Dodgy trustees have nowhere to hide with independent reviews

Why and how to establish a clear and transparent investment review process, by Linda Graham and Jon Minster, FinCommunications


A trust has lots of moving parts and many layers of fees. If the trustees are negligent, or worse — exposed to coercion — then the capital amount will melt away faster than ice in the sun. To prevent this from happening, it’s essential to enlist the help of a third-party consultancy to deliver regular, independent investment reviews.

Historically, trust structures were primarily used to pursue substantial tax breaks for the founder of the trust and the trust’s beneficiaries. New legislation, ever-increasing compliance and the added complication of global family relationships have made the cost of maintaining the trust structure a significant consideration. For a trust to deliver on its promises in the current climate, all the players need to work in harmony, which is sadly not often the case.

A trust usually has three layers of fees — trustee fees, the advice fee from the financial advisor connected to the trust, and investment management fees. Should these professionals not be independent of one another, a conflict of interest is a serious risk to the assets of the trust. An example is where an unscrupulous trustee is in cahoots with a particular financial planner or investment manager and endorses these service providers because of personal incentives.

The trustee may not be content to only earn trustee fees, but may also be interested in receiving a referral fee for using a particular financial planner or wealth manager. An even more insidious form of “incentive” is where the trustee is “obliged” to use the services of a colleague in the same group, irrespective of whether a referral fee is paid. An example of this is where the trustee function is provided for free as long as the assets are placed under the advisement or management of a colleague of the trustee.

A trust can also fail simply due to negligence — if the trustees do not have procedures in place to ensure that the trust assets are suitably invested or to make sure that the performance of the investments meets the desired objectives of the trust.

“The easiest way for trustees to avoid potential litigation — and to ensure happy settlors and beneficiaries — is to establish a clear and transparent investment review process,” says Dale Irvine, joint managing director of Sentinel International, a South African fiduciary services company. “And the best way to do that is to employ an independent consultancy.”

How does investment review integrate with the trust?

Each investment consultancy will have its own method, but the main goal will be to set up a process that works for all parties. The process might look something like this: account profiling followed by manager selection and asset allocation, with ongoing performance analysis. The chosen risk profile will be updated to allow for changing circumstances, and the investment objectives will be checked against the initial mandate.

The first step – account profiling – is crucial. If the wrong decisions are made at the start of the process and an incorrect profile is selected, it will have a material impact on everything else in the chain.

“This might seem simple,” says Dale. “But if a mistake is made in the beginning, then it’s very hard to come back. The trustees need to have a clear understanding of the objectives of the trust, and so does the trust’s financial planner. That understanding needs to be conveyed to the relevant investment managers because any small misunderstanding in the chain can result in the wrong asset allocation, and long-term performance will suffer.”

Transparency is key

A performance review is often one of the most complex issues to deal with in a trust. The settlor might have an idea about what constitutes a fair timeframe, but this might be different from the timeframe that the financial planner and asset managers are working towards. Likewise, decisions need to be made about the criteria for relegation — in other words, when you can legitimately remove a financial planner or investment manager. The right independent consultancy can help guide everyone toward consensus on both of these points so that the ground rules are clear and performance can be objectively benchmarked.

Another area where confusion often reins is when a new fiduciary firm takes over a trust. Dale believes that the incoming trustee should perform a thorough review of the investment objectives, policy statement and performance. Settlor-directed mandates should be assessed on merit to allow the new trustees to review or veto previous decisions. What usually happens is those bad investment decisions simply travel with the trust and carry on unchecked, compounding losses over the years. If there is a scheduled investment review in place, however, the new trustees will have no option but to fulfil their obligation, and the investment profile can be put back on the right course.

“The ultimate goal is transparency,” says Dale. “With a high-worth trust especially, the extra fees paid to the consultancy will be nothing compared to the potential capital that could be lost without the oversight provided by the review process. It’s going to be a “non-negotiable” for trustee in future.

Article by Linda Graham and Jon Minster of FinCommunications