QUESTIONS PRESENTED
You asked us to provide an opinion examining the law of each state and district within
our region with respect to the following three questions:
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1.
Which types of investments are considered appropriate under the "prudent man" rule?
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2.
What are the rules governing trustees regarding the investment of funds with which
they are entrusted?
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3.
Under state law, are parent payees permitted to invest the finds belonging to their
minor children differently than other types of payees?
QUESTION #1 PRESENTED
What types of investments are considered appropriate under the “prudent man” rule?
ANSWER
Under the Uniform Prudent Investor Act (“UPIA”), no investment type is appropriate or inappropriate. The UPIA is proposed legislation
which once enacted, is a modern codification of the “prudent man rule.” At least forty-five states have enacted this legislation, including New York (effective
January 1, 1995) and New Jersey (effective June 5, 1997). It has not been enacted
by the U.S. Virgin Islands or Puerto Rico. The Virgin Islands retains the “prudent man” rule, but there are no reported cases interpreting that section of the Virgin Islands
code. Puerto Rico's Civil Code does not include an express standard of conduct for
fiduciaries. However, both the Virgin Islands and Puerto Rico will look to Anglo-American
common law in situations where there is no case law on a specific statute, or when
the statutes are silent on the matter.
I. The Uniform Prudent Investor Act, In General
The UPIA is a standard of conduct for trustees to follow when making investment decisions
over the property in their control. The Act explicitly states that any type of investment
is permitted. “A trustee may invest in any kind of property or type of investment consistent with
the standards of this [act].” U.P.I.A. §2(d). Thus, as long as any given investment decision comports with the
standard of conduct contained in the act, the trustee will not be found liable merely
because of the type of investment.
The standard itself is based on prudence, as was the “prudent man” rule. Under the UPIA however, the trustee must invest as a “prudent investor would by considering the purposes, terms distribution requirements,
and other circumstances of the trust.” Id . at §2(a). In doing so, he must exercise “reasonable care, skill and caution.” Id . The UPIA eliminates the traditional requirement that trustees act as intelligent
and discrete men would, when managing the disposition of their own funds in regard
to the probable income as well as the probable safety of their capital.
Whether an investment decision complies with the UPIA standard will be determined
by examining the totality of the circumstances at the time the decision or investment
event occurred. Decisions will be judged “not in isolation, but in the context of the trust portfolio as a whole and as a part
of an overall investment strategy having risk and return objectives reasonably suited
to the trust.” Id. at §2(b). Thus, no investment is inappropriate in its essence, but may be inappropriate
in light of the factors existing at the time of the decision.
The drafters of the UPIA based the Act on section 227 of the Restatement of Trusts
(Third). See Uniform Laws Annotated, “Uniform Prudent Investor Act” §2, Comment (1994). Both the UPIA and section 227 of the Restatement disavow the
categoric restrictions on types of investments that had developed in some jurisdictions
under the old “prudent man” rule. Rather than measuring prudence by investment outcome, the new rule encourages
management of risk. Id.
Specific investments or techniques are not per se prudent or imprudent. The riskiness
of a specific property, and thus the propriety of its inclusion in the trust estate,
is not judged in the abstract but in terms of its anticipated effect on the particular
trust's portfolio.
Restatement of Trusts (Third) §227, Comment f, at 24 (1992). Investment decisions
made by trustees, or payees, in New York and New Jersey, and to a lesser extent Puerto Rico and the Virgin Islands, see infra, will be judged on this standard.
New Jersey
Both New York and New Jersey have enacted the UPIA. Consistent with the act, each
state's statute includes the caveat that any type of investment is permitted under
the standards of the Act. In New York, under the “Prudent Investor Act,” a “trustee” _1/ may
invest in any type of investment consistent with the requirements of this paragraph,
since no particular investment is inherently prudent or imprudent for purposes of
the prudent investment standard;
McKinney's EPTL §11-2.3(b)(4)(A). The act in New Jersey_2/ states:
Subject to the standards established in this act, a fiduciary may invest in any kind
of property or type of investment. No specific investment or course of action is inherently
imprudent.
N.J.S.A. §3B:20-11.3c.
Case law in New York and New Jersey does little to clarify what types of investments
are permitted by the courts under the prudent investment acts in these states. No
state or federal courts have reported adjudicating New Jersey's prudent investor law
enacted in mid-1997._3/ However, a few courts in New York have ruled on its 1995 prudent
investor act.
In the context of common trust funds, two cases decided by New York courts indicate
that the prudent investor act permits greater flexibility for trustees when considering
investment of trust assets. In Matter of Bankers Trust Company, 636 N.Y.S.2d 741 (N.Y. App. Div. 1995) the Appellate Division, First Department
responded to income beneficiaries' objections to the trustee's accounting and reviewed
investments of funds from a common trust fund. Bankers Trust Co., at 742-43. In doing so, the court stated that the prudent investor act did not apply
to the case at hand, but made a point of also stating that “the prudent investor [act] provides for greater flexibility in individual investments
because of the recognition that consideration should be given to the portfolio as
a whole.” Id . at 744.
A second common trust fund case supports the view that the prudent investor act offers
greater flexibility to trustees. In Matter of Onbank & Trust Co., 649 N.Y.S.2d 592 (N.Y. App. Div. 1996), the court was asked to review the propriety
of mutual funds investments made from funds in a common trust fund. Onbank & Trust, at 594. The court found that investments therein were not subject to the act because
they had been made prior to January 1, 1995. Id. at 595, n. 1. In so doing, the court stated that investments in mutual funds would
not be prohibited by the new prudent investor act. Id. at 595, n. 2.
In Matter of Siegel, 665 N.Y.S.2d 813 (N.Y. Sup. Ct. 1997), the court was asked to split a trust in two
and relax the investment restrictions in the trust agreement. Siegel, at 814. In determining whether to loosen the restrictions, the court reviewed investment
theory, and in so doing, stated
The prudent man standard (EPTL §11-2.2), in effect at the inception of the trust,
categorized particular investments, such as certificates of deposit, as prudent. In
contrast, the prudent investor standard (EPTL §11-2.3) now in effect judges prudence
by reference to risk management and the underlying determination of the appropriate
level of risk for a particular portfolio.
Id. at 815. The court ordered the trust split in two and permitted relaxed investment
practices in accordance with New York's prudent investor act. Id.
Investments which would previously have been considered high-risk under the old standard,
such as mutual funds, would now potentially be considered prudent in New York. In
deciding whether, and how to invest social security benefits, the Administration and
representative payees in should weigh the appropriate level of risk for those funds.
According to the prudent investor act, factors to consider are the purposes and terms
of the benefits received, current economic conditions, other resources of the beneficiary
and the beneficiary's needs for liquidity and preservation of capital.
QUESTION #2 PRESENTED
Under State law, are parent payees permitted to invest the funds belonging to their
minor children differently than other types of payees?
ANSWER
The law in all states and jurisdictions is silent on whether parents, as natural guardians,
are permitted to invest funds belonging to their minor children differently than other
payees.
In general, parents manage the property of their minor children. However, parents
are frequently appointed legal guardian over their own children when large sums are
involved. Where investing of funds is permitted, a parent-guardian's investment decisions
will be subject to the same standards as other fiduciaries. It should be noted that
New Jersey and Puerto Rico have statutory maximums for funds which parents may manage
without a guardian being appointed. Case law in New York suggests that when large
amounts are involved, a guardian will be appointed.
New Jersey state law
State law in New Jersey is silent as to whether a parent-payee can invest differently
than other payees when amounts received are less than $5,000 per year. N.J. Stat.
Ann. §3B:12-6 (1983) (payments of funds under $5000 per year for a minor may be given
to parents). The courts and legislature suggest that a guardian should be appointed
when the amount exceeds that threshold. Funds held on behalf of a minor must be used
for maintenance and education, and preserved for the minor upon emancipation. Id. at §3B:12-8. Any investing that a parent-payee may do as guardian will be subject
to those rules and New Jersey's prudent investor standard. See N.J. Stat. Ann. §3B:20-11.3.
In situations where the amount is over the $5,000 per annum limit, one court in New
Jersey has denied a parent the ability to invest in vehicles lacking a guaranteed
rate of return. In J.M.W. v. M.D. and F.B, 533 A.2d 401 (N.J. 1987), a mother proposed to invest $28,000 of paternity settlement
of $30,000 into variable life insurance with a non-guaranteed return of 10.35%. J.M.W., at 404. The court reasoned that where, as in this case, no bond was required, there
is no protection of the minor's funds when the investment does not have a guaranteed
rate of return. It ordered that the funds remain in the interest bearing account.
Id. at 405. This case suggests that New Jersey courts prefer parents to exercise safety
over risk in making investment decisions.
Parents, when court-appointed guardians in New Jersey, are required to follow the
same rules as a trustee would over a trust, and are subject to the prudent investor
act.
The appointment of a guardian of the estate of a minor [] vests in him title as trustee
to all property of this ward, presently held or thereafter acquired, including title
to any property theretofore held for the ward by attorneys in fact. ...
N.J. Stat. Ann. §3B:12-38 (1983). This section of the New Jersey code is viewed as
conferring upon guardians the power of fiduciaries. See Clapp and Black, New Jersey Practice vol. 7, Wills and Administration §1070 (1982) (“With respect to the estate of the ward, the guardian is a fiduciary for the ward”). New Jersey's prudent investor act expressly states a guardian is a fiduciary. See N.J.S.A. §3B:20-1b (1983).
Yet, even after a guardian has been appointed, the court still retains authority over
the minor's funds. “If a guardian has been appointed as to the estate of a minor ... the court shall
have full authority over the ward's estate, and all matters relating thereto.” Id. at §3B:12-36.
Courts oversee and can intervene in the management of the minor's property even when
it is a parent who is appointed guardian. Matter of Mason, 701 A.2d 979, 984 (N.J. Super. Ct. Ch. Div. 1997) (court retains broad powers and
far-reaching discretion, and can intervene into the management of incompetent's estate
under the doctrine of parens patriae); see e.g., J.M.W. v. M.D. and F.B., 533 A.2d 401, 405 (N.J. 1987) (court declined to allow mother ability to invest
funds and instead ordered $400 per month withdrawal of paternity settlement proceeds
for support of minor).
QUESTION #3 PRESENTED
What are the rules followed by trustees?
ANSWER
In all jurisdictions, trustees must first follow the terms and directions of the trust.
Beyond that, trustees in New York and New Jersey will be subject to the standards
of conduct found in each state's prudent investor act. Trustees in the Virgin Islands
will be subject to the “prudent man” rule and where local law is silent, trustees may look to the Restatement of Trusts
for further guidance. Trustees in Puerto Rico will be subject to its statutes creating
and regulating trusts, and where Puerto Rican law is insufficient to resolve the matter,
Puerto Rican statutes permit trustees to be further guided by concepts and principles
of common law. The Restatement of Trusts embodies the common law, and the foundation
for the UPIA.
New Jersey Trustee Rules
Under New Jersey trust law, trustees are fiduciaries of the “trust estate or trust assets [defined as] money or other property entrusted to a
fiduciary.” N.J.Stat.Ann. § 3B:20-1. New Jersey statutes contain miscellaneous rules for a trustee
to use as guidance in making investment decisions. For example, trustees are permitted
to rely on financial publications. Id. at § 3B:20-2. They are also permitted to apply to the court in the event that investments
or retention of investments would defeat the estate in whole or part. Id. at §3B:20-9. They can only incur costs that are appropriate and reasonable. Id. at §3B:11-8. And they can delegate investment or management functions. Id. at §11.10.
However, as above New Jersey has enacted the UPIA. Id. at §3B:20-11.2. Therefore, trustees owe a duty to the beneficiaries to comply with
New Jersey's version of the UPIA. Id. at §11.2a. As discussed above, that act does not specify types of investments that
are permitted or prohibited as prudent or imprudent. Trustees of trusts in New Jersey
containing social security benefits would be subject to the standards of this act.
The terms and provisions of the governing instrument however, will still control.
“The prudent investor rule is a default rule that may be expanded, restricted, eliminated,
or otherwise altered by express provisions of the trust instrument.” Id. at §11.2b. Insofar as a trustee complies with those provisions, he will not be found
liable. If necessary, a court can order or authorize a trustee to deviate from the
express provisions. Id. Thus, the governing instrument has primary control.
Under the state law of New Jersey, a trust arrangement could arise in cases where
social security benefits are paid to a representative payee for the benefit of a third
person. The benefits themselves become the trust assets and the representative payee
may be viewed as the trustee. In such situations, the trustee's investment decisions
could be dictated by a governing instrument. The governing instrument could expand,
restrict, eliminate or otherwise alter the prudent investor standard.
_1/ In New York, the term trustee includes “personal representative, trustee, guardian, donee of a power during minority, guardian
under article eighty-one of the mental hygiene law, committee of the property of
an incompetent person, and conservator of the property of a conservatee.” EPTL §11-2.3(e)(1).
_2/ New Jersey's “Prudent Investor Act” is a standard of conduct for “fiduciaries,” defined as “an individual or corporation authorized to act as a trustee, personal representative,
guardian, and every other person or corporation charged with the duty of administering
a trust estate.” N.J.S.A. §3B:20-1b.
_3/ In Will of Maxwell, 704 A.2d 49 (N.J. Super. Ct.1997), the Superior Court of New Jersey held that trust
fiduciaries are governed by standards set forth in New Jersey's prudent investment
law, at §3B:20-13 of the New Jersey code. Maxwell, at 60. The significance of this case is unclear however, as it was decided on December
24, 1997, nearly six months after the legislature's enactment of the “Prudent Investor Act” at §3B:20-11.3.