Understanding the complexities of trusts in divorce proceedings
In divorce proceedings, the presence of trusts when dealing with a couple’s financial settlement always adds a layer of complexity. In this second instalment of our trusts series, Victoria Cannon, Partner and our Head of Family Law, sheds light on the treatment of trusts within the realm of divorce proceedings.
Trusts in divorce can be a complex area to unravel within the context of financial remedies in divorce proceedings. Both the person that initially put assets into a trust, known as the ‘Settlor’ as well as the beneficiaries may believe that if assets are placed in trust, then they cannot be touched in divorce. Their assumption would be incorrect as the matrimonial court has far-reaching powers.
Understanding trusts in divorce
During financial proceedings the court will consider all of the assets in the marriage so that any financial settlement reached is deemed to be fair and leaves no stone unturned. Despite popular misconceptions, trusts are not impervious to judicial scrutiny, the court has wide-ranging powers and as part of their assessment, will consider who will benefit from a trust and how it is administered.
Assessment of trusts
The court meticulously evaluates trusts, classifying them either as a “financial resource” or as a “nuptial agreement” (an agreement made during the course of marriage), albeit the latter is less common.
Trust assets deemed as financial resources are subject to valuation, particularly those conferring absolute rights or guaranteed income to beneficiaries. However, the court faces greater challenges in adjudicating trusts with discretionary distributions, requiring a detailed understanding of trust dynamics. For this reason, discretionary trusts are often the favoured trust of choice both in the UK and offshore. The class of beneficiaries is particularly important and whether it includes spouses and civil partners of a child for example.
More information about the types of trusts can be found in our previous article.
Pre-marital trusts
Trusts established prior to marriage undergo scrutiny, with the court examining historical dealings of the trust, who has previously benefited, the assets that have passed and consider how the trust was implemented. A key factor will be the availability of assets to a party. Even where a beneficiary has attempted to place distance between themselves and the trust assets, the court may find that a spouse still has a claim to the assets that have evolved from a trust through conduct of the beneficiary.
Judicious engagement
If the trust is determined by the court to be a “financial resource” of the parties, even where there is a discretionary trust, the court can make financial orders against the spouse who is the beneficiary. This process is referred to as “judicious engagement”. It can be used by the court if the court believes that the trustees will come to the rescue of the beneficiaries and exercise their powers under the trust, to assist the beneficiary with a remedy to the financial order in the spouse’s favour. This is known either as the trustees providing “fresh money” to meet an order, or to replenish a beneficiary’s personal assets which is known as to “backfill”. The court should however be satisfied that the trustees will act if it makes an award against a beneficiary. Incidentally, the court cannot make orders directly against third parties, i.e. the other trustees. This order is usually only made if the court is not able to vary a trust.
Trusts as nuptial agreements
If a trust is found to be a “nuptial agreement” then the court has far-reaching powers. A “nuptial agreement” is usually found by the court where the trust provides continuing provision for one or both of the spouses. In addition, assets could be transferred to a trust during a marriage by either party, which again is classed a “nuptial agreement”. In these cases, the court has broad powers and may exercise its discretion by adding or excluding beneficiaries, removing, or replacing trustees and changing the terms of the trust. It can also order the trustee to make payment to one spouse, even if they were not a beneficiary of the trust at any time.
Interestingly, if the trust was created before marriage but the spouse was added to a list of beneficiaries either before or during marriage, this would make the trust a “nuptial asset” and it would be capable of variation. Care should therefore be taken when it comes to the drafting of a trust deed and taking into account whether it is appropriate for a party to be added to the class of beneficiaries.
Offshore trusts
While the court will consider offshore trusts, enforceability may be contingent upon jurisdictional nuances. If there is “firewall legislation” within the jurisdiction where the trust is administered, then this can offer an extra line of protection against an attack in divorce proceedings.
The courts and practitioners, when considering offshore assets in general will consider liquidity of assets and if there are sufficient assets in England and Wales to meet awards, without considering the trust assets. It makes good sense to use these assets to meet financial provision rather than seeking to enforce and fund expensive litigation offshore.
Disclosure and transparency
When trusts are involved with matrimonial assets, full details of the trust must be disclosed. A full value of the trust should be available, together with all documents governing the trust, to include deeds, instruments, variations, composition, and financial information. It may be necessary to obtain these directly from the trustees if a spouse or a beneficiary cannot access the documentation. It is worth noting that obtaining rights to information can be challenging if not impossible, when dealing with trustees in the UK and in other jurisdictions.
If full details are not provided or there is a concern of lack of disclosure, then the court has the power on its own volition, or the parties can apply for the trustees to become a party to financial remedy proceedings. This will mean that the trustees may be compelled to attend hearings and adhere to orders to provide documentation and supply oral evidence. This ensures the court has a full understanding of the trust operation and capabilities.
In conclusion, if a trust holds assets for one spouse or both and where financial provision is provided by the trust to one or both spouses, on one occasion or frequently, then it is likely that the court will consider these values as matrimonial assets. The court may seek to make an order outside of the trust if there are enough assets to provide division, but if not, the trust is brought into focus for division. It will depend on how a spouse’s needs can be met from the financial provision available. With certainty, however, it is possible to conclude that a trust will not be ring fenced in matrimonial proceedings. Whilst it may offer a level of protection, this is not guaranteed and must be carefully assessed on a case-by-case basis.
Trusts can be complex and if you are considering divorce and you or a spouse have a trust, it is advisable to take early legal advice.
Read part one of the series, Putting trust in Trusts | navigating a changing landscape.
