INTRODUCTION INVESTMENT ISSUES AND CONSTRAINTS FOR PROFESSIONAL TRUSTEES THE BENEFITS OF INTEGRATED ADVICE HOW SCOTTISH WIDOWS CAN HELP

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1 GUIDE TO TRUSTEE INVESTMENT This information is for UK financial adviser use only and should not be distributed to or relied upon by any other person.

2 INTRODUCTION TRUSTEES ARE REQUIRED BY LAW TO TAKE APPROPRIATE ADVICE BEFORE EXERCISING THEIR POWER OF INVESTMENT AND TO REVIEW THE INVESTMENTS PERIODICALLY. FAILURE TO DO SO COULD HAVE SIGNIFICANT CONSEQUENCES, PARTICULARLY FOR PROFESSIONAL TRUSTEES. EACH TRUSTEE IS UNDER A STATUTORY DUTY OF CARE AND PROFESSIONAL TRUSTEES ARE UNDER A HIGHER DUTY OF CARE WHEN EXERCISING THEIR POWER OF INVESTMENT. FINANCIAL ADVISERS CAN BE AN ESSENTIAL ALLY FOR THEIR PROFESSIONAL PARTNERS ACTING AS TRUSTEES OR ADVISING TRUSTEE CLIENTS AND THERE IS AN OPPORTUNITY FOR A GENUINE MUTUAL BENEFIT. SCOTTISH WIDOWS CAN ASSIST ADVISERS BY PROVIDING A WIDE RANGE OF SUPPORT INTENDED TO AID THEIR WORK WITH THEIR PROFESSIONAL PARTNERS. PAGE 1 INVESTMENT ISSUES AND CONSTRAINTS FOR PROFESSIONAL TRUSTEES PAGE 4 THE BENEFITS OF INTEGRATED ADVICE PAGE 6 HOW SCOTTISH WIDOWS CAN HELP

3 INVESTMENT ISSUES AND CONSTRAINTS FOR PROFESSIONAL TRUSTEES TRUSTEE ACT 2000 The Trustee Act 2000 ( the Act ) imposes various duties on trustees including a statutory duty of care and a duty to obtain and consider proper advice when reviewing trust investments or making or varying investments. In this guide we shall look at these duties in more detail and demonstrate why financial advisers are in an ideal position to make their professional partners aware of their duties and provide them with proper investment advice. OVERRIDING DUTY OF CARE The statutory duty of care imposed by the Act, requires trustees to exercise such care and skill when making or reviewing investments, as is reasonable in the circumstances having regard in particular to any special knowledge or experience that he or she has or holds out as having. Of particular importance to your professional partners who act as trustees is that if they do so in the course of a business or profession, regard will be had to any special knowledge or experience that it is reasonable to expect of a person in the course of that kind of business or profession however new to this type of work the professional might be. Importantly, this means that solicitors or accountants who act as trustees in a professional capacity will be subject to a greater standard of care than, say, family members. STATUTORY INVESTMENT CONSIDERATIONS In addition to observing the statutory duty of care, the Act further demands that when exercising a power of investment trustees must: obtain and consider proper advice have regard to the need for diversification and the suitability of the proposed investments to the trust (known as the standard investment criteria ) periodically review the trust investments. The need for proper investment advice The duty to obtain and consider proper advice applies whenever the trustees are making or reviewing investments. Proper advice is the advice of a person who is reasonably believed by the trustee to be qualified to give it by his ability in and practical experience of financial and other matters ie someone who understands trustees responsibilities relating to the proposed investment. Financial advisers are in an ideal position to give that advice. It is good practice to agree the terms of engagement, aims, objectives, methodology, review procedures and other related aspects of advice in writing in order to protect both trustee and financial adviser. The Standard Investment Criteria The Act sets out the standard investment criteria which should be considered in relation to trust investment. This means that trustees should consider: suitability to the trust of current or proposed investments in view of the trustees attitude to risk and particular requirements and taxation of the trust and diversification of investments of the trust, in so far as is appropriate to the circumstances of the trust. The particular requirements of the trust will be determined by a number of factors including the size of the fund (smaller funds may be dealt with in a different way to larger ones), the need for liquidity and the nature and needs of the beneficiaries - an older beneficiary may have different needs to younger ones, one with children will have different needs to one without, someone needing 24 hour care needs different things to someone in good health, a rich beneficiary may have different needs to a poor one etc. The life expectancy of the beneficiary may impact on the investment needs. 1

4 Regular reviews The Act confirms the decision in the key case of Nestle v National Westminster Bank that a trustee with a power of investment must undertake periodic reviews of the investments held by the trust. A six monthly valuation and interim review with a full review every 12 months is taken as being good practice. The investments should be reviewed with regard to the standard investment criteria to determine whether they should be varied. They should be measured against an appropriate benchmark and a thorough consideration of the overall strategy made annually. Any review should be clearly documented and an audit trail kept by the trustees. Financial advisers are an integral part of this review process. INVESTMENT POWERS Express powers Although trustees should always look at the express terms of the trust settlement in respect of their powers and duties, they should also be aware of the general power of investment introduced in the Act. General power of investment The Trustee Act 2000 created a new statutory investment power for trustees. This investment power is additional to any express powers of investment contained within new or existing trusts but is subject to any restriction or exclusion imposed by a post-3 August 1961 trust instrument or other legislation. The Act provides that a trustee may make any kind of investment that he could make if he were absolutely entitled to the assets of the trust. This, however, is an ability not a duty. Simply because a trustee has the power to invest in a given way does not make this the most appropriate investment solution for the trust in question. It is here that advice is so important. Investment defined The Act refers to the powers and duties of trustees in relation to investment of trust funds, but what constitutes investment? Broadly, investment can be defined as a purchase or other arrangement for which: there is a reasonable expectation of reward over a period of time reflecting the level of risk taken by the trustees taking account of the risk profile of the trust. Importantly, this does not require that the asset always rises in value in order to qualify as an investment nor does it suggest that it must always retain its purchasing power. This recognises the fact that it may not always be possible to achieve either of these. Let s look at some examples of what would not be considered acceptable investments: (1) Notes, coins and non-interest bearing accounts (2) Chattels and consumables ie personal belongings, furniture, paintings, cars, fine wines. (3) Pure life insurance (protection) policies (4) Residences for beneficiaries where the purchase of the property is for the purpose of providing a beneficial interest rather than to produce a return, it is not an investment. This doesn t mean that trustees are prevented from holding these items, just that doing so would not constitute investment. It is usual for trustees to be given specific powers enabling the purchase of property for occupation by a beneficiary and/or the purchase of life insurance policies. 2

5 Investment versus speculation Key to understanding what constitutes investment is an awareness of what instead might be seen to constitute speculation. It is the word investment that appears in the Trustee Act 2000 and it is therefore investment that the trustees must seek to deliver. Although the Act permits trustees to make any kind of investment he could make if he were absolutely entitled to the assets of the trust this does NOT permit the trustees to effect anything that is not properly called an investment. A lack of differentiation between investment and speculation could, therefore, easily lead to trustees operating beyond their powers. Trustees should purchase an investment with the intention of making continuing gains in capital and income as part of a trust portfolio rather than holding an asset with a focus on the price movement of the asset and making money from such movement. Of course, the law does allow for some hazard/risk in the making of trustee investments it is unavoidable in some circumstances. Speculation then might be regarded as buying an asset without first assessing the risks attached to promised high returns. OTHER RELEVANT LEGISLATION There have been a number of other changes in legislation of which the professional trustee should be aware before exercising their powers of investment: Finance Act 2006 The Finance Act 2006 resulted in flexible power of appointment/interest in possession trusts established on or after 22 March 2006, being taxed for inheritance tax purposes in the same way as discretionary trusts. These trusts were commonly offered by life companies. Trustees of pre-22 March 2006 flexible power of appointment trusts need to take professional advice on the impact of this legislation if considering a change to the interest in possession beneficiaries or topping up or encashing pre-22 March 2006 investment bonds. Finance (No.2) Act 2010 The Finance (No.2) Act 2010 resulted in a further imposition on trusts in the form of an increase in the rate of capital gains tax from the flat rate of 18% to 28% for disposals made on or after 23 June SCOTLAND AND NORTHERN IRELAND In Scotland the Charities and Trustee Investment (Scotland) Act 2005 provides trustees of trusts established under Scots law with investment powers broadly equivalent to those conferred by the Trustee Act 2000 in England and Wales. This Act permits trustees to make any kind of investment of the trust estate and overrides any restrictions contained in existing trust deeds. In Northern Ireland the Trustee Act (Northern Ireland) 2001 contains the same provisions to those under the Trustee Act

6 THE BENEFITS OF INTEGRATED ADVICE PROFESSIONAL PARTNERSHIPS It is vital that trustees, particularly professional trustees, take financial advice in relation to their investment strategy, though many do not realise this. Not only can you point out their responsibilities to them but you can also assist them in complying with their duties. SOUND ADVICE You will be able to advise the trustees on their investment choice taking account of the following: needs and requirements of the different beneficiaries, for example the needs of beneficiaries entitled to income (life tenant or liferenter in Scotland) versus those entitled to capital (remaindermen or fiar in Scotland) the likely term of the investment the attitude to risk of the trustees (or the beneficiaries if a bare trust) investment versus speculation issues by steering the trustees away from speculation charging structure and the product charges in light of the value of the trust fund risk against return ensuring that an appropriate return is obtained for each unit of risk taken tax status of beneficiaries, trustees and settlor, where relevant. BENEFITS OF TRUST REVIEW As we have seen above it s essential that the trustees carry out regular reviews of the trust investments, considering not just performance but also a review of overall investment strategy. Remember that the needs of beneficiaries will often change and it s therefore important that the trustees review the trust investments in light of this, in case the overall investment strategy needs changing. A trust fact find is a useful starting point in that it has the advantage of highlighting a number of important factors relevant to the suitability of a given investment recommendation. These might include the type of trust, the residency of the trustees, any expression of wishes from the settlor, the personal and financial circumstances of the beneficiaries as well as the main trust objectives. Investment powers, powers to delegate, investment policy, attitude to risk current investments, key dates including tax charges, trust contacts and any special instructions can also be captured. It s not only important that the trustees comply with their various duties but also from your own point of view you will want to ensure that your investment advice is appropriate to the specific trust and this can only be done if you have the full facts available to you. Any investment advice that you provide to the trustees should be confirmed in writing since the trustees need an audit trail if they are to protect themselves from a negligence claim from a disgruntled beneficiary. Such an audit trail at the same time provides you with some protection from such a claim. The fact find can then be updated at each review. 4

7 STATEMENT OF INVESTMENT PRINCIPLES In order to assist you in providing appropriate investment advice for trustees, it may make sense to take the time to produce a statement of investment principles for the trust. Such a statement is only mandatory if you are managing the investments under a discretionary management agreement however it s still good practice to use one since it sets down the parameters within which you will be working. It will give the trustees the opportunity to set down their requirements, the objectives of the trust, the need for income and any specific ethical considerations. It will also give you the opportunity to set down an asset allocation model, a benchmark for performance to be measured against and the appropriate review period to be employed. 5

8 HOW SCOTTISH WIDOWS CAN HELP We can provide all the assistance that you need in order for you to advise your professional partners both in terms of a flexible product range - that includes both mutual funds and an investment bond as well as a range of materials to help them comply with their duties under the Trustee Act PRODUCT RANGE We offer a broad range of mutual funds and a life assurance investment bond brought to you by Scottish Widows: Mutual funds Our range of mutual funds may be suitable where there is a requirement for income e.g. for the life tenant of a life interest trust. Life assurance investment bond As a non-income producing investment, our Investment Bond may be suitable for trustees of discretionary or flexible power of appointment trusts looking to simplify administration and avoid an ongoing liability to income tax. The unique features of investment bonds, such as the 5% tax deferred withdrawal allowance, the ability to assign segments to basic rate or non taxpayer beneficiaries without a tax charge and the ability to switch between funds without incurring capital gains tax mean that bonds also offer ample opportunity for tax mitigation on distribution. FURTHER INFORMATION AND ASSISTANCE A booklet such as this is for information purposes only. We have only covered matters of general concern to professional trustees of family trusts when exercising their powers of investment. If you require further information, you should speak to your Scottish Widows sales contact. Important notes This item is aimed at financial advisers only. If you reproduce any part of this information to use with retail clients, you must ensure it conforms to the Financial Promotions rules. In addition, if used to advise retail clients, you are subject to the advising and selling rules. Every care has been taken to ensure that the information given in this booklet is correct and in accordance with our understanding of the law and HM Revenue & Customs practice. You should note, however, that Scottish Widows cannot take upon itself the role of an individual or trustee adviser. Independent confirmation should be obtained before acting or refraining from acting in reliance upon the information given. The law and HM Revenue & Customs practice are subject to change, which cannot be foreseen. Our wide range of funds include some of what we believe to be the best known and well-respected investment houses in the UK. Scottish Widows Limited. Registered in England and Wales No Registered office in the United Kingdom at 25 Gresham Street, London EC2V 7HN. Telephone: Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. Financial Services Register number /15