You can't make a loss taking a profit

By MARY HOLM

Q. My grandfather died in the UK in 1968. He left £30,825 ($103,860) plus a house valued at £12,500 in trust for his children, with the tenancy of the house and income from £20,800 for life to his new wife, and the income from the remaining £10,000 for life to his disabled son.

The son died in 1984 and the wife recently. The trust has now been shared among the grandchildren. The investments are now worth £61,224 and the house has been sold for £574,000.

The Natwest Bank, as trustees and managers, say that the investment return is reasonable. Over 34 years the investments have gone from £30,825 to £61,224. The house has gone from £12,500 to £574,000. Would love your opinion.

A. My first reaction is: what are you complaining about?

The total portfolio, the house plus money, has grown almost 15-fold over the 34 years.

That's a return of more than 8 per cent a year, which is pretty good considering income was also being paid to granddad's new wife and disabled son.

On reflection, though, the trustees are rather lucky that UK house prices have risen as much as they have.

Partly because inflation has been extremely high for part of the last 34 years, the value of your grandfather's house has risen by almost 12 per cent a year.

When we exclude the house, the fact that the other money has only doubled in 34 years seems pathetic.

If, for instance, it had been invested in an international share index fund, based on the MSCI index, it would have grown almost 60-fold - considerably more than the 46-fold increase in the house value.

With an MSCI investment plus the house, you would have been distributing more than £2 million.

But hang on a minute. First, the money wasn't available for investments like that. It had to be used to support the new wife and disabled son.

Second, even if it had been available, no trustee would invest it all in a share fund. That would be regarded as too risky. Trustees are dealing with other people's money, and so have to be pretty conservative.

I suspect what has happened is that the £30,800 was put into interest-bearing investments, with the interest going to the wife and son, and the principal not growing at all.

When the son died, in 1984, his £10,000 was then invested at an average return of about 8 per cent a year, which would bring the total to where it is today.

Should the trustees have favoured income over capital growth - and thus the widow and disabled son over the grandchildren - for so long?

"That's a tricky one," says Kevin Peacock, the Public Trust's general manager of estate and financial planning.

The Public Trust handles similar situations by aiming to maintain the real value of the estate.

That means the estate grows at the same rate as inflation, so it will buy the beneficiaries the same amount of goods and services, years later, as when the person died.

"After that, we maximise the income for the life tenant," says Peacock - in your case the new wife and disabled son.

This often amounts to putting about 40 per cent of the assets into growth investments, such as shares and property, and 60 per cent into income investments, such as bonds and term deposits.

There's some discretion, though. If the life tenant is wealthy, the trustees may put more into growth investments. If the life tenant clearly needs more income, there may be more income investments.

Even so, to invest all of the money for income and none for growth, while both the wife and son were alive, seems extreme.

No doubt you could find a lawyer who would challenge the trustees' choices. And he or she would, no doubt, quote the 1998 New Zealand Mulligan case, in which the husband left a life interest in his estate to his widow.

The trustees, who included the widow, invested solely in fixed-interest investments, from 1965 to 1990.

In that time, the value of the trust property fell from $108,000 to $102,000. If, instead, the real value of the estate had been maintained, it would have been worth $1.368 million at the time of the trial, in May 1996.

"The court found that the trustees knew the effect inflation was having on the real value of the assets and that they should have diversified into growth assets. It was not a balanced approach, and the court held the trustees negligent," Peacock says.

He adds that he is not sure what redress you could get in the UK.

"In this case the final beneficiaries were pretty well rewarded," he says. "That might hurt their case."

It's worth considering, too, that lawsuits like this can be time-consuming, worrying and expensive, especially when you're dealing with people in another country.

Even if you win, I wonder whether you'll end up happier than if you had just said, "We've done pretty well out of old granddad. We might have done even better, but we're still lucky."

A final thought: There might be a lesson here for others who plan to leave a life interest in an estate to someone and then the remaining estate to others.

It would be helpful to everyone if you indicate, in your will, how the money is to be handled.

You might, for instance, say it should be invested so that your widow or other dependant gets so many thousand dollars a year, with the amount linked to inflation. You might add that the trustees can eat into the capital, if necessary, to ensure this.

Beyond that, the rest could be invested for growth.


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