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Trusteeship and the Underlying Company - Part II: Directorship

Introduction

Part I considered the duties, obligations and possible liabilities of the professional trustee in respect of an underlying company of a trust and whether or not the professional trustee should insist on the appointment of a director to the Board. Part II will now concentrate on the position where an employee or nominee of the professional trustee is appointed to the Board of the underlying company.

The standard considerations

The standard considerations for the professional trustee would still apply, namely:

Subject to an exclusion to diversify in the trust, ensure that ‘all eggs are not in one basket’, i.e. look to diversify trust fund investments by not holding shares in just one underlying company unless there are very good reasons for doing so such as a retained asset clause or a prescribed direction to retain;
Ensure that the conduct of the business of the company is not a breach of trust, for example, investments are Sharia-compliant for a Sharia trust;
Develop a clear investment strategy having regard to the requirements of the beneficiaries. Of course, the professional trustee should make its own decisions in respect of the investment strategy but it can be useful to have agreement with the ‘main’ parties such as the settlor or the protector;
Take professional advice and carefully use reputable professional agents;
Regularly monitor the performance of any investments; and
Make sure you have adequate professional indemnity insurance cover!

In addition, should an employee or nominee be appointed as a director of the Board of an underlying company, then the professional trustee must ensure that the director has the necessary skills and experience and actually does carry out his/her directorship obligations.

The family trust

With substantial offshore trust structures, it is not unusual for there to be several inter-related trusts with various underlying companies engaged in a variety of investment strategies. Where such structures are for the benefit of one family, one member of the family generally acts as the conduit between it and the professional trustee and directors. Although this family member may not be a co-trustee, or a co-director of any of the underlying companies, he/she is nevertheless in a position to exert a huge amount of influence over the running and direction of the trust structure. When such trust structures are very active it can be difficult to maintain influence and independence, to the extent that the professional trustee may find itself being considered as a ‘rubber stamp’. However, the Royal Court of Jersey emphasised in Parujan v Atlantic Western Trustees Limited 7 March 2003 (unreported) that “a trustee must be in the saddle firmly holding onto the reins; he should be running after the horse desperately trying to mount it” and then proceeded to remove the trustee and disallow the fees charged for trying to regain control after it had been lost.

UK taxation and the shadow director

If the trustee is not in control then UK tax problems can arise if the family member who is UK resident is deemed by the HMRC to be in control . The aim here is not to provide UK tax advice but to issue a general reminder to the professional trustee.

The concern for the Jersey professional trustee is in relation to the offshore company which has been incorporated for tax planning purposes. To avoid such a company being brought within the remit of UK taxation, the directors must ensure that it is effectively controlled and/or managed outside the UK. Generally, an offshore (non-resident) company will only be taxable in the UK on UK source income. However, it is possible for a company which is incorporated outside the UK to be deemed UK resident because the effective control and management is actually in the UK. If this is the case, then the company will be subject to UK tax on worldwide profits, not just those arising in the UK.

The UK statutory definition of a shadow director is “any person in accordance with whose directions or instructions the directors of the company are accustomed to act. However, a person is not deemed to be a shadow director by reason only that the directors act on the advice given by him in a professional capacity.”(section 741(2) Companies Act 1985). It is easy to see how a key family member can fall within that definition. Therefore should the Board take instructions from any person, who is not a director and who is not instructed in a professional capacity, and act upon them (without due deliberation), then it is possible for that instructing person to be considered to be a shadow director. Should the shadow director be UK resident, then the offshore incorporated status of the company may be successfully challenged by the HMRC with the unwanted result that it is deemed UK registered for UK tax purposes.

Of course, just because one director, or shadow director, is resident in the UK, it does not necessarily follow that the company will be deemed UK resident by HMRC. Provided that the majority of the directors are non-UK resident and effective management and control of the company is conducted outside the UK then the offshore status should be secure. However, should the majority of the offshore Board of the underlying company merely ‘rubber stamp’ the directions of the UK director/ shadow director then the company will be deemed UK resident which will more than likely increase the overall tax liability of the company. This would not be in the best interests of the beneficiaries and may amount to a breach of trust and therefore the trustees must take prudent steps to ensure it does not happen. In the same way that the role of the UK director/shadow director should be considered cautiously, care must be taken by the Board when ‘delegating’ director duties to UK resident individuals or agencies to ensure that it will not fall foul of the outlined ‘deeming’ provisions.

Whether or not HMRC regards the offshore company as effectively managed and controlled in the UK, it may treat the shadow director as a director for UK income tax purposes. For example, if the shadow director occupies a substantial property in London which is owned by an offshore company rent free then he could be liable to UK income tax on the deemed market rental value of the property as a “benefit in kind”.

How the offshore company may avoid the UK shadow director provisions

To avoid the applicability of any deeming provision the Board must be able to show that they did not receive ‘directions’ from a UK resident, but rather advices or requests which they considered carefully and then independently decided to chose their own course in the best interests of the company and its shareholders. Similarly, the appointed director of the professional trustee must always fully satisfy his/her directorship obligations by acting with the same deliberation and independence in order to protect the professional trustee from any potential vicarious actions by the beneficiaries of the trust.

Whilst there is no precise definition of ‘central management and control’ which can be used for all circumstances, in addition to the above the following will certainly be persuasive if you wish to protect the offshore incorporated company’s status:

Board meeting should take place outside the UK;

company records and accounts should be kept by the Jersey or other non-UK resident directors outside of the UK;
all important decisions relating to the company should be taken outside the UK; and
finally no person should be permitted to act such that they may be considered to be a shadow director.

Conclusion: the failure to avoid the UK shadow director provisions

Should there be any resultant increased tax liability for the company, due to the adverse tax consequences of the deeming provisions, then the value of the shares of the underlying company may be reduced which in turn may decrease the value of the trust fund. If it can be proven that the professional trustee (or its appointed director) was complicit in this loss, or was in some way grossly negligent for not having taken steps to avoid it, then the beneficiaries may have a right of action, and it would be a question of fact as to whether the professional trustee could then rely on any carefully drafted indemnity or anti-Bartlett clauses. (Please refer to Part I for consideration of anti-Bartlett clauses and the duty of prudence) ( Trusteeship and the Underlying Company Part I: The Relationship)

Should you have any queries and wish to have a confidential conversation with regard to any concern then please do not hesitate to call or email.

Advocate Richard Pirie – 01534 601755 Email
David Dorgan – 01534 601757 Email
Carl O’Shea - 01534 601750 Email

THIS ARTICLE IS FOR INFORMATION PURPOSES ONLY AND NOT BY WAY OF LEGAL ADVICE. PROFESSIONAL LEGAL ADVICE SHOULD BE SOUGHT BEFORE ANY ACTION IS TAKEN.

Please click here to read Part I: Trusteeship and the Underlying Company - The Relationship