Directed Trusts in the Context of Special Needs Planning
April 24, 2025 | Lauren I. Mechaly |Trustee selection for a beneficiary with special needs presents unique challenges. The decision includes practical considerations: the proposed trustee’s geographic proximity to the beneficiary; familiarity with the needs of the beneficiary; and the time, inclination and ability to properly execute the duties that are unique to a trustee administering a trust for a person with special needs, to name a few. Additional consideration should be given to the financial sophistication of the proposed trustee, and whether he or she has experience in investment or asset management.
A directed trust may help resolve many of the trustee selection issues in the context of special needs planning. A directed trust is a trust that appoints a trustee and a powerholder. The powerholder has the authority to give the trustee direction over specific aspects of the trust. The directed trust contains what is, essentially, a team, consisting of the trustee and the powerholder(s), who are professionals appointed to support the trustee in the management and administration of the supplemental needs trust. The multiparticipant approach creates a “project manager” who can address investment management and discretionary decision-making in the administration of the supplemental needs trust by assigning certain functions to the trustee and certain functions to the powerholder, rather than relying on the trustee to delegate those functions to others.
Administration of a supplemental needs trust is complicated. Distributions from a supplemental needs trust are subject to external restrictions imposed by “means tested” programs. There restrictions include distributions to the beneficiary, accounting requirements and other limitations, all of which the trustee must understand and uphold. In addition, familiarity with the scope of the beneficiary’s disability and specific needs are paramount to ensuring the trust funds are maximized, and that the trust’s purpose is fulfilled. The restrictions on supplemental needs trust administration and the intricacies of meeting the beneficiary’s needs can make it difficult to identify a corporate trustee willing to accept the appointment as the trustee of a supplemental needs trust. Limiting the scope of a corporate trustee’s duties, and providing the internal support system of a powerholder, make the appointment as a trustee more appealing. For example, focusing a corporate fiduciary’s attention on investment strategy while designating a family member or friend as the powerholder to coordinate personal decisions could be beneficial. Conversely, an individual trustee may hesitate to handle investment or advisory decisions on their own, preferring instead to focus on distribution decisions.
Determining the powerholder’s powers and defining the powerholder’s fiduciary or non-fiduciary capacity are important considerations for the drafter and the grantor. Clearly identifying the grantor’s intent in establishing the trust will help the drafter craft the role of the powerholder and the trustee’s duties. Recall the goals in creating a trust for a disabled beneficiary: meet the needs of the beneficiary and consider his or her best interests; preserve eligibility for means-tested government benefits; and grow the trust estate so that the funds continue to be available to supplement the beneficiary’s care needs and daily living expenses. The draftsperson should consider whether a directed trust is appropriate to meet these goals, or if a power to delegate is sufficient.
Historically, if, under the terms of a trust, a person has the power to control the trustee’s actions, then the trustee is required to act accordingly, unless the action violates the terms of the trust or the fiduciary duty to which the trustee is subject (Restatement (Second) of Trusts, Section 185). This was subsequently expanded to provide that the trustee has a duty to act unless the attempted exercise of the power is contrary to the terms or the trust or the trustee knows or has reason to believe that such exercise violates a fiduciary duty that the powerholder owes to the beneficiary (Restatement (Third) of Trusts, Section 75).
The Uniform Directed Trust Act, enacted in 2019, acknowledges that while a directed trustee must take reasonable action to comply with a trust director’s exercise of a power of direction, the trustee is not liable for the action, and that the directed trustee cannot comply with a trust director’s exercise of a power of direction to the extent the compliance would result in willful misconduct (Unif. Directed Trust Act, Section 6, et. al.).
Not all states have adopted directed trusts statutes. Of those that have, some have strong statutes, while others rely on either the Uniform Trust Code or the Restatement of Trusts. In New Jersey, a trustee must act in accordance with a written exercise of the power unless the attempted exercise is contrary to the terms of the trust, or the trustee knows it would constitute a breach of a fiduciary duty. The powerholder must act in good faith with regard to the purposes of the trust and the interests of the beneficiary and is liable for any loss that results from his or her failure to act in good faith (N.J.S.A. Section 3B:31-61).
Further, except in cases of willful misconduct or gross negligence, a fiduciary following the direction of an investment adviser will not be liable for any loss resulting from the action (N.J.S.A. Section 3B:31-62). Unless the document provides otherwise, the trustee will not be required to monitor the conduct of the investment adviser, provide advice to or consult with the investment adviser; or communicate with the beneficiary (or a third party) when the trustee might have acted in a manner different from the investment adviser.
This is, of course, significant. In drafting, it is important to define the trustee’s liability, whether it is limited to willful or intentional misconduct or gross negligence. Additionally, consider whether the trustee has a continuing duty to monitor the powerholder’s actions under the trust. In that respect, the grantor will also need to define whether the powerholder should be held to a fiduciary standard under the trust, subject to the same or similar expectations as the trustee.
Ultimately, it is the responsibility of the draftsperson to educate and counsel the grantor of a supplemental needs trust on the potential benefits of a directed trust within the context of the grantor’s overall estate planning goals.
Reprinted with permission from the New Jersey Law Journal©, ALM Media Properties, LLC. Further duplication without permission is prohibited. All rights reserved.
