This article examines what happens when a corporate trustee “dies” and deals with two scenarios:
- When a corporate trustee is deregistered; and
- When a corporate trustee is wound up in insolvency.
Trusts 101
First a quick refresher lesson on how trusts are commonly structured:
- A trust is not a “entity” per se (even though it is recognised as an entity for tax purposes).
- It is an equitable relationship where one person (the trustee) holds property, on behalf of one or more beneficiaries. A trustee can be an individual person or company. There can be one or more trustees.
- The most common forms of trusts are (family) discretionary trusts and unit trusts and they are established by a trust deed.
- The trust deed sets out how the trust works – it sets out the terms and conditions of the trust, the various powers and discretions that can be exercised by the trustee and the entitlements of beneficiaries.
- Discretionary trusts deeds will often also include a position known as the “appointor” or the “protector”. This is the person(s) who has the ultimate control over the trust with the power to “hire and fire” the trustee.
- A trustee has a duty to act in good faith for the benefit of all beneficiaries. A trustee must also act in accordance with the terms, conditions and powers set out in the trust deed and the general law. The general law includes legislation – each State and Territory has a statute dealing with trusts. In NSW it is the Trustee Act.
Deregistration of a corporate trustee
Companies (and therefore corporate trustees) can be deregistered by ASIC for a number of reasons. Most companies are deregistered:
- for failing to pay their annual review fee in full;
- for failing to lodge a response to a company compliance notice or other documents required to be lodged by ASIC or under the Corporations Act;
- on the application of the company itself or the company’s liquidator.
Quite frequently, a company is deregistered inadvertently (for example the company’s director goes on an extended holiday and there is no one in the office who remembers to pay the annual review fee). Deregistration also occurs commonly in stressed financial or insolvency circumstances where the trust may be asset rich but cash poor and a cash flow shortage results in the corporate trustee simply being unable to pay its fees to ASIC or circumstances are such that filings with ASIC are simply overlooked.
The effect of deregistration, however, is quite dire. When a corporate trustee is deregistered it ceases to exist and all of its trust property vests in and becomes owned by the Commonwealth (represented by ASIC). In addition, the former director(s) no longer has the right to deal with any of that vested trust property.
Whilst it is possible to apply to ASIC to have a corporate trustee reinstated, there are a number of quite significant hoops that need to be jumped through, and there is no guarantee that ASIC will agree to reinstate the corporate trustee’s registration. Depending on the circumstances in which the corporate trustee was deregistered, it may not be possible to apply to ASIC for reinstatement, in which case your only recourse is to apply to the Court.[i]
Both procedures are time-consuming and can be costly. This can be a significant problem if time is a critical factor, or in the face of the actual or impending bankruptcy of the director(s) of the corporate trustee. Time can be a critical factor if for example, it is close to the end of the financial year and resolutions need to be passed in order to distribute net profits to beneficiaries to avoid tax at the highest marginal rate being assessed on the trust, or if trust assets or transactions involving the trust need to be urgently addressed.
In the case of bankruptcy of the director or shareholder of a corporate trustee, things can become even more critical as a bankrupt is not able to act as director of a company and it is possible for the bankruptcy trustee to seek reinstatement of a deregistered corporate trustee with a view to gaining control of the trust assets.
If the bankrupt held shares in a deregistered corporate trustee, then upon reinstatement of the corporate trustee, those shares will automatically vest in the bankruptcy trustee, resulting in the bankruptcy trustee having control over the corporate trustee through those shares. The bankruptcy trustee could then appoint its own director to the reinstated corporate trustee and administer the trust assets, in accordance with the trust deed.
If the trust is a discretionary trust, the bankruptcy trustee (acting via the corporate trustee) will typically have wide discretions under the trust deed in relation to selling trust assets and deciding which beneficiaries receive distributions of income and assets out of the trust. A bankruptcy trustee (again acting via the corporate trustee) could resolve that the income and assets of the trust be distributed to the bankrupt, in order to satisfy the claims of his/her creditors.
A recent Queensland case[ii] looked at these issues. The main questions were whether:
- a bankrupt former sole director of a corporate trustee (who was also the appointor of the trust (with the power to hire and fire the trustee) (“the bankrupt appointor”) could appoint a new trustee notwithstanding that the former corporate trustee had been deregistered and the trust property vested in the Commonwealth;
- the appointment of a new trustee would result in the trust property no longer being vested in the Commonwealth; and
- the appointment of the bankrupt appointor’s wife as the new trustee was valid, having regard to their close relationship and a claim that the wife, in making decisions on behalf of the trust, would be influenced by the bankrupt appointor.
The bankruptcy trustee of the bankrupt appointor had applied to the Court to reinstate the corporate trustee with a view to controlling the trust assets.
It should be noted that the power of appointment under a trust deed is not “property” that vests in a bankruptcy trustee. Therefore when the bankrupt appointor became bankrupt, his power of appointment (to hire and fire the trustee of the trust) did not pass to his bankruptcy trustee.
The end result of the case was that the appointment of the wife was found valid based on the Qld Trusts Act, and that as soon as the wife was appointed as the new trustee, all of the trust property stopped being the property of the Commonwealth, and became trust property controlled by the wife as trustee.
The decision was based on a section of the Qld Trusts Act which provides that where a corporate trustee ceases to carry on business, is under official management, is in liquidation or has been dissolved, then the person nominated as the appointor in the trust deed is entitled to appoint a new trustee. If there is no nominated appointor in the trust deed, then any surviving or continuing trustee or the legal personal representative of the last surviving or continuing trustee has that same power.
The Court found that the reference to a corporate trustee being “dissolved” covered the situation where a corporate trustee has been deregistered. The NSW Trustee Act has similar wording.
The appointment of the wife was also found to be valid, notwithstanding her relationship to the bankrupt appointor. The trust deed contained broad powers on the part of the appointor to appoint a new trustee which had been properly followed.
Winding up of a corporate trustee
The second scenario deals with the appointment of a liquidator to a corporate trustee in an insolvency context. Again, this can have some dire consequences.
When a liquidator is appointed to a corporate trustee, the liquidator has power subject to the terms of the trust deed (provided that the corporate trustee has not been removed and replaced):
- to administer the trust – normally the trust deed will include powers for the trustee to, amongst other things sell assets and also distribute income and assets to beneficiaries;
- to pay trust creditors;
- to wind up the trust (which, depending on the terms of the trust deed, usually involves realising all of the trust assets and distributing any surplus to beneficiaries, after payment of all trust liabilities);
- to recover all of the liquidator’s fees and expenses for doing all these things from the trust assets (which can be costly).
In addition, the liquidator acquires the corporate trustee’s right of indemnity out of the trust assets.
A trustee’s right of indemnity and exoneration out of trust assets is an entitlement to be paid for all liabilities that a trustee incurs in its capacity as the trustee. That right is usually twofold – normally there is an express right of indemnity set out in a trust deed and it is also an equitable right under the general law.
Provided that a corporate trustee, which is in liquidation, has not been removed and replaced, then the liquidator can exercise that right of indemnity for prior liabilities incurred by the trustee. In other words, the liquidator can, if necessary, sell trust assets (using powers in the trust deed) in order to pay creditors of the trust.
The question then is, can you avoid all of this by simply removing and replacing the corporate trustee which is in liquidation (irrespective of whether this happens, before or after the corporate trustee is placed into liquidation)? The answer is, unfortunately, no.
When a trustee is removed and replaced, the outgoing trustee keeps that right of indemnity out of the trust assets. However, because the former trustee is no longer the trustee, it no longer has a power to sell trust assets in order to satisfy that indemnity. The former trustee is however entitled to a lien over the trust assets by way of an equitable charge to secure that right of indemnity.
The liquidator of a former corporate trustee inherits that right of indemnity and lien.
A recent NSW court case discussed these issues in the context of the corporate trustee of a self-managed super fund (SMSF).[iii] In that case, the court looked at the issue of whether a liquidator of a former corporate trustee could still exercise a power of sale over the SMSF assets (even if that corporate trustee had been removed and replaced as trustee), under the liquidator’s general powers in the Corporations Act.
The answer was that a liquidator of a corporate trustee cannot rely on those general Corporations Act powers to sell trust assets to recoup liabilities (and pay creditors), because the corporate trustee does not own the underlying beneficial interest in the trust assets. However, the proper course would be for a liquidator to apply to the Court to have him/her appointed as a receiver of the trust assets, by way of enforcement of the (former) trustee’s right of indemnity and lien, pursuant to which the liquidator could realise (sell) those trust assets, and apply the proceeds to discharge the liabilities of the former corporate trustee, recover the costs of the receivership and if the corporate trustee’s sole function to act as trustee, the general costs of liquidation.
Interestingly, that particular case dealt with a situation where the liquidator of the corporate trustee of the SMSF was asking the Court for advice on what it should do. From the perspective of the superannuation legislation, it was noted that when a super trustee becomes bankrupt or is wound up, the trustee becomes a disqualified person under the legislation, which means that the trustee then commits an offence if it continues to act as trustee of the SMSF. If the trustee is an individual person who becomes bankrupt, and then proceeds to sell the super trust assets, it will likely result in that person also committing an offence as an accessory. The same would apply to a liquidator of a corporate trustee of the SMSF.
Tips and pointers
- Always read your trust deed first to see what powers can be exercised and when.
- Even if your trust deed does not include something that you wish it did, remember to look at the relevant trust legislation in your State or Territory, which might be able to help.
- It is a really good idea to structure your trust deed so that a trustee is automatically removed from office if an insolvency event happens to it (e.g.: bankruptcy, insolvency, winding up).
- Check for a wide power of appointment in your trust deed
- Look ahead as far as possible at all times. If there is the possibility of bankruptcy for a director of a corporate trustee, consider changing your trustee well in advance. The same warning applies if the director also owns shares in the corporate trustee as you do not want a liquidator gaining control of the corporate trustee through the bankrupt’s shares.
[i] See ASIC Regulatory Guide 83: Reinstatement of companies
[ii] Thorne Developments Pty Ltd (ACN 109 570 194) v Thorne (2015) 106 ACSR 481
[iii] In the matter of Stansfield DIY Wealth Pty Ltd [2014] NSWSC 1484
