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Setting aside trusts on the grounds of mistake as to tax consequences – S & T Trusts

Case briefing

This briefing concerns the recently published judgment of the Royal Court of Jersey In the matter of the S Trust and the T Trust [2015] JRC259.

Key points from case:

  • Royal Court has once more considered an application to set aside a disposition into trust on the grounds of a mistake related to tax consequences.
  • Relief was granted by a ‘small margin’ on the basis that the families involved had suffered enough and should not face the possibility of further litigation.
  • The judgment suggests there is a distinction between the test applicable to Article 11 applications to set aside a trust as a whole and Article 47E applications concerning specific dispositions into trust.

Case background

This briefing concerns the recently published judgment of the Royal Court of Jersey In the matter of the S Trust and the T Trust [2015] JRC259.

This case is a little more interesting than just another example of the Court setting aside a trust on the grounds of mistake under Art.11 of the Trusts Law, following the well-established test confirmed in Re Lochmore Trust [2010] JRC068.

Further consideration was given to the relationship between Art.11 (said to address mistakes relating to the trust as a whole) and Art.47E (introduced by the Trusts (Amendment No.6) (Jersey) Law 2013, and addressing only dispositions to a trust).

The test for mistake: Article 11 vs Article 47E

Art.11 is concerned with the validity of trusts. Amongst other things, it provides that a trust is invalid to the extent the Court declares it was established by mistake.  In order to determine whether there was a mistake in this context, the Court will follow the established judicial test:

  1. Was there a mistake on the part of the settlor?
  2. Would the settlor not have entered into the transaction but for the mistake?
  3. Was the mistake of so serious a character as to render it unjust on the part of the donee to retain the property?

A number of cases have come before the Court where, applying the judicial test, it has granted relief from mistakes as to the tax consequences of establishing a trust.

Art.47E on the other hand comes under a section of the Trusts Law concerned with the powers of the Court in relation to trusts. Specifically, it creates a statutory power to set aside a disposition to a trust due to mistake. It also sets out a statutory test for the exercise of that power, which if the mistake is made by a settlor, can be summarised as follows:

  1. Was there a mistake on the part of the settlor in relation to the transfer or other disposition of property to a trust?
  2. Would the settlor not have made that transfer or other disposition but for that mistake?
  3. Was the mistake of so serious a character as to render it just for the court to make a declaration that the disposition is voidable?

You can see that parts 1 and 2 of both tests are the same.  The only real difference between the statutory test at Art.47E and the judicial test applied for the purposes of Art.11, is at item 3, where the question of what is ‘just’ is reversed.

The Courts have struggled with the application of these two tests, mainly because in order to establish a trust (where Art.11 would seem to be relevant) there needs to be a disposition of property (where Art.47E would seem be relevant), so in many cases the two acts are linked.

Previously the Court has dealt with the problem in three ways:

  1. by finding that the provisions of Art.11 (i.e. questions of validity) fall to be considered separately from the application of the Court’s powers;
  2. by being comforted in accepting the above ‘theoretical or illogical’ distinction (as it was described in Re the Robinson Annuity Investment Trust [2014] JRC133), by the fact that the test to be applied by the Court is identical whether the matter is considered under Art.11 or under Art.47E, despite the different wording of the 3rd limb; and
  3. in a case where it might be said that the trust is valid but a mistake was made in relation to a later disposition (e.g. where the trust was established with a nominal sum initially), by looking at the arrangements ‘in the round’ and continuing to apply Art.11 where it would be inconceivable that the trust itself would have been settled had there been any contemplation that the further disposition later would not have been made (in other words the two acts are ‘inextricably linked’).

It seems that the Court’s approach to (b) may have changed following a suggestion in Re S & T Trusts that the tests are not identical.

The mistake in Re S & T Trusts

Re S & T Trusts is another case involving bad advice given to prospective settlors leading to the establishment of trusts for the purposes of minimising liability to inheritance tax.

It concerned Representors who had been advised on the details of a scheme to enable them on their deaths to pass on their UK property to their children, free of inheritance tax.

The basic structure of the scheme was that the Representors would borrow from a bank whose lending would be secured by a mortgage over their property. The borrowing would be interest only and rolled up until the death of the Representors. The borrowed sum would in whole or in part be transferred to an offshore trust for the trustee to invest on low risk investments. This was said to have the effect of reducing the value of the estates for the purposes of inheritance tax.  It transpired that the advice was wrong and the fiscal consequences of the scheme would be a ‘disaster’.

The Court’s decision

With all parties convened, including HMRC which on this occasion took the opportunity to make written representations, the Court found that no matter which test is applied, there was a relevant mistake of sufficient gravity to enable it to grant the relief sought and test aside the trusts.

The case appears to have been decided on the basis of Art.11 and therefore the judicial test for mistake. We say ‘appears’, because whilst the judgment is not clear on this point it does show that the Court, following the approach at (c) above, found the establishment of the trusts and the later disposition of assets to have been inextricably linked.  In any event, the Court found that the outcome would be the same no matter which jurisdiction was being invoked.

It is worth noticing that relief in this case was granted only by a ‘small margin’.  This was because the Representors were protected from any financial loss by an indemnity from the bank involved. The Court was primarily concerned therefore not with financial loss to the Representors, but with the stress of ongoing litigation.

Comments on Art. 11 vs Art. 47E

In its judgment the Court discussed the distinction between the tests applicable to Art.11 and Art. 47E and commented that the two tests potentially focus on different questions:

“It appears to us that there is potentially this difference between the statutory and the judicial tests – the judicial test, in requiring the Court to consider whether it is unjust on the part of the donee to retain the property, seems to us to contemplate that the Court is measuring justice by reference to the position of the donee – is it just for the donee to retain the property in the circumstances of the mistake?  The focus of the statutory test, by contrast, is whether it is just for the Court to make a declaration that a disposition of property to a trust is voidable with some or no effect as the Court determines because of a mistake made by the donor.  These are very fine margins, and whilst we agree that in most cases the result of the statutory and the judicial tests will be the same, we are not sure that there will not be some factual circumstances which might make the distinction between the two tests relevant.”

We shall have to wait and see how this analysis is developed. Does it have the potential to disturb the comfort offered by the approach at (b) above, which has been useful so far in addressing the difficulties arising from the drafting of the legislation? Might it cause particular difficulty in a case where the establishment of the trust and the relevant disposition are so far apart that Art. 47E clearly applies? In such a case, the Court may need to determine what is just by balancing the seriousness of the donor’s mistake against more than merely the donee’s position. Perhaps this is where HMRC might find a stronger voice.

Viberts can provide corporate and individual clients with swift and cost effective advice on Jersey law aspects of contentious and non-contentious trust matters. Our lawyers advise trust companies as well as directors, managers and private clients with interests in such issues.

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