For those of you who have wills and trusts that contain testamentary (post-death) trusts that continue on for your loved ones, you may notice that the trustee has a standard by which she can make income or principal distributions. It’s common to find that the standard relates to the beneficiary’s health, education, maintenance and support-based needs.
Attorneys from all over the country commonly use those terms — health, education, maintenance and support. Is this because we all use the same form book?
No, that’s not the answer.
The reason that distribution standards are tied to those four words is found in the Internal Revenue Code. When distributions to a beneficiary are limited to that beneficiary’s health, education, maintenance and support then the trust is said to have an “ascertainable standard” Interestingly, including the words “for that beneficiary’s comfort and general welfare” are not considered an ascertainable standard.
Why would it be important for a trust to limit the distributions to a beneficiary under an ascertainable standard? Oftentimes the beneficiary and the trustee are one and the same person. Consider if Harry created a testamentary trust that, upon his death, provides for his wife, Sally. Sally is to receive income from the trust and the trustee may invade the principal of the trust for Sally’s health, education, maintenance and support. Assume further that Harry has named Sally as the trustee of this trust.
Even though Sally is the trustee of the trust, she does not legally own the trust assets because her distributions are limited to an ascertainable standard. This could be important for a variety of reasons. If Harry and Sally do not want the assets of the testamentary trust included in Sally’s estate for estate tax purposes, it is important that she is not deemed to own the trust assets. This could also be true for liability protection. If Sally were to run over someone in her car causing injury to another, assets in a discretionary trust that are limited to an ascertainable standard may fall outside of the reach of a judgment creditor. Another important protection may include protecting the inheritance from a future divorce should Sally remarry.
By limiting distributions to an ascertainable standard, you can give your beneficiary a great deal of control over the assets of a trust as the trustee, but not subject those assets to a variety of dangers mentioned above. The trustee of a trust generally has the ability to decide what investments, assets or property the trust will own, and when to sell or distribute trust income or principal. So it might be very important in your estate plan to give your beneficiary these trustee powers, yet at the same time protect the inheritance for that beneficiary.
Sometimes clients will voice concern whether the language is too limiting. The trust document can broadly define health, education, maintenance and support. Those words encompass almost any need that your beneficiary might have short of luxury goods or leisure travel. When you have your attorney draft your trust, you can restrict the distributions by requiring the trustee/beneficiary to first consider other income or resources available to him, or you could open up the distributions for any reasonable request notwithstanding other income or resources available. It’s all in how you want your document drafted.
Another consideration is to ask who might challenge a distribution as improper. Generally speaking, the remaindermen beneficiaries would have the opportunity to review annual accountings and to question any distributions as falling outside of the written standard. A remaindermen beneficiary is someone who inherits once the initial beneficiary’s interest is terminated, usually after a term of years or upon death. A marital trust, for example, may continue on for the lifetime of the spouse, and then terminate to the children upon the spouse’s death.
If you grant your beneficiary a power of appointment that allows him or her to alter the remaindermen beneficiary’s inheritance then for a remainderman beneficiary to challenge a distribution could end up jeopardizing that beneficiary’s economic interest in the trust. Suppose, for example, that Harry gave Sally the power to appoint the trust at Sally’s death among their descendants, spouses and charities. Assume Sally’s daughter, Denise, believes that Sally is making distributions to herself outside of the health, education, maintenance and support standard.
When Denise confronts Sally, Sally’s answer is, “Well, Denise, I suppose you could question my distributions. But if you do, remember that I have the power to write you out of the trust!”
There are many nuances and considerations to consider when creating and drafting trusts, even when the ascertainable standard of health, education, maintenance and support are used. But at least now you know why those words are so common in estate planning documents, and what choices you might have even when using such “standard” phrases.
The Sheppard Law Firm has its main in Fort Myers and also in Naples by appointment.
© 2017 Craig R. Hersch. Originally published in the Sanibel Island Sun.