiaries | Is There A Better Way?

I’m Mike Hackard of Hackard Law. We’ve shared over 500 blog posts and YouTube videos with people interested in trust, estate, probate and elder financial abuse issues. Many examples referenced in our blogs are drawn from real life experience. We change specifics to protect confidentiality. We are committed to continuing to share what we know.

I’m often motivated by clients’ circumstances that I find particularly compelling – sometimes upsetting. It’s not unusual for clients to express an overwhelming sense of frustration, humiliation and abandonment when a trustee administering the trust set up by a loved one, often a father or a mother of the beneficiary, ignores the beneficiary’s needs. Sometimes it looks like the trustee thinks that the trust was set up for their income – not for the benefit of a beloved family member.

Glaring examples exist. Individual or professional trustees pay themselves more for their services than they pay income to the life beneficiary. To me, it’s disgusting when a corporate bank or trust company charges 1% to 2% of the annual fair market value of trust assets while distributing little more than 1% to the income beneficiary.

I’ve seen this too many times. I don’t like it. We represent clients in seeking a remedy against trustee wrongdoing. This motivates me. This is why I’m talking about this in this video, this blog. I think that there is a better way.

California trust and estate planning lawyers have long drafted trusts that direct the trustee to distribute trust income (interest and dividends) to a beneficiary for a time period, often times the life of that beneficiary. These trusts often include a trustee discretionary power to distribute principal to that beneficiary.

Discretion is usually based upon an assessment of the beneficiary’s needs – usually identified as health, education, maintenance and/or support. The trustee can’t know about these needs unless they make sufficient inquiry. Many do not. The principal remaining at the lifetime beneficiary’s death is usually distributed to another beneficiary or class of beneficiaries (the remainder beneficiaries).

We at Hackard Law are trust litigators – We find ourselves mostly on the side of trust beneficiaries – trust beneficiaries who are challenging the validity of a trust or the actions of a trustee. This is our orientation. It probably stems from my own years as a plaintiffs’ lawyer, many of them spent challenging pharmaceutical companies, representing people who find themselves in a “David versus Goliath” situation.

As a practical matter, we can only take a fraction of the cases offered to us. This is a reality dictated by time availability, geography, practice focus and expense. So, what do we see as some common triggers to trustee challenges?

Experience teaches that abusive income trusts foment trustee-beneficiary disputes. The trustee has a duty of loyalty to the income beneficiary as well as to the beneficiaries who receive the trust assets at the income beneficiary’s death – the remainder beneficiaries. A trustee favoring an income beneficiary might well invest trust assets to maximize income for the life beneficiary.

This makes sense if you’re only concerned about the income beneficiary. This investment process might accomplish income goals but balloon investment risk.

On the other hand, the trustee might invest in stocks for long term appreciation that pay no income but have a higher probability of appreciation. This might make sense if all you had to do was worry about remainder beneficiaries while ignoring lifetime income beneficiaries. The practical result of this investment approach will leave the income beneficiary with virtually nothing. You can see how “Investing is an area fraught with the potential for personal liability for trustees and fiduciaries.”

The California Probate Code provides some standards for fiduciary investing. California’s “Uniform Prudent Investor Act” pertains specifically to the management of trusts. For the most part, the prudent-investor rule compels trustees to invest trust assets for total returns.

Total return refers to the combination of ordinary income plus capital appreciation. In simple terms, if a bond pays 2% per year and its value doesn’t vary it has no capital appreciation. A stock may pay no dividends – that is provide no income – but yet have substantial capital appreciation. You can see that there ought to be a rule that allows both income and capital appreciation asset returns to be part of total income. This is the focus of the Prudent Investor Rule.

California has a particular statutory scheme that implements the prudent investor rule. Given a life beneficiary’s natural disposition to demand increased trust distributions the trustee may find itself in a series of challenges. Trustees with the discretion to distribute principal, but who fail to exercise its discretion in the use of its power, may be found to have abused its discretion and be liable to the beneficiary for their breach.

Unitrusts provide some solution to this dilemma. California law allows for conversion of income trusts by consent or court order. With a unitrust approach the trust distributes a fixed percentage – usually 3% to 5% – of the fair market value of the principal of the trust to the current or income beneficiary. The net fair market value of each asset held in the trust must be determined no less than annually.

This approach allows trust assets to be invested for total returns. This allows the trustee to liquidate capital assets as needed to supplement the annual return from interest and dividends. The end goal – allow trust assets to provide sufficient income to the life beneficiary and allow reasonable growth for the remainder beneficiary.

So, when we get calls from aggrieved or abused income beneficiaries who are receiving little or no distributions from an otherwise well-funded trust, we understand the trustee’s dilemma and potential resolutions to the dilemma. We also understand but do not condone trustees who make little or no inquiry into the life circumstances of a lifetime income beneficiary who also has rights, however defined, to receive discretionary principal distributions for their health, education, maintenance and/or support.

At Hackard Law we take substantial cases where we think that we can make a significant difference and there is a party who can be made financially responsible for their wrongdoing or breach of duty. Sometimes these cases are brought against trustees who, in contravention of a grantor’s intent, abuse or fail to provide income to beneficiaries.

We represent foreign, out-of-state, and California residents in California related estate, trust, probate and elder financial disputes. We focus our practice in the probate and civil Superior Courts of California’s largest urban counties, including Orange, Los Angeles, Santa Clara, San Mateo, Alameda, Contra Costa and Sacramento.

If you would like to speak with us about your case, call us at 916 313-3030.