Chapter 15: Equitable Remedies and Tracing Flashcards
The nature of equitable remedies
In this chapter and the chapter on ‘Liability of strangers’, we consider some of the key claims that
may be made following a breach of trust or fiduciary duty, including claims against third parties.
Before doing so, it is worth briefly exploring the nature of equitable remedies.
Available where common law damages are not sufficient
Broadly, equitable remedies are available in circumstances where common law damages
would not be adequate. This includes situations where the claimant is seeking to assert an
equitable interest (most obviously, a right under a trust) and cases where common law damages
would not be an adequate remedy for infringement of a common law right. Examples of the latter
include specific performance of contracts, injunctions and other court orders such as search
orders and freezing orders
Discretionary in nature
Equitable remedies are discretionary in nature, as we saw when considering the remedies
available in respect of a proprietary estoppel claim. However, case law has given rise to a series of
recognised principles regarding the award of equitable remedies.
Personal remedies
Personal remedies include monetary remedies such as equitable compensation (awarded in cases where a breach gives rise to loss) and an account of profits (awarded where a wrongdoer makes a profit). As we saw in the chapter on ‘Liability of trustees’, equitable compensation may be
awarded where a breach of trust or fiduciary duty results in a loss to the trust fund, while an account of profits will be more appropriate if the wrongdoer has personally made a profit.
Proprietary Remedies
Proprietary remedies involve awarding the claimant a proprietary right. Again, we saw an example
of this in the chapter on ‘The fiduciary relationship’ where we learned that a breach of the noprofit rule gives the claimant a choice between an account of profits and claiming a constructive
trust over the profit.
Option to claim a constructive trust
The option to claim a constructive trust is useful because it gives the claimant the ability to utilise
the following and tracing rules, identifying what the profit has been spent on. These rules can also
be used in cases where trustees have misapplied trust funds. They allow the claimant to trace into
a series of substitute assets and assert a proprietary right over the final proceed
Benefits of proprietary claims
The remedy sought at the end of this process might be for a security interest or a beneficial interest under a trust. Both types of claim ensure that the rights of the beneficiaries are ringfenced against the insolvency of the trustee. Claims for beneficial ownership of the asset also enable the beneficiaries to capture the benefit of any increases in value.
Identify the asset
So the ability to make a proprietary claim can be very useful. In order to do so, however, it will be
necessary to identify an asset which represents the proceeds of the breach. In the remainder of
this chapter, we consider the following, tracing and claiming rules.
Introduction to following, tracing and claiming
Options when trustees misapply funds
When a trustee misapplies trust property, the beneficiaries have a number of potential options
available to them. Broadly, they may be able to:
(a) Sue the trustee for breach of trust.
(b) Sue a third party who has assisted the breach of trust.
(c) Make a claim against the misapplied property or its traceable proceeds.
(d) Sue a third party who knowingly received the traceable proceeds of the breach.
In the remainder of this chapter we consider the following and tracing processes, and the proprietary claims that may be made at the end of that process.
Equitable proprietary claims
It can be very valuable to establish an equitable proprietary claim against property or its traceable proceeds.
A proprietary claim has three principal advantages:
(a) It is not affected by the defendant’s bankruptcy or insolvency.
(b) It enables beneficiaries to capture increases in the value of traceable proceeds.
(c) It does not depend on fault: it can be maintained against the defaulting trustee and against
innocent recipients of the trust property or its traceable proceeds
Locate misapplied property and identify assets that represent it
Following, tracing and claiming underpin equitable proprietary claims. The function of the
following and tracing rules is to locate misapplied trust property and to identify assets which
represent it.
Following
Following is the process of ‘following the same asset as it moves from hand to hand’
(Foskett). It is the process for locating misapplied trust property. Thus, if T misapplies £1,000
(cash) of the trust fund and gifts it to X, and X gifts it to Y, the beneficiaries can follow the
£1,000 from T to X and then to Y
Tracing
Tracing is the process of ‘identifying a new asset as the substitute for the old’ (Foskett). Generally, one asset is the traceable proceed of another if there is ‘a series of direct
substitutions’ between them (Relfo Ltd (in liquidation) v Varsani [2014] EWCA Civ 360).
Claiming
Claiming is the assertion of a personal or proprietary right in relation to misapplied
trust property or its traceable proceeds (Foskett).
Example: Following and tracing
A trustee misapplies £1,000 (cash) of a trust fund and gifts it to X.
X uses the cash to buy a painting.
The beneficiaries can follow the £1,000 from the trustee to X and then trace it into the painting
because X exchanged the £1,000 for the painting.
The painting is the substitute for the £1,000.
A claimant can use the equitable following, tracing and claiming rules if two conditions are
satisfied (Re Diplock [1948] Ch 465):
(a) The claimant had a ‘right of property recognised by equity’ in the asset which they seek to
follow and/or trace.
(b) The asset was held by a person who was in a fiduciary relationship with the claimant.
Easily satisfied
The conditions are easily satisfied in cases involving misapplication of property subject to an
express trust. Beneficiaries have an equitable proprietary interest in trust property and the
standard relationship between an express trustee and the beneficiaries is a fiduciary one. For
simplicity, the examples used in this Workbook all involve express trusts but they are not the only
circumstances in which you will be expected to apply the tracing rules.
Easily acknowledge conditions are met for trusts arising from operation of law
The court will also easily acknowledge the satisfaction of the Diplock conditions in cases involving
trusts arising by operation of law (such as where a constructive trust is imposed as a remedy for
breach of fiduciary duty). This then allows tracing into property acquired using the profit from a
breach of the no-profit rule.
Diplock conditions are liberally applied
The tracing rules are also applied in a wide range of circumstances, such as where an executor
misapplies estate property or a company director misapplies company property. From these
examples, we can see that the Re Diplock conditions are liberally applied. A company is the full
legal owner of its assets and does not have an equitable interest. Those entitled under a will do
not have proprietary interests at all. Yet both can use the tracing rules.
Claiming and types of proprietary claim
If beneficiaries can follow or trace misapplied trust property, they can assert a proprietary
interest in the trust property (or its traceable proceeds). A beneficiary may wish to make claims in
respect of:
* The misapplied trust property
* Assets purchased exclusively with misapplied trust money (or its traceable proceeds)
* Assets purchased with a mixed fund
Nature of claim made in respect of that asset
Once an asset has been identified, it is then necessary to consider the nature of the claim that
can be made in respect of that asset. There are four potential options:
Four potential options
(a) The beneficiary claims beneficial ownership of the asset: This will only be possible in the
simple case where the asset is acquired exclusively with the traceable proceeds of the
breach.
(b) The beneficiary claims beneficial ownership of a share of the asset: This may be possible in
cases where the asset has been acquired using a mixed fund.
Claims an equitable lien over asset
(c) The beneficiary claims an equitable lien over the asset: This may be possible in both types of
case. Generally a beneficiary will want to do this where the asset has decreased in value,
meaning that claiming the asset would result in a loss. It efectively turns their personal claim
for breach of trust into a secured claim.
Subrogation
(d) Subrogation: This is a claim that can be made where misapplied trust funds (or their traceable proceeds) are used to pay of a secured debt. It allows the beneficiary to step into the shoes of the creditor, treating the beneficiary as if they had loaned the money and enabling them to take equivalent security to that previously held by the original lender
Principle defence
The principal defence to an equitable proprietary claim is that of the purchaser of a legal interest
without notice of the trust (also known as a ‘bona fide purchaser for value without notice’). Purchasers are entitled to deal with trustees as if they are the full legal owner. If the purchaser has no notice of the trust, they take clean title to the trust property, even if it has been misapplied.
The tracing rules
Tracing is the process of ‘identifying a new asset as the substitute for the old’ (Foskett v McKeown [2001] 1 AC 102). The simplest tracing exercise is one in which an asset is acquired exclusively with misapplied trust money (or its traceable proceeds). In such a case, the tracing rules are simple. Tracing is more difficult when misapplied trust money (or its traceable proceed) is mixed with
money derived from other sources.
The tracing rules
(a) Tracing unmixed funds into a new asset
(b) Tracing involving a mixture of trustee and beneficiary funds
(c) Tracing involving a mixture of beneficiary and innocent third-party funds
Consider the following examples. In each case ‘T’ is the trustee and ‘X’ is an innocent third party.
(a) T misapplies £1,000 of the trust fund and uses it to purchase shares.
(b) T misapplies £1,000 of the trust fund and gifts it to X. X uses the £1,000 to purchase shares.
(c) T misapplies £1,000 of the trust fund and adds it to their current bank account which is already credited with £1,000. T subsequently withdraws £1,000 from the account and uses it
to purchase shares.
(d) T misapplies £1,000 of the trust fund and gifts it to X. X adds the £1,000 to their current bank
account which is already credited with £1,000. X subsequently withdraws £1,000 from the
account and uses it to purchase shares.
Vindicate equitable proprietary interest
In each of these examples, the beneficiary can ‘vindicate’ their equitable proprietary interest in
the £1,000 by tracing it into, and asserting an interest in, the shares and/or the bank account. But
the extent and nature of the claims are different because each is determined by the application of
different ‘tracing’ and ‘claiming’ rules.
Tracing: The simple case
The simplest tracing exercise is one in which an asset is acquired exclusively with misapplied trust
money (or its traceable proceeds). For example:
* T misapplies £1,000 of the trust fund
* T uses the money to purchase shares for £1,000. The shares are the traceable proceeds of the trust fund because the trust money was exchanged for the shares.
The example can be developed further:
- T sells the shares and uses the proceeds of sale to purchase a bicycle and a television
- The bicycle and television are the traceable proceeds of the trust fund. T exchanged the shares
for money (paid by the purchaser) and then exchanged the money for the bicycle and television. Thus, there is a series of direct substitutions between the misapplied trust money
and the bicycle and television
Mixed funds
Tracing is more difficult when misapplied trust money (or its traceable proceed) is mixed with
money derived from other sources. Most tracing cases involve money mixed in bank accounts
and, as a result, the tracing rules have been largely formulated by reference to bank accounts.
But the rules are not limited to money or bank accounts. They also apply to physical mixtures of
fungible goods: Foskett
There are two principal types of mixed fund.
(a) A mixed fund comprising misapplied trust money and the trustee’s own money (‘a wrongful
mixture’)
(b) A mixed fund comprising misapplied trust money and money derived from one or more
innocent third parties (‘an innocent mixture’)
In cases where the whole of a mixed fund is used to acquire a single asset tracing is reasonably
straightforward. For example:
- T misapplies £1,000 of the trust fund
- T pays the £1,000 into their current bank account which is already credited with £1,000
- T withdraws £2,000 (cash) from the account and uses it to purchase shares
The shares are the traceable proceeds of the trust fund because:
- £1,000 was credited to T’s bank account in exchange for the trust money
- T exchanged the sum credited to the account for £2,000 (cash)
- T exchanged the cash for the shares
Direct substitutions
Thus, there is a series of direct substitutions between the misapplied trust money and the shares.
Used in connection
Tracing is more difficult in cases where only part of a mixed fund is used in connection with a
particular transaction. Different rules apply to wrongful mixtures and innocent mixtures
Withdrawals from wrongful mixtures
Basic rule: Where a trustee makes withdrawals from a wrongful mixture, some of which (or
their traceable proceeds) are dissipated, the beneficiary can treat the dissipation as the trustee’s money and attribute the identifiable funds (or traceable proceeds) to the trust, regardless of the order in which the withdrawals are made. Dissipation means applying money
in such a way that there is no traceable proceed eg where it is used to pay for a pure service
such as a haircut or a massage.
Cherry Picking
Cherry picking: In cases where withdrawals from a wrongful mixture are used to acquire
multiple assets into which a beneficiary could potentially trace:
- In cases where the only contest is between the beneficiary and the trustee, the beneficiary
can attribute the most profitable applications of the mixed fund to the trust money.
- In other cases (eg cases in which the beneficiary is competing with the unsecured creditors
of a bankrupt trustee) the basic rule still applies (ie the beneficiary can attribute any part
of the mixed fund which is dissipated to the trustee) but the beneficiary cannot attribute
the most profitable applications of the fund to the misapplied trust money.
Example: The Hallett scenario
- T misapplies £1,000 of the trust fund.
- T pays it into their current bank account which has a nil balance.
- T pays £1,000 of their own money into the account, increasing the sum credited to the account
to £2,000. - T withdraws £1,000 from the account and applies it for their own benefit.
- £1,000 is still credited to the account.
Key case: Re Hallett’s Estate (1880) 13 Ch D 696
In Re Hallett’s Estate (1880) 13 Ch D 696, the trustee argued that, since he paid the trust money
into the account before his own money, the trust money should be treated as having been
withdrawn from the account before his money, meaning the sum credited to the account was his.
Court of Appeal
The Court of Appeal rejected the argument. Jessel MR said that the trustee ‘cannot be heard to
say that he took away the trust money when he had a right to take away his own money,’ and
Baggallay LJ said that the trustee’s ‘drawings out for his own purposes ought to be attributed to
his own funds and not the trust funds.’
Example: The Oatway scenario
- T misapplies £1,000 of the trust fund.
- T pays it into their current bank account which is already credited with £1,000.
- T withdraws £1,000 from the account and uses it to purchase shares.
- T withdraws £1,000 from the account and dissipates it.
Key case: Re Oatway [1903] 2 Ch 356
In Re Oatway [1903] 2 Ch 356, the trustee tried to rely on Re Hallett’s Estate to claim the shares.
Joyce J rejected this argument, concluding that the trustee had dissipated their own funds.
Although in Hallett the facts meant it made sense to conclude that the trustee had spent their own
money first (preserving the trust money in the account) this did not make sense in a case like
Oatway where the money in the account was later dissipated. Oatway indicates that the order of the withdrawals is not the key issue. If there is a choice between a traceable asset and a dissipation, the trustee should be treated as protecting the trust funds and dissipating their own.
Example: ‘Cherry picking’
- T misapplies £1,000 of the trust fund.
- T pays it into their current bank account which is already credited with £1,000.
- T withdraws £1,000 from the account and uses it to purchase shares which have increased in
value. - £1,000 is still credited to the account.
Key case: Shalson v Russo [2003] EWHC 1637
In Shalson v Russo [2003] EWHC 1637 (Ch), the trustee argued that, since he had not dissipated
any money and the sum credited to the account was sufcient to restore the misapplied trust money, the sum used to purchase the shares should be treated as his money.
Key case: Shalson v Russo [2003] EWHC 1637
Rimer J rejected this argument, concluding that the beneficiary could attribute the trust money to
the most profitable use made of the mixed fund. He described this as ‘cherry-picking’ and
implicitly accepted that it could not be used in cases where it would prejudicially affect third
parties, eg unsecured creditors of a bankrupt trustee
Example: Limits on ‘cherry picking’
- T misapplies £1,000 of the trust fund.
- T pays it into their current bank account which is already credited with £1,000.
- T withdraws £500 from the account and dissipates it.
- T withdraws £500 from the account and uses it to purchase shares which have increased in
value to £1,000. - £1,000 is still credited to the account.
Beneficiary can cherry pick
If the only contest is between the beneficiary and the trustee, the beneficiary can ‘cherry pick’ the
most profitable applications of the mixed fund. The beneficiary can treat the dissipated £500 as
the trustee’s money, but the £500 spent on the shares as trust money. The remaining £1,000 in
the account is £500 trust money and £500 trustee money. This results in the trust fund having
proprietary interests in assets worth £1,500.
Only attribute the trust money to the sum credited to the account
If the contest is between the beneficiary and the trustee’s unsecured creditors, the beneficiary can only attribute the trust money to the sum credited to the account, ie the trustee has dissipated
£500 of their own money and spent £500 of their own money on shares (meaning an asset of £1,000 is available to repay creditors). The £1,000 in the account is all trust money
Withdrawals from innocent mixtures
Having completed a review of the tracing rules applying to withdrawals from wrongful mixtures, it is necessary to consider the rules which apply to withdrawals from innocent mixtures.
The two most common examples of innocent mixtures are cases where:
(a) Money from two or more trusts is mixed by a common trustee
(b) An innocent recipient of misapplied trust money mixes it with their own money
Example: Mixture of more than one trust fund
Consider the following example, which involves the trustee mixing the funds of two different trusts:
* T misapplies £1,000 of the trust fund A and mixes it with £1,000 from trust fund B.
* T withdraws £500 from the mixed fund and dissipates it.
The General Rule
The general rule applying to withdrawals from an innocent mixture is that withdrawals are
attributed rateably to the contributors to the mixture: Re Diplock.
Re Diplock
- Half of the dissipated £500 was from trust A and half was from trust B. Therefore, trust A and B also share the £1,500 that remains in the mixed fund in these proportions.
- Each trust fund has a proprietary claim worth £750 over the money in the mixed fund (and a personal claim of £250 against the trustee in respect of their share of the dissipated money).
Example: Mixture of trust fund with funds of innocent recipient
Consider the following example, which involves the funds being mixed by an innocent party:
* T misapplies £1,000 (cash) of the trust fund and gifts it to X, an innocent volunteer.
* X puts the cash into their wallet, which already contains £500 of their own money.
* X removes £600 from the wallet and dissipates it.
* X’s wallet still contains £900.
Clearly X must have spent some of the trust money. But how much?
Funds have been dissapated
If the funds had been dissipated by T, we would treat T’s £600 as dissipated, meaning the £900 is
trust money. This would not seem fair here as X does not know about the breach of trust.
The rule from Re Diplock therefore applies again here, even though the funds were mixed by X:
Since 2/3 of the £1,500 was trust money, and 1/3 was X’s money, withdrawals from the £1,500
are attributed to X and the trust in those fractions.
The rule from Re Diplock therefore applies again here, even though the funds were mixed by X:
Therefore, £400 of the £600 which was dissipated is attributable to the trust money, as is £600
of the £900 in the wallet.
Innocent mixtures in current accounts
This general rule does not apply to withdrawals from an innocent mixture in a current bank
account. Three different approaches have been taken to these cases. They are set out below. In order to compare them, a common example is used.
Innocent mixtures in current accounts
Technically, the rule applying to withdrawals from a current bank account is the rule in Clayton’s
Case (1816) 1 Mer 529: Re Diplock. Grant MR stated the rule in these terms (1816) 1 Mer 529, 608: ‘it
is the sum first paid in that is first drawn out’. The rule is commonly described as ‘the first in, first
out’ rule.
Example: Clayton’s case
Consider this example:
* T misapplies £1,000 of trust fund A and pays it into a current bank account (‘the account’).
* T misapplies £1,000 of trust fund B and pays it into the account.
* T withdraws £1,000 from the account and uses it to purchase shares.
* T misapplies £1,000 of trust fund C and pays it into the account.
* T withdraws £1,000 from the account and dissipates it.
* £1,000 is still credited to the account.
If Clayton’s Case is applied
If Clayton’s Case is applied, the shares are the traceable proceeds of fund A because fund A was
paid into the account first and the shares were purchased with the first £1,000 withdrawn. The
second £1,000 withdrawn from the account (and dissipated) is attributable to fund B. And the sum
credited to the account is the traceable proceed of fund C.
If Clayton’s Case is applied
Thus, the money from trust A and trust C can be traced into the shares and the sum credited to
the account (respectively). But the money from trust B cannot be traced into any assets because
the withdrawal attributed to that money was dissipated
Arbitrary results
It is obvious that the rule in Clayton’s Case can produce ‘arbitrary’ results. In the example, the beneficiary of trust A can, but the beneficiary of trust B cannot, identify a traceable proceed
simply because the money from fund A was paid into the account before the money from fund B
(an entirely fortuitous event)
Disapplying Clayton
As a result of the arbitrary nature of the rule, in Barlow Clowes
International Ltd (in liquidation) v Vaughan [1992] 4 All ER 22, the Court of Appeal held that the
rule can be disapplied where its application would be:
* Contrary to the intentions of the parties who contributed to the mixture;
* Impracticable (ie too complex or expensive to apply); or
* Unfair
Barlow Clowes
In Barlow Clowes, the court did not apply the rule to investors who had contributed to a common
investment scheme in which all profits and losses were to be shared rateably. The court held that
it would be contrary to the investors’ intentions to apply the rule and to allocate specific
investments to specific investors.
Displaced to produce fairer results
Since Barlow Clowes, the rule in Clayton’s case has been disapplied in every case in which it has
been considered. In Charity Commission for England and Wales v Framjee [2014] EWHC 2507
(Ch), Henderson J noted (at para 49) that the rule ‘may be displaced with relative ease in favour
of a solution which produces a fairer result
If the rule in Clayton’s Case is not applied, one of two alternative methods is available.
Pari Passu
The pari passu ex post facto method. This involves identifying the amounts contributed to the
account by each individual contributor attributing all the withdrawals from the account
fractionally to all the contributors, regardless of the order in which the payments were made.
This method is called the ‘ex post facto’ method because it is static. It involves a single
calculation after the event.
Rolling Charge Method
The rolling charge method. Each individual withdrawal is attributed fractionally to the
contributors to the account immediately before the withdrawal: the fraction attributed to any
specific contributor being equivalent to their fractional contribution to the account
immediately before the withdrawal. This is called the ‘rolling charge’ method because it is
dynamic. It requires the contributors’ fractional contributions to be recalculated every time a
sum is credited to the account. The order in which the payments were made can therefore
affect the amounts attributed to individuals.
Rolling Charge preferred
As a matter of principle, the rolling charge method should be applied in preference to the ex post
facto method (Barlow Clowes and Shalson). However, if the rolling charge method is too complex
or expensive to apply, the ex post facto method should be applied. To date, there are no examples
of the rolling charge method being applied.
Example: Pari passu ex post facto method
Recall the example:
* T misapplies £1,000 of trust fund A and pays it into a current bank account (‘the account’).
* T misapplies £1,000 of trust fund B and pays it into the account.
* T withdraws £1,000 from the account and uses it to purchase shares.
* T misapplies £1,000 of trust fund C and pays it into the account.
* T withdraws £1,000 from the account and dissipates it.
* £1,000 is still credited to the account.
If the pari passu ex post facto method is applied, the total sum contributed to the account is
£3,000.
Each fund contributed £1,000 to the total. Thus, all withdrawals from the account (and the shares
and the sum credited to the account) are attributable to each of the three trusts in 1/3 shares.
Example: Rolling charge method
Recall the example:
* T misapplies £1,000 of trust fund A and pays it into a current bank account (‘the account’).
* T misapplies £1,000 of trust fund B and pays it into the account.
* T withdraws £1,000 from the account and uses it to purchase shares.
* T misapplies £1,000 of trust fund C and pays it into the account.
* T withdraws £1,000 from the account and dissipates it.
* £1,000 is still credited to the account.
Applying the Rolling Charge Method
If the rolling charge method is applied, immediately before the first withdrawal, £2,000 was
credited to the account. Trust A and trust B contributed £1,000 each to that sum. Thus, the first
withdrawal and the shares are attributable to trust A and trust B in equal shares
Applying the Rolling Charge Method
Immediately before the second withdrawal, £2,000 was credited to the account. Trust A and trust
B contributed £500 each to that sum and trust C contributed £1,000. Thus, the second withdrawal
and the sum remaining in the account are attributable to trust A, trust B and trust C in the
fractions 1/4, 1/4 and 1/2 respectively.
Proprietary claims
Introduction to Claiming
Where trustees misapply trust property, the beneficiaries can assert a proprietary interest in the
trust property or its traceable proceeds. The most common situations involve claims to:
* The misapplied trust property itself (in the hands of the trustee or a third party)
* Assets purchased exclusively with misapplied trust money (or its traceable proceeds)
* Assets purchased with misapplied trust money (or its traceable proceeds) and the trustee’s
money
* Assets purchased with misapplied trust money (or its traceable proceeds) and money derived
from one or more innocent third parties
Unmixed funds
Where beneficiaries are able to follow misapplied trust property, they can assert their equitable
proprietary interest in the property: Foskett. The person who holds the property will have to restore it to the trust fund: Diplock.
Where an asset is purchased exclusively with trust money (or its traceable proceed) the
beneficiary can choose between (Foskett):
- Asserting beneficial ownership of the asset
- Making a personal claim against the trustee for breach of trust and enforcing an equitable lien
on the asset (in other words, the beneficiary becomes a secured creditor). The beneficiary will normally exercise the option in the most advantageous way. If the traceable proceeds have increased in value, it will usually be preferable to claim them. If they have
decreased in value, it will usually be preferable to make the personal claim.
Example: Traceable proceed increases in value
A trustee misapplies £1,000 from a trust fund and uses it to purchase shares. The shares have increased in value to £1,500. The beneficiary can trace into the shares. As they have increased in value, the preferable option is to assert beneficial ownership of the shares, meaning the beneficiary now has an asset worth £1,500 in place of the original £1,000 from the trust fund.
Example: Traceable proceed decreases in value
A trustee misapplies £1,000 from a trust fund and uses it to purchase shares.
The shares have decreased in value to £500.
The beneficiary can trace into the shares. As they have decreased in value, the preferable option
is to sue the trustee for £1,000 and assert an equitable lien over the shares to secure that claim.
When the shares are sold, the proceeds will be used in part payment of the debt. The trustee will still owe the trust fund the rest.
Wrongful mixtures
Similarly, where an asset is purchased with misapplied trust money (or its traceable proceeds)
and the trustee’s money the beneficiary can choose between:
(a) Claiming a proportionate share of the asset.
(b) Enforcing a lien upon it to secure his personal claim against the trustee for the amount of the
misapplied money.
Rationale
The rationale is that, since the trustee is a wrongdoer, their interest must be subordinated to the beneficiaries’ interest: the trustee cannot claim their interest in the asset until the beneficiaries’
claim has been satisfied in full.
Where beneficiaries claim a proportionate share of an asset which has increased in value, they
capture a corresponding proportion of the increase.
Example: Traceable proceed increases in value
A trustee mixes £500 of their own money with £500 of trust money and uses it to purchase shares.
The shares have increased in value to £1,500.
The beneficiary can trace into the shares. The best option is to claim a proportionate share ie 50%
of the shares. This gives the beneficiary an asset worth £750 in place of the original £500.
Example: Traceable proceed decreases in value
A trustee mixes £500 of their own money with £500 of trust money and uses it to purchase shares.
The shares have decreased in value to £500.
The beneficiary can trace into the shares. The best option is to claim an equitable lien over the
shares. The first £500 of the sale proceeds will be used in payment of the debt. In this case, the
beneficiary will recover the full £500 and there will be nothing left for the trustee.
Innocent mixtures
Where an asset is purchased with misapplied trust money (or its traceable proceed) and money
derived from one or more innocent third parties, the beneficiaries can only claim a proportionate
share of the asset: Diplock. The rationale is that innocent parties must be treated equally.
In competition with other contributors
Where the beneficiary’s claim is in competition with the claims of other innocent contributors, there is no basis upon which any of the claims can be subordinated to any of the others. Where the fund is deficient, the beneficiary is not entitled to enforce a lien for his contributions; all must share rateably in the fund.
(Foskett). The courts have not yet considered whether beneficiaries can assert an equitable lien limited to the value of their proportionate share in the asset
Example: Traceable proceed increases in value
A trustee mixes £500 from trust A with £500 from trust B and uses it to purchase shares. The shares have increased in value to £1,500.
The beneficiaries of trust A and B can both trace into the shares and claim a 50% share. Each has an interest in assets worth £750
Example: Traceable proceed decreases in value
A trustee mixes £500 from trust A with £500 of from trust B and uses it to purchase shares. The shares have decreased in value to £500.
The beneficiaries of trust A and B can trace into the shares and claim a 50% share. Each has an interest worth £250. If they make this claim, it will be in full satisfaction of their proprietary rights under the trust (so if the trustee is solvent they might want to sue them for £500 instead).
Wrongful and innocent mixtures
Where assets are acquired using a mixture of trustee funds and funds from more than one
innocent party the same rules apply as above. As the example below shows, this can result in
situations which feel unfair in comparison to cases involving just one trust. It is, however,
consistent with the broad principle that no innocent parties (including unsecured creditors) should
be preferred over others.
Example: Asset acquired with trustee’s money and the money of two or more innocent parties
A trustee mixes £500 of their own money with £500 from trust A and £500 from trust B. The trustee uses the £1,500 to buy shares. If the shares increase in value, each beneficiary will want to (and can) claim a 1/3 share.
Example: Asset acquired with trustee’s money and the money of two or more innocent parties
If the shares decrease in value each beneficiary is still limited to a 1/3 share. If the trustee is solvent, it may therefore be preferable not to make a proprietary claim at all but simply sue the trustee for the misapplied £500. If the trustee is insolvent, it is almost certainly preferable for the beneficiaries to assert their proprietary rights. The remaining 1/3 is then available to other creditors.
Subrogation
Where misapplied trust money (or its traceable proceed) is dissipated by the payment of a secured debt, the beneficiaries can be ‘subrogated’ to the rights of the creditor (Boscawen v Bajwa [1996] 1 WLR 328). We only consider subrogation in the context of payments used to fully extinguish a secured debt. We do not consider cases where the money has only been used to reduce the debt, leaving the original security intact
Example: Subrogation
Consider the situation where T misapplies £10,000 (cash) of trust property and uses it to pay off
the balance of the mortgage on their personal home. The beneficiaries can be subrogated to the mortgage lender’s security interest (treating the beneficiaries as if they had lent the money to the trustee, and allowing them to take a security interest over the trustee’s house). The security interest granted to the beneficiaries in these
circumstances must be on the same terms as the original security
Principle Defence
The principal defence to an equitable proprietary claim is that of the purchaser of a legal interest
without notice of the trust.
Example
For example:
* A trustee takes £100 from a trust fund (in breach of trust) and uses it to purchase shares.
* The trustee sells the shares to a third party (who has no idea, and no reason to know, that the
shares are the traceable proceeds of a breach of trust) for £150.
* The trustee dissipates the £150 sale proceeds.
Cannot make a proprietary estoppel
The beneficiary cannot make a proprietary claim against the purchaser. The purchaser has
provided consideration in good faith and has no notice of the breach.
Only assert an interest in sale proceeds
The beneficiary can only assert an interest in the sale proceeds. Once the proceeds are dissipated, no proprietary claims remain
Personal Claim against trustee
The beneficiary has a personal claim against the trustee for £150. (Note that this is still more than
the original £100 taken from the trust fund, demonstrating the benefits of tracing even in the
absence of a proprietary claim.)
