Family Law Property Settlement: Busting the Trust

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There is a conventional view that property held in a trust is ‘untouchable’ and cannot be the subject of division between separating spouses for the purpose of a property settlement at the end of their relationship. This may well be so in circumstances where the Trust is not ‘the alter ego’ (a second self or substitute) of one of the spouses and not subject to the control or influence of a spouse.

The notion that ‘property vested in a discretionary trust is the property of that entity and not of the beneficiaries’   has undoubtedly been the rationale for accounting and legal advice received by many married and de facto parties, prompting them to spend many thousands of dollars setting up discretionary trusts to hold property in the belief that such property is beyond the reach of their spouse at a property settlement. Is this in fact the case?

Threatened with the potential loss of assets in settlements with their spouses, parties have increasingly turned to asset protection mechanisms, setting up structures that would hold property which could then be claimed as not forming part of the asset pool available for distribution. One such structure that was and still is widely used is a discretionary family trust.

However, increased powers under the Family Law Act have enabled the Family Court (and the Federal Circuit Court) to extend its reach in ensuring that property that should rightly be classified as matrimonial/relationship property is not excluded from the pool of assets to be divided between the parties by means of subterfuge. Relying on amendments to the Family Law Act 1975 the Courts are now able, in the exercise of their just and equitable jurisdiction to resort to different measures to ensure that the property that should rightfully be included in the pool of assets and be part of the division between the parties is not allowed to escape via asset protection structures such as discretionary trusts set up to achieve the objects of one spouse to the detriment of the other. Courts now look ‘behind the veil of incorporation’ or ‘bust the trust’ where a trust is regarded as the ‘alter ego’ of one of the parties. Thus, the perceived protection, afforded by these structures against claims from a spouse has severely eroded in consequence.

The courts are now able to do any one or more of the following:

  • Consider  trust property to be an asset or a resource of the relationship
  • ‘Bust the Trust’ where the Trust is found to be the ‘alter ego’ of one of the parties
  • Declare a trust to be a ‘sham’
  • Make orders altering the ownership rights of third parties under Part VIII AA of the Family Law Act 1975
  • Use the power under Section 106B of the Family Law Act 1975 to set aside transactions entered in to by parties to transfer or otherwise alienate property to defeat the claim of the other spouse at property settlement

Even when a party to a relationship is successful in not having a trust considered to be their alter ego  there is no assurance whatsoever that property held by such a trust would be totally outside the pale of consideration by the Family Court in a property settlement. The Family Court has wide powers in altering the property rights of parties to a property settlement. In doing so, the Court must consider the property and financial resources of each of the parties. What this means is that even where a party to a relationship is a mere beneficiary under a discretionary trust and does not hold property in relation to the trust assets, yet  that interest and the degree to which the party is likely to benefit in the future may be regarded as a financial resource. Thus, although the assets of the trust may be protected from division between the parties pursuant to an order of the Court, nonetheless the Court is free to have any amount that the party in question might otherwise have retained in a split of relationship assets offset against the financial resource. By comparison where a testamentary trust is found to be a financial resource of a party, the party in question may not be much better off in the final outcome of the proceedings than if the trust assets were found to be property of the party.

Unsurprisingly a majority of the cases were the Courts have sought to lift the veil of incorporation and look into a discretionary trust, have been in relation to inter vivos (trust made during the lifetime of the parties) rather than testamentary trusts.

In the marriage of Ashton[1] the husband was the appointor of a discretionary inter vivos trust created after the marriage. He was also a joint shareholder of the trustee company along with his cousin. He was not a beneficiary but the wife was beneficiary by virtue of belonging to a class, classified as ‘past or present wife of husband’. The husband admitted that he was in full control of the assets of the trust. The trial Judge had little difficulty in concluding that the trust was the ‘alter ego’ of the husband and was upheld in appeal. The full Court observed that the husband’s powers amounted to de facto ownership of the property of the trust. His powers gave him control of the trust whether as trustee or through a trustee company (corporate trustee) which was his ‘creature’. He was able to apply all the income and property of the trust for his own benefit. The full Court observed that in a family situation such as the one here, the Court is not bound by formalities designed to obtain advantages and protection for the husband who stands in reality in the position of the owner. He has de facto, legal and beneficial ownership[2]. The full Court further opined ‘the Court would have been entitled to find that the whole of the trust was in reality the husband’s property’[3]. Thus where a party is able to use their position to make self entrusted distributions, it would prompt the Court to the conclusion that any property held by the entity which is the subject of such control is rightly the property of the party in question.

In the marriage of Davidson[4]  the husband was the owner and therefore controlled a trustee company which was trustee of a discretionary family trust of which he was the sole appointor but not a beneficiary. Cash distributions were made from the trust by the husband, to the wife and his grand-children all of whom were beneficiaries. These cash distributions interestingly were either returned or loaned back to him. The trial judge ordered the husband to pay a sum of $700,000.00 to the wife from the trust. The husband sought a stay of the trial judge’s order pending his appeal to the full Court. Cohen J observed that the trustee company was the alter-ego of the husband who under the terms of the trust cannot be a trustee but did have the right to appoint or remove a trustee. The full Court observed that although the trust in this instance was not a sham, it is nonetheless controlled and is always controlled by the husband and the trust property had always been used by the husband as though it was his sole property. The full Court further observed that no one other than the husband had a real interest in the property or income of the trust except at the Will of the husband and therefore he was in fact the owner of the property.

Arguably this concept is at odds with the principles of trust law to the extend that where one party is set to have absolute unsettled control over property it cannot be argued that the trust ever existed and that the property in question was subject to a trust. The husband in this case made an unsuccessful application to the High Court for special leave to appeal. The full Court observed that neither the directors of the operating company nor the operating company as such had any beneficial interest in the trust property.

The case of Kennon v Spry[5] was taken all the way to the High Court and the question “to what degree can the assets of a discretionary trust be property of the parties to a marriage?” was given consideration to.

Prior to the marriage, the husband had established an inter vivos discretionary family trust. The husband was settlor and trustee, with the power to vary the terms of the trust. The beneficiaries were the husband himself, his siblings, his and their children and the spouses of all of them. In 1983 the husband irrevocably excluded himself as a beneficiary by deed. The husband contributed substantial assets to the trust during his marriage. When the marriage ran into difficulties in or about 1998, the husband in his capacity as trustee excluded the wife as a beneficiary by deed. The deed provided that upon the husband’s death or resignation as trustee, two of the daughters would become trustees of the trust. The deed also provided that if the husband ceased to be a trustee, no payment could be made out of the trust without the husband’s written consent. In 2002, after separation but before the divorce, the husband established four separate discretionary trusts, one for each of his daughters. The terms of each trust were that the husband and each respective daughter had the power of appointment over the trust. The husband was the trustee. The husband and each daughter had the power to change the terms of the trust. Upon reaching the age of 32 each daughter could become an additional trustee. The husband was excluded as the beneficiary of the trust. The husband thereafter executed a deed applying all income and capital of the original trust in equal shares to the four trusts for the daughters. In April of 2002 the wife made an application to the Court to have the deeds making variations to the trust in 1998 at 2002 set aside under section 106B of the Family Law Act 1975. In May 2002 Mr Kennon a legal practitioner became a further trustee along with the husband in respect of each of the daughters’ trusts.

The learned trial judge made orders under section 106B of the Family Law Act, setting aside both the 1998 and 2002 deeds. Having set aside the two deeds, his Honour then ordered that the husband was entitled to assets worth $5,105,435.00 and the wife to assets worth $4,712,709.00 out of a net matrimonial pool of $9,818,144.00. It was acknowledged that such a distribution would be possible only upon a reckoning of the assets held in the trust as matrimonial assets and with the use thereof. If not, the husband would not be able to effect a distribution of that magnitude to the wife. An appeal to the full Court of the Family Court was dismissed and the matter then proceeded to the High Court. The question for consideration by the High Court was whether prior to the 1998 deed which removed the husband as trustee and the wife as beneficiary, either or both of them had, any interest in the property held by the trust as would classify such property as matrimonial property and therefore enable a division of such property by way of property settlement.

The husband submitted that the property of the original trust could not be the subject of an order of property settlement between himself and the wife under section 79 of the Family Law Act. A majority of the High Court rejected this submission.

Expressing the majority view of the High Court French CJ reasoned that:

  • The combination of the husbands power to appoint trust assets
  • The legal title that the husband held as trustee and the wife’s right to ensure proper administration of the trust as a beneficiary

qualified the trust assets as a property of the parties to the marriage.

Ward v Ward[6]  was a case where the mother, two days before the separation of her son from his wife, amended her Will. An equal and absolute division of her estate between her three children which was provided for originally, was changed – such that her son’s share was to be held in a discretionary testamentary trust, of which the son and his children were beneficiaries. Interestingly, in cross examination the son admitted that the purpose of the trust was to put his inheritance out of his wife’s reach.

The Court acknowledged that the property had not vested with the son and while not his property the proper consideration of it would have to be as a resource rather than as property redistributable to the marriage. There could be some criticism of this decision on the basis that the son’s inheritance had to be treated as a contingent resource given that his mother still had testamentary capacity and could have further changes to her testamentary intentions to his detriment.

Simons v Simons[7] was a case where the husband was the beneficiary of a substantial inter vivos trust without any control over the trustee. The husband along with his siblings and mother had taken regular distributions from the trust which had been equal. The husband was employed by the trust. The full Court noted that the husband had enjoyed significant interest free loans. The wife on the other hand claimed that the husband’s interest as an object of the trust should be property of the parties and sought a third party order under part VIIIAA of the Family Law Act on  the trustee, to   transfer assets from the trust so  as to effect  the property division between the parties. The trustee of the discretionary inter vivos trust applied for summary dismissal of the wife’s claim. The trustee’s application was dismissed, the Court finding that there was a connection between the assets of the trust and the property of the parties to the marriage which was sufficient to enable part VIIIAA of the Family Law Act to be applied. The Court proceeded to make third party orders against the trustee.

Lessons to be learnt from the cases

It is impossible to have a prescription for an ideal trust structure that affords protection to the property of one party from family law settlements. The following lessons could however be learnt from the decisions considered

  • One spouse being trustee and the other a beneficiary may result in the trust being considered the property of the first spouse;
  • One spouse being the appointor of the trust could result in the property of the trust being regarded as property of that spouse;
  • One spouse being appointor and protector of the trust could result in the property being regarded as property of that spouse;
  • Being a beneficiary under the trust could of its own cause the trust to be the property of a spouse party.

Finally, the tension in the area of trusts in family property settlements could be summed us as a dual between “control” and “protection”. Thus where a party has control of a trust there is no protection and vice versa.

Do you have any issues with the use of Trusts in the context of Family Law Property settlements? Please contact our BD team on (07) 32520011 for assistance.

[1] [1986] FamCA20

[2] 11FamLR457 At 462

[3] 11FamAR457 At 466

[4] [1991] FLC92-207 In the marriage of Davidson, KR and Davidson, MI [1991] FLC92-197: In the marriage of Davidson, KR and Davidson, MI [2] [1994] FLC92-469

[5] [2008]HCA56

[6] [2004] FMCAFAM193

[7] [2008] FAMCA1088