Adding Flexibility and Peace of Mind: Why Every Trust Should Have a Trust Protector

Trusts, as we have known them for centuries, are made up of four parts: the settlor, the trust (i.e. the assets,) the trustee and the beneficiaries. But more recently a fifth element has come into play, a trust protector or trust advisor who has the power to direct a trustee to do or not do something.

The role of trust protector originated with offshore trusts. Settlors with assets in the Bahamas, the Cayman Islands and other tax havens found themselves nervous that a faraway trustee might take off with the money in his care, and decided to enlist a third party to watch over the trustee’s actions. Lately, cutting edge estate planning attorneys in the U.S. like to counsel their clients that they, too, should use a trust protector. The law in more than 30 states expressly permits these advisors. (California state law has no such provisions.)

Why use a trust protector? Trust protectors can add flexibility to an estate plan when the tax laws or personal circumstances change. (Death and divorce come to mind.) They give settlors who worry that a trustee may not follow their wishes closely enough peace of mind. And they can act as a link between the trustee and the beneficiaries. They are especially useful for irrevocable trusts, dynasty trusts and special needs trusts.

Typically, a trust document can vest a trust protector with the power to:

• appoint, add and remove trustees
• consent to, direct or veto income and principal distributions
• change the trust’s governing law
• demand and approve trustee accountings
• amend or change the terms of a trust to address tax law changes
• alter the interests of beneficiaries
• decant a trust
• make tax distributions to a grantor of a grantor’s trust
• terminate a trust and have income and principal be distributed outright and free of trust to one or more beneficiaries.
• increase or decrease the age when a beneficiary can be the trustee of his or her own GSTT trust
• convert a limited power of appointment to a general power of appointment
• create a general power of appointment in favor of a beneficiary
• prevent trust income from being used to pay life insurance premiums.

In theory, anyone can serve as trust protector, but I suggest that settlors pick someone with special knowledge of their and their beneficiaries’ family, business or investment situation. This can be an independent third party such as an attorney, an accountant or a financial advisor. The settlors themselves, their spouses, trustees and successor trustees are generally not good choices. Finally, I generally prefer that the trust protector work under a fiduciary duty, ensuring that he or she can’t act in his or her own interest.

By Kevin J. Moore