Trusts: needing a new engine

“It is a matter for great regret that “nothing concrete has been done” by Government to implement the Scottish Law Commission’s Report on Trusts, according to the Commission’s former chair who authored the 2014 report.

Lord Drummond Young, who held the chair from 2007 to 2011 but who carried on working on the project until its completion, was speaking at a recent seminar held by the Commission on a report which was designed to bring some much needed modernisation to Scots law – a need that persists.

Commercial significance

It would be easy to underestimate the importance of trusts in the Scottish economy. While the word might initially call to mind private property arrangements made by the wealthier in society, the report noted a major growth in modern times in the areas of law where trusts are used commercially, where English law would rely on equitable interests, or property held in escrow. These include:

• the development of debt factoring and invoice discounting, in which a trading company declares itself trustee of debts due to it as a means of granting security to its financial providers;
• securitisation, used by banks and other consumer finance companies to raise funds against debts due to them in order to make further loans;
• ring-fencing money in order to meet particular liabilities arising in commercial land developments, such as future snagging work, particularly if the development itself is to be sold on;
• and generally as a means of providing security for the performance of commercial contracts, by isolating the trust fund in order to protect it from the truster’s creditors, declaring the purposes for which it is held, and intimating these to the persons intended to benefit. A variation since the report was published is the recent Scottish Government policy to require a project bank account in major public sector construction projects, with all sums due to the main contractor being paid into and held in the account pending allocation to subcontractors and others entitled to a share.

Probably the most important single use of the trust, Drummond Young noted, is to support pensions, life policies and other financial products. Taking all the various types of trust together, even at the time of the report the total value of property held in trust in Scotland was conservatively estimated at some £500 billion, a figure that has “almost certainly increased since then”.

Why so popular?

Simplicity and flexibility are the main advantages of the trust. Trusts are easy to create, and can arise in some circumstances by operation of law. Further, as well as being protected against the truster’s insolvency, trust property carries considerable protection against its improper transfer, as third party transferees who have not given value will be compelled to account for benefit received.

“Thus at the present day the use of trusts for commercial purposes is of immense importance,” Drummond Young stated. “It is a field that is still developing. The unifying feature that runs through the cases is that the trust provides a simple and flexible protection against insolvency. If anything this use of trusts will increase in future. It is accordingly essential that the law should accommodate the existence of a wide range of different types of commercial trusts. That is a policy that the Scottish Law Commission attempted to take into account throughout its report.”

Scotland: left behind

Yet the legislation underpinning these significant commercial interests, he emphasised, is “seriously outdated in both style and content”, comparing very unfavourably with that in most other jurisdictions, including England & Wales. The main statute, dating from 1921, was devised for a very different age and much of it deals with matters that are no longer relevant. Its drafting is old fashioned, and frequent amendments make the law “confusing and difficult to access, to say the least”. Even where the law is more advantageous than south of the border, such as the availability (in Scotland but not in England & Wales) of private purpose trusts, it remains less clear and certainly less developed than in other jurisdictions.

Elsewhere, Drummond Young noted, Jersey’s principal law was passed in 1984 and has been kept up to date since; a New Zealand Act of 1956 was said to be long overdue for reform in a report published since the Scottish one, which recommended changes that became law this year. England & Wales still has the Trusts Act 1925, but it has been significantly amended since 2000.

He went on to observe that Scotland’s outdated law means it loses out in an age where funds can be easily moved from one jurisdiction to another by electronic transfer. “I am sorry to say that during the preparation of the report we came across clear evidence that Scotland was missing out quite badly on trust business because the law was perceived as being outdated, and it was thought that there was no interest on the part of Government in the general updating of the statute law.

“Considerable anecdotal evidence was available that Scots who wish to set up trusts to hold their assets were frequently choosing the law of other jurisdictions, particularly England & Wales, for the simple reason that it was perceived as being more in tune with modern conditions.

Since the Recognition of Trusts Act 1987, citizens of one state can set up a trust under the law of another, and have it recognised by their home state. Not only is Scots law apparently failing to attract trusters based abroad, in contrast to the law of England & Wales or indeed Jersey, but there are few barriers to people in Scotland choosing foreign systems where they perceive Scots law to be inadequate.

Wide ranging proposals

The Scottish Law Commission’s recommendations are wide ranging and in places radical; but they followed detailed consultation, received “almost universal support”, and “All of the major proposals are important”. Proposing default rules that accord with current professional best practice, they include:

• abolition of restrictions on the lifetime of private trusts;
• a new power for the court, to alter trust purposes to deal with a material change of circumstances (“a radical proposal, but it was universally supported by the interested professional organisations”);
• remedying defects in the exercise of fiduciary powers;
• reforming the “chaotic” statutory statement of trustees’ powers, mainly in s 4 of the 1921 Act, and placing the law on trustee decision-making on a coherent and rational foundation;
• and clarifying areas such as apportionment of receipts and outgoings, beneficiaries’ information rights, delegation to agents, and trustees’ liability for breach of trust and to third parties, in all of which the law at present says little or is unclear.

The powers of the court would also be revised.

Any sign of action?

A response was received from the Scottish Government in 2015 to the effect that detailed consideration would be given to the report in the latter part of that year. That did not happen, and nothing has since been done towards implementation of the recommendations.

“I need hardly say that this is completely unsatisfactory,” Drummond Young commented. “The problem does not extend only to the Commission’s Report on Trusts. It extends to the subsequent Report on Moveable Transactions. This is another area of the law that is urgently in need of radical reform... indeed the deficiencies in this area of law are one of the reasons for the increased commercial use of trusts in recent years”. He pointed in particular to the law relating to intangible property, such as debts, shares, intellectual property rights, which “at the present day comprises something approaching 90% of the property in existence”.

He ended his presentation with this “simple and straightforward” point: “If Scots law is to work effectively for the people of Scotland, and others who choose to make use of it, it is absolutely essential that it should be kept up to date, both in form and content. That is what the Scottish Law Commission sought to do in its Report on Trusts. In conclusion, I repeat my regret that nothing serious has been done to implement that report.”