Treatment of Trust Property

• Author: Browne C. Lewis
• Pages: 254-281

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Chapter 9 - Treatment of Trust

Property

The most important aspect of the trust is the trust property. The primary purpose

for creating a trust is to provide for the needs of the beneficiaries. That goal cannot be

accomplished if the trust property is destroyed or depleted. The trustee is responsible for

collecting and protecting the trust property. He or she has the legal title to the property and

owes a fiduciary duty to the beneficiary of the trust to preserve the property. In addition, the

trustee has a duty to prudently invest the trust property in order to ensure that the income is

sufficient to meet the needs of the beneficiaries.

9.1 The Duty to Collect and Protect Trust Property

When the testator dies, the testator is legally obligated to obtain possession of the

trust assets from the executor of the estate as soon as it is feasible. After he receives the

property, the trustee is required to examine the property tendered to make sure it

corresponds with the property listed in the trust instrument. In the event there is a problem

with the trust property, the trustee has duty to challenge the executor, including filing a law

suit to make sure that the trust property is restored. For instance, O leaves $400,000 to A in

trust for the benefit of B. After O dies, O’s executor notifies A and B about the existence of

the trust, and delivers the money to A. If A receives $300,000 instead of the $400,000

mentioned in the trust instrument, A has a duty to resolve the discrepancy with O’s

executor. Once the trustee receives the trust property, that person has a duty to protect the

property. The steps the trustee must take to preserve the trust property depend on the

nature of the property. If the property in the trust is a house, the trustee has duty to do

things like keeping the house in good repair and paying the necessary taxes. For trusts that

are funded by money, the trustee has the duty to invest the principle in order to make

enough money, so that the beneficiary receives the necessary income.

9.2 The Duty to Earmark Trust Property and to Not Comingle Trust

Funds

Once the trustee obtains the trust property, he has a duty to earmark the property as

belonging to the trust. For example, if A receives a house to hold in trust for B, A must put

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the trust’s name on the deed instead of his own name. The purpose of this requirement is to

prevent the trust property from being attached by the trustee’s creditors. Thus, the trustee

must make it clear that he owns the house as trustee and not as an individual. The trustee is

not obligated to earmark certain types of securities. If the trustee fails to earmark the trust

property, he is only liable for any losses that result from his failure to earmark. Consider the

following example: O gives A an apartment building to hold in trust to pay the income from

the rents to B for life. A records the deed to the apartment building in his name. A few

years later, the main employer in the area goes out of business, so people leave the area to

find new jobs. As a result, the vacancy rate in the apartment building rises to 90% and the

trust loses substantial revenue. The trustee is not liable for the loss because it was a result of

the general economic conditions in the area. On the other hand, if one of A’s creditor is able

to attach a lien to the property, A would be responsible for any loss that occurs.

The duty to not comingle is similar to the duty to earmark. The trustee must keep

the trust property separate from his own property. Consequently, if O leaves $400,000 in

trust to A for the benefit of B, A cannot legally place that money in A’s bank account.

Instead, A is obligated to place the money in a separate trust account. Nonetheless, A is only

liable for the loss the trust suffers as a result of the comingling. Thus, if A places the money

in his bank account and his creditors are able to get it, A is liable to the trust for the amount

of the loss. Nonetheless, if the trust loses money because the bank goes out of business or

some one steals the fund, the trustee is not responsible for the loss. Litigation over breaches

of the duty not to comingle usually involves individual trustees. Some jurisdictions permit

corporate trustees to comingle trust funds by statute or common law. The rationale behind

this position is to encourage corporate entities to manage small trusts by being able to pool

trust resources.

Earmarking vs. Comingling

The students often confuse violations of the duties to earmark and to not comingle.

The simple way to look at is to focus upon the trustee’s actions. When the trustee fails to

earmark, he treats the trust property like it is his property. Since it is registered or titled in his

name, legally the property does belong to the trustee. However, a trustee who comingles

trust funds acknowledges that the property belongs to the trust. The difficulty lies in

determining which property belongs to the trustee and which property belongs to the trust.