The perception that trusts are relevant only to private client practitioners is outdated and fails to take account of the role of trusts in areas such as off-balance-sheet financing, securitisations and many other commercial arrangements. This article seeks to highlight some of the most common commercial uses of charitable trusts, and discuss the issues involved.
The role of the SPV
Special (or single) purpose vehicles (SPVs) frequently participate in a wide range of international financial and commercial transactions.
The term SPV may be used to refer to any vehicle set up to carry out one particular transaction, after which it will be wound up. But the essence of a true SPV is that it is a third party to the transaction in which it participates, and is not owned or controlled by any of the other participants in the transaction. This is usually to ensure that assets can be removed from the balance sheet of the originator and onto the SPV's balance sheet, without requiring consolidation of accounts.
An SPV is usually, but need not necessarily be, a limited liability company. There is nothing to prevent a trust being established to participate in one particular commercial transaction. However, generally trustees have to be conservative in the transactions that they enter into, and are duty bound to ensure diversification of investments. This may be difficult to achieve in the context of the type of off-balance-sheet transactions in which SPVs participate and therefore it is common practice to use a corporate vehicle. For the rest of this article, the term SPV will refer to a company.
Who owns the SPV?
This raises the question of who owns and controls the SPV, which is where trusts come into play. Typically, the SPV will be owned by the trustees of an offshore trust which would have charities as the sole beneficiaries.
Charities are the preferred beneficiaries because they are clearly independent of the company instigating the transaction and are not in danger of being assessed for tax by a revenue authority.
The trustees of the charitable trust resolve to establish the SPV and to hold its shares for the benefit of the charities specified in the trust instrument (if any) or for general charitable purposes.
Explaining charitable benefit
A trustee of a Jersey trust must act with due diligence, as would a prudent person, to the best of his ability and skill, and observe the utmost good faith. Most importantly, the trustee must exercise his powers for the benefit of the beneficiaries. In order to establish that the trustees of a charitable trust have acted properly, they must ensure that the SPV makes sufficient profit that can be distributed to the trustees, ultimately to be paid to charity.
Usually, the company instigating the structure is not doing so for philanthropic reasons and will seek to ensure that most of the financial gain arising from the structure will benefit it. Steps are therefore put in place to ensure that a quantifiable amount of benefit accrues to the SPV, for distributing to the trust and thereafter to charity. This can be achieved in a number of ways, such as by calculating payment flows so that a small residual profit is left in the SPV or by the SPV charging a transaction fee for participating in the arrangements.
There is no rule that states how much money must be distributed in this way. I am not aware that there has been any case where a charity or revenue authority has attempted to challenge a charitable trust on the basis of insufficient benefit accruing to the beneficiaries.
However, the amount should clearly be more than merely derisory, in order to avoid jeopardising the structure, and typically one might expect to see £1,000 or £2,000 a year being distributed.
The SPV and the charitable trust do not always have to be offshore entities, because not all structures in which they are used are tax driven. Many are simply off-balance-sheet exercises designed to improve a company's debt/equity ratios.
But if the SPV has to be unconnected to the instigating company, it may as well be placed somewhere tax neutral (so that, for example, any interest payments can be paid without withholding tax).
It is also sensible to locate the company in a jurisdiction which has a modern and flexible commercial legislation. Offshore jurisdictions such as Jersey usually fit the bill.
Jersey charitable trusts can be established quickly and easily. All that is required is the execution of an instrument of trust and the transfer to the trustees of the initial trust assets (usually a nominal sum). The trust is deemed to be in existence as soon as the trustees have control of the initial trust assets. There is no licence, consent or other authorisation required to be obtained from the Jersey authorities and no official register of charitable trusts established in the island. For that reason, a charitable trust can often be set up within 24 hours if necessary.
All Jersey trusts are created pursuant to and governed by the Trusts (Jersey) Law 1984, as amended, which provides that (within certain parameters) the terms of the particular trust instrument determine the duties and obligations of the trustees. This means that charitable trusts are extremely flexible and adapted to suit a wide range of situations.
In some cases, a trust instrument will give the trustees wide powers to enter into such agreements and make such investments as they think fit. In others, the trustees may be required to enter into certain specific transactions – typically, to form and hold shares in the SPV. This ensures that the trustees cannot be censured for having invested the whole of the trust fund in one asset.
It is important that where the trust instrument vests discretion in the trustees, the trustees do exercise that discretion independently. If they are seen to act as mere nominees for the instigator of the transaction, then the whole structure is likely to be prejudiced.
Jersey law contains express provisions protecting trust assets from the creditors of a Jersey trustee if the trustee becomes bankrupt. The assets that the trustee holds on his own account are distinguished from those he holds in his capacity as a trustee, and only the former are available to his creditors. It is important to note that in certain jurisdictions this comfort may not exist and if the trustee goes bankrupt, his creditors may be able to attach the assets being held on trust.
The flexibility of charitable trusts and their apparent independence from the instigators of major commercial transactions have ensured that they have now become a regularly used tool of commercial lawyers, and are no longer the exclusive domain of their private client counterparts.