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14 July 2020

Novel use of tracing endorsed by High Court

Mrs Justice Cockerill, sitting in the Commercial Court, has approved a claimant bank’s novel use of tracing principles to determine the ownership of a fund of bonds, in which the claimant, National Bank Trust (the Bank), did not have an underlying proprietary claim.

The case of National Bank Trust v Yurov and others [2020] EWHC 1779 (Comm) (5 June 2020) (the NBT Case) considered a charging order application arising out of the earlier judgment of Mr Justice Bryan handed down in January 2020.

The original case

This concerned various claims against the former majority owners and board directors of the Bank for having orchestrated an extensive fraud on the Bank over many years. That fraud was said to have involved deliberately falsifying the Bank’s accounts, concealing bad debts and related-party lending, and deceiving (amongst various others) the Central Bank of Russia (the CBR) (the Fraud).

The Bank described the Fraud as follows: the shareholders procured the Bank to lend USD$1 billion over several years to their own companies; those companies then transferred away the loan monies in fake or artificial transactions to other companies also beneficially owned by the shareholders. That money was then used to make interest payments / repay the principal on other loans in the fraudulent scheme, and for the shareholders’ personal benefit: fundamentally, it was not returned to the Bank. This meant that more and more loans needed to be taken out to service the existing loans. This allegedly led to the Bank’s collapse and bailout by the CBR.

The defendant shareholders were ordered by Bryan J to repay some USD$900millions.

The NBT Case and the tracing claim

The NBT Case concerned funds in the sum of around £5 million which one of the shareholders, Mr Belyaev, had supposedly gifted to his wife, which had then been used to purchase UK government bonds. However, documentary evidence in support of this contention only referred to a much smaller gift of £1.2 million, and the Bank argued that the transfer was a means of “judgment proofing”, i.e. to keep those funds out of the reach of the Bank, and sought a final charging order against Mr Belyaev’s share of the funds.

Monies belonging in equity, partly to Mr Belyaev and partly to his wife, were used to purchase the bonds held as a single unsegregated pool. Some of the funds had been depleted over the course of time and the question for the Court to determine was: who was the beneficial owner of the remaining balance?

The Bank claimed that of the balance remaining, a percentage belonged to Mr Belyaev and were traceable proceeds. Whilst the Bank itself had no proprietary claim, it submitted that the process of tracing in equity provided the only legal technique by which the Court could assess who had the beneficial ownership of the bonds. The remaining bonds represented the traceable proceeds of the original £5 million cash contribution. The Bank submitted that, when money or bonds were mixed together, the co-owners were tenants in common as to their respective shares. There was no segregation of the bonds, so when the bonds were sold, they were depleted in proportion to the parties’ respective interest in them.

The Court’s decision

The Court held that only £1.2 million had been gifted (on the basis of the contemporaneous documents) and Mr Belyaev had retained his beneficial interest in 50% of the balance of £3.8 million, being £1.9 million (which was 38% of the total fund), and that Mr Belyaev’s wife held his £1.9 million share of the fund on resulting trust for him. Mr Belyaev’s wife was the legal and beneficial owner of the remaining £3.1 million (62% of the total fund).

Taking what has been described as a somewhat novel position, Cockerill J summarised the position as follows in her judgment:

“So far as the tracing analysis advanced for the Bank is concerned, I can see that this is, to some extent, experimental thinking. However, I see no reason of principle why the fact that the Claimant has no proprietary interest should be a bar to tracing in circumstances where what is in issue is not tracing assets to which the Claimant claims to be beneficially entitled, but rather the question of how much of the Second Defendant's property remains in a particular account.

Nor can I see, in principle, why the evidential tool of tracing should not be available outside circumstances where there is a wrongdoing trustee.”

Comment

The origins of tracing in equity lie in English property law, as a useful tool to locate funds following fraudulent activity. The innovative approach taken in the NBT Case in the context of an investigation into mixed funds for the purpose of enforcement could now pave the way for additional ways to use tracing in equity. It will be interesting to see whether Cockerill J's comments on the appropriateness of using tracing in these circumstances, rather than to assist in a proprietary claim (which has been the previously accepted use of tracing), are relied on in future cases.

Tracing is more often than not imperative to investigations, particularly in a fraud context, and this decision could allow those who are the victim of fraud to expand the remit and utilise the principles in matters other than proving their proprietary rights in property.


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