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Are you contracting with a corporate trustee?

 

It is not uncommon for SME companies to be trustees of trading trusts.  It is a common asset protection device.  Accountants and lawyers love them. The trading company will act as a trustee of a trust, with beneficiaries entitled to the income and net assets of the trustee company.  The corporate trustee is often a shell in its non-trustee capacity, holding only  trust assets. The trust deed governing the trust almost always excludes any obligation on a beneficiary to indemnify  the trustee. Beneficiaries are usually family members of the directors of the corporate trustee.

The risk

Trusts add a layer of complexity and risk for third parties dealing with the trustee company, as the trust assets are held by the trustee on trust for its beneficiaries and are not always available to meet debts incurred by the trustee.

How can you know?

Usually, the corporate trustee will describe its trustee status in its public documents, such as its order forms, invoices and communications.  That warns persons contracting with it, that it is contracting with a trustee which is subject to a trust deed. Trust deeds are not searchable public records. They can only be obtained from the trustee. Trusts are not shown on land title searches. If no trust disclosure is made, the contracting party will naturally believe it is contracting with the trading company in a non-trustee capacity. Regardless, debts contracted by the trustee are contracted for in its own personal capacity, meaning it owes the debt to the creditor and is the proper defendant in any claim for the debt. You might get a judgement, but when you try to enforce it, the debtor company will say “I don’t own any assets. I am only a trustee. Wind me up and another trustee will be appointed to the assets.”

Indemnity rights

Thankfully for creditors, the trustee can normally access the trust assets to pay the debts it incurs. It does this via exercising its “right of indemnity” over the trust assets, for the purpose of meeting expenses and debts it properly incurs in accordance with the trust deed provisions. This right is secured by an equitable charge, which arises automatically and need not be registered under the PPSA. Removing the trustee does not remove the old trustee’s charge over the trust assets, if properly incurred debts remain due.

More problems

Another issue in dealing with a trustee, is that its power to contract in that capacity is always subject to the limitations in the relevant trust deed.  The possible sting for creditors, is that this right of indemnity to use the trust’s assets will not apply to expenses or debts incurred by the trustee in breach of the trustee’s powers. Further, if the trustee has caused loss to its beneficiaries in breach of trust, those beneficiaries may have first rights against the trust assets ahead of the trustee and its creditors.

Particularly in a sale by the corporate trustee of the trust’s entire assets or business, the trust deed needs to be checked to check whether the trustee has power to affect such a sale and so pass good title to the buyer. It is possible that such a significant sale needs beneficiary approval under the trust deed provisions, or otherwise the sale may be in breach of the trustee’s powers and be invalid.

Take away

The effect of all these principles is that dealing with a corporate trustee is an inherently more risky proposition than not dealing with a trustee.

First ask the question of the directors of the company whether it is a trustee. Get it in writing. If it is, a review of the trust deed should occur if you propose to engage in any significant dealings with a corporate trustee.

 

For more information contact James Hamilton