In Lonrho plc v Fayed (No 2) [1992] 1 WLR 1, Millett J said this about the constructive trust:

JUDGMENT

‘It is… the independent jurisdiction of equity as a court of conscience to grant relief for every species of fraud and over unconscionable conduct. When appropriate, the court will grant a proprietary remedy to restore to the plaintiff property of which he has been wrongly deprived, or to prevent the defendant from retaining a benefit which he has obtained by his own wrong. It is not possible, and it would not be desirable, to attempt an exhaustive classification of the situations in which it will do so. Equity must retain what has been called its inherent flexibility and capacity to adjust to new situations by reference to mainsprings of the equitable jurisdiction. [R Meagher, W Gummon and J Lehane, Equity, Doctrines & Remedies (2nd edn), Butterworths, 1984, p. 327.] All courts of justice proceed by analogy, but a court of equity must never be deterred by the absence of a precise analogy, provided that the principle invoked is sound.’

Lord Millett in Paragon Finance plc v Thakerar [1999] 1 All ER 400 referred to the two interpretations of constructive trusts and stated that the importance of distinguishing the two categories lies with regard to the non-existence or existence of the limitation period for bringing against the trustees. Allied to this principle is the process of tracing or following the beneficiary’s property in cases of category 1 constructive trustees.

JUDGMENT

‘The expressions constructive trust and constructive trustee have been used by equity lawyers to describe two entirely different situations. The first covers those cases where the defendant, though not expressly appointed as trustee, has assumed the duties of a trustee by a lawful transaction which was independent of and preceded the breach of trust and is not impeached by the plaintiff. The second covers those cases where the trust obligation arises as a direct consequence of the unlawful transaction which is impeached by the plaintiff.  The importance of the distinction between the two categories of constructive trust lies in the application of the statutes of limitation. Constructive trusts of the first kind are treated in the same way as express trusts and were often confusingly described as such; claims against the trustees were not barred by the passage of time. Constructive trusts of the second kind however were treated differently. They were not in reality trusts at all, but merely a remedial mechanism by which equity gave relief for fraud. The Court of Chancery, which applied the statutes of limitation by analogy, was not misled by its own terminology; it gave effect to the reality of the situation by applying the statute to the fraud which gave rise to the defendant’s liability.’

Lord Millett

JUDGMENT

‘[The constructive trust] is an equitable remedy by which the court can enable an aggrieved party to obtain restitution.’

In the UK, remedies exist in quasi-contract which are based on unjust enrichment. It is arguable that the use of the constructive trust to provide a remedy is not justifiable. This is the predominant view of the English courts. This is reflected in the judgment of Peter Gibson LJ in Halifax Building Society v Thomas [1996] 2 WLR 63.

CASE EXAMPLE

Halifax Building Society v Thomas [1996] 2 WLR 63 The defendant obtained a mortgage by a fraudulent misrepresentation of a building society. He fell into arrears and after the property was sold, a surplus remained. The society claimed the surplus by way of a constructive trust, in order to prevent the defendant from profiting from his fraud. The court rejected this claim, on the ground that a remedial constructive trust does not exist in English law. There was no universal principle that involved restitution of a benefit received from a wrongdoing party. The defendant was merely a debtor as opposed to being a fiduciary for the society. Thus the surplus belonged to the defendant although it could be confiscated as the proceeds of crime in separate criminal proceedings under the Proceeds of Crime Act 2002.

JUDGMENT

‘English law has not followed other jurisdictions where the constructive trust has become a remedy for unjust enrichment. As is said in Snell’s Equity, 29th edn, 1990, p. 197: In England the constructive trust has in general remained essentially a substantive institution; ownership must not be confused with obligation, nor must the relationship of debtor and creditor be converted into one of trustee and cestui que trust.’

Peter Gibson LJ

In Carl Zeiss Stiftung v Herbert Smith and Co (No 2) [1969] 2 Ch 276, Edmund-Davies LJ declared that the reason why the boundaries of a constructive trust have been deliberately left vague by the courts is to empower the courts to decide on the fairness of transactions undertaken by fiduciaries, and stated that the basis for imposing a constructive trust is to satisfy the demands of justice and good conscience:

JUDGMENT

‘English law provides no clear and all-embracing definition of a constructive trust. Its boundaries have been left perhaps deliberately vague, so as not to restrict the court by technicalities in deciding what the justice of a particular case may demand… The concept of unjust enrichment has its value as providing one example among many of what, for lack of a better phrase, I would call want of probity, a feature which recurs through and seems to connect all those cases drawn to the court’s attention where a constructive trust has been held to exist. Snell’s Principles of Equity expresses the same idea by saying 26th ed, 1966, p. 201 that: A possible definition is that a constructive trust is a trust which is imposed by equity in order i to satisfy the demands of justice and good conscience, without reference to any express or presumed intention of the parties.

It may be objected that, even assuming the correctness of the foregoing, it provides no assistance, inasmuch as reference to unjust enrichment, want of probity and the demands of justice and good conscience merely introduces vague concepts which are in turn incapable of definition and which therefore provide no yardstick. I do not agree. Concepts may defy definition and yet the presence in or absence from a situation of that which they denote may be beyond doubt. The concept of want of probity appears to provide a useful touchstone in considering circumstances said to give rise to constructive trusts, and I have not found it misleading when applying it to the many authorities cited to this court. It is because of such a concept that evidence as to good faith, knowledge and notice plays so important a part in the reported decisions.’

In Cobbe v Yeoman’s Row Management Ltd [2008] 1 WLR 1752, Lord Scott reiterated the broad jurisdiction of equity in this field. He said that it ‘is impossible to prescribe exhaustively the circumstances sufficient to create a constructive trust but it is possible to recognize particular factual circumstances that will do so and also to recognize other factual circumstances that will not’.

However, despite the general reluctance of the courts to limit its jurisdiction in this context, a number of general categories may be posited as to when the trust may be imposed. These are:

(a) occasions when a trustee or fiduciary allows his interests to conflict with his duties;

(b) contracts for the sale of land;

(c) the operation of the maxim, ‘Equity will not allow a statute to be used as an engine for fraud’; and

The nature of the remedy that may be available to the claimant would depend on whether identifiable property has been acquired by the trustee/fiduciary or not. If identifiable property has been acquired by the defendant in breach of his fiduciary duties, a constructive trust of a proprietary nature will be imposed on that property which will subsist against third parties, except as against a bona fide transferee of the legal estate for value without notice. In appropriate cases the claimant may follow or trace his interest in such property. On the other hand, if there is no identifiable property over which a constructive trust may attach, the claimant will be entitled to the personal remedy of an account. In Sinclair Investment Holdings v Versailles Trade Finance Ltd (No 3) [2007] EWHC 915, Rimer J, at first instance, expressed the point in the following terms:

JUDGMENT

‘Any identifiable assets acquired by fiduciaries in breach of their fiduciary duty are, and can be declared to be, held upon constructive trust for the principal… There will in practice often be no identifiable property which can be declared by the court to be held upon such constructive trust, in which case no declaration will be made and the principal may at most be entitled to a personal remedy in the nature of an account of profits.’

‘I must consider this as a trust for the infant, for I very well see, if a trustee, on the refusal to renew, might have a lease to himself, few trust estates would be renewed to the cestui que use. Though I do not say there is fraud in this case, yet he should rather have let it run out than to have had the lease to himself. It may seem hard that the trustee is the only person of all mankind who might not have the benefit of the lease; but it is very proper that the rule should be strictly pursued and not in the least relaxed; for it is very obvious what would be the consequences of letting trustees have the lease, on refusal to renew to the cestui que trust.’

Lord King LC

Perhaps the reason for this harsh rule is that the courts are reluctant to run the risk of finding it difficult in many cases to ascertain accurately whether or not an unfair advantage has been taken by the trustee or not. Unfairness to the trustee is not the major concern; the primary consideration of the courts is to ensure that there is no possibility of injustice to the beneficiaries.

The rationale for the harsh rule in Keech v Sandford was stated by Lord Herschell in an obiter pronouncement in Bray v Ford [1896] AC 44.

JUDGMENT

‘It is an inflexible rule of a court of equity that a person in a fiduciary position… is not, unless otherwise expressly provided, entitled to make a profit; he is not allowed to put himself in a position where his interest and his duty conflict. It does not appear to me that this rule is… founded upon principles of morality. I regard it rather as based on the consideration that human nature being what it is, there is a danger, in such circumstances, of the person holding a fiduciary interest being swayed by interest rather than duty, and thus prejudicing those he is bound to protect. It has, therefore, been deemed expedient to lay down this positive rule.’

Lord Herschell

In effect, in order to succeed in the action against the trustee or fiduciary, the claimant is required to establish each of the following three elements:

(a) the defendant holds a fiduciary position vis-à-vis the claimant; and

(b) the defendant obtained a benefit derived from the property; and

(c) there is a causal connection between the relationship and the benefit.

It is irrelevant that the trustee or fiduciary acted in good faith for the liability here is strict.

The obligation on the trustee/fiduciary to avoid conflicts of duties and interests is both preventative and restitutionary to ensure that the trustee/fiduciary acts fairly and justly in dealing with the affairs of the trust. The principle is preventative in the sense that the fiduciary is obliged to refrain from acting in circumstances where there is a possibility of conflict. It is restitutionary in the sense that any profit or advantage may be claimed on behalf of the trust. This broad principle may be sub-divided into two specific principles – the rule against ‘self-dealing’ and the rule of ‘fair dealing’.

The fair-dealing rule concerns the occasion where the trustee purchases or acquires the beneficiary’s interest subsisting under the trust. In these circumstances, the purchase or acquisition by the trustee will be treated as voidable at the instance of the beneficiary. The burden of proof will lie on the trustee to establish that the sale was fair, after full disclosure by the trustee and that the beneficiary exercised an independent judgment. In Tito v Waddell (No 2) (1977), Megarry VC said, ‘if a trustee purchases the beneficial interest of any of his beneficiaries, the transaction is not voidable ex debito justitiae, but can be set aside unless the trustee can show that he has not taken advantage of his position and has made full disclosure to the beneficiary, and that the transaction is fair and honest’.

‘A fiduciary is someone who has undertaken to act for or on behalf of another in a particular matter in circumstances which give rise to a relationship of trust and confidence. The distinguishing obligation of a fiduciary is the obligation of loyalty. The principal is entitled to the single-minded loyalty of his fiduciary. This core liability has several facets. A fiduciary must act in good faith; he must not make a profit of his trust; he must not place himself in a position where his duty and interest may conflict; he may not act for his own benefit or the benefit of a third person without the informed consent of his principal. This is not intended to be an exhaustive list but it is sufficient to indicate the nature of fiduciary obligations. They are defining characteristics of the fiduciary.’

On analysis the fundamental characteristics of the fiduciary relationship, as laid down by Millett LJ, are as follows:

■ The creation of the fiduciary relationship depends on the circumstances of each case. The issue is whether the nature of the relationship, or transaction undertaken, involve an element of trust and confidence reposed in the defendant. Although there are a number of well-established relationships that are regarded as fiduciary, such as trustee/beneficiary, solicitor/client, director/company, partner/co-partner, agent/principal relationships, ultimately the courts will decide as a question of law whether the relationship ought to be classified as fiduciary;

■ The overriding duty imposed on the fiduciary is one of loyalty to his principal. This manifests itself in various forms and overlaps with other features stated below.

■ The fiduciary is required to act in good faith. This is a question of fact. The defendant’s motives and intention are material factors in deciding this question.

■ He must not place himself in a position of conflict with his interest. This requirement has many facets such as making unauthorised profits, he may not act for himself in a way inconsistent with the trust as well as the self-dealing and fair-dealing rules.

The remainder of this chapter will focus on various aspects of the fiduciary relationship.

Boardman v Phipps [1967] 2 AC 46 Mr Boardman, a solicitor to a trust, was a fiduciary when he received confidential information concerning the company that assisted in him obtaining control of the company and reorganising it. Although he acted in good faith he was liable to account as a constructive trustee for the profits made. The opportunity to make the profit arose by virtue of his fiduciary relationship with the trust. On behalf of Mr Boardman it was argued that information concerning the trust was incapable of being treated as trust property. The court rejected this argument and decided that the confidential information acquired in this case which was capable of being and was turned to account can be properly regarded as the property of the trust. However, the court awarded him generous remuneration in recognition of his outstanding contribution to the trust.

JUDGMENT

‘The proposition of law involved in this case is that no person standing in a fiduciary position, when a demand is made upon him by the person to whom he stands in the fiduciary relationship to account for profits acquired by him by reason of the opportunity and the knowledge, or either, resulting from it, is entitled to defeat the claim upon any ground save that he made profits with the knowledge and assent of the other person. I agree with the decision of the learned judge and with that of the Court of Appeal which, in my opinion, involves a finding that there was a potential conflict between Boardman’s position as solicitor to the trustees and his own interest in applying for the shares. He was in a fiduciary position vis à vis the trustees and through them vis à vis the beneficiaries.  Mr Boardman’s fiduciary position arose from the fact that he was at all material times solicitor to the trustees of the will of Mr Phipps senior. It was as solicitor to the trustees that he obtained the information… This information enabled him to acquire knowledge of a most extensive and valuable character which was the foundation upon which a decision could, and was taken to buy the shares in Lester & Harris Ltd.’

Lord Hodson

Likewise, in Crown Dilmun v Sutton [2004] EWHC 52, the claimant was successful in establishing that the defendant was under a duty to account in breach of his fiduciary duties. The claimant contended that the defendant owed fiduciary duties by virtue of his capacity as a managing director and the existence of a restraint of trade clause. Thus, the defendant owed the claimant a duty to make full and frank disclosure of profit-making opportunities concerning the claimant’s land.

In Cobbetts v Hodge [2009] EWHC 786 (Ch), the High Court decided that although the creation of the employment relationship did not per se create a fiduciary relationship, the nature of the employment might provide the context in which fiduciary duties might arise. In this case the introduction of investors was within the scope of the defendant’s employment, but in carrying out these duties the defendant owed fiduciary duties to the claimants. The opportunity to acquire shares in a third party company and realise a profit had derived from his employment and amounted to a breach of his duties. Thus, the defendant bore the burden of proving that the claimants consented to the profit made by the defendant. On the facts the defendant failed to discharge this burden.

A ‘Pallant v Morgan equity’ derives from the case Pallant v Morgan [1953] Ch 43, to the effect that if A and B agree that A will acquire some specific property for the joint benefit of A and B on terms yet to be agreed, and B, in reliance on A’s agreement, is thereby induced to refrain from attempting to acquire the property, equity will not permit A, when he acquires the property, to insist on retaining the whole of the benefit for himself to the exclusion of B. Unlike a proprietary estoppel, the claimant (B) has not suffered a detriment as a consequence of the defendant (A) acquiring the property. However, the defendant has obtained an advantage by keeping the claimant out of the market.

CASE EXAMPLE

Pallant v Morgan [1953] Ch 43 An agreement was entered between the claimant’s and defendant’s respective agents that they would not compete against each other in bidding for a property at an auction. It was agreed that the defendant’s agent alone should bid and if he was successful the property was to be divided between them. The basis of the division was to be subsequently agreed. Thus, the bidding by the defendant at the auction was on behalf of both parties. The defendant’s bid was successful and he attempted to deny the claimant an interest in the property.  The High Court decided that, although the agreement for division was too uncertain to be specifically enforceable, the defendant was not entitled to keep the property for his sole benefit, but was required to hold the property upon trust for the parties jointly.

JUDGMENT

‘In my judgment, the proper inference from the facts is that the defendant’s agent, when he bid for lot 16, was bidding for both parties on an agreement that there should be an arrangement between the parties on the division of the lot if he were successful. The plaintiff and the defendant have failed to reach such an agreement, and the court cannot compel them to one. The best it can do is to decree that the property is held by the defendant for himself and the plaintiff jointly, and, if they fail to agree on a division, the property must be re-sold, either party being at liberty to bid, and the proceeds of sale being divided equally after repaying to the defendant the 1,000 which he paid with interest at 4 per cent.’

Harman J

Pallant v Morgan was reviewed by the Court of Appeal in Banner Homes plc v Luff Developments Ltd and the principle approved. In Banner Homes v Luff, a constructive trust (or a duty to account) arose where two rival bidders made an arrangement concerning the purchase of property, and the defendant conducted itself in a way inconsistent with the agreement and in an inequitable manner.

CASE EXAMPLE

Banner Homes v Luff [2000] 2 WLR 772 Two rival bidders made an arrangement concerning the purchase of property. The defendant conducted himself in a way inconsistent with the agreement, and in an inequitable manner. The court decided that a constructive trust (or a duty to account) arose in the circumstances. It was essential that the circumstances made it inequitable for the acquiring party to retain the property for himself in a manner inconsistent with the arrangement or understanding on which the non-acquiring party had acted.

‘In my view the judge misunderstood the principles upon which equity intervenes in cases of this nature. The Pallant v Morgan equity does not seek to give effect to the parties’ bargain, still less to make for them some bargain which they have not themselves made, as the cases to which I have referred make clear. The equity is invoked where the defendant has acquired property in circumstances where it would be inequitable to allow him to treat it as his own, and where, because it would be inequitable to allow him to treat the property as his own, it is necessary to impose on him the obligations of a trustee in relation to it. It is invoked because there is no bargain which is capable of being enforced; if there were an enforceable bargain there would have been no need for equity to intervene in the way that it has done in the cases to which I have referred.  I am satisfied, also, that the judge was wrong to reject the constructive trust claim on the grounds that Banner had failed to show that it had acted to its detriment in reliance on the arrangement agreed on 14th July 1995.’

Chadwick LJ

In Kilcarne Holdings Ltd v Targetfollow Ltd the court decided that the Pallant v Morgan claim failed because there was no evidence of a joint venture between the parties.

CASE EXAMPLE

Kilcarne Holdings Ltd v Targetfollow Ltd [2005] All ER (D) 203, CA The subject-matter of the claim involved a 250-year lease of Baskerville House, Centenary Square, Birmingham. The defendant company (TGL) was set up specifically to acquire the lease of the property. On 5 February 2002 completion took place of an agreement by Birmingham City Council to grant the lease to TGL. The amount required to complete the transaction was £2.5 million of which £1 million was loaned by Kilcarne Ltd in exchange for loan notes of the same value. The loan was secured with a first charge on the property. As part of a composite transaction Kilcarne and an associated company called Rosedale Ltd together lent £2.5 million to TGL. There was evidence of some discussion concerning financial arrangements between the principal shareholder of TGL and the managing director of another company, Sitac Ltd (which acted on behalf of the claimant companies). The claimants contended that, in addition to the secured loans, a legally enforceable oral agreement was created between the claimants and the defendant for a joint venture for the development of the property. The judge considered the circumstances, including the minutes of the meetings held by the various companies, and decided that there was no evidence of a joint venture between the parties. The claimants further alleged that constructive trusts had been created in their favour based on the Gissing v Gissing and Pallant v Morgan principles. The judge rejected these claims and decided that the intentions of the parties were reflected in the formal legal contracts creating loan agreements between the parties. The claimants appealed to the Court of Appeal.  The court dismissed the appeal. There was ample evidence to support the judge’s decision. On 5 February 2002 the parties did not share a common intention to create equitable interests in relation to the lease. Such a common intention was necessary in order to establish a Gissing v Gissing constructive trust (see later). There was some evidence of discussions and negotiations between the parties but no concluded agreement as to a joint venture had been reached. In addition, the Pallant v Morgan constructive trust claim failed because the parties did not commit themselves to a joint venture or a venture whereby the claimants would obtain some interest in the property.

	‘I turn to the Pallant v Morgan constructive trust, as to which the judge said:
	Essentially the principle is that (i) if A and B agree that A will acquire some specific property for the joint benefit of A and B and (ii) B, in reliance on As agreement, refrains from attempting to acquire the property, then equity will not permit A, when he acquires the property, to keep it for his own benefit, to the exclusion of B.
	That formulation does not fit the facts of the present case because Kilcarne never intended to acquire the lease itself and cannot therefore be said to have refrained from attempting to do so. But it has not been suggested that that in itself is an objection to the application of the principle. Mr Nugee submitted that, when applied to this case, the principle required, first, that there be an arrangement or understanding between the parties that A will acquire the property and that if he does so B will obtain some interest in it; and, secondly, that B must act in reliance on that arrangement or understanding. I agree with that submission.  It follows that, however it is put, the case for a Pallant v Morgan constructive trust also fails at the first hurdle. There was never any agreement, arrangement or understanding between TGL and Kilcarne that the lease should be acquired for their joint benefit or that Kilcarne would obtain some interest in it.’
	Sir Martin Nourse LJ

In accordance with the Keech v Sandford principle, a trustee or fiduciary is not entitled to receive remuneration for his services unless he can establish that the remuneration is authorised.

CASE EXAMPLE

Williams v Barton [1927] 2 Ch 9 Mr Barton, one of two trustees, received commission as a stockbroker’s clerk when he introduced the trust to his firm of stockbrokers. Mr Barton took no part in the work of valuation. The co-trustee now claimed to recover the commission on behalf of the trust. The court held that despite the valuation being quite proper in the circumstances, Mr Barton was required to account for the commission, because the opportunity to earn the reward derived from his position as trustee.

JUDGMENT

‘It is a well-established and salutary rule of equity that a trustee may not make a profit out of his trust. A person who has the management of property as a trustee is not permitted to gain any profit by availing himself of his position, and will be a constructive trustee of any such profit for the benefit of the persons equitably entitled to the property.  The case is clearly one where his duty as trustee and his interest in an increased remuneration are in direct conflict. As a trustee, it is his duty to give the estate the benefit of his unfettered advice in choosing the stockbrokers to act for the estate; as the recipient of half the fees to be earned by George Burnand & Co on work introduced by him his obvious interest is to choose or recommend them for the job.’

Russell J

CASE EXAMPLE

Lister v Stubbs [1890] LR 45 Ch D 1 The Court of Appeal came to a conclusion similar to Heiron in respect of an employee who received a bribe from one of his employer’s suppliers. The bribe could not be considered as the property of the employer.

JUDGMENT

Then comes the question, as between [employer] and [employee], whether [the employee] can keep the money he has received without accounting for it? Obviously not. I apprehend that he is liable to account for it the moment that he gets it. It is an obligation to pay and account to [the employer]… But the relation between them is that of debtor and creditor; it is not that of trustee and cestui que trust. We are asked to hold that it is – which would involve consequences which, I confess, startle me. One consequence, of course, would be that, if [the employee] were to become bankrupt, this property acquired by him with the [bribe] would be withdrawn from the mass of his creditors and be handed over bodily to [the employer]. Can that be right? Another consequence would be that [the employer] could compel [the employee] to account to them, not only for the money with interest, but for all the profits which he might have made by embarking in trade with it. Can that be right? It appears to me that those consequences shew that there is some flaw in the argument.’

Lindley LJ

In contrast to the decision in Lister, the Privy Council in A-G for Hong Kong v Reid decided that Lister was wrongly decided. The bribe and its traceable proceeds were held on constructive trust for the principal. The reasoning was that as soon as the bribe was received it should have been paid or transferred instantly to the person who suffered from the breach of duty. Equity considers as done that which ought to have been done. Thus, when the bribe was received, whether in cash or in kind, the fiduciary holds it on a constructive trust for the person injured. If the property representing the bribe decreases in value, the fiduciary must pay the difference between that value and the initial amount of the bribe, because he should not have accepted the bribe or incurred the risk of loss. If the proceeds of the bribe were invested in assets which have appreciated in value, the principal would be entitled to retain the enhanced value of the asset for his benefit. In addition, if the fiduciary becomes insolvent his unsecured creditors will be deprived of their right to share in the proceeds of that property, for the unsecured creditors cannot be in a better position than their debtor. These results were achieved in A-G for Hong Kong v Reid [1994] 1 All ER 1.

CASE EXAMPLE

A-G for Hong Kong v Reid [1994] 1 All ER 1 The DPP of Hong Kong received bribes which were invested in properties in New Zealand. The Attorney General for Hong Kong brought an action for an account in respect of bribes received by Mr Reid and a declaration that the properties in New Zealand were held on trust for the government of Hong Kong. In the meantime the value of the properties had decreased in value. The question in issue concerned the status of a fiduciary who received a bribe, in particular, whether such a fiduciary became a mere debtor for the innocent party or alternatively a trustee for the aggrieved party. The defendants mounted an argument claiming that the fiduciary became a debtor for the innocent party and had no equitable interest in the properties, relying on the Court of Appeal decision in Lister v Stubbs 0890) 45 Ch D 1. The claimants asserted that the decision in Lister v Stubbs (1890) should not be followed, as it was inconsistent with basic equitable principles. The Privy Council decided in favour of the claimant on the ground that the bribe and representative property acquired by the fiduciary were subject to the claims of the injured party. Since the representative property had decreased in value, the fiduciary was liable to account for the difference between the bribe and the undervalue.

JUDGMENT

‘When a bribe is offered and accepted in money or in kind, the money or property constituting the bribe belongs in law to the recipient. Money paid to the false fiduciary belongs to him. The legal estate in freehold property conveyed to the false fiduciary by way of bribe vests in him. Equity, however, which acts in personam, insists that it is unconscionable for a fiduciary to obtain and retain a benefit in breach of duty. The provider of a bribe cannot recover it because he committed a criminal offence when he paid the bribe. The false fiduciary who received the bribe in breach of duty must pay and account for the bribe to the person to whom that duty was owed. In the present case, as soon as the first respondent received a bribe in breach of the duties he owed to the Government of Hong Kong, he became a debtor in equity to the Crown for the amount of that bribe … As soon as the bribe was received it should have been paid or transferred instantly to the person who suffered from the breach of duty. Equity considers as done that which ought to have been done. As soon as the bribe was received, whether in cash or in kind, the false fiduciary held the bribe on a constructive trust for the person injured.’

Lord Templeman

Endorsing the decision in Reid, the High Court in Daraydan Holdings Ltd v Solland Interiors Ltd decided that a fiduciary who receives a bribe or a secret commission becomes a constructive trustee. Such a fiduciary or agent who makes a secret profit is accountable to his trustee or principal. The agent should not put himself in a position where his duty and interest may conflict, for such bribes deprive the principal of objective advice from the agent to which the principal is entitled. The agent and the third party who pays the bribe are jointly and severally liable to account for the bribe and each may be liable in damages to the principal for fraud or deceit or conspiracy to deceive.

In proceedings against the third party who pays the bribe, it is unnecessary for the principal to prove:

■ that the third party acted with a corrupt motive;

■ that the agent’s mind was affected by the bribe;

■ that the third party knew or suspected that the agent would conceal the payment from the principal;

■ that the principal suffered any loss or that the transaction was in some way unfair.

CASE EXAMPLE

Daraydan Holdings Ltd and Others v Solland Interiors Ltd and Others [2004] EWHC 622 (Ch), HC The claimants were a Middle Eastern consortium that purchased residential properties in London. One of the defendants, Mr Khalid, was relied on by the claimants to identify and obtain quotations from contractors for the refurbishment of the properties and make recommendations to the claimants who made the final decision. Mr and Mrs Solland, who carried on business through a design and refurbishment company, Solland Interiors Ltd, were introduced to the claimants through Mr Khalid. Ultimately Solland Interiors was contracted to refurbish the properties of the claimants. However, Solland Interiors Ltd procured the discreet payment to Mr Khalid of 10 per cent of the sums paid by the claimants to Solland Interiors Ltd in the expectation of receiving additional contracts. This additional amount was surreptitiously written into the quotations provided by Solland Interiors Ltd to the claimants. A dispute arose between the claimants and Solland Interiors Ltd and the claimants became aware of the secret commissions paid to Mr Khalid. The claimants commenced proceedings against Solland Interiors Ltd and Mr Khalid. The claim against Solland Interiors Ltd was eventually settled. The claims against Mr Khalid were for an account of all secret commissions, an order for restitution of the secret profits and a declaration that they were received on resulting or constructive trust.  The court decided in favour of the claimants on the following grounds:

1. Mr Khalid was a fiduciary who extracted substantial payments from the Sollands and their companies in return for his influence in obtaining contracts from the claimants. 2. The bribes or secret commissions received by Mr Khalid were in breach of his fiduciary duties owed to the claimants. 3. Following the Privy Council decision in A-G for Hong Kong v Reid [1994] 1 AC 324, Mr Khalid became a constructive trustee for the claimants.

JUDGMENT

‘An agent or other fiduciary who makes a secret profit is accountable to his or her principal or cestui que trust. The agent and the third party are jointly and severally liable to account for the bribe, and each may also be liable in damages to the principal for fraud or deceit or conspiracy to injury by unlawful means. Consequently, the agent and the maker of the payment are jointly and severally liable to the principal (1) to account for the amount of the bribe as money had and received and (2) for damages for any actual loss. But the principal must now elect between the two remedies prior to final judgment being entered. The third party may also be liable on the basis of accessory liability in respect of breach of fiduciary duty: Bow-stead and Reynolds, para 8–221. The principal is also able to rescind the contract with the payer of the bribe.  I am wholly satisfied that, on any application of the concept of fiduciary, Mr Khalid was a fiduciary who extracted very substantial payments from the Sollands and their companies in return for his influence in obtaining and carrying out the contracts.’

Collins J

Moreover, Collins J in Daraydan expressed a preference for the decision of the Privy Council in Reid but, in any event, was able to distinguish Lister v Stubbs on two grounds. In Daraydan, the bribe received by Mr Khalid derived directly from the claimants’ property owing to the deception practised by the former. This amounted to restitution of money extracted from the claimants. Second, the portion representing the bribe was paid as a result of a fraudulent representation of the Sollands to which Mr Khalid was a party, giving the appearance that the invoice price was the true costs when in fact the costs had been inflated to pay the bribes.

JUDGMENT

‘[I]f this case were not distinguishable from Lister & Co v Stubbs, I would have applied AG for Hong Kong v Reid. There are powerful policy reasons for ensuring that a fiduciary does not retain gains acquired in violation of fiduciary duty, and I do not consider that it should make any difference whether the fiduciary is insolvent. There is no injustice to the creditors in their not sharing in an asset for which the fiduciary has not given value, and which the fiduciary should not have had.’

Collins J

In Halifax Building Society v Thomas [1996] 2 WLR 63, it was decided that a borrower who fraudulently induced a building society to execute a mortgage on a flat was entitled to the surplus proceeds of sale from the flat. This surplus was not held on resulting trust for the building society. Moreover, the building society had no restitutionary remedy against the borrower, whose unjust enrichment was not gained at the expense of the building society. Accordingly, the borrower was not a constructive trustee of the surplus funds for the society. On conviction of the borrower, the Crown Prosecution Service, as opposed to the society, was entitled to a charging order.

	‘I accept that the starting point must be Mr Thomas’ position before the confiscation order. Indeed the charging order only applied to Mr Thomas’ interest in the suspense account. Prima facie, that is governed by s 105 of the Law of Property Act 1925, dealing with the application of the proceeds of sale following the exercise by a mortgagee of his power of sale:
	The money which is received by the mortgagee, arising from the sale, after discharge of prior incumbrances to which the sale is not made subject, if any, or after payment into court under this Act of a sum to meet any prior incumbrance, shall be held by him in trust to be applied by him: first, in payment of all costs, charges, and expenses properly incurred by him as incident to the sale or any attempted sale, or otherwise; and secondly, in discharge of the mortgage money, interest, and costs, and other money, if any, due under the mortgage; and the residue of the money so received shall be paid to the person entitled to the mortgaged property, or authorised to give receipts for the proceeds of the sale thereof.
	In my judgment on the sale of the mortgaged property by the society, in 1989 Mr Thomas became entitled under s 105 to the surplus and the society could not have claimed the surplus on the ground of a further liability to account being established against him in subsequent proceedings.  On the facts of the present case, in my judgment, the fraud is not in itself a sufficient factor to allow the society to require Mr Thomas to account to it.  I would add that, in so far as the society relies on the submission that to allow a fraudster to take a profit derived from his fraud would be offensive to concepts of justice, the House of Lords in Tinsley v Milligan [1994] 1 AC 340, although divided in their decision, were unanimous in rejecting the public conscience test as determinative of the extent to which rights created by illegal transactions should be recognised. It is not appropriate to ask whether the allowance of a claim would be an affront to the public conscience.’
	Peter Gibson LJ

Recently, the Court of Appeal cast doubt on the decision in Reid, and decided that the receipt of unauthorised profits, obtained from property in breach of fiduciary duties, imposes only a personal liability to account, as distinct from a proprietary right over the property. This was the view taken in Sinclair Investments (UK) Ltd v Versailles.

CASE EXAMPLE

Sinclair Investments (UK) Ltd v Versailles Trade Finance Ltd and Others [2011] EWCA Civ 347, CA The first defendant, Versailles Trade Finance Ltd (VTFL), was the wholly owned principal trading subsidiary of the Versailles Group PLC (VGP), whose principal shareholderwas MrCarl Cushnie. VTFL’s main business was a modified form of factoring called accelerated payments trading. The nature of this business required funds received from clients to be used in the purchase of goods which had been agreed for sale. VTFL acquired funds from two main sources: first, from the claimant investors through an investment company, Trading Partners Ltd (TPL); second, from loans from the third and sixth defendant banks (the banks). Sinclair Investments Ltd was one of the traders who paid money to TPL and took an assignment of all claims of TPL and of other traders.  The funds advanced by TPL and the banks were passed to VTFL but were not used in the purchase of goods. Instead, the funds were (i) used to pay profits to traders, (ii) stolen by Mr Cushnie’s associate and co-conspirator, Mr Clough, or (iii) circulated around a number of other companies, also controlled by Mr Cushnie and/or Mr Clough. The purpose of this circulation of funds, referred to in the judgment as ‘cross-firing’, was to inflate VTFL’s apparent turnover and to mask the absence of any genuine business. Its scale was massive, amounting to about £500 million in total. For many years the fraud practised by Messrs Cushnie and Clough and their associate companies was well concealed. Banks, investors, VTFL’s auditors and the financial press were all taken in.  As a result of the fraud and the ‘cross-firing’ arrangements, shares in VGP increased in value and were offered to the public. The company was listed on AIM and was subsequently listed on the London Stock Exchange. Several years later, Mr Cushnie sold 5 per cent of his total holding at a grossly exaggerated value of £29 million. The proceeds of this sale were distributed to various parties, including repayments to the banks. After the fraud was discovered the companies were ordered to be wound up and liquidators were appointed. Messrs Cushnie and Clough were charged with criminal offences, convicted and sentenced to imprisonment.  As a result of the fraud, both the claimant investors and the defendant lenders suffered substantial losses. Some of the share sale proceeds had been recovered as a result of a settlement agreement between Mr Cushnie and the receivers of VTFL. The current proceedings arose out of a dispute between the claimant investors and the defendant banks over who would be entitled to the proceeds. TPL, through Sinclair Investments Ltd, asserted a proprietary claim to the proceeds of sale of Mr Cushnie’s shares, which alleged that Mr Cushnie held on constructive trust for TPL. The defendants conceded that Mr Cushnie was liable to account to TPL for the gain attributable to the misuse of TPL’s moneys, but contended that this obligation was a personal liability and not a proprietary claim against Mr Cushnie. The High Court (Lewison J) dismissed the claim. The claimant appealed to the Court of Appeal.

Held: The Court of Appeal unanimously dismissed the appeal and decided that the claimant was not entitled to assert a proprietary interest in the proceeds of sale of the shares sold by Mr Cushnie. Instead, the claimant was entitled to an equitable account in respect of money or assets acquired by a fiduciary in breach of his duties to the beneficiaries. The shares were neither beneficially owned by the claimant nor derived from opportunities beneficially owned by the claimant. Indeed, the shares were acquired by Mr Cushnie even before TPL was incorporated. Thus, the claimant did not have a proprietary interest in the shares, and the profits therefrom.

JUDGMENT

‘The mere fact that the breach of duty enabled Mr Cushnie to make a profit should not, of itself, be enough to give TPL a proprietary interest in that profit. Why, it may be asked, should the fact that a fiduciary is able to make a profit as a result of the breach of his duties to a beneficiary, without more, give the beneficiary a proprietary interest in the profit? After all, a proprietary claim is based on property law, and it is not entirely easy to see conceptually how the proprietary rights of the beneficiary in the misused funds should follow into the profit made on the sale of the shares… it does not matter to the defaulting fiduciary if he is stripped of his profits because they are beneficially owned by the beneficiary, or because he has to account for those profits to the beneficiary. But the difference very much matters to the other creditors of the defaulting fiduciary, if he is insolvent. A person with a proprietary claim to assets held in the name of an insolvent person is better off than a secured creditor, and all such assets are unavailable to other creditors.’ (emphasis added)

Lord Neuberger MR

In addition, it is arguable that the decision in Sinclair is over-generous to the trustee’s creditors, at the expense of the beneficiaries. According to Sinclair, a beneficiary’s claim is treated as a personal action against the trustee to account for the amount of the unauthorised remuneration. If the trustee becomes insolvent, the beneficiary will rank with the other unsecured creditors. But significantly the trustee has acted in breach of his core or fiduciary duties owed to the beneficiaries. Two fundamental principles that are applicable to fiduciaries are, the ‘no conflict’ and ‘no profit’ rules. The ‘no conflict’ rule, as indicated earlier, is a deterrent principle which discourages the fiduciary from putting himself in a position of conflict. The ‘no profit’ rule means that where such conflict occurs and the fiduciary makes an unauthorised profit by abusing his position, he is required to disgorge the profit in favour of the principal. These are strict duties which require the trustees to hold any unauthorised profits for the beneficiaries. To require an independent proprietary base for such profits may be regarded as excessively generous to the creditors and unnecessarily restrictive to the beneficiaries.

If the amount of the bribe has increased in value because it consisted of a benefit in kind that has escalated in value (e.g. a house), or the bribe consisted of money that was invested in property that has increased in value (e.g. 50,000 cash was invested in shares worth 75,000), the issue was whether the trustee could have retained the benefit which had been derived from the increased value of the bribe. In an obiter pronouncement Lord Neuberger MR in Sinclair suggested that in such a case the value of the property exceeding the amount of the bribe may be subject to a claim for equitable compensation:

JUDGMENT

‘It seems to me that this should be dealt with by extending, or adjusting, the rules relating to equitable compensation rather than those relating to proprietary interests. Such a course, as I see it, would do less violence to the law as consistently laid down (where it has been specifically addressed) in a number of domestic cases of high authority, whereas it would involve little interference with established authority relating to equitable compensation. In addition, the law relating to proprietary interests, being within the law of property, is inherently rather less flexible than the law relating to equitable compensation. Furthermore, extending the law relating to equitable compensation in such a case would interfere far less with the legitimate interests of other creditors than extending the law relating to proprietary interests.’

Lord Neuberger MR in Sinclair v Versailles

Thus, Lord Neuberger in Sinclair recognised the importance of ensuring that the fiduciary ought to be required to disgorge any profit he had made by investing the bribe. However, unlike Lindley LJ in Lister, he suggested that the personal duty to account might be ‘adjusted’ to transfer the profits to the principal. But this suggestion fails to acknowledge that the processes of following and tracing are part of property law which require a property base, as distinct from the personal duty to account.

CASE EXAMPLE

Cadogan v Tolly [2011] EWHC 2286 The claimant companies (which comprised a group of companies involved in gas exploration and exploitation of gas reserves in Ukraine) commenced proceedings against the defendants, a Ukraine national and chief operating officer of the claimants between 2007 and 2009 and a Delaware company owned and controlled by him. The claims were based inter alia in respect of secret commissions received by the defendants in relation to transactions entered on behalf of the claimants. The relief sought included declarations that various sums of money or their traceable proceeds were held on trust for the claimants. In substance a proprietary claim. The defendants contended that the effect of the decision of the Court of Appeal in Sinclair Investments Ltd v Versailles Ltd [2011] EWCA Civ 347 rendered the proprietary claim unsustainable.

Held: The High Court ruled inter alia that the claimants had no real prospect of succeeding in their proprietary claim, and summary judgment ought to be granted in favour of the defendant.

In the recent, definitive Supreme Court decision in FHR European Ventures v Cedar Capital Partners [2014] UKSC 45, the court reviewed the leading authorities concerning the status of bribes and secret commissions, and concluded that, in accordance with traditional equitable principles, and in the interests of practicality, clarity and consistency, bribes and secret commissions received by an agent or other fiduciary, in breach of his fiduciary duties, will be held on constructive trust for the principal. The effect of this ruling is that the principal acquires a proprietary interest in the benefit and is entitled to exercise either a proprietary or personal remedy against the agent. Thus, the principal is required to elect between the two remedies. The advantages of the proprietary remedy are that the principal is entitled to trace the proceeds of the bribe or secret commission into other assets and follow them into the hands of knowing recipients. In addition, if the agent becomes insolvent, a proprietary claim would effectively give the principal priority over the agent’s unsecured creditors, as opposed to ranking pari passu with other unsecured creditors where the claim is for compensation.

The court analysed the significant number of authorities on this subject and drew the following conclusions. First, where the agent or other fiduciary makes an unauthorised profit by taking advantage of opportunities, not involving bribes and secret commissions, arising by virtue of his fiduciary relationship, the ‘no conflict’ principle applied and the principal acquires a proprietary interest in the asset obtained by the agent. By way of illustration, in Phipps v Boardman (1967), agents of trustees purchased shares in circumstances where they only had the opportunity because they were agents, were required to hold the same beneficially for the trust. Second, the majority of the cases on bribes and secret commissions support the view that the same principles apply to all benefits received by the agent in breach of his fiduciary duties. In short, no distinction was drawn between the receipt of benefits generally and bribes and secret commissions specifically. The agent is required to hold the secret commission or bribe on trust for his principal rather than simply having an equitable duty to account to his principal. Third, the House of Lords’ decision in Tyrrell v Bank of London (1862) 10 HL Cas 26, and a number of Court of Appeal decisions, including Lister v Stubbs (1890) and Sinclair v Versailles (2011) appeared to have created a narrower rule, rejecting the proprietary remedy of the principal and reducing the claimant’s rights to the bribe or secret commission to a personal remedy for equitable compensation.

In the present case, the Supreme Court observed that a number of Court of Appeal authorities were inconsistent with the notion that the rule applies to bribes and secret commissions. In Metropolitan Bank v Heiron (1880) 5 Ex D 319, the issue concerned the Limitation Acts by analogy. In Lister v Stubbs an interlocutory injunction was refused on the ground that the relationship between the company and its agent was that of a creditor and debtor, not beneficiary and trustee. In Sinclair Investments v Versailles the Court of Appeal decided that it would follow Heiron and Lister. On the other hand, in AG for Hong Kong v Reid (1994), the Privy Council concluded that bribes received by a corrupt Director of Public Prosecutions were held on trust for his principal and could be traced into properties acquired in New Zealand. Lord Templeman disapproved of the reasoning in Heiron and Lister. The Supreme Court concluded by disapproving the House of Lords’ decision in Tyrrell and overruling the decisions in Heiron, Lister and subsequent cases that relied on these precedents, including Sinclair v Versailles.

CASE EXAMPLE

FHR European Ventures v Cedar Capital Partners [2014] UKSC 45 The claimants engaged the services of the defendants, Cedar Holdings, to investigate and negotiate the purchase price of the Monte Carlo Grand Hotel. The defendants entered into a brokerage agreement with the owners of the hotel in order to facilitate the sale of the hotel in return for a commission of €10 million. The defendants failed to inform the claimants of the brokerage agreement and the receipt of the commission. Following the purchase of the hotel the claimants became aware of the secret commission and issued proceedings claiming a proprietary interest in the amount of the commission. The defendants argued that the receipt of the monetary secret commission created a debtor/creditor relationship and, despite the breach of the agent’s fiduciary duties, the claimants’ remedy ought to be equitable compensation and not a proprietary remedy, relying on Tyrrell v Bank of London (1862), Lister v Stubbs (1890), Metropolitan Bank v Heiron (1880) and Sinclair Investments v Versailles (2011). The trial judge made a declaration to the effect that the defendants were required to pay the amount of the commission to the claimants but refused to grant a proprietary remedy in their favour. The Court of Appeal reversed the decision of the trial judge and granted the claimants a proprietary remedy. The defendants’ appeal to the Supreme Court was dismissed and a declaration was made to the effect that the secret commission of €10 million was held on constructive trust for the claimants. The court considered the wider application of the claimants’ argument as to whether the creation of a proprietary interest in the bribe or secret commission in favour of the principal has the effect of prejudicing the agent’s unsecured creditors. The court decided that there was limited force in this argument for the agent’s creditors may only be entitled to property that the agent is lawfully entitled to retain and cannot be in better position than the agent. Further, the bribe or commission will very often deplete the benefit which the principal would otherwise have obtained and, to that extent, may fairly be attributed to the principal, as illustrated in the present case. The vendor may have sold for less than the contract price if it was not required to pay the defendant a commission of €10 million.

JUDGMENT

The principal is entitled to the benefit of the agent’s unauthorised acts in the course of his agency, in just the same way as, at law, an employer is vicariously liable to bear the burden of an employee’s unauthorised breaches of duty in the course of his employment. The agent’s duty is accordingly to deliver up to his principal the benefit which he has obtained, and not simply to pay compensation for having obtained it in excess of his authority. The only way that legal effect can be given to an obligation to deliver up specific property to the principal is by treating the principal as specifically entitled to it.’

Lord Neuberger

Lord Neuberger addressed a wider point, namely, whether an agent should hold a bribe or secret commission on trust for his principal in circumstances where he could not have acquired the underlying property on behalf of his principal. The court remarked that leading authorities had decided that the principal acquired a proprietary interest in such property, see Keech v Sandford (1726) and Boardman v Phipps (1967). Lord Neuberger FHR Ventures v Cedar reasoned thus:

JUDGMENT

‘In each of these cases, a person acquired property as a result of his fiduciary or quasi-fiduciary position, in circumstances in which the principal could not have acquired it: yet the court held that the property concerned was held on trust for the beneficiary. In Keech, the beneficiary could not acquire the new lease because the landlord was not prepared to let him, and because he was an infant; in Boardman the trust could not acquire the shares because they were not authorised investments.’

The Supreme Court in FHR Ventures had regard to the inherently artificial and absurd distinction between an unauthorised benefit received by an agent in breach of his fiduciary duties and a bribe or secret commission obtained in similar circumstances. The principle in Heiron and Lister appeared to be that where a bribe or secret commission is paid to an agent in breach of his duties the principal has a proprietary interest in the bribe if it consists of shares, but not if it consists of money. Lord Neuberger dismissed this argument in the following manner:

JUDGMENT

‘[I]t would be artificial, impractical and absurd if the issue whether a principal had a proprietary interest in a bribe to his agent depended on the mechanism agreed between the briber and the agent for payment of the bribe.’

CASE EXAMPLE

Re Macadam [1946] Ch 73 The articles of a company provided that the trustees of a will had a power to appoint two persons to directorships. The trustees appointed themselves directors and received remuneration. The court held that they were liable to account to the trust for the directors’ fees received from the company.

JUDGMENT

‘Did he acquire the position in respect of which he drew the remuneration by virtue of his position as trustee? In the present case there can be no doubt that the only way in which the plaintiffs became directors was by the exercise of the powers vested in the trustees of the will under article 68 of the articles of association of the company.’ Cohen J

But if the defendant is appointed a director before he acquires the trust shares or secures his appointment as director by the use of shares held in his personal capacity, he is not accountable to the trust.

CASE EXAMPLE

Re Gee [1948] Ch 284 The issued capital of a private company, Gee & Co Ltd, was 5,000 £1 shares. Immediately before his death, Alfred Gee (the testator) was the registered holder of 4,996 shares in Gee & Co. The remaining four shareholders, who held one share each, were: Miss Gee (the testator’s sister); the testator’s wife; his daughter, Mrs Hunter; and his son-in-law, Mr Staples. By his will, the testator appointed his wife, Mrs Hunter and Mr Staples to be his executors and trustees after his death. After the death of the testator and before his will was probated, Mr Staples was appointed managing director of the company by the unanimous agreement of the three executors and Miss Gee, who together constituted all the registered beneficial shareholders at that time. Mr Staples agreed to act as director of the company, and received £1 5,721 as remuneration for the ten years that he managed the company. The beneficiaries under the will now claimed that Mr Staples was liable to account for the profit. The court rejected the claim and decided that Mr Staples was not accountable because he was appointed a director unanimously by the shareholders for qualities independent of the trust votes. The trust votes were not brought into play to secure his appointment.

JUDGMENT

‘After the death of the testator, only four persons remained on the register of this company, and they alone could attend meetings of it. As I have said before, the meeting of 6th January 1938 was attended by all the corporators. Each of them held one share, and as the resolutions were passed unanimously, they must be supposed to have voted in favour by the use of that share. If the corporators, as I think, held their shares beneficially, they were entitled to vote as they chose. If, on the other hand, they were nominees of the testator, there were still three of them whose votes outweighed the vote of Mr Staples if it was his duty to vote against his own interest. In neither event did the trust shares come into the picture at all.’ Harman J

‘Moreover, account must naturally be taken of expenditure which was necessary to enable the profit to be realised. But, in addition, should not the defendants be given an allowance or credit for their work and skill? It seems to me that this transaction, i.e. the acquisition of a controlling interest in the company, was one of a special character calling for the exercise of a particular kind of professional skill. If Boardman had not assumed the role of seeing it through, the beneficiaries would have had to employ … an expert to do it for them … It seems to me that it would be inequitable now for the beneficiaries to step in and take the profit without paying for the skill and labour which has produced it.’

A similar rule, as well as the rationale underlying the principle, was referred to by Lord Goff in Guinness v Saunders [1990] 2 AC 663, thus:

JUDGMENT

‘It will be observed that the decision to make the allowance was founded upon the simple proposition that it would be inequitable now for the beneficiaries to step in and take the profit without paying for the skill and labour which has produced it… The decision has to be reconciled with the fundamental principle that a trustee is not entitled to remuneration for services rendered by him to the trust except as expressly provided in the trust deed. Strictly speaking, it is irreconcilable with the rules so stated. It seems to me therefore that it can only be reconciled with it to the extent that the exercise of the equitable jurisdiction does not conflict with the policy underlying the rule. And, as I see it, such a conflict will only be avoided if the exercise of the jurisdiction is restricted to those cases where it cannot have the effect of encouraging trustees in any way to put themselves in a position where their interests conflict with their duties as trustees.’

But the wide discretion of the court to grant equitable allowance to the defendant will not be exercised where the latter is guilty of dishonesty or surreptitious dealing in connection with the trust property. On this basis the court in Cobbetts v Hodge (see above) refused to grant an allowance to the defendant for his work and skill on the ground that his conduct was designed to mislead the claimants. However, the court allowed the defendant to recover the costs of the shares. Floyd J reasoned thus:

JUDGMENT

‘It is easy to feel some sympathy for Mr Hodge, given his work for EL over a period of some three years. But it seems to me that to award him an allowance on the facts of the present case would offend against the principles stated by Wilberforce J in Phipps v Boardman and Lord Goff in Guinness v Saunders. Mr Hodge did not simply omit to disclose the arrangement with EL… he gave Mr Rimmer a misleading account of the basis of the acquisition of these shares. Moreover, to permit an allowance in these circumstances would be to encourage fiduciaries to place their own interests ahead of those whom they serve. For both those reasons I decline to order any allowance in the present case, beyond the cost of acquisition of the shares.’

Moreover, the court is entitled to increase the amount of the remuneration as laid down in the charging clause: see Re Duke of Norfolk’s Settlement Trusts [1981] 3 All ER 220.

Foster v Spencer, The Times, 14 June 1995 The court decided that, in the exercise of its inherent jurisdiction, trustees of a cricket club were entitled to remuneration for past services, but not to future remuneration. The trustees were extremely active in bringing about a sale of the site for a reasonable price. The decisive factors were: (i) There were no funds out of which to pay remuneration at the time of the appointment of the trustees. (ii) The refusal of the claim to remuneration would have resulted in the beneficiaries being unjustly enriched at the expense of the trustees. (iii) There was no true appreciation of the extent of the task at the time of appointment. Had the trustees realised what they were in for, they would have declined to act unless remunerated in some way.

Agreement with all the beneficiaries

If all the beneficiaries are sui juris and absolutely entitled to the trust property, they may agree to remunerate the trustees. It is essential that the beneficiaries act independently and without any undue influence from the trustees.

The rule in Cradock v Piper (1850) 1 Mac&G 664

A trustee/solicitor may act as a solicitor for himself and co-trustee in litigation involving the trust and may recover the costs for acting on behalf of his co-trustee. This anomalous rule is restricted to litigious work and may not be extended beyond the relationship of trustee/solicitor.

The rule in Re Northcote [1949] 1 All ER 442

The principle is that English executors and trustees, who are entitled to earn a commission under a foreign jurisdiction in which the trust assets are situated, are empowered to retain such remuneration for their own benefit.

CASE EXAMPLE

Re Northcote [1949] 1 All ER 442 A testator, domiciled in England, died leaving assets in England and the United States. His executors obtained a grant of probate in England. They also obtained a grant in New York in respect of the American assets. They collected the American assets and were entitled to agency commission under the law of that state. The question in issue was whether they were accountable for the commission. The court held that the executors were not accountable.

‘During … argument, two agreed labels emerged for the two rules, or two elements of the one rule; and for convenience of reference I shall use those labels. Without attempting in any way to set out all the details of the rules or elements, and merely for the purposes of identification, I propose to refer to them as follows: The self-dealing rule: if a trustee (1) purchases trust property from himself, any beneficiary may have the sale set aside ex debito justitiae, however fair the transaction. The fair-dealing rule: if a trustee (2) purchases his beneficial interest, the beneficiary may have the sale set aside unless the trustee can establish the propriety of the transaction, showing that he had taken no advantage of his position and that the beneficiary was fully informed and received full value.’ Megarry VC in Tito v Waddell (No 2) [1977] Ch 106

Reasons commonly associated with this harsh rule are that the trustees would otherwise be both vendors and purchasers and it would be difficult to ascertain whether an unfair advantage had been obtained by the trustees. In addition, the property may become virtually unmarketable since the title may indicate that the property was at one time trust property. Third parties may have notice of this fact and any disputes concerning the trust property may affect their interest. The aggrieved beneficiary is required to act within a reasonable time in order to avoid the sale. The rule cannot be avoided by conveying the property to a nominee of the trustees for the court will consider all the circumstances to ascertain whether an unfair advantage has been acquired by the trustees.

CASE EXAMPLE

Wright v Morgan [1926] AC 788 A testator by his will gave his son, Harry Herbert, the option to purchase a plot of land provided that the price was fixed by an independent valuer. Harry was also a trustee under the will. Harry assigned the option to Douglas Wright, his co-trustee and brother, but who was not authorised to purchase the property. Douglas retired from the trust and purported to exercise the option at a price fixed by the valuers. The beneficiaries under the will brought an action to set aside the sale. The court held that the sale ought to be set aside on the ground of a conflict of duty and interest.

CASE EXAMPLE

Regal (Hastings) Ltd v Gulliver [1942] 1 All ER 378 Regal Ltd received an offer from one of its subsidiaries to sell to Regal a quantity of shares. Regal did not have the specified amount of funds but four of its directors subscribed for the shares personally and later sold them for a profit. It was found as a fact that all the transactions were bona fide. Regal now claimed that the directors were accountable for their profit. The House of Lords held that the directors were accountable to the company.

JUDGMENT

‘I am of opinion that the directors standing in a fiduciary relationship to Regal in regard to the exercise of their powers as directors, and having obtained these shares by reason and only by reason of the fact that they were directors of Regal and in the course of the execution of that office, are accountable for the profits which they have made out of them. The equitable rule laid down in Keech v Sandford and Exp James, and similar authorities applies to them in full force.’ Lord Russel

Lord Russell in Regal expressed the rationale for liability to account as being simply that the fiduciary is prohibited from taking personal profits from any activity connected with his status as a fiduciary. He is required to perform his duties selflessly and it is immaterial that he does not act with impropriety.

JUDGMENT

The rule of equity which insists on those, who by use of a fiduciary position make a profit, being liable to account for that profit, in no way depends on fraud, or absence of bona fides; or upon such questions or considerations as whether the profit would or should otherwise have gone to the plaintiff, or whether the profiteer was under a duty to obtain the source of the profit for the plaintiff, or whether he took a risk or acted as he did for the benefit of the plaintiff, or whether the plaintiff has in fact been damaged or benefited by his action. The liability arises from the mere fact of a profit having, in the stated circumstances, been made.’ Lord Russell

CASE EXAMPLE

Industrial Development Consultants v Cooley [1972] 1 WLR 443 The defendant was the managing director of the claimant company. He was approached by the Chairman of the Eastern Gas Board to work for them, although at the time the claimant company was interested in a project for the Gas Board. In his capacity as managing director, he had obtained special knowledge which should have been passed on to the claimant company. Concealing this knowledge, he obtained his release from the service of the claimant, basing his request on alleged ill health. The claimant would not have released him had it known the full facts. The claimant sued the director alleging that he was a trustee of profits of his new contract on behalf of the claimant. The court held in favour of the claimant in view of the conflict of duty and interest in failing to pass on the information to the claimant.

JUDGMENT

‘It seems to me plain that throughout the whole of May, June and July 1969 the defendant was in a fiduciary relationship with the plaintiffs. From the time he embarked upon his course of dealing with the Eastern Gas Board, irrespective of anything which he did or he said to Mr Hicks, he embarked upon a deliberate policy and course of conduct which put his personal interest as a potential contracting party with the Eastern Gas Board in direct conflict with his pre-existing and continuing duty as managing director of the plaintiffs.’ Roskill J

JUDGMENT

‘It may be that the time has come when the court should revisit the operation of the inflexible rule of equity in harsh circumstances, as where the trustee has acted in perfect good faith and without any deception or concealment, and in the belief that he was acting in the best interests of the beneficiary. I need only say this: it would not be in the least impossible for a court in a future case to determine as a question of fact whether the beneficiary would not have wanted to exploit the profit himself, or would have wanted the trustee to have acted other than in the way that the trustee in fact did act. Moreover, it would not be impossible for a modern court to conclude as a matter of policy that, without losing the deterrent effect of the rule, the harshness of it should be tempered in some circumstances. In addition, in such cases, the courts can provide a significant measure of protection for the beneficiaries by imposing on the defaulting trustee the affirmative burden of showing that those circumstances prevailed. Certainly the Canadian courts have modified the effect of equity’s inflexible rule (see Peso Silver Mines Ltd v Cropper (1966) 58 DLR (2d) 1 ; see also the decision of the Privy Council on appeal from Australia in Queensland Mines v Hudson (1978) 52 AJLR 399), though I express no view as to the circumstances in which there should be any relaxation of the rule in this jurisdiction. That sort of question must be left to another court. In short, it may be appropriate for a higher court one day to revisit the rule on secret profits and to make it less inflexible in appropriate circumstances, where the unqualified operation of the rule operates particularly harshly and where the result is not compatible with the desire of modern courts to ensure that remedies are proportionate to the justice of the case where this does not conflict with some other overriding policy objective of the rule in question.’ Arden LJ

In Murad, two sisters undertook a joint business venture with the defendant to purchase a hotel. The defendant was required to contribute a specific amount towards the scheme but failed to disclose that he was entitled to earn a commission from the vendor to secure the deal. It was found that the defendant was a fiduciary and had fraudulently induced the claimants to enter into the transaction. The court decided that he was accountable to the claimants for the profits made on the transaction.

JUDGMENT

‘Mr Al-Saraj was found to have made a fraudulent misrepresentation to the Murads who had placed their trust in him. I do not consider that, even if we were free to revisit the Regal case, this would be an appropriate case in which to do so. The appropriate remedy is that he should disgorge all the profits, whether of a revenue or capital nature, that he made from inducing the Murads by his fraudulent representations from entering into the Parkside Hotel venture, subject to any allowances permitted by the court on the taking of the account. The imposition of liability to account for secret profits and the placing of the burden of proof on the defaulting trustee are not, however, quite the end of the matter. The kind of account ordered in this case is an account of profits, that is a procedure to ensure the restitution of profits which ought to have been made for the beneficiary and not a procedure for the forfeiture of profits to which the defaulting trustee was always entitled for his own account.’ Arden LJ

Although the general principle of avoiding a conflict of duty and interest is applied strictly by the courts, there are exceptional circumstances when a fiduciary may retain an unauthorised benefit. Each case is determined on its own facts. In Holder v Holder [1968] Ch 353, the Court of Appeal found a number of exceptional circumstances that entitled an executor to retain a benefit.

CASE EXAMPLE

Holder v Holder [1968] Ch 353 The testator appointed his widow, daughter and one of his sons, Victor, to be his executors and trustees. Victor at first took a few minor steps in connection with the administration of the estate (signing cheques, etc.) but then abstained from taking any further part in the administration. One of the assets of the estate included a farm. Victor had acquired no special knowledge of the farm in his capacity as executor and all his knowledge about the farm was acquired as a tenant of that farm. The farm was then offered for sale at an auction, subject to Victor’s tenancy. At the auction, Victor made a successful bid for the farm. Another son applied to the court for the sale to be set aside. The court held that the sale ought not be set aside, for the following reasons: ■ Victor had not instructed the valuer nor had he arranged the auction. Thus, Victor could not be construed as both a vendor and purchaser. ■ Victor had never assumed the duties of executor, for he had done virtually nothing in the administration of the estate, nor had Victor any influence on the two other executors in respect of the sale. ■ In any case, Victor had made no secret of his intention to buy the farm and had paid a good price for the property. ■ Victor was not relied upon by other beneficiaries to protect their interests.

JUDGMENT

‘In this case Victor’s … interference with the administration of the estate was of a minimal character and the last cheque he signed was in August before he executed the deed of renunciation. He took no part in the instructions for probate, nor in the valuations or fixing of the reserves. Everyone concerned knew of the renunciation and of the reason for it, namely, that he wished to be a purchaser.’ Harman LJ

A similar principle applies in respect of the purchase by the trustee of the beneficiary’s interest. This is known as the ‘fair dealing’ rule. The test here is whether the beneficiary was capable of exercising an independent judgment after full disclosure by the trustee. The presumption is that the trustee exercised undue influence on the beneficiary. The burden of proof is therefore on the trustee to rebut this presumption. In disputed cases the trustee is required to establish that the contract with the beneficiary is distinct and clear, after a jealous and scrupulous examination of all the circumstances, proving that the beneficiary intended the trustee to purchase his interest; and that there was no fraud, no concealment, no advantage taken, by the trustee of information, acquired by him in the character of trustee. This is a question of degree.

JUDGMENT

‘The trust which the plaintiff has established is clearly an express trust… which both plaintiff and defendant intended to create. This case is not one in which an equitable obligation arises although there may have been no intention to create a trust. The intention to create a trust existed from the first.’ Lindley LJ

In Bannister v Bannister [1948] 2 All ER 133, Scott LJ in the Court of Appeal explained the nature of a fraudulent transaction that would attract the constructive trust. The fraud may involve a transfer of property with the object of defeating the equitable interest or any other occasion when the defendant sets up the absolute nature of the legal title in order to defeat the beneficiary’s interest. In any event, in this case the Court of Appeal regarded the Rochefoucauld decision as a case involving a constructive trust.

JUDGMENT

‘It is clearly a mistake to suppose that the equitable principle on which a constructive trust is raised against a person who insists on the absolute character of a conveyance to himself for the purpose of defeating a beneficial interest, which, according to the true bargain, was to belong to another, is confined to cases in which the conveyance itself was fraudulently obtained. The fraud which brings the principle into play arises as soon as the absolute character of the conveyance is set up for the purpose of defeating the beneficial interest, and that is the fraud to cover which the Statute of Frauds or the corresponding provisions of the Law of Property Act 1925, cannot be called in aid in cases in which no written evidence of the real bargain is available. Nor is it, in our opinion, necessary that the bargain on which the absolute conveyance is made should include any express stipulation that the grantee is in so many words to hold as trustee. It is enough that the bargain should have included a stipulation under which some sufficiently defined beneficial interest in the property was to be taken by another.’ Scott LJ

KEY FACTS

	Constructive trusts – duty to account
	Trustee (fiduciary) making unauthorised profits (to prevent unjust enrichment)	Keech v Sandford (1726); Boardman v Phipps (1967); Banner Homes v Luff (2000)
	Secret profits received by fiduciary	A-G for Hong Kong v Reid (1994) (contrast Lister v Stubbs (1890))
	Unauthorised receipt of remuneration by trustee or fiduciary	Re Macadam (1946); Williams v Barton (1927)
	Unauthorised purchases of trust property	Wright v Morgan (1926); Regal (Hastings) Ltd v Gulliver (1942)
	Contracts for the sale of land	Lysaght v Edwards (1876)
	Equity will not allow a statute to be used as an engine for fraud	Rochefoucauld v Boustead (1897); Hodgson v Marks (1971)