Bad trustees always seem to waste trust money defending their improper actions. Once a trust beneficiary challenges a trustee’s improper actions (breaches of trust), the trustee retaliates against the beneficiary. For example, the trustee may choose to suspend current monthly distributions, or in more extreme cases, attempt to have a no contest clause in a trust enforced against the beneficiary for challenging the trustee’s improper actions. But California law does not allow trustees to use trust money to defend themselves for their improper acts.
For example, a trustee may have failed to diversify the trust’s asset holdings resulting in significant losses to a beneficiary’s interest in the trust due to the current economic environment. (Think of what happened to trust portfolios holding primarily real property assets in the fall of 2008.) When these significant losses occur, the beneficiary is upset and wants to hold the trustee accountable for the trustee’s improper actions. The beneficiary files a lawsuit based on the trustee’s failure to diversify the trust assets (something trustees are required to do), and the trustee immediately begins to spend large amounts of trust assets to pay for the litigation (or in reality to pay an attorney to defend the trustee’s improper actions).
But trustees are not supposed to burn through trust money to protect themselves for the mistakes they make. Recently, the California Court of Appeal held that where litigation is necessary for the preservation of the trust, the trustee is entitled to reimbursement for his or her expenditures from the trust; however, if the litigation is specifically for the benefit of the trustee, the trustee must bear his or her own costs incurred, and is not entitled to reimbursement from the trust.
Beneficiaries should be sure to request that the Probate Court closely review all litigation expenditures to make sure trustees are not using trust funds to protect themselves from the mistakes they make.