Tracing in English law

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Tracing in English law is a procedure to identify property (such as money) that has been taken from the claimant involuntarily. It is not in itself a way to recover the property, but rather to identify it so that the courts can decide what remedy to apply. The procedure is used in several situations, broadly demarcated by whether the property has been transferred because of theft, breach of trust, or mistake.

Contents

Tracing is divided into two forms, common law tracing and equitable tracing. Common law tracing relies on the claimant having legal ownership of the property, and will fail if the property has been mixed with other property, the legal title has been transferred to the defendant, or the legal title has been transferred by the defendant to any further recipient of the property. Equitable tracing, on the other hand, relies on the claimant having an equitable interest in the property, and can succeed where the property has been mixed with other property.

Defences to tracing are possible, particularly if returning the property would harm an innocent defendant, where the claimant has made false representations that the defendant relied on to his detriment, or where the property has been transferred to an innocent third party without anything given to the defendant in return that the claimant could recover in lieu.

Definition

Tracing is a process that allows for the recovery of original property (such as land or money) by the owner if it is taken involuntarily, and the owner has not consented to the transfer of title. This can be through theft, breach of trust, or mistake. Owners can recover their property and perhaps also any profits made from it, or in situations where the property cannot be recovered (as it has been mixed in with other property, or cannot be found), substitute property. [1] It also shows any proceeds of sale or property purchased using trust property in the hands of the trustee or third parties. The process has two steps, following and tracing. In Foskett v McKeown, [2] Lord Millett defined them by saying that "[Following and tracing] are both exercises in locating assets which may or may be taken to represent an asset belonging to the [claimants] and to which they assert ownership. The process of following and tracing are, however, distinct. Following is the process of following the same asset as it moves from hand to hand. Tracing is the process of identifying a new asset as the substitute for the old". [3] Following, therefore, is simply establishing who the original owner of property is, where that property is, and returning it to the original owner. Tracing arises when the property cannot be returned and the court is asked to recognise an interest in new property, such as whatever the defendant received in exchange for the claimant's original property. [3] Tracing can occur at both the common law and equity. It is not a remedy for breach of trust; tracing is merely the process of identifying the property. It is then up to the courts to decide what will happen to it. [4]

Tracing in common law

Common law tracing is where the claimant seeks to identify property that belongs to him at common law. This is where physical possession of the property passes, but not legal ownership. [5] The problem with common law tracing is that the property must be identifiable; if it has been mixed with other property, such as money paid into an account with other money from a different source, it cannot be successfully recovered. [6] In FC Jones & Sons v Jones there as no mixing of property (In a bank account or otherwise) with any other property, so the property was reclaimed. [7] It is also essential that the involuntary transfer did not also transfer the legal title, nor any succeeding transfer. If this has happened, the property is also not recoverable under the common law. Someone with an equitable interest in the property but no legal title, as in MCC Proceeds v Lehman Brothers, [8] cannot recover the money under common law. [9] Due to these limitations, "many leading academics and judges" have suggested that common law tracing should be completely merged with equitable tracing. [10]

Tracing in equity

Equitable tracing is based not on legal ownership but on the claimant's possession of an equitable interest. There are several advantages to equitable tracing; first, it can trace property now mixed with other property. In Boscawen v Bajwa, [11] Millett justified this by saying that "equity's power to charge a mixed fund with the repayment of trust moneys enables the claimant to follow the money, not because it is his, but because it is derived from a fund which is treated as if it were subject to a charge in his favour". [12] A limitation is that where the property has been put into a bank account that no longer contains enough money to repay it, it cannot be traced. [13]

For equitable tracing to be valid, several things must be demonstrated. First, the equitable title must exist; it can be brought into existence by the courts, such as in Constructive trusts. [14] Secondly, there must be some kind of fiduciary relationship between the claimant and the defendant. If the property was transferred through breach of trust, it will not be necessary to establish such a relationship, because it already exists. In addition, property transferred through breach of trust may be traced to any third party (other than a purchaser in good faith), even if they did not previously have a fiduciary relationship with the claimant. [15] Historically, the courts have been willing to be "generous in finding that the necessary fiduciary relationship existed", even going so far as to recognise relationships that did not exist at the time of the transfer. [16]

Mixture of trust funds with trustee's funds

Equitable tracing's greatest strength is its ability to trace into mixtures of money. Different rules apply in different situations; where the money has been mixed with the money of a trustee, where a trust fund has been mixed with another trust fund (or money belonging to an innocent volunteer), and where money has been transferred by mistake rather than malicious intent. [17] Where the money has been mixed with the money of a trustee, the court's decision depends on the motive of the trustee. Because a trustee is expected to invest trust property and behave honestly, the courts may choose to find that the trustee transferred the money to further the goal of the trust. Since the trustee is assumed to behave honestly, any profits made may be assumed (by this "convenient fiction") to be made by the trust money, and any losses from the trustee's personal funds. [18]

The alternate approach taken is the "beneficiary election" approach. This is that where trust funds are wrongly mixed with the trustee's personal funds, used for an investment, and the money is thus not recoverable, the beneficiaries are allowed to "elect" whether the investment is to be held as a security for the amounts owed to them, or whether to take the unauthorised investment as part of the trust fund. This is considered the exception, rather than the rule; in Foskett v McKeown, Millett said that "The primary rule in regard to a mixed fund, therefore, is that gains and losses are borne by the contributors rateably. The beneficiary's right to elect instead to enforce a lien to obtain repayment is an exception to the primary rule, exercisable where the fund is deficient and the claim is made against the wrongdoer and those claiming through him". [19]

Innocent parties and mistake

Where funds are mixed with those of another trust, or mixed with the funds of an "innocent volunteer", certain general principles apply. As laid out in Re Diplock , [20] the principle applied is that the claimant's entitlement ranks pari passu to that of the volunteer; each has an equal claim to their funds. [21] Whether the fund decreases or increases in value, each party can claim a percentage equal to their contribution. [22] The problem here comes if the mixed funds are used in unequal chunks to acquire other property. The long-standing rule is that established in Clayton's Case; [23] that the money deposited first is deemed to be spent on the first property purchased. The problem with this is that if the first property becomes less valuable than the second property purchased, the first claimant loses some of their money while the second claimant is able to claim their money in its entirety. [24] The alternate approach is the previously mentioned pari passu idea; whatever the total property is worth, the claimants get a share proportionate to their input, without assuming that the first claimant's money is tied to the first property purchased and the second claimant's money to the second property. In Barlow Clowes International v Vaughan, [25] the Court of Appeal applied a similar set of principles, holding that the size of the contribution and the amount of time the money was part of the mixed fund were the factors to be considered. [26]

Where payments have been made by mistake claimants may or may not be able to recoup their losses. The leading case is Westdeutsche Landesbank Girozentrale v Islington LBC , [27] where Lord Browne-Wilkinson declared that a constructive trust would be created when the recipient of the funds became aware of the mistaken transfer. As such, ignorance of the mistake would not create a fiduciary relationship, therefore not a trust, and the property would be untraceable. [28]

Loss of the right to trace and defences

The right to trace may be lost if the property cannot be found, or no longer exists. [29] Defences to tracing are possible. The "change of position" defence is where the defendant has received property and giving it back would change his personal circumstances. This was concisely defined by Lord Goff in Lipkin Gorman v Karpnale as "Where an innocent defendant's position is so changed that he will suffer an injustice if called upon to repay or to repay in full, the injustice of requiring him so to repay outweighs the injustice of denying the plaintiff restitution". [30] Such a defence is closely linked with unjust enrichment, and has limitations. Any bad faith on the part of the defendant will invalidate the defence, such as if the recipient of the property has encouraged the payer to transfer it or has received it by mistake and then used it without making enquiries. [31] The defence is also not available to people who act illegally, as in Barros Mattos v MacDaniels Ltd. [32] Activity which constitutes a "change of position" can be broadly defined as taking steps which would not otherwise have been taken, or not taking steps which otherwise would have been taken, as a result of receiving the property. [33]

Another defence is that of "estoppel by representation". This is similar to "change of position", and comes about when the defendant can show that the claimant made some false representation to him, which he acted upon to his detriment. Traditionally, the entire property would be the defendant's if the defence was successful. In National Westminster Bank plc v Somer International, [34] however, the Court of Appeal decided that the defendant was only allowed to retain property equal to his losses due to the claimant's representation. [35] Another defence similar to "change of position" is that of passing on, where the defendant has passed the property on to a third person without any benefit for the defendant; it is thus impossible to trace the property as the defendant has neither the property nor any proceeds from transferring it. [36]

Barriers to tracing

Tracing can be barred in three types of situations. One is where property is in the hands of a bona fide purchaser for value without notice. This is when someone buys trust property with good faith not knowing that it is trust property, and provides value for it, then it cannot be traced into their hands. Another is where the property has been dissipated or destroyed, for example when money has all been spent on living expenses. Lastly, if the money has been used to improve the land; in that case, it is inequitable to trace, and the beneficiaries cannot assert any property claim. In Re Diplock a large amount of money was thought to be held on charitable trust. That charitable trust was invalid, but by the time that was established, a lot of money had been given to charities. The Court of Appeal looked at how much of that money could be traced into the hands of the charities that received it as innocent volunteers. It was held that any charity that had used the money that it received to improve their land, the tracing claim failed [37]

Backwards tracing

Backwards tracing applies where the asset was acquired before the breach of trust, and trust money is used to pay off a loan used to buy the asset. It is only allowed if there is 'co-ordination' between the acquisition of the asset and the breach of trust. The trustee must have borrowed the money with the intention, at the time, of using trust money to discharge it. In Federal Republic of Brazil v Durant International Corporation [38] it was held that backwards tracing is not allowed where the trustee uses the money to pay off a loan, and thereby acquires unencumbered title to whatever was bought with the loan. You cannot backwards trace an asset which was acquired before the breach of trust unless there is co-ordination between the acquisition of asset and the breach of trust.

Related Research Articles

The law of restitution is the law of gains-based recovery, in which a court orders the defendant to give up his gains to the claimant. It should be contrasted with the law of compensation, the law of loss-based recovery, in which a court orders the defendant to pay the claimant for their loss.

Constructive trust

A constructive trust is an equitable remedy imposed by a court to benefit a party that has been wrongfully deprived of its rights due to either a person obtaining or holding a legal property right which they should not possess due to unjust enrichment or interference, or due to a breach of fiduciary duty, which is intercausative with unjust enrichment and/or property interference. It is a type of implied trust.

Equitable remedies are judicial remedies developed by courts of equity from about the time of Henry VIII to provide more flexible responses to changing social conditions than was possible in precedent-based common law.

Tracing (law)

Tracing is a legal process, not a remedy, by which a claimant demonstrates what has happened to his/her property, identifies its proceeds and those persons who have handled or received them, and asks the court to award a proprietary remedy in respect of the property, or an asset substituted for the original property or its proceeds. Tracing allows transmission of legal claims from the original assets to either the proceeds of sale of the assets or new substituted assets.

English trust law

English trust law concerns the protection of assets, usually when they are held by one party for another's benefit. Trusts were a creation of the English law of property and obligations, and share a subsequent history with countries across the Commonwealth and the United States. Trusts developed when claimants in property disputes were dissatisfied with the common law courts and petitioned the King for a just and equitable result. On the King's behalf, the Lord Chancellor developed a parallel justice system in the Court of Chancery, commonly referred as equity. Historically, trusts have mostly been used where people have left money in a will, or created family settlements, charities, or some types of business venture. After the Judicature Act 1873, England's courts of equity and common law were merged, and equitable principles took precedence. Today, trusts play an important role in financial investment, especially in unit trusts and in pension trusts. Although people are generally free to set the terms of trusts in any way they like, there is growing legislation to protect beneficiaries or regulate the trust relationship, including the Trustee Act 1925, Trustee Investments Act 1961, Recognition of Trusts Act 1987, Financial Services and Markets Act 2000, Trustee Act 2000, Pensions Act 1995, Pensions Act 2004 and Charities Act 2011.

The English law of unjust enrichment is part of the English law of obligations, along with the law of contract, tort, and trusts. The law of unjust enrichment deals with circumstances in which one person is required to make restitution of a benefit acquired at the expense of another in circumstances which are unjust.

The creation of express trusts in English law must involve four elements for the trust to be valid: capacity, certainty, constitution and formality. Capacity refers to the settlor's ability to create a trust in the first place; generally speaking, anyone capable of holding property can create a trust. There are exceptions for statutory bodies and corporations, and minors who usually cannot hold property can, in some circumstances, create trusts. Certainty refers to the three certainties required for a trust to be valid. The trust instrument must show certainty of intention to create a trust, certainty of what the subject matter of the trust is, and certainty of who the beneficiaries are. Where there is uncertainty for whatever reason, the trust will fail, although the courts have developed ways around this. Constitution means that for the trust to be valid, the property must have been transferred from the settlor to the trustees.

Constructive trusts in English law are a form of trust created by the English law courts primarily where the defendant has dealt with property in an "unconscionable manner"—but also in other circumstances. The property is held in "constructive trust" for the harmed party, obliging the defendant to look after it. The main factors that lead to a constructive trust are unconscionable dealings with property, profits from unlawful acts, and unauthorised profits by a fiduciary. Where the owner of a property deals with it in a way that denies or impedes the rights of some other person over that property, the courts may order that owner to hold it in constructive trust. Where someone profits from unlawful acts, such as murder, fraud, or bribery, these profits may also be held in constructive trust. The most common of these is bribery, which requires that the person be in a fiduciary office. Certain offices, such as those of trustee and company director, are always fiduciary offices. Courts may recognise others where the circumstances demand it. Where someone in a fiduciary office makes profits from their duties without the authorisation of that office's beneficiaries, a constructive trust may be imposed on those profits; there is a defence where the beneficiaries have authorised such profits. The justification here is that a person in such an office must avoid conflicts of interest, and be held to account should he fail to do so.

A Quistclose trust is a trust created where a creditor has lent money to a debtor for a particular purpose. If the debtor uses the money for any other purpose, then it is held on trust for the creditor. Any inappropriately spent money can then be traced, and returned to the creditors. The name and trust comes from the House of Lords decision in Barclays Bank Ltd v Quistclose Investments Ltd (1970), although the underlying principles can be traced back further. There has been much academic debate over the classification of Quistclose trusts in existing trusts law: whether they are resulting trusts, express trusts, constructive trusts or, as Lord Millett said in Twinsectra Ltd v Yardley, illusory trusts.

<i>Westdeutsche Landesbank Girozentrale v Islington LBC</i> English legal case

Westdeutsche Landesbank Girozentrale v Islington LBC[1996] UKHL 12 is a leading English trusts law case concerning the circumstances under which a resulting trust arises. It held that such a trust must be intended, or must be able to be presumed to have been intended. In the view of the majority of the House of Lords, presumed intention to reflect what is conscionable underlies all resulting and constructive trusts.

<i>Foskett v McKeown</i>

Foskett v McKeown[2000] UKHL 29 is a leading case on the English law of trusts, concerning tracing and the availability of proprietary relief following a breach of trust.

<i>Bishopsgate Investment Management Ltd v Homan</i>

Bishopsgate Investment Management Ltd v Homan [1994] EWCA Civ 33 is an English trusts law case about whether a beneficiary whose fiduciary breaches trust, may trace assets through an overdrawn account to its destination.

<i>Sinclair Investments (UK) Ltd v Versailles Trade Finance Ltd</i>

Sinclair Investments (UK) Ltd v Versailles Trade Finance Ltd[2011] EWCA Civ 347 is an English trusts law case, concerning constructive trusts. Sinclair was partially overruled in July 2014 by the UK Supreme Court in FHR European Ventures LLP v Cedar Capital Partners LLC.

<i>Re Diplock</i> English case

Re Diplock or Ministry of Health v Simpson [1951] AC 251 is an English trusts law and unjust enrichment case, concerning tracing and an action for money had and received.

<i>Re Halletts Estate</i>

Re Hallett’s Estate (1880) 13 Ch D 696 is an English trusts law case, concerning asset tracing.

<i>El Ajou v Dollar Land Holdings plc</i>

El Ajou v Dollar Land Holdings plc[1993] EWCA Civ 4 is an English trusts law case concerning tracing and receipt of property in breach of trust.

Relfo Ltd v Varsani [2014] EWCA Civ 360 is an English unjust enrichment law case, concerning to what extent enrichment of the defendant must be at the expense of the claimant.

James Roscoe (Bolton) Ltd v Winder [1915] 1 Ch 62 is an English trusts law case, concerning asset tracing.

<i>FHR European Ventures LLP v Cedar Capital Partners LLC</i>

FHR European Ventures LLP v Cedar Capital Partners LLC[2014] UKSC 45 is a landmark decision of the United Kingdom Supreme Court which holds that a bribe or secret commission accepted by an agent is held on trust for his principal. In so ruling, the Court partially overruled Sinclair Investments (UK) Ltd v Versailles Trade Finance Ltd in favour of The Attorney General for Hong Kong v Reid (UKPC), a ruling from the Judicial Committee of the Privy Council on appeal from New Zealand.

<i>AIB Group (UK) plc v Mark Redler & Co Solicitors</i>

AIB Group (UK) plc v Mark Redler & Co Solicitors [2014] UKSC 58 is an English trust law case, concerning the applicable principles of causation for a breach of trust. It held that a "but for" test of causation applies for equitable compensation.

References

  1. Hudson (2009) p.807
  2. [2001] 1 AC 102
  3. 1 2 Hudson (2009) p.812
  4. Hudson (2009) p.813
  5. Edwards (2007) p.477
  6. Edwards (2007) p.478
  7. FC Jones & Sons v Jones [1997] Ch 159
  8. [1998] 4 All ER 675
  9. Edwards (2007) p.479
  10. Hudson (2009) p.815
  11. [1995] 4 Al ER 769
  12. Hudson (2009) p.819
  13. Hudson (2009) p.822
  14. Edwards (2007) p.481
  15. Trustee of FC Jones and Son (a firm) v Jones [1996] EWCA Civ 1324
  16. Edwards (2007) p.482
  17. Hudson (2009) p.823
  18. Hudson (2009) p.824
  19. Hudson (2009) p.825
  20. [1948] Ch 465
  21. Hudson (2009) p.826
  22. Hudson (2009) p.828
  23. (1816) 1 Mer 572
  24. Hudson (2009) p.831
  25. [1992] 4 AllER 22
  26. Hudson (2009) p.832
  27. [1996] AC 669
  28. Hudson (2009) p.835
  29. Hudson (2009) p.837
  30. Hudson (2009) p.854
  31. Hudson (2009) p.855
  32. [2004] 3 All ER 299
  33. Hudson (2009) p.857
  34. [2002] QB 1286
  35. Hudson (2009) p.863
  36. Hudson (2009) p.864
  37. Re Diplock [1948] Ch 465, 546-8
  38. Federal Republic of Brazil v Durant International Corporation [2016] UKPC 35

Bibliography

Category:Judicial remedies