Could trustee protection return post-Pitt and Futter?

Withers’ Steven Kempster and Sarah Aughwane on the doctrine of mistake.

Withers’ contentious trust and succession group is unrivalled in its size and the scope of its experience. Our team, based across Europe, Asia and the US, and consisting of 40 fee-earners, acts on the leading domestic and multi-jurisdictional trust disputes, as well as representing individuals, families and charities in every aspect of contentious trust and succession work.

The team continues to be at the forefront of academic developments in the area, having authored or contributed to many of the leading texts in the area. Here we look at some recent decisions in the English court, which can help trustees who have made mistakes in the course of administering a trust.

Two years ago, in a decision widely described as ‘the death of the rule in Re Hastings-Bass’, the Supreme Court used the test case of Futter & anor v HMRC, Pitt & anor v HMRC [2013] to narrow the protection under the rule in Re Hasting-Bass, but widen the scope of the doctrine of equitable mistake.

What was the rule in Hastings-Bass? A ‘get out of jail free card’, beloved of professional trustees and their insurers in particular. As we now begin to see decisions in the post-Pitt and Futter world, how is the new landscape shaping up for trustees, their professional advisers and professional indemnity insurers?

Where the rule in Hastings-Bass once provided trustees with an almost unlimited opportunity to unwind a transaction concerning a trust where there were unforeseen consequences, it is now only applicable in circumstances in which a trustee’s inadequate deliberation amounts to a breach of its fiduciary duties. Trustees were no longer to be applicants to the court – they would be defendants to a beneficiary’s complaint in order to qualify for the ‘relief’. More importantly, relief was no longer available in circumstances where a trustee acted on professional advice properly taken, which later proves to be flawed. In those circumstances, the remedy would have to be sought from the professional advisers or their insurers.

However, two recent cases on the post-Pitt and Futter doctrine of equitable mistake suggest there may be a glimmer of hope for professional advisers who find themselves in the English court in such bleak circumstances. In relation to non-English law trusts, the outlook is more positive and some jurisdictions, such as Bermuda from July 2014, have simply adopted a statutory version of the rule in Hastings-Bass.

In England, in Kennedy & ors v Kennedy & ors [2014], the mistake (as to tax) that formed the basis of the application would likely not have occurred but for a breakdown in communication between the lawyers and the accountants acting for the settlor, Mr Kennedy (who was also a trustee of the trust).

Following changes to the inheritance tax treatment of settled properly in the Finance Act 2006, Mr Kennedy’s professional advisers suggested he appoint some of the trust assets onto new trusts for the benefit of his children and grandchildren, and the remainder to himself absolutely. In order to avoid incurring an immediate capital gains tax (CGT) charge, certain losses needed to be set against certain gains in the trust fund and a number of assets excluded from the appointment. Regrettably, restructuring steps taken by Mr Kennedy in conjunction with his accountants (which essentially exhausted the rolled up losses in the structure) were not properly communicated to his lawyer. As a result, when the lawyer arranged to conclude the restructuring some months later, he did so on the basis that losses remained in the structure to set off against crystallised gains. That miscommunication resulted in a £650,000 CGT bill and litigation running from 2010 to 2014.

Notwithstanding that the court no longer enjoyed jurisdiction to unwind the transaction under the rule in Re Hastings-Bass, the presiding judge, Etherton LJ, allowed the trustees to unwind the transaction to the extent necessary to prevent the CGT charge occurring under the doctrine of equitable mistake. The court found that the mistakes made by the trustees in concluding the transaction were causative and very serious, in line with the expanded test for mistake set out by Walker LJ in Pitt and Futter, and that it was unconscionable to leave the mistake uncorrected. Even more helpfully, the court allowed partial recession of the trustees’ decision, so the good parts stood and the bad parts were avoided.

The Kennedy decision appears, at least superficially, to restore the protection removed under the revised rule in Re Hastings-Bass. It has since been followed by the case of Freedman v Freedman & ors [2015], where, in a judgment handed down on 21 May 2015, Proudman J set aside a settlement on the basis of incorrect legal advice due to adverse tax consequences.

It is notable that HMRC ceased to participate as a party in Kennedy at the trial (although they participated in the early stages of the proceedings). In Freedman, HMRC was represented at trial, but given the helpful precedent set by Kennedy, the relief was granted to Ms Freedman and the trust rescinded.

It remains to be seen whether, if HMRC continues to participate in such cases, the present, generous interpretation of the doctrine of mistake will begin to narrow. If the political or judicial mood hardens, the situation where a transaction is completed on the basis of incorrect advice may be more difficult to unwind. Reluctant recourse to insurance policies for trustees and advisers cannot yet be ruled out entirely.