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Trust Business Offers Unique Challenge for Outsiders

These days, it seems like everyone wants to be in the trust business.

Dan Danford, 02/28/2007

These days, it seems like everyone wants to be in the trust business. While the opportunities are many, few realize the standards they'll have to maintain while trustees. Here's why I'm qualified to even broach this subject and why I'm writing this article today.

I spent nearly 15 years as a trust officer. I was with four different trust departments, two in regional banks and two in independent trust companies. I was a senior manager for most of that time and held board seats with both trust companies. I also served on boards for state and national industry groups.

Today, in addition to our RIA firm, I own a small piece of another corporation trying to bring national trust services to advisors. I got involved several years ago, and my involvement is purely financial (investment only).

I made a very deliberate move out of the trust business back in 1997. Part of my reason was local, but I also decided to seek greener pastures in a different financial arena. Thus, I watch with keen interest as both advisory and brokerage firms flirt with trust activities. It's clear to me that some very big brains see some genuine opportunity there.

The Real Promise
Structurally, these alliances offer real promise. Historically, trust firms were slow to adopt innovation, and technology lagged pretty badly. Several years ago, it was still rare to find access to electronic banking (cash transfers, Internet look-up, real-time quotes). Monthly bills were paid by paper check, and most internal data--interim statements, portfolio reviews, computer look-ups--featured weekly market prices. There's a lot of room for improvement, and outside partners could push trust into the twenty-first century.

There's also more room than ever for local trust providers. One way to increase trust profitability is to centralize regional operations and standardize offerings. Bank trust clients around the country are frustrated by toll-free telephone numbers and remote personnel. Clients hate this (with justification), and that's an opportunity for anyone else offering a reasonable alternative.

None of this is the real issue for advisors or brokers, though. The real issue is fiduciary responsibility, and that's a huge rub.

Trust people have always been easy targets. The easiest sales route in the investment business is to sell against an existing portfolio, any portfolio. With perfect hindsight, virtually any properly diversified account will crumble to unfair scrutiny. It's the nature of a competitive business with virtually unlimited investment options. You can almost always find something that would have/could have done better.

But trust people suffer more because they operate under different (higher) legal standards than almost anyone else in the investment business. And the rules of those standards aren't broadly known or understood. Even individuals serving as a personal trustee face lower standards than professionals. A strategy that's appropriate for a self-trusteed account might be completely wrong in the exact same account with a professional trustee.

Even worse, the test of appropriateness (and professional liability) is never known in advance. Disputed trust cases always go to court and even winners lose through high-cost, specialized legal fees. (Try and imagine a less sympathetic defendant than a bank trust department!) The Uniform Prudent Investor Act, basis for most laws about fiduciary investing, is deliberately vague. It's a major step up from the old Prudent Man Rule, yet offers little specific protection in a lawsuit.

Face it, trust departments have been cautious and conservative for good reason. Professional standards, fear of litigation, and the desire of many clients (yes, caution is one reason why many trusts were created in the first place!) bring them to that stance.

The Real Challenge
From a business perspective, I know why everyone wants into the trust business. A trust account is essentially a long-term revenue stream. A rising one, at that. And many advisors and brokers have horror stories about valuable relationships undermined by trust activity at a critical death or disability point. Surely, they want to cement relationships before that happens again.

What they don't understand is that many common investments or strategies used today might not meet fiduciary standards. Market timing, concentrated positions, even active management delegated to a hedge or mutual fund manager, could collapse under successful legal attack at some future date. Trust beneficiaries (still toddlers today, or yet unborn) might allege negligence or carelessness (with perfect hindsight).

That's why national players demand specialized documents and agreements. Most new alliances, for instance, tout "administrative trustee services." That's shorthand for "you accept the investment liability."  Many want outside firms appointed "investment trustee," another ruse against liability. Still, a variety of innovative trust players have entered the marketplace, several (such as National Advisors Trust Co., Franklin Templeton Bank & Trust, and AST Capital Trust Co.) devised especially for advisory firm clients.

Here's an interesting truth about the trust business: In order to survive, you've got to become a trust officer. Remember that bank down the street you mock? It was just selected by your aggressive client to care for the family after death--conservatively. Conservatively? Funny, that's how everyone acts in the trust business.

The main point is: Fiduciary responsibility is much higher for professional trustees than in any other segment of the investment business, and there are also a number of disclosure issues. While the trust business offers unique opportunity, it also presents a number of challenges for outsiders.

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