Monday, 2 March 2009

The Consequences of Discovering a Sham Trust

By Janet X

Unfortunately, most people think that once assets are placed in a Family Trust they are protected forever! However, this is simply not the case. If a Trust is found to be a "sham", then asset protection can be lost.

So what is a Sham Trust? The concept of Sham Trust has changed over time but for our purposes, it can be thought of as something that isn't genuine, a disguise or a fake.

The legal case of Prime v Hardie is a good example. This case involved a Trust which had two Trustees being a husband and his friend. The Trust held a property, which the wife, the husband and their two children lived in.

The husband decided that he wanted to leave his wife but did not want to share any assets, including the Trust's property, which he viewed as being his own.

After much trickery, the husband persuaded his wife to move out of the home and temporarily into a motel with their children and to rent out the house to an unrelated third party.

Once this had occurred, the husband told his wife he was leaving her and that she couldn't go back to the house as the house had been rented out by the Trustees.

When this matter when to Court it was found the Trust was effectively the husband's 'altered ego'. In New Zealand the terms 'sham trust' or 'constructive trust' are far more common. The Court made this decision because the husband had to a large extent treated the assets of the Trust (eg: the home) as if it were his own and the Trustees had not acted in the best interests of the Beneficiaries.

Trustees Duties

Another consequence of a Sham Trust finding is that Trustees can become personally liable for the losses the Trust and its Beneficiaries incur. This is because Trustees are charged personally with meeting their legal duties.

At law, Trustees enjoy a right of indemnity to be reimbursed from the Trust fund for all costs and expenses reasonably incurred in undertaking their duties however this right can be lost if Trustees don't meet their duties.

When this occurs, Trustees may have to sell their own assets to meet the loss. This is a very important consequence to consider when family and friends ask you to be the Trustee of their Trust. Lastly, adverse taxation consequences, including tainting and large differences in tax liabilities arising from the differences between the way Trusts and individuals get taxed, can result.

This is especially important if a Trust is receiving income such as in the case of trading Trusts.

If you are considering setting up a Family Trust or wanting to review your existing Trust, ensure your accountant or lawyer has the specialist expertise you need to protect you.

About the Author:
Janet Xuccoa BCom LLB, is a director from Gillgan Rowe + Associates. She is a recognized Family Trust and LAQC expert in New Zealand where she leads the Trusts and Estate Planning division. Want to protect your assets and grow your wealth? Get your Free Family Trust Report: "The 9 Deadly Sins of Setting Up a Family Trust.


Post a Comment