What is the Prudent Investor Act?

Mary McMahon

The prudent investor act is a piece of sample legislation drafted by the American Law Institute and adopted by most of the United States to provide guidance for people acting as trustees. Also known as the Uniform Prudent Investor Act, in individual states it may be known as an act or a rule, and the text of the legislation varies slightly in some cases to address state-specific issues. This legislation is an example of common law drafted in plain, clear language with the goal of creating uniform and standardized law for easy adoption by individual states.

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Businessman giving a thumbs-up

The prudent investor act spells out the fiduciary duty of people acting as trustees, reminding them that because they are trusted with the assets of others, they are held to a high standard of behavior. Investments made on behalf of trust beneficiaries must be prudent and the trustee must be able to document how the trust is used and when decisions are made on behalf of the trust.

Under the prudent investor act, performance of assets in a trust is based on the portfolio as a whole, not individual assets. This reflects the portfolio approach to management, where individual investments may fail or under-perform, but the portfolio as a whole may remain strong as long as good investment decisions are made by the trustee. Diversification of investments is also mandated under the prudent investor act, to prevent over-investment in specific areas and the accompanying risks of losses.

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In states where this legislation has been adopted, trustees are subject to the clauses of the prudent investor act as set out in a given state. Information about this and other laws potentially having an impact on how people manage funds and financial accounts is usually provided during training courses to prepare people for service as trustees. In addition, people may have to demonstrate knowledge of the law on licensing exams. People who are not licensed cannot practice legally and people are usually encouraged to seek out licensed professionals to oversee management of their assets.

The prudent investor act is intended to protect people who place assets in trust. Trustees can oversee a wide variety of assets from mutual funds to the individual assets of a family trust intended to supply family members with money for living expenses, college tuition, and other costs. Losses caused by imprudent management can be grounds for legal penalties, depending on the nature of the mismanagement.

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