By Stanley D. Sterna, J.D., and Deborah K. Rood, CPA
This article originally appeared in the June 2016 issue of the Journal of Accountancy. Advice provided in this article has been reviewed and remains current.
Consider this scenario:
A CPA provided tax preparation services and occasional tax advice to an elderly widow whose only significant asset was a single-family home in an up-and-coming area. This longtime client asked the CPA to serve as trustee of her grantor trust. The client said she had confidence in the CPA and respected his judgment. While the CPA had never served as a trustee, he considered the widow a friend and a good client. The CPA thought, "How difficult could it be to wind up the estate? All I have to do is list the property for sale and distribute the proceeds to the named beneficiaries upon closing."
Like much in life, few things are as easy as they first seem. This applies especially when performing trustee services. Often, CPAs agree to serve as trustees based solely on their relationship with the client (i.e., the trust grantor). The CPA wants to assist the client, and what better way to do that than to ensure that his or her loved ones are taken care of after the client is gone?
The problem is that professional liability claims related to trustee services are not typically made by the trust grantor/client. Rather, they are made by nonclient trust beneficiaries or other interested parties who do not have a preexisting relationship with the CPA and, consequently, have no loyalty to the CPA or his or her firm.
Common Types of Trustee Claims
Professional liability claims related to trustee services frequently allege one or more of the following:
- The trustee unduly influenced distribution of trust assets to the detriment of one or more beneficiaries;
- The trustee mismanaged the affairs or failed to protect the assets of the trust;
- The trustee made bad investment decisions or gave bad advice regarding trust assets; or
- The trustee defrauded the beneficiaries through wrongful conversion of trust assets.
Irrespective of the allegations, the beneficiaries contend that they have not received their anticipated share of trust assets and, as a result, are not satisfied.
Risk Management Considerations
When asked to serve as a trustee, a CPA should consider potential risks before accepting the engagement.
Fiduciary standard of care
A trustee is considered a fiduciary. Fiduciaries have a duty of loyalty to the trust and its beneficiaries and also a duty of impartiality to the beneficiaries. As such, if he or she is found to have violated that standard of care, the penalties can be quite substantial. CPAs delivering services as a trustee need to be aware of the standard of care applicable in their jurisdiction.
Understand trust beneficiary relationships
A fiduciary's duty of care extends beyond the trust grantor. Accordingly, trust beneficiaries should be vetted through the CPA firm's client and engagement acceptance processes. A potential trustee should gather information about the beneficiaries and their relationships with the trust grantor, one another, and other interested parties. Family squabbles and dysfunction are often magnified when money is on the line. Therefore, understanding the family dynamics in advance of the engagement can help the CPA manage or avoid future professional liability risks.
Evaluate co-trustee relationships
If a co-trustee is named, obtain information about the individual and his or her relationship with the trust grantor and beneficiaries. Frequently, co-trustees are family members or friends of the grantor or beneficiaries. Such co-trustees typically do not carry professional liability insurance and may view their role not as a trust administrator but as an advocate for the deceased, the deceased's family, or the trust's beneficiaries. Accordingly, their loyalties may not align with a proper distribution of trust assets. They may cede administrative duties to the CPA co-trustee. If things go wrong with the administration of the trust, a co-trustee may not hesitate to blame the CPA.
Identify and address conflicts of interest
If the beneficiaries are clients of the CPA firm, consider whether advising the grantor of the trust or beneficiaries on tax or estate planning issues could be viewed, in hindsight, as a conflict of interest. Trustees must always remain objective with respect to the interests of trust beneficiaries and comply with all provisions of the trust document while serving in accordance with the heightened standard of care. If the CPA believes a conflict of interest may exist, the CPA should review his or her responsibilities under Rule 1.110, Conflicts of Interest
, of the AICPA Code of Professional Conduct
Manage trust assets appropriately
To defend an allegation of mismanagement, keep trust assets segregated from other client assets under the CPA firm's control. When warranted, obtain appraisals from qualified professionals. Even if the firm employs qualified valuation professionals, consider using another qualified firm to avoid allegations of self-dealing.
Ensure the trust agreement addresses scope of services, indemnification, and defense of trustee
Typically, a separate engagement letter is not necessary for trustee services. The trust document serves as the "contract" for services. Consequently, the CPA firm's legal counsel should review the trust document to ensure that it defines the scope of the services and the responsibilities of others, including any co-trustees and beneficiaries. The trust agreement should also contain a provision that provides for defense and indemnification of the trustee in the event of a claim, provided that the trustee acted in good faith and in accordance with the responsibilities outlined in the trust document.
Revisiting the Claim Scenario
Remember our elderly widow client? Fast-forward a couple of years. The client has died, and the CPA steps in as a trustee of the trust.
The trust document provided that the home should be listed and sold by the trust, with the proceeds divided equally among her three grown children—two sons and a daughter. After the client's death, the CPA trustee spent significant time and money preparing the home for sale. These preparations included hiring professionals to clean and discard trash, as well as significant improvements to the home. He was assisted in this endeavor by the client's daughter, who told him that her brothers were not interested in helping.
After the improvements were made, the CPA entered into an agreement to sell the home for $1.1 million. The CPA took $100,000 out of the proceeds to pay various contractors hired to renovate the property and paid himself and the sister $10,000 each for the time and effort they put into readying the home for sale.
The two sons filed suit against the CPA trustee, alleging that the family had previously discussed selling the house "as is" to a family friend who planned to tear it down and build a luxury apartment building. As part of the sale, the beneficiaries would have received a portion of future rental income. The decedent's sons asserted that the financial rewards of the development deal would have been far greater than the proceeds received from an outright sale. Further, the trust would have avoided the incremental $120,000 incurred for improvements and fees. Finally, the sons asserted that the CPA charged exorbitant fees to manage the unnecessary renovation and cleanup and was biased in favor of their sister.
The CPA later learned that the sister had a gambling problem and was estranged from her brothers. She failed to disclose the tentative deal with the developer because she wanted immediate cash from the sale, rather than future income.
If the CPA had thought about the family dynamics, he could have asked additional questions, possibly identifying the competing interests. He could have declined the engagement and avoided a claim. Alternatively, he could have better managed his risk by communicating with all the beneficiaries rather than solely the daughter.
Stanley D. Sterna is a vice president of claims at Aon Insurance Services. Deborah K. Rood is a risk control consulting director at CNA. For more information about this article, contact firstname.lastname@example.org.
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