What does fiduciary duty mean for a trustee, and what are the legal consequences of breaching it?

Fiduciary duty is the highest standard of care recognized in law. For a trustee, it has six specific components.

The six fiduciary duties:

1. Duty of loyalty.

The trustee must act solely in the interest of the beneficiaries — not their own. Specific prohibitions:

• No self-dealing (trustee buying assets from the trust at a discount)
• No conflict-of-interest transactions
• No taking corporate opportunities that should go to the trust
• No exploiting confidential trust information

2. Duty of prudence (Uniform Prudent Investor Act).

The trustee must invest as a prudent investor would, considering:

• The purposes of the trust
• The risk and return profile appropriate to those purposes
• General economic conditions
• Tax consequences
• The role of each investment in the overall portfolio

Modern Portfolio Theory is the implicit framework: diversify, manage risk, balance return objectives.

3. Duty to diversify.

Unless the trust agreement specifies otherwise (e.g., a single-asset trust holding a family business), the trustee must diversify. Concentrating in one stock = breach. Common cases of breach:

• Failing to diversify out of legacy founder stock
• Holding too much in one industry sector
• Excessive home-country bias

4. Duty of impartiality.

The trustee must balance the interests of current beneficiaries (who get income now) and remainder beneficiaries (who get corpus later). For example:

• Income-only beneficiaries want high-yield bonds (more income)
• Remainder beneficiaries want growth stocks (more capital appreciation)

The trustee must pick a balanced allocation that's fair to both. Bias toward one is a breach.

5. Duty to inform and account.

The trustee must:

• Send periodic accountings to beneficiaries showing trust performance
• Disclose material facts about trust assets
• Respond to reasonable beneficiary inquiries
• Maintain proper records

Many state laws require an annual accounting to all beneficiaries (current and remainder).

6. Duty not to delegate improperly.

The trustee can hire investment advisors, accountants, and lawyers — but cannot abdicate decision-making. The trustee must:

• Vet advisors carefully
• Monitor advisor performance
• Review and approve advisor recommendations
• Stay informed about trust operations

Consequences of breach:

Breach of fiduciary duty exposes the trustee to:

Real-world example:

A trust company served as trustee for a $20M family trust. The trustee concentrated 60% of the trust in the trust company's own proprietary mutual funds, which charged 1.5% management fees plus 0.5% distribution fees — vs. comparable index funds at 0.04%. Over 10 years, this cost the trust about $2.5M in excess fees. Beneficiaries sued for self-dealing. Court ordered:

• $2.5M surcharge against the trust company
• Removal as trustee
• $500K in attorney's fees to beneficiaries

The trust company's reputation took years to recover. This is why fiduciary risk is real.

Insulating the trustee:

Trustees can mitigate risk by:

• Documenting decision rationale ("we considered X, Y, Z before choosing investment A")
• Hiring qualified investment advisors and following their advice
• Getting beneficiary consent before unusual transactions
• Buying fiduciary liability insurance

But ultimately, the trustee is personally on the hook for breaches.

For the exam:

CFA L3 expects you to:

• Identify the six duties
• Apply them to vignette scenarios (is the trustee in breach?)
• Recognise the Uniform Prudent Investor Act framework
• Distinguish between trust duties and corporate-officer duties (different rules)