Take-Away: It is common to find in discretionary trusts use of the historic ascertainable standard health, education, maintenance, and support.” This phrase finds its origins in the Tax Code, yet even the Tax Code’s Regulations do not attempt to define the term health. The concept of health may be a bit more elastic than originally imagined, and a challenge for a trustee to administer with modern medicine that evolves as fast as it does.

Background: This month’s National Geographic devoted almost its entire issue to modern medicine and the growing recognition by the medical community of the medical benefits that can be derived from ancient Chinese remedies, like bear bile or herbal treatment remedies. [Apparently bear bile acid, of all things, can be used to maintain cell strength and to improve a human’s immune system treating maladies like epilepsy and heart pain- bears that hibernate throughout long winter months come out after those months of hibernation without any discernable loss of muscle mass despite the total absence of any nutrients.] This extensive article got me thinking about a trustee that is confronted with a distribution request by a beneficiary for an advanced medical treatment that is not fully vetted, science-based, or which has its origins in ancient remedies. If the trust instrument merely provides for discretionary distributions for a beneficiary’s health, how would the trustee respond in a rapidly changing world of medical science, new technologies, or when old-time herbal remedies now receive second-looks by the conventional medical establishment, which may appear fad-like on their face, but which could nonetheless provide some level of medical benefit?

  • Tax Code: The term-of-art health, education maintenance and support is found in IRC 2041(b) [estate tax] and IRC 2514(c) [gift tax] which deal with powers of appointment.
  • Ascertainable Standard: The phrase health, education, maintenance and support is often (but not always) used to limit a trustee-beneficiary’s discretion in order to avoid negative transfer tax consequences for the trustee-beneficiary. The trustee’s power to distribute trust property is a general power of appointment for federal transfer tax purposes if the power can be exercised for the trustee’s own direct or indirect benefit. [IRC 2041(b)(1)(A) and IRC 2514.] If, however, the exercise of that power of appointment is limited or restricted in such a way that the power is not the equivalent of ownership, the power is not then treated as a general power of appointment. [IRC 2514(c)(1).] One such restriction is that the power is limited by an ascertainable standard that relates to the power-holder’s own health, education, support or maintenance. Accordingly, injecting the ascertainable standard into a trustee’s discretionary distribution authority will avoid adverse tax consequences for the trustee-beneficiary, and prevent the trustee-beneficiary’s creditors from reaching the assets held in the trust. But using that same term-of-art in the absence of any tax reasons for doing so, e.g. the beneficiary will never serve as the trustee of the beneficiary’s trust, merely makes the trustee’s task to exercise discretion that much more of a challenge, especially when the trust instrument provides little or no guidance with respect to the scope of the trustee’s exercise of discretion beyond the words that constitute the ascertainable standard.
  • State Law Governs: While federal law determines how to tax property rights and interests, state law determines those property rights and interests. [S. v. Rogers, 461 U.S. 667, 689 (1983)] Restated, it is Michigan’s law, not the Tax Code or its Regulations, that will be used to interpret the language that is used in a trust instrument. The Tax Code and its Regulations will only determine how the tax laws apply to the property interests that the trust instrument creates.
  • Michigan: Michigan adopted the provision of the Uniform Trust Code [UTC 103(2)] that creates a default rule, so that the meaning of the words health, education maintenance and support for state property law purposes is the same for federal tax law purposes. The Michigan Trust Code defines ascertainable standard to mean: “a standard relating to an individual’s health, education, support or maintenance within the meaning of section 2041(b)(1)(A) or 2514(c)(1) of the internal revenue code, 26 USC 20141 and 2514.” The Reporter’s Comments to this definition notes: “A definition of ascertainable standard is required for the definition of power of withdrawal and is used in MCL 700.7815.” Consequently, in a sense, even though Michigan is the source of the beneficiary’s property interests, Michigan’s law circles back to the Tax Code as its point of reference to understand of the words used in an ascertainable standard, including health, but there it stops.

Health: As noted above, even though the ascertainable standard finds its origins in the Tax Code, the term health is not formally defined in the Treasury Regulations. Rather, those Regulations merely note in passing that health and the phrase medical, dental, hospital and nursing expenses, and expenses of invalidism both create ascertainable standards. As such, not much guidance can be derived by the trustee called upon to make distributions for a beneficiary’s health with a reference to Treasury Regulations. Nor is the common law all that helpful when it attempts to identify what would constitute a permissible discretionary distribution for the beneficiary’s health.

  • Common Law: The Restatement (Third) of Trusts clarifies that health and medical care refer to benefits “like those normally implied by a support standard” but not some special form of expensive home care, unless the trust instrument further elaborates on the terms that are used. [Restatement (Third) of Trusts, Section 50, comment d (3).] However, the Restatement refers to no case law that defines the term health, which thus forces a trustee to search for guidance elsewhere. Nor is there any discussion in the Restatement as to the continuance of a practice that the trust settlor may have established with regard to the prior medical care of the trust beneficiary. For example, if the settlor had regularly paid for health insurance for a child while the settlor was alive, would a trust that is established for the same child after the settlor’s death that authorizes distributions from the trust for that child’s health implicitly continue that practice of the payment of health insurance premiums after the settlor’s death? A reasonable assumption is that the settlor would want that prior practice to be continued after the settlor’s death, but that would be a blind assumption that the trustee would have to make, possibly second-guessed by the trust’s remainder beneficiaries if the trust instrument provides no further directions.
  • Michigan Courts: In a fairly recent opinion, the Michigan Court of Appeals turned to a dictionary definition of health to evaluate the trustee’s discretionary distributions for a beneficiary’s health. The Court found it appropriate that the trial judge had used the traditional dictionary definition for the word It found that the term “health included such concepts as mental health and the health of one’s mind, spirit and soul”, but that health did not include any expenditures that “makes a person feel good.” In re Brooks, 2014 Mich. App. LEXIS 2046 (2014). I am not sure that the Court of Appeals’ observation is all that helpful a guide to a trustee: ‘mind, spirit and soul’ apparently are okay, but not so with just ‘feeling good.’
  • Standard of Review: Neither the Michigan Trust Code, nor the Uniform Trust Code requires that a trustee act reasonably, but only that a trustee either act in good faith, or in the case of the Michigan Trust Code, the trustee will have abused its discretion by either acting dishonestly, or with an improper motive, or it fails to exercise its judgment in accordance with the purposes of the trust. The evaluation a trustee’s exercise of discretion in making (or not) distributions for a beneficiary’s health often is subject to varying standards of review: The Restatement (Third) of Trusts uses an objective reasonableness standard, while the Uniform Trust Code uses a subjective good faith standard to review the trustee’s exercise of discretion.  [MCL 700.7815 (1); UTC 814(a).] Another way to look at this standard of review is to determine if the trustee acted honestly and in a state of mind that was contemplated by the settlor.

Define Health: Without much guidance either from the Michigan Trust Code, the Restatement (Third) of Trusts, or the Tax Code and its Regulations, it would be helpful if the settlor defined the distribution standard of the beneficiary’s health either in the trust instrument, or possibly in a companion letter of wishes which can provide some examples so that that trustee could better understand what the settlor meant when the settlor authorized discretionary distributions for a trust beneficiary’s health. Clearer direction of what the settlor contemplates to be health related, might address some of the following: Does the trust’s definition of health contemplate

  • That distributions for health are solely for emergency situations or that there must be a genuine need where the beneficiary’s health is jeopardized without treatment?
  • Only conventional and medically recognized treatments or therapies are permitted, or does the definition include “unconventional treatments or therapies, whether or not recognized by the medical establishment or prevailing medical opinion, if there is some reasonable belief held by the trustee that the treatment or therapy will provide the beneficiary some comfort or alleviate to some degree the beneficiary’s medical condition?”
  • The “use of marijuana as a palliative treatment modality?”
  • The “purchase of health, dental or vision insurance, or long-term care insurance on behalf of the beneficiary?”
  • The “reimbursement of the beneficiary’s annual deductible or co-pay obligation incident to health insurance coverage?”
  • The “payment of insurance premiums for disability and AD&D insurance?”
  • The “use of homeopathic remedies such as chiropractic, aroma therapy, acupuncture, or herbal remedies?”
  • The “use of physical or massage therapy?”
  • The “purchase of exercise equipment or a gym membership?”
  • The imposition of a precondition to discretionary distributions for the beneficiary’s health that “the beneficiary maintains at his/her own expense comprehensive medical or dental or vision insurance?”
  • A limit to the distributions for the beneficiary’s health to “only the payment of medical insurance co-pays and health insurance deductibles?”
  • An obligation ” to exhaust any available medical savings or health savings account as a precondition to making discretionary distributions for the beneficiary’s health?”
  • The use of “elective plastic surgery treatment, Lasik surgery, in vitro fertility treatment, sun glasses, and/or contact lenses?”

Conclusion: With the rapid advance of medical technology, coupled with the annual-increase in the cost of drugs and health care services, and health insurance in particular, and the ever-moving target of whether pre-existing medical conditions will be covered by existing health insurance, a trust instrument should expressly provide guidance to the trustee with respect to the exercise of the trustee’s discretion beyond the use of the basic and terse term health. If the settlor is unwilling to endorse a lengthy definition of health in his/her trust instrument, then at a minimum a stand-by letter of wishes from the settlor, with examples provided, would greatly help the trustee navigate its responsibility to make discretionary distributions to impartially meet the beneficiary’s health.