How trustees balance distributions and future beneficiaries

Trust terms and discretion

In Minnesota, for example, trust terms generally govern trustee duties, powers and beneficiary rights, subject to mandatory statutory rules. Good faith and administration consistent with trust terms, purposes and beneficiary interests remain mandatory. Other states differ.

Even broad discretion exercised as trustee must satisfy good faith, the trust's terms and purposes, and beneficiaries' best interests. Broad discretion does not create unlimited authority.

For a distribution discussion, bring the actual distribution language. Ask the trustee to identify the standard being applied before discussing a particular payment.

Separate accounting classifications from distribution authority

In Minnesota, for example, allocation of trust receipts and expenditures follows the trust instrument first, statutory rules next, and reasonable and equitable judgment if neither applies. Other states differ.

That final judgment considers both income and principal interests and how people of ordinary prudence, discretion and judgment would manage their own affairs.

Under the statutory classifications, rent is income and consideration from selling principal is principal. These accounting classifications supply no independent power to distribute.

When the instrument grants allocation discretion, departing from the statutory allocation does not alone imply imprudence or partiality.

Business distributions need their own allocation review

In Minnesota, for example, distributions from an entity with pass through status during any part of an accounting period are allocated reasonably and equitably between income and principal, subject to the instrument first allocation hierarchy. Other states differ.

For this rule, a pass through entity passes tax attributes directly to owners, making them directly subject to income tax on entity income whether or not those attributes relate to distributions.

The trustee may consider:

• How the entity characterizes income, distributions and transactions in financial statements and tax information.
• Significant capital transactions outside ordinary business that resemble a partial liquidation.
• Whether the trust or beneficiaries bear the entity income tax burden.
• Cash remaining after estimated or actual trustee tax payments and beneficiary distributions for entity income taxes.
• Whether distributions reflect earnings taxed in an earlier accounting period, including before the trust acquired its interest.

These considerations do not prescribe a formula. For your meeting, gather the entity's financial statements, tax information and distribution records together.

Property expenses can affect income available for distribution

In Minnesota, for example, subject to the instrument first allocation hierarchy, ordinary repairs, recurring property taxes and trustee paid interest are charged to income. Debt principal payments and capital improvements are charged to principal. Other states differ.

These allocations concern trust property and administration. They do not authorize paying a beneficiary's personal expenses.

Unusually large income charges may be spread over a reasonable period, or the trustee may use reserves or other reasonable withholding to regularize distributions.

A capital improvement may carry a depreciation allowance against income to the extent permitted by the applicable statutory provisions.

When reviewing property cash flow, ask for separate figures for ordinary repairs, capital improvements, interest and debt principal. Keep that accounting discussion separate from the requested beneficiary payment.

Two related terms

Duty of impartiality: In Minnesota, for example, this means administering a trust with two or more beneficiaries with due regard to their respective interests. It does not impose an equal distribution requirement, and other states differ.

In kind distribution: In Minnesota, for example, on trust property distribution, division or termination, trustees may allocate property interests and particular assets, value them and adjust valuation differences, subject to trust limits and fiduciary duties. This administrative power does not change substantive entitlements or assure tax neutrality, and other states differ.

A perspective on candid conversations

This Investor Advantage passage offers a useful reminder for a family discussion: be clear about what you know and where you need help.

"be yourself be transparent don't fudge don't make up anything if you don't know tell them you don't know many times you get one opportunity"

Common questions