Chapter 16
Trustee’s indemnity, corporate trustees and insolvency

Trustee’s right to indemnity


R47 The new Trusts Act should include a provision setting out the following principles:
(1) A trustee assumes personal liability for expenses and liabilities incurred by the trustee when acting on behalf of the trust.
(2) A trustee is entitled to be reimbursed from the trust property, or may pay out of the trust property, expenses and liabilities reasonably incurred by the trustee when acting on behalf of the trust.
(3) A trustee’s indemnity in (2) cannot be limited or excluded by the terms of the trust and applies regardless of any contrary intention expressed in the terms of the trust.
(4) Notwithstanding (3), the terms of the trust may rank the order in which the trust property may be used to meet the trustee’s expenses through the trustee’s indemnity; this ranking may be set aside on application to court by a trustee, creditor or beneficiary, if the court considers it appropriate, for example on the basis of fraud.
(5) The indemnity in (2) is available to a former trustee in respect of actions taken by the trustee when acting as trustee.

Well-understood principles concerning a trustee’s indemnity

16.36 The Commission considers it is important to set out the fundamental and well-understood principles relating to the liability of trustees and their right of indemnity, in a modernised version of section 38 of the Trustee Act. The provision will provide clarification and guidance about these principles, particularly for non-lawyers who are trustees or who are dealing with trustees, in a simple and concise format. The proposal in the Preferred Approach Paper to include these principles in trust legislation was generally supported by submitters.324

16.37The provision will cover significant aspects that are not included in section 38 at present. The provision is not intended to cut across existing understandings of the indemnity’s operation. It does not cover areas such as the expenses that are the subject of the indemnity, the equitable interest created in trust property, and the enforceability of the right of indemnity against beneficiaries.

16.38The Commission has considered whether the provision should address the extent of the indemnity, particularly the circumstances in which the trustee’s indemnity can be reduced or lost. A trustee’s indemnity may be reduced or lost where, for example, the trustee was in breach of trust in incurring the obligation,325 or lacked the authority or capacity to do so, or due to the trustee being indebted to the trust for an unrelated breach of trust, so that set-off arises. Some submitters considered it was necessary for these circumstances to be set out in the legislation. However, we take the view that it is preferable that such matters continue to be determined by the general law. It would be complex and difficult to enumerate the circumstances that could affect the indemnity, and these are very context-dependent. Attempting to set out a list would risk creating uncertainty and could inadvertently displace the current law in this area. Accordingly, the recommendation does not set out any of the circumstances that affect the indemnity. The provision also signals expressly that only expenses and liabilities “reasonably” incurred are covered.

Indemnity cannot be limited or excludedTop

16.39R47(3) provides that the indemnity cannot be limited or excluded in the trust instrument. Submitters previously agreed this was likely to be the case already, since it was central to the office of trustee, but that it required clarification.

Ranking of trust propertyTop

16.40However, during consultation it was suggested that the inability to limit or exclude the trustee’s indemnity could present a potential difficulty for some trusts. In some cases it may be considered inappropriate that the trustee could potentially acquire an interest in the trust assets through recourse to the indemnity. Examples of situations where this might be the case include where the trust property is taonga Māori, or for legitimate commercial reasons. A submitter contended that the interests of trustees and creditors could still be protected by, for instance, an alternative indemnity or other form of credit enhancement from a third party.

16.41This situation is now addressed in R47(4) which provides for a qualification to the recommendation in R47(3) that the indemnity cannot be limited or excluded. R47(4) provides that it will be possible for the trust deed to rank the order in which the trust property may be used to meet the trustee’s expenses through the trustee’s indemnity. In particular, it may provide that certain property is to be resorted to only after all other property has been exhausted. The recommendation also states that this ranking in the trust deed may be set aside on application to the court, if appropriate, for instance due to lack of good faith. This scheme enables some recognition for assets that may be significant, for example for social or cultural reasons, by ensuring that these assets will not be affected by the indemnity, unless there are insufficient other trust assets to which to look in order to satisfy the indemnity.

16.42There is an indicative draft provision that would give effect to R47 set out below in clauses 45–47.

Application to existing trustsTop

16.43This recommendation should apply to existing trusts as well as new trusts, as it covers well established principles relating to the trustee’s indemnity and content already in the Trustee Act. The provision for ranking trust property for the purposes of satisfying the indemnity will be available to new trusts from the time of commencement, and any existing trusts that are able to vary their terms to take advantage of it.

324Preferred Approach Paper, above n 306, (NZLC IP31, 2012) at ch 8.
325Aligning with the approach to be taken to exemption clauses, in carving out dishonesty, wilful misconduct and gross negligence.