WHAT HAPPENS TO A TRUST WHEN YOU GET DIVORCED?

WHAT HAPPENS TO A TRUST WHEN YOU GET DIVORCED?

By: JEANETTE CLARK

Where a trust becomes (or may become) embroiled in a divorce or separation, delicate issues can arise not only for the divorcing spouses or civil partners, but also for trustees. Trustees are likely to need specialist independent advice at the earliest stage, and divorcing or separating spouses will require guidance on how trust assets should be treated. Taxation, structuring, reputational, and enforcement issues may also have to be addressed.

This article examines the English High Court decision of BJ v MJ and Others (Financial Remedy Overseas Trusts), which examined the treatment of offshore trust interests in the context of financial proceedings on divorce.

Facts

The parties married in 1980 and at the time of the divorce were both aged 65. They had one adult child. The husband was the main breadwinner and is now retired. The wife was principally a mother and housewife. The wealth derived from the husband’s interest in a company (‘ABC’) in which he had worked during the marriage.

In 1994 an initial public offering (IPO) of ABC was proposed, and riches were on the horison. In anticipation of the flotation, the husband and his two fellow shareholders made arrangements to mitigate tax on future capital gains which may accrue. These involved the creation of two Jersey discretionary trusts (No l and No 2) and a company incorporated in the British Virgin Islands. The beneficial class of the No l Trust included the husband, the wife, and their child. The husband and wife were excluded as beneficiaries from the No 2 Trust, although there was power to add the wife after the divorce.

The No 2 Trust was settled as part of a tax mitigation strategy, and it was determined by the court that there was a clear collateral understanding between the husband and wife that the trust arrangement was established to benefit all members of the family, including their child, as well as for future generations. The trustees of both trusts were joined to the divorce proceedings on 11 January 2010, but declined to participate formally in the divorce proceedings in London.

Trusts and divorce

The way English courts function in financial proceedings is to establish the assets of the marriage or civil partnership and then divide them between the parties in a fair way. This process is troublesome at best, but is much harder in cases where there are assets held in trust.

English matrimonial law permits the court to make an order varying any ante-nuptial or post-nuptial settlement made on the parties to a marriage. The relevant statute does not define an ante-nuptial or post-nuptial settlement and, instead, this has been left to case law, in which a very wide definition has always been adopted.

While there is a general requirement that a settlement be made if settled during or in contemplation of the marriage or civil partnership, there are no precise limitations, and indeed even a pension fund has been held to be a nuptial settlement. English divorce courts are more concerned with doing justice between the parties than with the niceties of ownership structures.

Where the court does have power to vary the terms of a particular trust, that power is not excluded because the trust is off-shore (that is, governed by a law other than English law). Indeed, a specific foreign law clause in the trust document will not oust the English court’s power to vary.

Where a non-nuptial settlement is involved, or where the court considers that a variation order is not necessary, the court will attempt as best it can to value a party’s interest in the settlement. Where it is self-settled, the likelihood is that the trust assets will be considered as available as a resource to that party.

Outcome

It was held in BJ v MJ that all assets (totalling £6 million, including the trust property), constituted matrimonial property and should be subject to the equal sharing principle. However, the implementation of that equal sharing should reflect the clear arrangement made during the marriage, assented to by the wife to set up a trust ultimately to benefit their child and future generations.

Mr Justice Mostyn ordered that assets outside the trusts be divided equally, so that the wife would receive exactly half of those net assets. The parties must attempt to decide the allocation, and in default of agreement a later ruling would be made. He further ordered that the trusts be varied to provide that the wife be irrevocably deleted as a beneficiary of the No l Trust, £500 000 be extracted from the trusts and paid outright to the wife, £750 000 be extracted from the trusts and settled on the wife for life with the remainder to the child of the spouses, and the trustees be independent and have power to advance all the capital to the wife.

The order would not be perfected until the stance of the trustees had been ascertained. If the trustees signified that they would not co-operate with his award, then Mostyn stated that he would deal with the wife’s entitlement by way of offsetting against the assets held outside of the trusts (this would mean that the former matrimonial home would be sold, and that all or most of the pension would be awarded to the wife).

Key lessons

While it is understood that the wife has sought permission to appeal, and the position of the trustees of the No l and No 2 Trusts has not yet been reported, certain points and lessons are clear.

Firstly, trustees will have to continue to consider their position carefully and must fully understand the issues in the case and the types of orders that are being sought. The trustee’s perspective from the outset should be: what should be done in fulfilment of the fiduciary obligations under the trust to the beneficial class as a whole?

The judgement touches upon a trustee’s obligations where the order being sought has an impact upon the interests of other beneficiaries. Mostyn held that ‘it is incumbent upon the Applicant to draw the claim to the attention of any significant beneficiaries, explaining that they are at liberty to apply to intervene or otherwise to make representations In this case, he invited the adult son to make representations which he did in the form of written submissions to the court.

A consequence of the judgement is the possibility of more applications by third parties to intervene where their interests under trust may be adversely affected by the orders being sought. Secondly, the dilemma that trustees often find themselves in when a court is considering the extent to which trust assets should be treated as a resource of the parties is well-known, but Mostyn warned of the risks of trustees failing to engage. He said that ‘if the trustees have refused to participate meaningfully or helpfully in the inquiry, then neither they nor their beneficiaries can complain if the court draws robust conclusions as to the likelihood of future benefit’.

In B v B [2010], which involved a Jersey trust, Mr Justice Moylan made the following remarks in response to the position adopted by the trustee in this matter: ‘I must be cautious in what I say in response to the line taken by and on behalf of the trustees, because they have not made themselves available to answer questions which arise from the information and documents provided by them. However, as a general point, trustees must consider whether co-operation with this court is in the interests of their trusts. However cautiously the court approaches its statutory task, there must be an increased risk that the court will obtain or might obtain the wrong picture in the absence of all the information. Why should trustees consider it in their beneficiary’s or the trust’s interests to take a risk that this court might obtain an inaccurate picture? I would hope they would decide that it is not.’

Thirdly, if a trust is created with a specific intention, it should be clearly and visibly recorded, most probably in letters of wishes, which should be reviewed regularly. In the absence of such documents, any claim that a trust was created for a particular purpose is likely to be met with suspicion by the courts of the Family Division.

Fourthly, for those who wish to engage in wealth preservation, the effects of divorce and separation need to be taken into account from the very beginning.

Tax is not the only issue in wealth planning. Where there is a genuine intention to treat wealth in a certain way, it may be very beneficial to make use of pre- nuptial agreements or tailored marriage contracts for those intending to many, post-nuptial agreements if they are already married, and pre- or post-registration agreements for those contemplating a civil partnership. Unmarried or non-registered civil partners should also consider cohabitation agreements.

Where the wealth of an individual is derived from the wealth of his or her family, consideration should be given to the persuasive value of family constitutions or family protocols. While not specifically enforceable, if their terms are appropriate and if they are accompanied by necessary formalities such as independent specialist legal advice, these may be relied on in times of stress and change, both expected and unexpected, such as untimely deaths, divorces, and unforeseen situations of conflict, they may also have a greater influence on the courts of the Family Division than any other form of evidence.

Fifthly, the other crucial issue that this judgement (and many others) highlights is that of jurisdiction (both of the divorce proceedings and of the trusts and the trust assets). Careful thought must be given to the jurisdiction in which assets, particularly trust assets, are to be situated, as some are certainly more accommodating than others when it comes to the implementation of orders made in the context of foreign divorces.

Finally, where there is considerable wealth and the parties have had an international lifestyle, it may well be possible that more than one jurisdiction is available for the divorce itself. Under European legislation, the jurisdiction where a divorce takes place is decided on a first come, first served basis. He or she who issues proceedings first gets to choose the place.

‘Forum shopping’- choosing a jurisdiction in which to make a financial claim may be an option for the growing number of wealthy couples who have different nationalities or divide their time between different countries. Where this is a possibility, early advice must be taken from specialists. The right choice of country for a client can have a significant impact on the size of a divorce settlement.