Mackenzie Elvin

Changes to Gift Duty affect anyone dealing with a trust

If you currently do business with or provide credit to a trust, the abolition of gift duty may mean that the security provided by the trustees may not be as accessible as before.

The effects of the abolition of gift duty, which occurred on 1 October 2011, are both significant and far reaching. Obviously, the changes to gift duty affects trustees, beneficiaries and those involved in trust structuring and management but it also has significant implications for anyone doing business with, or operating a business in conjunction with a trust. In this article, we will outline some of the potential issues and risks that this change may bring about.

Creditor risks and protection

If you currently do business with or provide credit to a trust, the abolition of gift duty may mean that the security provided by the trustees may not be as accessible as before.

Prior to the repeal of gift duty, people were unable to transfer assets out of their name quickly without incurring gift duty. Where the assets were transferred in exchange for a debt back, the unforgiven portion of the debt could be demanded by creditors to satisfy their claims. This provided some security for creditors. However, now that gift duty has been abolished, creditors only avenue may be to rely on "claw back" provisions.

Both the Property Law Act 2007 and the Insolvency Act 2006 include provisions which allow, under certain circumstances, the "claw back" of a gift made to a trust.

Under the Insolvency Act 2006, gifts made within 2 years before bankruptcy may be cancelled and gifts made between two and five years prior to insolvency may be cancelled if the bankrupt was unable to pay his or her debts at the time the gift was made.

Similarly, the Property Law Act 2007 allows the Court to set aside the disposal of property made with the intention or for the purpose of defeating a creditor or where the assets were disposed of at less than their full value.

One of the effects we expect from the change in gift duty is a rise in the claims made by creditors under these "claw back" provisions.

Relationship Property and Trusts

The amendments to the Property (Relationships) Act 1976 ("the PRA") which came into effect on 1 February 2002 had the effect of extending the property sharing regime that applies to married couples, to people who have been in relationships for 3 years or more. It unusually applies retrospectively, that is, the PRA applies to de facto relationships in existence prior to 1 February 2002 if they extended on beyond that date.

This meant that assets previously moved into a trust for the purposes of relationship property protection were no longer necessarily protected. Hence, while the debt back to one party may have separate property status, this might be lost if the debt is forgiven (an easy thing to do now as a result of the removal of gift duty).

There may be occasions where it may be prudent for a party to retain the debt and its separate property nature rather than risk it becoming relationship property by forgiving the debt.

Trust Structuring and risks for debtors

This new regime brings with it many opportunities in trust structuring that were previously considered too difficult or too complex. However, the ability to throw all of ones assets into a trust without the constraints of a gifting programme also creates many potential risks.

The risks posed by transferring property with the intention, or the effect, of prejudicing a creditor are highlighted in the Supreme Court decision Regal Castings Limited v Lightbody.

Mr and Mrs Lightbody, together with their family lawyer, were the trustees of their family trust. The trustees decided to transfer the family home into the trust. At the time the decision was made Mr Lightbody was personally liable for the debts owed to Regal Castings by his jewellery business. Regal Castings were not told of the transfer.

The jewellery business subsequently became insolvent and Regal Castings were unable to recover the debt owed to it. A claim was bought under the Property Law Act on the basis that the transfer of the house should be set aside because it was made with the intention to defraud.

Despite arguments that the trustees, other than Mr Lightbody, received the house in good faith and were not aware of the intention to defraud creditors, the Supreme Court did not agree and allowed Regal Castings to claim against the house.

When looking to see if there was any intention to defraud creditors, the Courts are more likely to look at the facts than the words:

"Whenever the circumstances are such that the debtor must have known that in alienating property, and thereby hindering, delaying or defeating creditors recourse to the property, he or she was exposing them to a significantly enhanced risk of not recovering the amounts owing to them, then the debtor must be taken to have intended this consequence, even if it was not actually the debtors wish to cause them loss."

Although a formal gifting programme is no longer required, the transfer of assets into a trust should only be done after obtaining proper legal advice. While gifting all your assets to a trust may be a good idea for one person, it may have unintended negative consequences for another.

For further information about trusts, gifting, creditor risks and protection, or relationship property contact:

November 2011