1. Introduction

In the United States, a private trust company is a perpetual entity that is owned by a single family and created specifically to serve as that family’s institutional fiduciary, whether as the executor of a family member’s probate estate, as a guardian or attorney-in-fact for an incompetent family member or, most commonly, as the trustee for trusts created by or for those family members. Similar, but not identical, is a private trust company in the offshore context – a perpetual company that is formed generally for the sole purpose of acting as trustee for a specific trust or a limited class or group of related trusts. These can be trusts used in the private client context (for one or more families) or philanthropic, charitable or commercial trusts. Importantly, neither in the United States nor in the offshore context does a private trust company offer its services to the general public.

Of course, the management and operations of a financial institution are usually the last things for which a client or client family wishes to have responsibility. Typically, they are not sure what that entails but universally suspect that forming a private trust company, and managing its operations, will require substantial resources in time and capital, as well as intellectual effort. Despite such misgivings, families around the world create private trust companies in large part because there is cogent need:

  • to focus on family succession and make decisions within a governance system agreed upon by the family;
  • to employ that governance system to increase family member engagement and facilitate family member development; and
  • to institutionalise the process of risk management for the family’s assets pursuant to the family’s risk/return goals.

This chapter will explore those aspects of private trust companies, but as necessary background will first address formation of, and the various ownership structures employed for, US and non-US private trust companies.

2. Formation and ownership

In the United States, a private trust company typically is structured to look and function like a commercial trust institution and state-law corporation even though, today, a US private trust company most often takes the legal form of a state-law limited liability company (LLC). Outside the United States, a private trust company is structured to function like a streamlined version of a commercial trust institution, and is typically formed as a company limited by shares or, in some jurisdictions (such as Bermuda), by guarantee (ie, a company without share capital and without shareholders or shares).

Closely related to form is the issue of who or what will own the private trust company. There are a number of options as below.

2.1 Individual

The settlor or a member of their family, or their nominee, can own the shares in or be a member of a private trust company. However, mortality and succession issues may be a concern and therefore a succession plan and voting agreement are advisable if this avenue is used. In addition, ownership can create tax and other problems and it may be undesirable for ownership to have, or be perceived to have, any link with a family member. For those reasons, individuals rarely own a family’s private trust company, wherever based.

2.2 Self-contained structure

In the United States, almost all private trust companies are owned by:

  • a perpetual trust held for the benefit of family members; or
  • a perpetual purpose trust that is designed for the sole purpose of owning the private trust company; or
  • a combination of both.

It is self-contained because the trust company ultimately serves as trustee of this owner trust, while the owner trust owns all of the interests in the private trust company.

2.3 ‘Orphaned’ structure

Outside the United States, the majority of private trust companies tend to be ‘orphaned’ so they are not seen to have any direct link with a settlor, beneficiary or other family member. This can be achieved by having the shares owned by a foundation or an offshore trust (discretionary, charitable or non-charitable purpose trust, Cayman STAR trust or BVI VISTA trust), or by creating the private trust company as a company limited by guarantee (again, a company without share capital and shareholders).

3. Ownership by a purpose trust

As noted above, a purpose trust may be established for the sole purpose of owning the shares of the private trust company. This is the case for most private trust companies established in the United States, and is also the case outside the United States when a company limited by shares is utilised. Unlike a traditional family trust, a purpose trust does not have beneficiaries, and trust assets are to be used only for the purposes specified in the trust document, that is:

  • acquiring and holding the private trust company’s shares;
  • generally dealing with those shares; and, in some cases
  • organising and creating the private trust company.

Because there are no trust beneficiaries during the trust’s term, and no person has any ownership rights over the shares, this makes the purpose trust an ideal vehicle for ownership of the private trust company where personal ownership may be problematic, as is often the case outside the United States and is almost always the case inside the United States.

While Bermuda was the first jurisdiction to introduce legislation in 1989 allowing for the establishment of non charitable purpose trusts, provided that the purposes were lawful, ascertainable and not contrary to public policy, now dozens of jurisdictions, both non-US and US (ie, US states) allow for the use of non-charitable purpose trusts. Outside the United States, a typical purpose trust structure might include a licensed institutional trust company as trustee with an independent enforcer (akin to a protector) having powers to enforce the owner trust, replace the trustee and veto trustee decisions, depending on the terms of the owner trust.

While on the United States, as noted above, the private trust company itself serves as the trustee of the owner trust, and that trust has a protector separate and apart from the private trust company, whose task is to enforce that trust. Usually an association of family members comprise such a protector, and the operating processes and procedures of that protector are governed by a document governing that association and agreed to by those family members. Furthermore, the owner trust is typically a so-called ‘directed’ trust, whereby the trustee of the trust is directed by the protector in certain limited activities, primarily the election of members of the private trust company’s board of directors.

4. Non-US private trust companies structured as guarantee companies

Structuring a private trust company as a company limited by guarantee is becoming more popular outside the United States because there is no requirement to issue shares. Because there are no shares, issues associated with share ownership are avoided, such as probate and succession issues on the death of an individual shareholder or the necessity of creating a purpose trust to own the interests in the private trust company. In a company limited by guarantee, the liability of members is limited by the memorandum of association to a minimal amount (eg, US$100). Members typically elect the directors (although they can be the same). Byelaws set out the process for changing members in the event of their death or otherwise, and local law dictates how profits can be used. For example, under Bermuda law, profits and other income of companies limited by guarantee must be  used in promoting their purposes and no dividends can be paid to members. The British Virgin Islands and Cayman Islands have no such restrictions on their guarantee companies.

5. Management and control

Non-US private trust companies differ in several ways from their US counterparts in terms of management. Most offshore jurisdictions (including Bermuda) require a private trust company to have a minimum of one director. Corporate directors are permitted in many offshore jurisdictions, although it is advisable to have at least two natural persons on the board of a Cayman private trust company for regulatory purposes. Often individual directors are preferred in order to allow family members and advisers to participate in trustee decision making to ensure that the objectives of the settlor and family are fulfilled. However, a private trust company acting as trustee of family trusts must act in the best interests of all beneficiaries, and therefore individual directors should not favour their own interests or be in a conflict situation if they are part of the family. For this reason wholly independent board members, or directors with sufficient knowledge and understanding of an underlying business in the trust structure, could be preferable. Family members and advisers could then be appointed by the board to committees to advise the board on issues such as investment, audit, property management and trust distributions.

In the United States, however, the states that allow private trust companies have varying requirements as to the number of individual board members and whether such members must be US citizens or residents of particular US states; almost none of them allow non-individuals to serve. Moreover, a jurisdiction’s applicable requirements often vary depending upon whether or not a private trust company is chartered as a bank or trust company by the jurisdiction;1 most offshore private trust companies are entities that receive no banking or trust company charter from the home jurisdiction, while in the United States such a charter is not uncommon.

As noted above, the typical US private trust company operates like a standard commercial trust institution; such an operational standard would be atypical of an offshore private trust company. While both the typical US and non-US private trust company are governed by a board of directors that sets company policy, the board of directors of a US private trust company, unlike its offshore counterpart, usually effects the management of the private trust company through the use of board committees (trust committee, audit committee, investment committee and so on) and through delegation to the customary officers (president, vice president, senior trust officer, compliance officer etc). Furthermore, unlike non-US private trust companies (and indeed a commercial trust institution), almost all US private trust companies use a socalled ‘discretionary decisions committee’, which is specifically designated to insulate from adverse US transfer tax results family members who are trust beneficiaries or creators of trusts of which the private trust company serves as trustee and who serve as officers or directors of the private trust company. This committee is described in detail in guidance from the Internal Revenue Service,2 and is almost always populated by individuals who are independent of the family and tasked with making tax-sensitive, discretionary decisions related to the family’s trusts.

Other than the above, whether inside or outside the United States, most well-run private trust companies are responsible for the following:

  • annual (or biannual) audits of their financials and fiduciary processeswell-run private trust companies are responsible for the following:
  • annual (or biannual) audits of their financials and fiduciary processes;
  • methodical vetting of investment strategy for trusts if the private trust company has legal responsibility for making investment decisions;
  • giving effect to routine decisions, whether distribution or otherwise, through trust officers or other designated company agents;
  • vetting clients and client transactions for anti-money laundering and other legal compliance issues; and
  • ensuring the private trust company’s operations are periodically reviewed by its boards of directors.

For local company law purposes, board meetings may be held anywhere, regardless of whether a private trust company is organised in or outside the United States. However, conducting such meetings beyond the jurisdiction that allows, or grants authority to, the entity to conduct its trust business (the enabling jurisdiction) is fraught with risk. If the private trust company conducts its activities in such a manner as to do its trust business outside the enabling more practically, risks subjecting the private trust company (or its trust clients) to the legal jurisdiction – in the sense of taxation, regulatory oversight, etc – of the geographical location where the activities and trust business are actually occurring. For example, conducting operations outside the enabling jurisdiction can attract unwanted and unexpected income tax. To avoid inadvertently being subjected to unwanted legal jurisdiction, it is important for the majority (at least!) of directors to be in the enabling jurisdiction where the private trust company has its registered office, and for proper formalities to be followed with respect to directors’ and committee meetings, with proper minutes and resolutions documenting and recording all organisational fiduciary and entity decisions and the location of those meetings and decisions.

6. Advantages of the private trust company

The creation of a private trust company offers a number of fundamental advantages in the context of the structural and business governance processes discussed above:

  • promotion of family cohesion and good family governance;
  • promotion family member development; and
  • enhanced long-term family risk management.

6.1 Family cohesion and good self-governance

A family can create a bespoke legal environment for itself by siting the private trust company in, and administering family trusts from, a jurisdiction that the family, after thoughtful consideration, has concluded offers the most beneficial trust laws, both governing and administrative; the most attractive tax regime; and the best administrative and judicial environments. That bespoke legal environment facilitates family cohesion and good self-governance.

First, the decision-making process inherent in a private trust company’s management structure allows the central goal of most families – staying together at some strategic level – to stand as an important objective of all trust decision making and to be front of mind at all times. Only in a private trust company is that likely to occur. For example, commercial trust institutions serving a family do not conduct decision making with that central goal in mind. They have other priorities, such as maximising revenue and minimising costs and risks, when making decisions. In a private trust company, the decision making process can be designed and implemented with that goal in mind.

Secondly, it is generally agreed that identifying current and future (ie, successor) family leaders is a large part of good family governance. A private trust company brings focus to that process through its concentration of control over the family’s assets in its trust and investment management accounts. Because of the responsibilities and duties resulting from that control, the immediacy and importance of selecting the right family members and others to lead the private trust company becomes paramount and clear to all involved. Indeed, while families control their family offices, the private trust company’s role as trustee, and the resulting actual legal control over a family’s wealth, mean that the issue of which family members control the family’s private trust company – initially and from generation to generation – is more important than who controls the family office. Consequently, the private trust company brings focus, by necessity, to the issue of the selection of family leaders and their successors. This focus is often absent where no private trust company exists.

Thirdly, the private trust company facilitates substantial fact gathering and support for other major functions of family governance that are usually the responsibility of a family council or similar body controlling the private trust company:

  • creation of the family’s strategic plan;
  • confirming whether the plan is being implemented properly; and
  • revising the plan as necessary from time to time.

6.2 Facilitating family member development

Whether expressly embodied in a trust document or not, the fundamental goal of every trust is to make the lives of its beneficiaries better, and by definition, in order to determine whether and when trust distributions are appropriate a trustee must determine the needs, desires and resources of a trust’s beneficiaries. Doing that properly requires the trustee to fashion a working, trusting relationship with a beneficiary. In a private trust company, this is the responsibility of the members of the discretionary decisions committee, and it is that committee’s relationship with trust beneficiaries, and its knowledge of them, that makes it the most apt body to bridge generational gaps and safeguard family member development and wellbeing.

The chief obstacle to engagement and acceptance between generations is mistrust, which creates a chasm between generations and is often deepened by the new generation striking its own cultural path. By recognising that their obligation to trust beneficiaries is at least as great as to settlors, private trust company committee members and trust officers (where employed) can play a significant role in bridging this chasm by building trusting relationships – which in turn facilitates engagement and acceptance.

This function can be enhanced by adding to the mission of committee members and trust officers the function of helping beneficiaries to identify and pursue their personal development goals. This fosters a mentoring relationship and builds a strong bond between those representing the private trust company and the trust’s beneficiaries, counteracting the mistrust that can arise between generations and helping grow kinder, more resilient, more ‘individualised’ beneficiaries.

A private trust company can fulfil a further role in family member development by making available to family members various positions within the private trust company and its committees commensurate with family members’ inclinations, knowledge, skill and maturity. These roles introduce young family members to the realities of personal balance sheets, income and expense statement management and long-term personal financial planning, as well as to the process for making thoughtful and sometimes difficult decisions for which conflict resolution (rather than avoidance) is necessary.

All of these functions together promote the integration of the needs, desires, goals, values and culture of members of each generation with familywide goals, values and culture. None of these benefits can be expected from an institutional trustee or even individual trustees; indeed, the private trust company is the incubator with the highest likelihood of success in such integration.

6.3 Enhancing risk management

The final, fundamental advantage of a private trust company, directly attributable to its structure and business governance processes, is enhanced, family-wide risk management. The norms and standards applicable to a private trust company, whether or not chartered or licensed by its enabling jurisdiction, are derived from the norms and standards applying to all regulated trust companies. Accordingly, what is prudent and expected of an unlicensed private trust company is, to all intents and purposes, the same as what is prudent and expected of a regulated private trust company, and is established by the relevant banking regulators and their regulatory standards.

The following are risks that all trust companies face, whether private trust companies or commercial trust institutions:

  • breaches of fiduciary duties;
  • flawed delegation and supervision of outside services providers;
  • engaging in trust activities in jurisdictions where the company is not authorised to conduct a trust business or trustee activities;
  • undisciplined, out-of-policy asset management, including unjustifiable concentrations;
  • inappropriate family member intervention or accommodation;
  • non-compliance with applicable laws; and
  • cyber-insecurity.

The management structure in a private trust company, inherited from its commercial trust institution cousins, combats such issues by implementing at least the following:

  • adoption of comprehensive policies and procedures (customarily organised in a manual) and of business practices effectively implementing them, along with regular reviews and audits of the scope and performance of internal controls; and
  • deploying compliance/risk management expertise and growing a family risk management culture where it does not already exist. Regardless of whether that expertise is developed internally or procured through third-party resources (or a combination of both), the experts in question must teach family members the importance of proper risk management with the goal of creating a risk management culture for the private trust company and the family as a whole.

Failure to instil proper risk management processes and culture means accepting, either unwittingly or recklessly, unreasonable risks to family assets, family members and trust company management and other personnel. But where a private trust company puts such processes in place and the family endeavours to build the appropriate risk management culture, that family and its private trust company should be able to take actions that are prudent in light of the family’s and the trust’s multi-generational goals, albeit an institutional trustee might be less comfortable taking such actions under its risk management policies.

1 At time of writing, a handful of jurisdictions in the US allow unchartered (also called ‘unlicensed’) private trust companies (eg, Florida, New Hampshire, Ohio, Nevada, Pennsylvania and Wyoming). In certain of those jurisdictions, such as New Hampshire and Wyoming, it is possible to have a nonindividual serve as a director of an unlicensed private trust company.
2 See IRS Notices 2008-63; 2008-2 CB 261.
Type

Insight

Locations

Bermuda

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