when is an invalid gift a valid gift?

Subject: Trusts. Other related subjects: Equity. Succession

Keywords: Execution; Gifts; Intention; Pre emption rights; Share transfers; Trusts; Vesting

Cases: Pennington v Waine (No.1) [2002] EWCA Civ 227; [2002] 1 W.L.R. 2075 (CA (Civ Div))

T Choithram International SA v Pagarani [2001] 1 W.L.R. 1 (PC (BVI))

*P.C.B. 393 The recent decision of the Privy Council in T. Choithram International SA v Pagarini,1 and that of the Court of Appeal in Pennington v Waine,2 mean that the familiar mantra, “ Equity will not perfect an imperfect gift" is less true than it used to be. We have a new maxim of equity: “ Although equity will not aid a volunteer, it will not strive officiously to defeat a gift" .

Instead of a black and white test of whether and when a gift has been made or a settlement completely constituted, the question now seems to depend on whether it would be unconscionable for the donor to resile--much fairer, perhaps, but also much more difficult to know where you, and your client, stand. Choithram and Pennington “ clarify" the law to the point where practitioners may find it unrecognisable.

The question of when a trust is completely constituted, or a gift is perfected, is not a gentle meander around the by-ways of nineteenth century equity. Knowing the precise date on which a trust came into effect, or a gift was made, can have vital tax implications. Most obviously, did the seven years perfect a potentially *P.C.B. 394 exempt transfer completed before death? Was a gift shortly before death in fact completed pre-death, or was it too late?3

It is not only the Revenue's position and the size of the tax bill that are affected. Whether or not an intended gift takes effect, and when, has beneficial implications. If the gift was made pre-death, the apparent recipient benefits; if it was not, the property will pass under the Will or on intestacy. If the ordering of gifts was different from that intended, this may affect who has to pay the tax, as well as how much they have to pay. The goal posts on when a gift or settlement is perfected have moved, and practitioners need to know.

The historic tests

Historically there have been only two ways to create a trust. Either:

(1) the intending settlor declared the trusts and actually transferred the assets to the trustees (or did everything in his power, according to the nature of the property, to transfer the property to the trustees); or

(2) he constituted himself a trustee of the property.

Until recently, an intending settlor who fell between these two stools achieved nothing. His trust was incompletely constituted. The classic statement in Milroy v Lord 4 is familiar to every student of equity:

“ … in order to render a voluntary settlement valid and effectual, the settlor must have done everything which, according to the nature of the property comprised in the settlement, was necessary to be done in order to transfer the property and render the settlement binding upon him. He may, of course, do this by actually transferring the property to the persons for whom he intends to provide, and the provision will then be effectual, and it will be equally effectual if he transfers the property to a trustee for the purposes of the settlement, or declares that he himself holds in trust for those purposes; … but, in order to *P.C.B. 395 render the settlement binding, one or other of these modes must … be resorted to, for there is no equity in this court to perfect an imperfect gift.’ (Turner L.J.).

The same rule applies where the intention is not to create a trust, but rather to make a direct gift to the donee.

An intending settlor generally executes a deed of settlement and arranges actual transfer of the assets to the trustees. In Re Rose 5 Jenkins J. placed a now familiar gloss on the Milroy v Lord principle, saying that that case--

“ turn[ed] on the fact that the deceased donor had not done all in his power, according to the nature of the property given, to vest the legal interest in the donee" (emphasis added).

When time presses, for example pre-Budget, or there are special factors, the second route ((2) above) of the settlor executing a deed declaring himself trustee is often taken. The intention is to remove completely concerns about whether the transfer of the assets can be completed in the time available. Timing issues about transfer should not arise in this second case.

Milroy v Lord was not only authority for the proposition that there were only two correct routes available when creating a trust, but also explicitly laid down that if the first route (declaration of trust plus transfer of property) was for any reason ineffective, what had been done could not be recharacterised as a declaration of trust by the owner of the property. The passage quoted from Turner L.J. continues:

“ The cases I think go further to this extent, that if the settlement is intended to be effectuated by one of the modes to which I have referred, the court will not give effect to it by applying another of those modes. If it is intended to take effect by transfer, the court will not hold the intended transfer to operate as a declaration of trust, for then every imperfect instrument would be made effectual by being converted into a perfect trust …."

Post-Choithram, and even more so post-Pennington, the picture is no longer black and white.

Choithram

The facts and issues in Choithram were complex, but the judgment is clear on the points that are relevant here. Shortly before his death C created a charitable foundation with the expressed intention of giving to it his shares in, and his credit balances with, his companies. He was one of the first trustees and he and the *P.C.B. 396 other trustees executed the trust deed and £1,000 was transferred to the foundation. (The significance of the payment of £1,000 is, of course, that it meant that there was no question but that the trust itself was completely constituted and the point at issue was whether there had been an adequate transfer of the other assets to it.)

The directors of C's companies met and formally acknowledged that the foundation was henceforth holder of the shares and the credit balances that had been C's, but C did not actually sign share transfers. After his death the companies transferred his shares and credit balances to the foundation.

It is hardly surprising that this was challenged, given the apparently well-established test enunciated in Re Rose 6 of what was necessary to transfer shares. This was that a gift of shares was not to be regarded complete until (i) the transfers had been executed, and (ii) the transfers and the share certificates had been handed to the donee. An executed transfer and delivery of the share certificate were treated as sufficient for the transfer of shares in Re Rose, despite the fact that, to perfect his legal title, the donee needed to apply for registration. The principle underlying this was that this was the moment at which the donor had done all in his power to effect the transfer, according to the test in Milroy v Lord, and could no longer “ abort" the transaction. It is the parallel of the rule that a gift by cheque is not perfected until the cheque has cleared,7 because until then the intending donor can pull out by stopping the cheque.

The decision in Choithram

The main point before the Privy Council in Choithram (on appeal from the British Virgin Islands Court of Appeal) was whether, despite the fact that it was found that B did have an intention to make an irrevocable gift, that gift failed because the gifted property had not been vested in the trustees. The BVI Court of Appeal had held that the gift did indeed fail, recognising only the two established Milroy v Lord routes.

The Privy Council saw the case as raising a new point not to be solved simply by applying the well-worn Milroy v Lord dictum, for the case did not fit either of the two classic situations. It took the view that, although C had apparently used simple words of gift (“ I give to X" ), since the recipient was a trust the words could only mean “ I give to the trustees to hold on the trusts of the trust deed" . In other words, per Lord Browne-Wilkinson, “ Although the words are apparently words of outright gift, they are essentially words of gift on trust" .

*P.C.B. 397 This gift was not simply to third parties as trustees: as such, it could only have been perfected by adequate transfer; the gift was made rather to C and others as trustees, so that C was one of those who would hold upon the trusts. The Privy Council was not prepared to allow this hybrid situation to fall between the two Milroy v Lord stools: “ although equity will not assist a volunteer, it will not strive officiously to defeat a gift" . It held that there could in principle be no distinction between:

(1) a donor declaring himself to be a sole trustee for a donee or for a purpose (the second of the Milroy v Lord routes where transfer issues do not arise); and

(2) a donor declaring himself to be one of the trustees for that donee or purpose.

“ In both cases, [the donor's] conscience is affected and it would be unconscionable and contrary to the principles of equity to allow the donor to resile from the gift" . C had “ in the most solemn circumstances" declared that he was giving (and later declared that he had given) property to a trust which he had established and of which he had appointed himself to be trustee. “ In the absence of special factors, where one out of a larger body of trustees has the trust property vested in him, he is bound by the trust and must give effect to it by transferring the trust property into the names of all the trustees" .

The implications of Choithram

Before going on to the further relaxation of these rules in Pennington, it is worth pausing to consider the implications of Choithram itself. It will take time for these to be fully assimilated into practice, but here is a starting point:

• Lawyers are cautious folk and the majority of practitioners, when creating a settlement or arranging a gift, will no doubt continue to follow one of the two strict Milroy v Lord routes. Nonetheless Choithram could obviously be helpful (or unhelpful, depending upon which party you are advising) in disentangling another muddle of the kind that arose in that case.

• It could also assist in the kind of case encountered from time to time in practice where there is a need to make the settlement in short order (so that the second of the Milroy v Lord routes will be used i.e. settlor declares himself trustee), but the settlor is keen for personal reasons that another family member or someone with a special relationship should also appear on the trust deed as an original trustee. Pre-Choithram, advice had to be against this, precisely for fear of falling between the two Milroy v Lord stools. Post-Choithram, in view of Lord Browne-Wilkinson's comment that

*P.C.B. 398 “ there can in principle be no distinction between the case where the donor declares himself sole trustee for a donee or a purpose and the case where he declares himself to be one of the trustees for that donee or purpose" ,

the efficacy of such a route can hardly be doubted.

• Choithram does not mean that all the authorities on what amounts to a sufficient transfer of the assets can be consigned to the dustbin of legal history. Subject to what is said below about Pennington, Choithram comes to the aid of an inadequate transfer into settlement only when the settlor is one of the initial trustees. In the still quite common case where he is not, the test in the first limb of Milroy v Lord (that there must be both a declaration of trust and actual transfer of the assets to the trustees) must still be met.

• Does this mean that it will now become common practice to include a settlor as an initial trustee, even if there is no intention that he should be one in the long term, to avoid questions about whether the assets had been sufficiently transferred (for example, in the event of the settlor's unexpected death immediately after signing the settlement deed)?

This is surely an unnecessary complication in those cases where any reasonably competent practitioner can be fairly confident of getting the transfer procedure right and of being able to implement it contemporaneously with the creation of the settlement--the most obvious example is cash, but there is also a well-trodden route for private company shares, say. But where transfer of the assets will take time (delivery of chattels, or a cheque that will take time to clear) then to have the settlor as initial trustee may be a comfort: even the healthiest of settlors can meet with an accident. Problems rarely arise, of course, but the fact that so many of the authorities on what is a sufficient transfer are examples of cases that only just--or did not quite--make it on time is witness to the fact that there is no room for complacency.

• Simply to make the settlor one of the trustees is obviously not a magic “ cure all" . There still has to be sufficient identification of the property to be transferred, and enough done to affect the donor's conscience. C had declared what property he was giving “ in the most solemn circumstances" , circumstances where his conscience was affected and it would be “ unconscionable and contrary to the principles of equity" to allow him to resile. Casual, vague and aspirational statements do not suddenly all become binding post-Choithram.

*P.C.B. 399 • The ratio in Choithram was very firmly linked to the fact that this was a gift into settlement, not an outright gift,8 and so, stopping the clock immediately after Choithram, the old tests might be thought to apply, unadorned, for gifts. But if, as a result of Choithram, equity would now (on occasion) perfect an imperfect gift to trustees, it was only going to be a matter of time before someone challenged the proposition that equity will not perfect an imperfect outright gift. The time in question proved very short and this sea change has already happened, with a minimum of éclat, in Pennington v Waine.

Pennington v Waine

Pennington concerned an outright gift of shares. The first reaction of a practitioner on discovering the facts would surely have been to despair, for, until Choithram, the requirements for a transfer of shares seemed totally clear, with no “ fuzzy edges" . Turner L.J.'s test in Milroy v Lord, that the settlor “ must have done everything which, according to the nature of the property comprised in the settlement, was necessary to be done in order to transfer the property" , had been amplified in Re Rose 9 : in that case it was held to be sufficient, in relation to a transfer of shares, that the settlor had done everything in his power to transfer the legal and beneficial interest in the shares to the donee when he had signed the stock transfer form and handed it, and the share certificate, to the donee. The donee became beneficial owner from that moment and the donor could then no longer assert beneficial title even though he was still the legal owner. Pending completion of the transfer of the shares, the donor was trustee of the legal title for the transferee.

The Court of Appeal decision in Pennington v Waine now provides at the least a gloss on this test. Whether it will come to be regarded as an alteration in the underlying principle, or merely a case decided on its particular facts, remains to be seen, but the Court of Appeal's approach seems firmly to indicate the former. For the time being (and indeed indefinitely, because of the test's “ fuzzy edges" ) caution will counsel use of the old test when planning transactions, leaving the rule in Pennington, if such it can be called, as potentially invaluable first aid in a case that has been botched by (one hopes) someone else.

The facts in Pennington

A owned 1,500 of the 2,000 issued shares in C Ltd. She instructed P, a partner in C Ltd's auditors, that she wished to transfer 400 shares to her nephew H and that *P.C.B. 400 she wanted him to become a director. It was these shares that would provide H with the shareholding he needed to be eligible to be a director.

A signed a share transfer and P placed it “ on the company's file" . It seems to have been accepted that in doing so P was acting as A's, not H's, agent. The shares were in fact subject to a pre-emption agreement in favour of the other members of the company, but nonetheless the corporate paperwork for H's appointment as director was completed and H was told by P that there was nothing more he need do. A made her Will a couple of months later, specifically bequeathing the rest of her shareholding, but making no mention of the 400 shares purportedly transferred to H. A natural inference was that she thought they already belonged to H.

Classically, the gift would have been complete only once the signed stock transfer form and the share certificate had been handed to the donee.10 The Court of Appeal held that the gift was to be regarded as completely constituted, despite the lack of delivery and the fact that there was, apparently, nothing to stop A recalling her gift.

It was the Court of Appeal's view that A had done enough to assign the equitable interest and that it was not, on the facts, inconsistent with earlier authority not to require actual delivery to effect the transfer in this case.

Pennington : the reasoning

Arden L.J.'s starting point was that, in the case of a voluntary transaction, ‘ the principle that equity will not assist a volunteer must be applied and respected ’ (para.[52] of the judgment, emphasis added). She qualified this, however, by quoting Lord Browne-Wilkinson in Choithram propounding what should perhaps now be one of the new maxims in the equity books: “ Although equity will not aid a volunteer, it will not strive officiously to defeat a gift" (para.[60]).

In Choithram Lord Browne-Wilkinson had gone on to say that the court will not distinguish between the case where the donor declares himself sole trustee and the case where he declares himself one of the trustees: “ In both cases his conscience is affected and it would be unconscionable and contrary to the principles of equity to allow such a donor to resile from his gift."

In other words, there were now three Milroy v Lord style heads:

(1) declaration of trust and transfer;

(2) declaration of self as trustee (no transfer needed); and

*P.C.B. 401 (3) declaration of self and others as trustees (no transfer needed because conscience affected).

The hidebound might still have thought that the facts in Pennington would founder on this expansion of the principles by Turner L.J. in Milroy v Lord :

“ If it is intended to take effect by transfer, the court will not hold the intended transfer to operate as a declaration of trust, for then every imperfect instrument would be made effectual by being effectual by being converted into a perfect trust" .11

Not so the Court of Appeal. Arden L.J. derives this from Lord Browne-Wilkinson's statement:

“ Accordingly the principle that, where a gift is imperfectly constituted, the court will not hold it to operate as a declaration of trust, does not prevent the court from construing it to be a trust if that interpretation is permissible as a matter of construction, which may be a benevolent construction. The same must apply to words of gift. An equity to perfect a gift would not be invoked by giving a benevolent construction to words of gift or, it follows, words which the donor used to communicate or give effect to his gift." (para.[61]) (emphasis added).

Arden L.J. examined at some length the policy considerations behind the ancient rule that the court will not perfect an imperfect gift, leading up to a focus on Choithram and unconscionability12 :

“ If one proceeds on the basis that a principle which animates the answer to the question whether an apparently incomplete gift is to be treated as completely constituted is that a donor will not be permitted to change his or her mind if it would be unconscionable, in the eyes of equity, vis-à-vis the donee to do so, what is the position here? There can be no comprehensive list of factors which makes it unconscionable for the donor to change his or her mind: it must depend on the court's evaluation of all the relevant considerations. What then are the relevant facts here? [A] made the gift of her own free will: there is no finding that she was not competent to do this. She not only told [H] about the gift and signed a form of transfer which she delivered to [P] for him to secure registration: her agent also told [H] that he need take no action. In addition [H] agreed to become a director of the company *P.C.B. 402 without limit of time, which he could not do without shares being transferred to him." (para.[64]).

This seems to give four Milroy v Lord heads:

(1) declaration of trust and transfer;

(2) declaration of trust, inadequate transfer but conscience is on the facts affected (Pennington );

(3) declaration of self as trustee (no transfer needed); and

(4) declaration of self and others as trustees (no transfer needed because conscience affected (Choithram 13 )). If these four heads are right, they show how much further Pennington goes than Choithram. (2) depends on Pennington being authority for the proposition that it is no longer necessary for the settlor to be one of the original trustees for the Choithram easing of Milroy v Lord to apply: if his conscience is affected, why should the donor be able to shuffle off his responsibilities simply because of the unconnected chance that he happens not to be a trustee? Let no one speak of the law's delays if one of the most deeply rooted tenets of equity can crumble in the space of two years! Perhaps, at bottom, we now have two alternative questions to ask when deciding whether a gift has been perfected:

(1) Is the donor's conscience affected? If not,

(2) Does the gift meet either of the old Milroy v Lord tests?

I said earlier that, while we may have a general principle, it is a general principle to be used as first aid, not for planning. This may be taking too comfortable a view of things. Practitioners cannot afford to tuck these cases away in the back of the mind, to be ignored until a case comes along when things have gone wrong and a solution needs to be devised. Suppose plans are in hand for a series of estate planning moves, including a gift. The adviser is working on the basis that it is easy to select the precise timing of the gift in this series of events: delivery is to be the trigger. But if external events (of which the practitioner may not even know) have happened to make it unconscionable for the donor to resile, the gift could already have happened, under the new test, without the practitioner knowing of it.

The actual decision in Pennington concerned shares, but presumably it affects all property subject to similar tests, most notably cheques. What about chattels, where the requirement has been for delivery or a change of possession which *P.C.B. 403 unequivocally demonstrates that the donor has transferred possession and title to the donee (Re Cole 14 )? If sufficient has been done to affect the donor's conscience, is it immaterial that the “ gifted" grand piano is still in his drawing room? Interesting and complex reservation of benefit issues could arise if equity would say that he has made the gift before you thought he had.

Conclusion

To sum up, the new world is probably more equitable, but it is certainly more difficult. For some, the decision in Pennington may prove to be the godsend that rescues them from a sticky situation. For those to whom it is inconvenient, however, there will be plenty of ways to seek to distinguish it. In Pennington A had done very much more than just sign a share certificate and then fail to deliver it. In particular, she had procured, on the basis of what seems to have been confused practice by the company's advisers, the appointment of H as a director of C Ltd. How many of the elements in Pennington are necessary before the conscience of the donor is affected? A fruitful ground for litigation, where the prize is big enough.

P.C.B. 2003, 6, 393-403

1. [2001] 2 All E.R. 492; [2000] W.T.L.R. 277.

2. [2002] 1 EWCA Civ 227.

3. Timing for inheritance tax purposes follows the rules of equity. The general guidance in the CTO's Advanced Instruction Manual at C9 is as follows: “ The inheritance tax legislation does not contain general rules concerning the dating of dispositions, which must therefore be ascertained in accordance with the general law. The date of a disposition is important because upon it will depend the accounting period in which the transfer falls, due date of payment of tax etc. It may also be important to know the order of dispositions made on the same day or within a short period so that exemptions may be given against the appropriate disposition.… The precise date of a disposition should not be questioned in cases where the likely amount of tax involved is not significant. Many dispositions will present no problem, but the (sic ) transactions which are not completed by delivery, for instance, it may be necessary to determine the exact time at which legally enforceable rights pass from the transferor to the transferee. The time at which a disposition actually becomes effective is the appropriate time to be adopted for inheritance tax purposes."

4. [1862] 4 De G.F. & J. at 274.

5. [1949] Ch. 78.

6. [1952] Ch. 499. Not the same Re Rose as supra. Confusingly, there are two Re Rose cases within three years on parallel issues.

7. Owen v IRC [1949] 1 All E.R. 901. See also Curnock v IRC at [2003] PCB 316-317.

8. “ Although the words are apparently words of outright gift they are essentially words of gift on trust" (supra ).

9. [1952] Ch. 499.

10. If P had been acting as H's agent, this would presumably have sufficed.

11. Supra.

12. Lord Browne-Wilkinson said: “ There can be no distinction between the case where the donor declares himself to be sole trustee for a donee or for a purpose and the case where he declares himself to be one of the trustees for that donee or purpose. In both cases his conscience is affected and it would be unconscionable and contrary to the principles of equity to allow such a donor to resile from his gift."

13. Query how far one can say that it is a matter of principle that the conscience of the donor is affected in this case (as one of the trustees with property vested in him), and the extent to which it depends on the facts (solemn circumstances etc. ). The Privy Council's decision refers to both elements.

14. [1964] Ch. 175.

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