Could your trust be disregarded by the courts?
May 7th, 2021 06:52
The fact that you have a written trust deed is no guarantee that your assets are safe and that the trust is safe from attack. If you never intended to create a “genuine” trust from the outset, the trust may be attacked and labelled as a sham trust; in other words, a “smoke screen”. If, on the other hand, you intended to create a trust, but you have dealt with the trust assets as if they were your own, then your creditors, SARS and soon-to-be-ex-spouse can attack the trust and have it labelled as an alter ego trust; in other words, an extension of yourself. Despite the fact that the trust does in fact exist, the Courts will disregard the trust and treat the assets as if they belong to you. There must be a clear separation of control from enjoyment of trust assets. All trustees - and not just one of them - should control the trust assets for the enjoyment of the beneficiaries.
You will experience dire consequences if your trust is labelled as either a sham trust or alter ego trust. These terms “sham trust” and “alter ego trust” are often used interchangeably, which is incorrect. The two concepts are completely different and should be distinguished from each other.
What is a sham trust?
A sham trust exists where the trust appears to have been established on the terms of a particular trust deed, but these terms do not reflect the parties' (the founder and trustees) true intentions, thereby misleading third parties about the true terms of the trust.
How do you determine if a trust is a sham trust?
The starting point is to check whether the requirements for the creation of a valid trust are present:
· The founder must intend to create a trust
· His/her intention must be expressed in such a way that it creates an obligation
· The trust property must be defined with reasonable certainty
· The trust object (the beneficiaries in a family trust) must be defined with reasonable certainty
· The trust object must be lawful
· The trust property must be transferred to the trustees or beneficiaries, depending on the type of trust
What are the consequences of a sham trust?
For a long time there was uncertainty about the consequences of a sham trust. Our Courts recently ruled that the consequence of a sham trust is that the trust is void from inception. So are all transaction with such a trust too. In the Van Zyl v Kaye case of 2014 the Court held that “when a trust is a sham, it does not exist”.
What is an alter ego trust?
An alter ego trust occurs where the necessary requirements for a valid trust are present, when the trust is established, but the trustees of the trust act as puppets, acting mainly under the instruction of the founder or another trustee. An alter ego trust would also be present where the trust property is treated by the founder or a trustee as if it were personally owned by him/her, instead of belonging to the trust.
How do you determine if it is an alter ego trust?
Look out for signs of abuse, either in relation to the trust deed, or in the actions of the trustee and/or founder. Possible signs of abuse are:
· There is no independent trustee
· The trust deed gives the founder and/or trustee the power to amend the trust deed without the consent of all the trustees
· The founder has retained some level of control in the trust deed
· The trustee acts contrary to the terms of the trust deed
· There is a dominant trustee who dictates how trustee decisions are made
· The trustees are not acting with the necessary care, diligence and skill expected of them in terms of the Trust Property Control Act
What are the consequences of an alter ego trust?
As a general rule, should a trust be seen as an alter ego trust, it does not imply that the trust does not exist, or that the rights of the beneficiaries are nullified. The trust continues to exist, but the Court will look through the trust (“pierce the veil, or veneer, of the trust”) and hold the trustees personally liable.
There have been many divorce cases where one of the spouses - usually the wife - has attacked the trust in an attempt to have the assets included in the hands of her husband. The women who achieved success were those who married before 1984 and did not have the benefit of accrual in terms of the Divorce Act prior to that date, when the accrual system was introduced. In these cases, the Courts took the trust assets into account when determining redistribution amounts that would be considered fair. Spouses married under the Matrimonial Property Act (introduced in 1984) did not achieve the same success, unfortunately. The Courts held that alter ego trust assets would not be considered because they – the Courts - do not have the discretion to include assets that do not physically belong to either of the spouses in a divorce settlement. Instead, the Courts could only apply the Matrimonial Property Act’s strict mathematical formula in order to calculate the accrual.
The First National Bank v Britz case of 2011 is the first case in South Africa where the Courts expressly allowed creditors to attach trust assets. In this particular case, the Court confused the issues of a sham trust with those of an alter ego trust.
In the Rees v Harris case of 2012, where the creditor attempted to attach the trust’s assets (which was connected to the trustee), the Court held that in appropriate circumstances, the veneer of a trust can be pierced in the same way as the corporate veil of a company.
Under these circumstances, if it can be demonstrated that a trustee, who has actual control over trust assets, acquired and owns such assets purely for his/her sole benefit, then the trust form would be disregarded and the assets would be considered as belonging to the trustee, and not the trust.
~ Written by Phia van der Spuy ~