THE NATURE AND FUNCTIONS OF TRUST COMPANIES
[91]The trust company supplements the bank. Through a long process of
evolution the bank has developed as a means of facilitating the exchange
of commodities. The trust company is a still further step in the same
process, and, in a highly organized society, it meets needs which the
bank is not able to supply.
In a new community the general store forms the centre of the business
life of the place. With growth and increasing trade, the private banker
sees room for the profitable employment of his funds. The state or
national bank meets the needs of further growth. Success and the
accumulation of wealth pave the way for the trust company. The bank is
organized primarily to serve the needs of active commercial life; the
trust company handles funds in less active circulation.
It is customary for the courts to designate or approve certain trust
companies as depositories for funds paid into court, and the effect of
such designation or approval would be to relieve executors, trustees, or
others acting in a fiduciary capacity and depositing with these
companies from liability for loss through their failure. A person
charged with due care in the selection of a depository could not be held
to have been wanting in such care in choosing as a depository a trust
company which the court has itself approved.
The powers of trust companies vary in different states, and when they
are created by special legislation, local companies are found with
different charter privileges. The capital and surplus of these
institutions are liable for their acts in fiduciary capacities, and in
some states they are required to deposit with one of the state
departments a fund as a special guarantee. The liability assumed is
generally accepted by the courts in lieu of the bonds which individuals
acting in similar capacities are required to give.
The development of trust companies in the United States has been
remarkably rapid. Since 1882, when the first legal authority was given
for the exercise by corporations of fiduciary powers, they have steadily
grown in number until there are now more than fifteen hundred,
distributed as follows:
Alabama 30
Arizona 9
Arkansas 38
California 24
Colorado 16
Connecticut 31
Delaware 12
District of Columbia 5
Florida 9
Georgia 25
Idaho 10
Illinois 75
Indiana 108
Iowa 29
Kansas 4
Kentucky 42
Louisiana 22
Maine 39
Maryland 21
Massachusetts 56
Michigan 6
Minnesota 4
Mississippi 19
Missouri 49
Montana 7
Nebraska 13
Nevada 1
New Hampshire 4
New Jersey 86
New Mexico 10
New York 78
North Carolina 38
North Dakota 5
Ohio 60
Oklahoma 10
Oregon 20
Pennsylvania 260
Rhode Island 11
South Carolina 17
South Dakota 12
Tennessee 73
Texas 52
Utah 9
Vermont 26
Virginia 19
Washington 20
West Virginia 22
Wisconsin 9
Wyoming 5
Hawaii 5
----
Total 1555
Their business in all departments has shown a steady increase, and the
trust companies of the United States to-day carry deposits amounting to
over $3,858,300,000. Net deposits in the 7397 national banks aggregate
$5,891,670,000.
In some states commercial banking and trust powers are exercised by the
same companies. In such cases, separate departments are maintained for
the various classes of business. Another method is for the same
individuals to organize a national bank and a trust company, the former
under national and the latter under state laws.
The securities company or trust company organized under state laws and
controlled by a national bank with the stock interest in the former
distributed among the owners of the stock of the bank and evidenced by
indorsement on its certificates is still another expedient which has
been resorted to in order to enable a closely affiliated and controlled
organization to exercise legitimate functions which are, however,
outside the province of a national bank.
The earning power of trust companies has equalled and even exceeded that
of the banks, and the stock of those companies which are well
established and doing a flourishing business sells at such a premium
that investment in it at its market value gives a very low return.
Trust company failures have been few and far between, and where they
have occurred they can be traced to a disregard of sound banking
principles and to the assumption of unwarranted risks. Even in the case
of companies which have failed there is no record of any impairment of
trust funds, whatever loss there was having been borne by the
stockholders and, to a less degree, by the depositors. This fact, the
result of the absolute separation of trust assets from assets belonging
to the company, is the strongest argument for the employment of trust
companies in fiduciary capacities, and explains their rapid growth in
popular favor.
The literature put out by these institutions invariably recites the
advantages to be gained by dealing with them instead of with
individuals. The following is a good example of such reasoning:
THE ADVANTAGES OF A TRUST COMPANY AS TRUSTEE
A trust company is preferable to individual trustees, because it
possesses every quality of desirability which the individual lacks, to
wit:--
(1) Its permanency: it does not die.
(2) It does not go abroad.
(3) It does not become insane.
(4) It does not imperil the trust by failure or dishonesty.
(5) Its experience and judgment in trust matters are beyond
dispute.
(6) It never neglects its work or hands it over to
untrustworthy people.
(7) It does not refuse to act from caprice or on the ground
of inexperience.
(8) It is invariably on hand during business hours and can
be consulted at all times.
(9) Its wide experience of trust business and trust
securities is invaluable to the estate.
(10) It is absolutely confidential.
(11) It has no sympathies or antipathies and no politics.
(12) It can be relied upon to act up to its instructions.
(13) It does not resign.
(14) All new investments of value suitable for trust estates
are offered in the first instance to trust companies, and in
that way it has a choice of valuable security; and as its
purchases are on a scale of magnitude, it can usually buy at
a rate which is lower than that at which the individual
trustee can purchase.
The most common objection to the appointment of corporate trustees is
thus stated by Augustus Peabody Loring, Esq.:
The trust companies, which have of late years become so
numerous, to a considerable extent do away with the element
of personal risk attaching to an individual trustee; but
they lack the advantages of personal management. These
companies sometimes fail from improper management as utterly
as individuals do, and as a rule the lack of personal
management results in securing the minimum return only on
the amount invested, and lacks the great advantages often
secured by the able personal oversight of individual
trustees.
The question, after all, comes back to the personal qualifications of
corporate officers and individuals. If the former are less capable than
the latter, the fault is with the particular company--not the system,
and if interest returns are sometimes less under corporate management,
this fact is more than equalized by the added safety to the corpus of
the estate.
A "Trustee Company" has been suggested as a proper title for the company
doing a legitimate trust business, and is the name used in Australia and
in New Zealand. In some states the use of the word "trust" in corporate
titles is now regulated by law. Confusion has arisen in the popular mind
between the trust company and the trusts or industrial combinations.
The usual functions of a trust company are: banking in a more or less
limited form, execution of corporate trusts, execution of individual
trusts, care of securities and valuables. In addition, other functions
are sometimes exercised, such as life, title, and fidelity insurance,
and the business of becoming surety. The earlier companies in the United
States were chartered to manage individual estates only and to act in
certain fiduciary capacities; the recent development of the trust
company has been in the direction of banking functions and corporate
trust business.
It is worthy to note that the life insurance companies which originally
secured trust powers have, with but few exceptions, given up their life
insurance business, and that most of the fidelity insurance and surety
business is given over to companies which now make a specialty of such
risks. The fact is being recognized that the assumption of vast risks
contingent on future occurrences is not compatible with the absolute
security which is essential in the transaction of legitimate trust
business.
BANKING
The banking functions of trust companies may include any or all of the
following:
The receipt of money deposits payable on demand and subject to check, or
payable at a fixed date, or according to special agreement. Interest is
usually allowed on all deposits above a fixed maximum amount or on the
total sum.
Money advances secured by the hypothecation of stocks, bonds, life
insurance policies, bonds and mortgages, or other personal property.
Real estate loans, secured by bond and mortgage. It is customary to loan
not over two-thirds of the value of improved property; when the property
is unimproved, not more than half.
Discounting paper is engaged in principally by companies transacting a
commercial banking business. The purchase of unsecured paper is
permitted in some states where discounting is not allowed.
The purchase and sale of securities.
Trust companies sometimes guarantee issues of bonds, or at least set
their stamp of approval upon them.
The issue or guarantee of letters of credit, and the transaction of a
foreign exchange business.
The care of savings deposits. For this purpose a separate department is
usually maintained.
CORPORATE TRUSTS
Among the most important functions of a trust company are those relative
to the business of other corporations:
Of late years the trust companies in the Eastern cities have
been selected as trustees instead of individuals whenever
the law of the State where the property was situated allowed
such selection. Trust companies have manifold advantages
over individuals in such a relationship; they do not die;
the large amount of financial business which they daily
transact provides them with the machinery for such purposes;
while their well-known names stand as evidence to the
purchasing public that at least the necessary formalities
have been complied with. Beyond that responsibility the
trustees of corporation mortgages usually assume none.
In recent years the trust companies have shown a tendency,
when acting as mortgage trustees, to recognize a greater
moral responsibility than they at first were willing to
bear. Trust companies did not, of course, intend to appear
as in any way guaranteeing the bonds to which they
certified, though that seems often to have been the
erroneous opinion of the unthinking; but trustees now
acknowledge themselves bound within the limits of the
mortgage to use their influence to protect the interest of
the bondholders. A trust company which should now allow the
issue of unsecured bonds because of some glaring defect in
the language of the mortgage, would not longer be morally
excused by financial opinion, though perhaps held
technically innocent.[92]
As trustee under corporate mortgages and trust deeds, the trust company
acts for the bondholders. It is customary for it to authenticate each
bond issued subject to the provisions of the mortgage, to represent the
bondholders in case of default, and to exercise such other functions as
may be provided in the mortgage.
A generation ago it was customary for a railroad to name one or more
individuals as trustees of the mortgages executed to secure bond issues.
The development of trust companies and their manifest advantages over
individuals in such a capacity has resulted in their absorbing almost
all this business. Trust companies are now generally appointed as
trustees in corporation mortgages, and are also often named to succeed
individuals who have died or resigned. The appointment is one of the
most important and far reaching which the trust company can accept. Its
name and reputation serve as an assurance that the transaction is a
regular one, and entered into in good faith. Although the modern
corporation mortgage is usually explicit in its terms to the effect that
the trustee in no way guarantees the value of the security and assumes
no liability except for its own negligence, yet the intimate connection
between the trustee and the borrowing corporation in the minds of
investors makes it necessary that care be taken not to assume
trusteeships which may lead to a wrong use of the name and credit of the
trust company.
As trustee under mortgages securing bond issues, the title to the
mortgaged property is vested in the trust company for the benefit of the
security holders. The corporation owning the mortgaged property retains
physical possession of it so long as the terms of the obligation are
complied with, except in the case of securities pledged, which are
usually lodged with the trustee. In case of default, however, it
devolves upon the trustee to protect the interests of the bondholders,
and this may necessitate the foreclosure of the mortgage and sale of the
property.
As fiscal agent it dispenses coupon and interest payments on bond
issues, and dividends on stock. It receives sums set aside as sinking
funds to provide for the retirement of obligations at maturity, or when
bonds are subject to redemption, draws the specified amount by lot and
pays the principal.
As registrar the trust company authenticates certificates of stock and
bonds in order to prevent an over-issue, and to reduce the chance of
loss or theft. As transfer agent, the company attends to perfecting
transfers of ownership for stock and bond issues or parts thereof.
The New York Stock Exchange, like most other stock exchanges, in its
constitution requires that all active listed stocks must be registered.
This Exchange also requires that a trust company or other agency shall
not at the same time act as registrar and transfer agent of the same
corporation. In the popular mind, and even in the minds of some trust
company officers, the difference between the duties of the two positions
has been more or less confused. Both have been created to safeguard and
facilitate the passing of title to shares of stock, but the duties of a
transfer agent and a registrar are not synonymous; they are distinctive.
One is called upon to examine and give clear titles to property
transfers, and the other is merely to record such transfers.
As manager of underwriting syndicates, the trust company issues the
prospectus and markets the securities of corporations which are being
launched, or of established companies which are putting out new
securities.
In railroad and other reorganizations, the trust company takes a
prominent part, acting both as a depositary for, and as a representative
of, the committees which formulate and execute the plans of
reorganization. Its officers often have a large share in the preparation
of such plans.
As assignee and receiver, the trust company acts in the same capacity
for corporations as for individuals and firms or partnerships, assisting
in winding up insolvent businesses and in conducting embarrassed ones.
INDIVIDUAL TRUSTS
The execution of individual trusts is the function originally assumed by
trust companies. The various other forms of business which are now
engaged in, have, with the exception of life insurance, been later
developments of the trust company idea. The earliest power granted these
companies was to receive moneys or other property, real or personal, in
trust. The trust company now also acts as executor and administrator of
the estates of decedents.
As executor appointed by the will of a decedent, it takes out letters
testamentary upon probate of the will, advertises, files inventory and
appraisement, pays debts, collects claims, makes the requisite
accounting to the probate or orphans' court, and makes distribution of
the estate in accordance with the terms of the will and the court's
decree.
As administrator acting under appointment of the register of wills or
probate court, it performs similar duties, distributing the estate in
accordance with decedent's will if there is one, or if there is none, in
accordance with the intestate laws of the state, which specify the
order of succession and distributive shares in the case of estates of
decedents leaving no wills. There are different kinds of administrators,
in any of which capacities a trust company may be called upon to act.
As trustee under will, the trust company carries out the provisions of
the will, investing and managing the estate or particular fund in
accordance with the directions of the testator. As such it may hold real
and personal property.
As trustee under deed or private agreement, a contract is entered into
between the company and the owner of the property, by which the title to
the property is vested in the corporation subject to the terms recited
in the instrument. Such deeds of trust may be revocable or irrevocable.
Marriage settlements are frequently made in this way.
The trustee's duty in investing the funds is a double one; namely, to
invest them securely so that the principal shall be preserved intact,
and to invest them as productively as possible under his powers, so that
they shall yield the best rate of interest obtainable for the benefit of
the person or persons entitled to the income. He must hold the scales
evenly, regarding scrupulously his duties to all beneficiaries. The
popular idea that security is the only consideration is erroneous, as
the trustee is equally bound to invest the funds as profitably as
possible and cannot neglect one duty more than the other. The mistaken
impression that the corporate trustee, even more than the individual, is
mindful only of the safety of the principal and entirely loses sight of
the question of income, has arisen from the restrictions as to
investments imposed by law, and frequently also by the will or trust
deed, and from the fact that the individual executor or trustee, rightly
or wrongly, sometimes assumes risks and personal liability which the
proper rules of a trust company would not permit it to assume.
The executor or trustee is governed, as to the kinds of investments, by
the directions of the will or deed of trust. This may require the
purchase of "legal investments" only, or state that the trustee is not
to be confined to securities prescribed by law, or give specific
directions as to the classes of securities which are to be bought. The
terms of such documents are always strictly construed by the courts; if
no directions are given, the trustee is expected to buy only "legal"
securities, and when he exceeds his powers he is held responsible for
any loss. Administrators and guardians without broader powers given by
will are obliged to invest, except at their personal risk, in such
securities as are sanctioned by law or directed by the court.
Some states prescribe by statute the securities in which a trustee may
invest. "Where there is no statute or decision of the highest court
fixing the class of securities in which a trustee may invest, he can
safely follow the rule prescribed for the investment of the funds of
savings banks." In general, city, State, and United States bonds, first
mortgages secured on improved real estate with ample margin, are among
the investments sanctioned by law. As to real estate, stocks, and first
mortgage bonds of railroad, manufacturing, and other corporations, the
practice varies in the different states. Loans on personal property,
second mortgages, and other investments subject to prior liens or of a
speculative character are excluded. All investments must possess
"intrinsic" value; the courts hold trustees liable for any losses from
speculative risks--but any gains accrue to the trust estate.
OTHER FUNCTIONS
The trust company acts as guardian, curator, or committee of the
estates, and in some states, of the persons of minors, those who are
insane or mentally incompetent, spendthrifts, drunkards, and any other
persons not legally qualified to take charge of their own affairs. In
the case of a minor, the trust terminates on the ward's becoming of age;
in other cases, when the disability is removed, or in accordance with a
decree of court. These appointments are frequently made by order of
court, and to it accounting must be made. In some states the company is
styled "conservator" when caring for the estates of persons of unsound
mind.
When acting as attorney in fact, the company obtains its authority by
virtue of a letter of attorney which usually is or can be recorded,
conveying certain definitely specified powers. This may be either to
perform a single act--such as to satisfy a mortgage--or may be broader
and continuing, granting authority to sell and transfer securities and
collect income. A general power of attorney, as the term indicates, is a
delegation to another of the general powers of the person appointing--as
to payments, collections, transfers of property, and all transactions of
a business nature.
As agent merely, the company takes charge of property, real or personal,
for its owner, but such agency does not imply nor ordinarily include
authority to sell or convey title. Moreover, trust companies as agent
often take up lines of business which they either cannot or would not
engage in on their own account. Thus, a trust company can act as agent
for fire or life insurance companies, for water, gas, and other public
service corporations. In new communities and where it is difficult to
find responsible representatives, the trust company can often render
efficient service and secure a steady income without risk by assuming
agencies of various sorts.
As assignee the trust company takes possession of the property assigned
for the purpose of carrying out the terms of the deed of assignment in
the interest both of the assignor and the creditors of the assignor. The
deed of assignment is an acknowledgment of an embarrassed or insolvent
condition, and the efforts of the assignee are directed to realizing as
much as possible from the assets intrusted to its management.
As receiver, the duties may be very similar to those of assignee,
although they are usually broader in scope. The business may not be
insolvent, and the application for the appointment of a receiver may be
due to temporary difficulties only. By such an appointment the property
is preserved intact and equal treatment is afforded creditors. An able
receivership often results in the adjustment of difficulties and the
return of the property to its owners on a paying basis. While in the
case of assignee the appointment is by the individual, partnership, or
corporation executing the deed of assignment which specifies the powers
and duties of the assignee, in the case of receiver the appointment is
by a court and the company so appointed acts as an appointee or
ministerial officer of the court, and as such is directly subject to the
court's orders.
A trust company acting as receiver is better able than an individual to
furnish additional capital, if amply secured, and thus successfully to
meet the difficulties which withdrawal of credit and restricted capital
have temporarily brought upon an otherwise prosperous business. The
courts authorize the issue of receivers' certificates to provide funds
for purchase of equipment and the proper maintenance of the property and
conduct of the business when the creditors are benefited by such
expenditures. Such certificates may be made a first lien on all assets,
taking precedence even of mortgages and other secured obligations. The
receiver thus secures the capital necessary to make the property more
productive and to secure the largest return from the business.
As custodian or depositary, the trust company sometimes holds property
the title to which is in dispute, delivering the same when the ownership
is legally determined.
In taking charge of escrows or conditional instruments or deeds
delivered to a third party until the condition is performed, the trust
company acts in a similar capacity, as the joint representative of both
parties.
The trust company acts as the representative of both the living and the
dead in practically every legal relation in which an individual is
qualified to act. Its function is not only to keep intact the estate of
which it has charge, but to look to and safeguard the interest of every
beneficiary.
CARE OF SECURITIES AND VALUABLES
The functions already recited have resulted in the assumption of the
duty of caring for property other than that of the estates held in the
trust department. In the safe deposit department, individual safes are
rented, bulky packages--not containing stocks or bonds--are received on
storage, certificates of deposit covering securities are issued, and
provision is made for access to, and examination of, the property so
deposited. For personal property received on storage, the charges are
either according to bulk or value. Wills are usually receipted for and
kept without charge.
INSURANCE
The examination and insurance of real estate titles is a later
development often found in connection with the usual trust functions.
Fidelity insurance and suretyship providing against loss by reason of
the dishonesty of individuals and the non-performance of obligations,
contracts, etc., have often been combined with the various forms of
trust company activity. They are, however, largely passing into the
hands of corporations especially organized for the transaction of such
business.
COMPENSATION
When acting as trustee under corporation mortgages, a definite charge
may be made for accepting the trust, and a fixed amount per annum
thereafter for paying coupons and performing other duties. For the
certification of bonds it is usual to charge fifty cents per bond in the
case of large issues, and one dollar for small issues. The figures,
however, vary in different places. The charge for certifying the bonds
may be the only one, although an additional charge is usually made for
counsel fees. In case of default and consequent foreclosure of the
mortgage, extra payment is made to the trustee covering all services
incident to the foreclosure.
For the disbursement of sinking funds, interest, or coupons, the
temporary use of the money may be considered adequate compensation, if
the amount involved is large. A commission on the sum distributed or a
fixed amount is charged when acting as fiscal agent, apart from duties
in other capacities. For acting as registrar or as transfer agent it is
usual to make a fixed charge per annum, based on the amount of labor
involved. The transfer agent is usually paid about twice as much as the
registrar. Compensation for acting as manager of an underwriting
syndicate may be a fixed sum or a commission, according to the
provisions of the underwriting agreement. For acting as depositary under
plans of reorganization, assignee, or receiver, a lump sum is usually
paid covering all services. Agency work of various sorts is paid for in
accordance with the usual practice in the business which is undertaken;
a fixed sum, or a fixed sum and a commission, or a commission only, may
be received.
The trust company is in a position to render valuable, and often
indispensable, aid to its corporate clients. Large amounts being
involved, the great railroad and industrial corporations are willing to
pay well for such services. Corporate trust business has, consequently,
been a profitable field for the trust companies.
GOVERNMENT REGULATION
An examination of the laws of the various states is interesting as
showing the attempts which are being made at regulation. Most of these
laws have been enacted within recent years and to-day there are but few
States which do not have such statutes on their books.
The step which Massachusetts first took in requiring a legal reserve to
secure deposits has been followed by similar action in other states. In
general, the wisdom of prohibiting companies which engage in the care of
estates from assuming excessive risks is becoming better recognized. The
promotion and underwriting of commercial ventures and the assumption of
unknown risks are functions not compatible with the proper exercise of
the duties of trustee or executor.
The supervision of trust companies by the separate states provides an
elastic system to supplement the rigidly guarded powers of the national
banks, and can adapt itself to changing conditions and enlarging needs,
leaving for solution according to the requirements of each section of
the country such questions as proper functions, reserves, and the
authority to establish branch offices.
FOOTNOTES:
[91] Adapted from Kirkbride and Sterrett, _The Modern Trust Company_,
pp. 1-13, 113, 114, 127, 143-146, 204, 205, 208. The Macmillan Company.
1913.
[92] Thomas L. Greene, _Corporation Finance_, p. 59.