Being a Dynasty Advisor helps with more than just keeping AUM after a client dies. Behind the investment accounts are real people whose lives you’re affecting. In this episode, you’ll learn three key insights that are critical not only to doubling the lifetime value of your accounts and dramatically increasing the value of your practice – but to making a real difference in people’s lives.
You’ll hear a story about someone whose parents cared too much, and in the process set their daughter up for a financial disaster. You’ll learn how an outdated tax consideration – and sloppy drafting -- has led to many trusts having a provision that no longer makes sense, and that can cause catastrophic results for the heirs.
62 years old and the trust runs out
This is the show devoted to financial advisors, fee-based investment advisors, and wealth managers who want to increase the value of their practice by attracting more premium clients and reducing client attrition. Now if this sounds like you, all you need to do is lean forward and listen carefully.
Family Dynasty Planning is central to our discussions, and you and I will also explore other fascinating and important topics such as attracting wealthy clients, dealing with increasing competition, continuity planning and succession planning, growing and building your business, understanding the true worth of your business, and leveraging technology, just to name a few.
In this episode, you’ll learn three key insights that I believe are critical to doubling the lifetime value of your accounts and dramatically increasing the value of your practice. You’ll hear a story about someone whose parents cared too much, and in the process set their daughter up for a financial disaster. Second, you’ll learn how an outdated tax consideration – and sloppy drafting -- has led to many trusts having a provision that no longer makes sense, and that can cause catastrophic results for the heirs. Finally, you’ll learn the importance of having flexibility in a trust document. This is something you can immediately call your clients and their estate attorneys about.
Please read carefully. Because this episode could have a significant impact on your future success.
They should’ve seen this coming …
It was a Tuesday afternoon. Sitting across from me at the granite conference table in my law office was an attractive, middle-aged lady with perfectly manicured fingernails, an expensive-looking dress, purple high heel shoes, and a necklace with a matching purple amethyst solitaire. She said she wanted to sue her trustee for mismanagement of the trust that her parents had set up decades earlier. At the time it was created, the trust has millions in it. But after years of being managed by a Las Vegas trustee who charged $1,000 per hour for his services, and giving out distributions freely to the daughter-beneficiary, the trust was now depleted down to $120,000. The lady in my office was 62 years old.
According to the trustee, the trust would only last another two years at the current rate of distributions. She had never worked a day in her life, so she had limited social security benefits. And she had no marketable skills.
She mentioned that she wanted to sell some of her jewelry in order to give me an advancement of legal fees. However, I was uncertain that I would be able to help her because the trustee hadn’t done anything obviously wrong. Her situation was mainly caused by lack of foresight on the part of her parents and the attorney who drafted her parents’ trust.
As we continued to talk, I asked her how she planned to live once the trust ran out of money. She said she only planned to live another couple of years.
She was serious.
I asked if she was open to some advice. She agreed, and I suggested that she spend her remaining money to go to school and get trained to get a job. She quickly shook her head and said she needed to leave. She had her head set on suing the trustee.
The person who was never mentioned to me was the financial advisor. I know there was a financial advisor, because if the lady’s parents had invested in gold coins or poker chips, that would have been something she would have mentioned. Essentially, the parents had set up an investment account like a bucket with a hole in it. The investment advisor’s responsibility was to hold this leaky bucket and keep adding to it, knowing full well that the bucket would become empty at some point.
So … how did it happen that a lady … who was now 62 … was going to be running out of money just at the point that most people are considering retirement?
Beware the HEMS Standard
One reason is the way the trust was drafted. You see, many trusts are drafted primarily for tax planning purposes. And from a tax standpoint, there is good reason to have what’s called an “ascertainable standard” included in the trust language. The most common ascertainable standard is “health, education, maintenance and support.” In other words, the trustee is either permitted or required to distribute trust principle to the beneficiary for the beneficiary’s “health, education, maintenance and support.” This “health, education, maintenance and support” is also called a HEMS standard.
One estate tax planning situation that a HEMS standard is meant to avoid is when a beneficiary is also serving as trustee. Without some sort of “ascertainable standard,” there is a risk that the trust will be included in the beneficiary’s estate. Of course, now the estate tax applicable exclusion is over $11 million, so this was no longer relevant for this lady’s trust.
A pattern that you’ll notice, if you review many trust documents, is that drafting attorneys over the years have been most concerned with avoiding estate taxes, and not with avoiding disasters such as the lady that sat across from me in my conference room.
Now let’s talk about the benefit of having flexibility built into a trust document. For example, in the story I recounted, a Trust Protector with broad powers could have amended the trust and replaced the expensive trustee. A Trust Protector is a neutral third party who is neither the trustee nor the beneficiary. Often, it’s the drafting estate planning attorney. The benefit of this arrangement is that the drafting attorney is often the only person who has discussed intimate details concerning the clients’ final wishes.
I will say that there has been significant litigation over the last 20 years on the role, responsibilities, and duties of a trust protector. It is important that the trust protector provisions be very well articulated to avoid litigation.
In the story that I recounted, a Trust Protector could have fired the expensive Las Vegas trustee and hired a cheaper trustee … perhaps a trust company that merely charged 1.5% of assets under management.
Also, the Trust Protector could have used “tough love” to say that the trust distributions needed to be cut back drastically to last the remainder of the daughter’s life. That would have forced the daughter to get a job years earlier.
Also, a trust that requires distributions to beneficiaries at certain ages or outright rather than giving the trustee discretion lacks flexibility. The problem with this is that it assumes that life will always be perfect. A trust without flexibility assumes that each beneficiary will know how to manage and invest the inherited wealth, that the beneficiary doesn’t have a drug or alcohol problem at the time of the distribution, that the beneficiary isn’t going through a divorce or in bankruptcy when the distribution happens. And so on. Also, if you’re dealing with significant wealth – such as millions of dollars – monthly allowances don’t help promote the beneficiary to be productive. And without being productive, a person simply can’t have a healthy self-image.
Flexibility can also take the form of granting broad discretion to the trustee. The magic combination is to have a check and balance: trustees with broad discretion, plus a Trust Protector to remove and replace the trustees if they misuse their discretion.
So, now you can be on the lookout for the issue of lack of flexibility in a trust document and alert your clients when you see the issue. Or you can at least ask the drafting attorney to explain to you and your mutual clients what sort of flexibility is built into the trust document.
Get to know the Trust Protector
And here’s one last lesson from the story. This is a bonus nugget here. You, as the financial advisor, need to be in communication with both the trustee and the Trust Protector. You all need to be working together. In the case of the 62-year-old that I described, I can guarantee you that there was no communication between the trustee and the financial advisor. Why? Because there was no incentive for the trustee to care. There was no way to remove him, so there was check and balance.
Some Dynasty Trusts will go so far as to name you, the financial advisor, as a member of a Board of Advisors so you can all coordinate over the administration of the trust. Now that’s a true Family Dynasty Plan. And it doesn’t require hundreds of millions of dollars to implement that. It just takes some thought and care on the part of the drafting attorney.
EPISODE REVIEW
So, let’s do a quick review of the insights you and I discovered in this episode.
We heard the story of someone whose parents cared too much, and in the process set their daughter up for a financial catastrophe. The trust actually made it inevitable that the investment account would be gradually depleted over this lady’s lifetime. The problem was that it was depleted during her lifetime, and before she had any training or preparation for earning a living on her own, and without ensuring that she had some sort of retirement plan.
Second, we learned how an outdated tax consideration – and sloppy drafting -- has led to many trusts having a provision that no longer makes sense. Remember the HEMS standard. (Health, education, maintenance and support.) It makes sense for estate of modest wealth, and there is a tax purpose for estates with over $11 million for a single person or $22 million for a married couple. But be careful because you get what you incentivize (and supporting heirs’ lifestyles leads to lazy heirs who drain the estate).
Finally, we learned about the importance of having flexibility built into the trust document. Flexibility can take the form of a Trust Protector with broad powers to amend the trust as needed.
And speaking of reviews, please go to DynastyAdvisorPodcast.com/iTunes and type-in your biggest “take-away” or ‘aha!’ moment you experienced during this episode. You can do this now in the Reviews section and when you do it, iTunes will ask to rate this episode ... I hope I’ve earned 5-stars from you!
It’ll takes 3 minutes out of your day, but what you declare could provide you a lifetime of learning!
I hope our paths cross again next week for the Dynasty Advisor Podcast, the show dedicated to helping you use Family Dynasty Planning to keep your biggest investment accounts even after your wealthy clients have passed away.
Please do whatever it takes join me next week because our topic will be the problem of too many heirs. Transferring wealth to one heir is difficult enough. Transferring it to a lot of heirs can be even more complicated, as you’ll learn.
Invite a friend or bring a study-buddy to listen to these podcasts. It’s a great way to brain storm and learn to be a Dynasty Advisor. I can’t wait to connect with you then. In the meanwhile, all good wishes.
