The Art of Creating the Modern Statutory Business Trust

Sec. 1.3. The Common Law Trust as a Contractual Relationship

The common law trust is an unincorporated entity in which a fiduciary relationship is created by a binding contractual relationship. The rights and obligations of each constituent are set forth in the trust instrument. Like any other contractual relationship, the constituents are free to agree on such terms and conditions as they consider necessary and proper to accomplish the purposes for which the trust is created. Except for certain general legal requirements, the state laws do not mandate the terms and the conditions on which the constituents must base their contractual relationship.
Because it is a contract, the common law trust is not a legal person which is separate and distinct from the trustee and the beneficiary. Because it was not a legal person whether and how the doctrine of limited liability applied to a common law trust was uncertain. It is always possible that a creditor could reach the personal assets of the trustee or the beneficiary for the debts and obligations which either of them incurred in furtherance of the purpose of the trust. Also, it is uncertain whether and how the various implied contract and fiduciary principles which judges have developed in case law over the decades and centuries apply to common law trusts.
The broad categories of common law trusts are donative trusts, charitable trusts, commercial trusts, Uniform Trust Code trusts, and special purpose trusts. Within each category, there are various incarnations of trust relationships which are designed to take advantage of certain tax provisions, asset protection and or succession planning. A detailed discussion of these incarnations is beyond the scope of the publication.

A. Donative Trusts

A donative trust is a gift of assets from a donor, also referred to as the grantor or settlor, to an individual beneficiary. The donor appoints a trustee to manage, distribute and dispose of the trust assets for the benefit of the beneficiary. Usually, donative trusts are created to care or pay for the education of a beneficiary(ies) who is a minor or unable to care for his or herself.

B. Charitable Trusts

A charitable trust is a gift of assets from a donor, also referred to as the grantor or settlor, to a beneficiary. Unlike a donative trust, the beneficiary is generally a non profit organization or institution like a school, place of worship, or performs a public benefit. The donor appoints a trustee to manage the trust assets in furtherance of the non profit purpose of the beneficiary.

C. Commercial Trusts

A commercial trust is similar to a statutory business trust. Unlike a donative or charitable trust, it performs a commercial purpose. Beneficiary(ies) is like members or shareholders and the trustees act as managers or directors/officers. However, it is still a contract and not a legal person. Because it performs a commercial purpose, the doctrine of limited liability as well as common law contract and fiduciary principles are more important than they to donative or charitable trusts. Yet, whether and how they apply is uncertain. Commercial trusts are also known as Massachusetts trusts because the case law of Massachusetts resolves some of the uncertainty.

D. Uniform Trust Code Trusts

The Uniform Trust Code (UTC) is promulgated by the Uniform Law Commission. It has been enacted by many states and other states have enacted various provisions and principles of it. The purpose of the UTC is to gather the common law principles of trusts which is set forth in the case law and organize them into a systematic body of law. The UTC governs all common law trusts. The primary method is to set forth a several mandatory rules with which all trust must comply and many more default rules. The default rules set forth principles which govern the trust only if the grantor, trustee and beneficiary(ies) have not agreed on a particular principle which the a default rule covers.

E. Special Purpose Trusts

There are other types of trusts which are nominally common law trusts but which are created by statute. They perform a government function, confer a public benefit on a class of persons or regulate certain commercial activities. Special purpose trusts have the essential elements of a common law trust in that they have a grantor, usually the federal government or the government of a political subdivision, a trustee appointed by the grantor and beneficiary(ies), usually a class of persons or a defined segment of the population. The enabling statute governs the management and operation of the trust rather than a contract between and among the grantor, trustee and beneficiary(ies). The Social Security Trust Fund, Real Estate Investment Trusts and Employee Retirement and Income Security Act (ERISA) pension trusts are special purpose trusts.
F. Trust Instrument or Declaration of Trust
The trust instrument, also known as the declaration of trust, is the binding contract to which the settlor, beneficiary, trustee and protector (if any) agree. It sets forth the rights, powers, authorities and obligations which govern the management and operation of the trust. between and among the foregoing parties. Because the trust instrument is a contract it must comply with the common law principles of contract to be a binding contract. The trust instrument can be oral but it should always be written.