Australia: Can You "Trust" A Trustee? – Limitation Of Trustee Liability Clauses In Construction Contracts

What you need to know?

• Trustees are commonly used to enter into construction contracts as a risk mitigation tool.
• When contracting as a trustee one needs to be careful to ensure that the appropriate trustee limitation of liability provisions are included in the construction contract.
• When contracting with a trustee one needs to be careful to ensure that the trustee is entering into the construction contract as the trustee of their trust and that they hold sufficient assets on trust to pay all claims which may be payable under the construction contract.

Trusts and the Trustee

Whilst often misunderstood to be a legal entity like a company, a "trust" describes no more than a relationship between a trustee and their beneficiaries whereby the trustee holds property on trust and for the benefit of the beneficiaries.¹

Think of a trustee and a trust as analogous to a man and his wallet. The trustee is the man and does all things for the trust while the trust is the wallet which holds the money of the beneficiaries.

A trust relationship typically has to be evidenced in writing through a declaration of trust or a trust deed (although the court can impose a trust relationship on the parties in certain situations).

Personal Liability of Trustee and Right of Indemnity

Most trust deeds provide that a trustee can use any property they hold on trust to conduct a business for the benefit of the beneficiaries of the trust. The revenue generated by the trustee in conducting that business must be used to pay their costs and expenses with any profits to then be distributed amongst the beneficiaries via trust distributions.

Unfairness could result were a trustee able to conduct such a business but seek to avoid paying business debts by saying that it does not own any property because all of its property is held on trust for others.

To avoid such unfairness the law typically provides that:

• a trust can only engage with other parties through a trustee;
• trustees are personally liable for any contracts they enter into on behalf of a trust whether or not they have disclosed they are acting as a trustee to the other contracting party. This means a trustee will personally bear the liability for all trust expenses, liabilities and debts²; and
• the trustee will have a right of indemnity to recover payments for all debts they have incurred while acting as the trustee from the trust property before that property is distributed to the beneficiaries of the trust.

This right is called a right of indemnity or right of indemnification. This right is supported in general law,³ statute⁴ and is commonly found in most trust instruments.

Why does this matter to a Trustee?

Personal liability may not matter for a trustee company which has been specifically incorporated as a special purpose vehicle to act solely as the trustee of a trust (e.g. where one is dealing with a $1.00 trustee company with no personal assets of value other than the assets it holds on trust).

Personal liabilities incurred by a trustee in acting as a trustee of a trust could however become significant for a trustee who is either the trustee of multiple trusts or where the trustee has personal dealings or conducts its own business separate from the business it conducts for the beneficiaries of the trust.

In those circumstances, a trustee will want to ensure that the creditors of the trust business are kept separate from and cannot have claims against the trustee's personal assets nor against any assets it holds for the beneficiaries of any other trusts.

Limitation of liability clauses

Limitation of liability clauses seek to address this issue.

Under these provisions a trustee will disclose and a contractor will acknowledge and agree that:

• a trustee is entering into a contract in its capacity as the trustee of the trust; and
• a trustee's liabilities under the contract will be limited to the property which the trustee holds on trust for the beneficiaries of its trust.

These provisions accordingly act as an important risk mitigant tool by limiting what assets a contractor can have recourse against to pay their debts.

In the realm of construction contracts, are these clauses a cause for concern for contractors?

Not necessarily.

In Australia, the use of limitation of trustee liability clauses is common. Principals that are large corporate trustees or funds management companies will always insist on the inclusion of a trustee limitation of liability clause in any construction contract. These clauses are considered "market practice", and trustees are likely to resist any request to amend or delete these types of clauses. It is common practice for construction lawyers to view these clauses as "standard" clauses, and they are often not carefully reviewed or negotiated in any way.

The main risk involved in contracting with a trustee principal whose liability is limited by these clauses is that the principal may not hold sufficient assets on trust to pay out all of the liabilities they incur under the construction contract.

It is also important that the correct trustee and trust is identified. It is no good contracting with a principal who does not own any assets or with a principal who is the not the trustee of the trust that owns the development site you are working on.

Unlike a company, a contractor will not be able to search the assets of the trust to satisfy itself as to whether sufficient assets are available to indemnify the trustee, and in due course pay the contractor.

The risks involved in being engaged by a trustee need to be assessed on a case by case basis. In larger projects or in cases where a contractor may be concerned with the financial status of a trust, a contractor may consider requesting that the trustee provide the trust's financial statements or may make enquiries with the principal on how the project is being funded. You may also ask to see the trust deed and any title documents to confirm in what capacity any assets are held by the principal.

As always, we recommend that participants in the construction industry seek legal advice before entering into any form of construction contract.

Footnotes

1 Ayerst v C&K (Construction) Ltd [1976] AC 167, 177.

2 Vaccum Oil Co Pty Ltd v Wiltshire (1945) 72 CLR 319, 324.

3 National Trustee's Executors & Agency Co of Australasia Ltd v Barnes (1941) 64 CLR 268.

4 Trustee Act 1925 (NSW) s 59(4).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.