Chapter 16
Trustee’s indemnity, corporate trustees and insolvency

Creditors dealing with trustees


R48 The new Trusts Act should provide that:
(1) A creditor to whom a trustee has incurred liability (or the Official Assignee) can rely on the trustee’s indemnity to claim against the trust property to satisfy the liability, even if the trustee is not entitled to be fully indemnified.
(2) This section would only apply where the creditor has given value and the trust property has received a benefit from the transaction between the trustee and the creditor.
(3) This section would only apply where the creditor has acted in good faith and would not apply if the creditor had knowledge of the circumstances that impaired the trustee’s indemnity at the time the transaction was entered into.
(4) The creditor would take priority over beneficiaries under this section, subject to a decision of the court.
(5) The creditor would only be able to rely on the trustee’s indemnity to the extent of the value that they have given.

Current recommendation

16.44The Commission is recommending a provision that was not included in the Preferred Approach Paper, to strengthen the trustee’s indemnity as far as creditors and the Official Assignee are concerned.326 The application of this provision is confined to the Official Assignee and bona fide creditors who have given value, and where the trust property retains the value from the particular transaction between the trustee and the creditor. In these circumstances the creditor will retain the ability to claim against the trust property through the trustee’s indemnity. The creditor will not be considered to have acted in good faith if the creditor had knowledge of the circumstances that excluded or limited the trustee’s indemnity.

16.45The intention is that this recommendation will assist certain creditors and the Official Assignee in situations where the trust property would otherwise retain the benefit of the transaction between the trustee and the creditor, thereby receiving a windfall, since the creditor cannot rely on the impaired indemnity. It reflects principles familiar to equity and unjust enrichment. The Official Assignee has been included as the Official Assignee is the appropriate party to act on behalf of creditors in the event that the trustee becomes bankrupt or goes into liquidation.

16.46The effect of this recommendation would be to place the creditors that meet the requirements in the same position as they would otherwise have been but for the circumstances that impaired the indemnity, for example a breach of trust by the trustee. The consequences of the creditor being able to claim through the trustee’s indemnity would remain the same as under the current law. This recommendation is not intended to give the creditor particular priority over other creditors in insolvency; nor would it give the creditor a security interest in the property. The creditor would not be in a better position than other trust creditors who were able to rely on an unimpaired indemnity. If payment were obtained under this section in an insolvency context, the proceeds would be distributed among creditors in a priority in accordance with ordinary insolvency law principles.

16.47The current recommendation stops short of permitting creditors to claim directly against the trust property; although the effect may be similar, the claim would be against the trustee. This approach of strengthening the indemnity was preferred over providing creditors with the ability to claim against the trust assets directly. Direct recourse, while attractive in many respects, was considered a more significant departure from conventional trust principles and the approach taken in the rest of this Report, since it effectively treated the trust as a separate entity. We consider the recommended approach to be more conceptually sound and appropriately targeted.

16.48We include below an indicative draft of the provisions relating to the trustee’s indemnity. Clauses 45 to 47 give effect to R47. Clause 48 is intended to show how R48 would operate in the straightforward case of a creditor claiming against a trustee.

Application to existing trustsTop

16.49This recommendation should apply to existing trusts as well as new trusts. It should only apply to transactions entered into after the commencement of the new Trusts Act. This is because it involves a change to the existing law. It will impact on the interests of beneficiaries as they will not be protected by the severance of the trustee’s indemnity where the transaction with the creditor falls within the requirements of this provision. Therefore it is appropriate only to apply this to transactions going forward.

326A similar proposal was discussed in Fifth Issues Paper, above n 306, at [7.40]−[7.45].