The Royal Court in Jersey has confirmed that the test for mistake in the Island is different from that recently established by the English Court of Appeal in Pitt v Holt and Futter v Futter  EWCA Civ 197.
The Jersey test to invoke the equitable jurisdiction of mistake requires the following three questions to be addressed:
- Was there a mistake on the part of the settlor?
- Would the settlor not have entered into the transaction "but for" the mistake?
- Was the mistake of so serious a character as to render it unjust on the part of the donee to retain the property?
Crucially, the Jersey test, unlike the English test, does not distinguish between effects and consequences, and does not adopt a policy approach which categorises unforeseen fiscal liabilities as a consequence, rather than an effect, which are insufficient to bring the equitable jurisdiction of mistake into play.
In addition, it is also noticeable from the judgment that the Royal Court appears not to support the approach taken by the English Court of Appeal in Pitt v Holt which left Mrs Pitt, having been let down by one set of advisers, with a remedy which required her to engage another team of advisers to bring legal proceedings for professional negligence against her original advisers, and to incur the risks, costs and time delays that such a course of action would entail.
The application was brought to the Royal Court by the representor. She was the settlor of a discretionary trust (the "First Trust") which was established by a Jersey company (the "Trustee") in the form of a declaration of trust. The representor sought an order that her transfer of assets to the Trustee was voidable on the ground of mistake, and also that subsequent transfers of assets from the First Trust to three further trusts (the "New Trusts") were similarly voidable.
The representor had transferred shares in a French company (the "French Company") to the Trustee and the Trustee then settled those shares on trust. At the time of the application to court, the beneficiaries of the First Trust were the representor's children, grandchildren and future issue.
The representor had sought tax advice in relation to her holding of shares in a family trading company (the "Trading Company"), which shares were held by the French Company. A London UK law firm (the "London Lawyers") advised that, if her shares in the French Company were gifted to a discretionary trust, no UK Inheritance Tax ("IHT") would be payable because business property relief would apply to the gift. This advice was incorrect and a significant IHT charge arose immediately at the time of the gift. The representor discharged this IHT liability herself and instituted proceedings against the London Lawyers which were subsequently compromised on undisclosed terms.
In addition to the difficulties arising in relation to IHT, further issues were also identified with regard to US taxation. When the First Trust was established, no consideration was given to the position of the principal beneficiaries, who were US taxpayers, and the representor was not advised as to the impact of the US tax rules. However, as a result of the operation of those rules, a tax charge could potentially be imposed equivalent in amount to the full value of any distribution made to the beneficiaries.
The representor claimed that, if she had understood that the creation of the First Trust would give rise to an immediate IHT charge and to adverse tax treatment for the US taxpaying beneficiaries, she would not have transferred the shares in the French Company to the Trustee and would not have directed them to declare a trust over those shares.
The New Trusts were established in accordance with the laws of the State of Delaware in the USA, with the representor being named as the grantor (as she was the source of the First Trust's funds) and the beneficiaries being the representor's children and their issue.
The law of mistake
Having decided that Jersey law would govern the question as to whether the representor's transfer to the Trustee was voidable on the ground of mistake, the court noted that the application of equitable principles to the law of mistake in the Island had been definitively stated in Re the A Trust 2009 JLR 447. That decision had subsequently been followed in the cases of In re First Conferences Limited 2003 Employee Benefit Trust JRCO55A and In re the Lochmore Trust JRC068. In the second of these cases, the Bailiff commented as follows:
- The law regarding the setting aside of a trust on the ground of mistake has been considered in depth and clarified in the recent decision of the Royal Court in Re the A Trust  JRC 245. In that judgment, Commissioner Clyde- Smith reviewed the different tests as set out in Gibbon v Mitchell (1991) 1 WLR 1304 on the one hand and Ogilvie v Allen (1889) 15 TLR 294 on the other and adopted the test set out in the latter case, namely whether the donor or settlor was under some mistake of so serious a character as to render it unjust on the part of the donee to retain the property given to him. In applying that test, the Court must be satisfied that the donor or settlor would not have entered into the transaction "but for" the mistake. The Court rejected the distinction between a mistake as to the "effect" of a transaction and a mistake as to the "consequences" of a transaction as formulated in Gibbon v Mitchell.
- It follows that the Court has to ask itself the following questions:-
- Was there a mistake on the part of the settlor?
- Would the settlor not have entered into the transaction "but for" the mistake?
- Was the mistake of so serious a character as to render it unjust on the part of the donee to retain the property?"
As a matter of English law, the test for mistake is now as set out in Lloyd LJ's judgment in Pitt v Holt and is as follows:
"I would therefore hold that, for the equitable jurisdiction to set aside a voluntary disposition for mistake to be invoked, there must be a mistake on the part of the donor either as to the legal effect of the disposition or as to an existing fact which is basic to the transaction. (I leave aside cases where there is an additional vitiating factor such as some misrepresentation or concealment in relation to the transaction, among which I include Dutton v Armstrong). Moreover the mistake must be of sufficient gravity as to satisfy the Ogilvie v Littleboy test, which provides protection to the recipient against too ready an ability of the donor to seek to recall his gift. The fact that the transaction gives rise to unforeseen fiscal liabilities is a consequence, not an effect, for this purpose, and is not sufficient to bring the jurisdiction into play."
The Court of Appeal's decision in Pitt v Holt
Noting the difference between the two tests for mistake, and the fact that there could consequently be an advantage in selecting one jurisdiction in preference to another, the Royal Court felt that it was appropriate to consider the Court of Appeal's approach in Pitt v Holt in order to determine whether the judicial policy being followed in the Island should still be maintained.
Essentially, there were two competing principles at play: on the one hand, it should not be too easy for a donor to retrieve a gift when matters do not turn out exactly as expected; on the other hand, parties should not in fairness be held to transactions into which they would not have entered if they had known what the outcome would be. Of these two principles, the English Court of Appeal's approach favoured the former, whereas the Royal Court's approach favoured the latter.
The Royal Court considered some of the criticisms made by Lloyd LJ in relation to the decision in Re the A trust and commented on other aspects of the Court of Appeal's decision:
- Referring to the criticism to the effect that Commissioner Clyde-Smith in Re the A Trust had ignored the distinction between effects and consequences, the court felt that this was incorrect. Commissioner Clyde-Smith had the distinction in mind, but preferred to adopt the wider Ogilvie v Littleboy approach, and to formulate his own test.
- With regard to the criticism that Re the A Trust was "a great deal too relaxed for the donor who seeks to recover his gift", the court did not consider that this was justified. The court referred to the three questions to be asked (as set out in In re the Lochmore Trust: please see above) and considered that these were significant hurdles, with the third question requiring a balance of competing interests on the basis of fairness. Noting that the burden is on the party seeking to set the transaction aside to show that it would be unjust for it to stand, the court did not feel that this amounted to a relaxed approach.
- A third criticism was that the test in Re the A Trust gave "wholly inadequate effect to the gravity of the test posed by Lindley LJ" in Ogilvie v Littleboy. The court was not able to discern how Re the A Trust was wanting in this regard and felt that the test posed by Lindley LJ in Ogilvie v Littleboy was, in essence, that of Re the A Trust.
- The court was concerned that, in Pitt v Holt, Lloyd LJ distinguished between a mistake on the part of the donor "as to the legal effect of the disposition" and a mistake "as to an existing fact which is basic to the transaction." With this distinction, a mistake as to fact which was basic to the transaction (but which was not as to effects) would (assuming it was sufficiently serious) suffice to bring the court's jurisdiction into play, whereas a similar mistake as to law would not. By contrast, the test in Re the A Trust did not make this distinction so that mistakes of both fact and law could potentially give rise to the equitable jurisdiction to grant relief. In this regard, the court preferred the test in Re the A Trust to that set out in Pitt v Holt.
- The Royal Court was also concerned by the weight given to the interests of the tax authority in Pitt v Holt and saw no reason for adopting a judicial policy in Jersey which " … favours the position of the tax authority to the prejudice of the individual citizen, and excludes from the ambit of discretionary equitable relief mistakes giving rise to unforeseen fiscal liabilities. We see no fairness in such a policy."
The court noted that justice and fairness seemed to have been central to Lindley LJ's approach in Ogilvie v Littleboy and felt it troubling that the outcome for Mrs Pitt seemed to have been "so unjust and unfair." In Pitt v Holt, monies received by way of compensation for injuries suffered by Mr Pitt were transferred into trust without anyone addressing the issue of IHT. However, because of the way in which the trust was established, a significant sum of IHT (amounting to some 12 % of the trust fund) was payable. Mrs Pitt could have arranged matters so that IHT was avoided altogether and, although the Court of Appeal accepted that the mistake was of sufficient gravity to pass the Ogilvie v Littleboy test, equitable relief was not available because of the distinction between effects and consequences and the policy to treat unforeseen fiscal liabilities as a consequence rather than an effect. The Royal Court noted that the Court of Appeal considered that Mrs Pitt's remedy was to sue her legal advisers and commented: "Having been failed by one set of advisers, she was to entrust herself to another set and to commit herself to the risk, uncertainties and expense of further litigation."
Having carefully considered Pitt v Holt and noted the differences between the English and Jersey tests, the Royal Court concluded that it was not appropriate to adopt the course taken by the English Court of Appeal and to circumscribe the broad discretion allowed for by Re the A Trust. It also observed that it would not, in any event, be open to the Royal Court to follow Pitt v Holt unless it was convinced that the test in Re the A Trust was plainly wrong. The court was not of this view and preferred the approach as developed in Re the A Trust and refined in In re the Lochmore Trust.
Applying the established Jersey test and considering the three questions set out in In re the Lochmore Trust, the court concluded that all three should be answered in the affirmative. With regard to the third question - whether the mistake was of so serious a character as to render it unjust on the part of the donee to retain the property - the court noted that the consequences of the representor's mistake were catastrophic. The representor became liable immediately to a significant IHT charge and to further fiscal obligations in the UK. In addition, there could potentially be a US tax liability equal in amount to the full value of any distribution made to the principal beneficiaries of the First Trust so that, in effect, the US Internal Revenue Service would be more likely to benefit from the transfers into trust than the representor's family.
Noting that the children and adult grandchildren of the representor did not object to the relief being sought, and that the trustees of the New Trusts and the Trustee of the First Trust did not either, the court concluded that it would be unfair in all the circumstances to hold the representor to the transfers which had been made on the basis of mistakes as to the fiscal consequences of what she was advised to do. The mistakes were so serious that it would be unjust for the donee to retain the property.
The court therefore declared that the transfer of the shares in the French Company to the Trustee of the First Trust, and also the transfers of funds from the First Trust to the New Trusts, were voidable at the instance of the representor on the ground of mistake.
The court added a postscript in relation to the form of the order which it made (as referred to above). It was important for the representor, for fiscal reasons, that the transactions should be set aside by her rather than by the court. The Royal Court considered that an order to this effect was appropriate and in line with principle. As the transfers were voidable, the representor was entitled, at her election (albeit she was not entitled to sit on the fence in perpetuity), either to affirm the transfers or to avoid them and exercise her right to have them set aside. The action which avoids the gift is the action of the donor and not that of the court, although the court might be asked to declare that the donor has such a right and, at the donor's request, that the gift has been set aside.
This decision provides welcome clarification of the position in Jersey following the Court of Appeal's momentous decision in Pitt v Holt and Futter v Futter.
Whilst the judgment addresses only mistake and not the application of the Hastings Bass principle which was also addressed by the English Court of Appeal, it confirms the test for mistake in Jersey (preferring a broad equitable jurisdiction, allowing for a focus on justice and fairness, to the more constrained jurisdiction of the English test).
In addition, it gives an indication of the Royal Court's approach with regard to the policy of requiring those who have been let down by their advisers to embark upon litigation - with its inherent risks, costs and times delays - in order to seek redress. Whereas the English Court of Appeal appears to support such a policy, the Royal Court seems to be inclined to favour an alternative approach, preferring to find a more immediate solution through an appropriate exercise of its equitable jurisdiction in such circumstances.
This approach, which is noticeable in this judgment, has also been expressed recently in the context of rectification applications where the Royal Court has not considered the option of suing professional advisers to be a sufficiently practicable alternative to rectification so as to deny the availability of the court's equitable jurisdiction. For those involved with trusts in Jersey, this indication of approach is helpful and welcome.