Compensation rights of trustees: who has priority?

0

The seven-member Privy Council has delivered its judgment in the joined cases Equity Trust (Jersey) Ltd v Halabi and Investec Trust (Guernsey) Ltd v Fort Trustees [2022] UKPC 36. The appeals concerned the successive indemnification rights of trustees for debts and expenses, where the claims made for the indemnities of the trustees exceeded the value of the trust fund – i.e. where the trusts in question were insolvent.

Jersey law applied in both cases, but given the Privy Council’s view that applicable Jersey law was in all respects the same as English law, the decision is expected to have substantial impact in the UK sphere trusts.

The cases concerned Guernsey and Jersey trust structures under which the original trustees Equity Trust (Jersey) Ltd (“ETJL”) and Investec Trust (Guernsey) Ltd (“ITGL”) respectively, were replaced by successor trustees.

In ETJL v Halabi, ETJL, following his removal as trustee, was sued for £53 million by the liquidators of a company in the trust structure, for being vicariously liable for the alleged breach of fiduciary duties by two of its directors in relation to the Trust. The proceedings were settled but ETJL sought to recover £18.9 million of the settlement sum and associated costs, as part of its compensation (contained in a deed of dismissal previously entered into with its successor trustee). The assets of the trust were insufficient to cover the compensation claimed by ETJL.

In ITGL v. Fort Trustees, ITGL as original trustee had, together with a co-trustee, assumed liabilities under a loan agreement with an Icelandic bank, with other debts to various BVI companies being transferred to co-trustees. The liabilities amounted to over £200 million and the liquidators of the BVI companies demanded repayment of the sums owed. The co-trustees brought proceedings in Guernsey to ask the court to determine whether they had incurred any debts to the BVI companies and to obtain compensation from the assets of the Trust. The two co-trustees were subsequently replaced, with the new trustee added to the proceedings and the court debts assigned to the new trustee. The appeal to the Privy Council related to ITGL’s right to compensation for costs incurred in the earlier proceedings and their unpaid compensation.

The Privy Council was tasked with determining 4 questions:

1) Does the right of indemnification give the trustee ownership of the assets of the trust rather than simply being possessive?

2) If so, does a trustee’s ownership interest survive the transfer of trust assets to a successor trustee?

3) Does a former trustee’s proprietary interest in the assets of the trust take precedence over the equivalent interest of a successor trustee?

4) Does a trustee’s indemnity/privilege extend to the costs of proving his claim against the trust if the trust is “insolvent”, in the sense that the trustees’ claims for indemnification exceed the value of the trust? trust funds?

The Privy Council ruled unanimously on 3 of the questions put to it, finding that:

  • The right of indemnification gives the trustees a right of ownership over the property of the trust. It did not depend on owning the trust assets (question 1);
  • Ownership of trust assets survives transfer of trust assets to successor trustees (issue 2); and
  • A trustee’s indemnity or privilege extends to the cost of proving his claim against the trust when the trust is “insolvent”. This also extends to costs incurred after the retirement of a trustee (question 4).

Privy Council decisions on the above three issues were largely uncontroversial.

The most important question for the Privy Council to decide was the third question: does the proprietary interest of a former trustee take precedence over the interests of successor trustees? This was a matter for which limited authorities existed.

The Privy Council was unable to reach a unanimous decision, but by a narrow majority (4 for, 3 against) ruled that a trustee’s claim should have the same rank (“pari passu”) as successor trustees. The reasoning included that prioritizing claims made by previous directors would create an unfair outcome whereby the timing of a director’s appointment would impact their ability to recover. Since the payment rights of fiduciary creditors are subrogated to the privileges of trustees, there was also concern that it would be unfair that the priority of creditors depended on the date of appointment of the trustee with whom they contracted. This was particularly the case where the appointment dates of trustees are generally not known to third-party creditors and fiduciary creditors would expect all unsecured creditors to share equally in shortfall in fiduciary assets.

The dissenting minority considered that the interests of the successive administrators were competing and that therefore the claims of the administrators should be prioritized according to the chronological order in which they had been appointed. It is perhaps a more traditional and less commercial vision.

Practical implications of the decision:

Given the importance of the Privy Council’s decision and the previous lack of authority in this area, we will likely see the impact of the decision on the future conduct of administrators:

  • It is likely that outgoing trustees will place increasing importance on a trust’s ability to meet its existing, future and contingent obligations before disposing of trust property. Departing trustees may be more inclined to seek retention of trust assets or express security to meet estimated future liabilities.
  • If there are significant obligations that could be satisfied in the near future, outgoing trustees may try to delay their removal until those obligations have been satisfied, to avoid compensation claims taking the same rank as claims from an incoming trustee.
  • Professional trustees are likely to be increasingly interested in professional indemnity insurance, to reduce the risk of reduced recovery under indemnity if a trust becomes insolvent. It may also result in an increase in the professional liability insurance premium given the lesser value of a former trustee’s indemnity in the case of an insolvent trust.
  • Trustees and practitioners should pay particular attention to this developing area. Lord Briggs noted the possibility that it was foreseeable that exceptional circumstances might arise where the Court might need to exercise exceptional discretion to deviate from the “pari passu” rule. [269]. Future case law is likely to develop on the exact scope of these “exceptional circumstances”, which means that the rights of successive trustees may not rank equally in all circumstances.
Share.

About Author

Comments are closed.