Elements and Limits on Creation and Duration of Interests
Settlor (aka trustor, donor, transferor, grantor, testator):
Beneficiary (cestui que trust):
Possibilities of reverter:
Rule Against Perpetuities:
A trust is a fiduciary relationship with respect to specific property, to which the trustee holds the legal title for the benefit of one or more persons, who hold equitable title as beneficiaries.
Trusts have been used in estate planning to avoid the probate process, which can be time consuming and expensive. In addition, trusts can be used to secure certain tax advantages. Lastly, trusts are an effective tool of property management, including transferring property to minors or individuals not responsible enough to manage the property without oversight.
EXAMPLE: Yvonne wants to transfer the family home to her children who are minors; she does not want them to hold legal title until they reach age 21. To solve this problem, Yvonne can transfer title of the home to a trustee to hold and manage the property until her youngest child reaches age 21, at which time the property will be conveyed to her children.
The usual elements of a trust are:
- Intent to create a trust;
- A specific trust “res” (trust property);
- Designation of the parties (settlor, trustee and beneficiary); and
- A valid trust purpose.
It is essential to the creation of an express trust that the settlor unequivocally manifests the specific intention to create the trust with respect to some particular property. See, e.g., De Leuil’s Executors v. De Leuil, 74 S.W.2d 474 (Ky. 1934). This intent can be expressed by words, conduct, or both. See, e.g., Citizens Trust & Savings Bank v. Tuffree, 178 Cal. 185 (1918).
Yet, no particular words, such as “in trust” or “trustee,” or form of conduct are necessary for the creation of a trust to be valid. Furthermore, the mere presence of such words does not make it certain that a court will automatically find the requisite intent to create a trust.
EXAMPLE: Julio and Alexis make gifts to Douglas for Paula’s education, but there is no written agreement. Douglas is Paula’s father. Paula sues Douglas for an accounting (i.e., a detailed showing of the amount of funds on hand and the expenditures). Douglas claims no trust exists, and that the money was all spent on Paula’s education anyway. The court held that a valid trust was created and Douglas must account for the funds. Even though there was no express language indicating that the transfer was a trust, it was enough that the transfer was made to Douglas with intent to vest beneficial ownership in Paula. See, e.g., Jimenez v. Lee, 547 P.2d 126 (Ore. 1976).
Although there is no specific language requirement to create a trust, if this desire is just a “hope” or “wish” (known as “precatory” language) that the property be used in such a way, it creates uncertainty in the interpretation of the settlor’s intent.
EXAMPLE: Tristen devises farm land in Oklahoma to Henri, his brother, “with the expectation that Henri will use the property to take care of Kristie.” If this is merely a request, Henri may disregard it and there is no trust. If Henri is obligated to comply with Tristen’s wishes, there is a trust for Kristie’s benefit.
A settlor must intend to impose a legally enforceable obligation on the trustee to use the designated property for the benefit of another. A trustee cannot have uncontrolled freedom with respect to the use of the trust property but must be required to manage it for another. See, e.g., Ponzelino v. Ponzelino, 26 N.W.2d 330 (Iowa 1947); Comford v. Cantrell, 151 S.W.2d 1076 (Tenn. 1941); Pittman v. Thomas, 299 S.E.2d 207 (N.C. 1980).
Other requirements are that the trust must be intended to take effect immediately, not at some time in the future and the settlor must clearly describe the elements required for a trust.
EXAMPLE: Thierry, the owner of $30,000 in U.S. Treasury Bonds, tells Giorgio that he intends on the following day to transfer the bonds to Giorgio in trust for Jody. No trust arises until the transfer is made to Giorgio because a trust requires a present legal transaction rather than a future one.
Trusts that are to be created by will are effective despite the fact that they are not intended to take effect until the testator dies. There is an expressed present intention to create a trust at the time the transfer occurs and the time at which the will becomes operative (i.e., at the settlor’s death).
Trust property (res)
There are three generally stated requirements for the trust subject matter or “res”: It must be:
- an existing interest in property (at the time of trust creation and throughout the existence of the trust);
- capable of ownership and alienation (i.e., transferable to another person); and
- sufficiently identifiable and identified.
The property can be tangible or intangible (e.g., patent, trademark or copyright), real or personal, and of a present or future interest. In contrast, an interest that has not yet come to fruition (i.e., a mere expectancy) cannot be trust res because the settlor does not have the property. A trust ends with the destruction of trust property.
EXAMPLE: Audrey prepared a declaration of trust with respect to “any property I may inherit from my father.” At the time Audrey makes this declaration, her father is still alive. No trust is created here because Audrey does not currently have the property. To effectively create a trust, the property must exist at the time of the transfer; a mere expectancy is insufficient.
An exception to this rule is if there is consideration involved. Specifically, if consideration was paid for the settlor’s declaration of a trust in assets to be subsequently acquired, most courts would probably treat the transaction as a contract to create a trust. When the assets are actually acquired, the contract can be specifically enforced even if the settlor has changed his or her mind.
At common law, certain future interests (e.g., possibilities of reverter and contingent remainders) were nonalienable (not transferable) and therefore could not be transferred into a trust. Today, however, in most states all future interests are freely alienable (transferable) and may be placed in trust.
Lastly, the trust res must be specific property that is actually identified or is described with sufficient certainty that it is identifiable. This is also known as segregating the property.
EXAMPLE: Charmaine decides to establish a trust. As the trust res, Charmaine allocates “the bulk of my securities.” That description is too vague and no trust is created.
Compare to: “all of my securities, except my Wal-Mart stock.” Here, the description is sufficient because when Charmaine’s stock portfolio is inventoried on the date of the declaration (after excluding the Wal-Mart stock), the identity of the trust assets can be established.
Given the fact that the trust res must be existing property on the date of the declaration of trust, it is possible to include only a fractional interest in the trust, if that is all the settlor has at the time. For instance, if the settlor only owns a one-third interest in a building, that one-third interest can become the trust res. See, e.g., U.S. Trust Co. v. Commissioner of Internal Revenue, 296 U.S. 481 (1935).
Parties to the trust (settlor, trustee, beneficiaries)
There are three parties to a trust:
- the settlor,
- the trustee, and
- one or more beneficiaries.
The settlor is the person who owns property and uses that property to create a trust for the benefit of someone else. The settlor must have the legal capacity to create a trust, as measured by the same standards used to determine testamentary capacity to execute a will. If the trust is created during the settlor’s lifetime, the legal standard is the same as the one used to determine donative capacity in gift giving.
As a reminder, testamentary capacity involves being of legal age and sound mind to make a will, which involves a testator understanding the nature, extent and value of his property, knowing the natural object of his bounty (i.e., comprehending the relationship between himself and the proposed heirs) and understanding the disposition being made. Certain legal disabilities, such as minority and mental incapacity, may render the settlor’s attempt to create a trust void or voidable.
When the trust is created, the settlor no longer has legal title in the property. Instead, legal title vests with the trustee; equitable title (beneficial rights and powers) is conferred upon the beneficiaries (who may or may not include the settlor, depending on the trust’s terms).
The terms contained in the trust agreement also govern what other rights or interests in the property the settlor retains, such as a retained life estate or the express power to revoke and/or modify the trust. Whatever beneficial interests (such as a right to the income from the trust) the settlor retains may be transferred by the settler to anyone else and can be reached by the settlor’s creditors. See, e.g., Thompson v. Fitzgerald, 22 A.2d 658 (Pa. 1941); Vanderbilt Credit Corp. v. Chase Manhattan Bank, 100 App. Div. 2d 544 (1984).
In addition to reaching the settlor’s income from the trust, creditors can generally also access the trust’s corpus. See, e.g., State St. Barnk & Trust Co. v. Reiser, 389 N.E.2d 768 (Mass. 1979); Johnson v. Commercial Bank, 588 P.2d 1096 (Or. 1978). Creditors’ rights are particularly enhanced if the trust estate was created under fraudulent conditions, such as if the transfer was made with the purpose of defrauding the settlor’s creditors.
The trustee, the recipient of legal title to the transferred property, also must meet certain qualifications to serve in that capacity. Generally, anyone who has the capacity to acquire or hold title to the particular property for his or her own benefit also has the capacity to receive the property as trustee.
In addition, the trustee must have the capacity to administer the trust, thereby excluding minors and mentally disabled persons. The trustee can be a person or an entity, such as a domestic corporation or partnership.
Also, more than one person can be a trustee; each serving as co-trustees. If one is disqualified from serving, only the other co-trustee has the authority to act. See, e.g., In re Dorrance’s Will, 3 A.2d 682 (Pa. 1939). If any problem arises with the proposed trustee, such as failing to qualify or declining the appointment, a court of equity will appoint a trustee and the trust will not fail for lack of a trustee.
EXAMPLE: Randall, by will leaves certain land in trust for his daughter, Gabrielle. He named his sister as the trustee; however, she died three years ago. To save the trust, the court will appoint a trustee to administer the trust and will order the person having legal title to the property to convey it to the appointed trustee. (Before the court’s order, the title would be either in Randall’s heir or in the residuary beneficiary of his will). See, e.g., Perfect Union Lodge No. 10 v. Interfirst Bank, 748 S.W.2d 218 (Tex. 1988).
The trustee’s resignation and removal are treated similarly to how it works with executors. To resign, the trustee needs court permission, unless the trust agreement contains such an option. See, e.g., Lane v. Tarver, 113 S.E. 452 (Ga. 1922). A court may remove a trustee for numerous grounds, such as dishonesty, incompetence in handling of trust property or dissipation of the trust estate. See, e.g., Blumenstiel v. Morris, 180 S.W.2d 107 (Ark. 1944); Sauvage v. Galloway, 80 N.E.2d 553 (Ill. 1923).
Serving in a dual role, the settlor of the trust may also be the trustee. See, e.g., Farkas v. Williams, 125 N.E.2d 600 (Ill. 1955). For beneficiaries who may want to also serve as the trustee, the rules are more complicated. For example, the sole beneficiary cannot be the sole trustee. In this instance, one person would hold both legal and equitable title to the property, causing a merger to take place (i.e., giving that person an absolute interest, thereby defeating the trust).
Instead, the sole beneficiary can be one of two or more trustees. Furthermore, if there is more than one beneficiary, one can be the sole trustee. See, e.g., Blades v. Norfolk Southern Railway, 29 S.E.2d 148 (N.C. 1944).
EXAMPLE: Eugene creates a trust, naming his two siblings, Merrill and Liv as the trustees. Liv is also a beneficiary of the trust. As joint trustees, Merrill and Liv hold the title to the trust property as tenants in common, so there is no merger of their interests.
The last crucial party to a trust is the beneficiary. In every private trust there must be a specifically named beneficiary or a beneficiary so described that his or her identity can be ascertained when the trust is created or within the period of the Rule of Perpetuities (see below).
The beneficiary can be a natural person, corporation or class of persons. As long as an entity has the capacity to take and hold legal title to property, it has the capacity to be the beneficiary of a trust. In the case of a class of persons, the class must be readily ascertainable.
EXAMPLE: Phyllis creates a trust, naming her “children” as the beneficiaries. Here, the class is definite because the identity of her children is readily ascertainable.
Compare to: Phyllis creates a trust, naming her “family” as the beneficiaries. Here, the term family is ambiguous because the court could construe it to encompass only Phyllis’s immediate family, which would be a sufficient definition. Conversely, if the court took an expanded view and also included all her relatives, the trust would probably fail for lack of a definite class of beneficiaries.
Where a private trust fails for lack of a beneficiary, there is a resulting trust (discussed later in this chapter) in favor of the transferor, his heirs or other successors in interests. See, e.g., Union Trust Co., v. McCaughn, 24 F.2d 459 (E.D. Penn. 1927).
Terms of the trust determine the duties and powers of the trustees and rights of the beneficiaries, as intended by the settlor at the time the trust was created.
EXAMPLE: Ricki’s grandfather, Harold, established a trust for her, with the instruction that the trustee, her mother, Peggy, pay the income to Ricki during her lifetime. As such, Peggy has the duty to pay the income to Ricki and Ricki has an enforceable right to such income.
Rule Against Perpetuities
The Rule Against Perpetuities (“Rule”) is usually covered in more detail in a property class, including which future interests are affected by the Rule. As such, this section provides a brief review of the Rule, since it does have impact on the trusts area.
The Rule was developed to prevent people from controlling property from too remote a position. Traditionally, the Rule applied to nonvested future interests. Specifically, the Common Law Rule stated: An interest is not valid unless they must vest, if at all, no later than 21 years after some life in being at the creation of the interest. (The rule only applies to certain interests, i.e., continent remainders and executory interests; for a complete discussion of these interests, refer to the property course.)
It is not sufficient that the interest does in fact vest or fail within the time period. Rather, it must be ascertainable at the time of the creation of the interest that there is not even the remotest possibility that it will not vest or fail within such time.
EXAMPLE: LeBron devises his estate to such children of his sister, Raquel, as attain the age of 30 years old. Raquel dies a year after LeBron’s death. At its inception, this gift is invalid even though the interest did in fact vest within the lives of Raquel’s children and Raquel’s children were lives in being at LeBron’s death without having any more children. Since Raquel was alive at the time of LeBron’s death, there was the possibility that she would have more children. If Raquel had predeceased LeBron, the gift would have been valid.
As an alternative, some states have rejected the Rule and instead apply a wait-and-see approach. See, e.g, Rest. 2d of Property § 1.4; In re Estate of Anderson, 541 So. 2d 423 (Miss. 1989). In other jurisdictions, an alternative 90-day waiting period is used to see whether the interest vests before it the trust fails.
EXAMPLE: Robert creates a trust with a gift of money “to such of my grandchildren as attain age 21.” The trust is valid because Robert’s children will be alive at Robert’s death and are relevant to use for vesting (and thus are useful as measuring lives) in that no grandchild’s interest can possibly vest more than 21 years after the last surviving child’s death.
The remedy for an offending clause under the Rule is to strike that interest from the trust. Other interests are still valid, unless this modification would substantially alter the settlor’s purposes. This is known as the doctrine of “infectious invalidity.”
Suspension of the power of alienation
Some states have adopted provisions invalidating any attempt to suspend the power to alienate property for more than a specified period (e.g., two lives in being). The purpose of such provisions is to facilitate the transfer of property. A trust may violate this rule if the trustee is prohibited from selling the property, pursuant to the trust agreement, for longer than the specified period.
One permissible restraint is a spendthrift trust, which prevents the beneficiary from alienating his interest in the trust (i.e., protecting assets while still in the trustee’s hands). Specifically, the beneficiary cannot sell or give away his right to future income or capital. In addition, his creditors are unable to collect or attach such rights, at least before the beneficiary actually receives the money. See, e.g., Kelly v. Kelly, 11 Cal. 2d 356 (1938). The purpose of a spendthrift trust is to provide for the beneficiary’s support and maintenance, especially when the beneficiary is imprudent in his spending habits.
No specific language is required to add a spendthrift clause to a trust. Rather, the settlor just has to clearly indicate that the beneficiary’s ability to transfer his interest is limited.
EXAMPLE: Arlene established a trust “to Dwayne in trust for Esmeralda, to be paid to Esmeralda personally and to no other, whether claiming by his authority or otherwise.” This restricting language is sufficient to create a spendthrift trust.
Yet, if the beneficiary of a spendthrift trust is restrained from alienating his or her interest for longer than the period designated in the rule, this restriction would also violate a state’s statute against restricting alienation of trust property.
Lastly, a settlor cannot create a spendthrift trust for himself because this would put his assets beyond the reach of his creditors. See, e.g., Johnson v. Commercial Bank, 588 P.2d 1096 (Or. 1978).