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Report on Trustee Investment |
All trusts in favour of family members, friends, charities, or others will be designed to last for a period of time. This is so whether the trust is inter vivos (a living trust) or is contained in a will (testamentary). For example, the period may be the lifetime of a surviving spouse after which the children of the marriage take the capital. It may be the minority of a young grandchild to provide a lump sum of capital at 18 years of age, or perhaps 21 or 25, with a gift over to siblings, or the lifetime of an elderly or incapacitated person with a gift over to other dependants. It may be an outright gift of capital or a legacy to charities to take effect on the ending of certain family lives. The trust may create an endowment fund for the provision of scholarships and bursaries at a school, college or university.
There are all sorts of possibilities, but in each case the trustees have a duty to make the trust property as productive as possible over the intended lifetime of the trust in order better to achieve the trust objects. When the trust property is in the form of a fund or under the terms of the trust may be converted at discretion into cash, the trustees must invest. And that means invest wisely.
The Report deals with the problem where the creator of the trust, though having in law the right to determine the width of the investment power, has been silent. Professionally drawn trust deeds and wills almost always provide for the kinds of assets in which the trustees may invest, but often, especially in older, short form, or home-drawn instruments, such a clause is absent.
For many years, inspired by 19th century experience, The Trustee Act of Manitoba, like that in all the provinces, contained a list of permitted trustee investments for those cases where the trust instrument said nothing. The trouble with these lists was that they were essentially restricted to government debt instruments. Inevitably therefore they were highly vulnerable to inflation and the decline of currency value, and always - it seemed - out of date. So, in 1983 Manitoba replaced the list with the rule that trustees may invest as the prudent person would do in managing the property of others. That is the rule that exists in The Trustee Act today.
The difficulty with this rule has proved to be that it is too indefinite, and as a consequence legal list thinking has continued. Courts in all prudent person jurisdictions have spoken of keeping capital ‘safely', and of not ‘speculating' in equity stock. In days of high inflation, the courts were still inclined to award an income beneficiary the current interest rate, without concern for what was the real return.
As a result, in the United States about 15 years ago, a movement began among investment professionals and lawyers to spell out what ‘prudence' means in contemporary market investment practice. The ‘modern portfolio theory' or ‘prudent investor' rule, as it was named, rejects the requirement, still existing in Manitoba, that each trust investment asset that is acquired must itself satisfy the test of prudence as if it were the sole trust asset. The theory adopts the principle of portfolio investment. That is, prudence is measured on how the investor handles the investment portfolio taken as a whole.
Today every asset is recognized as involving risk, whether it is debt or growth stock, and the task of every investor is to balance risk across the spectrum of investments within the portfolio. No asset is automatically excluded. In that regard, the investor is concerned only that the risk involved in an individual would-be investment asset is not so considerable, despite the gain potential, that even within a portfolio to purchase that asset would be ‘speculation' rather than ‘investment'.
For trustees, that risk be balanced is a duty. The trustees, in investing, must always be ‘prudent' and ‘sagacious', as the courts say, but now the trustees should be managing investment with a more complex idea in mind. They should be watching the markets and adjusting the ‘mix' of assets held so that the trust fund is at its most efficient. Moreover, they will pursue this policy, not just in order to satisfy present requirements, but to meet projected return needs over the likely duration of the trust.
Many states in the United States have already statutorily adopted the modern portfolio investment rule, and the Trustee Acts of Nova Scotia, Prince Edward Island, Saskatchewan and Ontario now authorize that same investment approach. It has also been recommended for British Columbia. All the legislating provinces, save Nova Scotia which amended its Act earlier, have adopted all or most of the provisions of the Uniform Trustee Investment Act adopted by the Uniform Law Conference in 1997.
The Commission recommends that in the main, the same Uniform Act be adopted in Manitoba. Recommendations are made for variation of the language of that model Act where the Commission considers it appropriate.
As a consequence, the Commission would introduce the principle of the modern portfolio theory of investment to take the place of the prudent person rule. The Commission makes the recommendation that criteria to guide trustees in such investing be introduced by way of regulations under The Trustee Act, and that for each trust - on its taking effect or this proposed reform coming into force - an investment strategy be designed by the trustees. It is also proposed that there be a duty upon trustees to consider the need in the particular trust for diversification.
Subject to appointment and monitoring safeguards, trustees would also be permitted to delegate their investment task to experts, including managers of mutual funds. Whether there can be delegation is to be determined by the circumstances in which, and the extent to which, the careful investor would delegate. Similarly, as would the responsible investor, the trustees must consider whether they should retain the advice of experts for any investment purpose.
One result of Manitoba adopting this approach to investment would be that, when a trustee has been found by a court to have culpably caused loss as a result of investments made, the amount of that loss may be set-off against gains otherwise properly made in investment. The present Act is silent on the point.
Other Manitoba statutes that adopt the investment power of The Trustee Act would also be read as authorizing modern portfolio investing.
In addition, the Commission recommends in this Report a number of new provisions that go beyond the Uniform Trustee Investment Act.
Where investment is being conducted within Manitoba, it is proposed that, subject to contrary intent of the creator of the trust, modern portfolio investing be authorized by The Trustee Act though the particular trust is operating in two or more jurisdictions and the governing law not that of Manitoba. This would considerably ease the task of professional trustees with numbers of trusts under their care. The Report goes on to recommend that charitable and non-profit organizations, whether trusts or corporations, that operate in two or more jurisdictions, and are conducting investment in Manitoba, have the same authority.
Two other recommendations are emphasized in the Report. First, that for endowment funds so-called ‘total return' distributions (i.e., distributions in favour of trust fund objects without regard to the nature of the return, whether income or capital) be permitted to all charitable and non-profit organizations engaged in investment within Manitoba. Each organization that wishes to take advantage of The Trustee Act in this respect would then need to determine for the trust in question a percentage of return that may be expended each year, and how often that percentage figure shall be reviewed.
The second is complementary. It is designed to assist all those who wish to introduce ‘total return' and therefore ‘percentage' trusts into their deed or will instruments. These are trusts where the ‘income' beneficiary takes instead a percentage, say 5%, of the interest, dividends, rents, royalties, and growth in capital value arising in the year. Alternatively, such a predetermined percentage is expended in the year upon the particular charitable purpose or purposes which an endowment fund of a registered charity or non-profit institution is furthering.
The Trustee Act would have a section describing the nature and operation of a percentage trust, and the trust creator can adopt this provision with three words - "on percentage trusts".
The Commission has also included in its Report a draft Trustee Amendment Act.
June, 1999
Report #101
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