Incentive Trusts

A trust arrangement popular among well-to-do families concerned not only with their children’s financial security, but with the children’s behavior, is the so-called “incentive trust.” In general, the right of a trust beneficiary to receive certain financial benefits from the trust is expressly conditioned upon the beneficiary’s performing or achieving a defined objective, or refraining from engaging in a specified activity. The criteria may be specifically defined in the trust with objective standards, or the trustee may be given a non-binding instruction in the trust to observe a certain philosophy concerning the beneficiary’s behavior when deciding upon discretionary distributions.

Incentive provisions may be set up to encourage a specific achievement (e.g., completion of a college degree), or to discourage certain activities or events. For example, continuance of periodic trust distributions might be conditioned upon abstinence from alcohol or drug abuse; benefits might be terminable if the beneficiary marries a certain individual.

Wealthy families are often concerned with their children becoming productive members of society and not ending up living solely from trust funds and inheritance. This sometimes leads to trust provisions conditioning distributions upon the beneficiary’s being gainfully employed or engaged in a “productive” activity. Such standards, although well-intentioned, can obviously lead to disagreement as to what constitutes compliance, and eventually to litigation. Critics suggest that such trusts bring a carnival-like atmosphere to trust administration — hit the target, get a prize.

The legal efficacy of these types of trust provisions is sometimes open to question. Moreover, when objective standards are not very clearly delineated in the trust instrument, an unfair, and perhaps unacceptable, burden is placed upon the trustee. In general, be cautious when utilizing such incentive provisions. Their efficacy in “meaningfully” influencing the child/beneficiaries behavior is highly questionable.

However, when they are used, every effort should be made to spell out highly detailed objective standards. Additionally (a sophisticated) trustee will seek to be absolved of potential liability (and litigation costs) in connection with administration of such an incentive provision.

Robert Adler, Esq. is an attorney who focuses his practice on wills, trusts and estates. He can be reached at 212-843-4059 or 646-946-8327.