Proprietary and receipt-based claims

Question 1

Options beneficiaries have open to them when a trustee misapplies trust property

Answer 1

(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.

Question 2

Equitable proprietary claims

Answer 2

The proprietary claims that the beneficiary may make against the misapplied property or its traceable proceeds.

Question 3

Advantages of an equitable proprietary claim

Answer 3

(1) It is not affected by the defendant’s bankruptcy or insolvency.
(2) It enables beneficiaries to capture increases in the value of traceable proceeds
(3) 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.

Question 4

Following

Answer 4

The process of ‘following the same asset as it moves from hand to hand’ (Foskett)

Question 5

Tracing

Answer 5

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 v Varsani)

Question 6

Claiming

Answer 6

• The assertion of a personal or proprietary right in relation to misapplied trust property or its traceable proceeds (Foskett)

Question 7

When can a claimant use the equitable following, tracing and claiming rules?

Answer 7

Two conditions must be satisfied (Re Diplock):

• (1) The claimant had a ‘right of property recognised by equity’ in the asset which they seek to follow and/or trace
• (2) The asset was held by a person who was in a fiduciary relationship with the claimant.
• 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.
• 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).

Question 8

Tracing: The simple case

Answer 8

e. g. 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 beneficiary can trace into the shares and then make a proprietary claim in respect of them.

Question 9

Tracing: Mixed funds

Answer 9

Tracing is more difficult when misapplied trust money (or its traceable proceed) is mixed with money derived from other sources. There are two principal types of mixed fund:

(1) A mixed fund comprising misapplied trust money and the trustee’s own money (‘a wrongful mixture’)
(2) A mixed fund comprising misapplied trust money and money derived from one or more innocent third parties (‘an innocent mixture’)
- Different rules apply to wrongful mixtures and innocent mixtures.
- Broadly, the rules on wrongful mixtures reflect the principle that trustees must act on behalf of beneficiaries, rather than profiting for themselves, while the rules on innocent mixtures are aimed at maintaining fairness between innocent parties.

Question 10

Claiming: Assets

Answer 10

• 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:
• (a) the misapplied trust property
• (b) assets purchased exclusively with misapplied trust money (or its traceable proceeds)
• (c) assets purchased with a mixed fund
• (d) assets which have been improved or maintained using misapplied trust money or its traceable proceeds

Question 11

Principal defence to an equitable proprietary claim

Answer 11

• 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.

Question 12

Claiming: Four types of proprietary claim

Answer 12

• (a) The beneficiary claims beneficial ownership of the asset itself: only possible where the asset is acquired exclusively with the traceable proceeds of the breach.
• (b) The beneficiary claims a share of the asset: may be possible in cases where the asset has been acquired using a mixed fund.
• (c) The beneficiary claims an equitable lien over the asset: may be possible in both types of case. 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 effectively turns their personal claim for breach of trust into a secured claim.
• (d) Subrogation: This is a claim that can be made where misapplied trust funds (or their traceable proceeds) are used to pay off a debt. It allows the beneficiary to step into the shoes of the creditor, treating the beneficiary as if they had loaned the money.

Question 13

Tracing: Withdrawals from wrongful mixtures

Answer 13

• In cases where the whole of a mixed fund is used to acquire a single asset tracing is reasonably straightforward.
• e.g. 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.
• Thus, there is a series of direct substitutions between the misapplied trust money and the shares.
• Tracing is more difficult in cases where only part of a mixed fund is used in connection with a particular transaction.
• The courts have developed three tracing rules in connection with wrongful mixtures.

Question 14

Three tracing rules

Answer 14

(1) The Hallett model
(2) The Oatway model
(3) The Shalson model

Question 15

Tracing wrongful mixtures: The Hallett model

Answer 15

• T misapplies £1,000 of the trust fund
• T pays it into their current bank account which has a balance of 0
• 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
• 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’
• the trustee’s ‘drawings out for his own purposes ought to be attributed to his own funds and not the trust funds.’

Question 16

(2) The Oatway model

Answer 16

• 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. (Dissipation means applying money in such a way that there is no traceable proceed e.g. when it is used to pay for a pure service such as a haircut or a massage.)
• The trustee has dissipated their own funds.
• 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.

Question 17

(3) The Shalson model

Answer 17

• 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.
• The beneficiary can attribute the trust money to the most profitable use made of the mixed fund.
• This is called ‘cherry picking’ and it cannot be used in cases where it would prejudicially affect third parties, e.g. unsecured creditors of a bankrupt trustee.

Question 18

Tracing from a wrongful mixture: Models summarised

Answer 18

• 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.
• Cherry picking: In cases where withdrawals from a wrongful mixture result in the identification of 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 (e.g. cases in which the beneficiary is competing with the unsecured creditors of a bankrupt trustee) the basic rule still applies, but the beneficiary cannot use cherry picking.

Question 19

Tracing from a wrongful mixture: example fact pattern

Answer 19

• 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
• 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.
• 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, i.e. 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.

Question 20

Tracing: Withdrawals from innocent mixtures

Answer 20

The two most common examples of innocent mixtures are cases where:

(1) Money from two or more trusts is mixed by a common trustee
(2) An innocent recipient of misapplied trust money mixes it with their own money

Question 21

Example of two trust funds mixed

Answer 21

• 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 applying to withdrawals from an innocent mixture is that withdrawals are attributed rateably to the contributors to the mixture (Re Diplock)
• 1/2 of the dissipated £500 was from trust A and 1/2 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).

Question 22

Example of being mixed by an innocent party

Answer 22

• 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
• 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.
• Therefore, £400 of the £600 which was dissipated is attributable to the trust money, as is £600 of the £900 in the wallet.

Question 23

Innocent mixtures in current accounts

Answer 23

• 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:
  (1) The rule in Clayton’s case
  (2) The pari passu ex post facto method
  (3) The rolling charge method

Question 24

Innocent mixtures in current accounts - (1) The rule in Clayton’s case

Answer 24

• ‘the first in, first out’ rule: ‘it is the sum first paid in that is first drawn out.’
• e.g. T misapplies £1,000 of trust fund A and pays it into a current bank 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, 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.

Question 25

When can the rule in Clayton’s case be disapplied?

Answer 25

Where its application would be:
(a) contrary to the intentions of the parties who contributed to the mixture;
(b) impracticable (i.e. too complex or extensive to apply);
(c) unfair
(Barlow Clowes)
- Since Barlow Clowes, the rule in Clayton’s case has been disapplied in every case in which it has been considered.
- Charity Commission for England and Wales v Framjee: the rule ‘may be displaced with relative ease in favour of a solution which produces a fairer result.’

Question 26

(2) The pari passu ex post facto method

Answer 26

• 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.

Question 27

(3) The rolling charge method

Answer 27

• 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.

Question 28

Should the pari passu ex post facto method or the rolling charge method be used?

Answer 28

• As a matter of principle, the rolling charge method should be applied in preference to the ex post facto method (Barlow Clowes)
• 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.

Question 29

Example of the pari passu ex post facto method

Answer 29

• T misapplies £1,000 of trust fund A and pays it into a current bank 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.

Question 30

Example of the rolling charge method

Answer 30

• 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.
• 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.

Question 31

Backwards tracing

Answer 31

• If money is dissipated, the tracing exercises comes to an end.
• Money is dissipated when it is applied in such a way that there is no traceable proceed. A common example is the payment of a debt.
• During the last 25 years, the courts have considered the possibility of ‘backwards tracing’.
• In the case where trust money was used to pay off a debt, this would involve tracing ‘backwards’ through a debt and into the asset that was purchased with the borrowed money.

Question 32

Backwards tracing: Federal Republic of Brazil v Durant International Corpn

Answer 32

• Rejected the broad proposition that money used to pay a debt can always be traced into the asset acquired with the borrowed money
• Accepted that it is possible to backwards trace in ‘cases where there is a close causal and transactional link between the incurring of a debt and the use of trust funds to discharge it’
• A claimant can backwards trace if they can ‘establish a co-ordination between the depletion of the trust fund and the acquisition of the asset which is the subject of the tracing claim, looking at the whole transaction, such as to warrant the court attributing the value of the interest acquired to the misuse of the trust fund’.

Question 33

Proprietary claims - most common situations

Answer 33

Claims to:

(a) the misapplied trust property itself
(b) assets purchased exclusively with misapplied trust money (or its traceable proceeds)
(c) assets purchased with misapplied trust money (or its traceable proceeds) and the trustee’s money
(d) assets purchased with misapplied trust money (or its traceable proceeds) and money derived from one or more innocent third parties

Question 34

Proprietary claims - less common situations

Answer 34

(a) misapplied trust money (or its traceable proceed) is used to maintain or improve the trustee’s assets
(b) misapplied trust money (or its traceable proceed) is used to maintain or improve the asset of an innocent third party

Question 35

Claiming

Answer 35

• 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.

Question 36

Claims: Unmixed funds

Answer 36

Where an asset is purchased exclusively with trust money (or its traceable proceed) the beneficiary can choose between (Foskett):

(1) Asserting beneficial ownership of the asset itself.
(2) 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.)
- 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.

Question 37

Claims: Unmixed funds: Examples

Answer 37

Example 1
- A trustee misapplies £1,000 from a trust fund and uses it to purchase shares.
- The shares have increased in value to £1,500.
- 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 2
- A trustee misapplies £1,000 from a trust fund and uses it to purchase shares.
- The shares have decreased in value to £500.
- 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.

Question 38

Claims: Wrongful mixtures

Answer 38

Where an asset is purchased with misapplied trust money (or its traceable proceeds) and the trustee’s money the beneficiary can choose between:

(1) Claiming a proportionate share of the asset.
(2) Enforcing a lien upon it to secure his personal claim against the trustee for the amount of the misapplied money.
- 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.

Question 39

Claims: Wrongful mixtures: Examples

Answer 39

Example 1
- 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 i.e. 50% of the shares. This gives the beneficiary an asset worth £750 in place of the original £500.
Example 2
- 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 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.

Question 40

Claims: Innocent mixtures

Answer 40

• 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.

Question 41

Claims: Innocent mixtures: Examples

Answer 41

Example 1
- A trustee mixes £500 from trust A with £500 of 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 2
- 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).

Question 42

Wrongful and innocent mixtures

Answer 42

• Where assets are acquired using a mixture of trustee funds and funds from more than one innocent party the same rules apply as above.
• Example: 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.
• 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.

Question 43

Claims: Improving the trustee’s property

Answer 43

It has been suggested (in Foskett) that beneficiaries are entitled to either:

(1) An equitable lien on the asset to secure repayment of the trust money used to maintain or improve it.
(2) A proportionate share of the asset if it increases in value by reason of the maintenance or improvement.

Question 44

Claims: Improving the trustee’s property: Examples

Answer 44

Example 1
- A trustee owns a house worth £150,000. The trustee misapplies £20,000 of trust money and uses it to build an extension on the house. As a result of the extension, the house is now worth £200,000.
- The beneficiaries can trace the £20,000 into the trustee’s house. As the house has increased in value by £50,000, Foskett suggests that the beneficiaries should be able to trace into the proportion of the house attributable to the increase. As £50,000 is 25% of the total value, the beneficiaries may assert a right to a 25% share of the house.
Example 2
- A trustee owns a house worth £150,000. The trustee misapplies £20,000 of trust money and uses it to repair the roof of the house. The repairs do not result in an increase in value.
- The beneficiaries can trace the £20,000 into the trustee’s house. As there has been no increase in value, Foskett suggests that the beneficiaries should be entitled to secure their £20,000 personal claim against the trustee’s house.

Question 45

Claims: Improving a third party’s property

Answer 45

• Where trust money (or its traceable proceed) is used to maintain or improve an asset owned by an innocent third party, the beneficiaries cannot assert any claim to the asset.
• In Re Diplock, the court indicated that the maximum extent of the beneficiaries’ claim would be an equitable lien to secure repayment of the trust money expended.
• However, the court held that even that claim should not be available on the facts of the case because it would be inequitable to compel an innocent party to sell an asset which they already owned.

Question 46

Subrogation

Answer 46

• Where misapplied trust money (or its traceable proceed) is dissipated by the payment of a debt, the beneficiaries can be ‘subrogated’ to the rights of the creditor.
• e.g. where T misapplies £10,000 (cash) of trust property and uses it to pay off 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). (Boscawen v Bajwa)

Question 47

Defences to a proprietary claim

Answer 47

The principal defence to an equitable proprietary claim is that of the purchaser of a legal interest without notice of the trust.

Question 48

Purchaser of a legal interest without notice of the trust - example

Answer 48

• 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.
• 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.
• The beneficiary can only assert an interest in the sale proceeds. Once the proceeds are dissipated, no proprietary claims remain.
• 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.)

Question 49

Knowing receipt

Answer 49

• A personal claim against a recipient of the misapplied trust property or its traceable proceeds.
• generally described as ‘knowing receipt’ or ‘unconscionable receipt.’
• knowing receipt is a fault-based claim: a defendant is only liable if they had the requisite degree of knowledge.

Question 50

Requirements for a knowing receipt claim

El Ajou v Dollar Land Holdings plc

Answer 50

(1) A misapplication of trust property (or property held in another fiduciary capacity)
(2) Beneficial receipt by the defendant of the misapplied trust property or its traceable proceeds.
(3) Knowledge on the part of the defendant that the property they received was misapplied trust property or its traceable proceeds.

Question 51

Knowing Receipt Requirement (2) - Beneficial receipt

Answer 51

• ‘the receipt by the defendant should be for his own benefit or in his own right’
• Receipt in a ‘ministerial’ capacity is insufficient for knowing receipt. For example, receipt of property by an agent on behalf of a principal does not expose the agent to a knowing receipt claim
• Where money is paid to a bank to be credited to an account which is in credit, the bank does not receive the money beneficially.
• The position is different if the account to be credited is overdrawn. In such cases, the bank does receive the money beneficially to the extent that the payment reduces or discharges the customer’s indebtedness to the bank.

Question 52

Knowing Receipt Requirement (3) - The fault requirement: knowledge

Answer 52

• A recipient of misapplied trust property (or its traceable proceeds) is not subject to a personal claim unless they had the requisite knowledge. If they dispose of the property, or dissipate it before they acquire such knowledge, they do not incur any personal liability
• However, as soon as the recipient acquires the requisite knowledge they must restore the property to the trust. If, instead, they dispose of the property, or dissipate it, they will be subject to a personal claim.

Question 53

Knowing Receipt Requirement (3) - The fault requirement: knowledge - Akindele test

Answer 53

(1) dishonesty is not a requirement for a knowing receipt claim, and
(2) ‘[t]he recipient’s state of knowledge must be such as to make it unconscionable for him to retain the benefit of the receipt.’

Question 54

Knowing Receipt Requirement (3) - The fault requirement: knowledge - the Baden scale

Answer 54

Comprises five types of knowledge:

(1) actual knowledge
(2) wilfully shutting one’s eyes to the obvious
(3) wilfully and recklessly failing to make such inquiries as an honest and reasonable man would make
(4) knowledge of circumstances which would indicate the facts to an honest and reasonable man
(5) knowledge of circumstances which would put an honest and reasonable man on inquiry

Question 55

Applying the Baden scale (Armstrong DLW GmbH v Winnington Networks Ltd)

Answer 55

‘the position, in a commercial context, can be summarised as follows:

(1) Baden types (1) to (3) knowledge on the part of a defendant render receipt of trust property “unconscionable”.
(2) Baden types (4) and (5) knowledge also render receipt “unconscionable” but only if, on the facts actually known to this defendant, a reasonable person would either have appreciated that the transfer was probably in breach of trust or would have made inquiries or sought advice which would have revealed the probability of the breach of trust.’

Question 56

Armstrong - facts of the case

Answer 56

• The defendant was offered the opportunity to purchase property. As the defendant had not had previous dealings with the seller, it implemented its ‘know your client’ (KYC) procedure. It emailed the seller and asked it to provide information to prove its ownership of the property. The seller replied to the email but did not include the information, which was ‘inherently suspicious and should have set alarm bells ringing’.
• The defendant made a conscious decision not to follow its KYC procedure: it purchased the property.
• Held that the seller held the property on constructive trust for the claimant. The sale to the defendant was a breach of that trust. The defendant’s knowledge rendered its receipt unconscionable
• ‘this was not just a case where the defendant failed to make inquiries that should have been made, but rather was a case where the relevant inquiries were made, but not followed through… deliberately and consciously chose to take the risk’

Question 57

The Diplock personal claim

Answer 57

• the Court of Appeal held that where a personal representative misapplies a deceased person’s estate, the persons entitled to the estate can bring a personal claim against the recipients of the misapplied property or its traceable proceeds.
• In contrast to the knowing receipt claim, the Diplock personal claim does not depend on fault. It can be maintained against innocent recipients.

Question 58

Diplock personal claim: 2 limitations

Answer 58

(1) The persons interested in the estate must exhaust their remedies against the personal representative before they can sue the recipient.
(2) And they can only recover the deficiency from the recipient. The claim is limited to the principal sum only: the recipient is not liable for interest on that sum.
- The recipient cannot defend a Diplock personal claim by reference to the fact that they innocently spent the money they received: Ministry of Health v Simpson.