Irrevocable trusts are an important estate-planning tool with many benefits, but at the cost of a trust that cannot be materially altered if circumstances later change. Irrevocable trust planning therefore lacks the flexibility available to those with only a will or revocable trust—flexibility to amend dispositive terms, remove beneficiaries, add beneficiaries, and the like. But “a trustee with decanting power has the authority to amend an unamendable trust, in the sense that he or she may distribute the trust property to a second trust with terms that differ from those of the original trust.” Morse v. Kraft, 992 N.E.2d 1021, 1024 (Mass. 2013). Decanting has become an important tool for estate planners. More than half of the states have enacted decanting statutes. The Uniform Trust Decanting Act (UTDA) was adopted in 2015. Several others states judicially permit decanting as a matter of their common law.
Although decanting offers flexibility for otherwise unamendable instruments, decanting power is not unlimited. Decanting is premised on “the trustee’s discretionary authority to make distributions to, or for the benefit of, one or more beneficiaries [of the original trust].” Morse, (quoting Culp, Trust Decanting: An Overview and Introduction to Creative Planning Opportunities, 45 Real Prop. Tr. & Est. L. J. 1, 2–3 (2010)). But improper shifting of beneficial interests because of decanting (or other modifications) can result in liability. Because decanting is seen as a trustee power, improper decanting could result in liability for an unwary trustee. “A trustee can only exercise a decanting power, however, in keeping with fiduciary obligations.” Morse, supra; see UTDA § 4. Recent cases concerning decanting show the limits of this important estate planning tool.
The recent New Hampshire case of Hodges v. Johnson concerned the effect of multiple decantings that resulted in effectively removing beneficiaries from an irrevocable trust. 177 A.3d 86 (N.H. 2017). The court held these decantings void ab initio as a violation of the trustee’s duty of impartiality. The trust at issue permitted the trustee, during the settlor’s lifetime, to “distribute all or any portion of the net income and principal of the trust to any one or more of the group consisting of [the settlor’s then-wife], [the settlor’s] descendants, and distributee trusts, in such amounts and at such times as the Trustee, in the Trustee’s discretion, may determine.” The settlor of the irrevocable trust engaged estate-planning counsel to reconsider his generosity to some of his children. This estate-planning attorney suggested decanting into a new trust. This resulted in three separate decantings, all accomplished in the following manner. One of the disinterested trustees resigned, and the estate-planning attorney was appointed trustee. Trustee power was then delegated to this estate-planning attorney, who executed the decanting documents. The estate-planning attorney then resigned, and the original disinterested trustee was re-appointed. The net result of the three decantings was that trust corpus was distributed into a new trust with a new definition of “descendants” that specifically excluded the settlor’s wife and three of his five children.
The New Hampshire Supreme Court voided the decantings, restoring the prior version of the trust that included all the original beneficiaries. The court hinged its decision on the trustees’ violation of the duty of impartiality. After acknowledging that impartiality does not require the beneficiaries to be treated equally, the court determined that impartiality does require the trustees to fairly consider the interests of all the beneficiaries to treat them equitably (but not necessarily equally) considering the purposes and terms of the trust. The evidence showed that the trustees never considered the interests of the various beneficiaries at the time of the decantings.
In Harrell v. Badger, a Florida case, a decanting was held invalid by excluding the remaindermen of the original trust. 171 So. 3d 764 (Fla. App. 2015). In Harrell, the decedent’s will created a testamentary trust that mandated income and permitted principal distributions to the decedent’s son for his lifetime, with the remainder to his sisters. The trustee attempted to decant into a pooled special-needs trust for the benefit of the decedent’s son. The remainder interest of the pooled trust was the pooled trust fund itself for the benefit of other beneficiaries of the pooled trust (who were not the original remaindermen). This decanting violated Florida’s decanting statute for two reasons. First, the trustee failed to provide notice to the remaindermen (who were qualified beneficiaries). Second, the trustee violated the provision that “[t]he beneficiaries of the second trust may include only beneficiaries of the first trust.” Fla. Stat. 736.04117(1)(a)(1). Because the pooled special-needs trust included remaindermen who were not beneficiaries of the original testamentary trust, the decanting was invalid. (The court did not decide whether, under the statute, the receiving trust can remove beneficiaries.)
A similar case from Maryland’s highest court (albeit involving amendment by trust terms, rather than decanting) further demonstrates courts’ reluctance to permit trust alterations that result in removal of a beneficiary. Vito v. Grueff, 160 A.3d 592 (Md. 2017). In Vito, the settlor established an irrevocable trust that, upon termination, would divide the assets equally among his four children. The instrument included a provision permitting the trust to be revoked, altered, or amended by a writing signed by 75 percent of the beneficial interest holders. One of the beneficiaries brought an action against the trustees alleging mismanagement. In reaction, the three other beneficiaries (75 percent of the beneficial interest) executed an amendment that removed the challenging beneficiary as a trust beneficiary. The Maryland Court of Appeals invalidated the amendment, holding the settlor’s specific intent to treat his children equally could not be overridden. Accordingly, the amendment provision could not be exercised to divest a beneficiary of her interest. Although Vito is not a decanting case, similar principles were present. This again shows that courts will look beyond the plain provisions of the trust if a beneficiary’s trust interest is eliminated or reduced.
Decanting is still a relatively recent phenomenon in estate planning. Courts have not yet had the opportunity to develop a full body of case law that considers the interplay between decanting and fiduciary duties. But from the few decided cases, estate planners and trustees should proceed with caution if they are asked to decant in a manner that will shift the existing beneficial interests.
First, the genesis of any decanting discussion may be the client/settlor’s dissatisfaction with the irrevocable trust resulting from changed circumstances. But the settlor’s basis for continued involvement in the administration of an irrevocable trust is questionable at best. Decanting is a power reserved to the trustee. Morse, supra. In Hodges, the court indicated in dicta that the trial court could have justified its invalidation of the decanting on grounds that the trustees took direction from the settlor instead of independently administering based on the terms of the trust. Ultimately, the Hodges court did not decide the issue. The point remains, however, that settlors cede control to trustees when they create irrevocable trusts, and so the continued involvement of settlors in trust decisions should be limited.
Second, the trustee (consistent with his fiduciary duties) must make a full determination of the relevant decanting law and how the proposed decanting will affect the various interests of the trust beneficiaries. A decanting decision could be invalidated based on failure to comply with the precise provisions of a state’s decanting statute affecting beneficiaries. See Harrell, supra. A decanting decision could also be invalidated based on a trustee’s violation of its fiduciary duties to the beneficiaries, such as the duty of impartiality. See Hodges, supra. A trustee who makes an improper decanting decision likely commits a breach of his fiduciary duties for making an improper distribution, and could be held individually liable for a surcharge of damages.
Finally, consideration must be given to the practical consequences of a decanting that results in eliminated or reduced beneficial interests. Courts are likely to very closely scrutinize any trust action that results in the change of a beneficial interest, even if it may technically comply with the decanting statute or the language of the trust. See Vito, supra; Hodges, supra. Even if a court can be convinced that a seemingly inequitable decanting decision was consistent with a trustee’s fiduciary duties, such a decanting decision is still likely to end up in costly litigation. It is possible the costs of litigation to all sides could outstrip the perceived benefits of the decanting decision.
In conclusion, any decanting decision that would result in the shifting of beneficial interests of a trust should be approached with extreme caution by a trustees and estate planners.
Thomas J. McIntyre is an attorney with Gilmore Rees & Carlson PC in Wellesley, Massachusetts.
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