A Refresher on Common Fiduciary Errors
As the year-end audit and tax cycle concludes, we turn our attention to Trust Department and Trust Company examinations, as most fiduciary service providers are required to undertake an annual examination. This provides an opportunity to share common patterns we note during our reviews.
More formally known as Irrevocable Life Insurance Trusts (ILITs), these trusts provide a mechanism for the Settlor to pay life insurance premiums but shelter the ultimate policy proceeds from estate taxes.
To accomplish this, the beneficiaries of the trust must have a right to withdraw the premiums paid into the trust. Once the right of withdrawal has expired, a “gift” to the beneficiaries is complete and the Trustee may then pay the premiums. The proceeds of the policy on the death of the insured (Settlor) is not taxable since the insured did not pay the premiums and had no incidence of ownership in the policy. Unfortunately, due to timing, the gift is often not complete as the premiums are paid shortly after receipt of the funds from the Settlor.
The general safe harbor for the beneficiaries’ right of withdrawal is 30 days between receipt and use of the funds to complete the gift. Trustees should ensure that the 30-day period is documented by sending “Crummey Letters” to beneficiaries.
ILIT Policy Reviews
In keeping with the management of ILITs, insurance policies are a trust asset and fiduciaries should regularly review the quality and suitability of these vehicles. In addition to a review of the health of the issuer, these policies should also be subject to review for meeting the age and longevity requirements of the Settlor. It is not uncommon for Settlors to outlive the policy life, which can often be addressed before policy expiration.
Objecting Beneficial Owner/Non-objecting Beneficial Owner (OBO/NOBO) Disclosures
All federal banking regulatory agencies require these disclosures under SEC rule 14b-1(c) for beneficial owners of Grantor trusts, Investment Management accounts and IRAs. This is an election for the beneficial owner to allow or disallow communication from companies whose stock is held in the account and should be part of the account documentation when opened.
Statement of Investment Policy (SIP)
While the trustee must invest Irrevocable Trusts for the needs of both the current and future beneficiaries, a Grantor Trust and Investment Management account is generally managed for the needs of the Grantor or owner of the IMA.
To understand and meet these needs, fiduciaries and investment managers should understand the current and future needs of the beneficiary as well as the risk tolerance and tax position. This is usually accomplished with a Statement of Investment Policy completed by the beneficiary to develop such an understanding and invest the assets accordingly.
Rebalancing of Assets
With the current volatility in both the stock and fixed income markets, trust and IMA accounts can easily fall out of tolerance with established goals. While an annual review is generally sufficient in a calmer environment, investment managers may wish to consider more frequent asset reviews to ensure that the investment goals and limits are still met.
BSA and OFAC
Trust functions are subject to the requirements of the Bank Secrecy Act and Office of Foreign Asset Control similar to the bank’s teller and new accounts areas. While fiduciaries generally do not engage in many currency transactions that require reporting, beneficiaries are subject to OFAC review as are the bank’s depositors.
Similarly, trust personnel and Trust Committee members should also receive training in BSA and OFAC requirements. Finally, trust activities should be subject to annual reviews by the BSA Officer.