Trust Protector

A trust protector is a third party named in a trust instrument who holds defined powers over the trust, separate from and usually superior to the trustee in the specific areas the document names. The office is a response to a structural problem: an irrevocable trust may run for decades or generations, and the person who created it has given up the power to change it. A protector is the mechanism the instrument builds in so that somebody can respond to a change in the tax law, a trustee who stops performing, or a state whose rules no longer suit the trust.

Wyoming, whose trust code addresses the office directly, defines a trust protector as "any disinterested party whose appointment is provided for in the trust instrument or who is appointed by a court of competent jurisdiction and whose powers are defined in W.S. 4-10-710." Two things in that sentence are easy to miss. The protector must be disinterested, so a beneficiary is not a candidate. And the powers are whatever the instrument says they are, which means "trust protector" describes a role rather than a fixed job.

What a protector is typically empowered to do. Wyoming Statute 4-10-710(a) provides that the powers "shall be provided in the trust instrument or may be established or modified by a judicial order, and may, in the best interests of the trust, be exercised or not exercised." It then lists twelve powers, and says the list is not exhaustive. Among them: amending the instrument to achieve favorable tax status or in response to changes in the Internal Revenue Code or state law; amending it to take advantage of changes in the rule against perpetuities or other restrictions on the terms of a trust; changing the governing law or the principal place of administration; removing and replacing a trustee for reasons stated in the instrument; reviewing and approving a trustee's accountings; interpreting terms of the instrument at the trustee's request; directing, consenting to or disapproving a trustee's distribution decisions; and appointing a successor protector.

The statute also enumerates a power to increase or decrease beneficiaries' interests and to grant or amend powers of appointment, subject to a limit worth reading twice: such a modification "may not grant a beneficial interest to any person or class of persons not specifically provided for under the trust instrument or to the trust protector, the trust protector's estate or for the benefit of the creditors of the trust protector." A protector may rearrange the deck; a protector may not deal itself in.

The fiduciary question, which most descriptions get backwards. It is common to read that a protector acts in a non-fiduciary capacity, free to exercise or withhold its powers as it pleases. Wyoming Statute 4-10-711 says the opposite in a single sentence: "Trust protectors are fiduciaries to the extent of the powers, duties and discretions granted to them under the terms of the trust instrument." That is one state's answer, not a national one, and it is exactly the kind of thing that varies. But it is a useful correction to a widely repeated claim, and it has a practical edge: a fiduciary can be held to account for how a power was used, and can be sued for how it was not.

Where the office sits relative to the trustee. A protector is not a co-trustee and does not hold or manage the property. Wyoming keeps the two offices apart on purpose and defines a third, the trust advisor, at 4-10-712, whose powers are also set by the instrument. The practical distinction is that a trustee administers and invests, while a protector holds a small number of decisive powers over the trust's structure: who administers it, under what law, and, where the instrument allows, on what terms.

Who is a candidate, and what to write into the document. The disinterested requirement rules out beneficiaries in a state that imposes it, and choosing a family friend or the family's accountant raises the question of succession over a long term. Three provisions are worth insisting on regardless of state: who appoints a successor protector and on what trigger, whether the protector is compensated, and whether the protector may resign. A trust whose protector has died with no named successor and no appointment mechanism has an empty office and, often, no way to fill it without a court.

How the office is created and used, and then a case that shows why it exists.

1. The instrument names the protector and the powers. Without both, the office does not exist, because unlike a trustee there is no default role for a court to fill in.

2. The powers stay dormant until they are needed. Wyoming's statute is explicit that they may "be exercised or not exercised," and in a well-run trust most are never used.

3. The protector acts by a written instrument delivered to the trustee, in the form the document requires.

4. The trustee follows a valid exercise within the scope granted, and continues to administer the trust otherwise.

5. Accountability follows the powers. In a state like Wyoming the protector is a fiduciary to the extent of what was granted, so an exercise, or a refusal to exercise, is reviewable.

A hypothetical showing the problem a protector is for. Wendell's trust was drafted years ago with a formula clause common at the time: at his death the trustee funds a credit shelter share with "the largest amount that can pass free of federal estate tax," and everything above that passes outright to his wife.

When the document was written that formula split the estate roughly in half. By the time Wendell dies, the exclusion amount has risen far beyond his $8,000,000 estate. The formula now funds the trust with the whole $8,000,000 and leaves his wife $0 outright. She is a beneficiary of the trust, so she is not destitute, but she owns nothing, the property gets no second basis adjustment at her later death, and the outcome is the opposite of what Wendell intended.

A protector holding the power at Wyoming Statute 4-10-710(a)(i), to amend the instrument "to achieve favorable tax status or because of changes in the Internal Revenue Code," can correct the formula. Without that power, the family's options are a court petition, a nonjudicial settlement agreement if the state and the document allow one, or living with the result.

Pros

• It gives an irrevocable trust a route to adapt to tax law, family circumstances and asset changes the settlor could not foresee.
• Removing and replacing a trustee through a protector is faster and cheaper than a court petition, and it does not require beneficiaries to litigate against the trustee.
• The power to change the governing law or place of administration lets a long-term trust follow better law rather than being stranded in the state where it happened to start.
• Where a statute makes the protector a fiduciary, beneficiaries have a remedy if the powers are misused or ignored.
• The powers are enumerated, so the settlor controls exactly how much flexibility is being handed over.

Cons

• There is no national definition. What a protector may do, and whether that person is a fiduciary, depends on the state, and in states without a statute on the document alone.
• A protector with amendment powers can change the deal the settlor wrote, which is the whole point and also the whole risk.
• Divided authority creates friction. A trustee unsure whether a direction is within the protector's powers has to decide whether to follow it, and either choice carries exposure.
• Succession is routinely under-drafted. A protector who dies or resigns with no named successor leaves an empty office that may need a court to fill.
• Fiduciary status, where it applies, means real liability, which narrows the pool of people willing to serve and usually means paying someone.