Illusory trusts in the British Virgin Islands and section 86 of the BVI’s Trustee Act

The laws of the BVI

The principles of English common law and equity form part of British Virgin Islands (BVI) law and would be applied by the BVI’s courts, except to the extent that they have been modified by statute. This is the case as a result of the Common Law (Declaration of Application) Act and the Supreme Court Associated States (Virgin Islands) Act.

English and Commonwealth decisions such as that in Pugachev and the Webb v Webb case to which we refer below are not binding on the courts of the BVI, but they may be regarded as persuasive authority in relation to issues involving the relevant principles of English common law and equity which would be applied by the BVI’s courts, i.e. in the absence of any statutory modification of those principles, involve a two-fold analysis. The first question which needs to be considered is whether the analysis of Birss J in the Pugachev case insofar as it relates to illusory trusts does actually reflect those principles of English common law and equity which, apart from statute, would be applied by the courts of the BVI; the second question is whether, if it does, those principles will have been modified as a result of section 86 of the Trustee Act.

The extent to which the analysis of illusory trusts by Birss J in Pugachev actually reflects the principles of common law and equity which would be applied by the BVI’s courts in the absence of any relevant statutory modifications

The Pugachev decision

 This decision of the English High Court involved five New Zealand discretionary trusts which had been set up by Mr Pugachev for the benefit of his family. The parties agreed that New Zealand and English trust law were identical in all material respects. Independent New Zealand trust companies were initially appointed as trustees of the trusts. Mr Pugachev was also one of their beneficiaries and their protector. In the capacity of their protector, he held a number of powers, such as the power to replace the trustees with or without cause, the power to direct a sale of specific trust property and the power to veto certain trustee decisions. He did not have the power to appoint trust assets to himself, but could veto any appointments to other beneficiaries. He could also veto the removal of beneficiaries, veto any variation to the terms of the trusts, veto the release or revocation of any powers granted to the trustees, veto the early termination of the trust period, veto the addition of beneficiaries and veto any amendments to the trust by the trustees.

The consent powers which Mr Pugachev as protector of the trusts were rather more extensive than the protector of a BVI trust would generally have, in that it is fairly rare for protectors to have the power to consent to investment decisions as well as the power to consent to the exercise by the trustee of all its most important dispositive powers. It is furthermore quite rare in the BVI for the protector’s consent to be required before income distributions or the power to direct a sale of residential property are made as was the case with the trusts which Mr Pugachev had established.

The background to the litigation was that Mr Pugachev had founded the Mezhprom Bank in Russia, which was liquidated by the Russian government after a financial crisis in 2014. The liquidator sought, by attacking the validity of the trusts, to recover trust assets worth $95 million which Mr Pugachev had settled on trust after he had fled Russia. The liquidator argued that Mr Pugachev effectively retained control of the trust assets via the powers he had reserved to himself. The liquidator also challenged the validity of the trusts on the basis that they were shams and furthermore challenged the transfer of the assets into trust on the basis of certain provisions in the English Insolvency Act 1986 (which do not, as such, form part of BVI law), but the sham trust challenge and the Insolvency Act challenge are outside the scope of this opinion.

Mr Pugachev was not represented at the hearing. The background to the case was egregious: the case was one of many involving Mr Pugachev and the Russian state in various jurisdictions and in other proceedings Mr Pugachev had been handed down a sentence of two years’ imprisonment for contempt of court, a sentence which he had not served by since he was outside the jurisdiction of the court.

Critically Birss J held that the powers which Mr Pugachev had retained were purely personal non-fiduciary powers: they could be exercised by him in his own interests and without considering the interests of any of the other beneficiaries. He relied, particularly, on the fact that Mr Pugachev was a discretionary beneficiary as well as being both the protector and the settlor of the trusts and ruled that the effect of Mr Pugachev being able to exercise his powers in his own interests was to allow him to retain total control over the assets he had settled on trust; he could prevent trust property being distributed to any of the other beneficiaries and could make sure that the assets could be distributed to him himself as a result of the exercise of his power to remove any trustees who refused to distribute the assets to him and appointing trustees who could ensure that this could be done.

Birss J came to the conclusion that “on their own terms these trusts do not divest Mr Pugachev of the beneficial interest he had of the assets transferred into them. In substance the deeds allowed Mr Pugachev to retain his beneficial ownership of the assets”.

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