North Carolina recently expanded its law regarding trust "power holders," persons named in a trust, other than trustee, who are given certain powers over the trust and/or trustee. Traditionally, such power holders have been called "trust protectors." What follows is a brief discussion of the use of trust protectors, particularly with regard to North Carolina trusts.
I. Introduction to the use of Trust Protectors. A Trust Protector (hereinafter, “TP”), sometimes referred to as a Trust Advisor, is a person appointed in the trust instrument to direct or limit the trustee with regard to the administration of the trust, and granted certain powers to add flexibility and control over an irrevocable trust.
a. Offshore. The concept of TP came about in the use of (primarily asset protection) trusts on offshore jurisdictions, where grantors may have been uncomfortable about entrusting large amounts of wealth to a trust company on a distant island. TPs were typically given the power to remove and replace trustees and change the situs of trusts.
b. Domestic. Over the last decade or so, the use of TPs has become common in U.S. trusts, and the powers typically granted to TPs have expanded, so that many practitioners view the use of TPs as indispensable in most trusts. This is particularly true for generation-skipping or dynasty trusts, where the trust is expected to last for quite a long period of time.
II. Typical Powers of a Trust Protector
a. Remove and replace trustees
b. Change situs and governing law
c. Amend trust
d. Add powers of appointment
e. Modify withdrawal rights
f. Remove and add beneficiaries (may include grantor)
g. Approve trust distributions
h. Toggle grantor trust status
i. Correct errors
j. Direct investments
k. Direct trustee
l. Review and approve accountings
m. Terminate trust
n. IRA trust – toggle to accumulation trust
III. North Carolina’s new “Power Holder” law – N.C.G.S. § 36C-8A-801 et seq.
a. “Power holder” – a person other than a trustee with power to take certain actions concerning a trust.
b. Trust instruments may confer various powers as to investments, distributions, and other administrative matters on persons other than trustees. 36C-8A-802.
c. Power holder is a fiduciary who must act in good faith, and is liable for any loss due to breach of fiduciary duty. Exceptions:
i. Power to remove and appoint a trustee or power holder.
ii. Power of appointment by a beneficiary. 36C-8A-803.
d. A trustee has no duty to monitor, advise or consult with the power holder. Trustee does not have to give notice to beneficiaries regarding an action or inaction directed by the power holder.
e. A trustee is not liable for following the direction of a power holder, or the power holder’s failure to provide consent. 36C-8A-804.
f. Article 8A also contains provisions for:
i. Compensation and reimbursement. Compensation must be approved by clerk unless otherwise provided in the trust.
ii. Jurisdiction.
iii. Accepting or declining appointment.
iv. Powers of the trustee in absence of a power holder.
v. Decisions by multiple power holders.
vi. Resignation and removal of power holders.
IV. Fiduciary or Nonfiduciary
a. North Carolina law
i. Default is fiduciary capacity.
ii. Opt out – 36C-1-105(b) provides that the terms of a trust prevail, and does not contain an exception for the duty of a power holder to act in good faith (there is an exception that requires that a trustee always act in good faith).
iii. Assuming 36C-1-105(b) applies, it is crucial that the trust expressly state that the TP serves in a non-fiduciary capacity if that is desired.
b. Grantor trust toggle issues
i. The ability of a TP to toggle grantor trust status on and off may be attractive to a grantor. However, under IRC § 675(4)(c) (power to reacquire trust corpus by substituting other property of equivalent value), the power must be exercised without the approval or consent of any person in a fiduciary capacity. Thus, when a TP acting in a fiduciary power grants this power to the grantor, it seems likely that it would not result in grantor trust treatment.
c. Liability. A fiduciary obviously has much more potential liability than a non-fiduciary, particularly under current NC law. However, a court could rule that a TP is a fiduciary notwithstanding trust language to the contrary. While indemnification language may not stand in the event of a lawsuit, practitioners should consider including it, even with non-fiduciary TPs.
V. The Role of Trust Protectors
a. Laypersons. Should be not related or subordinate to the grantor, as such might cause estate tax inclusion or loss of asset protection features. Lay persons will generally have to hire counsel for advice and assistance with duties.
b. Attorneys. While some may view it as a conflict of interest, drafting attorneys are often in the best position to serve as TP as they are more familiar with the grantor’s intent and goals. Attorneys who are not experts in trust and tax law will also probably need to hire
c. Entities. Most banks and trust companies will not serve as TP. If a TP is acting in a fiduciary capacity, then law firms and other entities without state-granted trust powers are not eligible to serve. In a non-fiduciary capacity, it may be permissible for a law firm to serve, but that could open up the firm to liability, despite any indemnification language. Entities designed solely to serve as TP (in a non-fiduciary capacity) may be the best choice for continuity of existence and limitation of liability; an example is TrustProtector, LLC.
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