What Is an Authorized Investment?
- Authorized investments may be dictated by state laws or by trust instruments designed to restrict the kinds and amounts of investments allowed within a trust.
- An authorized investment list prevents aggressive or speculative investments and ensures that the trust is conservatively managed.
- Authorized investments can include rules for SRI and ESG investing.
How Authorized Investments Work
Authorized investments may be dictated by state laws or by trust instruments designed to restrict the kinds and amounts of investments allowed within a trust. In the past, some states created legal lists of investments that could be made in trusts, though many states have now abolished these rules. In most cases, an authorized investment list prevents aggressive or speculative investments and ensures that the trust is conservatively managed.
When an individual sets up a trust, there are three key roles: the grantor, the trustee, and the beneficiaries. The individual who sets up the trust is usually the grantor. The grantor funds the trust and the beneficiaries eventually receive money or other assets from that trust.
When the trust is set up, it includes an authorized investment list. That list provides guidance on the types of investments that can be made with the trust's funds and is set up to help ensure that investment outcomes align with the grantor’s wishes. For example, the trust may permit investing in stocks to provide growth and bonds to provide some stability to the trust portfolio. However, riskier investments such as private equity may not be allowed.
It is the responsibility of the trustee to comply with the list of authorized investments for the trust account involved. Grantors can be trustees themselves, or a third party such as a trusted family member, a lawyer, an accountant, a bank or a third-party trust company.
Special care should be taken when choosing trustees because of the critical role they play in managing trust assets. The grantor and beneficiaries cannot influence the trustee to make investments that are not on the authorized list.
Trustees must act as a fiduciary with regard to trust beneficiaries and assets. While trustees have legal ownership over the assets held in trust, they are also legally and ethically bound to act in the best interest of the beneficiaries who have equitable title to the property, according to the general rules that govern a fiduciary's investment choices and the management of trust assets.
These rules are governed both by states and by the Financial Industry Regulatory Authority (FINRA) and the U.S. Securities and Exchange Commission (SEC). Fiduciary cases are usually arbitrated in the surrogate or probate courts.
Example of an Authorized Investment
The state of New York published this Local Government Management Guide titled "Investing and Protecting Public Funds" in 2014. Under the heading "Investment of Public Funds" it lists several types of authorized investments for both short- and long-terms.
In the short-term, local governments are told that they are allowed to invest in:
- Time deposit accounts in a bank or trust company located and authorized to do business in New York State.
- Certificates of deposit issued by a bank or trust company located and authorized to do business in New York State
- “Obligations” such as bonds, notes or other such forms of indebtedness issued by certain specific entities.
The document also lists un-authorized investments. Logically, local governments are not allowed to invest in their own obligations or bond issues, though it is telling that this stipulation is spelled out explicitly.