Fighting fire with fire

Tuesday, 01 May 2012
A look at trustees and divorce, focusing on the Cayman 'firewall' legislation.

In their trust administration, trustees are often faced with complex questions that require sensitive handling. Few, however, create the minefield that foreign matrimonial proceedings do when they involve settlors or beneficiaries of their trusts.

Commonly, trustees are faced with deciding:

  • Should they submit to the jurisdiction of the foreign court?
  • Should they give an indication to the foreign court of how they may exercise their discretion in the future?
  • What should they do when faced with an order amounting to ‘judicious encouragement’ from a foreign court?
  • What should they do when faced with an order of the foreign court purporting to vary a trust governed by local law?

In the Cayman Islands, RBS Coutts (Cayman) Ltd v W and Others,1 (known as Re B) provides guidance to trustees of Cayman Islands trusts on how to deal with some of these difficult questions. In Re B, the trustee applied for directions in relation to matrimonial financial provision proceedings in Hong Kong concerning the co-settlors of a Cayman Islands STAR trust, including whether it should submit to the jurisdiction of the Hong Kong court. The husband (H), wife (W) and their three children were beneficiaries of the trust. The enforcers were H, W and eldest child, the younger children becoming enforcers upon reaching 18. The trust deed provided that the trusts were governed by Cayman Islands law and the settlors, trustee and enforcers required to submit to the exclusive jurisdiction of the Cayman court.

W made an application in Hong Kong seeking a variation of the trust on the basis that it was a nuptial settlement capable of variation under the relevant Hong Kong legislation. She obtained an order joining the trustee to the proceedings, although at the time of the trustee’s application it had not submitted to the jurisdiction of the Hong Kong court.

W was the ‘designated beneficiary’ of the trust by which she was entitled to control the investment business of ‘controlled companies’ directly owned or controlled by the trustee. A separate distribution fund was also held in the trust comprising all non-controlled company assets. The trustee was solely responsible for the management and investment of the distribution fund.

The trust assets comprised all of the issued shares in a Cayman Islands company (the parent), which owned all of the shares in a second Cayman Islands company (the subsidiary); both were controlled companies. The parent held an investment portfolio and the subsidiary all of the shares in a Hong Kong company (HK Co) save for one share, which was held by the trustee in the distribution fund. HK Co owned a residential property in Hong Kong where W and the children lived. The property was the most valuable of the underlying assets. There were no assets in the distribution fund, save the single share in HK Co.

A trust in the Cayman Islands can only be varied in accordance with the law of the Cayman Islands

By her variation application, W sought to have 40 per cent of the shares in the parent and 40 per cent of the shares in HK Co transferred out of the trust for distribution between H and W. The remaining 60 per cent of the shares would remain in the trust for the benefit of the children.

The trust was discretionary only with respect to the distribution fund. The trustee had no dispositive powers in relation to the controlled companies, except a limited power exercisable at the request of the designated beneficiary. H or W could revoke the designated beneficiary appointment or resign as such without appointing a replacement, the result of which would be that all of the trust property would fall into the distribution fund to be held on discretionary trusts for the beneficiaries. At the time of the trustee’s application, this had not occurred.

Order enforcement

Sections 90, 91 and 93 of the Trusts Law are often referred to as Cayman’s ‘firewall’ legislation. In essence, and subject to certain exceptions, these provide that:

  • where a trust is expressly governed by Cayman Islands law and there is an exclusive jurisdiction clause in favour of the Cayman Islands court, any questions about that trust or disposition of property on to the trusts must be determined in accordance with Cayman Islands law without reference to the laws of any other jurisdiction with which the trust might be connected (s90)
  • no trust governed by Cayman Islands law and no dispositions of property on to those trusts will be void, voidable, liable to be set aside or defective in any fashion, nor the trustee, any beneficiaries or other person be subject to any liability or deprived of any right because the trust or disposition avoids or defeats rights, claims or interests conferred by foreign law upon any person by reason of a personal relationship with the settlor (s91); and
  • where any foreign judgment is inconsistent with s91, that judgment will not be recognised, enforced or give rise to any estoppel in the Cayman Islands (s93).

Accordingly, the Judge concluded: ‘An order of the Hong Kong court purporting to effect a variation of the trust, whether in matrimonial proceedings or otherwise, cannot be recognised by the trustee. That is so even if the trustee were to attorn to the jurisdiction of the Hong Kong court. A trust in the Cayman Islands can only be varied in accordance with the law of the Cayman Islands and only by a court of the Cayman Islands. These overarching rules are provided for expressly in the Trusts Law (2009) Revision, in ss90, 91 and 93…’ [23]

Hong Kong court

In the absence of any Cayman Islands authority on this point, Henderson J reviewed Jersey authorities, concluding that the trustee must not submit to the jurisdiction of the Hong Kong court or, indeed, offer any response to the Hong Kong proceedings. He warned: ‘It would be unwise and inappropriate for a trustee to allow itself to be placed in a situation where its trust obligation comes into conflict or may come into conflict with an obligation to obey the order of a foreign court.’ [25]

Henderson J drew on the comments made in the Jersey cases, in particular noting the following from In re H [2006] JLR 280: ‘Significant consequences may flow from a decision by a trustee of a Jersey trust to submit to the jurisdiction of the Family Division of the High Court… any order subsequently made… would be made in proceedings to which the trustee had voluntarily submitted… the trustee would be in some difficulty arguing subsequently before this court against the proposition that any order… should be enforced without reconsideration of the merits of such order.

‘Conversely, if the trustee has not submitted to the jurisdiction of the Family Division, any order of that court will not be enforceable in Jersey under the rules of private international law.’ [12 and 13]

Judicious encouragement

Structured as it was, the trustee of the B Trust had no power under the terms of the trust to exercise any discretion in a way that would assist with the resolution of the Hong Kong matrimonial proceedings. H and W as co-settlors, however, could be ordered by the Hong Kong court to resign as designated beneficiary and successor designated beneficiary without appointing a replacement, the result of which would be that all of the trust property would fall into the distribution fund to be held on discretionary trusts.

When making this observation, Henderson J provided guidance for the first time to trustees of Cayman Islands trusts faced with orders of foreign courts amounting to ‘judicious encouragement’, finding: ‘The parties before me are agreed that consideration of such “judicious encouragement” by the Hong Kong court would and should be taken into consideration in any possible exercise of the trustee’s discretion together with all of the other circumstances which are relevant.’ [26]

The trustee cannot fetter its discretion now by suggesting how it may act in the future

Henderson J nonetheless warned against the trustee indicating how it might resolve to exercise its discretion in the future: ‘The trustee cannot, of course, fetter its discretion now by suggesting how it may act in the future. In exercising its discretion, it must take into account all of the relevant circumstances existing at the time it is called upon to make a decision. One relevant circumstance, to which respectful and attentive consideration will be given, is any judicious encouragement received in the form of a judgment or ruling from the court in Hong Kong.’ [35]

Henderson J concluded that to provide any form of indication to the foreign court as to how the trustee might exercise its discretion in future would likely shape the parties’ expectations and would be ‘fraught with difficulty and therefore inappropriate’ [39].

Lessons learned

While the circumstances of each case will be different and could, conversely, lend themselves to a trustee concluding that it would be in the best interests of the beneficiaries to submit to the jurisdiction of the foreign court, Re B does provide general guidance for trustees facing such issues and helpfully clarifies how the Cayman Islands’ firewall legislation can work in practice.

  • 1. RBS Coutts (Cayman) Ltd v W and Others [2010] (2) CILR 348.
Author block
Right
Morven McMillan, Lucy Diggle

Morven McMillan TEP is a Partner at Mourant Ozannes in the Cayman Islands.
Lucy Diggle is an Associate at Mourant Ozannes in the Cayman Islands.

Topic
Trusts
Section
STEP Journal
Country
Cayman Islands
Hong Kong

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