A power of appointment is the power given to someone to allow that person to designate who will receive property or an interest in property. The creator of the power is called the donor, the individual having the power is the powerholder, and the possible recipients of the property are permissible appointees.
Powers of appointment used for estate planning have many variable forms. The powerholder may hold the power in a fiduciary capacity (such as the trustee for a trust) or nonfiduciary capacity. The power may be presently exercisable by the powerholder or may be exercisable only in the future, such as by the powerholder’s will. The powerholder may or may not be the creator of the power. There may be multiple powerholders who must act jointly or a single powerholder. The persons in whose favor the power may be exercised may be unlimited, including the powerholder (sometimes called a general power of appointment), or may be limited. The beneficial interests that may be created in the appointees in whose favor the power may be exercised may be unlimited or limited. Various legal consequences in regard to powers of appointment will be affected by the restrictions imposed on the powerholder.
The trustee of a trust, a common type of powerholder, may be given discretion by the donor to invade principal for a life income beneficiary or for some other person, or discretion to pay income or principal to a named beneficiary, or discretion to allocate income or principal among a defined group of beneficiaries.
In short, the discretion given to the trustee gives the trustee the power to designate beneficial interests in the trust property as future developments indicate. This discretion in the powerholder underscores the primary advantage of using powers of appointment— they provide flexibility to adjust an estate plan to deal with circumstances that may arise years, or even decades, after the estate plan is created. The flip side to this flexibility is the power of appointment’s main disadvantage for some—it means that the donor must give up some control over the ultimate disposition of assets in the estate.
There are other potential ramifications for powers of appointment that should be taken into account. For example, assets subject to a general power of appointment will be included in the estate of the powerholder, which could create unfavorable tax consequences. In addition, an improperly exercised limited power of appointment may become a general power of appointment under the law. All in all, whether to use a power of appointment and, if so, with what characteristics, are questions best answered with the advice of a lawyer well versed in estate planning.