Practitioner's Note by Kenneth A. Weiss
The legislature has enacted amendments to the Louisiana Trust Code that, for the first time, will permit persons establishing trusts in this state to authorize a trustee to “spray” income among beneficiaries in the trustee's sole reasonable discretion. This liberalization of Louisiana's historically restrictive trust law represents a significant advancement that now offers settlors here a common planning option long available in other states.
Effective August 15, 1997, a settlor may grant a trustee (who is not a beneficiary of the trust) discretion without objective standards (except that of the “average reasonable man”) to allocate income in different amounts among the income beneficiaries or to allocate some or all of the income to principal. The amendment also provides that “income that is not allocated by the end of the year in which it is received [can be accumulated and] remain unallocated by the trustee until a future year. Any income unallocated when the trust terminates [will then] be allocated to principal.” A sprinkling power may not be imposed on a beneficiary's legitime in trust.
Under prior Louisiana law, such broad discretion was not allowed. The interest of an income beneficiary in trust had to be fixed “under an objective standard established in the trust instrument.” For example, a trust having three income beneficiaries could provide that income would be distributed among them equally or by fixed percentages. A trustee then could be directed to distribute the balance of income to other income beneficiaries, to accumulate the income, or to allocate the balance of income to principal. Even after the 1997 amendments, a settlor still may allocate to an income beneficiary a fixed portion of income. Income not allocated to an income beneficiary under the objective standards of the instrument will be allocated to principal. In addition, a settlor still may authorize the invasion of income or principal for a beneficiary based on objective standards contained in the trust instrument, even if the effect is to impair or even exhaust another beneficiary's interest. Objective standards include the health, education, support, or maintenance of a beneficiary. However, the 1997 Trust Code amendments do not permit corpus to be sprinkled among beneficiaries in a purely discretionary manner. As under prior law, the interest of the principal beneficiaries of a trust generally will be fixed, subject to invasion for the benefit of other beneficiaries only pursuant to fixed or objective standards, with shifts in principal interests limited to narrowly defined circumstances.
As a result of the changes, a settlor may grant the trustee the ability, in the trustee's reasonable discretion, to “spray” or “sprinkle” (the terms are synonymous) income among a number of income beneficiaries. The trustee, so authorized, can take into account changed circumstances occurring years after the trust's creation. The trustee can consider the varying and changing lives of the beneficiaries: their wealth or poverty, their income and resources, their maturity, education, marital status, dependents, and financial obligations. Most importantly, the trustee will be free to exercise his best independent judgment of whether to accumulate or allocate and distribute the income without being confined to fixed standards written into the trust document many years before. In short, a settlor can entrust his trustee to dole out income taking into account the very objective and subjective factors that the settlor would have considered had he not died or made a completed inter vivos gift.
As a general rule of trust law, when a settlor authorizes his trustee to do or refrain from doing an act, or to use his judgment as to when or how a power should be used, the power is described as “discretionary.” A court will neither direct the holder of a discretionary power to act in any particular way nor set aside a decision made by him in the use of that power unless there has been an abuse of the discretionary power. A party challenging the exercise of a discretionary power bears a high burden of proof.
Generally, courts have been reluctant to upset a discretionary decision made by a trustee in good faith after consideration of the intent of the settlor as to the purposes of the trust and the circumstances of the beneficiaries at the time. This is true even if the court itself would have come to a different conclusion, taken a different action, or believed that a reasonable man would have come to a contrary conclusion. The rationale of these decisions is that the settlor handpicked the trustee and intended that the beneficiaries be bound by the trustee's good faith decision.
Settlors desiring to take advantage of the new amendments must now consider carefully who will be entrusted with the power to spray income. In the case of a testamentary trust, the settlor will wish to select a trustee who the settlor believes will carry out the purposes of the trust in a manner consistent with the settlor's values and outlook. This will also be true for inter vivos trusts, but with a tax twist. Selection of a trustee for an inter vivos trust will, under the gift, estate, and income tax provisions of the Internal Revenue Code, hold traps for the unwary settlor. As a general rule, the settlor of an inter vivos trust will wish the transfer to be complete for gift and income tax purposes and will not want the property included in his estate for federal estate tax purposes. As the following discussion indicates, the question of “who” will be the trustee of an inter vivos trust is pivotal to the attainment of these tax goals.
About the Author
Kenneth A. Weiss. McGlinchey Stafford, New Orleans, Louisiana. Professor of Law, Tulane Law School. Board Certified Tax Specialist, Louisiana Board of Legal Specialization. Board Certified Estate Planning and Administration Specialist, Louisiana Board of Legal Specialization. J.D. 1975, Tulane Law School; LL.M. (Taxation) 1981, George Washington University Law School. Member of the Louisiana and District of Columbia bars.
Citation
72 Tul. L. Rev. 1329 (1998)