As usual, an edited transcript of the presentation for those that cannot (or choose not) to view it is below –
A classic case study example is where there is a mum and dad with adult kids. The parents have set up their estate plan and one of the adult kids then goes through a relationship breakdown.
The type of argument that can be run by the estranged spouse is as follows –
‘I’ve got reason to believe that under the estate plan of my former in-laws that my ex-spouse will be getting a fair entitlement under their estate plan. So on that basis, I want to get access to the documentation that sets out how the estate plan works and I want to get access to how any family trust they may have is setup.
I also want to get access to all the distribution resolutions overtime. Even though none of this is a direct asset or something that is directly within the portfolio of my former spouse, it is all within the overall family unit, and therefore, I am entitled to get access to those documents.’
The case law in this type of situation is somewhat unclear. There are certainly cases to support the fact that parents’ estate planning documentation can be accessed.
Indeed, there are examples where in the actual trial, the parents-in-law are called into the courtroom, the doctors are called in, and there’s a medical assessment of how the mum and dad are tracking, and whether they are actually going to die anytime soon.
All of this is done to allow the court to put a monetary value on what a spouse’s entitlement might be out of their parents’ estate plan.
One related issue that we see arise from time to time is an attempt to regulate the distribution of the assets of a trust via a will direction. Generally this approach is adopted on the basis that some argue that a will can have legal force over a trust.
The idea that a willmaker can mandate that a company take certain steps in relation to its assets is clearly untenable (even if the will maker is the sole director and shareholder of the company). The analogous argument that a will maker can somehow force a trust to take certain steps seems (at least conservatively) similarly without basis.
In any event, if the outcome of mandating certain trust distributions is required, a simple deed of variation, with an effective date of the willmaker’s death arguably achieves the same outcome, without any of the esoteric debate about whether a willmaker can regulate trust distributions.
While we do from time to time adopt the ‘delayed commencement’ deed of variation approach we generally recommend against it as it goes against virtually all the benefits of having a discretionary trust in the first place (quite aside from the significant tax and duty risks of such a variation).
Instead, our strong preference is to use one or more of strategies such as memorandums of directions, crafting control roles (such as appointor or principal powers), family councils, bespoke constitutions, trust splitting, trust cloning, independent trustees or gift & loan back arrangements to achieve the required objectives.
Discretionary trusts are regularly used in commercial transactions, and of course tax issues are always present. But, there is a more fundamental issue that deserves attention – fettering of a trustee's discretion.
Take for example an insurance funded buy-sell arrangement that uses options under the contractual arrangement to help facilitate any ultimate buyout. This is a widely used, and generally very sensible, approach to take. A significant difficulty can arise however where the parties to the buy-sell agreement include trustees of discretionary trusts.
There are cases (admittedly dating back many years) which provide that unless a trust deed for a discretionary trust specifically allows the granting or an acquiring of an option, then the arrangement will not be enforceable as the trustee has effectively fettered its discretion.
In order for a discretionary trust to remain an ongoing valid structure, it is necessary for the trustee to always retain its discretion and therefore not enter into arrangements which will remove this flexibility in the future.
Traditionally, entering into option arrangements has been seen as clearly limiting future decision making ability and therefore prohibited - unless specifically allowed under the trust instrument.
Despite the longstanding rules in this area, many otherwise ‘modern’ trust deeds do not have the required powers to in fact allow a trustee to grant options.
Leading case
As mentioned in last week’s post, the principle in relation to the prohibition on a trustee fettering its discretion is arguably best captured in the decision of Fitzwood Pty Ltd v Unique Goal Pty Ltd (in liquidation) [2001] FCA 1628.
In this case, the key concepts concerning fettering were summarised as follows –
"… a trustee is not entitled to fetter the exercise of a discretionary power (for example a power to sale) in advance: Thacker v Key (1869) LR 8 Eq 408; In re Vestey's Settlement [1951] Ch D 209.
If the trustee makes a resolution to that effect, it will be unenforceable, and if the trustee enters into an agreement to that effect, the agreement will not be enforced (Moore v Clench (1875) 1 Ch D 447), though the trustee may be liable in damages for breach of contract …".
Arrangement in breach of fettering trustee's discretion enforced
Arguably the leading case explaining when the prohibition on fettering of discretion will essentially be ignored is Dagenmont Pty Ltd v Lugton [2007] QSC 272.
The background in this case was as follows:
a family discretionary trust was established to be the owner of a start up business;
a company was nominated as trustee of the trust, with the shares in the company owned by the husband and wife and the husband as the sole director;
the wife’s brother was listed as the sole appointor, with the right to remove the trustee in his sole discretion;
the wife’s brother had no involvement in the business at any stage, and the husband and his wife claimed they had never understood why the brother was nominated as appointor, nor indeed the extent of his ultimate power;
as part of a succession and estate planning exercise, the wife’s brother agreed to relinquish his rights as appointor;
in particular, an agreement was entered into by the wife’s brother as the original appointor of the discretionary trust and the husband, wife and one of their sons, whereby the wife’s brother would resign as appointor of the trust, in return for guaranteed distributions from the trust for as long as he lived;
the distributions were set at an amount of $150,000 each year, indexed for inflation, in priority to any other distributions from the trust, and regardless of the level of profitability of the business owned by the trust;
the agreement by the trustee to make these future distributions was therefore effectively a fetter on its future discretion;
each party received independent legal advice at the time of the agreement, however some years later the trustee attempted to cease the distributions due to the, argued, invalid fettering of its discretion and in turn the apparent inequality of the original bargain struck – the wife’s brother had never had any involvement in any aspect of the business and indeed had never exercised his power as appointor.
The Supreme Court specifically acknowledged the general prohibition on a trustee fettering its discretion (based on the case law stretching back over hundreds of years), confirming that:
"trustees cannot fetter the future exercise of powers vested in trustees … any fetter is of no effect. Trustees need to be properly informed of all relevant matters at the time they come to exercise their relevant power."
While therefore agreeing that the agreement was at face value void and should be set aside, the court went on to in fact ignore the fettering and uphold the validity of the agreement.
In rejecting the trustee's attempt to avoid the agreement and in turn the obligation to continue to make the trust distributions of $150,000 a year for the rest of the wife’s brother’s life the court confirmed:
a provision in a document authorising a trustee to release powers which they would otherwise have a duty to exercise is valid;
here, the document confirming the agreement between the parties was in essence a release by the trustee of the power conferred on it to exercise an unfettered discretion to distribute amongst all potential beneficiaries;
alternatively, the agreement effectively amounted to a variation of the terms of the original trust deed;
this meant that what would otherwise have been an unfettered trustee discretion became reduced in scope, simultaneously with an obligation being imposed on the trustee (created by the agreement with the wife’s brother as original appointor) to distribute the annual amount of $150,000 (indexed);
arguably, particularly where parties receive independent advice at the time, the court should always uphold bargains where it can, rather than destroy them – even where there is longstanding case law suggesting the opposite conclusion.
Conclusion
As explored regularly in this blog, while reading the trust deed of a discretionary trust (including all valid variations) is necessary, it will not be sufficient by itself. This is because there are a myriad of related issues that need to be considered that may impact on any intended distribution, aside from whatever powers are set out in the trust instrument.
While not necessarily an obvious example, the rules in relation to trustee fettering are longstanding and go to the heart of a trustee’s duties. A failure to understand the impact of the regime can have significant detrimental impacts both from a trust law perspective and the related tax consequences – regardless of whether any purported fettering is ultimately held to be valid or invalid.
As usual, if you would like copies of any of the cases mentioned in this post please contact me.
The above post is based on the article we recently had published in the Weekly Tax Bulletin.
** for the trainspotters, ‘it will be ignored’ is a line from the Black Rebel Motorcycle Club song ‘At my Door’, listen hear (sic) -https://www.youtube.com/watch?v=SFTZot0hPkA
The principle in relation to the prohibition on a trustee fettering its discretion is arguably best captured in the decision of Fitzwood Pty Ltd v Unique Goal Pty Ltd (in liquidation) [2001] FCA 1628. As usual, if you would like a copy of the decision please contact me.
In this case the key concepts concerning fettering were summarised as follows –
‘… a trustee is not entitled to fetter the exercise of a discretionary power (for example a power to sale) in advance: Thacker v Key (1869) LR 8 Eq 408; In re Vestey’s Settlement [1951] Ch D 209.
If the trustee makes a resolution to that effect, it will be unenforceable, and if the trustee enters into an agreement to that effect, the agreement will not be enforced (Moore v Clench (1875) 1 Ch D 447), though the trustee may be liable in damages for breach of contract …’
Next week's post will consider one of the leading cases where an arrangement that would have been a breach of the fettering of the trustee’s discretion was in fact enforced.
Last week, an adviser contacted us in relation to an insurance funded buy-sell arrangement that used options under the contractual arrangement to help facilitate any ultimate buyout.
As many would be aware, this is a widely used, and generally very sensible, approach to take.
The difficulty here was that the parties to the buy-sell agreement included trustees of discretionary trusts.
There are cases (admittedly dating back many years) which provide that unless a trust deed for a discretionary trust specifically allows the granting or an acquiring of an option, then the arrangement will not be enforceable as the trustee has effectively fettered its discretion.
In order for a discretionary trust to remain an ongoing valid structure, it is necessary for the trustee to always retain its discretion and therefore not enter into arrangements which will remove this flexibility in the future.
Traditionally, entering into option arrangements has been seen as clearly limiting future decision making ability and therefore prohibited - unless specifically allowed under the trust instrument.
The Legal Forecast is an innovative community that aims to advance legal practice through technology and innovation. It is a not–for–profit run by early–career professionals who are passionate about disruptive thinking and access to justice.
An interview I gave to The Legal Forecast is below, addressing a number of key issues facing lawyers and the professions more generally.
What is your advice for law students who aspire to work in a virtual law firm like yours? How can they best equip themselves with the skills necessary for the job?
The skills to work in a virtual law firm are arguably no different to any other work environment, however, our experience is that they are brought into more sharp focus, more quickly than what might otherwise be the case.
Our experience has been that those that thrive tend to:
enjoy work as a critical component of achieving flow (as defined by Mihaly Csikszentmihalyi);
understand that purposeful work is a critical aspect of achieving flow;
embrace the concept that work-life integration, rather than work-life balance or work-life siloing is the key goal – this seems to be easiest for those that have significant, non-negotiable, other life responsibilities (eg children or parents they are responsible for caring for);
embrace the concept of making choices in each moment that lead to positive habits. Invariably, this involves choosing to do what must be done, as opposed to what is invariably ‘easier’ from moment to moment.
What is the biggest challenge facing the legal industry?
Without wanting to be seen to be avoiding the question, my sense of things is that the biggest challenge facing the legal industry is the number of significant challenges arriving almost simultaneously and creating what some might argue is a ‘perfect storm’.
In no particular order, the key challenges are extremely well-known, and while each of them in isolation is a serious issue, the combination of them is arguably unprecedented, namely:
The first time in the modern history of law firms that it is a sustained buyer’s market.
The pace of technology change outside the industry has for some time now been significantly faster than the pace inside the industry. The number of other adjacent industries where the incumbents have seen their protected position evaporate in a very short period of time means that it is difficult to build a coherent argument that the legal industry will not face a similar outcome in the short term.
The steadfast refusal of incumbent firms to take any serious steps to adopt a new business model is almost comical for those outside the industry. Any firm that tracks time in any manner (other than the lag time between receipt of instructions and delivery of a usable solution to a client), ultimately, views all aspects of their organisation through a lens of chargeable units. While the industry continues to debate the issue ad nauseam, the firms that are growing exponentially left timesheets behind some years ago.
There is then a myriad of other related impacts such as offshoring, AI, aggressive entry into the market by accounting firms and online providers, freelancing models, blockchain, augmented reality, big data and growing in-house teams.
Ultimately the Bill Gates quote is critical – ‘We always overestimate the change that will occur in the next two years and underestimate the change that will occur in the next ten. Don’t let yourself be lulled into inaction.’
How would you describe the difference between technological disruptions and innovative disruptions to the legal industry?
Certainly, in other industries, the technology disruptions have only ever been an enabler to the more innovative business models.
In other words, it is the application of the technology that drives the truly sustainable changes, not the underlying technology itself.
There are countless examples of this. The one that is arguably the most stark and easiest to understand is that Kodak had the technology for digital photography over 30 years before Instagram was created – the technology was not new; the application of it was. Do you envisage a change to the structure of the legal market; that is a move away from the traditional boutique, mid-tier and top-tier categorisation of law firms?
There are numerous extremely insightful thinkers that have answered this question in great detail. For example, see the work of Richard and Daniel Susskind, Chrissie Lightfoot, Jordan Furlong, George Beaton and Imme Kaschner.
My personal view is that at least in the short term, the firms that will succeed are those that do not fail the ‘Stealer’s Wheel’ axiom – i.e. they are not ‘stuck in the middle’, see – https://www.youtube.com/watch?v=DohRa9lsx0Q
In other words, it is the firms that are extremely nimble (for example, many firms, of which ours is one, have business plans that last no longer than a maximum of 90 days) or exceptionally large firms that essentially ‘own’ the client relationship (the big 4 accounting firms are a good example) should both have sustainable businesses (although for differing reasons).
Firms that are not extremely nimble or absolutely in the very top tier (as defined by buyers, not a firm’s marketing team) are likely to struggle. You have stated that the ‘disruptive business model requires funding, resource allocation and working environments that are significantly different from those of the traditional firm’. Do you think we will see the larger firms with more funding creating disruptive business models whilst smaller firms struggle with a lack of resources?
Perhaps, counterintuitively, my personal experience has been that access to funding is one of the single biggest impediments to true disruption.
As has been profiled on many occasions previously, Clayton Christensen’s theory of disruption (i.e. the innovators, or perhaps more accurately incumbents, dilemma) is largely based on the concept that incumbents with adequate resources find it impossible to compete with disruptive firms with inadequate resources, because the disruptive firms simply do not play by the same set of rules.
Some large firms in other industries have been able to beat this challenge through a variety of techniques (Apple and Cisco are 2 high profile examples), however all of those techniques require a way of thinking that is (in Christensen’s view) almost impossible for incumbent firms to embrace.
The theories here however arguably are not particularly new – essentially, they are an iteration on Mark Twain’s quote ‘The best swordsman in the world doesn’t need to fear the second best swordsman in the world; no, the person for him to be afraid of is some ignorant antagonist who has never had a sword in his hand before; he doesn’t do the thing he ought to do, and so the expert isn’t prepared for him.’
View Legal is completely virtual and all team members enjoy flexibility around their work arrangements. How important do you think flexibility is to the delivery of legal services?
For us, flexibility is a necessary, although of itself not sufficient, requirement.
While there is obviously a myriad of very important interrelated concepts, we generally refer to the ‘3 Fs’, being flexibility, fun and flow. Unless team members are regularly accessing each of the 3 Fs, then our ability to deliver outstanding solutions for customers is going to be tenuous.
What is a quote you often live by?
Yes – too many to list out here (indeed, every week, I publish at least one quote on Twitter, see – https://twitter.com/matthewwburgess?lang=en). Two of my books are also focused around key quotes, namely The Dream Enabler Reference Guide (see – https://www.amazon.com/Dream-Enabler-Reference-Guide-ebook/dp/B01BHOAJX0/ref=asap_bc?ie=UTF8) which is in essence the original business plan for View Legal, and ‘Laws for Life’ – the link here takes you to a free download for this book – https://viewlegal.com.au/laws-for-life/, the password is – laws4life, (please delete any pre-populated password).
This said, I was reminded recently of the quote that I put in the yearbook on graduating high school, which arguably remains relevant, from Friedrich Nietzsche, namely ‘Without great suffering, there can be no great excellence.’ In other words, if disruptive innovation was easy everyone would be doing it.
When you think of the word ‘successful’, who is the first person who comes to mind? Why?
This question is similar to the quote question – extremely difficult to answer.
In saying this, the first person I thought of was my wife Dyan. Whenever I think I may have too much going on, I never have to look very far to realise that I have it very easy. She successfully combines her own business, running our personal investment partnership, raising our 4 children (aged 7 to 13) and mentoring me.
Last week we were assisting with an asset protection and structuring re-arrangement & the referring adviser asked - why would an at-risk spouse retain a 1% interest in a property? As explained by an earlier post, the reasons can include:
Protection against spouse or relationship difficulties.
Protection against the majority owner seeking to encumber the property - no mortgage may be taken out over the property without the consent of the 1% spouse
For ease of security arrangements – a financier may prefer to see the at-risk spouse’s name on title documentation.
Stamp duty savings. It should be noted that in most states there are concessional provisions which apply where one spouse who owns 100% of a family home and transfers 50% (but no more or less) to their spouse. Indeed, some states, such as Victoria, allow the transfer of more than 50% of a home without any duty costs.
** for the trainspotters, the title of this week’s post may remind some of legendary/notorious early nineties band Jane’s Addiction – see - https://vimeo.com/3867179
*** the visual this week is designed to remind - there are other ways to learn life lessons than destroying entire ecosystems
