Enough evidence on trusts – where are the State’s actions?

Our two last papers on trusts (here and here) described trusts’ involvement in grand corruption and other cases that would anger any rational person. The Paradise Papers, and recent case law, shed outrageous new light on trusts’ role in worsening inequality, shielding assets from legitimate creditors, and avoiding or evading taxes.

Why does society tolerate these kinds of trusts? When will governments take action? Do we want to live in a world where, as Oxfam put it, “8 men own the same wealth as half of the world”?

Inequality and transparency

The Paradise Papers reveal that even the Forbes list used by Oxfam may well be underestimating the problem. The International Consortium of Investigative Journalists (ICIJ) which co-ordinated the investigations, investigated James H. Simons, the billionaire founder of the hedge fund Renaissance Technologies, and trust lawyer John Richmond, familiar with his affairs:

If Richmond sounded dismissive of Forbes’ estimate, one reason may have been simple: The magazine hadn’t captured the full extent of Simons’ wealth. Richmond knew what Forbes apparently didn’t: In addition to his billions of dollars in U.S. assets, Simons had amassed $7.25 billion in a low-profile Bermudan trust that is one of the largest private trust funds ever discovered. A confidential accounting document attached to the 2010 filing projects the offshore fortune growing to $15 billion by the end of this year and reaching $35 billion by 2030.”

Not only are billionaires concentrating this much wealth, resulting in unsustainable levels of global inequality, but they may be very successful in hiding that wealth too.

Offshore, legality and avoidance

Tax havens and offshore lawyers routinely state that “there is nothing illegal with setting up an offshore entity”. True. The principle of setting one up is not illegal.  It is also not illegal to buy each of the individual parts and supplies required to create a parcel bomb.  The illegality comes with what you do with those elements. When bombs or guns are used to murder, or to commit a terrorist attack, the illegality becomes obvious. But with trusts and other offshore entities, their illegal use and effects can remain hidden. So this “lack of illegality” that offshore lawyers (and, to be fair, many ill-informed journalists) keep asserting may simply reflect a lack of awareness by authorities or investigators.

Just as authorities need to investigate people who buy supplies for a bomb, so countries should investigate and take measures when individuals, especially public officers and high net worth individuals, go offshore.  Why set up a Cayman trust if neither the settlor, the assets or beneficiaries are in Cayman?

The Paradise Papers suggest why many people go offshore. The same ICIJ article on Simons refers also to his foundation:

The decision to transfer Simons’ portion of the offshore trust to the new Bermudan foundation is likely a boon to philanthropy with few precedents. But the offshore charity also raises questions. (…) The new foundation operates in obscurity. It is exempt from filing the detailed annual reports required by the Internal Revenue Service, and appears to have little footprint in Bermudan public filings.”

Trusts used to hide ownership to shield assets from creditors

The recent Pugachev case in the UK concerning a Russian oligarch, previous to the Paradise Papers, shows that it is not just NGOs and journalists claiming that trusts are abused in order to hide assets and protect them from creditors. In this case it was also a UK judge, the Hon. Mr. Justice Birss. First, on the use of trusts in general to hide ownership, he said:

Consider an unscrupulous person is trying to “protect” one of their assets from creditors when the asset is a house. Since the asset is real property, it can be seen, identified and there is likely to be a public register of ownership, as there is in the UK. The simpler kind of trust achieves a significant goal for the person because it allows the public information to name the trustee as the owner of the house instead of the person. The trustee can be an anonymous “special purpose vehicle”, in other words a company with no assets whose directors and shareholders are professionals. All the better if the trusts and the trustees are in a jurisdiction a long way away; that just makes the task of searching a little bit harder.”

Then he goes on to lay out more sophisticated uses of discretionary trusts (as we’ve detailed here: because assets or income held in them are only potentially distributed to some or all of a range of potential beneficiaries at the discretion of the trustee, none of them are actually entitled to the trust’s assets until a distribution is made.) It is worth following this in a little detail, as a reminder of how trusts go far beyond secrecy in devious, complex ways to enable wealthy people to pretend they have given their assets away, while in reality retaining effective ownership and control:

By passing the house into a discretionary trust which names the unscrupulous person as one of the discretionary beneficiaries, the person can achieve a number of goals. They can hide their relationship with the property by having the trustees named on the public registers as the owner. They can also truly state that they have no proprietary interest in or beneficial ownership of the property and, given that they are not the beneficial owner, a creditor who does find out about the property cannot get their hands on it.”

And, on why discretionary trusts need a “protector”:

But there is a problem. Subject to the law on unwinding transactions to defraud creditors, if a person gives away their property to someone else then it is no longer theirs. But that is not what the unscrupulous person in the example wants to do at all. As far as they are concerned the property is theirs. The objective is not to lose control of it, the objective is to hide it and protect it from creditors. Since the unscrupulous person would only be a discretionary beneficiary in this example, the trustees acting lawfully might well not do that person’s bidding at all and might refuse to distribute the property back to the unscrupulous person.

(…) In the example of an unscrupulous person seeking to use a discretionary trust to protect assets from creditors, a trust which includes a role for that unscrupulous person as a protector with very wide powers of veto and to remove and appoint trustees may perhaps achieve the desired result. The unscrupulous person is only a discretionary beneficiary and so can truly state to a court that they do not hold any of the assets beneficially. However consider a protector who is not a fiduciary. In the capacity of such a protector, the unscrupulous person can prevent the trustees from distributing the money to anyone but himself (or herself) and can remove recalcitrant trustees who fail to do his or her bidding and replace them with trustees willing to do what the unscrupulous person wants. Viewed in that way, perhaps the discretionary trust is not really a discretionary trust at all; the unscrupulous person has retained effective control of the assets or at least can recover that control whenever they like.” (emphasis added)

In the end, the judge concludes:

I find that at all material times he regarded all the assets in these trusts as belonging to him and intended to retain ultimate control. The point of the trusts was not to cede control of his assets to someone else, it was to hide his control of them. In other words Mr Pugachev intended to use the trusts as a pretence to mislead other people, by creating the appearance that the property did not belong to him when really it did. The role of Protector was the means by which control was to be exercised. The position of Victor as a potential Protector was part of the pretence. Victor was acting on his father’s instructions. (…) The whole scheme was set up to facilitate a pretence about ownership (or rather its absence) should the need arise.”

As a consequence of the Pugachev case, law firms now advise more care when setting up a trust. For example, Collas Crill wrote:

This case is a significant ruling which arguably provides support for an additional head of claim for a creditor wishing to attack assets of a trust. Until now, a creditor’s primary means of attack had been to allege a trust is a sham, which requires the claimant to show a common intention of all parties to retain control and ownership of the trust assets. Creditors may now look to the terms of the trust’s constituting instrument to assess whether a settlor has effective control and ownership of the trust assets. This case is therefore a clear reminder that care must be taken when reserving powers to a settlor or carving out trustee powers to a settlor protector. Tip the balance too far and the assets of the trust may become vulnerable to arguments as to the trust’s “True Effect”.”

So, is the solution to only look into what the trust deed says, in order to know whether the trust is abusive and may be subject to judicial challenge? Here the Paradise Papers prove that what is written may have little resemblance with reality. For example, this article by The Star on the Kolber trust also proves that whatever is down on paper may actually be misleading:

The Kolber Trust was set up in February of 1991 in the Cayman Islands, physically located at post office box 887 in Grand Cayman. The founding contribution — $10 — was made by two Cayman residents, John Collins and John Furze. In one leaked document unrelated to the Kolber Trust, Furze is referred to as a “dummy settlor.” Both men are listed as members of the company “Overseas Nominees Ltd.” “Nominee” and “dummy” are terms used for people who are paid to sign documents on behalf of others without having true decision-making power.”

The Guardian also reported on Lord Ashcroft in the UK, one of the Conservative party’s biggest donors, whose Bermuda-based Punta Gorda Trust had assets of $450.4m (£341m) in 2006. In this case, it was clear that trustees had no control whatsoever (although on paper, they were “the trustees” managing the trust):

Several emails show concern being expressed by Appleby, the firm at the centre of the Paradise Papers, about the way the trust was being run. The concern was that Appleby, as trustee, was in effect being asked to rubber-stamp decisions it believed it should have been informed about in advance. In an email in 2010, a senior lawyer for Appleby wrote: “There have been very large sums of money involved and I am very concerned that there has been inadequate supervision of both transactions and distributions … To put it bluntly, we seem to be told nothing, whereas we carry the responsibility of acting as trustee.”

You can watch Lord Ashcroft trying to avoid a BBC reporter’s questions about his offshore trust here. (It’s worth a look)

Conclusion

The Paradise Papers and recent case law keep confirming, again and again, what TJN and others have been claiming: trusts exploit and create secrecy. Not only that, but their resulting separation of ownership and control  allow trust users to hide their identities and their assets from authorities, from public scrutiny, and from legitimate creditors.  This is leading to ever more wealth concentration, worsening already alarming levels of global inequality, corrupting global markets, corrupting democracy, and facilitating global-scale quantities of tax evasion and financial crime.

We reiterate our two main recommendations:

First, at the very least, all countries should require trusts’ beneficial owners (which includes all of the parties to a trust) to be registered in public registries, whenever a trust has any connection to a country (a settlor, trustee, beneficiary or asset is located there). Public accounts should also be required, to prevent trust distributions to be masked as loans, sales and other simulations. To ensure compliance, trust registration should be a condition for their legal existence and validity.

Second, assets held in trust which have not been distributed yet (nor are vested in the beneficiaries) should be considered as belonging to the settlor, if creditors exist. This should be irrespective of the apparent independence of the trustee.

Again, why do we create tax laws, laws against financial crimes, laws against fraud – then tolerate these arrangements which are designed to frustrate these same laws?

What else are governments waiting for before they decide to act?