A recent Court of Appeal decision has examined the complex issues relating to the law applicable to the cross-border trusts in the context of the winding up of a substantial Middle Eastern investment vehicle. The case is of general application to cross-border trusts but is of particular interest in the context of insolvency where the validity of trusts over assets in civil law jurisdictions (which do not recognise trusts) is likely to become an increasingly important issue.
Between 2002 and 2008, Mr Maan Al-Sanea, a Saudi Arabian businessman, declared himself as a trustee of shares in a number of Saudi Arabian banks (the Shares) for the benefit of Saad Investments Company Ltd (SICL), a Cayman Islands company, now in liquidation. SICL was Mr Al-Sanea’s family investment company.
By 2009, SICL owed in the region of $2.815bn plus interest to a syndicate of banks, including the defendant, Samba Financial Group (Samba). On 30 July 2009, a petition was presented to the Grand Court of the Cayman Islands for the winding up of SICL. On 16 September 2009, Mr Al-Sanea transferred the Shares he held on trust for SICL to Samba. Two days later, on 18 September 2009, a winding up order was made by the Grand Court of the Cayman Islands.
The liquidators of SICL have sought to set aside the transfer of the Shares to Samba on the basis that the beneficial interest in the Shares belong to SICL and that the transfer has the effect of depriving the creditors of SICL of the Shares, believed to be worth $318m.
Relying on the provisions of the Cross-Border Insolvency Regulations 2006, which give force to the UNCITRAL Model Law on Cross-Border Insolvency, and taking into account Samba’s presence in the UK and its absence from the Cayman Islands, the liquidators obtained recognition orders in the Companies Court in England and Wales in respect of the insolvency proceedings in the Cayman Islands.
THE PROCEEDINGS IN ENGLAND AND WALES
On 14 August 2013 the liquidators issued a claim under s127 of the Insolvency Act 1986 to set aside the transfer of the Shares to Samba. The section provides that:
‘1) In a winding up by the court, any disposition of the company’s property, and any transfer of shares or alteration in the company’s members, made after the commencement of the winding up is, unless the court otherwise orders, void.’
The underlying issue was whether, applying the law applicable to these transactions, SICL had any proprietary interest in the Shares, following the declarations of trust made by Mr Al-Sanea. It was common ground that if Saudi Arabian or Bahraini law governed this issue, SICL would not have a proprietary interest because the laws of those jurisdictions do not recognise trusts.
SAMBA’S APPLICATION TO STAY THE PROCEEDINGS
On 16 September 2013, Samba issued an application to stay the liquidators’ proceedings, disputing the jurisdiction of the court.
At first instance, the Companies Court granted Samba’s application for a stay. Sir Terence Etherton, Chancellor of the High Court, held that s127 of the Insolvency Act 1986 could only be relevant if SICL had a proprietary interest in the Shares at the date of their transfer to Samba and that under the common law conflict of law rules and The Hague Convention on the Law Applicable to Trusts and on their Recognition (the Convention), given statutory effect in the UK by the Recognition of Trusts Act 1987 (the 1987 Act), Saudi Arabian or Bahraini law was the applicable law governing that question.
The Convention has the effect of determining the applicable law relevant to questions relating to trusts and their recognition in cross-border contexts. Article 15 provides that the Convention does not prevent the application of the common law conflict of law rules when the issues in question relate to ‘the transfer of title to property and security interests in property’. The Chancellor held that Mr Al-Sanea’s declarations of trust did not create beneficial interests in the Shares but rather transferred the beneficial interests in the Shares to Samba. Hence, the Chancellor held, Article 15 was engaged, making the common law rules applicable. The effect of that was that Saudi Arabian or Bahraini law was the law governing the question as to the existence of SICL’s proprietary interest in the Shares.
The Chancellor also held that if Article 15 was not engaged for the reasons given, Articles 6 (choice of laws), 7 (close connection) and 8 (application of Articles 6 and 7) had the same effect.
The liquidators appealed, arguing that the governing law of the trusts was that of the Cayman Islands. It should be noted in the context of the appeal against the Chancellor’s decision to stay the claim, that the liquidators only had to persuade the Court of Appeal that they had an arguable case that Cayman Islands law was applicable – if they succeeded on that, the final question as to applicable law would be determined at a full evidential trial of the liquidators’ claim.
Samba’s case on appeal was set out differently. In addition to the submissions made by it in the High Court, it argued that, even if the governing law of the trusts (if the trusts existed) would be Cayman Islands law, the effect of Article 4 of the Convention was to exclude the application of the Convention to the purported transfers of the beneficial interest in the Shares to SICL which set up the trusts, meaning that the common law rules still applied to those transfers. The effect of that would be that Saudi Arabian or Bahraini law would apply to the transfers and that therefore SICL would have gained no proprietary interest under the transfers.
THE JUDGMENT OF THE COURT OF APPEAL: ARTICLE 4
Article 4 provides:
‘The Convention does not apply to preliminary issues relating to the validity of wills or of other acts by virtue of which assets are transferred to the trustee’.
Lord Vos, who delivered the judgment of the Court of Appeal, noted with some surprise that the questions raised on appeal regarding Article 4 had never, apparently, been considered before in an English court. It was said by counsel for the liquidators that if Samba was correct as to the effect of Article 4 the consequences might be to render ineffective trusts established in common law jurisdictions of shares in companies registered in civil law jurisdictions which do not recognise trusts.
The Article 4 issue became Samba’s central argument for the purposes of the appeal – if it succeeded on that point, it would put paid to any possible argument that the liquidators might have that the governing law of the trusts, once constituted and, in the later transactions, of the declarations of trust, was the law of the Cayman Islands. Samba submitted that the question as to whether the equitable interests in the Shares could be alienated by means of the declarations of trust had to be determined under the law of jurisdiction of the Shares and not the law applicable to the trusts. This is a so-called ‘rocket-launching’ issue – a matter that is preliminary to the establishment of the trust. If Samba could successfully show that the actions establishing the trusts were invalid, it would be unnecessary to consider whether the law of the trusts was that of the Cayman Islands or any other jurisdiction.
The liquidators argued in response that the only issues covered by Article 4 are matters concerning the validity of transfers of assets to the trustee, rather than the declaration of trust by the trustee in favour of the beneficiary. In this case there would be no issue with regard to the validity of the transfer of the Shares to the trustee, Mr Al-Sanea. It was common ground that he was the legal owner of the Shares.
Lord Vos quoted, in this context, part of the judgment of Lord Hodge in Joint Administrators of Rangers Football Club plc , in the Outer House in Scotland, concerning the effect of Article 4. In that case, Lord Hodge had to decide on the effect of agreements governed by English law between Rangers and a ticket agency, for the sale by Rangers of the beneficial interest in four future years’ season tickets, in respect of which Rangers was to act as the ticket agency’s sales agent. Under English law the effect of the agreements was that the ticket agency would enjoy a proprietary right in the season tickets for those years. Lord Hodge held however that the proprietary rights themselves were governed by the law of the jurisdiction in which the season tickets were located – the lex situs, which in this case was the law of Scotland. Lord Hodge held that under Scottish law such future rights could not be alienated. He said:
‘I am therefore persuaded that the [1987 Act] does not have the effect of making the law chosen by the settlor the governing law of the steps needed to create the trust. Were it otherwise, the results would be startling as settlor would be able to alienate property which he could not dispose of under the lex situs. It would create significant problems for the operation of insolvency law in the jurisdiction in which the asset was located. Additionally by virtue of s1(2) of the 1987 Act it might be argued that a constructive trust arising from a judicial decision in one legal system would prevail over the lex situs if a foreign settlor could be identified.’
Lord Vos also noted that a number of legal commentators supported Lord Hodge’s views as to the effect of Article 4. However, he stated that it was important to understand exactly what is excluded from the Convention principles by Article 4. Quoting Underhill and Hayton’s Law of Trusts and Trustees (18th edition, paragraph 100.121):
‘Technically, one could argue that two questions arise as to the passing of property: (i) the transfer of legal title to the trustee; (ii) the transfer of equitable title to the beneficiary. However, civil law systems know nothing of equitable title and, once legal title has been transferred to [the trustee], the “rocket-launching” process is concluded. It follows that the sole question with which the lex situs should concern itself is whether legal title to an interest may be alienated [i.e. transferred to a trustee]. It should not be a reason to invalidate the rocket-launching process that the situs does not know the trust concept. The particular interest which the beneficiary acquires under the trust should be seen as an aspect of the relationship between trustee and beneficiary, and governed by the applicable law of the trust, as determined by the rules of the [Convention]. In a common law country a beneficiary will obtain an equitable proprietary interest binding third parties but in a civil law country, not knowing such a proprietary interest, a beneficiary will only obtain a ring-fenced interest binding the trustee’s creditors and heirs but not third parties to whom the trustee had transferred trust property.’
Lord Vos noted that in relation to the Rangers case, Professor Hayton had separately acknowledged that the Outer Court had held that the law of Scotland, the lex situs, did not permit any alienation of future Scots property (such as receipts from the sale of future season tickets) at all, hence the owner of such property could not declare a trust of it, because a declaration of trust over property amounted to an act of alienation. The distinction he made is as between that and a declaration of trust over existing Scots property, such as receipts from the sale of existing season tickets, over which a trust could be declared.
Lord Vos then turned to the wording of Article 4 itself in the context of the Convention as a whole and in his judgment those words should be construed as meaning what they say:
‘… namely that the article is concerned with “preliminary issues”… relating to acts by virtue of which “assets are transferred to the trustee” (our emphasis). The declarations of trust [by Mr Al-Sanea in favour of SICL] do not actually or purportedly transfer anything to the trustee’.
Accordingly, assuming the governing law of the trusts is that of the Cayman Islands, Article 4 did not operate to exclude the application of the Convention to the declarations of trust made by Mr Al-Sanea.
In the circumstances, the Court of Appeal has confirmed that the purpose of Article 4 is to exclude the operation of the Convention in relation to any question relating to the transfer of an asset by a settler to a trustee, but not the question of the trustee’s declaration of trust in favour of a beneficiary.
THE JUDGMENT OF THE COURT OF APPEAL: ARTICLE 15
Lord Vos then considered the effect of Article 15 of the Convention. Here the issue was whether the declarations of trust by Mr Al-Sanea constituted ‘a transfer of title to property’. If the declarations of trust did amount to transfers of title to the Shares, the Convention would be excluded and the common law conflict of law rules would apply with the effect that Saudi Arabian or Bahraini law would be the governing law of the trusts.
The Chancellor’s decision in the High Court was that as the liquidators’ case was that the effect of the declarations by Mr Al-Sanea was to vest the beneficial entitlement in the Shares in SICL, that process must constitute a ‘transfer of title to property’ within Article 15. Lord Vos stressed that the wording of Article 15 had to be construed in the context of the wording of the Convention as a whole. Lord Vos said that the objective of Article 15 as a whole (other sub-articles of which relate to the protection of minors, the effects of marriage, succession rights and protection of creditors) is to preserve the application of mandatory rules of the lex situs as distinct from the law governing the trust.
In relation to the transfer of title to property therefore, the purpose of Article 15 was to preserve the requirements of the lex situs with regard to the formalities required to transfer title. Lord Vos gave the example in this context of the formalities required to complete the transfer of title to real property. He might equally have referred to the formalities required for the transfer of title to the Shares. He confirmed that the purpose of Article 15 was to ensure that these mandatory requirements of the lex situs were not overridden by the law governing the trust.
Samba’s case as to the formalities required by Saudi Arabian or Bahraini law as to the transfer in title of the Shares was however incomplete at the hearings before the High Court and the Court of Appeal. No expert evidence had been adduced to establish the exact nature of Saudi Arabian or Bahraini law that meant that no equitable title could be held separate from the legal title, or that foreigners could not own shares in Saudi Arabia and that the registration of the Shares in Saudi Arabia was conclusive evidence as to title.
Lord Vos stated that these alleged rules raised more questions than they answered. For example, he said that:
‘… it may be that the rule of Saudi Arabian law that no equitable title separate from the legal title is recognised in Saudi Arabia. But again, that does not answer the question of whether it is possible for a Saudi Arabian citizen validly to enter into arrangements like the six transactions and, in particular the declarations of trust’ [made by Mr Al-Sanea over the Shares in favour of SICL].
Lord Vos concluded that it would not be satisfactory on a stay or a summary judgment application to determine conclusively whether Article 15 applied in this case, because of the lack of evidence as to the exact meaning and effect of Saudi Arabian or Bahraini law on these issues. He therefore found against Samba’s submissions on this point for the purposes of the present application and held that the determination of the application of Article 15 should be determined on evidence at trial.
THE JUDGMENT OF THE COURT OF APPEAL: ARTICLES 6 AND 7
That left the issues under Articles 6 and 7 to be dealt with. Article 6 related to choice of law clauses in the early transactions in favour of Saudi Arabian law, which the liquidators accepted would be difficult but not impossible to override. In relation to the last three transactions, which contained no choice of law clauses, the question was whether such a choice of law in favour of Saudi Arabian law should be implied on the facts. The Chancellor concluded in the High Court that there were strong grounds for such a choice to be implied. However for the purpose of the appeal the liquidators contended that it was enough for them to establish that they had an arguable case in favour of their position.
Similar issues arose in relation to the ‘most closely connected test’ in Article 7. The liquidators contended that the fact that the declarations of trust were written in English and in the common law style and were intended to create a common law style trust was sufficient to create a close connection toward the law of the Cayman Islands and away from Saudi Arabian law.
In relation to both Article 6 and 7 Lord Vos concluded that these disputed issues could not be determined on Samba’s stay application and that it was not inevitable that the outcome of a trial would be that Saudi Arabian or Bahraini law would apply to the declarations of trust made by Mr Al-Sanea.
Lord Vos concluded the judgment of the Court of Appeal by confirming that Article 4 of the Convention did not operate to exclude the application of the Convention to the declarations of trust made by Mr Al-Sanea, so that while Saudi Arabian law, as lex situs, would govern his capacity to alienate the Shares at all, Cayman Islands law would govern his capacity to alienate an interest in the Shares by way of a declaration of trust and the transfer of the beneficial interest effected by the declarations. The other issues would be determined following a full trial of the issues on the evidence.
The Court of Appeal’s judgment provides guidance as to the workings of the Convention on the applicable law relevant to trusts in a cross-border context. It is surprising that the issues relating to Article 4 have not been aired previously, albeit that may be due to the relatively clear wording of Article 4 pointing towards the decision made by the Court of Appeal.
It is clear that had the decision on Article 4 been made in favour of Samba’s interpretation, many trusts of assets in civil law jurisdictions would potentially have been affected. It remains to be seen whether the outcome of the full trial of the action will give rise to similar concerns for such trusts. The case also gives clear warning as to the potential difficulties that can arise for beneficiaries of trusts of assets in civil law jurisdictions, particularly in the context of insolvency situations. Given the increasing use of cross-border trusts in relation to assets such as shares and real property in civil law jurisdictions, similar situations are bound to arise in the future.