What Is the Misappropriation of Trust Funds?

What Is the Misappropriation of Trust Funds?

People establish trust for a number of reasons. One of the reasons for trust is to take care of loved ones. They may want their assets to easily pass to family members without the need for probate. The trust might provide for a specific family member who has a disability. Trusts can also provide tax benefits and make estate administration easier.

Presumably, when one establishes a trust, they consult with an estate planning attorney. Even the best plans can go awry when human malfeasance and greed are involved.

If you are a beneficiary and suspect that the trustee has misappropriated assets, you can file a lawsuit against them. For this complex and emotional litigation, you need the help of an experienced attorney. 

Establishing And Funding A Trust Changes Control Of Assets

A trust takes assets out of the grantor’s control and places them under the control of the trust. The legal title of the property changes when an owner transfers something into the trust. A trust becomes the legal owner of the property.

The grantor no longer has decision-making power over their assets (unless it is a trust where the grantor can be their own trustee). Many trusts provide benefits, such as asset protection, because the trust becomes the new legal entity with control and ownership of the property. Decision-making power is one of the indicators of ownership, and it is now in someone else’s hands.

The grantor may hire a professional trustee (who they need to pay) or name a trusted friend or family member to handle these tasks. If the grantor is not careful about who they choose, they can compromise the interests of the trust. Some family members may have interests of their own that come into play. Even professional trustees may operate the trust based on their own interests in violation of trust law. 

Trustees Have A Significant Amount Of Power

When one names a trustee from a trust, one places a great deal of trust in that trustee. The law gives trustees a wide range of responsibilities in managing the trust. The trust can suffer significant losses if they fail to perform its duties properly. The trustee’s actions can defeat the purpose of the trust by losing its funds. Then, the assets the grantor spent a lifetime building can vanish due to carelessness or misconduct.

Every trust has its own terms that govern the handling of funds. The trust document might have provisions that govern how the trustee manages trust funds and makes distributions. The trustee must follow any restrictions or requirements of the trust in managing the assets. There are permissible purposes that the trust document should specify. 

The Trustee Must Follow The Trust Document And Uphold Their Duties

The trustee will use their informed discretion in handling trust money and investments. They may make investments or disbursements of the money. They can decide how to invest and distribute the money. The trustee must make distributions to beneficiaries in accordance with the terms of the trust document.

A trustee owes beneficiaries two general fiduciary duties:

  • The duty to use reasonable care in discharging their duties. Essentially, they must remain informed and use due diligence and a prohibition against their negligence.
  • The duty of loyalty is to avoid conflicts of interest and not to put their own interests above those of the trust

Misappropriation can involve a violation of one or both of these duties. It is fundamentally contrary to the principles of trust law. The trustee is accountable for how they use the trust funds. 

A general legal definition of misappropriation is “[t]he unauthorized, improper, or unlawful use of funds or other property for purposes other than that for which intended.”

The trust document should describe the intended use of trust property. The trustee has an obligation to follow the terms of the trust concerning the property. Otherwise, their behavior can be misappropriation.

Misappropriation is a word that can have different meanings. Thus, there are numerous ways that a trustee can misappropriate trust property. In general, misappropriation is when the trustee takes the trust’s assets to use for an unauthorized purpose under the trust terms.

Examples Of Misappropriation Of Trust Assets

Most often, misappropriation involves the conversion of trust assets. Conversion is a legal term for what essentially amounts to stealing. The trustee takes trust assets and transfers them to themselves. They can do this through fraud or outright theft.

A trustee can steal or just inappropriately spend money from the trust by:

  • Paying themselves an inflated fee to perform their duties
  • Skimming money off the top of bank accounts
  • Transferring trust assets to related accounts
  • Loaning money to themselves or their friends
  • Removing an asset from the list of trust assets and keeping it for themselves
  • Substitution of other assets that are worth less for more valuable trust assets (and then keeping the trust assets)
  • Receiving a kickback when they pay for services

Misappropriation Does Not Just Involve Stealing

Even borrowing money from the trust can constitute misappropriation. The trustee uses the money for a purpose that the trust document does not permit. Frankly, when a trustee fails to pay back the money, the difference between borrowing and stealing disappears. Borrowing money from the trust can deprive the beneficiaries of income because the money should be earning returns as investments. “I was going to pay the money back,” is not a valid excuse when the trustee lent themselves money without authority.

The trustee can also misappropriate assets through other means. They can take trust assets and use them for impermissible purposes. For example, they might pay excessive fees or even use assets to wine and dine someone else. Anything the terms of the trust do not support can be impermissible.

Trustees Can Even Misappropriate Through Their Own Negligence

Misappropriation can also mean the trustee was negligent or careless in investing or distributing trust assets.  The trustee may not even need legal intent to misappropriate assets. They might not have performed any due diligence whatsoever and invested the money in an extremely careless way.

A trustee does not even have to take the assets themselves. They might allow others to misappropriate trust assets through their own negligence and lack of diligence. In that case, you might hold the trustee responsible as they misappropriated the assets themselves.

The trustee owes a duty of care to stay informed about trust affairs and use reasonable diligence in conducting business. Negligence that allows misappropriation breaches their duty of care. You can hold the trustee liable when trust assets fell prey to a scam and the trustee did not do their homework. 

Not Every Loss Of Trust Assets Is Misappropriation

However, it is not misappropriation every time the trust loses money. A trustee can diligently manage the assets, using reasonable care, and the investments can still lose money. Not every investment produces a positive return, and a negative return does not automatically signal wrongdoing. Evidence determines which side of a fine line between bad luck and something worse an act sits on. The case may focus on the trustee’s due diligence and how they discharged their duties. 

Beneficiaries Need To Act Quickly To Protect Themselves

There are certain steps that a beneficiary can take to protect themselves if they believe that a trustee has misappropriated assets. Generally, a beneficiary has the legal right to seek an accounting of trust assets. The trustee must provide a detailed record of the income and expenses of the trust. The beneficiary can see how the trustee has spent or invested the trust’s money. This step is often the opening salvo of a lawsuit, where the beneficiary gathers information to use in a court case.

The beneficiary can also request a copy of the trust document from the trustee. The beneficiary can review any restrictions on investments or other requirements to see if the trustee is complying with them. If a beneficiary suspects improper action, they must take steps to inform themselves. 

The beneficiary can take several legal actions against the trustee when there is a misappropriation of assets. First, misappropriation violates the fiduciary duty that a trustee owes the beneficiary, specifically violating their duty of loyalty to the beneficiary.

You can hold the fiduciary personally liable for any damages that the trust suffers because of its actions. They might have to provide restitution, along with interest and other penalties. 

Monetary damages may not be enough to protect the beneficiary's interests. The beneficiary may also seek equitable action from the court that can keep misappropriation from happening in the future. The most common type of remedy is an injunction that removes the trustee. The judge may also issue a court order that prohibits certain conduct in the future or orders the trustee to take certain actions. 

Possible Criminal Actions Against The Trustee For Misappropriation

Misappropriation does not just wrong the beneficiary, but it also might be illegal, depending on the form it takes. When a trustee illegally takes money from the trust, they may also face criminal consequences for their conduct. Embezzlement is the most common charge that a trustee might face for misappropriating trust assets.

However, the criminal justice system operates separately from the civil lawsuit process should the trustee face allegations in both legal realms. If you are filing a civil lawsuit against the trustee, you will typically need to prove your allegations by a preponderance of the evidence. This standard equates to your facts being more likely than not to be true.

If you suspect a trustee has been misappropriating trust assets, it is essential to take legal action immediately. Otherwise, the trust’s losses can pile up in a short amount of time. When you request an accounting of trust assets, you place the trustee on notice that you know about potentially impermissible actions.

You may also need to seek an immediate injunction to put a short-term stop to the behavior before you can take permanent legal action. The first thing to do is hire an experienced trust litigation attorney to investigate what happened and gather evidence to prove your case. 

If you are a trustee facing accusations of misappropriation, you should take steps to defend yourself. The first thing that you should do is hire an attorney. If you are liable in a civil lawsuit, the damages will come from your own pocket, as you have an obligation to reimburse the trust.

Some beneficiaries may quickly allege misconduct if they don’t like the results. They may even resent that they were not named the trustee. An attorney can defend the trustee’s actions when beneficiaries challenge you in court.

Whether you need help bringing a lawsuit against a trustee for misappropriation, or you are a trustee facing allegations of misappropriating trust funds, you might face a serious legal battle. You need the right legal team of experienced business litigators to handle your case.

Seek help from a business litigation law firm in Chicago that handles complex financial matters in court. You cannot risk losing significant funds because of the conduct of others you should trust.