Over the last few decades a sea change has taken place in the administration of trusts. Customary notions of what constitutes principal and what constitutes income have not kept pace with statutory changes in the states as they interact with changes in the Internal Revenue Code and its regulations. The interests of the income beneficiary and remainderman of a trust, formerly anchored to these customary notions, may now be considered by the trustee who may do fairness and shift principal to the income beneficiary while considering the needs of the remainderman. An attorney not familiar with the powerful weapon to “adjust” between principal and income cannot properly advise the trustee.
Common Scenario
It should be very simple. Counsel has been engaged to provide guidance to the trustee in administering an inter vivos or testamentary income trust. Counsel may even have drafted the underlying documents. The trustee is directed to pay all the income in convenient installments to A. The trustee, and his accountant, will be guided by New York’s statute defining income and principal.1 Items such as dividends, interest, accrued income or bonds, and rents are generally allocated to income, as they would be for the individual taxpayer. The proceeds from the sale or exchange of trust assets, dividends and receipts upon liquidation are generally allocated to principal.2
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