#15702 - Constructive Trusts - Trusts and Equity

CONSTRUCTIVE TRUSTS

The distinctive feature of constructive trusts is that they are imposed by the operation of law, not in response to the intentions of the settlor. The CT can arise in a range of circumstances —they appear as a residuary category of trusts which are imposed by the courts when “justice may require.”

WHAT IS A CONSTRUCTIVE TRUST?

There are two views of what a CT is:

Constructive trusts are not trusts at all, merely remedies:

This is the position taken in the US. Roscoe Pound (on US law): “The Constructive Trust … is a purely remedial institution … [there is not] the substance of the trust.”

Can also be seen in English cases: Hussey v Palmer[1972]: “The CT is an equitable remedy by which the court can enable an aggrieved party to obtain restitution. It is comparable to the legal remedy of money had and received.” Millett: has taken this approach in a number of cases, seeing it as a ‘trap’ to think they are actually trusts.

Swadling: argues the CT is a ‘mere fiction’.

• The true position is that CTs are not trusts at all, rather they are an inappropriate label for two types of court order: (i) an order for D to pay C a sum of money; (ii) an order that D convey C a particular right.

• CTs do not satisfy the most basic idea of an express trust— the idea of one person holding rights for another (or for a purpose). The purpose here cannot be ‘to pay C money’ because otherwise all tortfeasors ordered to pay damages would be trustees. Also can’t be ‘to convey C property’ because, although such a duty can arise under Saunders v Vautier, this is a product of the trust, not its cause.

• The failure to correctly classify CTs has led to mistakes by the courts:

• Led courts to think the imposition of a CT on D imposes all the obligations of a trustee, so they are reluctant to order the remedy (e.g. Westdeutsche)

• Led the courts to hold property rights held on CT are not available to D’s creditors, but in fact a CT merely puts D under a duty to convey the right to another, so shouldn’t take priority over creditors (Chase Manhattan Bank)

• The courts think the CT arises when the facts giving rise to the CT occur, when, in fact, they are just court orders which arise when the order is made

• Led to a false distinction between ‘institutional’ and ‘remedial’ CTs, when in fact all CTs are ‘remedial’.

  • We should stop talking about CTs. This would improve our understanding of the court orders to pay money / convey property rights involved in CT cases and our conception of trusts in general.

The CT is a genuine trust, arising by operation of law rather than declaration of trust

This is the predominant view and gains support from several features of the CT

• Like express trusts, CTs arise when the facts giving rise to them occur

• Like an express trustee, the constructive trustee has the duties of a trustee

• Like express trusts, rights ‘held’ by the constructive trustee do not vest in the trustee in bankruptcy

• Like an express trustee, a constructive trustee will be liable to pay compound interest on monies received.

The only difference is that the trusts arise by ‘operation of law’ not because of a declaration of trust by a rights holder.

INSTITUTIONAL CONSTRUCTIVE TRUSTS

The categories in which CTs are imposed are distinct and it’s hard to find a general theme running through them.

Acquisition by fiduciaries

Where D owes a fiduciary duty to C and D breaches that duty and obtains a benefit as a result, D holds that benefit on CT for C and must transfer it to C.

It is clear from Keech [1726] that if F’s profits are made with property that initially belonged to the trust, then the profits / fruits of those profits will be held on a CT for P. However, there has been some disagreement over the availability of the remedy.

Sinclair v Versailles [2011]: Lord Neuberger: “C cannot claim proprietary ownership of an asset purchased by F with funds which, although they could not have been obtained if he had not enjoyed his fiduciary status, were not beneficially owned by C or derived from opportunities beneficially owned by the claimant.” C will merely have personal claim. I.e. a CT will only be available where F has profited from trust property / opportunities owned by C.

Neuberger’s analysis suggests that in Boardman v Phipps [1967] a CT was not the appropriate remedy, since B did not use the trust property, nor was the opportunity ever to be exploited by P. Wilberforce J imposed a CT in that case (although the remedy was not at issue when the case went to the HL).Boardman was, however, cited as authority by the PC in AG of HK v Reid [1994]. They found a CT could be imposed on bribes: “Equity considers as done that which ought to have been done. As soon as the bribe was received, whether in cash or in kind, the false fiduciary held the bribe on CT for the person injured.”

Reid is only PC authority and not binding in English law. The position in England was that no CT arises where F has obtained a bribe / secret commission—the decision in Lister v Stubbs [1890]. Lister and not Reid was followed in Sinclair v Versailles [2011].

However, the leading case is now FHR v Cedar [2014]: involved a secret commission in the acquisition of a Monte Carlo hotel.

• CA: there were two exceptions to the general rule against CTs in Sinclair: (i) where D uses C’s property to make a profit; (ii) where C uses C’s opportunity to make a profit.

• SC: the distinction suggested by the CA was unworkable and that a CT would always be available as a proprietary remedy for profits acquired from breach of fiduciary duty: “any benefit acquired by an agent as a result of his agency and in breach of his fiduciary duty is held on trust for the principal.”

• Neuberger favoured this option as it promoted ‘simplicity’, however, the simpler option, which was not argued before the court, would have been no pre-judgement trust at all.

Australian approach: Grimaldi v Chameleon Mining [2012] was to follow Reid and to make a CT available as a remedy: “To exclude the bribed fiduciary from the deterrent effect of the constructive trust [as in Lister and Sinclair] is… to make it unavailable in the very situations where deterrence is likely to be most needed” in that bribery is the most serious breach of fiduciary duty. To hold that a fiduciary who takes a bribe does not hold that bribe on constructive trust as in Lister and Sinclair is to privilege the bribed fiduciary and is “to create an incentive which should not be tolerated”. However, note that in Australia the CT is a discretionary remedy —the court can exercise its discretion and withhold the remedy where the CT would unfairly prejudice D’s creditors (as in Lister).

Arguments for / against the expanded CT approach:

• Against: i.e. C should only have a proprietary remedy when: (i) the asset is / was beneficially the property of P; or (ii) F acquired the asset by taking advantage of an opportunity or right which properly belonged to the beneficiary:

  • Neuberger in Sinclair:

    • The harsh consequences for D’s creditors in insolvency, and problems of undermining the statutory insolvency scheme.

    • Because bribes / secret commissions could never have been received by the principal, he cannot have a proprietary interest under a CT. A CT can only be imposed where the secret profit asset was the beneficial property of P (i.e. where F makes the profit by depriving P of an asset / opportunity P should have had, or by using opportunities which were the property of the principal —e.g. Phipps). Need a proprietary link between profit and P.

• P does not gain a ‘windfall’ proprietary interest in property he never / would never have had.

• Chambers — if a CT is imposed on F’s who take bribes, why is a CT only imposed in response to bribes taken in breach of fiduciary duty rather than to all bribes. On Millett’s analysis, F holds the bribe or secret commission on CT in response to the wrong constituted by F’s breach of fiduciary duty. This wrongs-based analysis does not explain why a trust should be imposed on F who has obtained a benefit from his position without any wrongdoing or breach of duty as in Phipps.

• For: a CT should be available as a remedy for profits flowing from breach of fiduciary duty.

• Neuberger in FHR: For

  • It protects P’s right to F’s undivided loyalty and enforces F’s no-conflict duty. It also prevents a paradox, as this would mean that P whose agent wrongfully receives a bribe or secret commission would be worse off than P whose agent receives a benefit in a situation where the agent has done no wrong as in Phipps

  • True that insolvent creditors will be prejudiced in some cases, but this has little force in bribe cases because “the proceeds of a bribe or secret commission consists of property which should not be in the agent's estate at all.” Further, in many cases F’s receipt of the bribe will have caused loss to P, so it is justifiable that P has a proprietary interest in the bribe, despite the impact of F’s creditors.

• Smith – the law decides whether or not a CT has arisen through analysis of the relationship between the F and the P; the existence of claims by others is irrelevant.

• Millett, extra-judicially

  • A proprietary remedy should be available as it is an appropriate equitable response to F’s wrongdoing: “the evil of bribery is the betrayal of trust… the relationship between the fiduciary and his principal is one of trust and confidence.” It is P’s trust / confidence that puts F in the position to receive the bribe, so P should gain the benefit of it.

  • The no-profit and no-conflict rules are grounded in policy —...