Abstract
Private and charitable trusts hold trillions of dollars in assets. Trustees manage, invest, and distribute these assets, subject to fiduciary duties, including the duty of loyalty and prudence. But the remedies for fiduciary breach, and their justifications, are convoluted. The conventional view, especially in law and economics, is to characterize most fiduciary relationships, including trusts, as contractual and most fiduciary duties as implicit contract terms. One might suppose, then, that the optimal remedy for fiduciary breach would be the same as the usual remedy for contractual breach: damages. But the traditional equitable remedies in fiduciary law, and modern remedies in trust law, allow a plaintiff to elect either damages or disgorgement. Moreover, historically, punitive damages were unavailable for breach in both contract and fiduciary law. Yet, some courts now allow punitive damages for a fiduciary breach that is "egregious."
Applying insights from optimal deterrence theory and the agency costs theory of trusts, this Article analyzes remedies in trust and fiduciary law. It argues that disgorgement and punitive damages serve distinct functional purposes and that both remedies may be necessary to serve the deterrence and disclosure functions of fiduciary law. Specifically, if there is no possibility that the trustee might escape liability, the optimal remedy would be an election of damages or disgorgement. Damages deter self-dealing and conflicts of interest if the harm to the beneficiaries exceeds the gain to a trustee. If the gain to the trustee exceeds the harm to beneficiaries, disgorgement is necessary to deter breach and encourage disclosure. Rather than allowing a trustee to breach and pay damages, a trustee must disclose any potential gains and obtain approval from the beneficiaries, whom the settlor has effectively selected as the residual claimants.
However, if a trustee may escape liability, the optimal remedy also may include an election of punitive damages or punitive disgorgement. Given asymmetric information, it is difficult for beneficiaries to detect breach. A total damages multiplier, equal to the inverse of the probability of escaping liability, forces a trustee to internalize the harm by paying average damages equal to expected harm. Moreover, if an election of remedies is optimal, there is a justification for punitive disgorgement. Under this remedy, a court would not only strip ill-gotten gains but also use a punitive multiplier to ensure that a trustee disgorges the full gain by paying average disgorgement equal to the expected benefit.
Disgorgement and punitive remedies thus play a dual role in deterring opportunism in trust law, fiduciary law, and other situations in which the law may seek to strip a defendant's ill-gotten gains and there is also a significant possibility that a defendant may escape liability.