Prior to Missouri re-writing its preneed law in 2009, preneed sellers could draw off realized income so long as the withdrawal did not reduce the trust’s fair market value below trust deposits. Seeking income, many Missouri sellers directed their trustees to invest in bonds. As interest rates declined during the early part of the prior decade, bonds with higher yields climbed in value. However, replacing those yields with new bonds became difficult, and then impossible (with the subprime mortgage collapse in 2008). A trustee would have to pay a premium for a bond with the rate that sellers sought. Today, many of Missouri’s older preneed trusts are left with a cupboard of long duration, lower yield bonds that are very susceptible to market volatility. When the Federal Reserve does eventually begin to raise interest rates later this year, bonds with longer durations will experience a fair market value erosion. If an older Missouri preneed trust has a resulting ‘shortage’, that exposure will likely be due to a trustee having sit on a bond portfolio while the seller continued to pull out interest income. This is primarily an old trust problem because the new law now requires income to be accrued until the cancellation or performance of the contract. (Sellers that combined their pre and post SB1 contracts in the same trust may have another set of problems.)
It has not been our experience that the financial examiners seek information to determine if a seller’s trust has been making income distributions, and how the trustee documents compliance with the prior law’s “mark to market” requirement. Such distributions could be documented with the trust’s current fair market value, gross income year to date, gross trust expenses year to date, any reserve for income taxes, income distributed year to date, and the income to be distributed.
So long as the seller and trustee appropriately apply the brakes to income distributions before the fair market value hits the deposit balance, a subsequent shortage resulting from a market decline should not trigger the seller’s liability to contribute funds. Failure to anticipate the market’s decline, could leave the trust in a prolonged shortage that could require future distributions to be based on fair market value (ie, on the performance of a contract, sellers would receive less than the contract’s deposit balance).