How Smart Litigants and Unhappy Beneficiaries Make Millions

Suing trustees has become an industry in its own right, as has advising and sometimes defending trustees, which we have also done for nearly as long as we have been suing trustees.

There are some major pitfalls for trustees which, unless they are properly advised by Sinels or an equivalent firm, they will fall in. Alternatively, once they have got themselves into a poor position, with the help of expensive advisors they keep digging until the hole collapses in on them. We have seen this many times.

The same rules apply to an action against the trustee as any other action; namely front end load is key (meticulously gathering lawfully obtained information and documents from both open and closed sources), getting the factual foundations straight, looking for and assembling a team of experienced specialised advisors (Sinels term these ‘Pre-Action 101s’) in the usual way but with some alterations.

There are some peculiarities in this type of litigation which do not apply elsewhere which we will highlight later in this article.

Most cases involving beneficiaries and trustees are actions against trustees by disaffected beneficiaries. This is not, however, wholly conventional litigation between arms-length parties.

The relationship of trust, and the rights of beneficiaries are too often overlooked, and in terms of gaining restitution, too often underutilised.

The key to the relationship lies not only in its description but in its definition. A trust exists “when someone holds an asset for someone else”. There are many other legal definitions, sometimes of greater complexity, but that is the foundation of the existence of a trust in law.

Trusts have been recognised by law for hundreds of years. Accordingly all common law jurisdictions have seen the evolution of rules and regulations that govern the flow of information, accountability, and payment.

At this stage it is worth mentioning that although trust law originated in England, both as a concept and as an actuality, the offshore centres have more advanced case law and statutes because trusts have been formed in such huge numbers offshore in order to avoid tax onshore.

In basic terms, trustees are paid money for safeguarding the assets. In return they must safeguard and enhance the assets and the flow of information about the assets must be given to the beneficiaries. The core relationship is normally contained in a trust instrument which sets out the powers and duties of the trustee – in practice offshore, the trust instruments are often much of a muchness and they are nearly all expressed as being discretionary.

Why are offshore trusts expressed as being “discretionary”? What does it mean? Decades ago offshore the idea was hatched that instead of saying that a trust was, for example, for Mr A and then his children, instead the declared beneficiary was a charity with the trustee having a discretion to add beneficiaries and then give them money. The idea being that the beneficiaries could not be taxed on what they had no formal entitlement to and likewise same could not be attacked by creditors. These arrangements, of which there are many, need at least a nod and a wink between trustee, settlor and beneficiaries to operate. There is a tension between the formal tax position, that the assets are owned by an offshore corporation, and the expectations of the person or family which originally settled the trust.

Not unnaturally HMRC and other similar bodies eventually came to take a dim view of this and reacted accordingly.

Before dealing with what beneficiaries can do about it once it has gone wrong, it is worth outlining the circumstances under which the relationship does go wrong leaving the beneficiaries aggrieved. We have encountered at least the following scenarios on several occasions.

Wrapper for the Patriarch’s Affairs

A common scenario is for a wealthy businessman to put a trust and companies over the top of his trading operation – a trading operation sometimes supported by the trustee’s parent bank.

There are obvious conflicts here before you start as the trustee’s parent, in order to get paid, may need to squeeze assets out of the trust or it may seek to tie the trust into exclusive agreements by way of loans or investment advice when the trust’s affairs would do much better if arms-length lenders and advisors had been used.

These situations are fraught with potential difficulties, particularly as soon as any form of financial adversity or pressure arises.

The other problem which arises in these situations is that the trustee and its parent regard the patriarch as their ‘client’ and ignore the legal position, namely of duties to protect the trust assets for the benefit of allthe beneficiaries. Trouble often breaks out towards the end of the patriarch’s life when the second generation start taking a good look at what has happened to the trust assets – they often criticise the trustees for being overly indulgent and not adding what the trustees are supposed to add, namely an objective and prudent set of controls, with a view to preserving and enhancing the trust assets.

A trustee’s duty is to act as would a prudent proactive businessman relative to the trust assets. There are other more complex definitions but that is an adequate definition for present purposes.

Wrapper for Bank or Investment House’s Sales Team

An unfortunate scenario arises when the trustee is owned by a bank or investment house. The motivation for the acquisition of the trust company at the outset not being to provide trustee services for well deserving beneficiaries but to acquire a wider client base for the sale of its own products, normally banking plus investment advice. No need to market; shoot the fish in the barrel.

We have spoken to people in this industry who have told us that on day one, inside their erstwhile privately owned trust company, they automatically conducted beauty parades, i.e. gathered comparables for services to the trust structure, particularly investments. On day two, post-sale, no one was allowed to meet a client without taking a private banker with them, the idea being that the private banker would sell the bank’s services.

When, as often happens, losses occur in this sort of scenario the trustee which has an obvious and inherent conflict of interest starts from a very difficult position.

Portfolio Losses

These happen rather too often inside trust structures either as a result of the use by the trustee of its own products, which are simply the wrong products (ordinarily when the trust is being forced into parent’s own products) or where there has been over delegation or non-scrutinisation of the activities of the investment advisor, particularly arms-length investment advisors.

A trustee providing its own investment advice for which it is not qualified, is obviously going to be sued as soon as the loss occurs, hence very few trustees are daft enough to do it these days, not least of all because their underwriters discourage such behaviour.

Fraud

Mercifully rarer these days but it does still happen. Notably when a conflicted trustee ‘helps’ two clients involved in the same transaction. Historically, we have litigated some of these, in one case the bank manager (bank owned the trustee) gifted the client’s family trust assets to a friend of his, more recently we saw a Jersey trustee actively assisting one client to defraud another for a very significant sum of money.

It Is Not Yours

We have not seen this run as a defence for a long time. In the seventies the trustee says to the beneficiaries, sorry, this is a discretionary trust, you have not been formally appointed as beneficiaries, which only we have the right to do so we are not going to put you in a position to criticise us, so go away. About 25 years ago in a case where we acted for the Plaintiff beneficiaries of the “W Family Trust” the trustee started by saying that as it was a discretionary trust Mr W and his children had no enforceable rights. The Court took a dim view and no trustee that we know of has run it successfully since. Although some have verged on going there by using the wording (never seen or understood by their client) of the Trust Instrument as a defence to a legitimate action for breach of trust.

Partiality

Trustees are subject to the terms of the trust and are supposed to remain impartial and neutral towards all of the beneficiaries. In practice it is human to know and like one side better than the other and then to take decisions accordingly, leading to actions by the aggrieved parties.

Solutions (Leaving on one side the normal litigation basics)

1.0 Client beneficiaries can and should exercise their rights to full accounts promptly provided (in this day and age that should be automatic but often it is not). We recently litigated against a trustee (owned by a bank) which could not produce accounts; they had to be completed by the replacement trustee.

2.0 Ask for documentation. A lot has been said and written on the subject of beneficiaries’ rights to documents. Fundamentally, trust documents belong to beneficiaries and they are entitled to sufficient knowledge to hold the trustees to account.

3.0 There is no need to accept the accounts as drawn, they can be queried and supporting documentation sought – all accounts are notoriously inaccurate in that they rely on accounting conventions, e.g. cost or real valuations are sometimes needed.

4.0 Preferably in correspondence, ask for explanations of actions. If the trustee delays, obfuscates, or fobs off, then in some ways this can actively assist in the long term.

5.0 Invoke the support and assistance of others in the same position, there may be strengths in numbers.

6.0 Sack the trustee. If beneficiaries have good reason to doubt the bona fides, competence, or capability of the trustee, the threshold for replacement may be relatively low.

7.0 Choose your incoming trustee with care – there are good ones and bad ones – a good incoming trustee will take, very seriously, its duties to:

7.1 examine carefully what its predecessor has done;

7.2 interrogate as appropriate its predecessor;

7.3 inform the beneficiaries of its findings; and

7.4 in appropriate circumstances, take action against its predecessors to restore the trust fund.

8.0 A competent replacement trustee can be a well-heeled and very well informed ally.

9.0 The disaffected beneficiary should now be in a position to take fully informed and documented advice on available rights of action having made use of his or her rights to information about what are, in reality, in whole or in part, “their” assets.