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Removing the fruits of temptation(1) - Trustees' loyalty must be impeccable

22 February 2016

The office of trustee is an onerous one and carries with it numerous duties – among them the duty of loyalty, the duty of impartiality, the duty to act personally, the duty to keep and render accounts and the duty to preserve trust property. Loyalty to the beneficiaries and the absence of conflict between the trustee’s interests and those of the beneficiaries is fundamental to the role of trustee.

Transfer of family farm set aside

In the High Court case of Scott v Scott[2] the Court set aside the transfer of the family farm eight years after the transfer had taken place. One half of the farm had been owned by Lewtyn Scott’s mother and the other half had been owned by Lewtyn’s father’s estate. Lewtyn was a trustee of his father’s estate. He purchased the farm from his father’s estate at its registered valuation. Lewtyn made no payment for the farm but gave a mortgage to his father’s estate for the purchase price. Interest was payable under the mortgage only if demanded by the trustees of the estate. The farm increased significantly in value. Inflation eroded the value of the mortgage held by the estate. Eventually, and as a result of lengthy litigation, the court ordered Lewton to transfer the farm back to the estate. Lewtyn had breached his fundamental duty of loyalty to the beneficiaries of his father’s estate and had profited from his role as trustee.

The self-dealing rule

The duty of loyalty includes the “self-dealing” rule - if a trustee sells trust property to himself or herself the sale can be set aside by any beneficiary as of right, even if the sale was at market value and the terms of it were in all respects fair.  The self-dealing rule not only applies to purchases of trust property by the trustee, it also applies to other commercial transactions such as leases. The rule applies where the trustee is on “both sides” of the transaction.

The law’s approach is that prevention is better than cure. The fact that a beneficiary has an absolute right to set aside a self-dealing transaction means it would be pointless for a trustee to breach the rule. Therefore a trustee should not be tempted and the interests of the beneficiaries will be protected.

There are exceptions to the self-dealing rule. The self-dealing can be authorised by the trust document itself; it can be authorised by statute; or all of the beneficiaries (being of full age and capacity and fully informed) may agree to the transaction.

Do the right thing

If you are acting as trustee you must be alert to any situation where you could benefit from your role. Before participating in any decision from which you could benefit, you should ensure that the trust deed permits that benefit. If the trust deed does not permit you to benefit and all of the beneficiaries haven’t approved the action then you will need to stand aside and let the other trustees make the decision.

 

[1] Matthew Conaglen “The Nature and Function of Fiduciary Loyalty” (2005) 121 LQR 452 at 463
[2] CIV-2004-470-000094

 

Please email me at barbara.mcdermott@nwm.co.nz with your ideas for future articles. Keep an eye out for next month's column, where I will discuss another relevant rural legal issue.


Barbara McDermott is a partner of Norris Ward McKinnon, specialising in commercial and rural law. With offices in Hamilton and Huntly, we have friendly, expert legal advisors ready to help you with your business and personal legal matters.