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Trust law/law settlements

On 21 July 1999 the Law Commission and the Scottish Law Commission jointly published a Report on Trustees&#39 Powers and Duties. The Report covers the following areas:



– trustees&#39 power of investment



– duties of care



– trustees&#39 powers of delegation



– trustees&#39 powers to employ nominees and custodians



– trustees&#39 powers to insure the trust property



– professional charging clauses.



The Report recommends reform of the law in England and Wales and in Scotland governing trustees&#39 powers to invest the trust fund where no express powers are included in the trust document or a will. For England and Wales the Report also recommends a range of reforms intended to facilitate more effective trust administration concerning collective delegation by trustees, the use of nominees and custodians, powers of insurance and remuneration of professional trustees.



The Report includes the draft Trustee Bill for England and Wales proposing the implementation of the recommended reforms as well as draft clauses to amend Section 4 of the Trusts (Scotland) Act 1921 dealing with trustees&#39 powers of investment in Scotland.



In this first part of the Bulletin considering the Report in question we will concentrate on the proposed reform of the trustees&#39 powers of investment.



BACKGROUND TO THE REPORT



It hardly needs repeating that the present statutory provisions on trustee investments contained in the Trustee Investments Act 1961 (TIA) as amended have been considered out of date and inadequate for a considerable time. Since 1984 (Trustees of the British Museum &#45v- Attorney General) the courts have been willing to extend trustees&#39 investment powers because the provisions of the TIA have been perceived to be inadequate. See also Steel &#45v- Wellcome Custodian Trustees Limited (1988), University of Glasgow Petrs (1991) and Anker Petersen &#45v- Anker Peterson (1991).



Extended powers of investment have been put on a statutory footing for trustees of pension schemes (Pensions Act 1995). For charitable trusts, the Charities Act 1992, while relaxing certain restrictions on trustee investments, strengthened certain trustee duties as regards their investment responsibilities.



In 1996 HM Treasury published a consultation document on the possible repeal of the Trustee Investments Act 1961. A period of consultation followed with overwhelming support for the reform. The former Government&#39s intention was that the reform of the law of trustee investments should be achieved by means of an order under Section 1 of the Deregulation and Contracting Out Act 1994. A draft deregulation order was laid before Parliament in February 1997. It stopped short of repealing the TIA but was lost in any event when the 1997 General Election was called.



In June 1997 the Law Commission published a consultation paper entitled &#34Trustees&#39 Powers and Duties&#34. This identified a number of current constraints on trustees&#39 powers as being unduly restrictive, particularly the rule prohibiting delegation of trustees&#39 fiduciary discretions and inability to appoint nominees to hold trust property. The Law Commission provisionally recommended extension of the number of trustees&#39 statutory powers but making them subject to the imposition of a statutory duty of care. Following positive response to the consultation paper, the scope of the present Report is wider than the consultation paper in that it is concerned both with the question of what investments trustees should be permitted to make in the absence of express authority in the trust instrument but also with how they should be able to achieve the effective administration of a trust.



It is not intended to repeat here the current statutory provisions of the TIA 1961 which can be found covered in the main Techlink heading. However in order to understand the way the proposals are heading and which particular defects of the present law they are intended to remedy, some reference to the present law and the trustees&#39 problems when being subject to statutory powers of investments must be made.



It must be said that in practice the trustees of most modern trusts will have adequate powers to invest trust assets largely free of the restrictions imposed by the TIA as such powers will be included in the trust document. Indeed it has been said that a draftsman of a modern trust who fails to include a wide investment power in the trust document could well be held to be negligent. However a number of older trusts exist (including in particular many charitable trusts) where no such wide powers exist. Statutory powers will also of course apply by default to trusts created on intestacy and there are also many trusts created in wills without professional advice where they will also apply.



The provisions of the TIA 1961 which have been severely criticised include the following:



– the requirement to divide the trust fund into two parts (now in proportion 3;1 between wider and narrower range investments) is now regarded as a crude and administratively burdensome attempt to regulate the degree of risk to which trustees may expose the trust



– the definition of &#34wider range&#34 investments in the TIA is in fact quite restrictive. The particular problem has been with the requirement that the company must have paid dividends on all its shares for each of the immediately preceding five calendar years as this rules out the number of well known public companies as well as all recent issues (even of investment trusts)



– in the previous consultation document the Treasury expressed a view that in fact the TIA imposes unwarranted burdens on the trust because the assets of the trust are likely to increase in value to a lesser extent than they probably would if the trustees had the freedom to decide in what to invest and the need to conform with the requirements of the TIA increases administrative and dealing costs.



The task for the Law Commissions in making any proposals for reform was to achieve a balance between the desirability of conferring the widest possible investment powers so that trustees should be able to invest trust assets in whatever manner is appropriate for the trust and the need to ensure that trustees act prudently in safeguarding the capital of the trust. A similar approach has been taken in the past when extending trustee investment powers, for example in the case of charity investments where deregulation of the investments on the one hand was linked with tighter controls on the trustees making investment decisions on the other.



The first point of distinction between the reform now proposed and that proposed by the previous government is that the reform is now proposed to be achieved by primary legislation rather than deregulatory order. As was previously indicated, the deregulatory order laid before Parliament in 1997 did not propose the repeal of the TIA, instead proposing merely amending it. The present proposal for the reform recommended by both Commissions is that there should be primary legislation to reform the law governing the investment powers of the trustees and that insofar as it is practical the Trustee Investments Act 1961 should be repealed.



PROPOSALS IN DETAIL



– General power of investment



The proposal for both England and Wales and for Scotland is that the trustees should have the same power to make any investment as they would have if they were absolute owners of the trust assets. Interestingly, a precedent for this already exists in Section 34 of the Pensions Act 1995 in respect of trustees of a pension scheme trust. This happened following the recommendations of Professor Goode from his 1993 report of the Pension Law Review Committee where specifically the trustee investment rules from the TIA 1961 were said to be &#34widely regarded as excessively rigid and quite unsuited to modern investment needs and practices&#34.



The Law Commissions have decided that the principle adopted in Section 34 Pensions Act 1995 should be extended to all trusts. The recommendation is therefore that, subject to the expression of a contrary intention in the instrument creating the trust, trustees should have the same power to make any investment of any kind as if they were absolutely (or beneficially) entitled to the assets of the trust.



As indicated above, however, granting trustees such wide powers must clearly be balanced by an inclusion of appropriate safeguards protecting the interests of the beneficiaries. Clearly, notwithstanding the recommendation that trustees should be able to invest as if they were beneficial owners, the trustees are obviously not the absolute owners of the assets under their control and clearly the beneficiaries of the trust need protection from the risk that the trust funds would be lost or dissipated in unwise investments. Obviously any proposals for wider powers of investment would not affect the general duties of trustees under general trust law such as the duty to act in the best interests of the beneficiaries and to avoid any conflict between their duties as trustees and their personal interests. However, both Commissions felt that the legislation conferring such wide default powers should also set out specific statutory duties which would balance such powers. Accordingly there are proposals to include two particular statutory duties; a duty to have regard to the need for diversification and suitability of investments to the trust and a duty to obtain and consider proper advice where appropriate.



– Duty to have regard to the need for diversification and suitability of investments



The duty to have regard to the need for diversification and the suitability of the trust investment is already included at present in the Trustee Investments Act 1961 (Section 6). Broadly speaking, the two Commissions agree that retention of these duties in the new legislation is appropriate. Such requirements are in conformity with modern portfolio theory which emphasises that investments are best managed by balancing risk and return across the portfolio as a whole rather than by looking at its each investment in isolation.



– Duty to obtain and consider proper advice



As far as the duty to obtain and consider proper advice is concerned, at present the TIA 1961 only contains provision regarding the advice where trustees are investing under the Trustee Investments Act. Further duties to obtain advice have been considered by courts, in particular in Cowan &#45v- Scargill where it was said that the trustees should obtain advice on any matters on which they are not competent to decide for themselves. Requirement to make regular reviews of trust portfolio was mentioned in Nestle &#45v- NatWest Bank plc (1993). In its consultation document the Treasury proposed that notwithstanding the common law duty the trustees should be required to both take advice when necessary and to review portfolios.



The Commissions decided that regardless of whether there is a general duty to seek advice (and whether it is implicit in any general duty of care to which the trustees are subject) the Commission considered the need for the trustees to obtain and consider advice of such importance that it should be put on statutory footing. However they did not feel that it was necessary to impose specific restrictions on those who should be able to give advice nor that the advice should be in writing.



The specific recommendations on the trustees&#39 need to obtain advice are that:



– before exercising the proposed powers of investment, the trustees should obtain and consider proper advice about the way in which those powers should be exercised, having regard to the need for diversification of investments of the trust and the suitability to the trust of the proposed investment;



– trustees should review the trust portfolio from time to time, again, having regard to the need for diversification and to the suitability of investments;



– the requirement to obtain advice should not apply if the trustees reasonably conclude that in all the circumstances it is unnecessary or inappropriate to do so.



For these purposes proper advice would be the advice of a person who the trustees reasonably believe to be qualified to give it by his ability in, and practical experience of, financial and other matters relating to the proposed investments.



COMMENTARY



The proposals and the draft legislation having been laid before Parliament, it will now be a matter for pressure to be put on Parliamentary time for the legislation to be implemented. We will look out for the mention of the reform of trustees&#39 powers in the Queens Speech in October.



From the standpoint of the financial services industry, and in particular those giving advice to trustees of existing trusts, any proposals which will put on statutory footing the requirement that trustees must seek investment advice in certain circumstances would be a welcome opportunity. It would be a rare occasion indeed where the trustees would be able to reasonably conclude that it is unnecessary or inappropriate for them to seek such advice.



For those giving advice in the area of trustee investments, it is of course necessary that they have the fundamental knowledge of trusts, trust taxation and basic good principles applying to trustee investments. The chances are that, following the implementation of the legislation or even the publicity given to the proposed legislation, there will be renewed interest in and obviously increased requirement for, such advice and therefore expertise in this area.



The remaining proposals considered in the Report will be covered in a separate bulletin.


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