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University of Otago Law Theses and Dissertations |
Last Updated: 20 September 2023
“Don’t ask me, it was the trust”:
Rebalancing the rights to distributions between creditors and beneficiaries of trading trusts.
Josh Hayes
A dissertation submitted in partial fulfilment of the degree of Bachelor of Laws (Honours) at the University of Otago – Te Whare Wānanga o Otāgo
4th October 2019
Acknowledgements
To my supervisor, Professor Struan Scott, for your endless patience and enthusiasm for this topic. Your wisdom and guidance has been invaluable and I cannot thank you enough. I must also thank you for your teachings, in helping to inspire a passion for commercial law.
To my mother, Linda, your generosity has never gone unnoticed. And my sister, Jess, thank you for your shared love of law and being there for me at every step.
To all my friends, near and far, thank you for making this journey unforgettable.
“... in my judgment it is any event wrong to lift wholesale the detailed rules developed in the context of traditional trusts and then seek to apply them to trusts of quite a different kind. In the modern world the trust has become a valuable device in commercial and financial dealings. ... it is important, if the trust is not to be rendered commercially useless, to distinguish between the basic principles of trust law and those specialist rules developed in relation to traditional trusts which are applicable only to such trusts and the rationale of which has no application to trusts of quite a different kind.”
Target Holding Limited v Redferns [1995] UKHL 10; [1996] AC 421 at 435 per Lord Browne-Wilkinson.
Table of Contents
Introduction
There is nothing novel in a trustee operating a business. Prompted by perceived advantages however, such as tax mitigation,1 a uniquely Australasian development2 is the ‘trading trust’. Its key distinguishing feature is that the office of trustee is taken by an incorporated limited liability company with few, if any, assets of its own; all assets appeared to be owned by the company are held on trust.3 Typically, the beneficiaries are discretionary beneficiaries.4 The end result is an amalgam of the inherent flexibility of the trust concept,5 and the advantages of a distinct legal personality and limited liability offered by a company.6
From the perspective of the beneficial owners, trusts provide insulation from trust debts; that is the trustee’s responsibility.7 Trust law developed with an expectation of a responsible (more typically) individual acting as trustee.8 Parties dealing with the trustee(s) had the comfort of their personal and unlimited liability (unless expressly
1 GE Dal Pont, Equity and Trusts in Australia (6th ed, Pyrmont, New South Wales, 2015) at 695; Levin v Ikiua [2009] NZHC 879; [2010] 1 NZLR 400 (HC) at [102]; New Zealand Law Commission, Court Jurisdiction, Trading trusts and other issues review: fifth issues paper (NZLC IP28, 2011) (“fifth issues paper”) at [6.13]-[6.15];
H.A.J. Ford and I.J. Hardingham “Trading Trusts: Rights and Liabilities of Beneficiaries” in Finn, Equity and Commercial Relationships (Sydney: Law Book Company, 1987) 48 at 50; BH McPherson “The Insolvent Trading Trust” in PD Finn (ed) Essays in Equity (Law Book Company, Sydney, 1985) 142 at 142.
2 North America has seen the ‘business trust’ or ‘Massachusetts trust’ which is similar to the trading trust but has only found ‘occasional popular appeal’: Robert D Flannigan, “The Nature and Duration of the Business Trust (1982) 6 Est & Tr Q 181 at 181; In the UK the using of a trust to carry on an active business has been described an unusual: Lynton Tucker, Nicholas Le Poidevin and James Brightwell (eds) Lewin on Trusts (19th ed, Sweet & Maxwell, London, 2015) at [36-107].
3 Levin v Ikiua (HC), above n 1, at [97]. There is no statutory definition of the trading trust and definitions can take a more wide or narrow stance. See for instance: NZLC, fifth issues paper, above n 1, at [6.6]- [6.10].
4 Levin v Ikiua (HC), above n 1, at [100].
5 Donovan Waters “The Trust in a Changed and Yet Changing World” (2008) JITCP 205 at 230.
6 NZLC, fifth issues paper, above n 1, at [6.14].
7 Farhall v Farhall [1871] UKLawRpCh 128; (1871) L.R. 7 Ch App 123 at 126.
8 Commissioner of Inland Revenue v Chester Trustee Services Ltd [2002] NZCA 258; [2003] 1 NZLR 395 (CA) at [63].
excluded in the contract).9 In turn, the trustee’s personal liability was tempered by a right of indemnity out of trust assets.10 Judicial recognition that the trustee’s right of indemnity could be subrogated to trust creditors provided additional reassurance and means of recovery where personal liability was not adequate.11
In the context of the trading trust, however, a risk for creditors is the imposition of an asset-poor corporate trustee, but which may appear to have control over significant assets.12 The personal liability of the trustee is effectively nullified by the use of an asset- less company. In this context, subrogation to the trustee’s right of indemnity is crucial,13 but, as shall be seen, easily defeated – for example, as a result of equity’s protection of beneficiaries from trustee misfeasance.14
9 Trusts Act 2019, s 81 (coming into force 1 January 2021); Re Graham, Pitt & Bennett (1891) 9 NZLR 617. Clear words will be needed to exclude the trustee’s personal liability: Muir v City of Glasgow Bank (1879) 4 App CAS 337; Re Robinson’s Settlement [1912] UKLawRpCh 40; [1912] 1 Ch 717 at 728-9; Helvetic Investment Corp v Knight [1982] 7 ACLR 225 at 228.
10 Trusts Act, s 81; Worrall v Harford [1802] EngR 342; (1802) 8 Ves 4, 8; [1802] EngR 342; 32 ER 250, 252; Re Johnson [1880] UKLawRpCh 214; (1880) 15 Ch.D. 548. 11 Re Johnson, above n 10; McPherson, above n 1, at 150; Tucker, Poidevin and Brightwell (eds), above n 2, at [21-38]; Daryl R Williams “Winding up Trading Trusts: Rights of Creditors and Beneficiaries” (1983) 50 ALJ 273 at 275; Nuncio D’Angelo “The Trust: Evolution from guardian to risk-taker, and how a lagging insolvency law framework has left financers and other stakeholders in peril” (2009) 20 JBFLP 278 at 289; Australian Law Reform Commission, General Insolvency Inquiry (No 45) (Canberra: Australian Government Public Service, 1988) at 249.
12 H.A.J. Ford “Trading Trusts and Creditors Rights” [1981] MelbULawRw 1; (1981) 13(1) MULR 1; NZLC, fifth issues paper, above n 1, at [7.1]; Kalev Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis” (2011) 17 Trusts and Trustees 185 at 190; Williams “Winding up Trading Trusts: Rights of Creditors and Beneficiaries”, above n 11, at 279; Kalev Crossland “Trading Trusts” in Paul Heath and Michael Whale (eds), Insolvency Law in New Zealand (3rd ed, Lexis Nexis NZ Limited, Wellington, 2018) at [46.4].
13 Ford and Hardingham, above n 1, at 50.
14 Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 186; Alastair Hudson “The Regulation of Trustees” in Martin Dixon and Gerwyn Griffiths, Contemporary Perspective on Property, Equity, and Trust Law (Oxford: Oxford University Press, 2007) 163 at 168-173; Donovan Waters, ‘Convergence in Divergence: Civil and Common Law’ in D Hayton (ed), Extending the Boundaries of Trusts and Similar Ring-Fenced Funds, (Kluwer Law International, The Hague 2002) 59 at 78.
This dissertation explores the ability of the trading trust to disadvantage its creditors.15 The Companies Act 1993 (“the Act” or “CA”) offers some avenues of relief for the creditor. For example, the potential of recovery from the trustee’s directors for breach of directorial duty (assuming, of course, there is a breach),16 or a payment to a creditor contrary to the Act’s ‘voidable preference regime’.17 But while the Act protects creditors from distributions of company property at a time when the company is insolvent – through the conferral of a right of recovery against the shareholders,18 this regime is restricted to company property, not trust property.19 The vulnerability of trading trust creditors to distributions is reinforced by case law which suggests that the corporate trustee is free to distribute trust property to beneficiaries, without the beneficiaries being personally liable for repayment (barring claims such as dishonest assistance or knowing receipt).20
Although trading trusts are functionally and economically similar to companies in undertaking various forms of business,21 the result is that creditors of trading trusts are at a disadvantage when compared to ordinary company creditors, based on the lack of a distribution regime. If full recovery from the directors is not possible, creditors confronted by an insolvent corporate trustee are reliant upon subrogation to the trustee’s right of indemnity. This is a derivative right22 and may have been rendered valueless by
15 Reference to the trust creditor, trading trust creditor or other similar terminology is short hand for contracting with a party in their capacity as trustee. As a trust is not a legal entity, the party contracts with the trustee personally.
16 Paul Heath “Bringing Trading Trusts into the Company Line” (2010) 3 NZLR 519 at 537-539. For instance, NZ Natural Therapy Ltd (in liq) v Little [2017] NZHC 1416.
17 Companies Act 1993, ss 292-296; Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 533-536 citing Anzani Investment Ltd v Official Assignee [2008] NZCA 144 affirmed in McIntosh v Fisk [2017] NZSC 78, [2017] 1 NZLR 863.
18 Companies Act, s 56.
19 Levin v Ikiua (HC), above n 1, at [108].
20 Levin v Ikiua (HC), above n 1, at [134]-[135].
21 Waters, above n 14, at 78; Nuncio D’Angelo “the trust as a surrogate company: the challenge of insolvency” 3 J Eq (2014) 299, at 305.
22 Ex parte Edmonds [1862] EngR 473; (1862) 4 De GF & J 488 at 489; Re Firth [1902] UKLawRpCh 8; [1902] 1 Ch. 342 at 346.
way of distributions of trust property to beneficiaries, which reduces the trust assets that a creditor may have redress to.23
Equity may yet provide relief for the creditor. In Re Diplock24 the House of Lords recognised, albeit in the context of the administration of deceased estates, that recipients of a wrongful distribution of property may become personally for repayment. It may be possible to persuade a New Zealand court to extend this remedy to creditors of a trading trust.25 Although it is submitted that the reasoning in Diplock is just as applicable to trusts, statutory reform through the incorporation of Diplock into the Trusts Act 2019 (“TA”) is preferable; thereby reducing uncertainty in the law and saving unnecessary litigation.26
Chapter One outlines trust law principles regarding the position of creditors and creditor remedies.
Chapter Two reviews the application of these principles to creditors of a trading trust. It highlights the additional risks an asset-less corporate trustee poses for the creditor (even more so as the creditor may believe they are engaging with a traditional company).
23 For instance, Levin v Ikiua (HC), above n 1, at [94]; Burns v Leda Holdings Pty Ltd [1988] 1 Qd R 214, 89 FLR 365; Ron Kingham Real Estate Pty Ltd v Edgar [1999] 2 Qd R 439. Identified as a problem in Jeff Jenny and Jared Ormsby “Trading Trusts” in Andrew S Butler (ed), Equity and Trusts in New Zealand (2nd ed, Thomson Reuters, Wellington, 2009) 415 at 463 and Lynne Taylor and Grant Slevin, The Law of Insolvency in New Zealand (Wellington, New Zealand: Thomson Reuters, 2016) at 1190.
24 Re Diplock; Diplock v Wintle [1948] Ch 465 affirmed by the House of Lords in Ministry of Health v Simpson [1951] AC 251; (1950) 2 All ER 1137. Reference to this case and line of authority will be to Diplock as is common in most texts.
25 Courts and academics have considered the extension of Diplock outside the administration of estates: Ron Kingham Real Estate Pty Ltd v Edgar, above n 23; Butler v Broadhead [1974] 3 WLR 27; Re J Leslie Engineers Co Ltd [1976] 2 All ER 85; [1976] 1 WLR 292; Halsbury’s Laws of England (5th ed, 2019) vol 98 Trusts and Powers at [692]; Halsbury’s Laws of Australia (reissue, 1995) vol 27 Trusts at [430-5630]; J.
D. Heydon and M.J. Leeming, Jacobs’ Law of Trusts in Australia (7th ed, Sydney: LexisNexis Buttersworths, 2006) at [2320]; HAJ Ford & WA Lee, Principles of the Law of Trusts (2nd ed, Sydney: Law Book Co, 1990 at [1730]; Robert Goff and Gareth H. Jones, The Law of Restitution (7th ed, London: Sweet & Maxwell, 2007) at [30-002]-[30-003].
26 The Queensland legislature has done this: Trusts Act 1973 (Qld), s 113.
Chapter Three reviews key provisions in the Act designed for creditor protection. Some, such as the duties of a director, are able to meet some of the challenges of the trading trust, but the lack of a statutory regime to recover distributions of trust property from the recipient is a fundamental lacuna in the law.
Chapter Four seeks to remedy this gap. It will be demonstrated that the reasoning in Diplock is applicable to trusts and trading trusts, and can provide the creditor with a direct personal claim against the recipient beneficiaries.
The fifth and final Chapter considers statutory reform (and the advantages thereof) of regulating distributions of trust property.
While still a trust, the trading trust is a fundamental departure from the traditional trust,27 to which the law should respond. Traditional trust law principles are inadequate in dealing with the trading trust. So too, while the distribution regime is a key deployment in the Act in offering protection against insolvent distributions,28 it offers no protection for trading trust creditors. The result is that the trading trust creditor is more vulnerable to loss than either the creditor of the traditional trust with its human trustee(s) and creditors of traditional companies. There is no reason for this.
27 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 302; Taylor and Slevin, above n 23, at 1188.
28 New Zealand Law Commission, Company Law Reform and Restatement (NZLC R9, 1989) at [330]; Neil Campbell “Distributions” in Peter Watts, N. R. Campbell and Christopher Hare Company Law in New Zealand (2nd ed, Lexis Nexis NZ Ltd, Wellington, 2016) 179 at 181.
I The Creditor of the Trustee
This Chapter outlines the trustee’s personal liability, their right of indemnity and the creditor’s subrogation to this right. Claims against the trustee and to their right of indemnity is the traditional means in which a trustee’s creditor would seek redress. Being clear on such principles is crucial in understanding the problem of the trading trust not being caught by such orthodox principles. Principles regarding the creditor’s ability to settle debts often display a protective bias in favour of the beneficiary over the creditor.29
Hart defined a trust as “... an obligation ... whereby the obligor is bound to deal with property ... for the benefit of certain persons ...”.30 This obligation is the trust. A trust is not a distinct legal entity, but is indispensable from the trustee.31 A creditor therefore contracts with the trustee and not the trust.
Accordingly, the default position is that a trustee is personally and fully liable for trust debts.32 As this is the default position, it can be altered in the contract between the trustee and creditor;33 clear words will be needed for this.34
29 UK Trust Law Committee Rights of Creditors Against Trustees and Trust Funds (Tolley Publishing, London, 1997) at [1.5]; Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 186; Hudson, above n 14, at 168-173; Waters, above n 14, at 78.
30 Walter G. Hart “What is a Trust?” (1899) 15 LQR 294 at 301. This dissertation only concerns the express trust as it is necessary to conduct trading trust. Other forms of trust, such as the constructive or resulting trust, are outside the scope of this dissertation.
31 AMP General Insurance Ltd v Macalister Todd Phillips Bodkins [2006] NZSC 105, [2007] 1 NZLR 485
at [42]; Re Astor’s Settlement (1952) Ch. 534.
32Re Graham, Pitt & Bennett, above n 9; Re Johnson, above n 10; Farhall v Farhall, above n 7.
33 Lumsden v Buchanan (1865) 4 Macq 950 (HC).
34 Contracting along the lines of “as trustee and not otherwise” would be necessary to limit liability accordingly: Re Robinson’s Settlement, above n 9, at 728-9; Helvetic Investment Corp v Knight, above n 9, at 228.
This initial position needed tempering to ensure the office of trustee is a tenable one.35 Equity took the view that the trustee should be saved harmless from the obligations attaching to the office of trustee, and this indemnity is the price to be paid for the service of trustee.36
The are several instances of the trustee’s indemnity. The primary instance is a right of indemnity out of trust assets for liabilities properly incurred.37 Section 81 TA (see appendix) is the statutory recognition of the right already existing at common law.38 The result: a trustee enjoys a right of recoupment (to be reimbursed out of trust assets for expenses paid for) or exoneration (to pay liabilities directly out of trust assets) for liabilities properly incurred.39 This is an asset of the trustee.40
Another instance of the trustee’s indemnity is to be indemnified by the beneficiaries personally when trust assets are not sufficient to meet liabilities.41 The Privy Council in Hardoon v Belilios stated that the trustee’s indemnity has never been limited to trust assets but extends to the beneficiary as an enforceable obligation in equity to indemnify the trustee.42 This principle was “as old as trusts themselves.”43 There are several restrictions on this instance of indemnity which result in the beneficiary of the trading
35 Re Beddoe [1892] UKLawRpCh 180; [1893] 1 Ch. 547 at 558; Taylor and Slevin, above n 23, at 1192; McPherson, above n 1, at 144.
36 Hardoon v Belilios, [1901] AC 118 at 125; Heydon and Leeming, above n 25, at [2102].
37 Trusts Act, s 81; Trustee Act 1956, s 38(2).
38 Re Johnson, above n 10; Worrall v Harford, above n 10.
39 The exception for the requirement of liabilities to be properly incurred is where the trustee has acted in good faith and the beneficiaries have benefitted, then the indemnity remains intact to the value of the enrichment: Vyse v Foster (1872) LR 8 Ch App 309.
40 Levin v Ikiua (HC), above n 1, at [118].
41 Hardoon v Belilios, above n 36; JW Broomhead (Vic) Pty Ltd (in liq) v JW Broomhead Pty Ltd [1985] VicRp 88; [1985] VR 891; Balkin v Peck (1998) 43 NSWLR 706.
42 Hardoon v Belilios, above n 36, at 124.
43 At 124.
trust rarely being liable to indemnify the trustee.44 In-depth discussion on these restrictions are best placed in Chapter Two however in noting how the trading trust evades historic trust law principles.
There is some debate as to whether a trustee can consensually exclude their right of indemnity, with the result that a trustee would have no right to claim out of trust assets for any liabilities incurred (in turn affecting subrogation to the trustee’s indemnity).45 In 2002 the Law Commission recommended prohibiting a trustee excluding their right of indemnity.46 The Trusts Act does not provide any definitive answers on this as s 81 is governed by the rules at common law and equity.47 Argument regarding the importance of the trustee’s indemnity is outlined in Chapter Four when a personal remedy against the beneficiaries is sought to ‘give teeth’ to the trustee’s indemnity. For now it is sufficient to note that the weight of commentary is in favour of the trustee being unable to consensually exclude their right indemnity out of trust assets. It is certain that a trust instrument can exclude a trustee’s right to be indemnified by beneficiaries personally.48
As liability of the trustee is personal, the creditor’s primary right is against the trustee.49 The unsecured creditor has no direct claim to trust assets.50 If, however, because of the
44 Hardoon v Belilios, above n 36, at 124-6; Kalev Crossland “Trading Trusts”, above n 12, at [46.3]. Ron Kingham Real Estate Pty Ltd v Edgar, above n 23, is the only trading trust case found where this has occurred.
45 For the right of indemnity not being able to be excluded see Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 527-532 and McPherson, above n 1, at 144-50. For the right of indemnity being excluded see Heydon and Leeming, above n 25, at [2106] and GE Dal Pont, above n 1, at [23.155].
46 New Zealand Law Commission, Some Problems in the Law of Trusts (NZLC PP48, 2002) at [28].
47 Trusts Act, s 81(3).
48 Wise v perpetual Trustee Co [1902] UKLawRpAC 53; [1903] AC 139; Hardoon v Belilios, above n 36, at 127; RWG Management Ltd v Cmr for Corporate Affairs [1985] VicRp 42; [1985] VR 385 at 394-5; Ron Kingham Real Estate Pty Ltd v Edgar, above n 23, at 442 per McPherson J; Kalev Crossland “Trading Trusts”, above n 12, at [46.3].
49 Levin v Ikiua (HC), above n 1, at [121]; Kalev Crossland “Trading Trusts”, above n 12, at [46.4].
50 Vacuum Oil Co Pty Ltd v Wiltshire [1945] HCA 37; (1945) 72 CLR 319.
trustee’s insolvency or bankruptcy, the creditor’s claims cannot be met by the trustee personally, the trust creditor may seek subrogation to the trustee’s right of indemnity.51
Subrogation is one instance where the law prefers the interest of the creditor over the beneficiary. The process of subrogation allows one to ‘stand in the shoes of another’ and utilise whatever rights that party may have.52 Developed by the Court of Chancery, it enables a court to prevent any injustice arising by a beneficiary receiving a windfall.53 Therefore equity regards the creditor’s claim as having primacy over the beneficiary.54 As such, a trust creditor may be able to utilise whatever right of indemnity the trustee has.
Traditionally, subrogation has been entirely derivative.55 A creditor would not be able to be better placed than the trustee.56 The result would be that if a trustee had impaired their right of indemnity in incurring a liability, such as through a breach of trust causing loss to trust property, the creditor’s exercise of subrogation would also be impaired.57
This result will be changed by s 86 TA (see appendix). It provides that a creditor’s subrogation claim is not automatically affected by acts such as a breach of trust. If the creditor has given value; the trust has received a benefit from the transaction between the trustee and the creditor; and the creditor has action in good faith, then the claim to subrogation remains intact to the extent of the benefit received by the trust.58 Hence the
51 Tucker, Poidevin and Brightwell (eds), above n 2, at [21-38].
52 Pram Enterprises Ltd (in liq) v Mansfield [2016] NZHC 230; Re Johnson, above n 10; Vacuum Oil Co Pty Ltd v Wiltshire, above n 50.
53 Ford “Trading Trusts and Creditor Rights”, above n 12, at 19; Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 531; Levin v Ikiua (HC), above n 1, at [119].
54 Re Johnson, above n 10; Kalev Crossland “Trading Trusts”, above n 12, at [46.4]; Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 531.
55 Ex parte Edmonds, above n 22, at 489; ALRC, General Insolvency Inquiry, above n 11, at 249; Kalev Crossland “Trading Trusts”, above n 12, at [46.4]; NZLC, fifth issues paper, above n 1, at [7.22]; UK Trust Law Committee, Rights of Creditors Against Trustees and Trust Funds, above n 29, [2.23].
56 NZLC, fifth issues paper, above n 1, at [7.22]; Tucker, Poidevin and Brightwell (eds), above n 2, at 858;
Jenny and Ormsby “Trading Trusts”, above n 23, at 448.
57 Levin v Ikiua (HC), above n 1, at [126]; Vacuum Oil Co Pty Ltd v Wiltshire, above n 50, at 325.
58 Section 86(1) and (4).
trust creditor will no longer be completely impeded for acts outside their knowledge or control.59
In this respect creditors of a trading trust were often in a better possession than a traditional trust creditor because of the duties owed by a director. If a corporate trustee acted in breach of trust in incurring an obligation, then with no assets of its own, it will be extremely likely the director(s) would breach ss 135 or 136 CA (see appendix), giving the creditor a personal claim against the director(s).60
There is a more important flaw to indemnity and subrogation in providing a remedy to the creditor. This remedy is reliant on there being assets for the trustee to claim out of. If all trust assets have been distributed to beneficiaries, then subrogation will be fruitless.61 This is what occurred in Levin v Ikiua.62 The directors of OPC, the trading trust, conducted an ‘empty shell policy’ in which after discharging liabilities, all trust assets were distributed to beneficiaries every month.63 Afterwards it was discovered that ACC, OPC’s main debtor, had incidentally overpaid OPC.64 However, because of the empty shell policy, OPC no longer had any assets and ACC had nothing to seek subrogation to.65
Such principles are the traditional means in which a trust creditor would seek redress. The trading trust however presents a problem in seeking to rely on such principles.
59 Many commentators voiced concerns about this, for instance: D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 316; Williams “Winding up Trading Trusts: Rights of Creditors and Beneficiaries”, above n 11, at 277; Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 196; Hudson, above n 14, at 174.
60 Companies Act ss 135, 16 and 301; Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 194.
61 Jenny and Ormsby “Trading Trusts”, above n 23, at 463; Taylor and Slevin, above n 23, at 1190.
62Levin v Ikiua (HC), above n 1.
63 At [36]-[45].
64 At [22]-[27].
65 At [94].
II The Trading Trust – a Hybrid
This Chapter outlines the trading trust – the hybrid of trust and company law66 – and how the trust law principles outlined in Chapter One can be inadequate for the creditor in dealing with the trading trust, particularly in regards to distributions of trust property.
The uses of trusts are constantly evolving: the value of trusts are increasing,67 there has been a growth in professional trustee services and trust businesses are engaging in complicated and high risk transactions.68 A paradigm example of this is the trading trust.69 While the uses of trusts have vastly changed throughout the centuries, the legal principles regarding the position of the creditor have largely remained static.70 Such principles cannot always be coherently applied to the way trusts are being used today.71 The result is that, typically, trading trust creditors are more vulnerable than creditors of the traditional trust have been.
66 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 301.
67 A trading trust may be in control of millions dollars of assets: Commissioner of Inland Revenue v Newmarket Trustees Ltd [2012] NZCA 351.
68 UK Trust Law Committee, Rights of Creditors Against Trustees and Trust Funds, above n 29, at [1.1]; Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 186; D’Angelo “The Trust: Evolution from guardian to risk-taker, and how a lagging insolvency law framework has left financers and other stakeholders in peril”, above n 11, at 279-282; New Zealand Law Society, Trust law Conference (Wellington, New Zealand: New Zealand Law Society, 1999) at 51; D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 299.
69 A key feature of the trading trust is that it actively engages in business as opposed to passive investment: Levin v Ikiua (HC), above n 1, at [97]; Taylor and Slevin, above n 23, at 1187; ALRC, General Insolvency Inquiry, above n 11, at 239; NZLS, Trust Law Conference, above n 68, at 51.
70 Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 187; D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 305.
71 The question of the application of these historic principles was questioned by the UK Trust Law Committee: UK Trust Law Committee, Rights of Creditors Against Trustees and Trust Funds, above n 29, at [1.2].
The trust has changed radically throughout the centuries. It is an ancient creature, finding its origins in Medieval England, termed “a use”, and was solely used to hold land for others.72 This would in time transform into the trust we know today and would be used for many other purposes other than simply holding land.73 During the 18th and 19th centuries, courts developed principles regarding the powers and obligations of the trustee, and the rights of the beneficiary.74
The trust in its origin was very much a passive asset holding mechanism.75 The trust tended to hold real property or residual wealth for the benefit of others who tended to be (or perceived to be) vulnerable and in need of protection.76 Given the intention of the trust to be used in such a passive manner, principles regarding the rights and powers of the trustee and beneficiary reflected this. For example, the default position for trusts are that assets are not be used for business as this would require putting assets at risk; a term in the trust instrument is necessary for business to be conducted with trust assets.77
72 Andrew S Butler “The Trust Concept, Classification and Interpretation” in Butler (ed) Equity and Trusts in New Zealand (2nd ed, Thomson Reuters, Wellington, 2009) 43, at 45-46; D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 301.
73 Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 185.
74 Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 186.
75 NZLS, Trust Law Conference, above n 68, at 51; Taylor and Slevin, above n 23, at 1187; Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 187.
76 Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 186; Hudson, above n 14, at 166-8.
77 Tucker, Poidevin and Brightwell (eds), above n 2, at 1672; Andrew S Butler “Trustees and Beneficiaries” in Andrew S Butler (ed), Equity and Trusts in New Zealand (2nd ed, Thomson Reuters, Wellington, 2009) 105 at 140; David Hayton “Trading Trusts, Trustees’ Liabilties and Creditors” in David
J. Hayton (ed) The International Trust, (3rd ed. Bristol UK: Jordans, 2011) at [7.7].
The authors of Jacobs’ Law of Trusts in Australia stated that “the trust was not in its origin and perhaps never has been primarily a device of commerce.”78 Regardless of original intentions however, the trust has found itself employed in active profit seeking ventures in the trading trust.79
The trading trust came into fruition in Australasia during the 1960s and 70s.80 The main incentive for this vehicle was to achieve a more tax effective and flexible distribution regime.81 New Zealand is well known for its affinity for trusts.82 It is difficult to find more than anecdotal evidence for the use of trading trusts in New Zealand, given the lack of requirement to disclose one’s status as trustee;83 such privacy is typical of trusts.84 In 2002 the Law Commission considered the use of trading trusts to be clearly spreading.85 If New Zealand and Australia are in anyway similar, the use of trading trusts is undoubtedly substantial.86 Indeed in 2011 the Law Commission dedicated a substantial part of an issues paper to discussing their use.87 The use of trading trusts is clearly here to
78 RP Meagher and WMC Gummow, Jacobs’ Law of Trusts in Australia (6th ed, Buttersworth, 1997) at 1xxxvii.
79 Already defined in this paper: Levin v Ikiua (HC), above n 1, at [97]; Taylor and Slevin, above n 23, at 1187; ALRC, General Insolvency Inquiry, above n 11, at 239; NZLS, Trust Law Conference, above n 68, at 51.
80 Robert P Austin and Ian M Ramsay, Ford, Austin and Ramsay’s Principles of Corporations Law (17th ed, Chatswood, NSW: LexisNexis Buttersworths, 2018) at [20.170]; NZLC, fifth issues paper, above n 1, at [6.11]; D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 329; Williams “Winding up Trading Trusts: Rights of Creditors and Beneficiaries”, above n 11, at 273.
81 GE Dal Pont, above n 1, at 695; Levin v Ikiua (HC), above n 1, at [102]; NZLC, fifth issues paper, above n 1, at [6.13]-[6.15]; Ford and Hardingham, above n 1, at 50; McPherson, above n 1, at 142.
82 New Zealand Law Commission, Review of the Law of Trusts: Preferred Approach (NZLC IP31, 2012) at [1.3]; Taylor and Slevin, above n 23, at 1187.
83 NZLC, fifth issues paper, above n 1, at [6.12]; Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 521; Trusts cannot be registered under Companies Act, s 92.
84 Blanchard J commented extrajudicially on requiring trustees to disclose the existence of trusts: Peter Blanchard “Towards a modern law of trusts” (paper presented to New Zealand Law Society trusts Conference, 2001) at 8.
85 NZLC, Some Problems in the Law of Trusts, above n 46, at 9.
86 The Australian Tax Office statistics for the year 2014-15 reveals there are 643,000 discretionary trusts in Australia – twice as many as 20 years ago. Just under half of these trusts are trading trusts. The total taxable income was $80 billion: https://www.acoss.org.au/ending-tax-avoidance-evasion-and-money-laundering- through-private-trusts/
87 NZLC, fifth issues paper, above n 1, Part 3.
stay, as there has been no suggestion of prohibiting them.88 Therefore, it is important the law be clarified and coherent.89
The rights and obligations between trustee and beneficiary are, generally, the same under a trading trust as any other trust.90 Hence the position of the creditor of the trading trust will be largely the same as any other trust, but with additional difficulties based on the features of the trading trust.
Dealing with a trading trust may yield unexpected results in a modern commercial setting.91 Unlike companies, which were designed to facilitate entrepreneurial activity and spread economic risk,92 trusts exist for the benefit of beneficiaries and often subordinate creditor interests in the preservation of beneficiaries interests.93 The results are particularly unexpected as, from all outward appearances, the trading trust looks to be an ordinary company, with control over substantial assets; none of the assets however are beneficially owned by the company.94 Where creditors of a company have a direct claim
88 NZLC, fifth issues paper, above n 1, at [7.86]. 89ALRC, General Insolvency Inquiry, above n 11, at 241. 90 Ford and Hardingham, above n 1, at 55.
91 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 313.
92 Companies Act, long title; Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 520; NZLC, fifth issues paper, above n 1, at [6.2].
93 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 312; Hudson, above n 14, at 164 and 166.
94 NZLC, fifth issues paper, above n 1, at [7.1]; Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 190; Williams “Winding up Trading Trusts: Rights of Creditors and Beneficiaries”, above n 11, at 279; Kalev Crossland “Trading Trusts”, above n 12, at [46.4].
to company property, trading trust creditors do not. Meaning the creditor may be misled to the credit-worthiness of the company.95
Levin v Ikiua is a prime example. The Company, OPC, started out as an ordinary company but later changed to a trading trust.96 This change was never disclosed to ACC – OPC’s main debtor.97 OPC’s status as trustee and its lack of beneficial ownership in company property was only discovered once the mistaken overpayments were realised and brought forward, but no assets remained with the company.98
The primary recourse of the trust creditor has always been to pursue the trustee.99 The trading trust however effectively defeats this personal claim by the employment of a limited liability company with no assets of its own.
Trust law developed with an expectation that the trustee would be responsible, so any grievance or claim against the trustee could be remedied by personal claims.100 Trading trusts effectively negate that assumption by having an asset-less corporation as trustee.101 Trading trusts present a new challenge in that a creditor may be entirely reliant on a trustee’s right of indemnity, where previously the creditor would have ideally had their claim met by personal suit against the trustee.
The misleading nature of the trading trust in regards to the ownership of company assets and lack of creditor access to trust property explains why Professor Ford described trading trusts as a “commercial monstrosity.”102 He was concerned about creditors being unwittingly impeded by trust law with the mistaken belief that they are contracting with
95 Ford “Trading Trusts and Creditor Rights”, above n 12 , at 1.
96 Levin, above n 1, at [10]-[14].
97 At [16]. ACC started out as a debtor of OPC, but accidental overpayment led to OPC owing ACC approximately $400,000.
98 At [16]-[24].
99 Levin v Ikiua (HC), above n 1, at [121].
100 Commissioner of Inland Revenue v Chester Trustee Services Ltd, above n 8, at [63].
101 Levin v Ikiua (HC), above n 1, at [115].
102 Ford “Trading Trusts and Creditor Rights”, above n 12, at 1.
an ordinary company.103 It might be thought that a requirement to disclose one’s status as trustee ought to remedy this problem. This is not the case however.
Practical difficulties aside in how disclosure would take place, enforced and the consequences of non-disclosure, there are further difficulties in seeking to provide creditor protection.104 There is no guarantee that once the creditor is put on notice of the company’s status as trustee that the creditor will make the necessary inquiries as to the company’s assets or indebtedness.105 Similarly, such a requirement will not assist the unsophisticated creditor who may not appreciate the technicalities of assets being held on trust, and may not seek a security or guarantee.106
In seeking to protect the creditor from the trustee’s lack of personal assets, disclosure will not be sufficient. Although it is appealing as a front-end mechanism, seeking to end disputes before they start, the lack of practical effect it has in strengthening the position of the creditor makes it an unsought remedy. Ultimately, the corporate trustee will have no assets of its own, defeating the traditional personal claim of the creditor, and the creditor may still be very well be entirely reliant on the trustee’s right of indemnity. The most effective means to strengthen the position of the creditor is to provide an enforceable mechanism to claw back wrongful distributions of trust property.
After exhausting all remedies against the trustee personally, the trading trust creditor will seek subrogation to the trustee’s right of indemnity. Subrogation is a derivate right and the creditor (with exceptions)107 will not be better placed than the trustee.108 Subrogation
103 Ford “Trading Trusts and Creditor Rights”, above n 12, at 1.
104 NZLC, fifth issues paper, above n 1, at [7.8]-[7.13].
105 NZLC, fifth issues paper, above n 1, at [7.14].
106 NZLC, fifth issues paper, above n 1, at [7.15].
107 Section 86 Trusts Act provides that a creditor will not automatically by impeded by a trustee’s lack of right to be indemnified.
108 Ex parte Edmonds, above n 22, at 489.
to trust assets is reliant on any assets being held by the trustee. Not only may the trading trust creditor be entirely reliant upon the trustees’ indemnity, but this indemnity is more vulnerable than the indemnity of the traditional trustee. Trading trusts conduct active business and are employed to achieve greater protection from the claims of creditors. Therefore it is more likely that trust assets will be distributed out to beneficiaries of a trading trust than a traditional trustee might have, leaving nothing for trust creditors to claim out of.
A key feature of the trading trust is that it conducts active business,109 contrary to the traditional assumption that trust assets are not to be put at risk.110 Based on the risk involved in business, a corporate trustee might seek to distribute all available property to ensure the beneficiaries are catered for over creditors’ claims. This readiness to distribute profits quickly is reflected in case law. In Burns v Leda Holdings the corporate trustee was engaged in a transaction involving real estate.111 Afterwards, the profit of the transaction was distributed to the unit holders and the Trust was terminated. A month later, notice of assessment of stamp duty was received that was higher than expected, but no trust assets remained.112 Similarly, in Ron Kingham Real Estate Pty Ltd v Edgar, the trading trust had distributed all trust property out to beneficiaries while the company had outstanding liabilities to be paid, leaving no assets for the creditor to seek subrogation to.113 After all, Levin demonstrates a trading trust is able to conduct an empty shell policy (distributing all assets after discharging liabilities) honestly and without intent to prejudice creditor interests.114
109 Flannigan “The Nature and Duration of the Business Trust, above n 2, at 184-5; NZLC, fifth issues paper, above n 1, at [6.6]; NZLS, Trust Law Conference, above n 68, at 51. This is what distinguishes the trading trust from other uses of corporate trustees, such as a unit trust.
110 Tucker, Poidevin and Brightwell (eds), above n 2, at [36-107].
111 Burns v Leda Holdings Pty Ltd, above n 23, at 366.
112 At 366.
113 Ron Kingham Real Estate Pty Ltd v Edgar, above n 23, at 441.
114 Levin, above n 1, at [143]-[144].
The CA recognises the risk involved in business and the desire to provide for a company’s shareholders over claims of creditors.115 Creditors of a company have priority over shareholders. As a company nears insolvency, directors may be fearful that there will be nothing left to distribute to shareholders after creditors’ claims are made, and may attempt to take advantage of the separateness of the company and make distributions to shareholders, causing loss to creditors.116 Accordingly, distributions of company property are subject to the distribution regime in the Act.117 This seeks to ensure that shareholder interests are not preferred over creditors.118 There is no similar regime in the CA or TA however for distributions of trust property, even though trading trusts and companies are competing side by side and are both involved in risk-taking business ventures.119
One of the current advantages of the trading trust is that it provides greater asset protection from the claims of creditors.120 It seems as though nothing is safer than in the hands of the beneficiary.121 When making distributions of trust property to beneficiaries, the perception has been that it is necessary for the creditor to prove some wrongdoing on the part of the recipient for the creditor to have a personal claim against them.122 Whilst the entitlement of the shareholder to receive distributions is dependent on the solvency of the company, the entitlement of the beneficiary to retain distributions largely depends on the conscience of the beneficiary. In Levin, ACC unsuccessfully argued to be subrogated to the recipient trusts right of indemnity; instead Heath J held that for ACC to have a claim against the recipients, it would be necessary to establish a claim in equity, such as dishonest assistance or knowing receipt.123
115 Neil Campbell “Distributions”, above n 28, at 181.
116 NZLC, Company Law Reform and Restatement, above n 28, at [330].
117 Companies Act, ss 52-56.
118 Neil Campbell “Distributions”, above n 28, at 180-181.
119 Waters, above n 14, at 78.
120 GE Dal Pont, above n 1, at [27.15].
121 Frederic William Maitland, “The Unincorporated Body” (Paper presented at the Eranus club), https://socialsciences.mcmaster.ca/econ/ugcm/3ll3/maitland/unincor.mai
122 Levin v Ikiua (HC), above n 1, at [135].
123 Levin v Ikiua (HC), above n 1, at [134]-[135].
This is a classic example of equity’s intent to protect beneficiaries, regardless of the claims of the trust creditor. The perception is that, so long as the recipient beneficiary was honest, then regardless of creditor claims, the beneficiary is not liable for repayment. It is argued in Chapter Four that the trust creditor already has a direct claim against the recipient beneficiary based on Diplock, but this is untested.
Based on these factors, a trading trust creditor is more vulnerable to loss than the traditional trust creditor. Although a trading trust creditor may be entirely reliant on subrogation to the trustee’s indemnity, this is more likely to be rendered valueless given the risk involved in business and the perceived ability to achieve greater asset protection by making distributions out to beneficiaries. There is an incentive to conduct an ‘empty shell policy’ that a traditional trust did not have. A human trustee would likely be cautious to retain assets to meet future liabilities; this is less of a concern for a limited liability company.
In the situation of a traditional trust, a trustee may have a right to be indemnified by the beneficiaries personally when trust assets are not sufficient to meet liabilities.124 If so, a creditor may seek subrogation to this right.125 The problem with the trading trust however is that this right will rarely arise.126
Although Lord Lindley in Hardoon stated that the plainest principles of justice require that the beneficiary who gets all the benefit of the property should also bear its burden,127 he also stated there are limits to this principle.128 It is absolute owners in equity that bear
124 Hardoon v Belilios, above n 36.
125 Ron Kingham Real Estate Pty Ltd v Edgar, above n 23, at 443; Ford “Trading Trusts and Creditor Rights”, above n 12, at 19.
126 Kalev Crossland “Trading Trusts”, above n 12, at [46.3].
127 At 123.
128 At 127.
the burdens incidental to its ownership.129 The trading trust will inevitably involve discretionary beneficiaries as this is how the tax advantages of the trading trust are employed.130 The beneficiaries will wish to avoid having an absolute interest in trust assets for the purpose of tax liability, and discretionary beneficiaries do not have a proprietary interest in trust assets being distributed.131 If a discretionary beneficiary could be sought for indemnification, they would be liable for something that was never theirs as they merely have the right to be considered.132 Furthermore, they would potentially be liable for trust debts despite not having the power to terminate the trust.133
On top of these conceptual restraints, there is also the difficulty that a trust instrument can exclude a trustee’s right to be indemnified by beneficiaries. Hardoon stated that there could be trusts that limit a trustee’s ability to be indemnified by beneficiaries.134 Unlike the trustee’s indemnity out of trust assets, where there is debate if this could be excluded by a trust instrument,135 it is clear that a right of indemnity by beneficiaries can be excluded.136
As the trading trust inevitably involves discretionary beneficiaries, and a right to be indemnified by beneficiaries can easily be excluded, it is extremely unlikely a creditor could ever seek subrogation to this right. This is not unusual as a discretionary trust is the
129 At 124.
130 Levin v Ikiua (HC), above n 1, at [100]; Ford “Trading Trusts and Creditor Rights”, above n 12, at 1; Ford and Hardingham, above n 1, at 54; McPherson, above n 1, at 142.
131 Gartside v Inland Revenue Commissioners [1967] UKHL 6; [1968] AC 553 (HL).
132 Butler (ed), above n 23, at 51 and 445.
133 If beneficiaries are of full capacity and absolutely entitled then they can terminate the trust: Saunders v Vautier [1841] EngR 629; (1841) 4 Beav 115.
134 At 127.
135 For the right of indemnity not being able to be excluded see Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 527-532 and McPherson, above n 1, at 144-50. For the right of indemnity being excluded see Heydon and Leeming, above n 25, at [2106] and GE Dal Pont, above n 1, at [23.155].
136 Wise v perpetual Trustee Co, above n 48; Hardoon v Belilios, above n 36, at 127; RWG Management Ltd v Cmr for Corporate Affairs [1985] VicRp 42; [1985] VR 385 at 394-5; Ron Kingham Real Estate Pty Ltd v Edgar, above n 23, at 442 per McPherson J; Kalev Crossland “Trading Trusts”, above n 12, at [46.3].
most popular form of trust in New Zealand,137 but when taken with the above listed factors, it poses extra problems for the trading trust creditor.
To summarise, the principles regarding the position of the trust creditor have remained largely static throughout the centuries, while the use of trusts have fundamentally changed.138 The trading trust nullifies the trustee’s personal liability by using an asset-less company; is prone to distributing trust assets as quickly as possible, in turn affecting the creditors remedy of subrogation; and would rarely be entitled to be indemnified by beneficiaries. All of this comes to a head when all trust assets have been distributed to beneficiaries. The creditor’s inability to claw-back distributions of trust property is particularly relevant for two reasons: (1) the trading trust is engaged in active business as opposed to passive investment or holdings;139 and (2) the trading trust is formed by investors making a deliberate choice of employing such a vehicle, and then taking the position of beneficiary.140
The trading trust conducting active business distinguishes it from other types of trust.141 Risk is inherent in business.142 Much of trust law however is anchored in principles which exhibit a protective bias to beneficiaries, while displaying indifference to the interests of
137 SuperLife “Family Trusts” https://www.superlife.co.nz/resources/articles-guides/family-trusts
138 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 299.
139 ALRC, General Insolvency Inquiry, above n 11, at 239; NZLS, Trust Law Conference, above n 68, at 51; Levin v Ikiua (HC), above n 1, at [97].
140 Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 188; Flannigan “The Nature and Duration of the Business Trust, above n 2, at 184-5; Berry v McCourt (1965) 204 NE 2d 235 at 240.
140 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 301.
141 Jenny and Ormsby “Trading Trusts”, above n 23, at 416; NZLC, fifth issues paper, above n 1, at [6.6]. 142 John Farrar “The Duties of Care of Directors” in John H. Farrar and Susan Watson (eds) Company and Securities Law in New Zealand (2nd ed, Wellington, NZ: Thomson Reuters, 2013) 415 at 415.
outsiders.143 This is exhibited in rules regarding distributions. Historically, where a beneficiary has been overpaid, the trustee can deduct this from future payments due or likely to fall due, but if no such payments are made, then the beneficiary cannot be called upon to repay the overpayment.144 The basis of this rule is that it would be unjust or inequitable to expect a beneficiary to be able to repay such amounts.145
This is in stark contrast the Companies Act. The Act acknowledges the risk in business but also the benefits it brings to the economy.146 Accordingly the Act seeks to spread economic risk and provide for the protection of outsiders from abuses of management powers.147 One example of this is the distribution regime which balances the rights and interest between creditors and shareholders. There is no such balancing act for the rights and interests of the trust creditor however – the tilt is very much towards the favour of the beneficiaries.148
The trading trust engages in the exact kind of activity that would have received the disapproval of the early chancellors.149 A trust existing in such a manner would not have been expected when the principles of trust law were being formulated.150 This is a key functional difference that distinguishes the trading trust from the traditional trust and is
143 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 312; Hudson, above n 14, at 164 and 166; UK Trust Law Committee, Rights of Creditors Against Trustees and Trust Funds, above n 29, at [1.5]; Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 196; Waters, above n 14, at 77-8.
144 Downes v Bullock [1858] EngR 244; (1858) 25 Beav 54; 53 ER 556 at 62; 559; Halsbury’s Laws of Australia (reissue, 1995) vol 27 Trusts at [430-4200].
145 Burns v Leda Holdings Pty Ltd, above n 23, at 379.
146 Companies Act, long title.
147 Companies Act, long title.
148 UK Trust Law Committee, Rights of Creditors Against Trustees and Trust Funds, above n 29, at [1.5]; Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 186; D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 307.
148 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, 299 at 302. 149 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, 299 at 302. 150 Taylor and Slevin, above n 23, at 1188.
more analogous to the usual conduct of a company.151 As such, a creditor of the trading trust ought to have similar means of protection as the creditor of the company has.
The genesis of the trading trust usually differs from the traditional trust. The traditional trust is formed by beneficiaries taking their interest by gift.152 A key feature of the trading trust is that business is conducted by a company acting as trustee. Companies do not form by themselves. The trading trust is formed by investors consensually looking to employ the trust as their chosen business vehicle;153 the relationship is closer to contractual in nature.154 The genesis of the trading trust demonstrates a departure from the traditional trust. It is more convincing to protect beneficiaries from being personally liable to repay distributions of trust property when they had inherited a gratuitous gift; it is less convincing to protect trading trust beneficiaries who simply chose the trust as a business vehicle.
D’Angelo argues that exploitation of trusts and trust law is implicit in the use of trading trusts.155 The trading trust represents investors making a deliberate choice of a vehicle which avoids restrictions imposed on other companies, namely a distribution regime.156 Trading trusts not being subject to such restrictions on distributing trust property lacks a foundation in both policy and principle.
151 H.B. Chermside, "Modem Status of the Massachusetts or Business Trust" A.L.R. (3d) 704 (1978) at 720. 152 Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 188; Flannigan “The Nature and Duration of the Business Trust, above n 2, at 184-6.
153 Berry v McCourt, above n 140, at 240.
154 Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 188.
155 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 303.
156 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, 299 at 303.
Reliance on historic trust law principles exhibits fundamental flaws in dealing with the trading trust with no assets. Subrogation was a remedy designed to avoid the injustice of a beneficiary receiving a windfall.157 Equity therefore regards the interests of the creditor as having primacy over the beneficiaries.158 It has also been said that the plainest principles of justice require a beneficiary who receives all of the benefit of the property should also bear its burden.159 Whilst these principles are appealing in the abstract, reliance on these principles do not assist the creditor of the insolvent trading trust.
This is because the creditor is reliant on there being assets to claim out of: if all the assets have been distributed then the beneficiary remains protected. The beneficiary is protected by centuries old law which does not adequately cater for the risks involved in business. This is regardless of the fact that trading trusts are formed by investors seeking to avoid restrictions in the Companies Act whilst engaging in risk taking business ventures.
Heath J argues the likely inability for a trustee to ever consensually exclude their right of indemnity out of trust assets is a key reason why trading trusts do not pose a problem.160 He stated this in an article written after Levin v Ikiua, a case he decided. Reliance on the trustee’s indemnity is strengthened by s 81 TA as the creditor can still seek subrogation even if the trustee is not entitled to be indemnified (such as through breach of trust), but it is still vulnerable to being rendered valueless by distributions. OPC’s indemnity could not assist the creditors in Levin as there were no longer any assets to claim out of.161 The creditor was not impeded by an impaired indemnity based on dishonest acts of the trustee,
157 Pram Enterprises Ltd (in liq) v Mansfield, above n 52, at [55]; Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 531; Ford “Trading Trusts and Creditor Rights”, above n 12, at 15; Levin v Ikiua (HC), above n 1, at [119].
158 Kalev Crossland “Trading Trusts”, above n 12 , [46.4]; Re Johnson, above n 10; Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 531; Levin v Ikiua (HC), above n 1, at [119].
159 Hardoon v Belilios, above n 36, at 123 and 124.
160 Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 527-533.
161 At [94].
but by distributions to beneficiaries. Levin highlights perfectly the inadequacy in dealing with the insolvent trading trust with trust law principles.
Once personal remedies against the trustee have been exhausted, and subrogation cannot remedy the creditor’s claims, the creditor might wish to seek recourse from the recipient beneficiary. The creditor faces several boundaries however. The creditor contracts with the trustee personally, not the beneficiary. As there is no direct relationship between the creditor and beneficiary, the beneficiary is not ordinarily liable for trust debts.162
This is by no means out of the ordinary in a commercial setting. A creditor who engages with a company contracts with that company – a distinct legal entity, separate from those who hold shares in it.163 Both the beneficiary and the shareholder may receive distributions in which a creditor has a stake in. Where the situation of a beneficiary and shareholder differ is the shareholder’s receiving of distributions is governed by the distribution regime in the Act,164 but there is no comparable regime in New Zealand’s trust law.
Courts of equity may have been accustomed to dealing with a trustee’s bankruptcy, but they never developed a law of insolvency for trusts.165 D’Angelo notes several factors where trust law suffers from fundamental defects in regulating commercial entities, particularly in insolvency:166
a) it is not comprehensive in the commercial context because it was never developed to deal with commercial enterprises;
b) it is not readily accessible to the non-expert;
c) being a creature of equity, its operation is largely on the basis on conscience and might produce unexpected results in a modern commercial setting.
162 Re Enhill [1983] VicRp 52; (1983) 7 ACLR 8.
163 Companies Act, s 15.
164 Companies Act ss 4, 52 and 56.
165 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 299.
166 at 314.
A chief concern of this dissertation are trusts being a creature of equity. Where company law will always prefer the interests of the creditor over the shareholder (absent relevant disentitling conduct), trust law often prefers the interest of the beneficiary and relies on conscience for action (e.g. for a claim of dishonest assistance or knowing receipt).167
Take a distribution of property. Where a shareholder receives a distribution which fails the solvency test, the shareholder will be personally liable to repay this (subject to defences).168 Directors may also be liable to cover any shortfall from the shareholder.169 The Act bring first attention to the shareholder however. No proof of fault or dishonesty is required.170 Failure of the solvency test gives the creditor a prima facie claim against the shareholder.171 It is only logical that the recipient of a wrongful distribution be liable for its repayment as they were not entitled to it. This is in stark contrast to the position in trust law where the perception has been it is necessary for the creditor to establish wrongdoing on the part of the recipient.172 This is challenged in Chapter Four.
The trading trust is a radical departure from the traditional trust in which principles regarding the rights of the beneficiary, trustee and creditor were formulated with regard to. Reliance on these principles are fruitless for the creditor who has been prejudiced by a distribution by a trading trust to beneficiaries, which is more likely to occur with the trading trust.
Reliance on trust law principles is not the only option for the trading trust creditor. Whilst acting as trustee, the company is still subject to the CA.173 The Act is able to provide a
167 at 313.
168 Companies Act, ss 4, 52 and 56.
169 Companies Act, s 56(3) and (4).
170 Neil Campbell “Distributions”, above n 28, at 198.
171 Neil Campbell “Distributions”, above n 28, at 198.
172 Levin v Ikiua (HC), above n 1, at [134]-[135].
173 Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 537.
reasonable means of creditor protection through provisions regarding voidable preferences and directors duties. As will be seen however, the Act is still limited in its scope as the distribution regime is not applicable to trust property.
III Application of the Companies Act
This Chapter outlines provisions in the Act designed for creditor protection and how these provisions apply to the trading trust. The Act seeks to utilise the effectiveness of the company for business while protecting creditors (and shareholders) from potential abuses of management powers.174 The reach of the Act is limited however in that key sections designed for creditor protection do not apply to the trading trust, particularly the distribution regime.175 There is no reason why creditors of the trading trust should be exposed to more risk than the creditor of the traditional company in not being protected by restrictions of distributions.
The distinguishing feature of the company is that it is a distinct legal entity, separate from those who hold shares in it.176 Ordinarily, liability of the shareholders is limited to the amount invested in the company.177 The risk posed to creditors by dealing with this entity is obvious: its members might try to hide behind the corporate veil, taking undue risks and cause loss to third parties, all the while being protected by the separateness of the company.178 Accordingly, the Act provides several means of protection for creditors (only the most relevant for the creditors of the trading trust will be discussed).
174 Companies Act, long title.
175 Levin v Ikiua (HC), above n 1, at [108]; Companies Act, ss 4, 52 and 56.
176 Companies Act s 15; Salomon v Salomon and Co Ltd [1897] AC 22 (HL).
177 Companies Act, s 97; Neil Campbell “Distributions”, above n 28, at 39; Susan Watson “Corporate Liability for Criminal and Civil Wrongs” in John H. Farrar and Susan Watson (ed), Company and Securities Law in New Zealand (2nd ed, Wellington, NZ: Thomson Reuters, 2013) 165 at 181.
178 Susan Watson “Duties of Directors: Duties of Loyalty in Farrar and Watson” in John H. Farrar and Susan Watson (eds) Company and Securities Law in New Zealand (2nd ed, Wellington, NZ: Thomson Reuters, 2013) 359 at 360.
In contracting with a company there is a chance that the person or company is acting outside of their permitted authority in the transaction. A creditor is not imposed with knowledge of a company’s inner workings however.179 Section 18 CA protects third parties dealing with a company when a company or a person did not have authority to enter the transaction (amongst other vitiating factors),180 unless the person knew or ought to have known of the contracting party’s lack of authority. Section 18 acts as a form of statutory estoppel, protecting those who deal with the company.181
The position of the trust creditor has been strengthened following the Trusts Act 2019, but the trust creditor is still in a weaker position than those dealing with an ordinary company and a party acting outside of their authority. The new Trusts Act does however still show a move to strengthen the position of the trust creditor.
Now the creditor seeking subrogation will not always be impeded if the trustee has impaired their right of indemnity. A trustee acting outside of their authority is one way in which a trustee might impair their right of indemnity.182 Previously, this would have impaired the creditor’s subrogation claim.183 Now s 86 TA assists the creditor in situations where the trustee is not entitled to be fully indemnified. The creditor still has an indirect claim to trust property if: the creditor has given value; the trust has received a benefit from the transaction between the trustee and the creditor; and the creditor has
179 Royal British Bank v Turquand [1856] EngR 470; (1856) 6 E & B 327; 19 ER 886.
180 Such as the Act of company’s constitution not being complied with.
181 Susan Watson “Legal Relationships with Third Parties” in John H. Farrar and Susan Watson (eds),
Company and Securities Law in New Zealand (2nd ed, Wellington, NZ: Thomson Reuters, 2013) 125 at
135. The company is also precluded from asserting against the third party that the Act or constitution has not been complied with: s 18, Companies Act.
182 NZLC, fifth issues paper, above n 1, at [7.24]; Jenny and Ormsby “Trading Trusts”, above n 23, at 449; Kalev Crossland “Trading Trusts”, above n 12, at [46.3].
183 Ex parte Edmonds, above n 22, at 489.
acted in good faith.184 Then the creditor still has a claim to subrogation to the trustee’s indemnity, to the extent that the trust has benefitted.185
For decades commentators have criticised the position in trust law where a creditor’s access to trust assets would be impeded by acts completely outside of their knowledge or control (such as a previous breach of trust causing loss to trust property).186 Although the position of the trust creditor has been strengthened, it is still weaker than the position of the ordinary company’s creditor. It is not necessary for the company’s creditor to have given value or benefitted the company, for the company to be estopped from asserting that the party did not have authority; nor is their claim limited to the extent that the company has benefitted.187
This differing treatment of outsiders between trusts and companies has not been of monumental importance for trading trusts because, as noted, an asset-less company incurring an obligation in which it has no means of meeting will almost certainly result in a breach of directors duties.188 However, it is still worth noting as this change demonstrates a desire to strengthen the position of the trust creditor.
The regime189 reflects the reality that when a company is placed into formal liquidation, it has often been insolvent for some time.190 The regime then seeks to prevent some
184 Section 86.
185 Section 86(4).
186 Williams “Winding up Trading Trusts: Rights of Creditors and Beneficiaries”, above n 11, at 277; Ford “Trading Trusts and Creditor Rights”, above n 12, at 2; Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 196; Hudson, above n 14, at 174; D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 308.
187 The Company can is also precluded from asserting against the third party that the Act or constitution has not been complied with: Companies Act, s 18.
188 Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 194; Owens v Shaw [2016] NZHC 1400. Most likely ss 135 or 135 Companies Act.
189 Companies Act, ss 292-296.
creditors from receiving an unequal share of their debt and to ensure that all unsecured creditors are treated equally.191 Contrary to some previous judicial assumptions, the regime does not seek to maximise the pool of assets available for distribution in a company’s liquidation;192 rather the regime seeks to ensure that unsecured creditors share pari passu in a company’s liquidation and that a creditor does not receive an inappropriate advantage.193 Accordingly, certain payments may be declared void and recovered from the recipient. Application of the voidable preference regime to trading trusts has received little judicial consideration in New Zealand.194
The regime has a very limited application to trading trusts in that the regime requires the relevant payment be towards the satisfaction of a debt.195 The trading trust however often seeks to distribute money to beneficiaries. The relationship between the trustee and beneficiary is not inherently a creditor/debtor relationship however.196 Therefore the regime will have only a minor application to trading trusts.
Section 298 CA on transactions for inadequate or excessive consideration (see appendix) has been held not apply to trust property.197 This section can only apply to transactions where the directors are bound to consider the best interests of the company and obtain fair value in return for the disposition – this does not apply when a director of a corporate trustee is seeking to distribute trading profits to beneficiaries.198
190 Murray Tingey and Nick Moffat “Antecedent Transactions” in Heath and Whale (eds), Insolvency Law in New Zealand, above n 12, at [24.1].
191 Murray Tingey and Nick Moffat “Antecedent Transactions”, above n 190, at [24.1].
192 Market Square Trust v Levin (2005) NZCLC 264, 935 and Bank of New Zealand v Coyle (1999) 8 NZLCLC 262,100 were overturned in Levin v Market Square Trust [2007] NZCA 135; [2007] 3 NZLR 591.
193 Allied Concrete v Meltzer [2015] NZSC 7; [2016] 1 NZLR 141 at [1].
194 It appears Levin v Ikiua is the only case in New Zealand to consider this.
195 Companies Act, s 292(2)(b).
196 Burns v Leda Holdings Pty Ltd, above n 23, at 381-385.
197 Levin v Ikiua (HC), above n 1, at [85]-[86] affirmed in Levin v Ikiua [2010] NZCA 509 at [54].
198 Levin v Ikiua (CA), above n 197, at [54].
However, Heath J writing extrajudicially noted that s 292(3)(e) regarding insolvent transactions (see appendix) applies to money held on trust by a company.199 This is based on the reasoning of the Court of Appeal in Anzani,200 affirmed by the Supreme Court in Mcintosh v Fisk.201 Section 292(3) defines a “transaction” for the purposes of a voidable transaction. Whilst para (a) refers to “conveying or transferring the company’s property”, and (b) refers to “creating a charge of the company’s property”, para (e) simply refers to the paying of money”.202 Therefore it was a simple matter of statutory interpretation that this paragraph was not restricted to the paying of the company’s money.203 This was also supported by policy reasons. If a company uses stolen money or money held on trust to pay a debt, then it is hard to see why the recipient creditor should be immune to the claw- back provisions simply because of the money’s source.204 Payment by a company towards the satisfaction of a debt, whether of the company’s money or not, is a transaction for the purpose of s 292.205 Therefore, payment by a trading trust of trust property towards the payment of a debt could be declared void.206
Heath J believes this to be another key reason why trading trusts do not pose a problem.207 Whilst it is true that payments by a trading trust when preferring one creditor over another will be caught by this section, that is the exact limit of this section – it is limited to the preference of creditors. It is difficult to see s 292(3)(e) as a meaningful answer to the risk of trading trusts after Levin, the case Heath J decided, where this section was not applicable as the recipient beneficiaries were not creditors of OPC.208 Instead, the beneficiaries remained protected against the claims of ACC.
199 Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 536.
200Anzani Investment Ltd v Official Assignee, above n 17.
201McIntosh v Fisk, above n 17.
202 Emphasis added.
203 McIntosh v Fisk, above n 17, at [56].
204 At [57].
205 At [59].
206 Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 539. 207 Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 533-7. 208 For this reason the liquidators brought their claims under s 298 Companies Act.
The problem of trading trusts have never been an ability to prefer one creditor over another – it is the extra protection afforded to beneficiaries compared to other residual owners, such as shareholders, that causes concern. A company holding all property on trust is able to circumvent provisions, such as s 298, enabling recovery of certain payments. Whilst it is clearly possible for a beneficiary to double as a creditor,209 in which case an insolvent payment could be recoverable; the trustee/beneficiary relationship is not inherently a creditor/debtor relationship however.210 The trading trust will often make distributions to beneficiaries who are not creditors of the company and the regime will not apply. This is one instance where provisions in the Act designed for creditor protection lack general application to trading trusts, making the creditor more vulnerable than an ordinary company’s creditor.
There are several duties owed by a director in the CA (and common law)211 to the company. These duties are by far the Act’s most meaningful answers to the risks of trading trusts. The duties owed in Part 8 CA apply regardless of the company’s status as a trustee. Whilst the duties of a director largely assist the trading trust director, there are still gaps. Such a remedy is (of course) duty based and solely targets the director(s) in question. Distributions which prejudice creditors do not necessitate a breach of duty and any possible breach does not provide recourse to the non-director recipients.
Whilst these duties are owed to the company rather than to a particular creditor,212 some duties are more likely to be enforced by creditors in a company’s liquidation. In a company’s insolvency the most relevant statutory duties are going to be ss 131, 135, 136 and 137 (see appendix).
209 For instance, Octavo Investment Pty Ltd v Knight [1979] HCA 61; (1979) 144 CLR 360 (HCA) the beneficiaries had lent the trading trust funds.
210 Burns v Leda Holdings Pty Ltd, above n 23, at 381-385.
211 Benton v Priore [2003] 1 NZLR 564.
212 Ulsterman Holdings Ltd (in liq) v Walls [2017] NZHC 3040 at [30].
Not every trading trust’s insolvency will leave a creditor with only a meaningless claim to a trustee’s indemnity. Many cases will also furnish a breach of directors duties. For instance, Owens v Shaw.213 The Shaws’ operated a business as glaziers and manufactures of aluminium joinery as a trust.214 While the majority of suppliers were willing to deal directly with the trustees, a major supplier, Viridian, had a policy of only contracting with a company.215 As such the Shaws’ incorporated Aluminium Plus Wellington (APW) to deal with Viridian (and anyone else who wished to contract with the Company).216 The Company did not have a bank account; rather, when Viridian supplied products to APW, payment was made by cheque from the I&A Shaw Family Trust.217 The Company eventually defaulted on a $61,000 invoice after discharging the Trust’s obligation to pay the Viridian invoices.218 The liquidators alleged several breach of duties.219
In the matter of s 135 on reckless trading, the Court noted the test is one of solvency and not liquidity, adopting the approach of the Court of Appeal in Yan v Mainzeal Property Construction Ltd (in rec and liq),220 taking a commercially realistic approach of the Company’s financial position.221 Although APW did not have a bank account and was entirely reliant on funds from the Trust, incurring obligations was not in breach of s 135 as the APW had a secure method of payment.222 As stated in Yan, “... it is common for companies to require support from related companies in a group or from shareholders”.223 However, the position instantly changed when the Company discharged the Trust from
213Owens v Shaw, above n 198. This is not technically a trading trust case (as I have defined it) as the Company did not act as trustee. However, the contract and supply agreement between the Company and the Trust had the same effect as a right of indemnity would. Therefore the case serves as meaningful discussion.
214 At [1].
215 At [2] and [3].
216 At [4] and [5].
217 At [7]-[10].
218 At [12] and [30].
219 At [17] alleged breaches of duty were ss 135, 136, 137 .
220 [2014] NZCA 190 at [60].
221 At [32] and [33].
222 At [37].
223 Yan v Mainzeal Property Construction Ltd (in rec and liq) [2014] 190 at [86].
the obligation to meet company liabilities.224 Once the directors of APW released the Trust from the payment obligations, APW was exposed to an obvious risk of loss with no assets or income to meet liabilities.225 This was a breach of s 135.226 Similarly, when the directors released the Trust as sole funders of Viridian purchases, the directors were plainly negligent and breached s 137.227 Accordingly, compensation was awarded under s 301,228 adopting the approaches of Mason v Lewis229 and Madsen-Reis v Petera.230
Or NZ Natural Therapy Ltd (in liq) v Little,231 which is more apt in the context of distributions. The Company was part of a network of entities and trusts.232 Mr Little treated the entitles as existing for the benefit of himself and his family, and accordingly, transferred funds to himself as he thought convenient.233 Mr Little shuttled money to himself without regard to the interests of the Company or its creditors while the Company was insolvent.234 In putting his own and his family’s interests ahead of the Company’s, he plainly breached s 131.235 Along similar reasoning he also breached ss 133, 135, 135 and 137.236
These cases serve as a useful reminder. It is possible for an asset-less company to operate effectively as trustee, without harming creditor interests, or directors breaching their duties. However, when the directors take a course of action that will cause obvious loss to the company’s creditors, it is plain a breach of duties will result.237 Also, it is not possible
224 At [43].
225 At [43].
226 At [44].
227 At [57].
228 At [66].
229 Mason v Lewis [2006] NZCA 55; [2006] 3 NZLR 225 (CA).
230 Madsen-Reis v Petera [2015] NZHC 538.
231 NZ Natural Therapy Ltd (in liq) v Little, above n 16.
232 At [2].
233 At [2].
234 At [71].
235 At [72].
236 At [76], [83], [86], [88].
237 Owens v Shaw, above n 198 at [43]-[44]. See also Lakeside Ventures 2010 Ltd (in liq) v Burrow [2014] NZHC 1048.
to exempt a director from the duties owed to the company – putting personal interests first which detrimentally affect the company will result in a breach of duty.238
However, not every case will be so simple. It may be the case the directors are not worthwhile suing. Or more importantly, a distribution of trust property, prejudicing creditor interests, may not result in a breach of duty in the first place. In Levin v Ikiua OPC Management Rehab (OPC) provided services for ACC while acting as trustee for the directors family trusts.239 Over the course of dealings, OPC incidentally overcharged ACC by nearly $400,000.240 By the time this was discovered, OPC had already distributed these funds to the recipient family trusts, leaving no assets for ACC to claim against.241 Amongst other claims, the liquidators claimed a breach of directors duties by Mr Ikiua and Mr Apa, alleging their ‘empty shell policy’ of after discharging liabilities to distribute all available funds to the recipient trusts every month was an operation designed to defeat creditor interests.242
Heath J found against that claim, holding that the directors conducted the business honestly and in good faith, except for one distribution of $8,000 which was made after the directors had notice of the overpayments.243 The directors had been reasonably prudent in discharging the liabilities. Without knowledge of the overpayments and in meeting the standard care and skill expected, they had not breached their duties owed by making such distributions.244
Depending on the factual situation, creditors of a trading trust may not be able to rely on directors duties in satisfying their claims. The distribution of such funds may not have breached any duties owed to the company. Even if a breach is found, the worth of finding this breach is dependent on the directors credit-worthiness. Relying on a breach of duties
238 NZ Natural Therapy Ltd (in liq) v Little, above n 16, at [71].
239 Levin v Ikiua, above n 1, at [4]-[17].
240 At [73].
241 At [28].
242 At [143].
243 At [143]-[146].
244 At [143]-[145].
is not necessary for the creditor of an ordinary company who has been prejudiced by a distribution however. The distribution regime posits another potential defendant for the creditor who has been prejudiced by distributions.
Distributions of company property is governed by the Act (see appendix: s 52 CA). Creditors of a company might seek recourse against shareholders who received distributions of company property.245 This is an attractive remedy for the creditor as a right of recovery (subject to defences) simply depends on proof that the company failed the solvency test when the distribution is made.246 Trading trusts not being subject to any similar regime is a flaw in the regulation of trading trusts.
The authors of Company Law in New Zealand list three reasons to regulate distributions:247
(1) to protect creditors from the abuse of limited liability;
(2) to ensure shareholders are treated equally;
(3) to control the risk of directors using their powers of distributions.
The framers of the Act saw the solvency test as a crucial means of creditor protection, especially when a company nears insolvency, where there might be extra incentive to exploit the company’s limited liability.248 When a company nears insolvency, there might be incentive to make distributions to its own members before the creditors make their claims.249 As creditors have priority over shareholders, the board may be fearful that there will be nothing left for the company’s own members once creditor claims are made, and
245 Companies Act, s 56.
246 Neil Campbell “Distributions”, above n 28, at 198.
247 Neil Campbell “Distributions”, above n 28, at 180.
248 NZLC, Company Law Reform and Restatement, above n 28, at [330].
249 NZLC, Company Law Reform and Restatement, above n 28, at [330]; Neil Campbell “Distributions”, above n 28, at 181.
attempt to divert the company’s property to the residuary claimants, attempting to nullify the claims of creditors to company property.250
The Act provides for the recovery of distributions of company property that failed to solvency test. Section 56 (see appendix) provides the shareholder with a threefold defence, preventing recovery if: the distribution was received in good faith and without knowledge of the company’s failure of the solvency test; the shareholder has altered their position in reliance of the validity of the distribution; and it would be unfair to requirement payment in part or in full.251 Directors will also be liable to cover any shortfall from the shareholders if they have been in fault in making the distribution.252
Section 56 draws first attention to the shareholder however.253 The distribution regime is an attractive remedy for the creditor as there is no need no prove any fault on the part of the board in making the distribution; recovery simply depends on the company not meeting the solvency test at the time of making the distribution.254 Matters of solvency may be difficult to prove in large scale entities, but at the very least the solvency test is not reliant on making findings of fact of a director’s state of mind (as is necessary for many duties owed in Part 8 CA). It is only logical that the recipients of a distribution made at a time when the company was not solvent should be liable repay those amounts.
Whilst the distribution regime is a key pillar in the Act in providing for creditor protection, it is nullified by the use of the trading trust. Where a company does not have beneficial ownership of property, it is not subject to the distribution regime.255 A key feature of the trading trust is that all of the company’s assets are held on trust.256 Therefore the trading trust is able to circumvent the regime and seemingly make distributions to beneficiaries, regardless of creditor claims to the trustee. By
250 Neil Campbell “Distributions”, above n 28, at 181.
251 Companies Act, s 56(1).
252 Neil Campbell “Distributions”, above n 28, at 198.
253 Companies Act, s 56(3); Neil Campbell “Distributions”, above n 28, at 198.
254 Companies Act, s 56(3); Neil Campbell “Distributions”, above n 28, at 198.
255 Levin v Ikiua (HC), above n 1, [108].
256 NZLC, fifth issues paper, above n 1, at [6.7]; Ford and Hardingham, above n 1, at 50.
circumventing the distribution regime the trading trust removes a potential defendant for the creditor to remedy their claim. It is only when directors are at fault that a trading trust creditor will be provided with a remedy following a distribution.
If a director authorises a distribution when loss to a creditor is likely to result, then there will likely be a breach of duty.257 If on the other hand, a director carefully considers the company’s financial position and makes a decision on reasonable grounds that creditors will not be prejudiced by a distribution, then they will not be personally liable for such a distribution.258 This line of authority comes from Nicholson v Permakraft; such a case involving dividends to shareholders would today however be dealt with under the distribution regime.259 The drafters of the 1993 Act intended for recovery of distributions to simply depend on a company’s solvency, not fault; and to provide a right of recovery against the recipients. The trading trust creditor on the other hand, while dealing with a company, is not protected by the distribution regime; the creditor is reliant on one set of defendants (directors) and finding a breach of duty by a director, rather than being able to rely on simply proving a company’s insolvency in making a distribution to have a right of recovery.
Nicholson v Permakraft highlights this point of difference well. Nicholson involved distributions to shareholders in circumstances where the Company had outstanding debts, thereby causing loss to the creditors.260 The actions of the directors however were held to be reasonable and the directors were therefore not personally liable to the creditors.261 Nicholson was decided before the 1993 Act, but the 1993 Act is consistent with the case (except insofar as the case suggests creditors are owed and can enforce duties directly).262 The Company clearly would have failed the solvency test if one existed at the time, as the
257 Levin v Ikiua (HC), above n 1, at [142]; Nicholson v Permakraft [1985] NZCA 15; [1985] 1 NZLR 242 at 250 per Cooke J.
258 Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 539.
259 Levin v Ikiua (HC), above n 1, at [141].
260 Nicholson v Permakraft, above n 257, at 242.
261 At 253.
262 NZLC, Company Law Reform and Restatement, above n 28, at [220].
Company could not pay its due debts after the distribution,263 yet the directors were not personally liable for the creditors loss.264 This case highlights the ability for creditors to suffer loss by way of distributions, but the directors will not necessarily be personally liable for this.
The trading trust not being subject to any distribution regime and the creditor not having an effective means of recovery is problematic. The trading trust is a corporate trustee with limited liability, engaging in risk-taking business activity.265 Taking the points from Company Law in New Zealand above, creditors of the trading trust are just as vulnerable to abuses of management powers and their interests being prejudiced by distributions as an ordinary company’s creditor is. The Act sought to curtail this by imposing a distribution regime, but it does not assist the trading trust creditor. The label of ‘beneficiary’ should not cloud the interests of the creditor who may be vulnerable to distributions.
The result is that there are two vehicles which are functionally and economically similar, but the trading trust is subject to significantly less restrictions on distributions, leaving the creditor more vulnerable.266 This is not surprising given the historic focus of trust law being on the relationship between trustee and beneficiary, meaning creditor interests would sometimes be neglected.267 Such lack of protection is however unfounded in a modern commercial setting, where the law seeks to evenly balance the interests of parties.268
263 Companies Act, s 4.
264 At 253.
265 Levin v Ikiua (HC), above n 1, at [97]; Taylor and Slevin, above n 23, at 1187; ALRC, General Insolvency Inquiry, above n 11, at 239; NZLS, Trust Law Conference, above n 68, at 51.
266 D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 305.
267 Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 186; D’Angelo “the trust as a surrogate company: the challenge of insolvency”, above n 21, at 307; Hudson, above n 14, at 167-74.
268 Evidenced in the long title of the Companies Act.
Early fears and harsh criticisms of the trading trust neglected the role the Companies Act (and the Corporations Act in Australia)269 would have in regulating the trading trust; Ford’s ‘commercial monstrosity’ thesis has been unfounded.270 The duties owed by a director in Part 8 of the Act provide a significant answer to the risks of the trading trust to creditors.271 The Trusts Act has also strengthened the position of the creditor seeking subrogation.272 Where the gap remains however is that a trading trust creditor is more easily prejudiced than a creditor of an ordinary company by distributions.
Courts have long recognised a trustee’s indemnity and the creditor’s subrogation to this right. Another means of recovery for the trust creditor may simply be the next logical step as the use of trusts continue to change and more regard is had to the rights of the creditor. Chapter Four will explore a further means of the trading trust’s creditor to seek recovery of distributions in applying Re Diplock to trading trusts.
269 Corporations Act (Aus) 2001.
270 Ford “Trading Trusts and Creditor Rights”, above n 12. See also Ford and Hardingham, above n 1; Williams “Winding up Trading Trusts: Rights of Creditors and Beneficiaries”, above n 11; McPherson, above n 1.
271 Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 537-9.
272 Trusts Act, s 86.
IV A ‘New’ Approach
A question that has remained open for decades, with no definitive answer, is whether Re Diplock can apply outside the administration of deceased estates to confer upon the creditor of a trustee a direct claim in equity against the recipients of a wrongful payment of trust property.273 This Chapter analyses the possibility of Diplock assisting the creditor of the trading trust. It is submitted that while Diplock is able to assist the trading trust creditor, the more appropriate move is to incorporate Diplock into the Trusts Act (discussed in Chapter Five). This will achieve Diplock’s effect in providing greater creditor protection, but achieve additional clarity and certainty in the law.
Firstly, the facts. The deceased, Caleb Diplock, died in 1936 leaving his residuary estate “for such charitable institutions or other charitable or benevolent object or objects in England ...”274 His executors, not knowing this provision was void for uncertainty,275 distributed over £200,000 to 139 charitable institutions.276 The plaintiffs, the deceased’s next of kin, sought judgment against these institutions. The plaintiffs alleged both personal claims against the recipients and proprietary claims (insomuch as the funds could be traced into the hands of the recipients).277 For current purposes, the relevant claim is the personal equitable claim.
273 Halsbury’s Laws of England (5th ed, 2019) vol 98 Trusts and Powers at [692]; Halsbury’s Laws of Australia (reissue, 1995) vol 27 Trusts at [430-5630]; Heydon and Leeming, above n 25, at [2320]; Ford and Lee, Principles of the Law of Trusts, above n 25, at [1730]; Lord Goff and Jones, above n 25, at [30- 002]-[30-003](The text has since changed hands from the original authors. The same discussion regarding the further application of Diplock does not appear in the newer editions.).
274 Ministry of Health v Simpson, above n 24, at 1137.
275 Declared void in Chichester Diocesan Fund and Board of Finance v Simpson [1944] UKHL 2; [1944] AC 341.
276 At 1137.
277 Re Diplock, above n 24, at 466.
With respect to this claim, the House of Lords declared the reasoning of the Court of Appeal to be unimpeachable;278 leading to the conclusion that, where the executors of a deceased estate have paid to persons that were not entitled to the payment, the next of kin or creditors can recover that payment from the recipient, assuming they are not a bona fide purchaser.279
The authority for this proposition stretched back three hundred years,280 but was summarised by Lord Davey in Harrison v Kirk:281
“But the Court of Chancery, in order to do justice and to avoid the evil of allowing one man to retain what is really and legally applicable to the payment of another man, devised a remedy by which, where the estate had been distributed either out of court or in court without regard to the rights of a creditor, it has allowed the creditor to recover back what has been paid to the beneficiaries or the next of kin who derive title from the deceased testator or intestate.”
This statement explained the ‘evil’ to be avoided and its remedy.282 There is no suggestion the payment be a mistaken one; all that is required is that the payment be sourced from the deceased’s estate.283
For the purpose of this dissertation, the significance of Diplock and the embedded authorities rests in the protection for the creditors of the estate. The embedded authorities, evidenced well in Harrison, demonstrate that for centuries the courts have been concerned to protect a creditor from being prejudiced by estate funds being distributed while debts remain unpaid. Diplock was a novel case in that never before had an
278 At 1140.
279 At 1140; Lord Goff and Jones, above n 25, at [30-002].
280 At 1140.
281 Harrison v Kirk [1903] UKLawRpAC 51; [1904] AC 1 at 7 (emphasis added).
282 At 1141.
283 At 1141.
underpaid beneficiary of an estate been conferred the right to proceed directly against a wrongly paid recipient.284
It must be recognised that the House of Lords focused the application of this remedy in the context of estate administration, and obiter comments suggest that there is no comparable rule in the law of trusts.285 Subsequent courts and commentators however have begun extending this reasoning to trusts.286 It will be demonstrated that this reasoning is just as applicable to trading trusts as it is to deceased estates. In some jurisdictions, such as Queensland, any doubt of this application has been removed by the legislature.287
In Ron Kingham Real Estate Pty Ltd v Edgar a trading trust had distributed all trust assets to beneficiaries, who were also the directors of the corporate trustee.288 The result was to leave the trustee’s indemnity worthless.289 The liquidators succeeded in a claim however that the trustee was entitled to be indemnified by the beneficiaries personally, and the liquidator could be subrogated to this right.290 The case was unusual in that there was no trust deed in evidence and the Court disregarded the evidence that suggested the beneficiaries were discretionary.291 Such an odd factual circumstance cannot be relied upon for the totality of trading trusts: any slightly informed trading trust director would ensure that the beneficiaries will not be liable to indemnify the trustee.
284 Lionel Smith “Unjust Enrichment, Property, and the Structure of Trusts” (2000) 116 LQR 412 at 438.
285 At 1140.
286 Re J Leslie Engineers Co Ltd, above n 25; Butler v Broadhead [1974] 3 WLR; Ron Kingham Real Estate Pty Ltd v Edgar, above n 23; Halsbury’s Laws of England (5th ed, 2019) vol 98 Trusts and Powers at [692]; Halsbury’s Laws of Australia (reissue, 1995) vol 27 Trusts at [430-5630]; Heydon and Leeming, above n 25, at [2320]; Ford and Lee, Principles of the Law of Trusts, above n 25, at [1730].
287 Trusts Act 1973 (Qld) s 113.
288 Ron Kingham Real Estate Pty Ltd v Edgar, above n 23, at 441.
289 At 441.
290 At 441
291 At 442.
Although not determinative for the case, Davies JA made important comments on the claim in s 109 Trusts Act 1973 (Qld)292 on wrongful distribution of trust property (see appendix). This section provides anyone who has suffered loss following a wrongful distribution of trust property with a personal claim against the recipient. He stated s 109 was an additional source of the right to claim against the recipients of trust property, rather than a new instance of recovery.293 It seemed the Queensland Law Reform Commission were of this opinion also. In their report they stated s 109 “ends this doubt [regarding Diplock applying to trusts] by giving a statutory personal right of recovery in every case.”294 This language suggests that this section was simply a clarification, rather than creating a new claim.
Diplock’s extension has been considered in application to companies. In Butler v Broadhead the liquidator had mistakenly conveyed company property to shareholders; this property should have been available to the Company’s creditors on liquidation.295 The plaintiffs unsuccessfully claimed the defendants had been unjustly enriched at the expense of the plaintiffs.296 Although Templeman J held that the Companies Act and the relevant Winding Up Rules barred the plaintiff’s claim,297 he considered that there was sufficient similarity between the position of an executor and a liquidator (in the duty of paying debts and distributing remaining assets) to enable equity to intervene.298 The Judge stated “the principle of the Diplock case must apply in toto or not at all and that there cannot be some safe halfway house.”299
292 Now s 113.
293 At 440.
294 At 73-74.
295 Butler v Broadhead, above n 25, at 30.
296 At 30.
297 At 37; Companies Act 1948 (UK).
298 At 34.
299 At 36.
The extension of Diplock has been considered in several other cases too.300 However that proposition only received brief consideration as factual circumstances have been fatal to the claim, such as not fully exhausting remedies against the trustee personally.301
Many academics also favour the extension of Diplock. Goff and Jones cite Butler v Broadhead for support that courts are prepared to extend the Diplock action to enable beneficiaries and creditors of inter vivos trusts to proceed directly against the recipients of trust assets.302
Ford and Lee noted that the main reason in Diplock to impose personal liability was that, ‘an invalid disposition cannot confer any equitable title in the recipient’, is stated too broadly to be restricted to deceased estates.303 Also, the imposition of personal liability upon recipients of trust property will assist the creditor who has a fruitless claim against an asset-less trustee or to their right of indemnity.304
So too does Philip Pettit in Equity and the Law of Trusts.305 After citing Butler v Broadhead the author states it now appears that a claim could be made based on unjust enrichment, allowing the trustee or creditor to recover back what was wrongly paid to the beneficiary, subject to defences available.306
For the sake of completeness, it should be noted here is authority against Diplock applying to trusts. However, such authority cannot be taken as conclusive against the extension of Diplock, but should merely be restricted to the ability of the trustee to recover from an overpaid beneficiary out of future payments. In Burns v Leda Holdings
300 GL Baker Ltd v Medway Building and Supplies Ltd [1958] 3 All ER 540; Eddis v Chichester Constable [1969] 1 All ER 546; Re J Leslie Engineers Co Ltd, above n 25; Hagan v Waterhouse (1991) 34 NSWLR 308.
301 For instance: Re J Leslie Engineers Co Ltd, above n 25, at 299; Hagan v Waterhouse, above n 300, at 370.
302 Lord Goff and Jones, above n 25, at [30-002].
303 Ford and Lee, Principles of the Law of Trusts, above n 25, at [1730].
304 At [1730].
305 Philip H. Pettit, Equity and the Law of Trusts (12th ed, Oxford University Press, 2012) at 551.
306 At 551. Defences include change of position.
Pty Ltd the Company had been trustee of a unit trust of which the respondents were unit holders.307 The Trust was involved in the purchase of real estate and distributed the profits of this to the unit holders, following which the Trust was terminated. A month later, notice of assessment of stamp duty arrived that was higher than expected with no funds to meet this.308
The liquidators unsuccessfully argued a claim in equity against the unit holders.309 Dowsett J held that where a beneficiary has been overpaid, the trustee may deduct this from any amounts further due to the beneficiary, but the beneficiary cannot be expected to repay these amounts personally.310 Downes v Bullock311 and Jacobs’ Law of Trusts in Australia312 were referred to as the main authorities for this proposition.313 The basis of this rule is the inequity in expecting a wrongly paid beneficiary to be able to repay such overpayments.314 However the Judge admitted himself that this is unsatisfactory in the context where the beneficiaries were essentially in control of the corporate trustee.315 Dowsett J also believed s 109 Trusts Act (Qld), when taken with the Diplock litigation, to be an indication that without this section, there would be no right of recovery against the recipients of trust property.316 In an instance of astonishing oversight however, the liquidators did not make their claim under this section but opted to establish a claim in equity.317
307 Burns v Leda Holdings Pty Ltd, above n 23, at 366.
308 At 366.
309 At 365.
310 At 378; Downes v Bullock, above n 144; RP Meagher and WMC Gummow , Jacobs’ Law of Trusts in Australia (5th ed, Buttersworth, 1986) at [1731]. See also Halsbury’s Laws of Australia (reissue, 1995) vol 27 Trusts at [430-4200].
311 Downes v Bullock, above n 144.
312 RP Meagher and WMC Gummow , Jacobs’ Law of Trusts in Australia (5th ed, Buttersworth, 1986).
313 At 378.
314 Burns v Leda Holdings Pty Ltd, above n 23, at 379.
315 At 379.
316 At 379.
317 At 385.
To demonstrate that Burns cannot be taken as conclusive against the extension of Diplock, regard must be had to the authorities relied upon by Dowsett J and his reasoning. Burns demonstrates well the problem in uncritically applying old trust cases, which seek to protect beneficiaries in disregard to others interests, in a modern commercial setting. Downes v Bullock318 was taken as authority that a beneficiary cannot be called upon to recover overpayments. In Downes a father had settled a trust where following his death, his son and the son’s wife would receive dividends for life.319 If the son died without any children, then the father’s next of kin would receive the residue. The son died without any children and the residue was distributed to the father’s four daughters.320 However, as the persons entitled to the residue were taken at the time of the death, the son also had an interest that was not accounted for, meaning the daughters had been overpaid.321 Sir John Romilly MR held the Court had no power to compel the daughters to refund anything which had been paid to them.322 Compare this situation with Burns where unit holders had received distributions before a higher than expected assessment of stamp duty was received, but the Trust had already been terminated.
It is easier to see why a court in the 1850s, who may have been more influenced by broad notions of fairness and an eagerness to protect beneficiaries, would be reluctant to order the daughters of a deceased, who had previously not been provided for at all by their father, until their brother’s death, to refund money to the brother’s personal representatives, after the son and his widow already received a life interest. In such factual situations, it may indeed be inequitable to expect the beneficiary to repay the overpayments.323 It is hard to see such general unfairness however with Burns in ordering investors to refund money received before the corporate trustee’s actual liability was assessed and paid. Indeed such situations may be a chief reason the Queensland legislator ensured Diplock applied to all trusts.
318 Bullock v Downes [1860] EngR 1040; (1860) 9 HL Cas 1; (1860) 11 ER 627.
319 At 627.
320 At 627.
321 At 627.
322 Downes v Bullock, above n 144.
323 Burns v Leda Holdings Pty Ltd, above n 23, at 379.
Jacobs’ Law of Trusts previously supported the proposition that an overpaid beneficiary cannot be expected to repay any overpayments.324 The current edition now however criticises Downes as “an old and unduly broad authority” in not taking into account the possibility of the trustee recovering moneys paid with the remedy of money had and received.325
As noted, the case was not pleaded under the Trusts Act (Qld) which provides a right of recovery for wrongful distributions of trust property. Dowsett J took the legislation as creating a new claim for the trust creditor.326 However when one reads the supplementary material to the Act, it is clear that the drafters did not intend to create a new claim, but intended to end any doubts on Diplock’s application to trusts.327 For that reason, Davies JA interpretation in Edgar of s 109 is more apt.328 As the claim was not brought before the Court under the section which clearly catered for this situation, the reason not to extend the equitable claim may have been more about strictness to pleadings than strictly legal ones. For the reasons noted, Burns cannot be safely taken as authority against Diplock applying to trusts.
Diplock applies to trading trusts for two reasons. Firstly, a trustee has no more power than an executor to confer equitable title through an invalid disposition.329 But the principle is wider than this: it is not necessary to prove such a mistake for equity to intervene.330 Diplock involved a mistake of law as the executors were not aware the provision of the will was void for uncertainty, and the executors therefore lacked authority to make such
324 RP Meagher and WMC Gummow , Jacobs’ Law of Trusts in Australia (5th ed, Buttersworth, 1986) at [1731].
325 Heydon and Leeming, above n 25, at [1737].
326 Heydon and Leeming, above n 25, at [1737].
327 Queensland Law Reform Commission, On the Law Relating to Trusts, Trustees, Settled Land and Charities (QLRC, r 8) at 73-4.
328 Ron Kingham Real Estate Pty Ltd v Edgar, above n 23, at 440. See above.
329 Ford and Lee, Principles of the Law of Trusts, above n 25, at [1730].
330 Ministry of Health v Simpson, above n 24, at 1143.
distributions. Although at the time mistakes of law were not recoverable,331 this did not prevent the equitable action applying. The authorities relied upon in Diplock were never concerned about mistakes, whether it be of fact or law;332 what was relevant was the receiving of funds had without regard to the rights of the creditor.333 The House of Lords recognised that nature of the mistake had never been relevant in applying the equitable doctrine.334 The action applies regardless of the type of mistake in play or even a deliberate action on the part of the executor in allowing relief for the claimant.335 Whatever the reasons the distributor had in making the payment should not act to the detriment of the innocent creditor or next of kin – such a restriction would unrecognisable to equity.336 It is not necessary for the claimant to prove a mistake on the part of the distributor to seek recovery under Diplock.337 Therefore, secondly, a creditor of the trading trust is just as vulnerable, if not more so than a deceased’s creditor, to being prejudiced by distributions made in disregard to their interests, enabling equity to intervene.338
To simply place a line around Diplock to administering estates is arbitrary.339 Taking the first reason above, to hold that Diplock only applies in the administration of deceased estates implies what while an executor cannot confer equitable title through an invalid disposition, a trustee can.
The importance of Diplock however lies in the protection to creditors, next of kin and legatees against acts of an executor. A trustee and an executor are not in the exact same
331 There is no longer a distinction between mistakes of fact and law now: overturned in Australia in David Securities Pty Ltd v Commonwealth Bank of Australia [1992] HCA 353 and in England in Kleinwort Benson Ltd v Lincoln CC [1998] UKHL 38; [1999] 2 AC 349. This had been the case in New Zealand based on statute: Judicature Act 1908, s 94A; now Property Law Act 2007, s74A.
332 Ministry of Health v Simpson, above n 24, at 1143.
333 Harrison v Kirk, above n 291, at 7.
334 Ministry of Health v Simpson, above n 24, at 1143. 335 Ministry of Health v Simpson, above n 24, at 1143. 336 At 1143.
337 See Public Trustee v Flower [1990] NZHC 555; (1991) 13 NZTC 8,042, (1990) TRNZ 97 at 7.
338 Ford and Lee, Principles of the Law of Trusts, above n 25, at [1730].
339 Butler v Broadhead, above n 25, at 36.
position, but they are similar. Like the trust, the deceased estate lacks capacity from those who administer it.340 Dealing with others in differing capacities can affect one’s interests and rights to property.341 Problems for creditors arose in assets being distributed before creditors’ claims were made or the estate being insufficient to meet the deceased’s debts. The courts and later the legislature developed rules to remedy this.342 Diplock can be seen as a somewhat recent solution/restatement to the problem facing creditors of estates, that funds legally applicable to them have been distributed without regard to creditor claims.
This problem does not solely belong to the deceased estate however. Creditors of a trading trust are in a precarious position and are susceptible to this risk of assets being distributed without regard to their interests.343 The corporate trustee has no assets of its own so the creditor is reliant on the trustee’s indemnity,344 which is in turn reliant on there being trust assets.345 The trading trust however will be eager to distribute assets quickly as the assets are safest in the hands of the beneficiaries. The creditor of the trading trust and the deceased might be in the exact same position, but the law displays differing treatment of the two. Both creditors may have been prejudiced by distributions and exhausted all personal remedies against the distributor, but this is insufficient. The differing treatment of law is that it is beyond doubt that the creditor of the deceased would have a direct claim in equity against the recipient of this distribution. At the very least it is unclear whether the trustee’s creditor has the same right.
Take the statement from Harrison v Kirk quoted above.346 For centuries courts have been concerned about the creditor of an estate. Therefore they devised a remedy to avoid the ‘evil’ in one man receiving funds applicable to the payment of another. It is no less evil for someone to receive such funds having derived their title from the trustee than
340 Taylor and Slevin, above n 23, at 1203.
341 Taylor and Slevin, above n 23, at 1203.
342 Taylor and Slevin, above n 23, at 1203.
343 For instance: Levin v Ikiua (HC), above n 1; Burns v Leda Holdings Pty Ltd, above n 23; Ron Kingham Real Estate Pty Ltd v Edgar, above n 23.
344 Ford and Hardingham, above n 1, at 50.
345 Taylor and Slevin, above n 23, at 1190.
346 Above n 291, at 7.
someone who derives their title from the deceased. Either way, the creditor is left out of pocket.
Much of trust law is rooted in beneficiary favouring principles,347 evidenced well in Downes v Bullock. The trust is constantly evolving however and such principles cannot be coherently applied in perpetuity.348 Recognising a creditor’s direct claim against the recipient beneficiary would simply recognise how trusts are being used and the position of the creditor in being vulnerable to distributions.
In some regards, recognising this personal claim would change little. This would not be the only instance where the interests of the beneficiaries to trust property is secondary. Support for such a claim can also be found in the trustee’s right of indemnity, giving rise to a proprietary interest and having priority over the beneficiaries.349
To demonstrate the limits on what a beneficiary is entitled to, regard must be had to the trustee’s right of indemnity. The beneficiary is not the only one with an interest in trust property, and this interest is secondary to the trustee’s.350 Recognising the creditor’s personal claim against the recipient beneficiary is simply to be consistent with and will ‘give teeth’ to the trustee’s right of indemnity.
347 UK Trust Law Committee, Rights of Creditors Against Trustees and Trust Funds, above n 29, at [1.5]; Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis”, above n 12, at 186; Hudson, above n 14, at 168-173; Waters, above n 14, at 78.
348 Hudson, above n 14, at 175.
349 Octavo Investment Pty Ltd v Knight, above n 209, at 367.
350 Octavo Investment Pty Ltd v Knight, above n 209, at 367; Belar Pty Ltd (in liq) v Mahaffey [2000] 1 Qd R 477; [1999] QCA 002 at [20]; Chief Commissioner of Stamp Duties (NSW) v Buckle [1998] HCA 4; (1998) 192 CLR 226
at [48]-[51].
When a trustee incurs a liability in execution of the trust, they have a right of recoupment out of trust property in satisfaction of this debt.351 This right of recoupment provides the trustee with a proprietary interest in trust property.352 This interest enjoys priority over the beneficiaries.353 Therefore, although property is held on trust, this does not necessarily mean that the beneficiary is entitled to the delivery of that property.354 The beneficiary is only entitled to net proceeds after discharging liabilities.355
Professor Ford criticised Octavo in holding that the trustee’s right of exoneration also gives rise to a proprietary interest in trust property; he argues that this is better charactered as a fiduciary power.356 However, it is beyond doubt that the trustee’s right of recoupment gives rise to a proprietary interest.357 This was recognised by the Court of Appeal in Levin.358 It is this right of recoupment which limits the entitlement of the beneficiary to net proceeds after discharging liabilities.
Judges and commentators have long emphasised the importance of the trustee’s indemnity.359 In Worral v Harford it was stated that the right of indemnity is an incident of the office of trustee and inseparable from it.360 Similarly, in Hardoon it was stated that the right of indemnity is “as old as trusts themselves” and that the plainest principles of
351 Trusts Act 2019, s 81.
352 Octavo Investment Pty Ltd v Knight, above n 209, at 367; Levin v Ikiua (CA), above n 197, at [53].
353 Octavo Investment Pty Ltd v Knight, above n 209, at 367; Re Griffith [1904] UKLawRpCh 64; [1904] 1 Ch 807; Jennings v Mather [1901] UKLawRpKQB 176; [1902] 1 KB 1 (CA) at 6 and 9.
354 Octavo Investment Pty Ltd v Knight, above n 209, at 369.
355 Kemtron Industries Pty Ltd v Commissioner of Stamp Duties (QLD) [1984] 1 Qd R 576 at 587.
356 Ford “Trading Trusts and Creditor Rights”, above n 12, at 4.
357 Williams “Winding up Trading Trusts: Rights of Creditors and Beneficiaries”, above n 11.
358 Levin v Ikiua (HC), above n 1, at [53].
359 Re Johnson, above n 10, at 550; Kemtron Industries Pty Ltd v Commissioner of Stamp Duties (QLD), above n 355, at 585; Moyes & Anor v J & L Developments Pty Ltd & Anor (No 2) [2007] SASC 261; McPherson, above n 1, at 149-50; Kalev Crossland “Trading Trusts”, above n 12, at [46.3]; Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 527-533. For a contrary view see RWG Management Ltd v Cmr for Corporate Affairs [1985] VicRp 42; [1985] VR 385; Heydon and Leeming, above n 25, at [2106]; GE Dal Pont, above n 1, at [23.155].
360 Worrall v Harford, above n 10, at 8.
justice require the beneficiary who receives the benefit of property should also bear its burden.361
Although the importance of the trustee’s right of indemnity is well recognised, it is too easily rendered worthless by distributions. This is of particular concern for the trading trust creditor who may be entirely reliant on the trustee’s indemnity. Once assets have been distributed to beneficiaries, the right of indemnity out of trust assets is taken to be extinguished.362 It is extraordinarily easy to exclude a right of indemnity from beneficiaries personally.363 Although it was beyond doubt in Levin that OPC had a proprietary interest in trust property in relation to the expenses incurred as trustee,364 it seemed little could be done once the trading profits had been distributed to the beneficiaries.
Recognising a creditor’s personal claim against the recipient beneficiary is then simply consistent with and a means to properly enforce the trustee’s right of indemnity. If a creditor has such a claim, then it strengthens the primacy of the trustee’s interest in trust property, as the trustee would be able to discharge liabilities where personal and trust assets are not sufficient to meet the debts. It would also ensure that the beneficiary is indeed only receiving net proceeds after discharging liabilities.365 This claim of the creditor against the recipient beneficiary simply ‘gives teeth’ to the trustee’s indemnity where it is currently rendered worthless if assets have been distributed. After all, beneficiaries are not entitled to assets not paid for.
361 Hardoon v Belilios, above n 36, at 123-4.
362 UK Trust Law Committee, The proper protection by liens, indemnities or otherwise of those who cease to be trustee ((Tolley Publishing, London, 1999) at [33].
363 This right can easily be excluded: Wise v perpetual Trustee Co, above n 48; Hardoon v Belilios, above n 36, at 127; RWG Management Ltd v Cmr for Corporate Affairs [1985] VicRp 42; [1985] VR 385 at 394-5; Ron Kingham Ron Kingham Real Estate Pty Ltd v Edgar, above n 23, at 442 per McPherson J; Heydon and Leeming, above n 25, at [2106]; Kalev Crossland “Trading Trusts”, above n 12, at [46.3].
364 Levin v Ikiua (CA), above n 197, at [54].
365 Kemtron Industries Pty Ltd v Commissioner of Stamp Duties (QLD), above n 355, at 587.
The law cannot and should not stay static. If new instances of recovery were not recognised then the law would be condemned to ossify for no apparent reason.366 Fears of ‘palm tree justice’ may be justified if recovery was awarded on no ground other than a particular judge’s sentiment.367 However, when the case is made with a direct analogy with previous authority, and the reasoning is equally applicable, then there seems little reason not to award recovery.368
Diplock and the cases relied upon provided a necessary means of creditor protection in the administration of deceased estates. The embedded authorities protected the creditor where Diplock extended this to the next of kin or legatees.369 Creditors of the estate were vulnerable to assets being distributed before accounting for the deceased’s debts, and the personal liability of the executor for such acts may be insufficient.370 The courts in response devised a remedy where the creditor (and later next of kin or legatee) would have a direct claim in equity against the recipient of the distribution.
The same risks are applicable to the trust creditor, particularly the trading trust. In this case, the trustee’s personal assets are unlikely to be able to meet liabilities and the trustee’s indemnity is vulnerable to being rendered worthless by distributions. Directors duties and other CA provisions cannot always be relied upon. Recognising this claim is simply to recognise the potentially vulnerable position of the creditor.
366 Gibb v Maidstone and Turnbridge Wells NHA Trust [2010] EWCA Civ 678; [2010] IRLR. 786 at [26]
367 Gibb v Maidstone and Turnbridge Wells NHA Trust, above n 366, at [26].
368 At [27].
369 See Noel v Robinson [1682] EngR 499; (1682) 1 Vern 90; 23 ER 334; Orr v Kaines [1675] EngR 1396; (1750) 2 Ves Sen 194; 23 ER 125;
David v Froud [1833] EngR 355; (1833) 1 My & K 200; 2 LJ Ch 68; 39 ER 657.
370 Taylor and Slevin, above n 23, at 1203.
It is submitted that equity is able to assist the creditor of the trading trust in conferring a direct personal claim against the recipient of a wrongful distribution of trust property. The reasoning of Diplock and earlier authorities is just as applicable to trusts as it is to deceased estates; Diplock must apply in toto or not at all.371 This is not the only means to bolster the position of the creditor however. Statute could remedy this situation in regulating distributions of trust property. Chapter Five explores this.
371 Butler v Broadhead, above n 25, at 36.
V Statutory Reform
Regulating distributions by trading trusts has been considered by the Law Commission.372 The recommended solvency test for trading trusts was misplaced in that it unnecessarily imposed extra liability upon directors of trading trusts while continuing to over protect beneficiaries. The considerations do however recognise a regulatory gap in distributions of trust property and the vulnerability of the creditor in being prejudiced by distributions. Incorporating Diplock into the Trusts Act, as Queensland has done, is the most appropriate means to provide creditors of the trading trust with the protection deserved.
The distribution regime’s non-application to trading trusts has been noted. In 2002 the Law Commission recommended inserting into the Trustee Act:373
“A trading trust may make a distribution to a beneficiary of the trust only if the same requirements as are prescribed by the Companies Act 1993 section 52 (relating to the solvency test) have been satisfied, and in the event of a breach of this provision, the directors and officers of the trading trust will be under the same criminal liability and the same personal liability to make repayments as are directors of a company under the Companies Act 1993 sections 52(5) and 56.”
This was never enacted however, possibly largely because of negative responses from submitters.374 Some thought that compliance would place too great a burden on
372 NZLC, Some Problems in the Law of Trusts, above n 46; NZLC, fifth issues paper, above n 1.
373 At [29]. The recommendations were made at the time of the Trustee Act 1956.
374 NZLC, fifth issues paper, above n 1, at [6.25].
trustees.375 In 2011 the Commission re-considered the use of trading trusts but paid little consideration to extending the distribution regime to trading trusts.376
The main problem with this proposal is its target on directors. As Hart noted, this would be harsher than the regime in the CA as s 56 provides for recovery from the shareholder.377 This proposal however simply places all the burden upon directors. This extra liability is unnecessary as directors of trading trusts are still subject to the exact same duties in Part 8 of the Act.378 The problem posing creditors of trading trusts is that beneficiaries are over protected when compared to other residual owners such as shareholders. The external reviewer also expressed concerns about the ‘brief-cross- reference technique’ creating uncertainty as to how the rules relating to distributions would apply.379
This recommendation by the Law Commission does not adequately address the problem of trading trusts for creditors. Rather than focusing on the distributions themselves which may prejudice creditors, it sought to focus upon the solvency of corporate trustees and impose greater liability upon directors. A provision which enables a creditor to recover a distribution from the recipient is a more effective and appropriate remedy. Some problems with the previous proposal could be resolved by incorporating the distribution regime in full into the Trusts Act. However, given the case has been made that equity can already assist the trading trust creditor, a provision that incorporates Diplock is preferred to achieve consistency and clarity in the law, rather than changing it. This will also be more consistent with the general law of trusts.
375 NZLC, fifth issues paper, above n 1, at [6.25].
376 The paper mainly noted the recommendation and the negative responses: NZLC, fifth issues paper, above n 1, at [6.25].
377 John Hart “Trading Trusts” (paper presented to New Zealand Law Society Trusts Conference, 2003) at 160.
378 Heath “Bringing Trading Trusts into the Company Line”, above n 16, at 537-9.
379 David Goddard “NZLC 79 – ‘Some Problems in the Law of Trusts’ – Implementation” (Draft Memorandum prepared for Ministry of Justice, 6 May 2007) at 5.
Incorporating Diplock is the most appropriate response to the use of trading trusts, bringing the law of trusts and administration of estates together in terms of wrongful distributions.380 The effect of this section would be similar to the distribution regime in the Act in that it provides the creditor who has suffered because of a wrongful distribution with a direct personal claim against that recipient.381 It also however maintains the personal liability of the trustee by requiring the claimant (except with leave of the court) to first exhaust all remedies against the trustee personally;382 and it enables a change of position defence, in line with the general law of unjust enrichment383 and is consistent with the shareholders defence in s 56.384
This section is reasonably wide as it applies to trusts generally. Trading trusts have been the focus of this dissertation and Law Commission reports. However, if the discussion regarding the position of the creditor and the entitlements of a beneficiary holds, this same reasoning is applicable to trusts generally; trading trusts simply bring the problem to the forefront. The rights of a beneficiary will generally be the same under the trading trust as any other trust,385 and there is nothing about being a beneficiary which entitles one to assets not paid for.386 The trustee’s indemnity and subrogation sought to prevent this but proved inadequate when all assets had been distributed.
Also, if such a section was restricted to trading trusts then the problem of definitively defining a trading trust arises.387 Having a statutory definition might simply invite some to try and modify their chosen trading vehicle to escape the set definition and restrictions.
380 Trusts Act 1973 (Qld), s 113. See appendix.
381 Trusts Act 1973 (Qld), s 113(1); Companies Act, s 56(1).
382 Trusts Act 1973 (Qld), s 113(2).
383 Limpkin Gorman v Karpnale Ltd [1991] AC 548 (HL).
384 Trusts Act 1973 (Qld), s 113(3); Companies Act, s 56(1).
385 Ford and Hardingham, above n 1, at 55.
386Octavo Investment Pty Ltd v Knight, above n 209; Kemtron Industries Pty Ltd v Commissioner of Stamp Duties (QLD), above n 355, at 587.
387 NZLC, fifth issues paper, above n 1, at [8.32]-[8.34].
If the analysis in Chapter Four is accepted, then the creditor already has such a remedy against the recipient, but this is not to be without difficulties. Providing for such a remedy in statute however will enable all the benefits that come statute based law: it is accessible (even to the non-expert), clear and certain, and its authority is unquestioned.
The extension of Diplock outside of deceased estates is the next logical step. Firstly, trustee has no more power to provide equitable title through an invalid disposition than an executor does. But the principle is wider than this. Equity was concerned with simply the position of the creditor and the receipt of funds legally applicable to the payment of another.388 Accordingly, there is no need to prove a mistake for the equitable action of Diplock.389 The creditor of the trustee may be left just as vulnerable following a distribution as a deceased’s creditor is: in either situation, personal claims against the distributor may be worthless in satisfying the debt. If anything, creditors of trading trusts are more vulnerable given the corporate trustee’s lack of assets and readiness to distribute property held on trust.
Similarly, while creditors of the ordinary company could pursue shareholders for insolvent distributions of company property, no such right existed for creditors of the trading trust for similar distributions of trust property. The creditor was left more vulnerable in dealing with a company depending on the company acting as trustee. There is no convincing reason for this, particularly as the creditor may be unaware the company acts as trustee.
Lessons can be learnt from other branches of law that have over time improved the position of creditors. Partnerships were once the predominant legal structure for combining assets in pursuit of trade.390 Like the trust, it also lacks its own legal personality. In this context, rules were developed to ensure that the partnerships assets
388 Harrison v Kirk, above n 291, at 7; Ministry of Health v Simpson, above n 24, at 1141.
389 Ministry of Health v Simpson, above n 24, at 1143; See Public Trustee v Flower, above n 337, at 7.
390 Taylor and Slevin, above n 23, at 1203.
can be made available to all creditors of a bankrupt partner or partners.391 The company’s position to creditors has changed much over the centuries and in recent times, while the internal relationship has stayed largely the same.392 For instance, it was once necessary for a debtor company to intend to prefer one creditor over another to attract the voidable preference regime, but is no longer necessary.393 The distribution regime in the Act also helped to strengthen the position of the creditor.394 Such other areas show that change is possible and indeed may be required to ensure the fair treatment of the creditor.
For these reasons, incorporating Diplock into the Trusts Act is favoured. This will ensure creditors of the trading trust are adequately protected and beneficiaries do not remain overly protected in the receiving of distributions.
391 Taylor and Slevin, above n 23, at 1203.
392 UK Trust Law Committee, Rights of Creditors Against Trustees and Trust Funds, above n 29, at [1.3].
393 Murray Tingey and Nick Moffat “Antecedent Transactions”, above n 190, at [24.2].
394 NZLC, Company Law Reform and Restatement, above n 28, at [333].
Conclusion
The examination of trading trusts has shown a gap in the law. It is difficult to find a convincing reason why the creditor of a trading trust should have less protection in regards to distributions than a creditor of an ordinary company, a deceased and even more a traditional trustee.
Although the trustee takes on personal liability (unless expressly excluded), this personal claim is worthless against an asset poor company. The trustee’s indemnity and subrogation will too be worthless if all assets have been distributed. In such a case, the creditor of the trustee is in the exact same position as the deceased’s creditor whose assets have been distributed and claims against the executor are insufficient. In response, the Court of Chancery devised a remedy where the creditor would have a direct claim against the recipient.395 This reasoning is just as applicable to trusts as it is to deceased estates and the creditor of the trustee is equally deserving of protection. The trading trust brings this problem to the forefront as the trustee has no assets of its own and is likely to readily distribute assets held on trust (which can be done honestly).396
While the Companies Act sought to make the recovery of distributions simply dependent on the company’s solvency and not on any fault of the board, the trading trust circumvented this. A trading trust creditor seeking recourse following distributions would need to show fault on behalf of directors or recipients.
Problems for the creditor stem from the historic function of trusts in protecting the vulnerable – principles regarding trusts accordingly favoured beneficiaries at the expense of outsiders. For decades cases have been coming before the court where a trading trust creditor has been left out of pocket following distributions.397 There is no reason why the
395 Taylor and Slevin, above n 23, at 1203.
396Levin v Ikiua (HC), above n 1.
397Octavo Investment Pty Ltd v Knight, above n 209; Burns v Leda Holdings Pty Ltd, above n 23; Ron Kingham Real Estate Pty Ltd v Edgar, above n 23.
beneficiary should be protected in totality (the exception to this has been establishing claims such as dishonest assistance or knowing receipt). Gone are the days where the trust simply is left for the widow and children.398 The trading trust is the paradigm example: it engages in risk inherent business ventures and is generally chosen to mitigate tax liability and avoid certain Companies Act provisions.
The protection afforded to beneficiaries in respect to distributions is undue. Being a beneficiary does not entitle one to distributions which prejudice creditor interests. As more regard is gradually being paid to the position of the creditor, historic principles of trust law are beginning to seem antique in a modern commercial setting.399 Today the regulation of business entities seeks efficiency and a balancing of interest.400 Relying on the conscience of the beneficiary to recovery a distribution is neither efficient nor fair for the creditor.
The case has been made for the extension of Diplock. However, incorporating this into statute is more appropriate. Given the above discussion, it is only right the recipient of a wrongful distribution of trust property be liable for its repayment, subject to one’s good faith and change of position, which would make repayment inequitable.
398 For instance, Downes v Bullock, above n 144.
399 Hudson, above n 14, at 174.
400 Companies Act, long title.
Appendix
Companies Act 1993 provisions
(1) For the purposes of this Act, a company satisfies the solvency test if—
(a) the company is able to pay its debts as they become due in the normal course of business; and(b) the value of the company’s assets is greater than the value of its liabilities, including contingent liabilities.
(2) Without limiting sections 52 and 55(3), in determining for the purposes of this Act (other than sections 221 and 222which relate to amalgamations) whether the value of a company’s assets is greater than the value of its liabilities, including contingent liabilities, the directors—
(a) must have regard to—(i) the most recent financial statements of the company that are prepared under this Act or any other enactment (if any); and(ia) the accounting records of the company; and
(ii) all other circumstances that the directors know or ought to know affect, or may affect, the value of the company’s assets and the value of the company’s liabilities, including its contingent liabilities:
(b) may rely on valuations of assets or estimates of liabilities that are reasonable in the circumstances.
(3) Without limiting sections 221 and 222, in determining for the purposes of those sections whether the value of the amalgamated company’s assets will be greater than the value of its liabilities, including contingent liabilities, the directors of each amalgamating company—
(a) must have regard to—(i) the most recent financial statements of each amalgamating company that are prepared under this Act or any other enactment (if any); and
(ia) the accounting records of the amalgamating company; and
(ii) all other circumstances that the directors know or ought to know would affect, or may affect, the value of the amalgamated company’s assets and the value of its liabilities, including contingent liabilities:
(b) may rely on valuations of assets or estimates of liabilities that are reasonable in the circumstances.
(4) In determining, for the purposes of this section, the value of a contingent liability, account may be taken of—
(a) the likelihood of the contingency occurring; and(b) any claim the company is entitled to make and can reasonably expect to be met to reduce or extinguish the contingent liability.
Section 52 Board may authorise distributions
(1) The board of a company that is satisfied on reasonable grounds that the company will, immediately after the distribution, satisfy the solvency test may, subject to section 53 and the constitution of the company, authorise a distribution by the company at a time, and of an amount, and to any shareholders it thinks fit.
(2) The directors who vote in favour of a distribution must sign a certificate stating that, in their opinion, the company will, immediately after the distribution, satisfy the solvency test and the grounds for that opinion.
(3) If, after a distribution is authorised and before it is made, the board ceases to be satisfied on reasonable grounds that the company will, immediately after the distribution is made, satisfy the solvency test, any distribution made by the company is deemed not to have been authorised.
(4) In applying the solvency test for the purposes of this section and section 56,—
(a) debts includes fixed preferential returns on shares ranking ahead of those in respect of which a distribution is made (except where that fixed preferential return is expressed in the constitution as being subject to the power of the directors to make distributions), but does not include debts arising by reason of the authorisation; and(b) liabilities includes the amount that would be required, if the company were to be removed from the New Zealand register after the distribution, to repay all fixed preferential amounts payable by the company to shareholders, at that time, or on earlier redemption (except where such fixed preferential amounts are expressed in the constitution as being subject to the power of directors to make distributions); but, subject to paragraph (a), does not include dividends payable in the future.
(5) Every director who fails to comply with subsection (2) commits an offence and is liable on conviction to the penalty set out in section 373(1).
Section 56 Recovery of distributions
(1) A distribution made to a shareholder at a time when the company did not, immediately after the distribution, satisfy the solvency test may be recovered by the company from the shareholder unless—
(a) the shareholder received the distribution in good faith and without knowledge of the company’s failure to satisfy the solvency test; and(b) the shareholder has altered the shareholder’s position in reliance on the validity of the distribution; and
(c) it would be unfair to require repayment in full or at all.
(2) If, in relation to a distribution made to shareholders,—
(a) the procedure set out in section 52 or section 70 or section 77, as the case may be, has not been followed; or(b) reasonable grounds for believing that the company would satisfy the solvency test in accordance with section 52 or section 70 or section 77, as the case may be, did not exist at the time the certificate was signed,—
a director who—
(c) failed to take reasonable steps to ensure the procedure was followed; or
(d) signed the certificate, as the case may be,—
is personally liable to the company to repay to the company so much of the distribution as is not able to be recovered from shareholders.
(3) If, by virtue of section 52(3) or section 70(3) or section 77(3), as the case may be, a distribution is deemed not to have been authorised, a director who—
(a) ceased after authorisation but before the making of the distribution to be satisfied on reasonable grounds for believing that the company would satisfy the solvency test immediately after the distribution is made; and(b) failed to take reasonable steps to prevent the distribution being made,—
is personally liable to the company to repay to the company so much of the distribution as is not able to be recovered from shareholders.
(4) If, by virtue of section 55(5), a distribution is deemed not to have been authorised, a director who failed to take reasonable steps to prevent the distribution being made is personally liable to the company to repay to the company so much of the distribution as is not able to be recovered from shareholders.
(5) If, in an action brought against a director or shareholder under this section, the court is satisfied that the company could, by making a distribution of a lesser amount, have satisfied the solvency test, the court may—
(a) permit the shareholder to retain; or(b) relieve the director from liability in respect of—
an amount equal to the value of any distribution that could properly have been made.
Section 131 Duty of directors to act in good faith and in best interests of company
(1) Subject to this section, a director of a company, when exercising powers or performing duties, must act in good faith and in what the director believes to be the best interests of the company.
(2) A director of a company that is a wholly-owned subsidiary may, when exercising powers or performing duties as a director, if expressly permitted to do so by the constitution of the company, act in a manner which he or she believes is in the best interests of that company’s holding company even though it may not be in the best interests of the company.
(3) A director of a company that is a subsidiary (but not a wholly-owned subsidiary) may, when exercising powers or performing duties as a director, if expressly permitted to do so by the constitution of the company and with the prior agreement of the shareholders (other than its holding company), act in a manner which he or she believes is in the best interests of that company’s holding company even though it may not be in the best interests of the company.(4) A director of a company that is carrying out a joint venture between the shareholders may, when exercising powers or performing duties as a director in connection with the carrying out of the joint venture, if expressly permitted to do so by the constitution of the company, act in a manner which he or she believes is in the best interests of a shareholder or shareholders, even though it may not be in the best interests of the company.
Section 133 Powers to be exercised for a proper purpose
A director must exercise a power for a proper purpose
Section 135 Reckless trading
A director of a company must not—
(a) agree to the business of the company being carried on in a manner likely to create a substantial risk of serious loss to the company’s creditors; or
(b) cause or allow the business of the company to be carried on in a manner likely to create a substantial risk of serious loss to the company’s creditors.
Section 136 Duty in relation to obligations
A director of a company must not agree to the company incurring an obligation unless the director believes at that time on reasonable grounds that the company will be able to perform the obligation when it is required to do so.
Section 137 Director’s duty of care
A director of a company, when exercising powers or performing duties as a director, must exercise the care, diligence, and skill that a reasonable director would exercise in the same circumstances taking into account, but without limitation,—
(a) the nature of the company; and
(b) the nature of the decision; and
(c) the position of the director and the nature of the responsibilities undertaken by him or her.
(1) A transaction by a company is voidable by the liquidator if it—
(a) is an insolvent transaction; and
(2) An insolvent transaction is a transaction by a company that—
(a) is entered into at a time when the company is unable to pay its due debts; and(b) enables another person to receive more towards satisfaction of a debt owed by the company than the person would receive, or would be likely to receive, in the company’s liquidation.
(3) In this section, transaction means any of the following steps by the company:
(a) conveying or transferring the company’s property:(b) creating a charge over the company’s property:
(d) undergoing an execution process:
(e) paying money (including paying money in accordance with a judgment or an order of a court):
(f) anything done or omitted to be done for the purpose of entering into the transaction or giving effect to it.
(4) In this section, transaction includes a transaction by a receiver, except a transaction that discharges, whether in part or in full, a liability for which the
receiver is personally liable under section 32(1) or (5) of the Receiverships Act 1993 or otherwise personally liable under a contract entered into by the receiver.(4A) A transaction that is entered into within the restricted period is presumed, unless the contrary is proved, to be entered into at a time when the company is unable to pay its due debts.
(4B) Where—
(a) a transaction is, for commercial purposes, an integral part of a continuing business relationship (for example, a running account) between a company and a creditor of the company (including a relationship to which other persons are parties); and
(b) in the course of the relationship, the level of the company’s net indebtedness to the creditor is increased and reduced from time to time as the result of a series of transactions forming part of the relationship;
then—
(c) subsection (1) applies in relation to all the transactions forming part of the relationship as if they together constituted a single transaction; and
(d) the transaction referred to in paragraph (a) may only be taken to be an insolvent transaction voidable by the liquidator if the effect of applying subsection (1) in accordance with paragraph (c) is that the single transaction referred to in paragraph (c) is taken to be an insolvent transaction voidable by the liquidator.
(5) For the purposes of subsections (1) and (4B), specified period means—
(a) the period of 2 years before the date of commencement of the liquidation together with the period commencing on that date and ending at the time at which the liquidator is appointed; and(b) in the case of a company that was put into liquidation by the court, the period of 2 years before the making of the application to the court together with the period commencing on the date of the making of that application and ending on the date on which, and at the time at which, the order was made; and
(c) if—
(i) an application was made to the court to put a company into liquidation; and(ii) after the making of the application to the court a liquidator was appointed under paragraph (a) or paragraph (b) of section 241(2),—
the period of 2 years before the making of the application to the court together with the period commencing on the date of the
making of that application and ending on the date and at the time of the commencement of the liquidation.
(6) For the purposes of subsection (4A), restricted period means—
(a) the period of 6 months before the date of commencement of the liquidation together with the period commencing on that date and ending at the time at which the liquidator is appointed; and(b) in the case of a company that was put into liquidation by the court, the period of 6 months before the making of the application to the court together with the period commencing on the date of the making of that application and ending on the date on which, and at the time at which, the order of the court was made; and
(i) an application was made to the court to put a company into liquidation; and(ii) after the making of the application to the court a liquidator was appointed under paragraph (a) or paragraph (b) of section 241(2),—
the period of 6 months before the making of the application to the court together with the period commencing on the date of the making of that application and ending on the date and at the time of the commencement of the liquidation.
Section 301 Power of court to require persons to repay money or return property
(1) If, in the course of the liquidation of a company, it appears to the court that a person who has taken part in the formation or promotion of the company, or a past or present director, manager, administrator, liquidator, or receiver of the company, has misapplied, or retained, or become liable or accountable for, money or property of the company, or been guilty of negligence, default, or breach of duty or trust in relation to the company, the court may, on the application of the liquidator or a creditor or shareholder,—
(a) inquire into the conduct of the promoter, director, manager, administrator, liquidator, or receiver; and(i) to repay or restore the money or property or any part of it with interest at a rate the court thinks just; or
(ii) to contribute such sum to the assets of the company by way of compensation as the court thinks just; or
(c) where the application is made by a creditor, order that person to pay or transfer the money or property or any part of it with interest at a rate the court thinks just to the creditor.
(2) This section has effect even though the conduct may constitute an offence.
(3) An order for payment of money under this section is deemed to be a final judgment within the meaning of section 17(1)(a) of the Insolvency Act 2006.(4) In making an order under subsection (1) against a past or present director, the court must, where relevant, take into account any action that person took for the appointment of an administrator to the company under Part 15A.
Trusts Act 2019 provisions
Section 81 Trustee’s liability for expenses and liabilities incurred, and trustee’s right of indemnity
(1) A trustee is personally liable for an expense or a liability incurred by the trustee when acting as a trustee.
(2) However, a trustee who incurs an expense or a liability when acting reasonably on behalf of the trust is entitled,—
(a) if the trustee has paid the expense or discharged the liability out of the trustee’s own funds, to reimbursement from the trust property; or(b) in any other case, to pay the expense or discharge the liability directly from the trust property (or to have it paid or discharged by a remaining trustee).
(3) The operation and enforcement of the indemnity in this section is governed by the rules of the common law and equity relating to trusts.
(4) This section does not limit any indemnity available at common law or in equity.
Section 86 Creditor’s limited claim to trust property through trustee’s indemnity
(1) This section applies if a trustee incurs an expense or a liability to a creditor and the trustee—
(a) has a right to be indemnified from the trust property; or(b) for any reason is not entitled to be indemnified or fully indemnified from the trust property (for example, because the trustee incurred the liability in breach of trust) but—
(i) the creditor has given value; and(ii) the trust has received a benefit from the transaction between the trustee and the creditor; and
(2) The creditor has a claim against the trustee that may be satisfied by the creditor being indemnified from the trust property as if the creditor were in the position of a trustee who has a right to be indemnified from the trust property.
(3) The creditor has not acted in good faith for the purposes of subsection (1)(b)(iii) if the creditor had knowledge of the circumstances that excluded or limited the trustee’s indemnity (whether or not the creditor knew they would have that effect).
(4) For the purposes of subsection (1)(b), a claim under this section—
(a) is limited to the benefit received by the trust (together with interest calculated in accordance with Schedule 2 of the Interest on Money Claims Act 2016); and(b) must be paid in priority over any payment to a beneficiary, unless the court orders otherwise; and
(c) does not alter the priority of creditors who are entitled to claim from the trust property.
(5) This section applies in respect of a former trustee who incurs an expense or a liability as a trustee acting on behalf of the trust.
Trusts Act 1973 (Qld)
Section 113 Remedies for wrongful distribution of trust property
(1) In any case where a trustee has wrongfully distributed trust property any person who has suffered loss by that distribution may enforce the same remedies against the trustee and against any person to whom the distribution has been made as in the case where a personal representative has wrongfully distributed the estate of a deceased person.
(2) Except by leave of the court, no person who has suffered loss by reason of the wrongful distribution of trust property or of the estate of a deceased person may enforce any remedy against any person to whom such property or estate has been wrongfully distributed until the person has first exhausted all remedies which may be available to the person against the trustee or personal representative.
(3) Where any remedy is sought to be enforced against a person to whom a wrongful distribution of trust property or the estate of a deceased person has been made and that person has received the distribution in good faith and has so altered the person’s position in reliance on the propriety of the distribution that, in the opinion of the court, it would be inequitable to enforce the remedy,the court may make such order as it considers to be just in all the circumstances.
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B Legislation
Administration Act 1969.
Companies Act 1993.
Judicature Act 1908.
Property Law Act 2007. Trustee Act 1956.
Trusts Act 2019.
Corporations Act 2001 (Aus). Trusts Act 1973 (Qld).
Companies Act 1948 (UK).
C Books and Chapters in Books
Robert P Austin and Ian M Ramsay Ford, Austin and Ramsay’s Principles of Corporations Law (17th ed, Chatswood, NSW: LexisNexis Buttersworths, 2018).
Andrew S Butler (ed) Equity and Trusts in New Zealand (2nd ed, Thomson Reuters, Wellington, 2009).
GE Dal Pont, Equity and Trusts in Australia (6th ed, Pyrmont, New South Wales, 2015). John Farrar and Susan Watson (eds) Company and Securities Law in New Zealand (2nd ed, Wellington, NZ: Thomson Reuters, 2013).
HAJ Ford & WA Lee, Principles of the Law of Trusts (2nd ed, Sydney: Law Book Co, 1990).
HAJ Ford and I.J. Hardingham “Trading Trusts: Rights and Liabilities of Beneficiaries” in Finn, Equity and Commercial Relationships (Sydney: Law Book Company, 1987) 48. Lord Goff and Gareth H. Jones The Law of Restitution (7th ed, London: Sweet & Maxwell, 2007).
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David J Hayton (ed) The International Trust, (3rd ed. Bristol UK: Jordans, 2011).
Paul Heath and Michael Whale (eds), Insolvency Law in New Zealand (3rd ed, Lexis Nexis NZ Limited, Wellington, 2018).
JD Heydon and MJ Leeming Jacobs’ Law of Trusts in Australia (7th ed, Sydney: LexisNexis Buttersworths, 2006).
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BH McPherson “The Insolvent Trading Trust” in PD Finn (ed) Essays in Equity (Law Book Company, Sydney, 1985) 142.
RP Meagher and WMC Gummow Jacobs’ Law of Trusts in Australia (5th ed, Buttersworth, 1986).
RP Meagher and WMC Gummow Jacobs’ Law of Trusts in Australia (6th ed, Buttersworth, 1997).
Charles Mitchell, Paul Mitchell and Stephen Watterson The Law of Unjust Enrichment
(9th ed, London: Sweet & Maxwell, 2016).
Petit Equity and the Law of Trusts (12th ed, Oxford University Press, 2012).
Lynne Taylor and Grant Slevin The Law of Insolvency in New Zealand (Wellington, New Zealand: Thomson Reuters, 2016).
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Donovan Waters, ‘Convergence in Divergence: Civil and Common Law’ in D Hayton (ed), Extending the Boundaries of Trusts and Similar Ring-Fenced Funds, (Kluwer Law International, The Hague 2002) 59.
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D Journal Articles
Peter Blanchard “Towards a modern law of trusts” (paper presented to New Zealand Law Society trusts Conference, 2001).
HB Chernside “Modern Status of the Massachussets Trust” (1978) ALR (3d) 704.
Kalev Crossland “Unsecured creditors and the ‘Uncorporation’: issues with trading trusts post financial crisis” (2011) 17 Trusts and Trustees 185.
Nuncio D’Angelo “the trust as a surrogate company: the challenge of insolvency” 3 J Eq (2014) 299.
Nuncio D’Angelo “The Trust: Evolution from guardian to risk-taker, and how a lagging insolvency law framework has left financers and other stakeholders in peril” (2009) 20 JBFLP 279.
Robert D Flannigan, “The Nature and Duration of the Business Trust (1982) 6 Est & Tr Q 181.
HAJ Ford “Trading Trusts and Creditors Rights” [1981] MelbULawRw 1; (1981) 13(1) MULR 1.
David Goddard “NZLC 79 – ‘Some Problems in the Law of Trusts’ – Implementation” (Draft Memorandum prepared for Ministry of Justice, 6 May 2007).
John Hart “Trading Trusts” (paper presented to New Zealand Law Society Trusts Conference, 2003).
Walter G Hart “What is a Trust?” (1899) 15 LQR at 294.
Paul Heath “Bringing Trading Trusts into the Company Line” (2010) 3 NZLR 519. Lionel Smith “Unjust Enrichment, Property, and the Structure of Trusts” (2000) 116 LQR 412.
Donovan Waters “The Trust in a Changed and Yet Changing World” (2008) JITCP 205. Daryl R Williams “Winding up Trading Trusts: Rights of Creditors and Beneficiaries” (1983) 50 ALJ 273.
E Parliamentary ad Government Materials
New Zealand Law Commission, Company Law Reform and Restatement (NZLC R9, 1989).
New Zealand Law Commission, Court Jurisdiction, Trading trusts and other issues review: fifth issues paper (NZLC IP28, 2011).
New Zealand Law Commission, Review of the Law of Trusts: Preferred Approach
(NZLC IP31, 2012).
New Zealand Law Commission, Some Problems in the Law of Trusts (NZLC PP48, 2002).
F Internet Resources
Australian Council of Social Service “Ending tax avoidance, evasion and laundering trhough prive trusts (November 2017) <https://www.acoss.org.au/ending-tax-avoidance- evasion-and-money-laundering-through-private-trusts/
Frederic William Maitland, “The Unincorporated Body” (Paper presented at the Eranus club), https://socialsciences.mcmaster.ca/econ/ugcm/3ll3/maitland/unincor.mai viewed 1 August 2019.
G Other Resources
Australian Law Reform Commission, General Insolvency Inquiry (No 45) (Canberra: Australian Government Public Service, 1988).
New Zealand Law Society, Trust law Conference (Wellington, New Zealand: New Zealand Law Society, 1999).
Queensland Law Reform Commission, On the Law Relating to Trusts, Trustees, Settled Land and Charities (QLRC, r 8).
UK Trust Law Committee, Rights of Creditors Against Trustees and Trust Funds (Tolley Publishing, London, 1997).
UK Trust Law Committee, The proper protection by liens, indemnities or otherwise of those who cease to be trustee (Tolley Publishing, London, 1999).
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