What's this – surely not another mistake/Hastings-Bass briefing from those people at Walkers? Well, yes, but in our defence, there have been several judgments from the Royal Court on this topic in the last few months, and if anything, it underlines our previous observation that this is a helpful regime for trustees, settlors and beneficiaries. Also, this particular case involves an error by a settlor in establishing a new trust, rather than by a trustee in relation to its administration of an existing one. The relevant statutory provisions are different, even if relief will often be available in both cases. The purpose of this note, therefore, is to briefly illustrate how settlors who find themselves in difficulty can seek to unravel the creation of their trusts.
The salient facts are as follows:
- the settlor was a successful Greek entrepreneur who was neither resident nor domiciled in the United Kingdom;
- for succession purposes, and following discussions with his private banker, he wished to establish a trust;
- a part of the assets he wished to settle into trust comprised funds held in a Eurobank account in Luxembourg;
- the settlor no longer wished to use that particular bank for those funds;
- the private banker therefore arranged for a new account to be opened for the settlor in order that the settlor could then transfer the funds from that account to the trustee of the new trust;
- the new account was opened for the settlor through the London office of the bank; and
- the settlor then made a number of transfers into the trust from his London bank account, as well as transferring a portfolio of investments.
Anyone familiar with UK personal taxation will have spotted the impending disaster half way down the above list: by virtue of the location of the branch of the bank, the assets in the account were UK-situs assets, leading to a charge to UK tax on their settlement into the trust (principally, a 20% entry charge for Inheritance Tax purposes and exposure to future exit and ten-yearly charges). This was inadvertent. The settlor had assumed that if any tax advice was needed, he would have been told, and he had no reason to believe that there were any potential tax consequences that were not being addressed. As Commissioner Clyde-Smith said in his judgment:
"It follows from this that not only was the setting up of his London bank account completely unnecessary, but it gave rise to UK tax liabilities that were entirely avoidable by the simple expedient of the representor simply making the transfers directly from his account with Eurobank."
Some of the investments in the portfolio were similarly affected by this issue, as they comprised shares in (or bonds issued by) UK-resident companies.
The settlor therefore applied to have either the trust itself or his dispositions to it set aside on the grounds of mistake, due to the unintended Inheritance Tax liabilities that arose as a result.
The settlor brought his application under Articles 11 and 47E of the Trusts (Jersey) Law 1984. A key difference between these two regimes is that Article 11 allows a trust to be set aside entirely where it can be shown that it was established due to mistake, whereas Article 47E allows a disposition into a trust to be set aside on similar grounds.
It is also true that the relevant tests to be applied are worded slightly differently and that a mistake application pursuant to Article 11 draws more in its application from existing case law whereas Article 47E has the benefit of some guidance at Article 47B, which explains that a "mistake" can include a mistake as to the effect, consequences or any advantage to be gained by the disposition in question. That said, these other differences are unlikely to be material. As Commissioner Clyde-Smith pointed out:
"Whilst there may be a fine distinction between the test under Article 11 and the test under Article 47E, they are, for these purposes, the same".
The test traditionally applied for the purposes of Article 11, which the Commissioner had noted was the same in substance, even if not word-for-word, as that set out in Article 47E, was summarised in Re Lochmore Trust  JRC 068 and settled in Re S Trust  JLR 375. The Court must ask itself the following questions:
- was there a mistake on the part of the settlor;
- would the settlor not have entered into the transaction "but for" the mistake; and
- was the mistake of so serious a character as to render it unjust on the part of the donee to retain the property.
The court had no difficulty in making out the requirements of the test. Clearly, the settlor had made a mistake as to the tax consequences of the transfers that he made. No-one in his position would intentionally create a tax liability in a jurisdiction in which he was neither resident nor domiciled when there was no reason to do so. And as the Commissioner went on to say:
"The advice given to him at a meeting in the presence of two London bankers and a representative of [the trustee] that he should make the transfers from a newly created account in London seems inexplicable."
The court had more to say about the third limb of the test. It appears that the settlor, in signing the relevant paperwork provided by the bank and the trustee, had confirmed both that he did not have any professional advisers but also, somewhat contradictorily, that he had taken appropriate advice as to the effect of settling his assets into the trust. The settlor had not in fact taken any tax advice, and if he had done, the mistake might well have been avoided.
The question arose for the court, therefore: should the settlor and the other beneficiaries suffer the consequences of his failure to take tax advice? The court thought not, for two reasons. Firstly, the forms and letters had been drafted by one of the bank's entities to protect its own position and the position of the trustee. Secondly, it was not unreasonable for the settlor to have relied on the professionals involved, who were experienced in creating such trusts, to flag up the potential tax issue. This was especially true since they had positively recommended that the transfers into the trust should be routed through a new account with the London branch of the bank.
The court then considered whether the appropriate remedy was to unravel the whole trust (under Article 11) or just those transfers to it of UK-situs assets that had given rise to the tax liability (under Article 47E). The settlor, supported by the other beneficiaries, indicated a preference that the whole trust should be set aside. The court was willing to make an order to that effect, saying that, looking at the arrangements for the trust in the round, it considered that the same mistake operated on the mind of the settlor in relation to the creation of the trust and the subsequent transfers to it, the bulk of which took place within a few months of its creation.
The effect of the court's decision was that the trust was voided ab initio, that is, treated as if it had never existed and that the trust fund had at all times been held on bare trust for the settlor. The corollary of that was that the trustee could not rely on the terms of the trust documentation to justify its remuneration and the reimbursement of its costs and expenses. Nevertheless, the court did allow the trustee to retain the remuneration and reimbursement of costs and expenses it has already received and to continue to charge reasonable remuneration and reimburse itself for all costs and expenses reasonably incurred up to the date of the declaration of invalidity. This was permissible by virtue of Article 26 of the Trusts (Jersey) Law 1984 but also, in any event, by virtue of the court's inherent jurisdiction, given that the trustee had acted in good faith in administering the trust.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.