Many wealth advisory professionals would generally advise their high net worth clients to pass their wealth to a discretionary trust during their lifetime. Advantages often highlighted are avoidance of the complications of probate, mitigation of estate tax, asset protection for the settlor and beneficiaries, succession planning etc.  

However, Asian high net worth individuals (“HNWI”)  are sometimes weary of parting with their wealth during their lifetime and opt for an alternative solution: establish a “standby” trust and execute a will which stipulates that any residuary estate would go to the trust upon death. In Hong Kong, where estate duty has been abolished, this alternative seems attractive. Although probate procedure remains necessary, HNWI would keep full control of their wealth until death, be able to prepare a detailed distribution plan within the trust arrangement (usually by letter of wishes), and save any payment of annual fees to the professional trustees during their lifetime!

Absolute gift to trust? - The will of Nina Wang

Nina Wang, former Chairlady of the Chinachem Group, set up the Chinachem Charitable Foundation (“Foundation”) as a company limited by guarantee and, according to reported cases, injected a relatively small amount of her assets during her lifetime. Although the Foundation has its own constitution and board, Mrs. Wang was dictating how the charitable donations should be made and only transferred funds to the Foundation prior to each donation.  

Mrs. Wang’s elusive four-clause Chinese will to pass her wealth to the Foundation after her death generated debates on its construction: should the Foundation take the estate as an “absolute gift” and have discretion to administer the estate pursuant to the terms of its constitution; or should it take the estate on trust as a trustee of a “will trust” holding such property pursuant to the terms as stated in her will?  

The Courts decided (Secretary of Justice vs Joseph Lo Kin Ching (HCMP 853/2012, [2014] HKEC 621, [2015] HKEC 825)) that due to the imperative language of the will to set up a “will trust”, the Foundation must take the estate as a trustee, to apply and administer the estate according to the terms of the charitable trust as established by the will rather than take the estate absolutely. The Foundation should submit a detailed scheme for administering the estate for further approval by the Courts. This brings up an important consideration for will drafters. If the testator intends to provide a testamentary gift to a particular named trust or charity, the initial question to be ascertained would be whether the testator intends his legacy to be applied according to the terms of such trust or charity, or pursuant to some other special rules/limitations.  

The case also touches on another issue concerning gifts to specified charities and trusts by will. If the Foundation were to take the estate absolutely, whether it should hold the estate according to the terms of its constitution i) at the time of the will; ii) at the time of death; or iii) at some other time. The question was not dealt with by the Courts further since the absolute ownership argument did not stand.  

Validity of testamentary gifts to discretionary trust – The will of Anita Mui Before considering what terms of the charity/trust should govern testamentary gifts, we should actually consider whether testamentary gifts to discretionary trusts are generally valid. This was raised in another high profile probate/trust litigation in Hong Kong concerning the will of the Queen of pops, Ms. Anita Mui (Tam Mui Kam vs HSBC (HCAP2/2004, [2010] 6 HCA 10, [2011] HKCU 964 )). Ms. Mui executed a will at the Hong Kong Sanatorium which bequeathed all her residuary estate to a discretionary trust set up by her with a bank trustee. She passed away less than a month later.  

Usually, the trustee of a discretionary trust (or more specifically a “trust with discretionary powers”) has wide “powers of appointment” or “dispositive powers”.1 These include powers to select from the list of Beneficiaries the person(s) to benefit from the trust assets and power to add to the list of Beneficiaries (or more precisely the “objects” of the trust powers). The trustee may also by deed amend the terms of the trust instrument from time to time.  

Not only was the testamentary capacity of Ms. Mui challenged but also the validity of a testamentary gift to a discretionary trust based on the notion of “non-delegation of testamentary powers”.2 The basis of the rule stems from the lack of “certainty of objects” as well as lack of formalities. The first issue is if the trustee has wide powers, such as power to add beneficiaries to the trust (which may not be to the testator’s knowledge) who may then benefit from the estate, the trustee is in fact exercising testamentary powers which belong to the testator and cannot be delegated. Secondly, if a trust set up as recipient of an estate can be amended without the formalities required3 for a testamentary disposition, such trust arrangement cannot bind any property comprised in the estate.  

In the Mui case, the Court of First Instance decided that the notion of “non-delegation of testamentary powers” has no application in Hong Kong, but even if it applies, the testamentary gift to the trust settled by Ms. Mui should fall within one of the exceptions.4  

Even though the “non-delegation” rule (which may be peculiar to Australia) may not apply in Hong Kong, there are common law practitioners who have expressed skepticism about testamentary gifts to a trust arrangement.5The basis of objection relates mainly to the issue of formalities and “incorporation by reference”- if the trust provisions contained in a separate document is to govern the estate, then such provisions should have been “incorporated by reference” to the will.6 This means that the trust document must be in existence before the execution of the will and must be clearly referred to and be identified in the will. Gifts to a trust created after the date of the will therefore cannot be a valid testamentary gift. Nor can changes to the terms of an existing trust, made after the date of the will without observing the formalities required for execution of a will bind the property comprised in the estate.7

Gifts to a pre-existing discretionary trust

Gifts to a “pre-existing” discretionary trust which is validly set up8 is generally accepted as an exception and a valid testamentary gift.9  

One may think that it is easy to have a “pre-existing” trust. However, in the Mui case, arguments had to put forward that the trust had actually come into existence before the execution of the will. The issue arose because the trust was executed by Ms. Mui on the same day as her will. Indeed, most bank trustees require a few weeks after the execution of the trust deed by the settlor for the trustee to countersign and for the trust set up to be completed. In order to avoid any arguments that the trust was not properly constituted prior to the execution of the will, it is advisable for the trust deed to be executed by the settlor sufficiently ahead of the execution of the will.  

The question remains - what terms of the pre-existing trust actually govern the testamentary gift? What if the trustee made amendments to the terms affecting dispositive powers after the date of the will?  

Terms of the pre-existing trust which governs the testamentary gift

If the will clause merely specifies that the testator shall pass his residuary estate “to the trustee of a specific trust to hold on the terms of the trust”, the view is that in order for the clause to be valid, it should be construed as meaning the terms of the trust as at the time of the will.10 Hence, any exercise of dispositive powers or change to the dispositive provisions in the trust after the date of the will should not bind the property in the estate. For example, if discretionary objects were added to the trust after the “date of the will, such objects should not be considered by the trustee for distribution when the trustees are distributing property in the trust which is sourced from the estate.

Is it possible to draft the will clause more widely?

Would a will clause specifically drafted to accommodate for future changes, e.g. that the testamentary gift is to a pre-existing trust to be “held by the trustee in accordance with the terms of the trust as amended by the trustee from time to time”, help to overcome the issues?  

A review of the case law11 suggests that such a will clause would be invalid. A will clause which reserves the power for the trustee to make changes to, or to exercise dispositive powers BETWEEN the date of the will and the date of death of the testator/settlor would be invalid, unless the part of the clause reserving power for future changes by the trustee is ignored. This will effectively leave the testamentary gift to be passed to the trust in accordance with terms of the trust as at the date of the will.12  

It has therefore been recommended13 that a valid will clause to effect gifts to a pre-existing trust should contain a proviso such as that the trustee shall hold the estate on condition “that no modification to the trust which occurred through exercise of any dispositive powers between the date of this will and the date of death [of the testator] shall apply in relation to the [residuary estate]”.  

How to ensure that changes to terms of the recipient trust bind the estate? It is always possible for the testator/settlor to re-execute his will or to execute a codicil as a supplement to the will, referring to the deed which amended the original trust.  

Following the example above, if additional objects are added by the trustee after the date of the will, then the testator should re-execute the will (or execute a codicil referring to the “Deed of Addition of Beneficiaries”) to ensure that such additional objects may also be considered for benefit from the estate.14

Letter of wishes

Settlors of discretionary trusts often rely on letters of wishes to give guidance to the trustee on how exactly the trust assets are to be distributed. What is the effect if the settlor amends a letter of wishes and sends the same to the trustee of the pre-existing trust (the recipient of the estate) after the date of will?  

Letters of wishes are by design not meant to be legally binding for reasons such as asset protection. As such, no formalities are required for the execution of such letters.  

Nonetheless, if the updated wishes are intended to guide the testamentary gift, the settlor should consider executing the letter according to the formalities required for a will, or re-executing the will after a new letter is sent to the trustee. This will avoid any uncertainties or disputes if the trustees were to take into account the updated wishes when administering the estate as part of the trust property.  

Conclusion

When testators consider making testamentary gifts to a specific named trust arrangement, the first question to ask should be whether they intend to make an absolute gift to the trust or whether the gift is subject to specific rules other than those contained in the trust arrangement.  

In a case of absolute gift, trustee and testator/settlor should ensure that the discretionary/“standby” trust be executed and validly constituted well ahead of the execution of the will, to make sure that it qualifies as a “pre-existing” valid trust.  

When drafting the clause in a will to gift to the pre-existing trust, a proviso similar to the above should be added to stipulate that no changes to the dispositive terms of the trust shall bind the estate.  

In addition, if the trustee of the pre-existing discretionary trust exercises any dispositive powers which alters the terms of the trust after the date of the will, the testator should re-execute the will right after (or execute a codicil which make reference to the amendment). The same procedure should be taken if any new letters of wishes are given to the trustee after the date of the will.  

If the testator/settlor is willing to part with more of his wealth and inject it directly to the trust during his lifetime, the problem would be minimized - assets directly injected to the trust would unquestionably be governed by terms of the trust and be guided by letters of wishes as amended from time to time. No complications surrounding testamentary gifts to a trust would arise.