2021 was another busy year on the legislative front; too much to cover in a single blog post. This part 1 covers new Parts XIV and XV of our Trust Code intended to bolster Florida’s competitiveness in the trust business market. Part 2 will cover a wide range of bread and butter issues that can have a big impact on our day-to-day practice. And part 3 will cover those issues that should be of particular interest to our Elder Law Section brethren.

The high stakes jurisdictional competition for trust funds is real and intense.

The largest inter-generational wealth transfer in history will pass over $30 trillion in inheritance over the next few decades. A lot of that wealth will end up in trusts. The jurisdictional competition among U.S. states to capture as much of that trust business as possible is fierce, and for the professionals who make a living working with those trusts, the stakes are high. How high? Think billions of dollars.

For example, in 2001 Florida made dynasty trusts possible in this state by effectively abolishing the rule against perpetuities (RAP) as applied to trusts (we extended the perpetuities period to 360 years). Two nationally recognized law professors then published an empirical study of federal banking data concluding that as of the end of 2003 roughly $100 billion in trust funds had shifted to states – like Florida – that abolished the RAP.  According to the authors these new trust funds may translate into as much as $1 billion in yearly trustees’ fees. So yeah, the stakes are high.

This year’s crop of market-driven legislative innovations includes the new Uniform Directed Trust Act, which Florida adopted as new Part XIV of our Trust Code (set out in new ss. 736.1401736.1416); and the new Community Property Trust Act, which Florida adopted as new Part XV of our Trust Code (set out in new ss. 736.1501736.1512).

[1] Florida’s new Uniform Directed Trust Act.

Directed trusts are part of a growing trend towards splitting trust powers between trustees and non-trustees (trust protectors are a common example). In a fully directed trust the trustee performs administrative functions while following the directions of the trust director. The intent of the law is to provide avenues to limit trustee liability, which translates into lower fees.

Directed trusts may be great marketing, but from a practitioner’s point of view an important question we all need to be asking ourselves is who is legally responsible if something goes wrong? In other words, if a trustee’s “directed” to take action that’s later deemed to be a breach of trust, who gets sued: the trustee or the trust director or both?

According to some really smart people the Uniform Directed Trust Act’s solved this liability problem as well as all the other ancillary issues that come with these new split-duty relationships. Time will tell. In the meantime here’s the abstract for Making Directed Trusts Work: The Uniform Directed Trust Act, co-written by Prof. John Morley of Yale Law School and Prof. Robert H. Sitkoff of Harvard Law School, explaining the “four areas of practical innovation” the new act was designed to deliver.

Directed trusts have become a familiar feature of trust practice in spite of considerable legal uncertainty about them. Fortunately, the Uniform Law Commission has just finished work on the Uniform Directed Trust Act (UDTA), a new uniform law that offers clear solutions to the many legal uncertainties surrounding directed trusts. This article offers an overview of the UDTA, with particular emphasis on four areas of practical innovation. The first is a careful allocation of fiduciary duties. The UDTA’s basic approach is to take the law of trusteeship and attach it to whichever person holds the powers of trusteeship, even if that person is not formally a trustee. Thus, under the UDTA the fiduciary responsibility for a power of direction attaches primarily to the trust director (or trust protector or trust adviser) who holds the power, with only a diminished duty to avoid “willful misconduct” applying to a directed trustee (or administrative trustee). The second innovation is a comprehensive treatment of non-fiduciary issues, such as appointment, vacancy, and limitations. Here again, the UDTA largely absorbs the law of trusteeship for a trust director. The UDTA also deals with new and distinctive subsidiary problems that do not arise in ordinary trusts, such as the sharing of information between a trustee and a trust director. The third innovation is a reconciliation of directed trusts with the traditional law of cotrusteeship. The UDTA permits a settlor to allocate fiduciary duties between cotrustees in a manner similar to the allocation between a trust director and directed trustee in a directed trust. A final innovation is a careful system of exclusions that preserves existing law and settlor autonomy with respect to tax planning, revocable trusts, powers of appointment, and other issues. All told, if appropriately modified to fit local policy preferences, the UDTA could improve on the directed trust law of every state. The UDTA can also be used by practitioners in any state to identify the key issues in a directed trust and to find sensible, well-drafted solutions that can be absorbed into the terms of a directed trust.

And for a perhaps more cautious take on the UDTA, you’ll want to read The Uniform Directed Trust Act by Prof. Charles E. Rounds, Jr. Here’s an excerpt:

As is the case with any piece of legislation that would tweak equity doctrine, the UDTA has its traps for the unwary. Here are a few:

Under the UDTA, the directed trustee is liable only for his own “willful misconduct,” while under the UTC, specifically Section 808(b), the trustee may not honor a direction that’s “manifestly contrary to the terms of the trust or the [directed] trustee knows the attempted exercise would constitute a seriousbreach of a fiduciary duty that the person holding the power owes to the beneficiaries of the trust.”

While the UDTA is almost all about non-trustee directors, buried in the UTC, specifically Section 12, is some co-trustee to co-trustee direction doctrine.

The UDTA doesn’t apply to powers to hire and fire trustees and trust directors. Presumably background principles of equity will continue to regulate those types or directions.

The UTC and the UDTA treat veto powers differently when it comes to directed trustee liability.

For more on Florida’s version of the UDTA see HB 609 and the corresponding Legislative Staff Analysis.

[2] Florida’s new Community Property Trust Act.

Surviving spouses in community property states enjoy a significant income tax advantage over surviving spouses in common law states. The advantage, known as the “double step-up in basis rule,” generally eliminates capital gains for surviving spouses in community property states. Florida’s not a community property state, so married couples in this state usually don’t get the benefit of the double step-up in basis rule. Florida’s new Community Property Trust Act (CPTA) tries to partially level the tax playing field for Florida married couples to the extent they choose to “opt-in” to the new statute.

The CPTA allows married couples in Florida to opt-in to community property treatment for assets held in a trust that meets certain requirements. Other common law states have adopted similar opt-in legislation, including Alaska, Tennessee, and South Dakota. This example from the bill’s Legislative Staff Analysis demonstrates the potential tax savings of the double step-up in basis rule:

An example of the disparate tax outcomes in common law states and community property states, is as follows: a married couple, Husband and Wife, own appreciated undeveloped real estate purchased some time ago with a current tax basis of $100,000 and a $1 million fair market value. Title to the property is held jointly by both Husband and Wife. Husband dies, and Wife sells the real estate at year’s end for its $1 million fair market value. In a common law state, s. 1014(b)(6) of the IRC results in a $550,000 income tax basis to Wife, because Husband’s basis in his half of the property increases from the original $50,000 to $500,000 (the value on his date of death), and Wife’s value remains $50,000. The real estate’s sale produces a $450,000 gain (the $1 million fair market value minus the $550,000 basis) and a tax liability of $107,100 ($450,000 x 23.8 percent). In contrast, in a community property state, s. 101 4(b)(6) of the IRC results in a $1 million income tax basis to Wife due to the step -up in basis of the property in its entirety. The real estate’s subsequent sale produces zero gain ($1 million fair market value less $1 million basis) and zero tax liability.

While the CPTA’s potential tax benefits are hard to argue with, it’s worth noting that the IRS continues to decline to comment on whether property classified as community property under Alaska’s opt-in statute or similar elective community property legislation in Tennessee and South Dakota is entitled to the step up in basis. See IRS Pub. 555, Community Property:

Note. This publication doesn’t address the federal tax treatment of income or property subject to the “community property” election under Alaska, Tennessee, and South Dakota state laws.

See also IRS Manual 25.15.5.2 (07-24-2017):

Note: While not community property states, Alaska and Oklahoma do allow couples to elect a community property system. See Alaska Statutes §§ 34.77.020 – 34.77.995. The U.S. Supreme Court ruled that the Oklahoma statute would not be recognized for federal income tax reporting purposes. Commissioner v. Harmon, 323 U.S. 44 (1944). The Harmon decision should also apply to the Alaska system for income reporting purposes.

On the other hand, here’s background commentary on the tax efficacy of community property trusts funded by married couples moving to Florida from community property states. This comes from an excellent article by Georgia tax attorney Jeremy T. Ware entitled Section 1014(b)(6) and the Boundaries of Community Property:

Another important area of community property that has long caused confusion is whether community property used by community property state residents to fund trusts remains community property for purposes of § 1014(b)(6). The answer is unequivocally yes, as long as such property remains community property under state law and half of its value is includible in the decedent’s gross estate.

In Revenue Ruling 66-283, the IRS considered a revocable trust funded with community property by California residents. The Service noted that community property held by a trustee retains its community character under California law (unless the grantors provide otherwise) and that the federal estate tax provisions caused inclusion of half the trust in the estate of the first spouse to die. Thus, the Service ruled that the trust property was community property and received the full step up under § 1014(b)(6). This, of course, fits within the plain language of § 1014(b)(6), which requires that the community property be community property under state law and that half of the property be included in the estate of the first spouse to die.

Whether state law considers community property used to fund a trust to be community property is another question, however. In Alaska, California, Texas, and Wisconsin, community property transferred into a trust remains community property either automatically or by the couple’s provision of such in the trust instrument. While no clear authority exists for the other community property states, one commentator points out, “Because the character of community property is generally not affected by how title is held …. it would follow that titling property in the name of a revocable trust or trusts should not affect the community property character of the property.” In any case, Revenue Ruling 66-283 indicates that trust property will be considered community property as long as it is found to be community property under state law. Thus depending on state law, community property in a trust can take advantage of § 1014(b)(6).

For more on Florida’s CPTA see HB 609 and the corresponding  Legislative Staff Analysis.