Discretionary Trusts and the Power to Change
Introduction In March 2017 the High Court dismissed the special leave application appealing the decision of the Court of Appeal of the Supreme Court of Western Australia in Mercanti v Mercanti. The case provides a warning to officeholders of discretionary trusts and their advisers on the requirement for precise provisions dealing with variations. This case, along with Oswal v FCT show the complexities and risks in undertaking trust instrument amendments.
Background The dispute arises from a family business operating a retail shoe repair business and a wholesale shoe repair supplies business. The MMF Trust operated the retail shoe business and real estate interests. The FW Trust operated the wholesale shoe repair supplies business.
Michael Mercanti was the initial Appointor for the FW Trust and initial Appointor and Guardian for the MMF Trust.
The trust deeds were amended in 2004 by the separate respective corporate trustees of each by way of deeds of variation that amended the trust deeds by deleting the definition of Appointor and accordingly replacing the existing Appointor Michael Mercanti for Tyrone Mercanti.
Later, Tyrone Mercanti, while overseas, was removed as a director of the corporate trustee of each trust. In response, Tyrone Mercanti, as Appointor, removed the current trustees of the trusts and appointed his own company as the trustee of both trusts. Michael Mercanti sought a declaration from the court that the deeds of variation were invalid and, as such, he was still the Appointor of both trusts.
The trial judge found that the FW Trust Deed of Variation and the notice purporting to replace the trustee were invalid and of no legal force or effect but that the MMF Trust Deed of Variation and the notice in relation to the MMF Trust were valid and of legal force and effect.
This decision was upheld on appeal and the High Court refused the application for special leave to appeal.
What was the difference? The MMF Trust deed allowed the trustee to “vary all or any of the trusts terms and conditions”. According to the trial judge, this allowed the trustee to vary the terms and conditions of the MMF Trust deed, including the office of Appointor.
However, the FW Trust deed only allowed the trustee to “vary all or any of the trusts hereinbefore provided”, and it was found that this did not extend to varying the terms and conditions to change the Appointor. The “trusts” did not extend to the Appointor clauses and accordingly, the amendment was invalid.
Lessons learnt Trusts are subjective beasts. The operation of the trust and the powers of the trustee are dependent on the specific terms of the trust deed.
For the purpose of succession planning the amendment provisions within the trust deed must be carefully considered in the context of the needs of the client. The amendment provision must be wide enough to allow the trustee to change officeholders as required. At the stage of variation, the variations must be carefully drafted to ensure they have legal force and effect. The powers of the officeholders must be carefully reviewed to ensure that the variation can withstand scrutiny at some stage in the future.
The ramifications for a variation without legal force and effect and an invalidly appointed trustee can be significant. In addition to the control issues, decisions made by the trustee may have consequences. The distributions of income each year by the trustee may be invalid, with the previous trustee assessed on the income at the punitive rate applying under the Income Tax Assessment Act 1936.
If you are considering the variation of a trust, contact us for advice.
