Forms of trusts
Practical applications of Cayman trusts
Creation of trusts
This article is part of a series that aims to assist parties that are considering creating a trust in the Cayman Islands.(1) It is intended to provide a summary of the main legal requirements and general principles applicable to the establishment and administration of trusts.
Various types of trust have been developed over time and the most appropriate structure for the settlement will depend on the settlor's particular circumstances and objectives. Some of the more common types of trust are described below.
Fixed interest in possession trust
Under the fixed interest trust, the principal beneficiary will normally be granted a vested interest in the income of the trust fund throughout their lifetime and the discretion of the trustee regarding the disposition of the trust fund will be limited. For example, the trust instrument may specify that the trustee is required to distribute all of the income of the trust fund to a particular individual during that person's lifetime and subsequently to distribute the capital of the trust fund in fixed proportions to named beneficiaries (such as the settlor's children).
Accumulation and maintenance trust
An accumulation and maintenance trust is one where no beneficiary has a fixed entitlement to the benefits accruing to the trust for a certain period, during which time income is accumulated and becomes an accretion to capital. The persons who are ultimately entitled to the trust capital may thus benefit from the accumulation of capital. The trust instrument may give the trustee a discretionary power to make distributions among the beneficiaries up to a specific age for their education, maintenance and benefit and to provide thereafter for a designated share of the trust fund to be distributed to each child on attaining a specified age. An accumulation and maintenance trust may be particularly appropriate where the settlor wishes to benefit a group of children, for example, their grandchildren.
A discretionary trust provides maximum flexibility and is often the most efficient structure for both settlor and beneficiaries. Under the terms of a discretionary trust, the trustee is given wide discretionary powers as to when, how much and to which beneficiaries they should distribute the income and capital of the trust. Such a form of trust is useful where, at the time of creation of the trust, the future needs of beneficiaries cannot be accurately determined. The beneficiaries are not regarded as having any direct legal rights over any particular portion of the trust fund but only a right to be considered to benefit when the trustee exercises their discretion.
Although for tax and other reasons it is generally desirable for a trust to be constituted as an irrevocable settlement, in certain circumstances, the settlor may require the additional comfort of knowing that they have retained the power to revoke the trust and enforce the return of the trust fund. Careful consideration must be given to the possible consequences of a revocable trust because, under the jurisdiction of the settlor's domicile, residence or nationality, revocation may negate some of the expected benefits of creating the trust.
Charitable purpose trusts
Generally, in order for a trust to be valid, there must be identifiable beneficiaries. In brief, the onerous duties imposed upon trustees are owed to the beneficiaries and, without ascertainable beneficiaries who may enforce these duties against the trustees, a trust will not be upheld. A long-held exception to this general rule has permitted trusts to be established in favour of charitable purposes. It is the attorney general who is tasked with the role of enforcing the trustee's duties and obligations. The Cayman special trusts alternative regime (STAR) trusts law permits the creation and enforcement of non-charitable purpose trusts – that is, trusts in which property is held by trustees on trust to carry out specific purposes that do not qualify as charitable purposes.
The Special Trusts (Alternative Regime) Act 1997 (the STAR Act) (now Part VIII of the Trusts Act (Revised) allows a trust to be created that:
- may be indefinite in duration;
- confers no right on any beneficiary to bring court proceedings against the trustee or to have information about the trust property and its administration by the trustee; and
- may be directed to the promotion or advancement of impersonal objectives.
Such trusts may be established for "purposes" as an alternative to, or jointly with provision for, "persons". The reference to "purposes" embraces applications of trust property and income that are not directed to particular individuals or companies in the capacity of beneficiaries. It thus involved a radical change in the law. The following examples are possible:
- A settlor may authorise or direct the trustee of a STAR trust to apply trust property or income in the pursuit of objectives, for example in the development of their business, without any expectation that they will prove profitable.
- A settlor who is motivated by benevolence may create a STAR trust for objectives that are charitable in the popular sense or public-spirited without the danger that the trust will be held invalid if the objectives are not exclusively charitable in the strict sense.
- A settlor may, by a STAR trust created by their will, direct their executor to expend a large part of their estate in the erection of a monument to their memory.
- A disaster fund raised for the relief of victims of a disaster may be organised as a STAR trust and so avoid the difficulty, where such a fund is organised as a charitable trust, that victims may only benefit if they are poor.
- Those concerned with campaigns to secure particular changes in the law or the election of a candidate to a public office may organise their funding under a STAR trust.
- In a commercial context, a STAR trust may offer the possibility that the beneficial ownership of the shares in a company is not vested in any of the parties to a transaction.
The STAR Act provides that no beneficiary under a STAR trust has any right to take court proceedings to enforce the accountability of the trustee or any right to be involved in, or informed about, the conduct of the trust and that all rights of that description are to be the exclusive concern of an "enforcer", a person or persons chosen for the purpose by the settlor. The settlor may nominate a beneficiary or beneficiaries as enforcer; where they have chosen to appoint a protector, they may combine the roles of enforcer and protector in one person.
The rule that a trust must confer enforceable rights on the beneficiaries has been abolished in regard to trusts set up under the regime introduced by the STAR Act.
The trustees of a STAR trust must include the holder of an unrestricted trust company licence in the Cayman Islands.
Practical applications of Cayman trusts
In essence, a trust is a legal device, first developed under English law, under which legal ownership of assets is vested in a trustee while the enjoyment of the trust fund is preserved for the benefit of the beneficiaries on terms determined by the settlor.
The range of uses to which a trust may be employed is still being developed but flexibility and confidentiality are the principal advantages of a trust over other legal forms designed to hold, preserve and transmit wealth. The trust concept has proved to be enormously adaptable and is widely used in financial planning.
Some typical applications are set out below.
Preservation of wealth
Trusts may be used to preserve the continuity of ownership of particular assets, such as a business, within a family. By vesting legal ownership of the assets in the trustee, the relevant individuals may be able to continue to benefit from the assets, while avoiding fragmentation of ownership among a large number of second- and third-generation beneficiaries. The use of a trust avoids, on the death of a beneficiary, the risk of a share of assets becoming owned outside the family, and thus enables settled assets to be preserved intact for the benefit of future generations.
Where a settlor disposes of assets during their lifetime by settling them on trust, the trust assets will not form any part of the settlor's estate upon their death. This may enable a settlor to avoid forced heirship rules that may be mandatory under the laws of their domicile, residence or nationality and that would otherwise dictate the persons to whom and proportions in which a settlor's estate will devolve.
The choice of Cayman law as the governing law is conclusive and any questions arising in connection with the trust will be determined according to Cayman law; the application of foreign law is excluded. Furthermore, legislation prohibits the enforcement of a foreign judgment regarding a Cayman trust on the basis that it contravenes forced heirship laws because the trust concept is not recognised in that jurisdiction.
The effect of a trust is to divest the settlor of ownership of the settled assets. Accordingly, upon the death of a settlor, there will be no need to obtain a grant of probate or similar formalities in order to deal with the trust fund. A trust, therefore, provides an efficient vehicle for the transfer of beneficial ownership interests on the death of a settlor.
In addition, a trust can be used to hold shares in a company owning immovable property situated outside the Cayman Islands rather than directly in the real property itself, with the effect of transforming characterisation of an interest from immovable to movable, which can present attractive opportunities for tax and financial planning. A trust may also be used to protect financially unsophisticated beneficiaries and to make financial provisions for the improvident.
Historically, trusts have been established for the principal purpose of protecting assets from risk. In a modern context, trusts may be employed to hold assets in a secure and stable political environment. Trusts play a major role in financial planning for individuals, families and companies and are apt to serve as a shield to protect assets against the potential future liabilities of a settlor, such as punitive taxation.
The use of a trust in conjunction with an underlying company can be used to convert an onshore asset into an offshore one and to interpose an additional layer of confidentiality in a chain of ownership. The use of the trust and company combination may also enable trust assets to be held in a jurisdiction that does not recognise the trust concept. Such an arrangement may be attractive to a lender for the purpose of obtaining security against assets.
Trusts can also safeguard assets against strategic risks, such as confiscation or expropriation by the state in the country of the settlor's domicile, residence or nationality. As a further protection, a modern trust instrument can provide for the proper law of settlement to be moved to another jurisdiction in the event of political or strategic emergency in the country of the trustee's residence.
The variety of means to which a trust may be put in the commercial context has only been partly realised. Cayman trusts have been used for the following commercial purposes:
- pooled investment funds, such as a unit trust or mutual fund for the collective investment of capital;
- debenture trusts, where a trustee will hold security for a company's debenture holders pursuant to the terms of a debenture trust deed;
- in off-balance sheet transactions, where the share capital of an "orphan" special purpose vehicle will typically be held by a trustee under the terms of a STAR or charitable trust;
- asset securitisation schemes, which have been structured to provide for mortgages and receivables to be held pursuant to the terms of a trust; and
- employee share option and executive incentive schemes (as well as regular pension schemes), which will benefit from being established in a politically stable, fiscally neutral jurisdiction.
There are no corporation, capital gains, income, profits or withholdings taxes in the Cayman Islands. Moreover, the government, in exchange for registration, will give an undertaking that no taxes will be imposed in the Cayman Islands on the trust for 50 years, and such an undertaking will usually be renewed at the end of such period. Otherwise, trusts do not require registration.
It is preferable for a trust to be created by the execution of a formal written instrument so that all parties will know exactly what their respective rights and duties are. The Trusts Act does, however, permit a trust to come into existence by oral declaration or by conduct.
Trusts created in writing may be either a settlement of trust, signed by both the settlor and the trustee, or by a declaration of trust, signed by the trustee alone. Following execution of the trust instrument, a trust will come into existence upon settlement of the initial property, which may be supplemented later.
For further information on this topic please contact Anthony Partridge, Giorgio Subiotto, Samantha Conolly or Gregory Haddow by telephone (+1 345 949 9876) or email ([email protected], [email protected], [email protected] or [email protected]). The Ogier website can be accessed at www.ogier.com.
(1) For the first article in the series, see "Cayman Islands trusts: introduction".