10 November 2021

The pitfalls of not administering a Discretionary Trust properly

Bennett & Philp Lawyers


Bennett & Philp are lawyers who understand the real world. We offer practical legal solutions across every stage of life and business and with multi-disciplinary experts across five practice areas – Business Advisory, Intellectual Property, Disputes and Litigation, Property and Real Estate and Wills and Estates.
Recent case highlights that issues that can arise if you do not properly administer a Discretionary Trust.
Australia Family and Matrimonial
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Discretionary trusts are created for a variety of people whether they be high-income earners, small business owners, or 'mums and dads'. If you ask the average person whether they can explain what the trust is, how it works and what the trustee's responsibilities are, the answer would most likely be along the lines of "no idea" to "not really" or "it's something my accountant set up...".

When discretionary trusts are not administered properly, it can create a myriad of problems for the trustee and beneficiaries and often result in litigation. (This is particularly the case with 'family trusts'. Hell hath no fury like relatives fighting over 'family money'.)

The Matter:

It is worth briefly revisiting a case from earlier in the year to remind ourselves of the types of issues that can arise when a discretionary trust is not administered properly. The case also provides clarification on some important aspects of a trust and also raises an interesting problem regarding capital gains tax (CGT).

In the matter of Re McGowan & Valentini Trusts [2021] VSC 154, a number of issues arose out of the following facts:

The Facts:

In 1977, two discretionary (family) trusts were established by Guiseppe and Norma, one trust for each of their teenage children Anna and Peter. We'll call the trusts "Anna's Trust" and "Peter's Trust" and their trust deeds the "1977 Deeds".

At that time, I.N. & G. Nominees Pty Ltd ("ING") was appointed trustee of the two trusts. ING appeared to accept its appointment as trustee with Giuseppe and Norma signing off as ING's apparent directors. (ING in fact didn't yet exist.)

According to the 1977 Deeds, the property of the trusts were to vest absolutely in Anna and Peter when they each turned 30 years of age. The deeds also included clauses giving power to the trustee to appoint new trustees and vary the terms of the deed, amongst others.

ING was registered in 1978, approximately 18 months after the 1977 Deeds were signed. Giuseppe was, at least initially, its sole director.

Giuseppe passed away in the late 1980's.

By the early 1991, both Anna and Peter had turned 30 years of age. Therefore, according to the 1977 Deeds, the property of Anna's Trust had vested in Anna and likewise the property of Peter's Trust had vested in Peter.

However in mid-1991, ING (by which time Anna and Peter were directors) purported to amend the 1977 Deeds to extend the vesting dates of the trusts and widen the class of beneficiaries. We'll call these new deeds the "1991 Deeds".

ING continued to make distributions and manage the 'property' of the trusts as per the 1991 Deeds. The trusts' property included five properties acquired over time, treated as assets of both trusts equally. All of the properties were registered in the trustee's name (ING) except for one. That property (in Geelong) was originally purchased by and registered in Giuseppe and Norma's joint names. After Giuseppe died, Norma became its sole owner (by right of survivorship). There were no declarations of trust made in respect of any of those properties.

Following Norma's death in 2020, ING (as the purported trustee) was required to apply to the Court for advice because there were problems relating to the validity of the trusts and/or the 1991 amendments, distributions that had been made, what constituted property of the trust, and the list went on.

The issues:

  1. When the trusts were created (in 1977), the trustee ING didn't exist.

The Court's position was that this did not invalidate the trusts. At the time the 1977 Deeds were signed, all of the legal elements were still met to create what were express trusts. That is, certainty of intention, of the subject matter of the trusts, and of the beneficiaries' identity. So Anna's Trust and Peter's Trust came into existence.

As to the non-existent trustee, the Court held that equity will not allow a trust to fail for want of a trustee (as that would generally be contrary to the settlor's intention).

As ING didn't exist, then based on the particular events which took place, the Court concluded that upon the signing of the 1977 Deeds Giuseppe and Norma each became the trustees of the trusts, but were replaced as trustees by ING when it was incorporated in 1978.

That is, the Court held that a person could become trustee of a trust by their conduct in 'administering' the trust and taking on the trust's liabilities.

  1. The Geelong property was considered trust property, but was registered in Norma's name

In all states across Australia, a declaration of trust respecting land must be evidenced (i) in writing and (ii) signed by some person who is able to declare the trust. In this case, the relevant provision was section 53(1)(b) of the Victorian Property Law Act 1958. (In Queensland, it's section 11(b) of the Property Law Act 1974.)

The Court noted that a combination of documents can be read together (no matter their date) in order to meet the requirement under the legislation.

Even though there were no express declarations of trust here, the Court had regard to a combination of 1977 Trust Deeds, statements made by ING's directors and an unsigned declaration of trust (amongst other things) to conclude that the legislative requirements had been met for the declaration of trust in the Geelong property.

Therefore, the Court held that from the time ING was incorporated, the Geelong property was held by Giuseppe and Norma on sub-trust for the benefit of Anna's Trust and Peter's Trust.

  1. No declarations of trust were signed by ING for the other (4) properties

Again, the Court had regard to a number of documents including the 1977 Deeds, the 1991 Deeds, various income tax returns for the trusts, an affidavit sworn by one of ING's directors.

The Court was satisfied that when those documents were read together, the requirements under section 53(1)(b) of the Act regarding the declarations of trust in those properties had been met – ING sufficiently declared the trusts. The properties were therefore validly held on trust for Anna's Trust and Peter's Trust.

  1. The trusts vested before the 1991 Deeds were signed

Interestingly, the Court held that the vesting of the trusts in Anna and Peter when they each turned 30 did not, of itself, bring the trusts to an end. (Further, it did not mean that ING held the trusts' property thereafter on some different trusts.)

The Court formed this view upon applying reasoning from a Western Australian case of Clay v James and considering the particular wording of the provisions of the deeds. The 1977 Deeds most relevantly provided that the trustee held the funds "upon trust on [Anna/Peter] attaining the age of thirty years as to the income thereof for [her/him] absolutely". They also said the funds were held "upon trust on Anna/Peter attaining the age of thirty years, as to both capital and income thereof for Anna/Peter absolutely or if [she/he] shall die before attaining the age of thirty years then ... [trusts for the children of [her/him]...."

In the Court's view, there was nothing in the language of the 1977 Deeds that prevented the continuation of the trusts beyond the vesting dates pending the winding up of the trusts. The Court noted that no one had alleged that the trustee had breached any obligation to wind up the trusts beyond the vesting date and in fact Anna and Peter (the original beneficiaries) consented to the continuation of the trusts and their amendment by the 1991 Deeds).

  1. Even though the vesting didn't bring the trusts to an end, could the 1977 Deeds be amended after the trusts had vested?

The Court's answer was yes, again, based on the wording of the 1977 Deeds' provisions.

The Court held that the provisions were broad enough to permit amendments to the class of beneficiaries and the vesting date, even beyond the vesting date, provided that the relevant beneficiaries (Anna and Peter) consented which they did.

While ING had a legal mess on its hands, the people involved here were fortunate as the words used in their particular deeds allowed the Court to reach convenient solutions. There could have been an entirely different outcome had the provisions read (even slightly) differently so one should not assume that similar problems will be resolved as conveniently as in this case.

The types of issues seen in this case could easily result in a complex and costly legal battle for another trust.

Finally, another important consideration is the potential tax consequences here. While the Court found that the trust continued beyond the vesting date, in the ATO's eyes certain events here could trigger a CGT event based on Taxation Ruling TR 2018/6. So trustees still need to ensure appropriate tax advice is sought in order to avoid unintended CGT events.

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.

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