Editor’s Note: Michael J. Parrish and Jenna F. Butler are members of the Litigation and the Trusts and Estates Litigation Practice Groups at Ward and Smith, P.A.
Have you ever looked back on a decision that you made and thought, "I wish I had … " The complexities and uncertainties of life make the future unpredictable for anyone. However, when an individual establishes an irrevocable trust, he or she attempts to anticipate what the future will hold for the trust property and for the beneficiaries of the trust. Most trusts depend on investments to generate income for distribution to beneficiaries or to increase the value of trust property over time. Unexpected changes in the stock market, real estate market, tax laws, or the lives of the beneficiaries may leave some thinking "I wish I had …" The current financial crisis is the type of unexpected event that may negatively impact a trust. Fortunately, North Carolina law allows the terms of irrevocable trusts to be modified in some situations.
What is a Trust?
A trust is created when a person (the "Settlor") transfers property, such as money, real estate, or stock, to another individual or entity (the "Trustee") to hold for the benefit of specified persons (the "Beneficiaries"), subject to specified terms, and to distribute according to the Settlor’s instructions. Trusts are used most often for tax or estate planning purposes such as when the Beneficiaries are minors or are otherwise unable to manage their own affairs, the management of trust property requires significant time and/or skill, or the Settlor wishes to limit the Beneficiaries’ immediate access to the property. In the trust document, the Settlor instructs the Trustee as to how the trust assets may be managed and how and when trust assets may be distributed to the Beneficiaries. For instance, the Settlor may direct the Trustee to distribute all income generated by the trust assets to the Beneficiaries or allow the Trustee to decide how much money the Beneficiaries should receive from time to time, or to transfer ownership of all of the trust property to the Beneficiaries at a later date.
Trusts may be "revocable" or "irrevocable." The Settlor of a revocable trust may alter the terms of the trust at any time during the Settlor’s life. A revocable trust becomes irrevocable upon the Settlor’s death. The terms of an irrevocable trust may be modified only in limited circumstances. These circumstances are described in more detail below.
Who May Modify an Irrevocable Trust?
Under North Carolina law, the ability to modify the terms of an irrevocable trust, and the requirements for doing so, depend on the type of modification being sought and who consents to the proposed modification. The parties who may consent to modification include the Settlor (if alive), the Beneficiaries, and the Trustee. The requirements for modification often depend on whether all Beneficiaries have consented. Determining the identity and number of Beneficiaries of a trust is simplified when the Beneficiaries are named specifically, but trusts often refer to the Beneficiaries as "heirs," "issue," or "children," which may include persons not yet born. Where the Beneficiaries are persons not yet born or minors, North Carolina law allows parents to represent their minor and unborn children in certain circumstances. A guardian also may be appointed by the court to act on their behalf.
Before pursuing the modification of a trust, all parties required to consent should confer with one another to be sure that each truly understands and agrees to the modification.
When is a Modification Allowed?
Irrevocable trusts are, by their nature, not meant to be modified. However, North Carolina law allows for modification of irrevocable trusts in the following situations:
• When the Settlor and all Beneficiaries consent. If the Settlor and all Beneficiaries agree, an irrevocable trust may be modified or terminated without court approval. The Settlor and all Beneficiaries may agree to modify or terminate the trust for any purpose, even for a reason inconsistent with the stated purpose of the trust.
• When the proposed modification is consistent with the trust’s purpose. If all Beneficiaries consent, an irrevocable trust may be modified if a court concludes that proposed modification is consistent with a material purpose of the trust. Even if all Beneficiaries do not consent, the court still may approve such a modification if the court finds that the interests of any Beneficiary who does not consent is adequately protected.
• When the need for modification substantially outweighs the purpose of the trust. Even if a proposed modification is not consistent with the purpose of the trust, a court may allow the modification if all Beneficiaries consent and the court decides that the need for modification substantially outweighs the need to accomplish the purpose of the trust. If all Beneficiaries do not consent, the court still may approve such a modification if the court finds that the interests of any Beneficiary who does not consent is adequately protected.
• When a change in circumstances occurs that was not anticipated by the Settlor. Any Beneficiary or the Trustee may petition the court for modification of certain terms of a trust where, because of circumstances not anticipated by the Settlor, the modification is needed to accomplish the purposes of the trust.
• When necessary to achieve the Settlor’s tax objectives. Many trusts are created to achieve a specific tax benefit, such as obtaining a charitable deduction or utilizing the annual gift tax exclusion for gifts made to minor children. When the terms of a trust fail to carry out the Settlor’s intended tax objective, the Trustee or any Beneficiary may petition a court to modify the terms of the trust so that the Settlor’s tax objective may be accomplished. The court must agree that the proposed modification is consistent with the Settlor’s probable intent.
• When necessary to avoid wasteful costs of administration. Unless the terms of the trust provide otherwise, if a trust contains property worth less than $50,000 and the Trustee concludes that the value of the trust property is insufficient to justify the continuing administrative costs, the Trustee may terminate the trust and distribute the assets in a manner "consistent with the purposes of the trust." A Beneficiary also may petition a court to appoint a different Trustee, modify the terms of the trust, or terminate the trust where the costs of administering the trust are unduly high in comparison to the value of the trust property.
Unexpected events and changes in the law may cause trusts to operate in ways not intended or expected. For instance, an insufficient return on trust property or a change in the life circumstances of a Beneficiary may prevent the trust from carrying out the Settlor’s intended purpose. In the situations described above, the Settlor, the Beneficiaries, or the Trustee of an irrevocable trust may modify the trust’s terms to prevent waste and ensure that the trust’s property is put to its intended use.
North Carolina law provides opportunities for relief with respect to trusts already in existence. For trusts yet to be formed, additional protections may be built into the trust document itself to ensure that changes can be made easily and less expensively than through litigation if unexpected future events prevent the trust from carrying out its intended purpose.
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Ward and Smith, P.A. provides a multi-specialty approach to the representation of technology companies and their officers, directors, employees, and investors. Michael J. Parrish and Jenna F. Butler practice in the Firm’s Litigation and Trusts and Estates Litigation Practice Groups, where they focus their practices on various aspects of litigation, including will caveats, trust disputes, and contractual disputes. Comments or questions may be sent to firstname.lastname@example.org or email@example.com
This article is not intended to give, and should not be relied upon for, legal advice in any particular circumstance or fact situation. No action should be taken in reliance upon the information contained in this article without obtaining the advice of an attorney.