Design a dynasty with perpetual trusts

Wealthy families that have dynastic dreams now have more options to provide for their progeny. In 2013, the province of Nova Scotia joined Manitoba and Saskatchewan in abolishing the rules against holding assets in trust forever.

The laws banning perpetual trusts caused headaches for families who wanted to pass down assets, says Timothy Matthews, partner at law firm Stewart McKelvey in Halifax. “You could violate the rule without even being aware of it,” he says.

Nova Scotia’s now-abolished Perpetuity Act declared any trust void if it could last longer than 21 years after the last beneficiary died. So, if at any point a trust’s commitments were in danger of being unresolved by that deadline, the trust would have been voided. Such trusts were unwound and their assets reassigned to their original owners or their estates—leaving the original plan in shambles.

“There could be all kinds of income tax consequences,” says Matthews. “There could be people who expected to inherit who were completely disinherited, and the assets could have ended up somewhere other than where the original owner intended.”

Imported from England, the law against perpetual trusts once existed in every province except Quebec. Manitoba was first to abolish it, in 1983, followed by Saskatchewan. Other provinces, including Ontario and Alberta, have reformed their laws to wait and see whether a trust exceeds its 21-year plus life-in-being limit before voiding it, instead of voiding the trust on that mere possibility.

Other provinces have chosen to extend trust validity instead of abolishing the rule; PEI has extended the time a trust can exist to the life of the last beneficiary, plus 60 years.

Note that the 21-year perpetuities rule for trusts is not the same thing as the 21-year deemed disposition for taxes. Most trusts, perpetual or not, must pay taxes as if they’d sold their assets every 21 years. “A perpetual trust could be set up that would last for 210 years, and that would have 10 deemed realizations,” says John Poyser, partner at Tradition Law Estates and Trusts, Winnipeg.

So, families should plan to put at least $5 million into a perpetual trust to make it worthwhile, he says. For instance, the trusts can work for wealthy clients who want to ensure all their heirs can afford to go to university, regardless of cost.

Setting up a perpetual trust

Creating a perpetual trust costs between $20,000 and $45,000, says Poyser. “These trusts, when they’re established, typically run from 30 to 100 pages,” he adds.

The trust should outline what the settlor expects the money to be used for. “I’ll include a provision that talks clearly about how the income and capital is to be used, and the family or societal values that are being carried forward,” he says. “What’s the vision? What’s the goal?”

Choosing a trustee also is a challenge, since the trust will outlive any one person. Clients should use a panel of trustees that can be repopulated, or a trust company, and Poyser says drafters should think even longer term.

“Who says we’re going to have trust companies 150 years from now?” he says. “You’ve got to [build in] a lot of flexibility if [a trust is] truly going to [last] three or four generations.”

So, he suggests appointing a protector in addition to the trustee. A panel of family members can serve as protectors, and the trust could stipulate how to replace deceased members. Those protectors would monitor the trustee’s performance and appoint a new one if the trustee performs poorly or decides to charge too much. “You achieve accountability in the hands of the family,” he says. “Otherwise you say to them,‘Let’s put $400 million in a trust and you guys will kiss it goodbye, because [it’s with] the trust company and you’d better hope they’re going to follow your vision.’ ”

Choosing a jurisdiction

Clients don’t have to live in a province that has abolished perpetuities rules to set up a perpetual trust for investments and other movable property, says Tom Grozinger, principal trust specialist, RBC Wealth Management, Ottawa. But it’s prudent for the trust to have other connections to the jurisdiction.

Poyser says the factors determining trust residency include where trustees reside, where beneficiaries live, where the assets are, whether the trust has a choice-of-law clause and, if the trust is testamentary, where the settlor died. A court will consider these together in a trust-residency challenge. The trust should have as many connections to its jurisdiction as possible. For example, an Ontarian setting up a Nova Scotia trust should pick a Nova Scotian trustee.

Whether that Nova Scotia trust could hold land or a home in Ontario or another province that still has perpetuities rules is unclear, says Matthews.

“There are arguments that the Nova Scotia law would apply to it; there are arguments that Ontario law would apply to it,” says Matthews.

Generally, governments don’t like it when another province’s laws govern their land, he explains. He adds that strategy would be a risk until the courts rule on a precedent-setting case. So, Matthews advises having specific instructions for Ontario land in a Nova Scotia trust. “You’d say the land has to be distributed to beneficiaries within the lifetime of Person X, plus 21 years. That way, that part of the trust wouldn’t violate Ontario rules.”

Alternately, the land could be in a separate trust.

Every perpetual trust should designate the law and courts of a pro-perpetuities place, says Matthews. That protects the trust in a dispute, because it ensures a court familiar with perpetuities applies the updated laws.

“If you had an Ontario court hearing the dispute, they probably would apply Nova Scotia law, but they would consider Ontario public policy too,” he says. “So you’d want to keep it out of their hands.”

Grozinger also recommends using a lawyer who practices in a pro-perpetuities province to establish the trust.

A local lawyer will know whether other laws in her jurisdiction could affect the operation of the trust. For example, each province outlines its own criteria for when trustees may simply resign and when a court must decide whether a trustee can be released from her duties.

51%

The percent of post-secondary students who asked their parents for money last year.

Source: CIBC

Clients with trusts in places with perpetuities laws may wonder if they could move their trusts to Manitoba, Saskatchewan or Nova Scotia so as to automatically take advantage of these provinces’ pro-perpetuities laws. No such luck, says Grozinger.

First off, a trust is a legal relationship, not an object, so it doesn’t move in the traditional sense. And, while trustees may change jurisdictions, it’s not usually possible to change the law governing a trust from an anti-perpetuities province to one without those rules. Instead, a settlor with movable property could create a new inter vivos trust under the law of the new jurisdiction, Grozinger says (testamentary trusts and those with immovable property have different legal considerations).

Ending a perpetual trust

Though a perpetual trust can last forever, circumstances can change and it might not be needed any more. “The assets [could] no longer generate sufficient benefit or income for the intended beneficiaries and, in fact, the costs of administering the trust [could] outweigh the benefits,” says Grozinger.

So, the trust should spell out the terms of its own demise. It should have a clause stating when the trustee can wind it down, and whether the trustee may make that decision unilaterally.

Under Nova Scotia’s new rules, the courts also have the power to vary perpetual trusts, says Matthews. “Let’s say, 50 years from now, the beneficiaries agree the trust is a pain in the neck and they want to get rid of it. They could go to court and try to convince a judge that it’s not in their best interests that the trust continue,” he says.

The court could force the trust to wind up, even if one of the beneficiaries disagrees, he adds.

The trust should also outline how to distribute the remaining assets, says Poyser.

It could be according to a formula, the most common being a per stirpes distribution, where every branch of the family gets the same amount.

The client may want to donate any remaining money to charity when the last beneficiary dies. The trustee should have the authority and guidelines to pick a suitable recipient. Without that flexibility, the trust could be left without a final recipient.

“Who’s to say there’s going to be a United Way in 350 years?” says Poyser. However, the trust could specify the donations should go toward community development or to a poverty-oriented charity.

Despite the extra considerations for drafting a perpetual trust, Matthews is glad to see the old rule abolished, taking with it the potential for failed estates. Old perpetuities rules “didn’t achieve a lot, and caused a lot of harm.”

Where did the perpetuities rule come from?

The law against perpetual trusts came to Canada through English common law.

English aristocrats used to pass their country estates from generation to generation down the line, keeping property out of the market indefinitely. “The governments of that time thought it wasn’t good for the economy to have assets that couldn’t be fully utilized,” says Timothy Matthews, partner at law firm Stewart McKelvey in Halifax.

In 1682, the English designed a law limiting the number of generations that could have an interest in property.

In the 1800s, that law was reformed to limit interests to life-in-being plus 21 years, meaning the life of a designated beneficiary, plus 21 years.

In many places, that law is still on the books today. “Essentially the rule requires that all the conditions that tie up a property have to be satisfied before the perpetuity period expires,” says Matthews.

The law has harmed estate planning because the mere possibility that an interest could take longer than 21 years plus life-in-being voids the trust. As the gentry’s dominance faded in England, the need for the rule faded too. In 1964, England and Wales reformed their trust legislation to extend the perpetuities period to 125 years.

The 21-year perpetuities rule for trusts is not the same thing as the 21-year deemed disposition for tax purposes.

In Canada, since 1983, Manitoba, Saskatchewan and Nova Scotia have abolished the rule.

“The pitfalls created by the rule are too varied to be cured by any simple modification,” the Law Reform Commission of Saskatchewan said when it recommended abolishing that province’s rule in 1987.

Most other provinces have reformed the rule, either by extending the perpetuities period or allowing the trust time to vest, instead of voiding it automatically.

Matthews says more provinces will eventually abolish the rule outright. “This is one of the [rules] nobody loves.”

Sources: Timothy Matthews; Law Reform Commission of Nova Scotia; Law Reform Commission of Saskatchewan.