Micah J. Nichols: Indiana has expanded ways to modify irrevocable trusts

Irrevocable trusts are used for a variety of reasons in Indiana. Attorneys use them for gift, estate and generation-skipping transfer (GST) tax planning, asset protection from creditors and planning for long-term care and special needs. When using an irrevocable trust, a client permanently transfers property to the trust. Once established, the trust itself cannot be revised or revoked. This permanent transfer/completion of a gift is what shields the property from gift, estate or GST tax, protects the property from creditors and preserves government benefits for those who have special needs or need long-term care.

As attorneys, we often advise our client that when a transfer to an irrevocable trust is done, the transfer and the instrument itself is done and it cannot be undone or modified. Yet the reality for a client is that tax laws and family dynamics change and scrivener errors occur. Over the years, Indiana has expanded the methods in which irrevocable trusts can, in fact, be modified. However, attorneys still should exercise caution when advising a client to do so, even if there are more methods than ever to modify irrevocable trusts.

In Indiana and to address the realities of change, there are multiple ways to modify irrevocable trusts.

Historically, most clients were advised that to change an irrevocable trust, a client needed to seek judicial modification. This method is still available. Under Ind. Code § 30-4-3-24.4, a client may petition a court to modify the administrative or dispositive terms of a trust if, because of circumstances not anticipated by the settlor, modification would further the purposes of the trust. The court may also modify the administrative terms of a trust if the purpose of the trust has been fulfilled or the continuation of the trust would be illegal, impossible, impracticable or wasteful or impair the trust’s administration.

Judicial reformation or recission is also available. See Ind. Code § 30-4-3-25. These methods always require court involvement and likely a hearing to ensure all interested parties are heard on the petition, which can sometimes lead to a delayed resolution. Therefore, over the years, Indiana has developed alternative methods for modification that do not involve courts.

Trust decanting does not involve a court and is still a viable option for some clients. Indiana has adopted the Uniform Trust Decanting Act (Ind. Code §§ 30-4-10 et seq.). The decanting process requires the trustee to serve a written pre-decanting notice (60-day notice) to all qualified beneficiaries of the original irrevocable trust and requires the trustee to confirm the decanting itself and the modifications in writing. Moreover, the trust must allow the trustee to distribute principal from the original trust. The result is often a completely amended and restated “decanted trust,” where the property of the original trust is transferred and owned by the trustee of the decanted trust and the property is administered and disposed of under the terms of that decanted trust. In addition to the benefit of no court involvement, decanting can also be done without the consent of the beneficiaries of the original trust.

Another method is utilizing nonjudicial settlement agreements. Under Ind. Code § 30-4-5-25, interested persons may enter into a binding, written agreement “with respect to any matter involving a trust,” but “only to the extent it does not violate a material purpose of the trust and includes terms and conditions that could properly be approved by a court.” Under Indiana law, trust matters that may be resolved by a nonjudicial settlement agreement include, but are not limited, to: (i) the interpretation or construction of terms; (ii) approving a trustee’s accounting or waiving a trustee’s liability; (iii) directing the trustee to perform or asking the trustee to refrain from performing a certain action, (iv) trustee succession (resignation or appointment) and compensation; (v) transferring situs; (vi) modifying distribution criteria for a beneficiary; (vii) resolving disputes in a trust administration or related to a trust distribution; (viii) authorizing an investment action; (ix) appointing or granting powers to a trust director; and (x) directing a trust director to perform or refrain from performing a particular act.

Overall, Indiana gives attorneys and clients broad discretion to modify the terms of an irrevocable trust through a nonjudicial settlement agreement. While no court is involved in this process as well, the process does require an agreement of all “interested parties” (the trustee but also the beneficiaries of the trust (often current, remainder, and possibly contingent beneficiaries). If no agreement can be reached among the interested parties, an attorney might still have to utilize the court anyway to approve the settlement agreement or give the interested parties the right to be heard on such agreement.

A final method is the use of a trust protector. A trust protector is a third-party individual appointed in the trust who can exercise certain modification powers if given such powers in the trust instrument itself. Trust protectors can be given the power to modify to adapt to new trust or tax laws or correct errors and ambiguities in the instrument. While there is no court involvement and typically no requirement that the beneficiaries agree to the trust protector exercising those modification powers, such powers are often narrowly defined and may not consider all the necessary scenarios that could arise that might necessitate a modification of an irrevocable trust, requiring a client to still utilize decanting, a nonjudicial settlement agreement or court involvement.

Indiana has greatly expanded the ways in which an irrevocable trust can be modified. Despite this flexibility, attorneys must still be cautious when advising their client on the same. Modifying irrevocable trusts, if not done carefully, could cause adverse gift, estate and GST tax consequences, create adverse income tax consequences, change the tax basis on certain property, lose the asset protection, or disqualify a beneficiary from receiving government benefits. As the saying goes, with great powers comes great responsibility. Use these techniques to benefit a client’s estate plan but tread lightly and consider the overall implications of such modification to an irrevocable trust.•

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Nichols, a partner in Kreig DeVault, is a board-certified Indiana trust and estate lawyer.