A trustee’s top three: Watch this space

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Article Endnotes

 Part I:  A trustee’s top three

Part III:  A trustee’s top three: Part Three 

The first part of this article reviewed
some of the issues with which Cayman based trustees have been grappling during
the recent period of economic uncertainty. During the first half of 2010, a
renewed sense of optimism developed among clients and practitioners alike.
While 2009 appeared to be dominated by restructuring work and problem solving,
by most accounts private client practitioners in the Cayman Islands are busier
setting up new trusts and fielding fresh inquiries. As we return to the idea
that it is ‘business as usual’ there is more time to focus on some important
recent trends and developments in case law and legislation and what they may
mean for trustees. The second part of this article will therefore examine three
important topics in respect of which there are likely to be developments in the
near future that may affect local trustees.

Hastings Bass: the Revenue awakes 

Over the past few decades, since its first
formulation in 1975 in the eponymous case, the rule in Hastings Bass came to be
viewed as a useful tool for extricating trustees from the unintended
consequences of their decisions. The test was whether the court could be
satisfied that the effect of the exercise of a trustee’s discretion was
different to that which was intended and that the trustee “would not have acted
as [it] did had [it] not failed to take into account considerations which [it]
ought to have taken into account or taken into account considerations which
[it] ought not to have taken into account”[1].

The result is that the transaction can be declared void if the judge is
satisfied that the rule applies. Perhaps unsurprisingly, the rule is most often
invoked to avoid the unintended consequences of failed or mistaken tax
planning; it has been applied on numerous occasions to this effect by the
Cayman Islands courts[2].

However, the rule has become increasingly
unpopular with some academics, practitioners and English judges (commenting
extra judicially), who view it as an unwarranted ‘get out of jail free’ card
for trustees, allowing them to avoid the tax consequences of their transactions
in circumstances where individuals would not get off so easily. This increasing
scepticism was reflected by comments made, obiter, by some of the English
judges.

For example, in one of the leading cases, Park J commented that[3]:

“It cannot be right that whenever trustees do something which they later regret
and think that they ought not to have done, they can say that they never did it
in the first place”.

Traditionally, HMRC had declined invitations
to participate in court proceedings where the rule was being invoked, so that
the application would typically be made by the trustees and supported by the
beneficiaries. The same has been true of the US Inland Revenue Service in cases
in the Cayman Islands and Jersey of which they have been given notice. 

Trusts practitioners watched to see when
and where HMRC would ultimately decide to make its stand and whether this would
result in any significant retrenchment of the rule. Starting in mid-2008, HMRC
sought to intervene in a number of cases. The results have not necessarily been
encouraging from its point of view. The door has been left ajar for its
intervention in an ongoing Guernsey case (Gresham v RBC
Trust Company (Guernsey) Limited) in which the primary beneficiary of a
Guernsey trust applied for certain distributions to him which had triggered a
40 per cent UK tax liability to be set aside under the rule. The Guernsey Court
of Appeal gave HMRC leave to intervene in the application and on 17 March 2010
the Privy Council refused the beneficiary leave to appeal against this
decision. 

However, HMRC was rebuffed in Jersey on
jurisdictional grounds in the case of Re Seaton Trustees Limited (19 March 2009),
in which the Royal Court expressed the view that HMRC has no interest in the
application itself, but only in the UK tax consequences which flow from it and
therefore had no standing to be joined to the Jersey proceedings. 

HMRC has also now had its substantive
arguments for restriction of the rule rejected by the first instance courts in
England on points of principle in two recent cases: Pitt v Holt[4]
and Futter v Futter[5].
The formulation of the test quoted above survived both assaults, with the
judges in both cases recognising that the case for “a principled restriction of
the rule” must be determined by the Court of Appeal. 

Against this background, it is interesting
to note that the Cayman court has recently considered and affirmed the rule in
the case of The Ta-Ming Wang Trust (decided on 12 April 2010). In that case,
the aim of the trust structure was to achieve a tax saving by ensuring that
dividends were paid during a five year Canadian tax holiday available to
immigrants. The Grand Court applied the rule in declaring void the trustee’s
actions in procuring the declaration of a dividend outside of the requisite tax
holiday period in reliance on mistaken advice. The case confirms that the rule
is alive and well in the Cayman Islands. It will be interesting to see whether
the rule survives intact following the anticipated appellate court decisions in
England and/or the ruling of the Guernsey court in Gresham.

The HIRE
Act 

The Hiring Incentives to Restore Employment
Act of 2010 (the HIRE Act) was
signed into law on 18 March 2010. Buried under the somewhat opaque title were a
series of provisions which were expressly aimed at ending tax “abuses” by US
persons beneficially interested in offshore trusts (among other entities) and
the offshore service providers acting as trustee or administering those trusts. 

The Act introduces withholding taxes for payments after
31 December 2012 in certain circumstances. The intention is to ensure
compliance with enhanced reporting requirements for certain foreign accounts or
entities (including trusts) owned by US persons. Among other things, the Act
establishes a rebuttable presumption that a foreign trust established by a US
person (or to which that person transfers property directly or indirectly) has
US beneficiaries. In addition, where there is a discretionary power to make a
distribution then, unless the terms of the trust specifically exclude US
persons from the class of objects during the taxable year, the trust will be
treated as having a US beneficiary. There is also a new rule regarding the use
of trust property by US beneficiaries, which will be treated as a distribution
to those beneficiaries unless a ‘fair market rent’ is paid. In addition, US
shareholders with an interest in a passive foreign investment corporation
(PFICs) must now file annual information returns must now file annual
information returns.

There is also a new
rule regarding the use of trust property by US beneficiaries, which will be treated
as a distribution to those beneficiaries unless a ‘fair market rent’ is paid.
In addition, US shareholders with an interest in a passive foreign investment
corporation (PFICs) must now file annual information returns must now file
annual information returns.

Cayman trustees cannot be experts on all of
the intricacies of US taxation rules but it is imperative for advice to be
taken when dealing with trusts settled by US persons or in which US persons are
interested or potentially interested. Many US law firms are now offering
“compliance” audits to review existing trusts and flag up “HIRE” issues.

Receivers and powers of revocation

The Privy Council will soon consider
important issues arising in a case where a judgment creditor attempted to
enforce its money judgment against the settlor of two Cayman Islands trusts by
appointing a receiver over the settlor’s powers to revoke the trusts in the
hope that the receiver could then exercise those powers in its favour. The case
has important implications for the reservation of extensive powers (such as
powers of revocation) in discretionary Cayman Islands trusts which are designed
for legitimate asset protection. 

In TMSF v Merrill Lynch Bank and Trust
Company (Cayman) Limited [2008], the Grand Court and the Court of Appeal both
rejected these attempts at enforcement. The Plaintiff (TMSF) sought to have the
court appoint a receiver by way of equitable execution over the settlor’s
powers of revocation in order to enforce a US$30 million default judgment it
had obtained against him.

The settlor had reserved to himself wide
and unfettered powers of revocation. The Court of Appeal agreed with the Chief
Justice’s view that the court’s jurisdiction to appoint receivers could be
developed incrementally but ultimately decided, as a matter of policy, that to
allow equitable execution over a power of revocation would be “unwise and
inappropriate” and that this could only be permitted by express legislation.  



 

Endnotes 

[1] The modern formulation of the rule by Lloyd LJ in Sieff v Fox
[2005] 1 WLR 3811 

[2] In the leading case of A v Rothschild in Barclays Private
Bank v Chamberlain
and more recently in Re The Ta-Ming Wang Trust (12 April 2010) 

[3] In Breadner v Granville-Grossman [2001] Ch 523, 543 para 61

[4] [2010 EWHC 45(Ch)] 

[5] [2010 EWHC 449 (Ch)].
 

 

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