The Trust as a Valuable Planning Tool

As befits an arrangement which, even if not quite as old as time, has long given the family succession and tax planner a valuable tool, the trust simply will not lie down. Rumours of its demise have probably been around since as long as the trust itself and it is not difficult to imagine some innovative 14th century planner regarding the trust as “so last century” and out of step with the times.  

In the 21^st century the international planner has many other possible structures at his disposal and an increasingly formidable array of obstacles to overcome in order to identify the best strategy for the client. Although not for everyone and all circumstances, the trust remains the valuable planning tool it always has been despite attacks on its use, in particular from onshore governments. Even if it is ultimately rejected as the solution in a particular case, it will almost always make the shortlist. I would go so far as to say that powerful reasons are needed to justify its rejection in favour of other wealth-holding structures.

What’s wrong with trusts?

It may seem perverse to start with the negative but there are so many obvious things right with trusts and their use (flexibility, protection of the vulnerable and incapacitated, their enthusiastic adoption and promotion in very many jurisdictions and so on) that an analysis of the downsides may be more useful than a paean of praise to their attributes.

What’s wrong with trusts may be broadly placed in one of two categories: first is the well-documented animosity with which certain onshore governments, notably the UK and the US, bear to their use and the steps those governments have taken to discourage them.

The second, a broad and more interesting category, concerns the problems thrown up by lack of care and foresight in planning the structure and (sometimes consequent on lack of care and sometimes not) the working of trusts in practice.

Although on analysis these latter problems are probably no more serious or intractable than those thrown up by any other series of human relationships, they tend to attract unfavourable headlines both in the law reports and the general press of the “Mega Rich X Family Rows Over Offshore Trust” variety.   Recognising the truism that every unhappy (rich) family is unhappy in its own way, the challenge is always how best to structure so as to reduce the chances that the trust itself will become the medium through which that unhappiness finds expression.

Protectors

One example from recent experience will suffice to illustrate the need for care and potential for disaster in trust planning.

When it became popular back in the 1970s to establish broad discretionary settlements in offshore jurisdictions, often far from the home and with unfamiliar institutional trustees, the eternal trust triangle of settlor, trustee and beneficiary was sometimes augmented by a fourth member: the protector. Usually regarded as the settlor’s man, he was there to ensure that the settlor’s wishes were carried out, to remove trustees if they proved resistant and generally to keep the beneficiaries in line.  

I hasten to say that there are, of course, many excellent protectors who take their jobs very seriously, genuinely exercise their powers in the best interests of the beneficiaries and who are otherwise genuinely valuable additions to the team.

Equally, however, their presence can destabilise relationships in an unhelpful manner.   A good example is the protector who has known the beneficiaries since they were small children and who has formed a particular view of their personalities, which never alters whatever changes maturity brings. Friction with the beneficiaries results as the protector declines to approve distributions for reasons which seem unreasonable to the beneficiaries.

In an extreme case in which I was involved the protector clung stubbornly to the settlor’s view, formed some 40 years before when his son was very young, that the son should never be given access to capital. Now in his 60s, the son had suffered unnecessarily for years from that policy (even coming near to bankruptcy) in circumstances where the trust could reasonably have helped. That protector was eventually removed by the court but fought, very expensively, to the bitter end to resist that result.

My advice? Think very carefully before concluding that a protector is desirable and will not simply be a financial and emotional drain on the trust structure. If you decide you really do need one, be careful about drafting his powers and the way in which they are to be exercised.

Dispute resolution

In the UK mediation of trust disputes has become an increasingly fashionable way of attempting to resolve problems without going to court. In practice an attempt at mediation in the course of proceedings has to be made – the English rules strongly encourage it without making it formally mandatory. The record of success in mediations is said to be excellent although data is necessarily anecdotal and unreliable. If it works, it is of course an excellent way of reducing cost, both financial and emotional, and (which is often extremely important to the family in question) of keeping sensitive matters confidential.

It also avoids the lottery element of a contested hearing in which one or more parties will inevitably be disappointed, a result which may not be conducive to future family harmony.

Mediation is less often encountered in the international arena – local rules may not encourage it in the same way as in the UK and practitioners may be less familiar with the process and its advantages.   It is often necessary actively to promote the advantages of mediation to one’s client for which purpose it is helpful, if not strictly essential, to believe in the process oneself.   It is not always an easy task to persuade a client who is bent on total victory to put down the sword and assume a compromising stance.  

A recent development has been the emergence of clauses in trusts which seek to encourage the mediation or arbitration of disputes. Mediation is a consensual process to which parties need freely to agree but there are methods of drafting which may encourage that result. For example it may be possible to oblige the trustee to undertake a particular process involving mediation before it may exercise certain powers.  

In relation to provisions which try to oblige parties to submit to arbitration, there is something of a difference of opinion. One view has it that a settlor may impose terms on his beneficiaries, unless they are contrary to public policy or otherwise void, and can force them to arbitrate as a result. The contrary view is that such a provision ousts the jurisdiction of the court and cannot be enforceable.   In general it is thought that legislation may be required to force an arbitration on the parties and I understand that the Bahamas has recently introduced such a provision in its Trustee Amendment Act 2010.   Other jurisdictions have yet to follow suit.  

For my own part I remain to be persuaded that arbitration, unlike mediation, offers a real advantage in trust disputes. One is simply substituting one forum for another in circumstances where the court may well offer a superior service. Confidentiality is often said to be a benefit of arbitration but I am not wholly convinced of that in practice.

Other structures

In recent years other arrangements have come to offer serious opposition to the trust. Several trust jurisdictions, notably Jersey, now offer foundations as an alternative to trusts which are likely to appeal, at least initially, to those from civil law backgrounds in which, for example, the Liechtenstein foundation has long been familiar.

One of the great advantages of the foundation is its potential for indefinite existence in circumstances in which the rule against perpetuities generally constrains the length of the trust. The size of some modern fortunes is far too large for single families to enjoy realistically during a relatively short period and a notable feature of the past few years has been the emergence of real dynastic intent among the wealthy: they want their structures to last literally in perpetuity.   Some but by no means all of the trust jurisdictions have abandoned a perpetuity rule for trusts to allow these ambitions full rein and I suspect that we will see that tendency increase in jurisdictions which are unwilling to introduce the foundation.  

The other exciting new development, at least in the UK, is the emergence of the family partnership as an alternative to the trust. Driven largely by the government’s dislike of the trust and the consequent tax disadvantages, which make the creation of new UK lifetime trusts so difficult, creative use can be made of these arrangements for tax and succession planning purposes in ways which to a large extent mimic the separation of management and beneficial ownership which we see with the classic trust.

Alive and kicking

The lessons to be learned from alternative structures could perhaps be applied to trusts too but there is little that can be done through a foundation or a family partnership that cannot be done through careful and imaginative trust structuring.  

The trust really shows off its muscles and flexibility offshore: the use of Cayman STAR trusts, for example, to mix private and charitable purposes, the emergence of purpose trusts of various kinds, trusts involving complicated arrangements for the reservation of powers to third parties have all emerged in response to the challenges posed by the need to structure family wealth and businesses in a creative and practical way.

There is no reason to suppose that the trust will not continue to play a major part in wealth structuring and every reason to suppose otherwise. Long live the trust.

Shân Warnock-Smith
Shan Warnock-Smith QC is a barrister who provides advisory and litigation services to professional clients in the wealth structuring field. From her bases in London and Cayman, Shan has an international practice, which takes her around the globe to advise and litigate.