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28 Feb 2017

Attacking a discretionary trust in bankruptcy


4 min

Trust assets are safe…for now.

Ever since the 2006 case of ASIC v Carey (No 6) (“Richstar”) there has been a question that where an individual—subject to bankruptcy—with ultimate control of a discretionary trust—could amount to a determination of property for the purpose of the Bankruptcy Act 1966.

The recent case of Fordyce v Ryan & Anor; Fordyce v Quinn & Anor [2016] QSC 307 considered this proposition.

The case considered where a bankrupt was a general beneficiary under a purely discretionary trust; director of the trustee company; and had been the only beneficiary to receive distributions from the trust; whether that interest (or control) amounted to “property” within the meaning of the Bankruptcy Act. The case involved three trusts—but primarily dealt with the bankrupt’s interest in one discretionary trust.

The bankruptcy trustee submitted that they had sufficient standing to apply for the trusts to be wound up, relying on that interest as being the bankrupt’s property within the meaning of sections 116 and 58 of the Bankruptcy Act.

The trustee sought to rely on the findings in Richstar (dealing with the Corporations Act 2001) and Kennon v Spry (a 2009 case, dealing with section 79 of the Family Law Act 1975) to support their claim against the discretionary trust.

In Richstar, the court stated that:

“where a discretionary trust is controlled by a trustee who is in truth the alter ego of a beneficiary, then at the very least a contingent interest may be identified because … it is as good as certain that the beneficiary will receive the benefits of distributions either of income or capital or both”.

Obviously if the Court held that this interest was property (under sections 58 and 116 of the Bankruptcy Act) the trustee could attack the trust assets for the benefit of the bankrupt estate.

Jackson J (the Judge in Fordyce v Ryan & Anor), distinguished this argument from the Richstar case on the basis that it only dealt with the meaning of property for the purposes of section 9 of the Corporations Act and not the Bankruptcy Act.

Jackson J preferred the view in the long-established case of Dwyer v Ross (1992) 34 FCR 463.

“… [W]here the interest in the trust is a mere discretionary interest, the right to be considered for the purposes of a distribution, it is difficult to see that the right to enforce the due administration of the trust can be property which passes to the trustee in bankruptcy. The interest in the trust would seem to be a personal right which remains with the bankrupt. Of course, if a distribution of money or property is made to the bankrupt during the period of the bankruptcy, the trustee will be entitled to it as after-acquired property. See ss 58(2) and 116(1)(a) of the [BA]. However that may be, if [R’s] estate is sequestrated, the operation of ss 58 and 116 of the [BA] will not entitle the Trustee in Bankruptcy to claim the [trust fund] or any aliquot share thereof. The distribution of the income and assets of the trust fund will continue to be a matter for the trustee of the [trust] and in the trustee’s discretion.”

Jackson J’s view on Richstar is summarised in the following paragraph:

“It is difficult to accept as a principle of reasoning that a beneficiary’s legal or de facto control of the trustee of a discretionary trust alters the character of the interest of the beneficiary so that it will constitute property of the bankrupt if the beneficiary becomes a bankrupt.

To the extent that Richstar might be thought to support such a principle, it has not been followed or applied subsequently and it has been criticised academically. See J Glover, “A challenge to established law on discretionary trusts? – Re Richstar Enterprises”.

In my view, there is no general principle of law of that kind.”

Jackson J also considered whether the trust could be attacked as a ‘sham on the basis that distributions in the discretionary trust had been made in the bankrupt’s favour, in circumstances where he was in effective control of the trustee. This argument was dismissed with reference to the authority of Lewis v Condon (2013) 85 NSWLR 99 dealing with shams.

In light of Jackson J’s findings, it appears the concern that the Richstar case could allow bankruptcy trustees to attack discretionary trusts controlled by a bankrupt, is resolved for the time being.

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