The Delaware General Assembly recently enacted amendments to the Delaware Statutory Trust Act (the “DSTA”). The amendments are designed to enhance the DSTA and to maintain Delaware’s place as the premier jurisdiction in which to form statutory trusts. The amendments include several important changes relating to the nature and operation of statutory trusts, including the ability to opt out of separate legal entity status, the rules applicable to series trusts and the default fiduciary duties of trustees of investment companies.
I. Nature and Operation of the Trust
Opting Out of Separate Legal Entity Status
Amendments to Sections 3801(g) and 3810(a) of the DSTA provide practitioners with the ability to opt out of separate legal entity status.
The DSTA was originally enacted in 1988 to provide greater certainty and flexibility with respect to trusts that are used in business transactions. The DSTA has been enhanced by many amendments over the past three decades, making the Delaware statutory trust the preeminent form of trust for use in structured finance and investment fund transactions. A validly formed trust under the DSTA creates an unincorporated association, which is a “separate legal entity” with the right to carry on any lawful business or activity under Delaware law. As such, the activities of most statutory trusts are carried on in the name of the trust, which is established pursuant to the trust’s governing instrument and set forth in its certificate of trust. This includes entering into transaction documents, holding title to assets, and suing and being sued. The DSTA provides a basic framework of default rules while permitting maximum flexibility for the parties to specify in the governing instrument precisely how the statutory trust will conduct its affairs. These features have been the hallmark of the Delaware statutory trust.
Notwithstanding the many advantages of a statutory trust under the DSTA, such as statutory limited liability for trustees and beneficial owners and enhanced bankruptcy-remoteness, some sectors of the structured finance industry have continued to utilize common law trusts. These sectors have expressed concerns that a trust which is a separate legal entity might be treated differently than a common law trust under various provisions of federal and state law. There is also a growing trend in some transactions to use a federally chartered financial institution, such as a national bank, as the trustee to hold title to the trust assets rather than holding title in the name of the trust. This trend reflects a concern that the trust might be a target for regulators and other persons who would not otherwise have authority over a federally chartered financial institution engaged in a similar transaction. The use of common law trusts sacrifices the benefits of the DSTA that were specifically designed to address the anachronistic and rigid common law rules of trust law associated with the use of common law trusts.
Because Delaware is a leader in the development of trust law, the DSTA is routinely updated and improved to address changes in industry needs and to continue to provide the most flexible and well-defined body of commercial trust law. A significant update in this year’s amendments is the ability to opt out of entity status. The amendments to Sections 3801(g) and 3810(a) of the DSTA permit the formation of a statutory trust under the DSTA that is not a separate legal entity if so specified in its governing instrument and its certificate of trust. By opting out of separate legal entity status, a statutory trust should be treated the same as a common law trust under federal and state law and for regulatory purposes, while at the same time enjoying the many advantages afforded by the DSTA. A statutory trust that opts out of separate legal entity status will continue to be a “registered organization” for purposes of the Delaware Uniform Commercial Code.
An amendment to Section 3810(a) of the DSTA dispels any uncertainty regarding the due formation of a statutory trust as a result of the sequence in which the parties enter into its organizational documents. Language added to this section confirms that the validity of the trust is not called into question when the certificate of trust is executed and filed before the governing instrument is adopted. Occasionally parties to a statutory trust inadvertently file its certificate of trust before the governing instrument is finalized. Practitioners would be assured that filing the certificate of trust in such circumstances will not affect the validity of the trust.
Revocation of Dissolution
A statutory trust has perpetual existence under the DSTA unless its governing instrument provides otherwise. Amendments to Section 3808(c) clarify the manner in which the dissolution of a statutory trust may be revoked. The dissolution of a statutory trust may be revoked (1) in the manner set forth in its governing instrument, or, (2) if the governing instrument neither provides for revocation of dissolution nor prohibits it, dissolution may be revoked as set forth in Section 3808(c). Revocation of dissolution will cause the trust to be continued without winding up, notwithstanding the events that otherwise caused dissolution.
The amendments make the following changes. First, when dissolution occurs upon the time or occurrence of certain events identified in the governing instrument (other than by affirmative vote or written consent), the parties must obtain the affirmative vote or written consent of the persons whose consent would be required in order to amend the provisions of the governing instrument effecting such dissolution. Second, when dissolution occurs by affirmative vote or written consent, dissolution must be revoked pursuant to such affirmative vote or written consent. Third, Section 3808(c) does not limit the accomplishment of a revocation of dissolution by other means permitted by law.
Irrevocable Power of Attorney or Proxy
Amendments to Section 3811(d) of the DSTA provide further guidance as to the manner in which a power of attorney or proxy relating to a statutory trust may be made irrevocable. Section 3811(d) previously concerned only the granting of an irrevocable power of attorney relating to the organization, internal affairs or termination of a statutory trust or granted by a beneficial owner of a statutory trust. Section 3811(d) now applies generally to the granting of an irrevocable power of attorney or proxy with respect to a statutory trust to any person. A power of attorney or proxy is irrevocable, unless otherwise provided in the governing instrument of a statutory trust, if it states that it is irrevocable and it is coupled with an interest sufficient in law to support an irrevocable power of attorney or proxy.
An irrevocable grant of a power of attorney or proxy, unless otherwise provided therein or in the governing instrument of the statutory trust, would not be affected by the subsequent death, disability, incapacity, dissolution, termination of existence or bankruptcy of, or any event concerning, the principal. A power of attorney or proxy with respect to matters relating to the organization, internal affairs or termination of a statutory trust or granted by a person as a beneficial owner or by a person seeking to become a beneficial owner and, in either case, granted to the statutory trust, a trustee or beneficial owner thereof, or any of their respective officers, directors, managers, members, partners, trustees, employees or agents, shall be deemed coupled with an interest sufficient in law to support an irrevocable power of attorney or proxy. Since a governing instrument, however, could alter the requirements for such grant, practitioners need to be certain when drafting a governing instrument to include any desired language deviating from Section 3811(d)’s default rules, and to check the governing instrument for any such deviations when drafting an irrevocable power of attorney or proxy.
The amendments also clarify that the enforceability of a power of attorney or a proxy that is part of a governing instrument is not limited by the provisions of Section 3811(d).
II. Trusts Organized in Series
Sections 3804(a) and 3806(b)(2) of the DSTA permit practitioners to create Delaware statutory trusts in series, which effectively segregates certain assets and liabilities within the trust. If a statutory trust maintains separate and distinct records with respect to each series and its related assets, which are accounted for separately from the assets of any other series of the statutory trust, and if so provided in the governing instrument and the certificate of trust, the debts, liabilities, obligations and expenses incurred by a series of a statutory trust are limited to the assets of that particular series and cannot be enforced against the assets of any other series of the trust or the trust generally. Beneficiaries of a series and the related assets, therefore, enjoy protection from creditors of the trust generally and any other series.
Amendments to Section 3804(a) further clarify that, notwithstanding the limitation on interseries liability language set forth in Section 3804(a) or in the governing instrument and the certificate of trust of a statutory trust with series, such statutory trust may agree (1) with respect to the statutory trust generally, that the debts, liabilities, obligations and expenses incurred by the statutory trust with respect to any series of the trust shall be enforceable against the assets of the statutory trust generally, or, (2) with respect to a particular series of the statutory trust, that the debts, liabilities, obligations and expenses incurred by the statutory trust generally or with respect to any other series shall be enforceable against the assets of that particular series. Therefore, while the beneficiaries of a series of a properly formed statutory trust will continue to possess protections against the creditors of the trust generally or any other series, should the parties interested in the trust generally or such series decide to allow the trust generally or such series to incur liability for the obligations of another series or the trust generally, the DSTA does not prohibit the trust on behalf of such series from entering into such agreements.
Another significant change to Section 3804(a) clarifies that a statutory trust organized in series, unless otherwise provided in the governing instrument, may contract, hold title to assets (including real, personal and intangible property), grant liens and security instruments, and sue and be sued, in each case, in the name of the series. Statutory trusts organized in series sometimes adopt a name under which the series of the trust will be known. Because the legal name of the trust as filed with the Delaware Secretary of State is only the name of the trust generally, some practitioners questioned the ability of a statutory trust to take one of the actions mentioned above in the name of a series. Section 3804(a) now provides further assurances that the statutory trust is permitted to take certain actions in the name of a series, subject to applicable law. The amendments to Section 3804(a) are not, however, intended to grant separate legal existence to a series or move further in that direction, which movement in other entity statutes has created some controversy.
III. Rights and Duties of Trustees
Delegation of Duties
Under Section 3806(i) of the DSTA, trustees are granted the power and authority to delegate to other persons the trustee’s rights and powers to manage and control the business affairs of the trust. This gives the trustee the ability to grant such rights and powers to agents, officers and employees of the trust and other service providers whose expertise would enhance the functionality of the trust and provide value to the transactions in which it may be engaged. An amendment to Section 3806(i) provides that such delegation by a trustee may be made irrevocable if so stated in the governing instrument of the trust.
Trustees of Investment Companies
Section 3806 of the DSTA has been amended to add a new subsection concerning the default fiduciary duties of trustees of statutory trusts registered as Investment Companies under the Investment Company Act of 1940, as amended (the “1940 Act”).
Under Section 3809 of the DSTA, the default rules apply ordinary trust law to statutory trusts unless otherwise provided in the DSTA or the governing instrument of a statutory trust. The fiduciary duties of directors of Delaware corporations are governed by the Delaware General Corporation Law (the “DGCL”). Under general trust principles, trustees are subject as a default matter to the “prudent person” standard of care when making decisions and may not have the benefit of the business judgment rule. Directors acting under the DGCL, however, generally enjoy a lower standard of care and the protections of the business judgment rule in their conduct and decision making, and therefore are accorded more deference by the courts when making decisions on behalf of the subject entity in the ordinary course. In typical 1940 Act practice, and under the 1940 Act itself, the parties’ expectations are for default fiduciary duties consistent with the DGCL to apply to trustees of statutory trusts. Practitioners often add provisions to the governing instruments of statutory trusts registered under the 1940 Act in order to expressly apply the DGCL fiduciary duties to trustees of such trusts or make other modifications to prevent the application of the default rules. However, such additions and modifications are not universal and are not always made consistently (particularly in older governing instruments) and thus can result in some interpretative uncertainty as to the standards that apply. New Section 3806(k) of the DSTA expressly defaults to the DGCL fiduciary duties for trustees of statutory trusts registered under the 1940 Act, thus giving such trustees the same default fiduciary duties as directors of corporations organized under the DGCL (though it is important to note that the default standard may be overridden in the governing instrument, thus retaining the DSTA’s historic deference to freedom of contract principles). With the corporate default rule now codified, the risk of mistakenly subjecting trustees to the more stringent general trust law standard is eliminated.
IV. Miscellaneous Provisions
The amendments effect the following miscellaneous changes to the DSTA.
An amendment to Section 3813 limits the scope and format of responses by the Delaware Secretary of State to public information requests in exchange for fees under Section 3813 to photocopies or electronic images only, and the Secretary of State is not required to produce output in any other format, notwithstanding Delaware’s Freedom of Information Act or other laws applicable to access to public records.
An amendment to Section 3819 clarifies that a beneficial owner or trustee who is seeking certain information from the statutory trust may exercise such rights in person or through an agent or attorney, provided that such agent or attorney shall have accompanied such demand with a power of attorney or other writing authorizing the agent or attorney to act on behalf of the beneficial owner or trustee.
The amendments are effective August 1, 2016.
The 2016 amendments to the DSTA demonstrate Delaware’s dedication to providing a sophisticated and modern body of statutory trust law that meets the changing needs of industry participants in the marketplace of today and the future. Delaware is committed to reviewing and enhancing the DSTA to maintain Delaware’s top position as the jurisdiction in which to form statutory trusts.