Sham Trusts - get legal expertise you can trust to protect your legacy!

Sham Trusts

If the scheme of a trust, including the deed, is intended to be a mere facade, behind which other activities might be carried on, the words of the deed will be disregarded, and it is referred to as a “sham” trust.1

The legal requirements for a sham in New Zealand are conveniently summarised in the majority judgment of the Supreme Court in Ben Nevis Forestry Ventures Ltd v Commissioner of Inland Revenue:1A

In essence, a sham is a pretence…. A document will be a sham when it does not evidence the true common intention of the parties. They either intend to create different rights and obligations from those evidenced by the document or they do not intend to create any rights or obligations, whether of the kind evidenced by the document or at all. A document which originally records the true common intention of the parties may become a sham if the parties later agree to change their arrangement but leave the original document standing and continue to represent it as an accurate reflection of their arrangement.

As the Court of Appeal held in Clayton v Clayton:1B

[59] This approach to the concept of sham reflected authorities in England, this Court and Australia.1C

 When determining whether a trust is a “sham” or not a relevant matter to consider is did the parties who entered into the ostensible transaction mean it to be, and in fact use it as, merely a disguise, a facade, a sham, a false front to conceal their real transaction.

The concept of “sham” has been defined and analysed in numerous decisions. While it is possible to set out the essence and operation of the “sham” doctrine from these decisions, it is important to bear in mind the caution that equity is a strange bedfellow — it is not safe for advisers to rely upon words or procedures from precedents which advisers have used in previous years, even if a Court has decided that such words or procedures were used successfully in previous decades.2

“A sham is an act done or document executed that is intended to mislead. It is where the parties resort to a form of action or document which does not fit the real facts in order to deceive a third person.”3 Put shortly, a sham exists where the parties say one thing intending another.4

The term “sham” first appeared as slang in the 17th century. It is described by the dictionaries as being of obscure origin. In Cranstoun v Federal Commissioner of Taxation 5, Carter J referred to a definition of “sham” in the Oxford English Dictionary, which stated that a sham is:

Something devised to delude, it is a trick or a hoax, an imposture. It is something that is intended to be mistaken for something else, it is not really what it purports to be, it is a spurious imitation or a counterfeit. A ‘sham’ is an act done or a document executed that is intended to mislead.

Lockhart J in Sharrment Pty Ltd v Official Trustee 6 concluded that:

A ‘sham’ is therefore … something that is intended to be mistaken for something else or that is not really what it purports to be. It is a spurious imitation, a counterfeit, a disguise or a false front. It is not genuine or true, but something made in imitation of something else or made to appear to be something which it is not. It is something which is false or deceptive.7

A common intention must exist between parties (to the sham) that the acts done or documents executed do not create the legal rights or obligations which they appear to create.8 All the parties involved must have a common intention to that effect, since the law will not allow the insincere act of a deceiver to prejudice a party who sincerely entered into the transaction in question.9 See [A.5.1] which deals in greater detail with the issue of common intention.

The most frequently cited case concerning shams is Snook v London and West Riding Investments Ltd.10 Diplock LJ described a sham as:

… acts done or documents executed by the parties to the “sham” which are intended by them to give to third parties or to the Court the appearance of creating between the parties legal rights and obligations different from the actual legal rights and obligations (if any) which the parties intend to create. One thing I think, however, is clear in legal principle, morality and the authorities … that for acts or documents to be a “sham”, with whatever legal consequences follow from this, all the parties thereto must have a common intention that the acts or documents are not to create the legal rights and obligations which they give the appearance of creating.

 Now the Trusts Act 2019 is in force it may be even more difficult to establish that a trust is a sham:11

3.29 Under our new statute, once those core characteristics have been satisfied, the question then becomes one of whether the terms of the trust have purported to exclude one of the mandatory duties that is otherwise provided for in the Trusts Act. If it has purported to exclude such a duty then the provision that we have recommended would have the effect of rendering that exclusion void and would essentially read those duties into the trust deed. It is possible that what might have otherwise been held to be a sham or illusory trust for having purported to have excluded a key mandatory duty will be saved in essence by the voiding of the otherwise offensive clause.

•       However, that would not be a necessary result of our new Trusts Act. We would expect a court faced with such a contention to look at whether the existence of such an exclusion in the terms of the trust went directly to the intention of the parties to create a trust in the first place. In many cases the express exclusion of the mandatory duties will indeed indicate lack of intention to create a trust, and hence there will not be a trust. We have taken the view in this Report that it should not be a necessary consequence of the exclusion of one of the core mandatory duties that there was in fact no intention to create a trust. There may well remain cases where it can be appropriately held that there was an overriding intention to create a trust relationship despite poor wording or misapprehension as to what must be contained in a valid express trust deed. Such a determination would necessarily be particularly fact specific, as indeed it is under the current law.

 1    Scott v Federal Commissioner of Taxation (No 2) (1966) 40 ALJR 265, 279 per Windeyer J.

1A  Ben Nevis Forestry Ventures Ltd v Commissioner of Inland Revenue [2008] NZSC 115, [2009] 2 NZLR 289 at [33], which was quoted with approval by the Supreme Court in Clayton v Clayton [Vaughan Road Property Trust] [2016] NZSC 29; [2016] 1 NZLR 551; [2016] NZFLR 230 at [113]BC201660399.

1B  Clayton v Clayton [2015] NZCA 30; [2015] 3 NZLR 293; [2015] NZFLR 233 at [59].

1C  Snook v London and West Riding Investments Ltd [1967] 2 QB 786 , [1967] 1 All ER 518 (CA) at 802; Paintin and Nottingham Ltd v Miller Gale and Winter [1971] NZLR 164 (CA) at 168 and 175–176; Bateman Television Ltd v Coleridge Finance Co Ltd [1969] NZLR 794 (CA); NZI Bank Ltd v Euro-National Corp Ltd [1992] 3 NZLR 528 (CA) at 539; and Raftland Pty Ltd v Federal Commissioner of Taxation [2008] HCA 21, (2008) 238 CLR 516, 246 ALR 406 at [152].

2    In view of the dramatic consequences which flow from a finding of a “sham”, surprisingly very little has been published on the topic: P Willoughby, Misplaced Trust, 1st ed, 1999; David Hayton, “The Irreducible Core Content of Trusteeship” in Trends in Contemporary Trust Law, 1996, p 47; Paul Matthews, “How Many Shams Make Three” (1998) 4(7) Trusts & Trustees 11; John Mowbray, “Offshore trusts: Illusion and reality” (1994) 8(3) Tolley’s Trust Law International 68; Shan Warnock-Smith, “Midland Bank Plc v Wyatt: Sham Trusts come to the United Kingdom” (1994) Private Client Business 410. Many text books, while referring to some of the leading cases, do not yet have chapters dealing with “shams”.

3    IRD Interpretation Guideline, “‘Sham’ — meaning of the term” Tax Information Bulletin Vol 9 No 11 (November 1997), referring to Bateman Television Ltd v Coleridge Finance Co Ltd [1969] NZLR 794.

4    Donald v Baldwyn [1953] NZLR 313, 321 per FB Adams J followed in Antoniades v Villiers [1988] 2 All ER 309, 316.

5    Cranstoun v Federal Commissioner of Taxation (1984) ATC 4876.

6    Sharrment Pty Ltd v Official Trustee (1988) 82 ALR 530, 537, Foster J concurring.

7    The statement in Sharrment has been applied in Re State Public Services Federation; Ex parte Attorney-General for the State of Western Australia (1993) 113 ALR 385 per Toohey J; Dalco v Federal Commissioner of Taxation (1988) 82 ALR 669, 670-671, subsequently reversed by the High Court (Federal Commissioner of Taxation v Dalco [1990] HCA 3, (1990) 168 CLR 614) but not in this respect and Norgard v Rocom Pty Ltd (1990) 93 ALR 571.

8    IRD Interpretation Guideline, “‘Sham’ — meaning of the term” Tax Information Bulletin Vol 9 No 11 (November 1997).

9    Re State Public Services Federation; Ex parte Attorney-General for the State of Western Australia (1993) 113 ALR 385 per Toohey J; and Baker v Official Trustee in Bankruptcy (Full Court, Federal Court of Australia, 3 August 1995, unreported) per Burchett, Ryan and Carr JJ.

10   Snook v London and West Riding Investments Ltd [1967] 1 All ER 518, 528 (CA). This definition of “sham” has been adopted in many subsequent cases. In New Zealand the definition has been approved in a number of cases including Bateman Television Ltd v Coleridge Finance Co Ltd [1969] NZLR 794 (CA); Marac Finance Ltd v Virtue [1981] 1 NZLR 586 (CA); and Laing v Lanron Shelf Co No 56 Ltd [1994] 1 NZLR 562 per Gallen J. In the United Kingdom the definition has been approved in a number of cases including Midland Bank Trust Co Ltd v Green [1979] 3 All ER 28 (CA); WT Ramsay Ltd v Inland Revenue Commissioners [1980] AC 300 , [1981] 1 All ER 865, 881 per Lord Fraser of Tullybelton; R v Crown Court at Knightsbridge, ex parte Marcrest Ltd [1983] 1 All ER 1148 (CA); GUR Corp v Trust Bank of Africa Ltd [1986] 3 All ER 449(CA); Hilton v Plustitle Ltd [1988] 3 All ER 1051 (CA); Gisborne v Burton [1988] 3 All ER 760 (CA); Antoniades v Villiers [1988] 2 All ER 309(CA); Mikeover Ltd v Brady [1989] 3 All ER 618(CA); Circuit Systems Ltd (in liq) v Zuken-Redac (UK) Ltd [1996] 3 All ER 748 (CA); and Norglen Ltd (in liq) v Reeds Rains Prudential Ltd [1997] 2 AC 1 , [1998] 1 All ER 218, 225 (HL) per Lord Hoffman.

11   Law Commission Review of the Law of Trusts: A Trusts Act for New Zealand (NZLC R130, 2013) at [3.29]–[3.30]

 
If a trust or trust transaction is genuine it cannot be a sham

If a trust or a trust transaction is genuine it cannot be a sham. A transaction which the parties intend to take effect, but which does not take effect in accordance with their tenor will not be a sham.1

As was said in Miles v Bull (No 1), and approved in Official Assignee v Wilson:2

… a transaction is no sham merely because it is carried out with a particular purpose or object. If what is done is genuinely done, it does not remain undone merely because there was an ulterior purpose in doing it.

In Official Assignee v MWA Consultants Ltd3 Nation J held that despite the trust arrangement being designed and operated for ulterior and questionable purposes, the trust was not a sham as “there was not, as a matter of common intention, the necessary intention to create an arrangement other than that which the Trust Deed purported to create”.

In Racing Enter-Prizes Ltd v Police; Organ Bros Ltd v Police4 Haslam J stated:

… as the documents reveal the true relationship of all parties concerned, this ingenious scheme cannot be dismissed out of hand as a colourable device or mere sham.

In Mullens v Federal Commissioner of Taxation5 an attempt to apply s 260 of the Income Tax Assessment Act 1936 (Australia) where the taxpayer had acquired shares to obtain a deduction of moneys paid towards petroleum exploration was declared not to be a sham because “it represented a genuine commercial operation with commercial consequences”.6 Stephen J rejected a contention that the transaction was a sham where “the transaction was precisely what it purported to be.”7

In Littlewoods Mail Order Stores Ltd v Inland Revenue Commissioners8 the transactions in question were described by Lord Reid as “a bizarre series of six deeds.” He nevertheless held the transactions were not shams as each had the effect it purported to have, and the parties were quite entitled to proceed in the way that they did, if they chose to.

Even if transactions which are intended to take effect have the effect of fraudulently preferring, for example, one creditor to others, and notwithstanding that they are deliberately planned with this in view, they are not a sham.9 In this type of situation the transaction cannot be construed as giving a false or misleading impression to a third party as the act done or documentation is what was intended.10

1    Snook v London and West Riding Investments Ltd [1967] 1 All ER 518, 528 per Diplock LJ; Racing Enter-Prizes Ltd v Police; Organ Bros Ltd v Police [1970] NZLR 307, 310 per Haslam J; Lai v Beem Construction Ltd [1984] 2 NZLR 278, 284 (CA).

2    Miles v Bull (No 1) [1969] 1 QB 258  (QB) at 264; Official Assignee v Wilson [2008] NZCA 122; [2008] 3 NZLR 45. Applied in Official Assignee v MWA Consultants Ltd [2017] NZHC 2801; BC201764085 at [106].

3    Official Assignee v MWA Consultants Ltd [2017] NZHC 2801; BC201764085 at [106].

4    Racing Enter-Prizes Ltd v Police; Organ Bros Ltd v Police [1970] NZLR 307, 310.

5    Mullens v Federal Commissioner of Taxation (1976) 10 ALR 513.

6    Mullens v Federal Commissioner of Taxation (1976) 10 ALR 513 per Barwick J.

7    Mullens v Federal Commissioner of Taxation (1976) 10 ALR 513, 517.

8    Littlewoods Mail Order Stores Ltd v Inland Revenue Commissioners [1962] 2 All ER 279, 285, [1963] AC 135.

9    Paintin and Nottingham Ltd v Miller Gale and Winter [1971] NZLR 164.

10   IRD Interpretation Guideline, “‘Sham’ — meaning of the term” Tax Information Bulletin Vol 9 No 11 (November 1997).