PR 07240.043 Puerto Rico
A. PR 01-225 Investment of Conserved Funds
DATE: August 15, 2001
In the New York Region, both New Jersey and New York have adopted The Uniform Prudent Investor Act (UPIA) within their laws.
The UPIA was approved and recommended for enactment in all States by the National Conference of Commissioners on Uniform State Laws in 1994. The UPIA provides investment rules for trustees and like fiduciaries, including representative payees, that result in greater protection of assets while providing a prospect of better income.
The UPIA has not been enacted by Puerto Rico or the U.S. Virgin Islands. Puerto Rico's Civil Code does not include an express standard of conduct for fiduciaries. The U.S. Virgin Islands retains the “prudent man” rule, but there are no reported cases interpreting that section of the U.S. Virgin Islands Code. However, both Puerto Rico and the U.S. Virgin Islands 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.
The law in both 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 both New Jersey and New York, trustees must use reasonable care, skill, and caution with the interest of the beneficiary as the key element. There is an assumption that the trustee will be impartial with no conflict of interest. Trustees may invest in every kind of property and type of investment subject to the prudent investor rule. No specific types of investments are required or restricted. No specific investment or course of action is, taken alone, prudent or imprudent. Trustees should diversify investments unless it is in the best interest of the beneficiary not to diversify.
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:
Which types of investments are considered appropriate under the "prudent man" rule?
What are the rules governing trustees regarding the investment of funds with which they are entrusted?
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?
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.
Puerto Rico is governed by traditional principles of civil law. The division of legal title and equitable ownership, which is the essence of trust law in Anglo-American systems, is contrary to civil law concepts. Alvarez v. Secretary of the Treasury , 80 P.R.R. 15 (1957). _1/ However, trusts have been made part of Puerto Rico's Civil Code. Therein, trusts are defined as:
A trust (fideicomissum) is an irrevocable mandate whereby certain property is transferred to a person, named the trustee (fiduciario), in order that he may dispose of it as directed by the party who transfers the property, named constituent (fideicomitente), for his own benefit or for the benefit of a third party, named the beneficiary (cestui que trust) or fideicomisario).
221 P.R.Laws Ann. §2541 (1993). In Puerto Rico, trusts may be made intestate or inter vivos. Id. at §2542. A trust may be made to exist with any type of property. Id. at §2544. It may be constituted for any legal or moral purpose. Id. at §2548.
The concept of the “prudent man” in fiduciary relationships cannot be found in Puerto Rico statutes or cases. There is no express standard of conduct of any kind in Puerto Rico's Civil Code for a fiduciary or trustee seeking to make investment decisions. However, sections of the Code mandate rights, powers and liabilities of trustees.
The trustee shall have all the rights and actions inherent in fee-simple ownership; but he shall not have power to convey or encumber the trust property, unless he has express authority therefor or unless the execution of the trust is impossible without alienating or encumbering the property.
31 P.R. Laws Ann. §2572 (1993). And, “[t]he trustee shall be in charge of the execution of the trust from the moment he accepts the mandate. He shall not be liable for any error of judgment, mistake of fact or of law, or act or omission, except his own willful default or manifest negligence.” Id. at §2569. Cases which have interpreted these sections do not inform as to a standard of conduct for fiduciaries making investment decisions.
In the absence of a statutory standard of conduct, the courts in Puerto Rico will look to equity and the “general principles of jurisprudence” and in so doing, “accepted and established usages and customs shall be taken into consideration.” 31 P.R. Laws Ann. §7 (1993). Accordingly, where statutes are silent, equity plays a role. See Collazo Cartagena v. Hernandez Colon, 103 P.R.Dec. 870 (1975) (where no law is applicable the court shall decide according to equity); accord Morales v. Cruz , 34 P.R.R. 796 (1926) (when there is clear and positive statutory rule, the application of the principles of equity is a subsidiary matter).
Courts in Puerto Rico have further ruled that common law is useful when statutory law is silent. See Futurama Import Corp. v. Trans Caribbean, 104 P.R.Dec. 609 (1976) (the Supreme Court shall not avoid nor reject the virtues of common law); Olmo v. Young & Rubicam of P.R., Inc., 110 P.R.Dec. 740 (1981) (courts should apply the most analogous norm where statute is silent); Infante v. Leith, 85 P.R.R. 24 (1962) (two juridical systems of civil and common law prevail in Puerto Rico); see also Sosa v. Morales, 58 P.R.R. 362 (1941); Porto Rico Ry., Light & Power Co. v. District Court, 38 P.R.R. 305 (1928).
In the area of trust law, common law is traditionally applied. See Davila v. Agrait , 116 P.R.Dec. 549 (1985) (trusts in Puerto Rico are special institutions governed both by Anglo-Saxon and civil traditional principles); see generally Alvarez v. Secretary of the Treasury, 80 P.R.R. 15 (1957). Moreover, the U.S. District Court of Puerto Rico has held trustees to traditional principles of trust law and fiduciary duty. See Detroit Bank and Trust Company of Detroit v. Trust Company of the Virgin Islands, Ltd, 644 F.Supp. 444 (D. Puerto Rico 1985) (fiduciary duty exists in banking and trust law); San Juan Hotel Corporation v. Rodriguez Estrada , 71 B.R. 413 (D. Puerto Rico 1987) (describing trust relationship in bankruptcy law). Thus, in Puerto Rico, common law as embodied in the UPIA and the Restatement of Trusts provides guidance where statutes are silent.
Furthermore, since lawsuits involving United States federal and Puerto Rican law are adjudicated by the U.S. District Court of Puerto Rico and appealed to the First Circuit Court of Appeals, the law of the states of Maine, Massachusetts, Rhode Island, and New Hampshire may offer guidance. All of those states have enacted the UPIA.
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?
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.
In Puerto Rico, statutes and case law are entirely silent on the question of whether parents may invest the property of their children differently than other payees. However, in Puerto Rico parents have explicit authority to manage the funds of their children. There is a prohibition over alienation and encumbrance of property or assets valued at over $2000. Parents as representative payees in Puerto Rico should seek prior court approval to invest assets or property over that amount.
The law of Puerto Rico unambiguously states that parents are the administrators of the property of their children.
In the absence of a judicial decree to the effect, the administration of the property of children under patria potestas belongs jointly to both parents or the one who has the minor under his or her guardianship and potestas.
31 P.R. Laws Ann. §611 (1993). However, parents cannot alienate or encumber the minor's property in excess of $2,000 without prior approval by the court.
The exercise of the patria potestas does not authorize either of the parents to alienate or lay any encumbrance upon real property of any kind, or personal property belonging to the child, the value of which exceeds two thousand (2,000) dollars, ... without the previous authorization of the Superior Court wherein the property is located ...
Id. at § 616. The section against alienation and encumbrances will be construed strictly by local courts in Puerto Rico. Ferre v. Registrar, 109 P.R.Dec. 148 (1979). Federal courts have similarly interpreted this section. The First Circuit has held that prior court approval is not necessary to sell assets, here corporate stock, which are likely worth less than $2,000, not where there is doubt as to the value. Rodriguez v. Montalvo, 871 F.2d 163, 164 (1st Cir. 1989).
However, one court in Puerto Rico has held that the section is applicable to investment of assets of a minor by her father. In Osorio v. Registrar, 113 P.R.Dec. 36 (1982), a father was seeking to invest in a mortgage lien of his minor daughter's assets. The court denied him the ability to do so, holding that the section applies to investment by father of sum over $2000 of minor daughter's funds, as her share of estate division, particularly when mortgage lien execution is also involved. Id. Likewise, parent-payees seeking to invest similarly should seek court approval.
QUESTION #3 PRESENTED
What are the rules followed by trustees?
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.
Puerto Rico's Trustee Rules
In Puerto Rico, trustees have few rules to follow and the statutes do not include an express statutory standard of conduct. Trusts in Puerto Rico legally begin at the time when the trustee accepts an irrevocable mandate to be trustee over the property of another. 31 P.R.Laws Ann. §2556 (1993). The trustee is responsible for the execution of the trust, except that he is not liable for any “error of judgment, mistake of fact or of law, or act or omission, except his own willful default or manifest negligence.” Id. at § 2569. The trustee will be removed for conflict of interest, squandering funds, or incapacitation or disqualification. Id. at §2574. The trustee has the rights and actions inherent in fee-simple ownership, but cannot convey or encumber the trust property, unless he has express authority to do so. Id . at § 2572.
Thus, a trustee in Puerto Rico may only invest funds if the governing instrument permit it. In the absence of a statutory standard of conduct, courts in Puerto Rico have applied general concepts of “fiduciary duty” as found in Anglo-American common law, to trust matters. This suggests that a trustee should follow the common law standards for fiduciaries.
Payment of benefits by the Social Security Administration to a representative payee for the benefit of a third person will not give rise to a trust in Puerto Rico. Intervivos trusts must be constituted by public deed in Puerto Rico. Id. at § 2543. However, in the event that benefits are paid into an existing express trust in Puerto Rico, the trustee may only invest those benefits if the governing instrument authorizes the trustee to do so.
_1/ Cases by courts in Puerto Rico are reported primarily in Spanish. Any such cases cited herein were researched only through annotations to the code of Puerto Rico which were in English.