One of the most sensitive issues in family trusts is what happens when our parents or other loved ones have succumb to dementia or other debilitating illnesses that reduce their ability to handle their financial affairs in a responsible manner. While it is important to stay vigilant in these circumstances most persons will not want to admit they are suffering from limited capacity and will not desire to give up control and management of their own property. Undisputedly, it is in their best interests for someone to have authority to step in when the need arises but often the act of assuming control of a loved ones property is not thought out very well when the trust is drafted.
In some cases, a parent or loved one can resign as trustee before their illness progresses further as long as the resignation is voluntary and knowing. However, in many cases that is not always an option. While a reluctance to give up control over ones own property is certainly understandable, forces ranging from mismanagement of assets to elder financial abuse necessitate some form of action to protect the parent or loved one and their property.
Often the attorney drafting the trust will explain these issues when the trust is drafted and the person will select provisions to address how trustee removal is handled when the person is no longer competent to act but might not recognize or acknowledge the incapacity. Options include the naming of a family member or friend who can make a determination of a lack of capacity or require an affidavit of one or more physicians to make a determination. While requiring an affidavit of one or more physicians is attractive, it can be expensive and time consuming. Furthermore, as a result of medical privacy laws the trust instrument must specifically authorize the physician or physicians to discuss the person’s medical condition with third parties.
If a family member or other party who is also a beneficiary is granted authority to remove the trustee care must be taken to ensure that that person does not have power to name a successor trustee, otherwise the IRS may deem that person to hold a general power of appointment over trust property depending on the distribution powers set forth in the trust and held by the successor trustee. When drafting provisions along these lines competent legal advice is paramount to avoid unintended tax consequences.
When the trust document is silent as to removal of an incapacitated trustee and the trustee is not capable of executing a knowing and voluntary resignation matters become more difficult. In this case, family members will have no choice but to hire an attorney and petition the court for removal of the trustee based on grounds that the trustee is unfit to administer the trust and substantially able to manage the trust assets and exercise their duties as trustee.