Principal and Income

In trust management, receipts are divided into two categories: income and principal. Income includes things like rents and interest, while principal consists of sale proceeds and stock splits; trustees can adjust these allocations to ensure fair treatment of all beneficiaries while adhering to prudent investment standards.

A trustee manages a trust that generates $10,000 in rental income and sells a stock for $15,000. The trustee allocates the rental income to the income beneficiaries and the sale proceeds to the principal account. After assessing the needs of the beneficiaries, the trustee decides to adjust the allocation, distributing an additional $5,000 from principal to income to ensure fairness. The outcome is that all beneficiaries receive equitable treatment.

Income is for spending, principal is for saving; trustees balance both for fairness.

Exams may present scenarios where students confuse what constitutes income versus principal, leading to incorrect allocations. Watch for tricky fact patterns that blur these lines.

Questions often involve a fact pattern where a trustee must decide how to allocate various receipts, testing the candidate's understanding of the distinctions between income and principal and the trustee's discretion in adjustments.