Trust Busting - Clayton v Clayton

1. Almost a decade after their separation, the relationship property and trust dispute between Mark and Melanie Clayton has finally come to an end.
2. Despite the parties reaching a last minute settlement in late December 2015 the Supreme Court, recognising the public interest in the case and the importance of the issues raised, has gone ahead with publishing the two appeal decisions.
3. Both these landmark decisions are likely to be relevant to tens of thousands of trusts settled in New Zealand and may make us rethink our approach to property security.

Background

4. Mr and Mrs Clayton commenced their relationship in 1986 and separated in 2006 after 17 years of marriage.
5. From the mid 1980s and throughout the marriage Mr Clayton developed a successful sawmilling and timber processing business. The business and property pool had an estimated value in the vicinity of $28,000,000.
6. The business was operated utilising a complex structure of companies and trusts in both New Zealand and the United States.
7. The Supreme Court decisions dealt with two of the New Zealand trusts, the Vaughn Road Property Trust (VRPT) and the Claymark Trust.

Trust powers as property - The Vaughn Road Property Trust

8. The VRPT trust deed included a clause that allowed Mr Clayton to appoint or remove discretionary beneficiaries.
9. The Court of Appeal found that that power was relationship property.
10. Mr Clayton’s appeal to the Supreme Court on this point concerned an error by the Court of Appeal in which it had interpreted the power of appointment as allowing Mr Clayton not only to remove discretionary beneficiaries, but also to remove final beneficiaries.
11. Mr Clayton argued that his powers under the deed could not be relationship property as he did not hold a power allowing him to remove the final beneficiaries and therefore he would always owe fiduciary duties to the final beneficiaries.
12. The Supreme Court acknowledged the Court of Appeal’s error and agreed that the power of appointment alone was not relationship property.
13. However, the Supreme Court found that the power of appointment when combined with other personal powers under the trust deed, could amount to relationship property.
14. In reaching that conclusion the Supreme Court considered the package of powers Mr Clayton had under the trust deed and the practical limitations on his ability to appoint all of the property of the VRPT to himself.

Mr Clayton’s powers under the VRPT

15. Mr Clayton settled the VRPT in 1999. He was the sole trustee of the trust, a discretionary beneficiary and was named as the “Principal Family Member”.
16. Mr Clayton as settlor, trustee and “Principal Family Member” had numerous powers pursuant to the trust deed including the power to appoint and remove discretionary beneficiaries, to appoint and remove trustees, to change any provision relating to the management and administration of the trust, to pay or apply all or part of the capital or income to any one or more of the discretionary beneficiaries, to appoint a vesting date, and to resettle the trust fund upon any trust which includes any one or more of the discretionary beneficiaries.
17. These powers were broad and free from the normal obligations imposed on fiduciaries.
18. A provision in the trust deed required the deed to be interpreted in a manner broadening the powers and restricting the liability of Mr Clayton as trustee, and other provisions allowed Mr Clayton to exercise any power or discretion in his own favor without the need to consider the other beneficiaries and regardless of whether his interests conflicted with his duty as trustee to the other beneficiaries.
19. In effect these powers meant, even if Mr Clayton did not remove the other discretionary beneficiaries, he could at any time appoint all of the trust capital and income to himself at the exclusion of and without consideration of the other discretionary beneficiaries or the final beneficiaries.
20. Ultimately Mr Clayton was not constrained by any fiduciary obligation when exercising his powers under the VRPT.

Were the powers relationship property?

21. In discussing the definition of property in s 2 of the Property (Relationships) Act 1976 (“PRA”) the Supreme Court accepted that the definition must be interpreted in a manner that reflects the statutory context and that the reference in s 2 to “any other right or interest” when interpreted in the context the PRA broadened the traditional concepts of property and was potentially inclusive of rights and interests which may not, in other contexts, be regarded as property rights or interests.
22. The Supreme Court concluded that in taking such an approach the powers were properly classed as rights that gave Mr Clayton and interest in the VRPT assets and therefore the powers were property.
23. Furthermore the powers were appropriately classified as relationship property pursuant to s 8(1) (e) of the PRA, being property acquired by Mr Clayton after his relationship with Mrs Clayton commenced.

Valuation of the powers

24. The Supreme Court agreed with the Court of Appeal that the value of the powers were equal to the value of the net assets of the VRPT.
25. As Mr Clayton could appoint all of the assets of the trust to himself at any time there was no reason to differentiate between the valuation of the power and the assets to which the powers related.

Nuptial settlements – Claymark Trust

26. Mrs Clayton’s appeal regarding the Claymark Trust concerned the application of s 182 of the Family Proceedings Act 1980 which allows the Court to vary nuptial settlements once a marriage or civil union has been dissolved.
27. In the Court of Appeal Mr Clayton successfully argued that the trust was not a nuptial settlement.
28. In reaching that decision the Court focused on the expectations of the parties, especially Mrs Clayton, when the trust was settled. The Court accepted Mr Clayton’s proposition that the primary purpose of the trust was to protect the business assets and that therefore there was no expectation of an interest in the business.
29. Mrs Clayton appealed to the Supreme Court.

The Claymark Trust

30. The Claymark Trust was settled in 1994 just after the birth of the Clayton’s second child.
31. Mr Clayton was settlor and one of the original trustees. The discretionary beneficiaries of the trust were Mr Clayton as the settlor, Mrs Clayton as the settlor’s wife and former wife, and the Clayton’s children as the children of the settlor.
32. The Trustees had the discretion to pay or apply both the trust income and capital, or resettle the trust for the benefit of any one or more of the beneficiaries.
33. Throughout the marriage the Clayton family benefited from the trust in a number of ways.

Clarification of the approach under s 182

34. In its decision the Supreme Court clarified the approach to s 182 and the interpretation of the leading case Ward v Ward [2010] 2 NZLR 31.
35. The approach to s 182 there is a two stage process. The first stage is to determine whether a nuptial settlement exists and the second is to assess whether and, if so, how the Court’s discretion should be exercised.

Was the Claymark Trust a nuptial settlement?

36. The Supreme Court acknowledged that a generous approach should be taken to the question of whether a settlement is a nuptial settlement.
37. To be a nuptial settlement there needs to be some form of continuous provision for either or both of the parties in their capacity as spouses. In other words, there must be a connection or proximity between the settlement and the marriage or civil union.
38. Where there is a family trust set up during the relationship with either or both parties as beneficiaries there inevitably will be a connection. Another strong indication of a nuptial settlement is where the children of the relationship are to benefit.
39. The exercise of determining whether a settlement is a nuptial settlement requires construction of the settlement document. The terms of the trust deed need to be considered, keeping in mind the generous approach.
40. The Supreme Court concluded that the Claymark Trust was a nuptial settlement, noting that the trust was a conventional family trust and there was a clear connection between the marriage and the settlement. The primary focus of the trust deed was to benefit those in Mr Clayton’s immediate family unit.
41. The fact that the trust was set up for business purposes did not remove the connection to the family.

Exercise of the Court’s discretion under s 182

42. Nuptial settlements are premised on the continuation of a marriage.
43. Section 182 empowers the Courts to review settlements and make orders to remedy the consequences of the failure of the marriage on which the settlement was made.
44. The Supreme Court addressed the exercise of the discretion in Ward where the Court had referred to comparing the expectations of the parties when the settlement was made as opposed to the expectations in the changed circumstances, being the dissolution of the marriage.
45. The Supreme Court noted that the seemingly subjective approach in Ward was the application of s 182 to the particular facts of that case, and misinterpretation of that approach can lead Courts astray.
46. Section 182 requires an objective assessment of the circumstances as a whole. There should be a general comparison between the position under the settlement had the marriage continued and the position existing after the dissolution
47. While there is no formulaic approach, there are a number of relevant factors which may be considered. These include the terms of the settlement, how the trustees are exercising or are likely to exercise their powers in the changed circumstances, the manner in which the trustees would have exercised their powers had the marriage continued, the source and character of the assets, the relevant interests of the parties and any children, wider benefits to the family the trust might have provided, and the length of the marriage. Particular interest must be paid to the interests of dependent children.
48. In Clayton the Supreme Court held that the lower courts had been mislead by the subjective approach touched on in Ward and had erroneously focused on Mrs Clayton’s expectations with reference to the section 21 agreement, which had been overturned. The Court determined that an agreement that relates primarily to what would happen on the breakdown of a marriage could not be relevant to the position assuming a continuing marriage.
49. The Supreme Court went on to consider Mrs Clayton’s position had the marriage continued. She would have continued to enjoy the benefit of a vehicle and the possibility of a distribution made in her favor. She also would have enjoyed the wider benefits provided to the family such as the availability of assets and distributions made to various family members.
50. There was clearly a difference in those benefits as compared to the likely benefits she would receive now the marriage had been dissolved.
51. Therefore there was a basis for the Court’s discretion under s 182 to be exercised.
52. Despite acknowledging that the discretion under s 182 was separate from the principles governing division under the PRA, the Supreme Court concluded that had the Claytons not settled it would have made orders similar to those in Ward to split the trust equally into two trusts.

Effect of the Clayton decisions

53. The effect of these decisions by the Supreme Court is that trusts similar to the Vaughn Road Property Trust and Claymark Trust are now more vulnerable than ever to scrutiny and claims against them.
54. For trusts to provide effective security it is crucial that there be autonomy within the trust deed and limitations should be placed on the personal powers held by individuals.
55. Trusts currently in existence should be reconsidered in light of these decisions and it would be wise for section 21 agreements to be entered into in conjunction with trusts to provide further security.