Trusts in Family law proceedings
The involvement of trusts in divorce proceedings
What are the main ways that trusts can become involved in financial claims in divorce proceedings?
These generally arise in the following scenarios:
- a trustee (or a settlor before a trust has been set up), is concerned to protect trust assets from matrimonial claims;
- one of the parties in family proceedings is seeking either to obtain funds from a trust, or to defend assets of a trust from attack; and
- a trustee becomes drawn into family proceedings.
What financial claims can a party in divorce proceedings make?
Parties involved in financial proceedings on a divorce (and in the dissolution of a civil partnership as the provision is broadly the same) can apply for the following orders:
- periodical payments order (maintenance) either for joint lives or for a defined period;
- a lump sum order;
- a transfer of property order;
- a variation of settlement order; and
- orders concerning pensions including pension sharing orders.
Financial claims can also be made for children.
Which factors does the court take into account when considering any trust assets on a divorce?
The court has a wide discretion to make an order which is fair, which will depend on the circumstances of the case. The welfare of any minor children is given first consideration, and the court also takes into account various factors, set out in statute, including: the parties’ resources, the parties’ needs, the ages of the parties and the length of the marriage, any disabilities the parties may have, the contributions each party has made (both financial and otherwise), any conduct issues, the parties’ standard of living and the loss of the chance of acquiring any benefit.
There is also a so called “yardstick of equality” which essentially means that, as a starting point, assets should be divided equally if the assets were built up or made during the marriage or during a preceding cohabitation (and were not by way of gift or inheritance from a third party). However, assets, regardless of how they arise, are subject to a claim on the basis of needs.
The outcome may also be affected by a properly drawn up pre nuptial or post nuptial agreement.
Are trust assets always taken into account as part of the overall divorce?
One of the issues in relation to trust assets is whether, and the extent to which, they are resources which are to be taken into account by the court. The fact that one of the parties is a beneficiary under a trust may be relevant, and how this is taken into account will depend on various factors such as the nature of that interest, and the other resources available to the family.
The court also has the power in certain cases to vary a trust, if it is regarded as a nuptial settlement - this is important as it enables the court to make orders against the trust itself.
Creation of trusts
What is a trust and when are they generally used or created?
In broad terms, a trust is a legal arrangement where assets are held and managed by one person or people (the trustees) for the benefit of another person or people (the beneficiaries).
The person who settles assets on trust is referred to as the settlor. It is possible for a settlor to build in a great deal of flexibility when creating a trust – for example, in terms of the beneficiaries who can benefit from the trust (and the way in which they can benefit), and the powers the trustees and others have in relation to the trust.
Trusts are used for a wide range of reasons and are commonly used in the context of estate planning. They can be created by an individual during their lifetime, or through their Will.
What are the different types of trust?
There are many different types of trusts, some of which include:
- Bare trusts – where the beneficiary or beneficiaries are absolutely entitled to the assets held in trust
- Fixed interest trusts –where the beneficiary or beneficiaries are given a specific interest such as the right to receive income from the trust fund, or the right to receive income or capital at a particular time (for example, on reaching the age of 25);
- Discretionary trusts – the trustees have complete control over the assets and the income they generate, and they have wide powers to decide how and when the beneficiaries should benefit from the trust fund. The settlor will often write a non-binding ‘letter of wishes’ to give the trustees some guidance on how to exercise their discretionary powers (for example, the settlor may want the trustees to consider making capital distributions to beneficiaries when they reach a certain age, or they might want the trustees to consider making loans to beneficiaries to help them buy a property).
Who can be a trustee and what must they do?
The trustees of a trust can be individuals or a trust company. The trustees have powers and duties and, importantly, they have an overriding duty to act in the interests of the beneficiaries when they are exercising their powers under the trust.
The beneficiaries may, in some circumstances, be entitled to receive information from the trustees about the trust.
How are trusts treated for tax purposes?
The tax treatment of a trust depends on many things including the residence and domicile of the settlor, the beneficiaries, the residence of the trustees, and the kinds of assets held in the trust and where the funds are situated.
Our private client lawyers will often be involved in drafting a trust deed to take account of the settlor’s wishes, predominantly from an estate planning or tax perspective, or reviewing the terms of a trust in order to advise on the initial and ongoing tax treatment.
It is also very important to take tax advice when considering claims against trusts and making provision from trust assets in divorce proceedings.
Claims involving trusts
What types of claims arise involving trusts?
In respect of financial claims on a divorce, claims may arise because a beneficiary needs to know how his or her interests under a trust might be affected and how at risk those interests are. Additionally, a spouse who is not a beneficiary, but who has received some trust deeds as part of financial disclosure, may want to understand what those documents mean for them. Sometimes both spouses are beneficiaries and have competing claims to the trust monies.
Our team will often consider trusts and advise on what the terms mean, identify the strengths and weaknesses of any potential claim to trust assets, and look at how resilient they are.
What are the main points considered when a claim is made in respect of a trust?
Our team will consider the following:
- Jurisdiction - what is the governing law and jurisdiction of the trust? Where are the trustees based? Where are the assets? Answering these questions will help determine what claims to bring and where. Often there are complex structures in place, leading to litigation in multiple jurisdictions;
- Nature of the interest - it is important to clarify each spouse’s interest in the trust. Is this a life interest only? Is it a fixed interest? Is the spouse one of a number of discretionary beneficiaries? It is important to know how many possible beneficiaries there are (including whether there are any beneficiaries who are minors or not yet born) and how likely they are to benefit. This may mean looking at the letter of wishes if there is one.
- Other terms - it is important to have a full understanding of how the trust works. For example, can it be revoked? Can its funds be transferred to another trust? Can its terms be altered? Can beneficiaries be added or excluded and who has the power to do that? How are the trustees appointed and removed? Is there anything unusual about it or about the way it was created?
- Assets - finally it is important to know what is actually in the trust. Often this is not apparent from the trust deed itself as trusts are established with minimal assets with further assets to be added later. Instead our lawyers would look at the trust accounts, financial statements and accounts/valuations of underlying assets.
Family wealth planning can mean different assets are held in different ways, for example, a matrimonial home may be held in a different way to the family’s art collection or other assets. Where assets are held in trust we would also need to consider the tax implications or any changes to ownership. Our lawyers also consider whether any immediate steps need to be taken to protect assets (such as applying for an injunction).
How can a trust be attacked in divorce proceedings?
The applicant in proceedings will need to consider whether to apply to vary the trust, or whether to argue that a trust interest is a resource and not to seek to attack the trust itself.
An order can be made against a beneficiary spouse on the basis of ‘judicious encouragement’ to the trustees to provide normally for that spouse with the effect that the beneficiary’s own assets and income can be used to provide for the other spouse and children.
A party to financial proceedings on divorce can make an application for an ante nuptial or post nuptial settlement to be varied. The term settlement has a broad meaning in this regard, and would normally include a trust.
What happens on an application to vary the trust?
If a trust is varied, then the court has a wide power and can exclude beneficiaries or transfer assets out of the trust.
There are various procedural steps which need to be taken if an application is made to vary a trust, and consideration has to be given to the effect on third parties and importantly, whether any variation order can be enforced.
It is necessary to think about where the assets are and what sort of assets they are; and most particularly whether the trustees and/or the assets are offshore. If they are offshore, is this a jurisdiction which is likely to co-operate with an English financial order, or not?
It will always be necessary to balance whether the likely costs of any steps taken in particular enforcement in a foreign country, may outweigh the likely benefits.
Attacking and challenging a trust
How can the existence or validity of a trust be challenged?
Exceptionally, it can be possible to challenge the existence or validity of a trust. This might be the case where the trust has not been professionally drafted or where there is something unusual or suspicious about the trust’s creation.
There are particular requirements for the creation of a valid trust and it may be that those requirements were not met (or that the end product was not executed properly). A trust might be deemed invalid because the settlor, the person who created the trust, did not have the requisite capacity to create the trust or might have been unduly influenced into creating it.
Another possibility is whether a trust can be set aside on the grounds of mistake if, for example its creation led to unforeseen consequences or its terms do not do what was intended.
What are sham trusts and illusory trusts?
Another way to attack a trust might be to argue that it is a sham trust. In this case, it has to be shown that the settlor and the trustee intended to mislead third parties as to the true basis on which assets are held.
Where there is a sham, on the face of it there appears to be a valid trust deed and a transfer of monies into the trustee’s name, but in reality the settlor still has control of the trust’s assets and the settlor and trustee have given a false impression as to the real arrangement in place.
Care has to be taken as it can be risky to make assertions about sham and dishonesty particularly if there is an allegation that a professional trustee is party to a sham trust.
There are also circumstances in which a trust may not be a sham, but might still be an ‘illusory’ trust. This situation occurs where a settlor retains powers that are so wide he or she has not really relinquished control of the assets despite intending to transfer them on trust.
For example, a settlor might have retained the power to decide when distributions should be made, powers over trust investments and control of the appointment and removal of trustees and other fiduciaries. When added together these powers mean that in reality no trust has been created and the assets remain with the settlor.
How can nuptial settlements be vulnerable to attack and how can they be protected?
The principal way of attacking a trust on divorce is on the basis that it is a nuptial settlement. When considering asset planning and protecting assets from future claims, it is prudent to try and create a trust which is not nuptial in the first place. Unfortunately, there is no definition of a ‘nuptial settlement’ so there is no easy way of guaranteeing a settlement will fall outside of this definition. The term ‘nuptial settlement’ can also cover a many different types of financial arrangement, they are not limited to classic trust structures.
However, in order to fit within the definition, a settlement has to have a ‘nuptial quality.’ It can therefore be helpful to create a settlement before a marriage (although there are also ante-nuptial settlements), or to create a settlement for a reason that is independent from any marriage (such as on the establishment of a business). The language of a settlement can also be important and something a court might consider.
Looking at the beneficiaries of a trust can also help determine whether it is ‘nuptial,’ particularly whether spouses and children are included (and who else alongside them). A judge might be less inclined to vary a settlement if the effect of doing so is to deprive minor children of their interests in those assets (especially true of dynastic trusts over inherited family wealth and family businesses). Sometimes the best thing to do is to take a ‘less is more’ approach and to include powers to add and exclude beneficiaries at a later date rather than a long list at the outset.
When looking at whether a particular settlement could be found to be a nuptial settlement, it is also important to look at its jurisdiction. It may be that the trust’s jurisdiction has its own rules that protect the trust from challenges in the family court and make it more robust generally.
Parties may be well advised to consider a nuptial agreement if they have a trust interest, to make the position clear.
Disclosure issues concerning trusts
What information in relation to a trust must a party in divorce proceedings disclose?
A party to financial proceedings on divorce has an obligation to give full disclosure. This is set out in a document called a Form E and supporting documentation is usually required or can be requested.
If a party has a trust interest, including under a discretionary trust, it is necessary to give an estimate of the value of the interest and when it is likely to become realisable, or reasons if the position is that it will never be realisable or has no value.
The court will want to know whether a party has access to the resources even if he or she does not control them.
What information is a beneficiary of a trust entitled to?
This will depend in part on whether the beneficiary has a fixed interest (and on what that interest is) or whether they are in a class of beneficiaries under a discretionary trust. It will also depend on the trust’s jurisdiction and governing law (as different jurisdictions have different rules about disclosure).
Whatever the situation, the trustees have to consider all disclosure requests carefully and balance giving a beneficiary enough information so that he or she can understand their position in relation to the trust, while also maintaining confidentiality for the other beneficiaries.
Generally speaking, a beneficiary might expect to see the deed which created the trust and other deeds, such as those appointing new trustees or altering the terms of the trust (or at least the parts of those documents that are relevant to the beneficiary’s interests). A beneficiary will also usually be entitled to see annual accounts and information about how the trust’s assets are invested to ensure that the trustees are scrutinised to some extent.
It is generally more difficult to secure disclosure of documents such as letters of wishes and information about how the trustees may have reached a particular decision (such as minutes of trustee meetings), particularly prior to the commencement of any litigation.
What should a trustee do if asked for information about a trust?
Any request for disclosure of information about a trust in the context of matrimonial proceedings should be considered carefully. A trustee should first ask who the request came from. If the request came from a beneficiary, the trustees should carefully consider what information to disclose, bearing in mind the beneficiary’s position under the trust (and the interests of the other beneficiaries).
A trustee has a duty of confidentiality towards its beneficiaries and cannot give out trust information to a third party (including the spouse of a beneficiary). If a trustee receives a request from a non-beneficiary spouse, it could consider the request with the spouse who is a beneficiary, and see whether documents could be passed to him/her to pass on. As the trustee owes duties to that beneficiary it may be sensible to work closely with the beneficiary in determining what to disclose.
If the trustee becomes a party to the proceedings (either spouse may decide to add the trustee as party) then the position will be different. The trustee may have direct disclosure obligations to the court and specific orders may be made requiring wide disclosure of trust papers.
If it is in any doubt about disclosure, a trustee can also consider applying to the court for directions about what information it should provide (including to its local court if it is based outside of England and Wales).
What else can a party do if the other party and trustees do not provide information?
There may be others with relevant information about the trust who might be able to help. For example, there might be other beneficiaries who have received disclosure from the trustees in the past, or other fiduciaries such as protectors. In some cases the settlor of the trust may be able to help. In certain circumstances it may be possible to apply to court seeking disclosure orders from third parties.
If information cannot be obtained from the trustee, it may still be possible to obtain disclosure from its professional advisers, for example, by making a subject access request. What information is ultimately provided will depend upon whether the information is subject to legal professional privilege in England and the proportionality of the search required. It may also be possible to summon a solicitor to attend court to give evidence (subject to privilege). If the settlor has died it may be possible to obtain information about the trust from his or her solicitors with the consent of his or her executors.
The role of trustees
What should a trustee do if asked to join as a party to divorce proceedings and should they submit to the jurisdiction of the courts of England and Wales?
As above, trustees are often asked to join proceedings, either by one, or both spouses. Whether or not to join requires careful thought and trustees should consider the following:
- are one or both spouses beneficiaries? (this is because the trustees’ duties are to its beneficiaries and not to any non-beneficiary);
- what claims are being made? (if there is a claim to vary a nuptial settlement then the trustees are more likely to be joined);
- what is the potential impact on the trust of any matrimonial award? (if it could result in significant changes to the trust or its value then the trustee may wish to take part);
- will the proceedings affect the smooth running of the trust in the meantime?;
- can the trustees usefully assist the court and beneficiaries by providing evidence?;
- what are the costs risks of joining?; and
- where are the trustees based and where are the trust assets located? (this will have an impact on whether they would otherwise be bound by any court order and may impact on the orders that might be made against trust assets).
Generally, where a trustee is based outside of England and Wales and the trust assets are located elsewhere, there may be good reason not to submit to the jurisdiction. Many offshore jurisdictions have implemented firewall legislation for further protection. There are many different types of firewall legislation and the extent of their protection varies. Broadly these specify that where they have jurisdiction over a trust, they will only recognise orders made by their local courts (so that orders made by foreign courts do not automatically bind trustees and cannot be directly enforced).
Often the most prudent courses of action is for a trustee to take no steps in relation to the proceedings (so as not to inadvertently submit to the jurisdiction) and then to seek directions from their local court. Although in many cases trustees should not take part in proceedings, there are occasions where a trustee can provide helpful input. A trustee can provide information about trust assets and views as to the best way to provide for the parties so to assist the court in an unbiased way.
Trustees also need to bear in mind the costs risks of being joined, particularly if they express any active view in the proceedings (rather than just providing information). Where there may be costs or other risks in actively joining proceedings, a trustee can consider providing information to the court, such as witness evidence, without being added as a party to the proceedings.
What can trustees do to try to resolve disputes?
It is usually in the interests of parties in divorce proceedings to settle their disputes if this can be done fairly, to save costs and minimise further damage to the relationship, particularly where there are children.
A trustee may be able to facilitate settlement in some circumstances, particularly where both spouses are beneficiaries. The right trustee may be able to promote settlement between the parties, and assist more generally as someone who has relevant information but who may not have the depth of personal feeling. It can be useful for trustees to attend settlement discussions and financial dispute resolution hearings, particularly where the trustee may then be asked to take steps to give effect to any settlement (while still being mindful about submitting to the jurisdiction by doing so).
Even where only one spouse is a beneficiary, it may still be in that party’s best interests to settle the proceedings and for the trustee to help them as far as possible. In such cases the trustee should liaise closely with that beneficiary to be sure of his or her wishes and views.