The traditional trust arrangement relies upon an old-fashioned sense of wealth dating back to the days when wealth was largely held in real estate. Land would not be consumed and it was not expected to appreciate. Therefore, the conventional wisdom was that you should spend only the income that the land would produce.
This concept is out of date but it’s still the shorthand used for drafting trusts: spend income while preserving principal for future beneficiaries. Now, under the Uniform Prudent Investor Act, which has been adopted by many states, trustees are not limited to paying out interest and dividends to income beneficiaries. They may be more growth-oriented yet still provide for the income beneficiaries.
In a total return unitrust trust, a certain percentage of trust assets is paid to the income beneficiary each year. For example, suppose a trust pays 4 percent to the income beneficiary in Year One and the trust principal grows by 8 percent that year. The income beneficiary will receive 4 percent of a larger principal amount in Year Two, collecting a larger check, while the future beneficiaries will see their stake grow. A typical unitrust will pay out 3 percent, 4 percent, or 5 percent a year, while the trustee has the discretion to pay more, if necessary.