Perpetuities and the maximum duration of trusts
Maximum duration of trusts
R49 The new Trust Act should:
(1) Repeal the Perpetuities Act 1964 and provide that the common law rule against perpetuities is of no application in New Zealand from the date of the repeal forward.
(2) Provide a default duration of 150 years for all trusts (a shorter period may be specified in the terms of the trust).
(3) Provide that at the expiry of 150 years from the date of the establishment of a trust, all trust property is to be vested in accordance with the provisions contained in the terms of the trust, or if the trust deed is silent about who is to receive the property, it is to be vested in all surviving beneficiaries in equal shares.
(4) Provide that trusts which include a mechanism to calculate the vesting date rather than specifying a duration shall continue until the earlier of the date resulting from the calculation, or 150 years from the establishment of the trust.
(5) Provide that, notwithstanding these reforms, distributions which were valid under the Perpetuities Act 1964 at the date they occurred remain valid.
(6) Repeal section 59(2) of the Property Law Act 2007 to reflect the abolition of the rule against perpetuities.
(7) Update the rule against accumulations to reflect the abolition of the rule against perpetuities, and clarify that trustees may accumulate income, provided the terms of the trust do not prevent this, and provided the accumulated income is distributed upon or before the termination of the trust.
(8) Carry over the existing exemptions allowing the trusts referred to in section 19 of the Perpetuities Act 1964 to continue indefinitely and apply these exemptions to the rule limiting the duration of trusts (trusts for retirement schemes under the Financial Markets Conduct legislation, currently referred to as superannuation schemes, and certain trusts of a share purchase scheme under section YA1 Income Tax Act 2007), as well as trusts currently exempted in their own legislation.
(9) Provide that these reforms will apply to all trusts, not only express trusts within the new Act.
Problems with current law
17.2The rule against perpetuities is one of a collection of rules and restrictions developed by the courts to promote unfettered ownership and free transfer of property. It has the effect of setting a maximum duration of a trust. The classic statement of the rule is this: no interest is good unless it vests, if at all, not later than 21 years after some life in being at the creation of the interest. Trusts must establish a date for the final distribution of trust property. The date may either be fixed, or calculated with reference to someone’s life (or the lives of more than one person). Under the common law, a fixed date could not exceed 21 years from the date of settlement.
17.3Equity also developed a distinct rule precluding perpetual trusts. In the Perpetuities Act 1964 and subsequent legislation, the phrase “rule against perpetuities” is used to refer to both the rule against remoteness of vesting, and the rule against perpetual trusts, depending on the context. However, the two rules are conceptually distinct. For example, a future interest created to take effect beyond the perpetuity period will not be valid by reason of being created to benefit a charity, even though a charitable trust may exist “in perpetuity”.
17.4The Perpetuities Act made a number of modifications to the common law position on remoteness of vesting, including the ability to specify a perpetuity period of 80 years or less and the “wait and see” approach to interests which may or may not vest within the perpetuity period. Under the rule in Saunders v Vautier a trust can also be varied by the agreement of all beneficiaries, to provide for an earlier distribution. This means that since the Perpetuities Act commenced, most dispositions, which would otherwise have been invalidated under the rule against perpetuities, are able to be rescued through modification.
17.5Even with the amendments under the Perpetuities Act, the rule against perpetuities is complex and causes considerable problems in practice. Most obviously, it causes uncertainty and there is a risk it may invalidate legitimate dispositions. It is not well understood, and so trust deeds may inadvertently fall foul of its requirements. The rule is also difficult to reconcile conceptually with the modern discretionary trust.
17.6We recommend reform to simplify and modernise the law in this area by replacing the current common law and statutory rules with a bright-line, maximum duration limit for trusts of 150 years. The new law would be much easier to understand and would improve certainty in trust dealings. There are advantages to a clear limit that provides certainty at the outset of the creation of the trust. The 150-year period allows a high degree of flexibility for settlors to dispose of property as they choose.
17.7Some submitters to the Preferred Approach Paper and previous issues papers considered that the original policy rationales for the rule against perpetuities are no longer persuasive in the modern context and that the rule should be abolished entirely. In recent years, many jurisdictions have abolished the rule against perpetuities and allowed perpetual trusts. England and Wales are notable for not following this path, and reforming rather than removing the rule. Some submitters expressed the view New Zealand should follow the global trend and allow perpetual trusts. However, we note that if New Zealand were to abolish the rule against perpetuities, rather than reform it, we would be doing so in the context of a tax system that does not otherwise discourage trusts of long duration.
17.8We continue to consider that extending the maximum duration of trusts is more appropriate than permitting trusts to continue indefinitely. In our view, there are strong policy reasons to retain some form of limit on the duration of private trusts. There is an important difference between trusts that continue for two or three generations and trusts that continue indefinitely. Perpetual trusts could create problems for trust administration and undermine the interests of the current generation of beneficiaries. It will be difficult for trustees to discharge their duties in a perpetual trust because the interests of successive generations of unborn beneficiaries would need to be considered. An ever-increasing class of beneficiaries would eventually make a trust administratively unwieldy, or invalid because of a lack of certainty of objects. The greater the number of beneficiaries, the more difficult it would be to vary the trust. There is also a risk that settlors may inadvertently create perpetual trusts, preventing the immediate beneficiaries from enjoying property, though the settlor’s intention may be only to benefit the next few generations. Trusts of long duration may also create problems, such as a growth in the number of beneficiaries and the fragmentation of interests in real property, or the risk that the purpose for which the trust was established will cease to be relevant as times change. It is acknowledged that there are arguments to the contrary, but we are persuaded that it is preferable to retain a limit on the duration of trusts, as England and Wales have done. We therefore recommend the more modest proposal of a statutory limitation on the duration of trusts.
Intent of recommendationTop
17.9Our recommendation is to repeal the outdated rule against remoteness of vesting, and create a statutory maximum duration for trusts of 150 years. This would address the practical concerns expressed by those who favoured reform or complete abolition, through providing a bright-line rule that is easy to understand and promotes certainty in trust dealings. It would prevent perpetual trusts, while allowing a high degree of flexibility for settlors to dispose of property as they choose.
17.10The recommended change would apply to all trusts currently in existence, regardless of when the trust was created. The change would therefore “rescue” existing trusts that fail to comply with the current rule against perpetuities, without requiring modification of the trust deeds of such trusts. However, it would not validate trusts previously held invalid and would not affect prior distributions.
17.11It should be noted that although the new limit will potentially apply to all trusts, existing trusts will continue to operate according to their own terms. Trusts do not automatically gain the benefit of the 150 year period, and must abide by the period set out in the trust deed. Further comments on the application of the reform to existing trusts are set out below.
17.12Given increasing life expectancies, we prefer an upper limit of 150 years. This will allow most trusts established for the duration of a life in being plus 21 years to continue until their natural end.
Property Law Act 2007Top
17.13As part of the recommendation, it is also necessary to update section 59 of the Property Law Act 2007, which currently allows future interests to be created subject to the rule against perpetuities. Reform to this section would provide that future interests may be created to take effect at any future date.
17.14This reform will have implications for property transactions which involve deferred or contingent interests, such as an option to purchase. This is an area where the traditional rationales of the rule against remoteness of vesting conflict with modern commercial practice. In addition, because the rule is concerned with the date interests take effect and not their duration, it can cause confusion as to what is included and what is excluded. The area is not well understood, and causes confusion as well as potentially altering the burdens and benefits in property arrangements through voiding some elements of the arrangement, but not others. For these reasons, we prefer the repeal of section 59(2) of the Property Law Act, rather than requiring all future interests to take effect within 150 years of their creation.
Rule against accumulationsTop
17.15A related rule is the rule against excessive accumulations. This provides that a direction to accumulate funds is void if it extends beyond the perpetuity period. This is significant in relation to charitable trusts and other trusts that are able to exist in perpetuity. The Perpetuities Act reformulated the common law rule by providing that a direction to accumulate and dispose of funds will be valid if the disposition is valid, and will be invalid if the disposition is invalid.
17.16It is proposed that the rule against accumulations be retained but updated for consistency with other reforms. The new rule would clarify that trustees may accumulate income, provided the trust deed does not prevent this and provided the accumulated income is distributed upon the termination of the trust. This has been changed from the Preferred Approach Paper proposal which stated that trustees may accumulate income provided the trust deed so allows, to allow more flexibility. The proposal to state a maximum accumulations period for trusts has been removed, since the accumulated income must be distributed on termination of the trust, which must be within the 150-year maximum duration, so it is not necessary also to specify a maximum accumulations period.
17.17An issue arises with the position in relation to charitable trusts and other allowable perpetual trusts where there is a direction to accumulate. The position at common law is that a direction requiring a charitable trust to accumulate income beyond the perpetuity period is a fetter on the use of the fund for charitable purposes and is therefore void. The case of Re Armstrong establishes that this position continues in New Zealand notwithstanding the Perpetuities Act. It may be desirable for legislation to restate this principle and extend it to other non-charitable purpose trusts, by providing that a direction to accumulate income is void if it extends for longer than a set period. This period could be the accumulations period if one were set, or could match the maximum duration period. There may be a case for directions to accumulate income to be limited for charitable trusts to a shorter period, for example 25 years, based on the idea that a binding direction to accumulate is a fetter on the charitable use of the fund. However, we intend to explore this question and consult further in the context of our upcoming charitable and purpose trusts review.
17.18It should be noted that the issue of directions to accumulate for charitable trusts is separate from the situation where there is a discretion for the trustee to accumulate. There is no intention to affect any provision in trust deeds permitting trustees to exercise their discretion in respect of capitalisation and accumulation of income.
Application to different types of trustTop
17.19In our view it is simplest to have a maximum limit for all trusts, and list any specific additional exemptions. A maximum duration of 150 years is of a sufficient length to ameliorate the current problems with remoteness of vesting and allow for commercial certainty in developing trust structures. However, any trusts currently exempted from the perpetuity period in individual statutory schemes would also be exempted from the 150 year maximum duration; this may require consequential amendments to those statutes.
Trusts for superannuation/retirement schemes and unit trusts
17.20It is intended that those trusts currently exempted from the rule against perpetuities will be exempted from the maximum duration rule. This will include trusts for superannuation schemes (soon to be termed retirement schemes under the Financial Markets Conduct Bill) and certain trusts under section YA1 of the Income Tax Act 2007.
17.21The Preferred Approach Paper also put forward a proposed exemption for unit trusts; these will also soon be covered under the Financial Markets Conduct Bill. On reflection, we have decided not to include a specific exemption for unit trusts in the final recommendation. This is because unit trusts tend to be relatively short-term structures and do not have the same policy reasons necessitating a maximum duration for other trusts, that is, concerns about “dead hand” control and tying up assets indefinitely.
Māori land trusts and Treaty settlement trusts
17.22All Acts relating to Treaty of Waitangi settlement claims passed in recent years have included a provision that expressly excludes the rule against perpetuities and the provisions of the Perpetuities Act from applying to the settlement entity trust, for example section 20 of the Ngāti Whātua Ōrākei Claims Settlement Act 2012. In line with the approach of applying current perpetuities exemptions to the new maximum duration rule, these settlement trusts would need to be exempted from the maximum duration rule by consequential amendment.
17.23A slightly different approach is taken in Te Ture Whenua Maori Act 1993, which provides in section 235 that Māori land trusts established under that Act are not “subject to any enactment or rule of law restricting the period for which a trust may run”. It is intended that these trusts also would be exempted from the 150 year maximum duration rule. The wording of this provision would seem to be sufficient to exempt these trusts from the new maximum duration rule without amendment. However, if not, a consequential amendment should be made to maintain their current status as perpetual trusts.
17.24Energy trusts are currently bound by the Perpetuities Act and rule against perpetuities. We have considered whether there should also be an exemption for these trusts. Energy Trusts of New Zealand and individual energy trusts such as the Auckland Energy Consumer Trust strongly submitted that existing energy trusts should be permitted to continue indefinitely. They argued that the policy reasons for the rule against perpetuities and limits on the duration of trusts are not relevant to the circumstances of energy trusts. In their view, permitting energy trusts to continue indefinitely would not defeat the intention of the settlor. Arguments were also made that it would be too expensive for the smaller energy trusts to go to court to apply for a variation, and accordingly, all existing energy trusts should be made indefinite with the ability to “opt out”.
17.25The Preferred Approach Paper proposed an exemption from the maximum duration rule for new energy trusts. However, we have reached the conclusion that whether energy trusts, new or existing, should be perpetual is a policy issue we cannot resolve as part of this review. We take the approach that energy trusts, which do not currently have an exemption, should be in the same position as other trusts. It is not feasible for us to consider the issues around creating new exemptions for types of trust that are not currently exempted from the perpetuities rule. Energy trusts will be subject to the same transitional process as other trusts since there are still final beneficiaries affected by a change in the trusts’ termination date. Any exemption for a particular type of existing trust will need to justify the departure from the general presumption that the trust property will vest according to its terms. We consider that the appropriateness of allowing existing energy trusts to operate indefinitely is a policy question better reserved for a decision by the Government rather than being resolved in this Report. We have therefore treated energy trusts the same way as any trust not currently exempted from the perpetuities rule.
Application to existing trustsTop
17.26The 150 year maximum duration rule will apply to all trusts currently in existence, as well as any trusts established after the rule comes into effect. However, the 150 year duration period will not apply to existing trusts automatically, and existing trusts will continue to be bound by the provisions in their respective trust deeds. Several submitters to the Preferred Approach Paper raised practical questions about how the proposed changes would be applied to existing trusts. We have attempted to avoid creating complex transitional provisions for existing trusts.
17.27More significantly, in this area it is important to take account of the intention of the settlor and beneficiaries’ interests. It is difficult to say in any particular instance that a settlor would have opted for a 150 year period. Extending the period would risk going beyond what the settlor intended. Once settled, trusts are only changed by agreement between the beneficiaries, by a court order or as provided for in the terms of the trust. Importantly, changing the vesting date not only changes the date by which all assets must vest, but would likely change the identity of the beneficiaries in whom the assets ultimately vest. Our view is that it is not appropriate to be able to easily alter the period because this will also alter these beneficial interests.
17.28Trusts (both existing and new) which include a mechanism to calculate the vesting date rather than specifying a duration, would continue until the earlier of the date resulting from the calculation, or 150 years from the establishment of the trust.
17.29Where the distribution date in an existing trust is fixed, this date will continue to apply. It may be possible to vary the vesting or termination date of the trust using provision in the trust deed where it allows for this. It may also be possible to extend the period by variation, agreement of the beneficiaries, or applying to the court for approval of a variation.
17.30Some submitters argued for some form of simple, less costly process to extend the duration of a trust to 150 years. We have considered various options including allowing trustees to vary the trust to extend the period, notwithstanding that the terms of the trust do not provide for this. We also considered providing a specific provision allowing the court to extend the duration of a trust using a less onerous test for approving a variation. However, we do not think it is appropriate for trustees to be able to effect this change where this is not provided for in the terms of the trust, since it affects those beneficiaries who may be about to receive property if a trust is close to its vesting date. Likewise, it is not appropriate to formulate any different or lower test for variation by the courts, as this also affects beneficial interests. We acknowledge that there is a cost involved in taking an application to court, but we consider that the question of whether the duration of a trust can be extended is best left to the courts.