New Zealand’s sham Trusts – facing international criticism

 There are two people who get top billing at any Trust conference in the world - the Hon. Justice David Hayton and Donovan Waters QC. 

Between them, they have at least five doctorates in law.  Their academic scholarship is outstanding and they stand astride all other academic lawyers and practitioners in their encyclopaedic knowledge of the laws and principles relating to Trusts.

It is a misfortune for New Zealand that both have been critical of recent NZ decisions on Trust law.  Waters said that one of our recent High Court decisions was “most unorthodox” and was marred by “sophistry”.  Hayton has said that our Court of Appeal got the law of sham Trusts wrong in its decision in OA v Wilson [2008] 3 NZLR 45.

This article is concerned with Hayton’s comments on OA v Wilson.

His comments were made at this year’s Transcontinental Trusts Conference in Geneva in June. His task was to identify some of the most important Trust decisions from around the world during the course of the previous year.  OA v Wilson was one of only seven cases that he singled out for mention.

The central character in OA v Wilson was Mr Reynolds, a failed property developer who had been bankrupted in the early 1990s.

Within a couple of months of being discharged from bankruptcy in 1996 he settled a Trust of which two other people were its trustees.  The beneficiaries were children – including his own children and grandchildren.

The Trust bought a house in Queenstown in which he and his partner lived.  The Court of Appeal said that “the Trust was never administered well and there was intermingling and confusion between the affairs of the Trust and Mr Reynolds, at a personal level and even in the record keeping in the solicitor’s Trust account.”

Reynolds was next made bankrupt in 2001.  At that time he owned nothing and creditors left in his wake were owed more than $500,000.

The OA took over his affairs and said on behalf of the creditors that the Trust was a sham.

The CA dismissed this claim.  In its words “there could be [no] integrity or justification in allowing Mr Reynolds to seek relief which is effectively for his own benefit.  The fact that the benefit might be able to be transferred to his creditor does not alter the analysis.” 

Expressed in simpler language, the Court was saying that it would not allow Mr Reynolds to say that his Trust was a sham, and the OA who stood in his shoes, could not be a different position from Mr Reynolds.

To this, Hayton asked “But why not?”

He said:

“There is … every reason why [his] creditors should be able to claim [that his] Trust is a sham so that the Trust property is made available to ensure that they are fully paid what is due to them …  They provided consideration … for their claims, unlike beneficiaries under Trusts created gratuitously, and the benefit of the invalidity of the Trust passes to them, not to [Reynolds].” 

“Why should it make any difference if [he] has been declared insolvent, so that instead of particular creditors bringing claims, the … OA … satisfies [his] creditors’ claims?  The NZ CA seemed to think that this was for the benefit of [Mr Reynolds].  With respect, this is surely for the benefit of [his] creditors, whose interests should prevail over the interests of the beneficiaries under [his] gratuitous sham Trust.”

Hayton also differed from the CA on its definition of a sham Trust.  The CA held that the test for proving a Trust was a sham was whether the trustees had a common intention that the Trust was not to be a genuine entity.  This test has been commonly applied in jurisprudence on sham Trusts.  It is an extremely high test and one that will seldom be met since the secret dishonest intentions of a trustee are hardly ever revealed.

Hayton appears to prefer a more objective test.  He said that if a settlor “tries to claim that his sham Trust should be wholly invalid and of no effect, surely he cannot be allowed to deny the objective effect of his conduct by relying upon a secret dishonest contrary intention, as held by the NZ  CA.”

In these passages, and elsewhere in his Address, Hayton differs from the Court of Appeal in two important respects.

First, he indicates that the Court should be able to identify a sham Trust by looking at “the objective effect of [a shammer’s] conduct”.  It is not necessary to rely upon that person’s “secret dishonest intentions”, which will hardly ever be revealed. 

Second, in contrast to the position adopted by the Court of  Appeal, he said that “there is every reason why a [shammer’s] creditors should be able to claim [his] Trust is a sham so that the Trust property is made available to ensure that they are fully paid what is due to them.”

His approach would lead to the identification of many more sham Trusts than our Courts will identify at present and, in addition, it would provide much more assistance for creditors.

Of course, the fact that Hayton disagrees with the Court of Appeal does not mean that he is right and the CA was wrong.  But in international circles, his criticisms are treated with great respect and it can be expected that people of influence will take note of them.  His comments were made to a gathering of many of the most influential  people in the world of Trusts – just as Waters’ comments on the High Court decision were made in a leading international journal on Trusts.

New Zealand has a substantial industry of what are commonly called “New  Zealand Foreign Trusts”.  These are Trusts that are settled in New Zealand by non-NZ residents.  One of the reasons for their popularity has been the international belief that our legal system can be relied on to resolve Trust disputes in ways that are acceptable to overseas settlors and their advisers.

There is anecdotal evidence that the criticisms that international commentators have been making of some of our recent Trust decisions, are beginning to harm this industry.  If this is so, it would be most unfortunate for all those who work in it.

One solution for this is for the Government to recognise that in an age of ever increasing specialisation, Judges of the High Court are being placed under too great a burden with the expectation that they must provide excellent decisions on a huge array of different laws.  The time has come for the Government to create an Equity Division of the High Court or to initiate some other similar reform.

This will be the subject of my next article.