Jersey Unreported Judgments

Trust - application to set aside a transfer into settlement

[2024]JRC168

Royal Court

(Samedi)

6 August 2024

Before     :

R. J. MacRae, Esq., Deputy Bailiff, and Jurats Dulake and Berry

 

IN THE MATTER OF THE REPRESENTATION OF DOMINION FIDUCIARY TRUST LIMITED AND F ("THE SETTLOR") RE THE E TRUST ("THE TRUST)

AND IN THE MATTER OF THE TRUSTS (JERSEY) LAW 1984

Advocate I. C. Jones for the Representors.

Advocate O. A. Blakeley for the Minor Beneficiaries.

judgment

the deputy bailiff:

Background

1.        On 14 December 2023, we heard the Representation of the Trustee and the Settlor and reserved our decision pending receipt of further information.

2.        The Trust was created on 2 February 2016.  The Trust is a Jersey law discretionary trust created by a declaration by the Trustee, which has remained trustee of the Trust throughout.  Subject to a power to add which may be exercised by the Trustee, the persons entitled to benefit under the Trust were set out in Schedule 2 of the Trust Instrument.  The Settlor is identified in the definition section of the Trust.  The beneficiaries listed in Schedule 2 are the Settlor, his spouse, two sons and two daughters.  Schedule 1 contains the administrative provisions which provides, inter alia, that the Trustee shall have "all the same powers as a natural person acting as the beneficial owner of [the Trust] property" and that the Trustee "may carry out any transaction relating to the management or disposition of the Trust property as if [it was] absolutely entitled to it". 

3.        In the event of there being no beneficiaries capable of benefitting under the Trust, the assets of the Trust default to such charitable purposes as the Trustee in its discretion determines and, in default of such determination, for charitable purposes generally.  Charitable purposes are defined as purposes "exclusively charitable according to the law of the Island of Jersey".

4.        The Trust was settled by the Settlor for a variety of purposes including asset protection and protection from the forced heirship regime in the country of the Settlor's domicile.  In addition, it was the wish of the Settlor that the Trust be tax efficient from his perspective.

5.        The Trust owns two substantial properties in London ("the properties"), which are being combined to provide a home for some or all of the beneficiaries.  The source of the assets originally settled on trust was the Settlor.  The properties are owned by two Jersey companies wholly owned by the Trustee.

6.        External to the said properties, the Trust owns net liquid assets, including investments, cash and monies loaned from the Settlor with a total approximate value of $33 million at the end of March 2024.  The properties were purchased in August 2016 for £54,500,000.

7.        The orders sought by the Trustee include an order seeking that the Court order that the Declaration of Trust dated 3 June 2016 be set aside by reason of mistake and take effect as a bare trust for the Settlor absolutely ab initio, and for certain consequential relief.  Such relief would not affect the validity of the Trust itself, nor the assets, saving the properties, held in the Trust.  The Declaration of Trust dated 3 June 2016 was executed by one of the Jersey nominee companies to the effect that the properties registered in its name were held as nominee of and bare trustee for the Trustee in its capacity as trustee of the Trust absolutely.  Thereafter, the two nominee companies executed documents acknowledging that they held the properties as nominees of and bare trustees for the Trustee as trustee of the Trust. 

8.        Tax advice given by Hogan Lovells to the Trustee (and seen at the time by the Settlor / his advisers), gave rise to this application, and was the subject of evidence provided to the Court by Leading Counsel.  On 5 September 2023, the Bailiff directed that the Representors have leave to file and serve an expert report in the field of English tax law focussed on whether or not the advice given to the Trustee was negligent or otherwise deficient.

9.        That advice was given in writing and orally by Mr Mullan KC.  Mr Mullan is a member of the English Revenue Bar.  He provided an expert report dated 28 June 2023 and gave evidence before us at the hearing in order to explain the advice that was given to the Trustee by Hogan Lovells in 2016 and his analysis of it.

10.     There were three key pieces of advice given by Hogan Lovells which were considered by Mr Mullan in his evidence.  The advice given on 22 March 2016 will be referred to as "the First Advice".

The tax advice

11.     The First Advice said that the "proposed trust structure" (a reference to the subsequent 3 June 2016 Declaration) would be effective to reduce UK inheritance tax, but not UK stamp duty land tax ("SDLT").  The First Advice said that where a non-domiciled non-resident individual (such as the Settlor) sets up a discretionary trust to hold UK assets directly, the trustees are subject to a charge to inheritance tax on every tenth anniversary on the date the trust was established and, assuming that the non-domiciled settlor is a beneficiary of the trust, on the settlor's death.  However, such a charge to IHT could be substantially reduced if the properties were purchased by the trust subject to a mortgage of 95% which would reduce the value of the properties for IHT purposes.  Any such loan would need to be secured as a charge against UK property, by a genuine third party bank loan, but the amount of the outstanding liability would reduce the value of the UK property for IHT purposes and the fact that the loan was charged over other trust assets would not alter the analysis.  The plan was for the loan to be for a three year term and interest bearing only, on the footing that on the third anniversary of the loan being taken out it would be re-financed again at 95% of the market value of the properties which would, assuming that the properties increased in value every year, increase the liability deductible for IHT purposes against the value of the properties. 

12.     Mr Mullan said this advice was inadequate.  The advice in relation to the re-mortgaging every three years was wrong.  Mr Mullan agreed that the advice was correct to the extent that to charge the properties by way of a mortgage would reduce their values for inheritance tax purposes.  However, this could have been achieved by the Settlor owning the properties directly.  Mr Mullan says "The use of the Trust has no function in the inheritance tax planning, and indeed appears only to have made the position worse".  First there is the ten year charge - 6% of the net value of the Trust property - here the Settlor was non-UK domiciled so the 6% charge only applied to the properties.  Secondly, while not mentioned by the First Advice, a gift with reservation of benefit charge arises where the settlor is a beneficiary of a trust.  In consequence, the properties would be treated as part of the settlor's estate giving rise to a potential charge of 40% on assets so far as they exceed £325,000 in value.

13.     In consequence, the properties would be treated as part of the settlor's estate on death for inheritance purposes.

14.     Accordingly, the tax consequences of the properties being trust assets were that:

(i)        the Trustee was liable to pay inheritance tax ten year charges on the net value of the properties;

(ii)       there would be an exit charge if the properties were appointed out of the Trust; and

(iii)      the properties would be treated as part of the Settlor's estate on death.

15.     Although Mr Mullan accepted, as indicated above, that the mortgage drawn down for the purpose of purchasing the properties represented a liability attributable to financing it and was fully deductible for inheritance tax purposes, he did consider (paragraph 73 of his advice) that further borrowing, such as regular re-financing to keep the loan ratio at 95%, would be disregarded for inheritance tax purposes. 

16.     Mr Mullan concluded by saying "It was obvious at the time that this sort of structure was not tax efficient" and that these assets should have been held directly (which could include holding them via a nominee such as a company to ensure privacy) and not via a trust.

17.     The second advice ("the Second Advice") was given by Hogan Lovells to the Trustee on 25 May 2016.  This advice summarised the First Advice, and the Second Advice said in the executive summary "The proposed acquisition structure is a sensible and tax efficient structure" and then summarised the tax consequences.  The summary in respect of SDLT and other matters was correct, but the summary in relation to IHT Mr Mullan described as "problematic".  The advice in relation to IHT suffered from the same defects as Hogan Lovells' First Advice.

18.     Further, the assertion that, provided the Settlor treated the properties as his main UK residence and spent at least ninety nights per year at the properties, any future disposal of the properties should be exempt from Capital Gains Tax ("CGT") was correct in its terms, but failed to say that to spend more than ninety nights per year in the United Kingdom may create a number of problems, for example a risk that he may become a UK tax resident and other potential tax consequences.

19.     The lengthy advice from Hogan Lovells that followed in the Second Advice did mention the IHT exit charge but again there was no mention of the gift with reservation of benefit rules or the fact that the tax advantages of the proposed scheme would be available if the properties were held directly or via a nominee company.  Mr Mullan confirmed that the use of a nominee vehicle was not a tax avoidance mechanism and indeed was a form of ownership encouraged by HMRC.  However, starting with a discretionary trust simply leads to a "penal charge" that was unnecessary.  In his view, the Trustee had fallen into an avoidable "bear trap" by adopting this structure.

20.     There were other criticisms of the advice given by Hogan Lovells in particular in respect of the tri-annual refinancing (see paragraph 75 of counsel's advice) that is not germane to set out for the purpose of this judgment. 

21.     In any event as a consequence of the advice, contracts for the purchase of the properties were exchanged on 26 May 2016 and completion took place, as noted above, on 3 August 2016.  Title to the properties was acquired by two companies as nominee for the Trustee and the Trustee funded the purchase in part from assets settled on trust by the Settlor, some directly and others by way of an unsecured interest free loan from the Settlor, and as to 85% by way of draw down on a mortgage from a bank secured over the properties and other assets of the Trust with the Settlor providing a guarantee.

22.     Since purchase, the properties have been subject to significant works.  The cost of those works now amounts to some £35 million.  The Settlor was granted a licence to occupy the properties in August 2016 with the licence being renewed on different terms in 2018.

23.     Finally, Hogan Lovells gave their third advice ("Third Advice") on 6 January 2017.  This advice referred back to the First and Second Advices and was given in the light of the UK Government publishing a draft Finance Bill 2017.  In relation to what was called the "Existing Property Holding Structure", further advice was needed in order to consider:

(i)        how the Settlor and / or beneficiaries becoming UK tax resident "but not UK domiciled" could affect the UK IHT and CGT position in relation to the structure;

(ii)       steps that were needed to claim principal private residence relief on any future disposal of the properties; and

(iii)      the possible IHT implications of writing off the loan made by the Settlor to the Trust to fund the payment of the deposit required on acquisition of the properties. 

24.     The executive summary of the Hogan Lovells' advice was correct in respect of the IHT impact if the Settlor or any of the beneficiaries inadvertently became UK tax resident, correct in respect of CGT and principal private residence relief, but inadequate in respect of the advice given in relation to liability to CGT where the Trust makes chargeable gains and the Settlor or beneficiaries receive capital payments which are matched to such gains, and wrong when it advised that it was possible to write off the outstanding bridging loan provided by the Settlor to the Trust without creating any adverse IHT issues.  In Mr Mullan's view, writing off the loan could increase the value of the Trust and would increase the "double charge", i.e. the tenth anniversary charge and any future gift with reservation of benefit IHT charge.  However, the defects in this advice were not germane to whether or not the Trustee made an actionable mistake in 2016 - merely a consequence of the structure that was set up.

25.     We were told that a letter before claim had been sent to Hogan Lovells in relation to the advice they had given and that there was a standstill agreement in place between the respective claimants and Hogan Lovells.  We were told that although Hogan Lovells did not formally support the application, they were hopeful that it might succeed.

The consequences

26.     Towards the conclusion of his evidence, counsel explained a table analysing in summary form the UK tax consequences of various scenarios.  The first was the properties remained in trust and no further action was taken; secondly, that the properties remains in trust with the Settlor excluded from benefit which meant he would have to pay a market rent to occupy the properties; thirdly, that the Trustee appoints the properties out of the Trust to the Settlor personally, with the ownership then divided proportionately amongst the six ultimate beneficial owners (the adult beneficiaries) or, in the alternative, that the Settlor passes it on at death to his wife who then divides it proportionately between the five remaining beneficial owners. 

27.     The final option was that the Trustee apply to the Court to set aside the June 2016 Declaration of Trust and the Court directs that the properties were, and always had been, held by the Settlor directly through a nominee. 

28.     Each of these options were considered and addressed by reference to four possible sets of future circumstances, namely the tax consequences if the properties were:

(i)        sold whilst still a Trust asset in 2038 and the Settlor died shortly thereafter;

(ii)       whilst no longer a Trust asset, the Settlor died in 2038 and his spouse sold the properties in 2039;

(iii)      after the properties ceased to be a Trust asset, the Settlor died in 2038 and his spouse inherited the properties and died in 2039 while still owning them; and

(iv)     after the properties ceased to become a Trust asset, the Settlor died in 2038, and many years later after the properties have increased in value substantially, his spouse died still owning them. 

29.     For each scenario, an assumption was made that the value of the properties would increase by 5% per annum.  Counsel explained in detail the tax consequences of the possible outcomes in the four separate sets of circumstances.  Setting aside the Declaration of Trust would be more tax efficient than all likely scenarios save for (iv) where it would not always be the most tax effective scenario but where, in any event, most of the charge to tax could be legitimately avoided by the Settlor's spouse making a potentially exempt transfer to other younger beneficiaries on inheriting the properties. 

30.     We should make it clear that the fact that we are referring to these scenarios does not mean that the Representors are entitled to pick and choose a remedy.  It is not for the Court to assist an applicant for relief under the relevant provisions of the Trust (Jersey) Law 1984 ("the Law") to re-write history so as to create the perfect tax solution ex post facto.  As the Court of Appeal said in Hawksford Trustees Jersey Ltd v P [2021] JCA 201 having considered the decisions of the Royal Court in In the matter of the B Trust [2019] JRC 035 and A v Helm Trust Company [2019] 1 JLR N[4] George Bompas QC JA giving the judgment of the Court of Appeal said:

"54.      In Representation re The Grundy Trust [2020] JRC 071, In the matter of the Representation of the Grundy Trust [2020] 1 JLR 153, the Royal Court was asked to give a declaration concerning a trustee's exercise of its power of exclusion of a particular individual as a beneficiary.  What had happened was that S and his wife had been excluded, when the exclusion of the wife was appropriate only during S's life:  the declaration sought, and made by the Court, was that the exclusion should be declared to be voidable but of effect for a limited time only (S's lifetime) and then of no effect.  This result was considered by the Royal Court to lie within the scope of the power given by Article 47H(2) in exactly the same terms as that in Article 47G(2).

55.      In the judgment of the Court given by the Deputy Bailiff, Mr R.J. MacRae, it was noted at [34] and [35] that while "The Court has a discretion as to determining what effects, if any, of the exercise of the trustees' fiduciary powers are to be retained ... That is not to say that the Court is entitled to re-write history, or to make a new decision which the trustee wished it had made at the time".  In this connection the Deputy Bailiff referred to, and quoted from, the judgment in Representation re The B Trust.

56.      The Court then went on to find, on the facts, that it had power to give the requested relief.  As the Deputy Bailiff explained at [36]: 

"Accordingly for the Court to order the exclusion of the settlor's wife as a beneficiary to take effect only for the duration of the settlor's life is not to substitute a different transaction for that which was undertaken. To make such an order is squarely within the Court's power to declare that the Former Trustee's exercise of its fiduciary power shall have such effect as the Court may determine."

...

58.      We consider that in these last two cases [that is to say the Grundy Trust and the B Trust], as in the present case, the Royal Court rightly concluded that there is no power for the Royal Court, in the guise of avoiding or partially avoiding a transfer or disposition (Articles 47E(2) and 47(F)(2)) or the exercise of a power (Articles 47G(2) and 47H(2)), to bring about a different transfer or disposition or the exercise of a different power.  For reasons we have explained already, in our judgment this is a correct view of the scope of what is provided in paragraph (2) of those Articles."

31.     Nonetheless, it is clear that the analysis to which we have referred demonstrates that the tax consequences of the structure adopted in this case were in almost all possible future circumstances likely to be to the disadvantage of the beneficiaries, sometimes to their very substantial disadvantage.  Indeed, in the event that the properties remained in trust and no further action was taken, their values increased by 5% per annum, the Settlor died in 2038, the properties were not inherited by his spouse and the Trustee sold the properties the following year, the total charges to UK tax would exceed £86 million, whereas the charge to tax would be just over £2 million if the properties had been held directly through a nominee from the outset.

32.     The affidavits sworn on behalf of the Trustee deposes that had the Trustee and Settlor been advised correctly on the UK tax implications of holding the properties in a discretionary trust benefitting the Settlor at the time of the acquisition then they would not have used such a structure; instead they would have arranged for the Settlor to be the beneficial owner of the properties via a nominee corporate entity for privacy and security reasons.  By relying upon the tax advice received it is said that the Trustee and the Settlor both made a mistake. 

Further evidence required

33.     In the circumstances, we were concerned about the absence of an affidavit sworn by the Settlor and we reserved our decision pending receipt of the same, such affidavit to confirm whether or not in 2016 he would have settled / agreed to the settlement of the properties into trust had he known of the true UK tax position at the time. 

34.     We were also concerned about the absence of an affidavit from the Settlor as to the effect on the other beneficiaries of the Trust if the relief sought is granted, as the effect of such relief would be that they would no longer be beneficially interested in the properties. 

The minor beneficiaries, HMRC, and the Bank

35.     Four of the five beneficiaries, that is to say the children of the Settlor and his wife, are minors and were represented at the hearing by the Court-appointed guardian, Advocate Blakeley.  The guardian submitted and the Court provisionally accepted, subject to receipt of further evidence, that it was in the interests of the minor beneficiaries for the properties to be held in the most tax efficient manner, which in turn will preserve the family wealth to which it is likely they will become entitled wholly or in part at some point in the future.  It was said that there was nothing to suggest that the Settlor had devised a scheme to deprive his children of property or assets as a consequence of this application.  Nonetheless, we felt that this should be confirmed by the Settlor in his affidavit - to which we have already referred.

36.     We were also concerned that the only other person convened to the hearing on the Representation, the Settlor's wife, had not written to the Court setting out her position.  We were told that she did not object to the application, but in the circumstances we thought it was appropriate for the Court to hear from her directly and made a direction in this regard also.

37.     An additional concern was that, bearing in mind the tax consequences of this application, it was appropriate for HMRC to have proper opportunity to consider the Representation and to comment upon the same if it thought appropriate.

38.     It was not suggested at the directions hearing in June 2023 that HMRC ought to be convened and perhaps that matter should have been drawn expressly to the Court's attention at that time.  The Court did order that notice of the Representation be given to His Majesty's Attorney General by reason of the default charitable interest referred to above, but no such order was sought in relation to HMRC and, with the benefit of hindsight, ought to have been.  A week or so before the Representation was heard, the Court made such an order but HMRC had had insufficient time to respond, and we directed that HMRC be given twenty-one days to respond - if they thought appropriate - to the Representation and be informed that no decision would be made by the Court until their representations, if any, were to hand.

39.     Further, the draft order sought various ancillary relief including an order that certain funds held on deposit by Bank J Safra Sarasin ("the Bank") were to be vested in the Settlor and that the Trustee is replaced by the Settlor as the guarantor under the terms of the most recent lending facility to which the Trustee was a party.  As such relief affected existing contractual arrangements with a third party, in our view the third party affected should have the opportunity to make any observations on the orders proposed.

Further evidence received

40.     On 15 April 2024, counsel for the Representors provided the Court with a letter from HMRC dated 23 February 2024, indicating that the letter from the Representors dated 6 December 2023 had been reviewed by the Inheritance Tax Technical Team and they asked that they be provided in due course with the decision of the Court, along with any judgment issued.  We direct counsel for the Representors to provide the HMRC Inheritance Tax Technical Team with the Act of Court and the Court's judgment, as anonymised. 

41.     Counsel for the Representors provided the Court with an affidavit sworn by the Settlor on 28 March 2024 which dealt with the two matters raised at paragraph 33 and 34 above. 

42.     In his affidavit, the Settlor says, in relation to the issue raised at paragraph 33 above, that had he known that the tax advice received at the time (in 2016) was incorrect, then the option of the properties being placed into trust would not have been considered having regard to the advice of Mr Mullan.  He noted Mr Mullan's view that the Settlor holding the properties via a nominee corporate entity (as proposed), is the holding mechanism encouraged by HRMC in circumstances such as this. 

43.     As to the second matter (referred to at paragraph 34 above), the Settlor made the following observations.  First, even if successful, the Representation will not affect the status of the beneficiaries under the Trust.  Secondly, the properties would remain the family home of the beneficiaries of the Trust.  Thirdly, the Trust and properties represent only a small proportion of the Settlor's overall wealth and the effective removal of the properties from the trust structure will have little or no effect on the other beneficiaries.  Finally, the Settlor observes that the relief sought in the Representation benefits all of his immediate family, i.e. the current beneficiaries of the Trust.

44.     As to the further evidence sought referred to at paragraph 36 above, on 25 June 2024 we received a copy of a letter from the Settlor's wife dated 15 May 2024 expressing her support for the application and the orders sought on the basis that they were in the best interests of herself and her family.

45.     As to the Bank (see paragraph 39 above) by letter dated 26 July 2024, the Bank confirmed that it had no objection to the relief sought in the prayer to the Representation or the draft order proposed.

The relevant legal principles

46.     Article 47E of the Law says:

"47E Power to set aside a transfer or disposition of property to a trust due to mistake"

(1) In this paragraph, "person exercising a power" means a person who exercises a power to transfer or make other disposition of property to a trust on behalf of a settlor.

(2) The court may on the application of any person specified in Article 47I(1), and in the circumstances set out in paragraph (3), declare that a transfer or other disposition of property to a trust -

           (a) by a settlor acting in person (whether alone or with any other settlor); or

           (b) through a person exercising a power, is voidable and

(i)        has such effect as the court may determine, or

(ii)       is of no effect from the time of its exercise.

(3) The circumstances are where the settlor or person exercising a power -

           (a) made a mistake in relation to the transfer or other disposition of property to a trust; and

           (b) would not have made that transfer or other disposition but for that mistake, and

           (c) the mistake is of so serious a character as to render it just for the court to make a declaration under this Article."

47.     It can be seen that in respect of the Settlor / Trustee in its capacity as trustee and provider of directors controlling the nominee companies, the Court may declare a transfer or other disposition of property to a trust voidable and "of such effect as the Court may determine" if the settlor / person exercising a power has:

(i)        made a mistake in relation to the transfer or other disposition of property into trust;

(ii)       would not have made that transfer or disposition but for the mistake; and

(iii)      the mistake is of so serious a character as to render it just for the Court to make a declaration under this Article.

48.     It has been held that the third limb of the test involves two considerations, namely the seriousness of the mistake and whether or not it is "just" for the Court to make the declaration sought.  The definition of "mistake" in Article 47B includes mistakes as to the affect of, any consequences of, or any of the advantages to be gained by a transfer of a disposition of property to a trust, and it has been long established that mistakes as to the financial consequences (including taxation consequences) of a transaction may engage the Court's discretionary power to set aside the affected transfer. 

Our decision

49.     We have no doubt that the statutory test under Article 47E is met. 

50.     In reliance upon tax advice received in 2016 prior to the June 2016 Declaration of Trust made in relation to the properties, the Settlor and the Trustee received advice that was inadequate and / or incorrect in that it:

(i)        did not address the application of the gift with the reservation of benefit rules leading to the assumption that the properties would not form part of the Settlor's estate on death.  Further the advice did not consider either the inheritance tax or capital gains tax consequences of the Settlor's death;

(ii)       was at best incomplete on the application of Section 162A of the Inheritance Tax Act;

(iii)      was at best incomplete as to what might occur if the Settlor became a UK resident and did not address that there would be a charge on the benefit of the occupation of the properties in those circumstances;

(iv)     failed to recommend a more efficient structure, namely for the Settlor to hold the properties directly, albeit subject to the mortgage and its replacement mortgage, which would have avoided the ten year charges and / or exit charges, retained the benefit of the inheritance tax spouse exemption with the benefit of a capital gains tax free uplift in the value of the properties and no inheritance tax exit charge, and would avoid the gift with reservation of benefit concerns and consequences on the Settlor's death.

51.     These were mistakes contained in the advice received and, but for this advice, the Settlor and Trustee would not have entered into this transaction.  The mistakes were of a serious character and, in our view, it is and was just for the Court to make the declarations sought.  Accordingly, we made the orders sought, namely:

(i)        That the June 2016 Declaration of Trust takes effect as an express declaration that the properties (as defined in this judgment) are held on trust and have always been held on trust for the Settlor / Second Representor absolutely;

(ii)       That the shares in the two nominee holding companies (referred to at paragraph 21 of the judgment) are and have always been vested in the Settlor / Second Respondent absolutely;

(iii)      That the Settlor gives restitution of all monies expended by the Trustee in relation to and as a result of the purchase of the properties calculated by reference to the loan made by the Settlor / Second Representor to the Trustee on 25 May 2016, and the sum paid by the Settlor / Second Representor in order to redevelop the properties; and

(iv)     That the costs of and incidental to the Representation, including those of the Guardian, Advocate Blakeley, be paid out of the Trust on the indemnity basis, to be taxed if not agreed.

Authorities

Trust (Jersey) Law 1984. 

Hawksford Trustees Jersey Ltd v P [2021] JCA 201. 

In the matter of the B Trust [2019] JRC 035. 

A v Helm Trust Company [2019] 1 JLR Note 4.