Introduction
Facts
Curbing Hastings-Bass
Relief for trustees mistaken in their voluntary disposition
Comment


Introduction

The Supreme Court cases of Futter and Pitt(1) saw fiduciaries exercising powers on the back of professional advice – decisions which unexpectedly generated tax liabilities. At first instance, the decisions were set aside following what had come to be known as the rule in Hastings-Bass.(2) This rule was simply – and broadly – put in Mettoy(3) as follows:

"[W]here a trustee acts under a discretion given to him by the terms of the trust, the court will interfere with his action if it is clear that he would not have acted as he did had he not failed to take into account considerations which he ought to have taken into account."

Both cases were successfully appealed by the Revenue (Her Majesty's Revenue and Customs and its predecessors) when they were heard together by the Court of Appeal, in particular through a detailed judgment of Lord Justice Lloyd. Both were appealed to the Supreme Court, where the leading judgment was issued by Lord Walker.

Facts

Futter
In 1985 two settlements were made by Mark Futter. These initially both had non-resident trustees, but in 2004 Futter and Mr Cutbill were appointed as trustees of the two settlements. By this stage, both settlements had 'stockpiled' gains – that is, those realised while the trust was non-resident, not distributed to the beneficiaries or brought in to charge for capital gains tax purposes.

In March 2008 – on the advice of solicitors – Futter and Cutbill distributed the whole capital of one of the settlements to Futter, exercising a power of enlargement. In April 2008 they distributed £12,000 from the other settlement to each of Futter's three children.

These two transactions were both within the scope of the trustees' relevant powers and both trustees correctly understood that the gains would be treated as realised by the beneficiaries as gains. The trustees incorrectly believed that these attributed gains would be absorbed by allowable losses so that no eventual tax liability would arise.

Pitt
In 1990 Derek Pitt suffered serious head injuries in a road traffic accident, resulting in his mental incapacity. His wife, Patricia Pitt, was appointed as his receiver under the Mental Health Act 1983. The claim for damages for Mr Pitt's injuries had been compromised by a structured settlement, upon which Mrs Pitt's solicitors sought advice from a firm of financial advisers. Following their advice, the damages were settled as a discretionary settlement.

In 2003 Mrs Pitt and her advisers became aware that the settlement had been drafted in such a way as to give rise to significant and immediate inheritance tax liabilities. By 2010 (including interest and penalties) these were in the order of £200,000 to £300,000. On Mr Pitt's death in 2007, Mrs Pitt became one of his personal representatives and the only beneficiary interested in his estate.

Curbing Hastings-Bass

Breach of duty required
In the Court of Appeal decision Lord Justice Longmore described the rule in Hastings-Bass as being a "comparatively rare instance of the law taking a seriously wrong turn", and that Futter and Pitt provided the opportunity to "put the law back on the right course".

The Supreme Court endorsed the distinction drawn in the Court of Appeal between excessive execution (ie, trustees operating beyond the scope of their power) and inadequate deliberation (ie, an error in failing to give proper consideration to relevant matters in making a decision nevertheless within their powers). The latter circumstance now falls outside the rule in Hastings-Bass.

In reaching that decision and considering the extent to which Hastings-Bass had gone 'off-piste', the Supreme Court noted that trustees should not regard proceedings in which they rely on Hastings-Bass as uncontroversial, asserting and relying on their own failings and those of their advisers to undo their actions.

Clarity, but not certainty
The Supreme Court also took the opportunity to clarify two issues that had arisen in earlier authorities. The first of these was whether it was appropriate to define more strictly what the court will look to when considering how trustees would otherwise have behaved (ie, the question of whether a trustee "would not" or "might not" have taken a course of action). It was held that it was inappropriate to be prescriptive; to lay down a rigid rule would inhibit the court in seeking the best "practical solution… in a variety of different factual situations".

The other issue that the Supreme Court clarified is that where Hastings-Bass applies, the act of the trustee is "not void but it may be voidable at the instance of a beneficiary who is adversely affected" (as put in the Court of Appeal).

While this is welcome clarity, it leaves open a significant scope for discretion, which the Supreme Court acknowledged meant that these principles "will raise problems which must be dealt with on a case-by-case basis". This is a reflection of the nature of the rule in Hastings-Bass: it is an equitable remedy and the court will always exercise a level of discretion.

Dismissal of appeals on Hastings-Bass
In Futter, when entering into the transactions, capital gains tax was not only "a relevant consideration", but was found to be "the paramount consideration, and the trustees thought about it a great deal. But the tax advice which they received and acted on was wrong". There was some complication caused by Cutbill being both a member of the solicitors firm giving the erroneous advice and a trustee receiving and acting on it, but the court found that he should not be treated as being "personally in breach of fiduciary duty".

In Pitt there was no such complication. Mrs Pitt received professional advice from solicitors and specialist consultants – supposedly expert advice, and she followed it. As the court noted: "There is no reason to hold that she personally failed in the exercise of her fiduciary duty. Unfortunately the advice was unsound."

Both appeals were therefore dismissed to the extent that they related to Hastings-Bass.

Relief for trustees mistaken in their voluntary disposition

Mistake in Pitt
The equitable relief of mistake is grounded in the "injustice (or unfairness or unconscionableness) of leaving a mistaken disposition uncorrected". The Supreme Court considered the distinction that had been drawn between a transaction's "effect" and its "consequences", as had been drawn by the judge in Gibbon,(4) and found that test to be too narrow – noting that "errors in other categories may be just as basic and just as serious in their consequences".

Instead, the Supreme Court held that "the true requirement" that would justify setting aside a voluntary disposition on the basis of mistake:

"is simply for there to be a causative mistake of sufficient gravity… [which] will normally be satisfied only when there is a mistake either as to the legal character or nature of a transaction, or as to some matter of fact or law which is basic to the transaction."

The mistake in Pitt was to fail to structure the settlement so as to take advantage of Section 89 of the Inheritance Tax Act 1984. The Court of Appeal had accepted that the loss of the tax advantage to Mrs Pitt was a serious one, and that she had an incorrect conscious belief (or tacit assumption) that the settlement would not have adverse tax effects. At the Court of Appeal, relief was withheld on the basis that the tax liability was no more than a consequence of the disposition, rather than a legal effect (which was found to be "the creation of the [settlement] on its particular terms, and the fact that the lump sum and the annuity were settled on those terms").

The Supreme Court found that its formulation of the test was satisfied in Pitt. It noted that "there would have been nothing artificial or abusive" in establishing the settlement to comply with Section 89; on the contrary, it was "precisely the sort of trust to which Parliament intended to grant relief".

Notably, the court rejected a submission by the Revenue that a mistake which relates exclusively to tax cannot in any circumstances be relieved as "much too wide, and unsupported by principle or authority". Instead, "consequences (including tax consequences) are relevant to the gravity of a mistake, whether or not they are… basic to the transaction".

Mistake in Futter
In Futter the Supreme Court refused to permit the issue of mistake to be raised for the first time on a second appeal, with little evidential basis for considering it. Nevertheless, the court noted that it would have been important to consider whether the courts should extricate "claimants from a tax-avoidance scheme which had gone wrong", commenting that "[t]he scheme adopted by Mr Futter was by no means at the extreme of artificiality… but it was hardly an exercise in good citizenship".

Instead, the Supreme Court suggested that in some cases the court might refuse relief:

"either on the ground that such claimants, acting on supposedly expert advice, must be taken to have accepted the risk that the scheme would prove ineffective, or on the ground that discretionary relief should be refused on grounds of public policy."

In such cases, where a remedy is no longer available, the burden of the error is pushed back onto the taxpayers and the insurers of professional advisers and trustees.

Comment

In considering the public policy implications for mistake in cases of artificial tax avoidance, the court cited Ramsay(5) as evidencing "an increasingly strong and general recognition that artificial tax avoidance is a social evil which puts an unfair burden on the shoulders of those who do not adopt such measures". That a Supreme Court judge would rebuke 'artificial' tax avoiders in such strong terms reflects how politicised the debate about tax avoidance has become. However, at what point tax mitigation strays into artificiality is in practice very difficult to pin down, which is reflected in the concept of the 'abusive' tax arrangement enacted by Parliament in the incoming General Anti-avoidance Rule.(6) This represents a shift in the law towards uncertainty and it remains to be seen whether this will make the avoidance of tax generally less attractive. In an era of high tax rates, this may be unlikely. In the meantime, an increase in litigation can be expected, as it falls to the courts to decide matters on a case-by-case basis.

Insofar as the judgment relates to Hastings-Bass, little has changed since the Court of Appeal judgment, to which extensive reference was made. For a trustee that has acted within its fiduciary powers, Hastings-Bass is no longer available. This will certainly be welcomed by the Revenue, which will benefit from unexpected tax windfalls when trustees have acted within their powers but failed – perhaps because of the complexity of the tax code – to appreciate the tax consequences of an action (subject to a finding of mistake).

For further information on this topic please contact Nigel Brook at RPC by telephone (+44 20 3060 6000) or email (nigel.brook@rpc.co.uk).

Endnotes

(1) Futter v The Commissioners for Her Majesty's Revenue and Customs; Pitt v The Commissioners for Her Majesty's Revenue and Customs [2013] UKSC 26, on appeal from [2011] EWCA Civ 197.

(2) Re Hastings-Bass [1975] Ch 25.

(3) Mettoy Pension Trustees Ltd v Evans [1990] 1 WLR 1587.

(4) Gibbon v Mitchell [1990] 1 WLR 1304.

(5) WT Ramsay Ltd v IRC [1982] AC 300.

(6) Finance Bill 2013.

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