What action beneficiaries can take over trustee mismanagement

During periods of economic turmoil, many beneficiaries are concerned about whether the law adequately and effectively safeguards their interests in respect of any significant reduction in the value of trust investments.

This article addresses whether a beneficiary is entitled to take legal recourse against their trustees for failing to re-evaluate their investment strategy and modify it to suit the prevailing economic climate.

Trustees hold the legal title to assets of a trust and are subject to the common law duty of care to exercise care and skill while managing trust property. The expected legal standard is that a trustee ought to manage the trust property and conduct business in the same manner as an “ordinary prudent man of business” would manage his own.

Statutory duty for trustees

Separately from the common law duty, the Trustee Act 2000 sets out a statutory duty that trustees must meet in terms of what is considered “reasonable”. The duty is defined in Section 1 in the act as: “to exercise such care and skill as is reasonable in the circumstances, having regard in particular —

1. to any special knowledge or experience that he has or holds himself out as having; and
2. if he acts as trustee in the course of a business or profession, to any special knowledge or experience that it is reasonable to expect of a person acting in the course of that kind of business or profession.”

The standard under the act is objective in nature. This means that trustees who have more experience and expertise will owe a higher standard of care as compared with a lay trustee. 

So how does this apply to investment decisions being made by trustees?

In any decision to invest the assets of the trust, a trustee is required to follow the “standard investment criteria” set out under Section 4 of the act, being: 

1. “the suitability to the trust of investments of the same kind as any particular investment proposed to be made or retained and of that particular investment as an investment of that kind; and
2. the need for diversification of investments of the trust, in so far as is appropriate to the circumstances of the trust.”

In addition, trustees are required to evaluate the trust’s investment portfolio regularly under Section 4(2) of the act and consider variation of investments having regard to the standard investment criteria.

In other words, alongside investing in asset classes prescribed in the trust instrument, trustees must also review whether investments should be retained or the portfolio should be diversified in order to minimise financial risk. 

The standard under the act is objective in nature. This means that trustees who have more experience and expertise will owe a higher standard of care as compared with a lay trustee

With the current economic downturn potentially resulting in the diminution of value in a whole spectrum of investments, it is likely that trustees will be on the receiving end of an increasing number of complaints and claims filed by beneficiaries, based on their decision-making or lack thereof in respect of investments where the value has significantly plummeted.

Re-evaluating investment decisions

It is important to note that the financial and economic climate at the time the investments were made carries weight when evaluating whether an investment was “reasonable in the circumstances”.

While it is understandable that trustees cannot always anticipate global events on the horizon that might disrupt the economy and impact the value of investments, it is vital for them to act quickly when that happens — as what was once a “reasonable” investment decision made under different economic circumstances may not be so in the current market.

This is why trustees with a power of investment must regularly review investments held by the trust. In cases where the power of investment has been delegated to another professional by the trustee, it is wise to ensure that the professional carries out regular periodic reviews of the trust’s investment portfolio. 

Needless to say, the most important safeguard for trustees in avoiding allegations of mismanagement and negligence involves ensuring that the rationale for every investment decision taken is documented. Any professional advice taken that has influenced decision-making should also be documented. 

Rights of beneficiaries

Beneficiaries should be aware that trustees have a duty to account for the administration of the trust and to provide financial information demonstrating how the trust is being managed. 

If a beneficiary of a trust feels that the trust has been mismanaged to the point where the statutory/common law duty of care has been breached, the relevant financial information should be requested from the trustee. If any request is refused by a trustee then, in principle, trustees can be compelled to provide the financial details by way of a court order. 

Beneficiaries also have the option of taking action to claim compensation for any breach of duty and/or trust and can also seek to remove trustees from their position in certain circumstances. 

However, a word of caution: in cases of mismanagement of a trust, it would be wise for both beneficiaries and trustees to seek to resolve the dispute outside of court as a first port of call. Litigation can be costly and time intensive and should be considered only as a last resort.

Sinead O’Callaghan is a partner at Cooke, Young and Keidan