A contingent trust is created by the terms of the grantor's will, or in a declaration of trust as part of a living trust document. The trust document names a trustee and states the terms that the trustee must respect. In many cases, parents will create a contingent trust to provide for the possibility that both parents might die before their children are old enough to properly manage their inheritance. A trustee may be an individual or an entity such as a corporation or partnership and must accept his appointment. If the trustee is an individual, he may not be a minor or mentally disabled. Although a beneficiary may serve as trustee, this situation may raise questions of conflict of interest in the event of a dispute.
Trustee Discretion and Fiduciary Duties
Even when a contingent trust vests the trustee with broad discretion, this discretion is not unfettered -- the trustee is subject to legal and ethical fiduciary duties to the beneficiaries. He must, for example, treat the beneficiaries impartially and may not exercise personal favoritism. Normally, the trustee may not pay creditors of a beneficiary from trust funds that have not yet been distributed to all of the beneficiaries. He may not abuse his discretion by negligently managing trust assets, by placing them in risky investments, for example. A trustee is not entitled to profit from his management of trust funds except to receive a reasonable fee for his services.
A contingent trust trustee is subject to the general legal principal that he is personally liable for mismanagement of trust assets. Courts are reluctant, however, to strictly enforce trustee liability, because strict enforcement would discourage people from accepting appointment as a trustee. If a contingent trust trustee has been vested with discretion in managing trust assets, he will not be liable for managing these assets in a manner that may displease the beneficiaries. So long as the trustee acts honestly, in good faith and in accordance with the terms of the trust document, a court may excuse him from liability even if his decisions ultimately result in losses to the trust assets.
The Spendthrift Trust
Another common example of a contingency trust is a spendthrift trust, although not all spendthrift trusts are contingency trusts. A spendthrift trust is designed to protect the beneficiaries from their own irresponsibility. For example, the trust document may direct the trustee to distribute the trust property to the children at specified ages -- 25 percent every five years -- so that they will not recklessly spend their inheritance. Alternatively, the trust document may vest the trustee with discretion as to how much of the trust property to distribute at a given time. The discretion commonly granted to a trustee makes it particularly important for the grantor to choose the contingency trust trustee with care. Many trust documents appoint professional trust companies to manage the trust.