NEW ZEALAND: An Introduction to Private Wealth Law

A Poisoned Chalice? Do Current Trustees Owe Fiduciary Obligations to Former Trustees?

In Naaman v Jaken Properties Australia Pty Limited, the High Court of Australia considered “whether a successor trustee owes a fiduciary obligation to a former trustee in respect of the former trustee’s entitlement to indemnification out of trust assets or the commensurate beneficial interest in the trust assets that the former trustee retains following replacement of the former trustee by the successor trustee.

Or, as expressed by the minority at [52]:

“ … where a successor trustee knows of a former trustee’s equitable proprietary interest in the trust estate conferred by the former trustee’s right of exoneration, is the obligation which is owed by the successor trustee to that former trustee not to deal with the trust estate so as intentionally to destroy, diminish or jeopardise the former trustee’s entitlement to be indemnified from the trust estate a fiduciary obligation?”

The answer to this question for the majority of the High Court in a 4:3 decision is no. That is, a successor trustee does not owe a fiduciary obligation to a former trustee in respect of any entitlement for indemnification. As set out at [12] by way of explanation:

“The explanation for the answer to the question of equitable principle lies in the nature of a trustee’s entitlement to indemnification out of the trust assets being an entitlement to have the trust assets applied for the purpose of recouping expenditure or exonerating liability properly incurred by the trustee. Once the nature of the entitlement is appreciated to be so limited and so focused, there is insufficient justification for superimposing on the entitlement to indemnification and commensurate beneficial interest in the trust assets retained by a former trustee a personal fiduciary obligation on the part of the successor trustee to the former trustee, either generally or upon the successor trustee becoming aware of the former trustee having a claim to indemnification.”

The relativity of the respective beneficial interests is explained at [19] in the following terms:

“… an equitable charge is an institution of equity, distinct from the institution of a trust, which confers on the chargee an equitable proprietary interest of a nature that is different from the equitable proprietary interest of a cestui que trust. The difference in the equitable proprietary interests of the chargee and of the cestui que trust reflects the difference in the final equitable relief available to each to enforce their underlying equitable entitlements. The final equitable relief available to the chargee is directed against the property the subject of the charge and is only for the purpose of satisfying out of that property the indebtedness that is secured by the charge. The final equitable relief available to the cestui que trust is directed not against the property held on trust but against the holder of the property and is for the purpose of ensuring performance of the trust. The difference between the two interests is encapsulated by Jaken’s submission that the trustee holds the trust property for the cestuis que trust but subject to the interest of the former trustee.”

Simply put, while a beneficiary can look to the court to enforce the terms of a trust, the question for the court was whether a current trustee has a duty to preserve trust assets in the extent these are required to be called upon to satisfy a proper right to indemnity.

As noted by the High Court in Naaman v Jaken, the categories of fiduciary duties are not closed, and the question is not whether “… a fiduciary relationship should be recognised in a novel factual setting. The question is whether a novel fiduciary relationship is to be recognised within the heartland of the law of trusts.”

In light of the Supreme Court decision in A v D, from a New Zealand position, the question might be postulated that if the court cannot find a fiduciary duty owed by a parent to adult children who “… were abused in a most shocking way by their father when they were children…” would the court consider an extension of such duties to former and successor trustees?

Points made regarding the existence of such a duty in Naaman v Jaken included the following:

• There is an element of vulnerability that flows from the inevitable consequence of the transmission of trust assets from a retiring or removed trustee. [42]
• Vulnerability is not the touchstone of a fiduciary relationship. The argument here is “…no more than a complaint that the equitable remedies available to a former trustee are inadequate.” [43] and [44]. Also see S and S Limited v XYZ Limited.
• The beneficial interest of a former trustee is of a different nature from the beneficial interest of the cestui que trust, specifically “…[t]he difference in the equitable proprietary interests of the chargee and of the cestui que trust reflects the difference in the final equitable relief available to each to enforce their underlying equitable entitlements. The final equitable relief available to the chargee is directed against the property the subject of the charge and is only for the purpose of satisfying out of that property the indebtedness that is secured by the charge.” [19]

The dissenting view was premised by references to the following principles regarding a trustee’s right of exoneration from trust assets

• the right of exoneration generates for the trustee an equitable proprietary interest in relation to the trust estate;
• to the extent of that equitable proprietary interest, the assets of the trust are not held solely for the beneficiaries;
• the trustee’s equitable proprietary interest takes priority over that of the beneficiaries;
• the trustee’s equitable proprietary interest survives the removal of the trustee; and a former trustee of a trust can prevent a successor trustee from dealing in trust assets in ways that would destroy, diminish or jeopardise the former trustee’s equitable proprietary interest in relation to the trust estate.

The minority was informed by the particular facts, which are set out at [56] as follows:

“In this appeal, the significance of the successor trustee’s obligation not to deal intentionally with the trust estate to the prejudice of the former trustee’s entitlement to be indemnified from that trust estate being fiduciary is to be understood in light of the unchallenged findings by the primary judge. First, having assumed the office of trustee in circumstances in which it is objectively apparent that the former trustee had equitable proprietary rights that prevailed over those of the beneficiaries, the successor trustee engaged in a dishonest and fraudulent design to strip itself of assets that might otherwise be available to satisfy the former trustee of its right of exoneration and thus the appellant’s rights via subrogation. Second, as part of that design, the successor trustee transferred trust assets to companies, who were not bona fide purchasers for value without notice, in order to defraud creditors of the trust (including the former trustee). Third, the dishonest and fraudulent design was at the direction of two brothers who were the director and the shadow or de facto director, and the controlling minds, of the successor trustee. Fourth, the two controlling minds of the successor trustee, as well as the recipients of the property (collectively, the “third parties”), were thereby each personally liable to the former trustee, and to the appellant by reason of the appellant’s unchallenged rights of subrogation.”

The minority framed the question to be determined in the following terms at [92]:

“The issue in the appeal is not resolved by looking only at the nature or extent of the former trustee’s rights against the trust fund or only by recognising that the successor trustee holds property in which the former trustee has a preferred equitable proprietary interest. Rather, the issue is to be decided by recognising, first, that the former trustee in this case had an existing right of exoneration out of the trust property (not merely a contingent right) which gave rise to equitable proprietary rights in relation to the trust estate and, second, that the successor trustee was bound to prioritise that right over the claims of the beneficiaries of the trust.”

Naaman v Jaken highlights the risks of trusteeship where undisputed rights of indemnity can be compromised through the actions of subsequent trustees. Another aspect of this case that warrants reflection is the counter-factual where the challenge could have been made by a beneficiary arguing a breach of the duties owed to that beneficiary if steps were taken to prioritise the interests of a former trustee.