Pitfalls of international trust structures as asset protection vehicles

The judgment in the much-publicised case of Akhmedova v Akhmedov & Ors[i]  in April 2021 is a telling example of where the English Courts have exercised wide-reaching statutory powers to set aside or vary dispositions on trust with extra-territorial effect, notwithstanding the assets are held by offshore trustees, outside the Court’s jurisdiction and subject to the terms of foreign law trusts.  The case involved aspects of both divorce and insolvency law, which between them are perhaps the two most common areas of English law that can pose a threat to even the most robust offshore trust structures. On the one hand, insolvency law issues commonly arise from circumstances that existed at the time the trust was established but were unknown to the trustees until later down the line. On the other, issues arising as a result of a divorce often relate to how the trust has been administered and for whose benefit since its inception.

Akhemedova concerned the efforts of Tatiana Akhemedova to enforce a previous judgment of the English Family Division in respect of her divorce from the Russian oligarch, Farkhad Akhemedov. Referred to as the most expensive family feud in English legal history, the divorce concluded in December 2016 with Mr Akhemedov being ordered to transfer to his wife assets worth £435 million, representing approximately 41% of his overall wealth.  There followed a five-year struggle by Mrs Akhemedova, including proceedings in several jurisdictions, to secure what she was owed, until judgment was granted in her favour the English High Court last year. Mrs Akhemedova successfully obtained orders under section 423 of the Insolvency Act 1986 (‘IA 1986’) and section 37 of the Matrimonial Causes Act 1973 (‘MCA 1973’) against Mr Akhemedov and ten other respondents, including the trustees of a number of Liechtenstein trusts holding assets worth $650 million, which the Court held Mr Akhemedov had sought to put beyond her reach.  

In reaching its judgment, the Court failed to be persuaded by arguments that any orders setting the trust aside would be futile on the grounds that they would be unenforceable under Liechtenstein law (a common scenario when it comes to enforcing judgments against offshore trusts). In doing so, the Court noted that Mrs Akhemedova would be entitled to seek an anti-suit injunction against the trustees, enforceable against their directors by committal proceedings in England. Such considerations presumably weighed sufficiently on the minds of Mrs Akhemedova’s opponents when they reached a settlement with her a few months after judgment was handed down, notwithstanding the significant difficulties she continued to face on enforcement.

Powers to set aside

Under section 423 of the IA 1986, the English Courts have a wide discretion to set aside transactions at an undervalue, including dispositions on trust, in circumstances where the Court finds that the disposition was made with the intention of putting assets beyond the reach of his creditors. The intention to defraud creditors need not be the sole or even principal purpose of the transaction for section 423 to apply.  Nor is it necessary to establish that the transaction was intended to defeat a particular creditor. The transaction could conceivably predate the creditor’s claim by several years, so long as the requisite intention to defraud creditors can be shown.

Section 37 of the MCA 1973 gives the court similar powers where it has been determined assets have been disposed of with the intention of defeating a claim for financial relief on divorce.

Reserved powers, illusory trusts and sham trusts

Trust deeds which reserve significant administrative and/or dispositive powers to the settlor, are potentially vulnerable to orders of the Court.  It is an established principle that if a debtor holds a reserved power over trust assets that is personal rather than fiduciary, the Court may order that the power should be exercised in favour of creditors. For example, in Tasarruf Mevduati Sigorta Fonu v Merrill Lynch Bank & Trust Co (Cayman) Limited[ii], the Privy Council held that a power to revoke a trust was the personal property of the settlor and that his receivers were entitled to exercise it, making assets worth US$27 million available to his creditors.

Trusts with significant settlor-reserved powers are also vulnerable to claims that the trusts are in fact illusory. The terms ‘illusory trust’ is used to describe where ‘the settlor retains such control [of the trust assets] that the proper construction is that he did not intend to give or part with control over the property sufficient to create a trust’[iii]. The recent high-profile case of JSC Mezhdunarodniy Promyshlenniy Bank v Pugachev[iv] concerned a claim in damages against Mr Pugachev worth over US$1 billion. The Court held that, on an objective analysis, Mr Pugachev’s powers under certain New Zealand trusts were reserved to enable him to act in his own best interests and accordingly the assets were held on resulting trust for Mr Pugachev. 

In extreme circumstances, trusts that are overtly administered for the benefit of the settlor, contrary to the express terms of the trust, also risk facing claims that they are a sham. A sham trust requires the common intention of the settlor and the trustee to give the false impression to third parties that the trust asset are held under the terms of the trust, when in fact they continue to belong to the settlor.  The test of intention is subjective[v], but it will be sufficient if the trustee is held to be recklessly indifferent to the settlor’s true intentions[vi].

Financial remedies on divorce

The English Family Courts have wide powers under the MCA 1973 to redistribute matrimonial assets amongst the parties to the marriage on divorce, including in relation to assets held by third parties, such as trustees. Section 24(1)(c) of the MCA 1973 grants the Courts the power to vary ‘nuptial settlements’ in order to confer a benefit on the applicant, who may not be a beneficiary of the trust. Section 24(1)(c) may apply to any settlements made either before or after the marriage, so long as they carry a ‘nuptial’ element. The term ‘nuptial settlement’ is interpreted widely by the courts to include any disposition which makes ‘some form of continuing provision for both or either of the parties to the marriage, with or without provision for the children’[vii].  It has also been held that a settlement which is not nuptial at its creation could itself later become 'nuptialised' if there was in fact a flow of benefit to the parties during the marriage.

Irrespective of whether a trust is ‘nuptial’, the Courts may be entitled to take the trust assets into account as a financial resource of one of the parties under section 25(2)(a) of the MCA 1973, if they consider that party has access to those assets or is likely to haver access in the foreseeable future[viii]. In those circumstances, the Courts may make orders directly against the beneficiary to transfer assets to their spouse, which it knows they are unable to do without the assistance of the trustees (a so-called ‘judicious encouragement’ order[ix]). Such orders are enforceable against the respondent by way of committal proceedings in England, which can put significant pressure on the trustees to come in aid of their beneficiary.

Future proofing

There will always be extreme cases, such as the trusts established by Mr Akhemedov, where the circumstances in which they were established mean that they will always be inherently under threat. But in the case of most international trust structures, there are generally steps that can be taken to minimise the trust’s exposure and limit the value of the trust assets at risk. These may include segregating the trust property across multiple trusts, which are subject to different terms and governing laws and administered for different purposes, so that the value of any assets that are open to challenge remains limited.  A regular review of the circumstances surrounding the trusts and their beneficiaries may also assist trustees to identify potential risks and adapt to changing circumstances. Where separate funds are set aside for the express purpose of defending the trustees from challenge, unfettered by any fiduciary obligations to their beneficiaries, this can also help enable trustees to react quickly and effectively when they come under attack.

[i] [2021] EWHC 545

[ii] [2011] UKPC 17

[iii] Clayton v Clayton [2016] NZSC 29)

[iv] [2017] EWHC 2426

[v] Hitch v Stone [2001] STC 214

[vi] Midland Bank v Wyatt [1997] 1 BCLC 242

[vii] Brooks v Brooks [1995] 3 All ER 257, HL

[viii] Charman v Charman [2006] 2 FLR 422, CA

[ix] Thomas v Thomas [1995] 2 FLR 668, per Waites LJ