Insolvent Trusts – Re: Z Trust [2015]

The team is currently acting in the first case to address the concept of “insolvent Trusts” in any offshore jurisdiction. It is also not a concept that has ever been considered in English law previously.

By way of brief background to the case, the Settlor established eight trusts (ZI to ZVIII) all subject to the proper law of Jersey. The original Trustee retired under a Jersey law DoRA and was replaced as Trustee of all the Trusts between 2006 and 2007. Two of the eight Trusts (ZIIand ZIII) subsequently encountered serious financial difficulties and in 2015, the replacement Trustee sought directions from the Royal Court in relation to the implementation of a regime aimed at “winding up” ZII owing to its insolvent asset position.

The main asset of ZII is a significant loan from ZIII but that loan has been written down substantially to reflect the limited likely recovery. ZII has significant loan liabilities to connected trusts and companies with the only unconnected liabilities being outstanding Trustee fees and a contingent claim by the original Trustee (our client) who seeks an indemnification in respect of its liability which arose as a result of litigation brought against it by a third party in relation to its former trusteeship.

In April 2015, the Royal Court determined that ZII was “insolvent on both the cash flow and balance sheet” and it granted directions for the imposition of an insolvency regime.

Ultimately the Court demonstrated a flexible approach to application of an insolvency regime over a Trust and made clear that the type of regime applied will depend very much on the facts and circumstances of the insolvency in question with issues of cost, delay and the need for independence key factors for consideration by the Court.

This case has also addressed the question of whether an equitable lien exists in respect of former trustees’ rights over trust assets for payment of liabilities incurred from their trusteeship. The Royal Court considered the issue of equitable lien at a hearing in February 2015. During that hearing Commissioner Clyde Smith applied the authority of Investec Trust (Guernsey) Limited –v- Glenalla Properties Limited and Ors [2014] (which was decided under Jersey law in any event) and expressed the view that the original Trustee does have an “equitable right” under Jersey law in respect of its trustee liabilities and is entitled to ensure that no steps are taken to “destroy, diminish or jeopardise” that right. The Court did not however go into any further detail on the precise nature of this “equitable right” or indeed the priority afforded to it, save to say that it took priority over beneficiaries claims to the trust fund.

The Federal Republic of Brazil and another v Durant International Corporation and another [2015] UKPC 35

Emma Jordan acted as Jersey Advocate in the Privy Council case of Brazil v Durant. Emma acted for the Municipality of Sao Paulo in the civil fraud case to recover funds misappropriated by Paolo Maluf. The case involved the Municipality seeking to recover funds channelled by Mr Maluf through the Jersey bank accounts of a number of BVI companies. Emma represented the government of Brazil in the Jersey Court of Appeal and established the application of the principle of backwards tracing through mixed bank accounts. This was the first case to apply the principle, albeit there had been strong judicial support in the English Court of Appeal previously. The Privy Council upheld the Jersey Court of Appeal’s decision and allowed the application of backwards tracing. This principle in essence permits the Court to use flexible evidential rules to recover monies misappropriated by fraudsters including allowing tracing through a mixed bank account when the monies are paid out prior to the Claimant’s funds being shown to have been paid into the account. The Privy Council determined a flexible test but confirmed the Jersey Court of Appeal’s test of the need to show a ‘sufficient link’ between the monies that have been paid out of the account and the monies in to reimburse this payment. This is a seminal case and practitioners are eagerly anticipating the application of this principles in the English court.