Hidden agenda

Courts have traditionally been reluctant to regard a trust as a hiding place for a settlor’s assets, but recent cases in Jersey may have changed all that, say Andrew McKenzie and William Richmond-Coggan

It is a truth, universally acknowledged, that a creditor seeking to enforce a substantial judgment will sooner or later turn their attention to offshore trusts. This is so whether the creditor in question is the hopeful recipient of a multimillion-pound award in divorce proceedings, the despairing victim of a complex and expensive fraud, the taxman, or any other debtor.

Despite what is evidently the Treasury’s view of trusts, the courts are generally reluctant to find that a trust has been established merely as a hiding place for the settlor’s assets (ie a sham) without very clear evidence to substantiate this view.

Thus, responsible trustees have been able to derive comfort from the knowledge that, provided that they behaved sensibly, the conduct of the settlor alone would not (except in specialised cases of tracing actions) expose the assets of the trust to interference from a third party. Recent developments, however, suggest a risk that this certainty may be about to be eroded.

Sham trusts
In Abacus (CI) & Grupo Torras v Sheikh Fahad Mohammed Al-Sabah [2003] (the Esteem Settlement case), the Jersey Royal Court set out the circumstances in which a trust will be held to be a sham. They clarified that the exercise of a substantial degree of apparent control on the part of the settlor over the disposition of the assets of the trust was not enough to lead to a finding of a sham.

In coming to this conclusion, the royal court took account of the trustees’ conduct at the time the trust was established and subsequently, and, in particular, the following points:
#the trust was established by deed, which had been the subject of detailed consideration and prepared by a solicitor;
#the trustee in question was a substantial professional trustee;
#all contact, at the time of the establishment of the trust, was between the trustees and Sheikh Fahad’s solicitors;
#the absence of any reassurance from the trustees to the settlor that they would always follow his instructions;
#the trustee’s conduct in administering the settlement, once established, was also considered to be relevant.

It is plainly desirable that a third party, seeking to attack the assets of a trust and potentially to deprive the beneficiaries thereof, should have to satisfy such a high test.

Worldwide freezing orders
In relation to the enforcement of assets nominally held by third parties, however, the guidance delivered recently by the Court of Appeal in Dadourian Group International v Simms [2006] introduces the potential for such confidence to be undermined.

In simple terms, the dispute revolved around an attempt to enforce globally the terms of an arbitration award in the US against various parties’ assets.

The specific hearing related to an attempt to obtain permission to enforce an existing worldwide freezing order (WFO) in Switzerland, where it was believed assets were being held. Unsurprisingly in the circumstances, the Court of Appeal does not appear to have given much thought to the position where the assets sought to be frozen were held on trust, but by examining an analogous, hypothetical case, it can be seen that the guidelines in their present form generate some uncertainty.

To borrow from Jane Austen: suppose that Darcy has set up the Bennett Trust offshore with Netherfield as trustees, the sole assets of which are investments overseas in businesses formerly run by Darcy. On the face of the trust deed the beneficiaries of the trust are Jane, Kitty and Lydia, with a power to add further beneficiaries.

While the trustees , conscious of the esteem settlement guidelines, have satisfied themselves that Darcy intended the trust to be a genuine trust, they have customarily sought his input on matters to do with the administration of the trust and the underlying companies, and taken his advice.

In arbitration proceedings, Bingley successfully obtains an award against Darcy personally for several million pounds, representing sums far in excess of Darcy’s own assets within the jurisdiction. Having failed to enforce the award, Bingley successfully obtains a worldwide freezing order against Darcy and then applies to the courts for permission to enforce this against what, in his view, are Darcy’s assets concealed within the Bennett Trust.

There is of course a risk that Netherfield would not be joined to this application or, in any event, take an active part in resisting it.

Most of the Dadourian provisions are geared to the protection of the nominal respondent (i.e. Darcy), but without regard to the interests of the affected third party.

It is guideline 6, however, that represents a potential weakening of the trust’s position. This provides that: “The standard of proof as to the existence of assets that are both within the WFO and within the jurisdiction of the foreign court is a real prospect; that is, the applicant must show that there is a real prospect that such assets are located within the jurisdiction of the foreign court in question.”

The risk of such a test is readily apparent. By contrast with the very high hurdle to be overcome in other circumstances before a court would be satisfied that a settlor’s creditor could obtain relief against the assets of a trust, this test requires Bingley to establish only the ‘real prospect’ that the trust assets are under Darcy’s direct, or indirect, control.

Nor should it be assumed that, in deciding whether to extend the freezing order in relation to such assets, the domestic court can be confident that such issues will be considered by the court in the jurisdiction of enforcement. Such considerations should come into play at the earliest stage, and for that to occur, it is essential that the trustee should be represented at the Dadourian stage hearing.

It remains to be seen how, in fact, these guidelines will be applied in cases relating to offshore settlements, but it is apparent that more remains to be done before the existing guidelines can be said to deal comprehensively with the complexities of this field of offshore enforcement. n
Andrew McKenzie is a partner and William Richmond-Coggan is a solicitor advocate at Fladgate Fielder