Trustee’s power to advance & apply examined by High Court
Published on April 19, 2016 by Selwyn Black
On 6 April 2016, the High Court in Fischer v Nemeske Pty Ltd [2016] HCA 11 held that a trustee’s power to advance and apply the assets of a trust can extend to creating a debt in favour of a beneficiary out of the trust’s asset revaluation reserve.
The Key Facts
1. Nemeske Pty Ltd (Trustee) was trustee of the Nemes Family Trust (Trust).
2. The beneficiaries of the Trust included Mr & Mrs Nemes (Nemes) and members of the Fischer family (Fischer).
3. The main asset of the Trust was shares in Aladdin Ltd (Shares).
4. The $3,904,300 value of the Shares was recorded in an “Asset Revaluation Reserve” in the Trust accounts.
5. On 23 September 1994, the Trustee passed the following resolution (Resolution):
RESOLVED that pusuant [sic – pursuant] to the powers conferred on the Company as Trustee in the Deed of Settlement of the Nemes Family Trust:-
That a final distribution be and is hereby made out of the asset revaluation reserve for the period ending 30th September, 1995 [sic – 1994] and that it be paid or credited to:- the beneficiaries in the following manner and order:
The entire reserve if any, to be distributed to:-
[Mr and Mrs Nemes]
as joint tenants
6. Clause 4(b) of the Trust deed of settlement stated:
The Trustee may from time to time exercise any one or more of the following powers that is to say:
(b) At any time or times to advance or raise any part or parts of the whole of the capital or income of the Trust Funds and to pay or to apply the same as the Trustee shall think fit for the maintenance education advancement in life or benefit of any of the Specified Beneficiaries …”
7. The “Beneficiaries Accounts” for the period ending 30 September 1994 showed the Asset Revaluation Reserve reduced by a “Capital Distribution” of $3,904,300. The Balance Sheet for the Trust for the same period showed “non-current liabilities” made of $3,904,300 in loans from Nemes.
8. On 30 August 1995, the Trustee entered into a deed with Nemes in which the Trustee purported to charge the Shares in in their favour (Charge). The Charge recited the indebtedness of the Trustee to Nemes in the amount of $3,904,300. Under the Charge, the Trustee covenanted that it would pay Nemes $3,904,300 on demand or if certain events of default occurred.
9. Mrs Nemes died and Mr Nemes was the sole beneficiary under her will. On the death of Mr Nemes, the shares in the Trustee and the Shares were bequeathed to Fischer. The residue of the Mr Nemes’ estate was left to other parties.
The Issue
10. The key issue was whether the Resolution was a valid exercise of the Trustee’s power under clause 4(b).
11. If the Resolution was valid:
(a) $3,904,300 was owed by the Trust to Mr Nemes’ estate, with this amount falling into residue that Fischer had no entitlement to;
(b) the Trust had a debt of $3,904,300, diminishing the funds available for distribution to Fischer who were the other beneficiaries of the Trust.
The Findings
A three to two majority of the court found that the Resolution was valid
12. In a joint judgment, French CJ and Bell J found that:
(a) the power in clause 4(b) to advance and apply was validly used by the Trustee to create a debt owed by the Trustee to Nemes in the amount of $3,904,300 as shown in the Trust accounts;
(b) the intention of the Trustee to create and effect the advance was demonstrated by the Resolution and the entry in the Trust accounts of a loan for the same amount from Nemes; and
(c) the Resolution and accounts entry created a creditor/debtor relationship between the Trustee and Nemes.
13. General principles applied by French CJ and Bell J included:
(a) an advance to a beneficiary may be made in many different ways – the options available to a trustee depend on the terms of the trust deed or statutory provision;
(b) an advance may be made without giving an absolute beneficial interest to a beneficiary – in this case the power was used to create “a vested, absolute equitable interest realisable by payment out to the [beneficiary] or by an action for money had and received”; and
(c) an advance does not require the removal of the capital or income from the trust and the immediate payment or vesting of it in the beneficiary.
14. Gagelar J agreed that the appeal should be dismissed and emphasised:
(a) the Resolution created an immediately unconditional obligation on the Trustee to account to Nemes which was enforceable in equity;
(b) by recording the liability to Nemes both in the Trust accounts and in the Charge, the Trustee admitted to having an unconditional obligation to pay the liability to Nemes which was enforceable at common law and created a debtor / creditor relationship;
(c) a change in beneficial ownership of specific Trust assets forming part of the capital or income of the Trust was not needed for the power in clause 4(b) to be validly exercised; and
(d) a trustee may apply trust property to the advancement of a beneficiary by resolving to allocate trust property unconditionally and irrevocably to the benefit of that beneficiary.
The dissenters
15. Kiefel J in dissent argued the Resolution had no effect because:
(a) the Trustee did not intend to exercise clause 4(b) as the Resolution did not:
(i) identify:
(A) the source of power it was made under;
(B) it was exercised for the “advancement in life or benefit” of Nemes;
(C) whether the distribution was made from capital or income, but rather referenced the asset revaluation reserve which is not an asset but an accounting treatment of the increase in the value of the Shares;
(ii) refer to other elements of clause 4(b) such as the “raising”, “advance” and “to pay or to apply” terms; and
(b) no capital or income was paid or applied to Nemes – in particular, no assets in the accounts of the Trust were set aside or allocated to Nemes.
16. Gordon J in dissent argued the Resolution had not effect because it did not:
(a) deal with any capital or income of the Trust:
(i) it only dealt with the asset revaluation reserve which is merely an accounting entry which records a value; and
(ii) the assets of the Trust in the accounts before and after the Resolution were identical;
(b) advance or raise anything because that required:
(i) a resettlement or a transfer of the property to a beneficiary;
(ii) the property to no longer be trust property; and
(iii) immediate vesting of absolute title on a beneficiary; and
(c) pay or apply anything because:
(i) there was no change in beneficial ownership;
(ii) the only assets of the Trust were the Shares and settlement sum – and they remained the same; and
(iii) crediting a beneficiary in the Trust accounts does not immediately vest that asset in the beneficiary.
Conclusion
The High Court has clarified that trustees can have many options in advancing and applying the assets of a trust, including by creating a debt in favour of a beneficiary which is payable at a later date on specified events occurring.
It is crucial for trustees to consider the source and scope of their powers before exercising it. To avoid legal challenges, a resolution exercising that power should clearly set out that power and what the trustee is intending to achieve. A failure to do so may have significant consequences for the trustee, such as breaches of trust.
For further information, contact Selwyn Black, email: sblack@codea.com.au, phone: (+61 2) 8226 7359.
