Trusts (Capital and Income) Bill [Lords]


The Committee consisted of the following Members:

Chair: Martin Caton 

Alexander, Heidi (Lewisham East) (Lab) 

Bray, Angie (Ealing Central and Acton) (Con) 

Buckland, Mr Robert (South Swindon) (Con) 

Chishti, Rehman (Gillingham and Rainham) (Con) 

Cunningham, Alex (Stockton North) (Lab) 

Evennett, Mr David (Lord Commissioner of Her Majesty's Treasury)  

Flello, Robert (Stoke-on-Trent South) (Lab) 

Grant, Mrs Helen (Parliamentary Under-Secretary of State for Justice)  

Hillier, Meg (Hackney South and Shoreditch) (Lab/Co-op) 

Huppert, Dr Julian (Cambridge) (LD) 

Johnson, Gareth (Dartford) (Con) 

Lumley, Karen (Redditch) (Con) 

Penrose, John (Weston-super-Mare) (Con) 

Qureshi, Yasmin (Bolton South East) (Lab) 

Sanders, Mr Adrian (Torbay) (LD) 

Scott, Mr Lee (Ilford North) (Con) 

Shannon, Jim (Strangford) (DUP) 

Sharma, Mr Virendra (Ealing, Southall) (Lab) 

Turner, Karl (Kingston upon Hull East) (Lab) 

John-Paul Flaherty, Steven Mark, Committee Clerk s

† attended the Committee

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Second Reading Committee 

Monday 5 November 2012  

[Martin Caton in the Chair] 

Trusts (Capital and Income) Bill [Lords]

4.30 pm 

The Chair:  Before we begin, I remind Members that the Second Reading of this Bill is being debated in Committee rather than in the Chamber because it is a Law Commission Bill. Under Standing Order No. 59, Law Commission Bills are automatically referred to a Second Reading Committee. As this is a Second Reading debate, no Member may speak more than once without the leave of the Committee. It is conventionally granted to the Minister moving the motion at the end of the debate. 

4.31 pm 

The Parliamentary Under-Secretary of State for Justice (Mrs Helen Grant):  I beg to move, 

That the Committee recommends that the Trusts (Capital and Income) Bill ought to be read a Second time. 

The Bill is a short technical measure to amend the law of England and Wales relating to capital and income trusts. I should like to take this opportunity to thank the Law Commission, for which I am now the responsible Minister at the Ministry of Justice, and the Charity Commission for the help that they have given in the preparation of the Bill and their continuing support as it goes through Parliament. 

The Bill will implement, with minor modifications, the reforms recommended by the Law Commission in its 2009 report, “Capital and Income in Trusts: Classification and Apportionment.” The Bill derives ultimately from comments made during debates in Parliament on the Bill that became the Trustee Act 2000. That led to the publication of a Law Commission consultation paper in 2004 and the Commission’s report in 2009. The Ministry of Justice then carried out a public consultation in 2010 on the draft Bill published by the Law Commission in its report and published a response in 2011 explaining how it intended to finalise the measure. This extended process of detailed and responsive consultation has, I believe, created a measure with a broad consensus of support. 

It may be helpful if I explain what is meant by “capital” and “income” in the context of the Bill. Capital is trust property that constitutes a pool or fund of assets and is to be distinguished from the income earned on those assets. The distinction has traditionally been illustrated by the rather homely metaphor of a tree and its fruit. The “tree” is the capital, for example, an office block or shares in a listed company, and the “fruit” is the income, for example, the rent received from renting out the offices or the dividend paid on the shares. 

The Bill’s overall aim is to simplify three distinct but linked areas of trust law in England and Wales relating to the apportionment and classification of trust capital and income. The first subject addressed by the Bill is rules of apportionment. They deal with apportioning

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trust receipts between income and capital beneficiaries. For example, a trust—let us call it the AB Trust—may be established by a person making a gift of investments on trust 

“for person A for life, with remainder to person B”. 

That means that the trustees will pay the income arising on the investments to A until A dies, and then transfer the investments to B. Because of the different entitlements to income and capital, the trustees must distinguish between investment receipts according to their legal classification as income receipts due to A, or capital receipts, which must be held ultimately for B and can be invested to produce income for A during his or her life. In the 19th century, various cases came before the courts in which the judges had to decide how to split receipts in this way. Sensible though the decisions were in their time, the application of some of them as general rules of trust practice is now problematic. 

Clause 1 therefore disapplies for new trusts the first and second parts of the rule in Howe v Earl of Dartmouth, the rule in Re Earl of Chesterfield’s Trusts and the rule in Allhusen v Whittell. That means that, in the absence of express provision in a new trust, these rules will not apply and the relevant receipt will belong in its entirety to the income or capital beneficiary, depending on its classification as one or the other. That will bring new trusts into line with modern trust drafting practice, which almost always excludes such rules in the documents setting out the terms of the trust. That will simplify the administration of trusts without any loss of fairness.

Clause 1 also disapplies for new trusts the statutory rule requiring the apportionment of income over time imposed by the Apportionment Act 1870. The reforms effected by clause 1 will mean that complex and time-consuming calculations, generally affecting relatively small sums of money, will be avoided. The changes in clause 1 are restricted to new trusts, so that there is no interference with the intention of settlors, who may have wished the existing law to apply. 

Clause 2 amends the law relating to classification for trust law purposes of specified tax-exempt distributions by companies on demerger for all trusts. The distributions to which clause 2 applies are those that are tax-exempt under sections 1076, 1077 or 1078 of the Corporation Tax Act 2010 and, in future, those that are tax-exempt and specified by an order made by statutory instrument by the Lord Chancellor. No such order is envisaged at present. 

In practical terms, clause 2 will move the classification of dividends received by trustee shareholders on direct demergers from income to capital and will secure that classification for dividends on indirect demergers, which currently rests on a decision of the High Court. As a result of the Bill, all distributions received by trustees on tax-exempt corporate demergers will be classified as capital for trust law purposes. That will remove not only the potential injustice to capital beneficiaries of seeing significant proportions of the capital holding of the trust assets converted to income by reasons beyond the control of the trustees, but the pressure on trustees to sell investments in companies proposing demerger purely to avoid the outcome of the present inconsistent classification. Classification of the distributions as capital will, in most cases, produce the right result. However, in some cases, for example, where dividends have been withheld and rolled up into the demerger shares, the

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income beneficiary may be unfairly disadvantaged. Clause 3 therefore gives the trustees power to make a compensatory payment to the income beneficiary. We do not expect that power to be exercised often, but we believe, following representations from expert stakeholders, that it is necessary in the interests of fairness. 

That brings us to clause 4, which relates to investment by charities with a permanent endowment on a total return basis. Before describing the working of the clause, I will briefly explain the meaning of those two concepts. First, a charity has a permanent endowment if its constitution places restrictions on the expenditure of property held for the purposes of the charity. Typically, a permanent endowment will be a capital sum donated for charitable purposes on terms that the income it generates may be used for those purposes, but the capital itself must remain untouched to create more income for the future. 

Secondly, total return investment involves the charity trustees selecting investments on the basis of risk and return, and then spending an appropriate proportion of the total return, irrespective of the form individual returns take as capital or income. As a result, the trustees are not constrained in their investment choice by the need to generate income returns and can select appropriate investments in the same way as the trustees of charities who do not have a permanent endowment.

Total return investment is not a new concept. Charity trustees can already apply to the Charity Commission for authority to adopt it, and a small number have done so. Clause 4 will provide a new framework for obtaining that authorisation. Instead of making an application, charity trustees with a permanent endowment will be able to opt in to that type of investment on the terms prescribed by regulations to be made by the Charity Commission by resolution, if the trustees consider that it is in the best interests of the charity to do so. 

The new administrative approach will reduce the costs of embarking on total return investment for both charities and the Charity Commission. The change will enable charity trustees responsible for a permanent endowment to bring themselves broadly into the same position in relation to investment decisions as charity trustees without a permanent endowment. It will allow them to invest in the same way as other trustees in accordance with their duties under the Trustee Act 2000 and the trust instrument. 

The content of the Charity Commission’s regulations has not been finalised, and to that extent, we cannot say precisely what the terms and conditions on which total return investment will be permitted will be. The Charity Commission did, however, make available, before the Bill was introduced in the other place, a draft of what it then expected the proposed regulations to cover. A copy of the draft regulations has been made available to hon. Members. 

The Charity Commission’s regulations will not be subject to parliamentary scrutiny. They will be made by the commission and published in such a way as it thinks appropriate. That reflects the technical nature of the regulations and the commission’s role as the long-established and well-respected regulator of charities. It will no doubt revise the terms from time to time in the light of experience. 

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The Bill will simplify and modernise the law of trusts in modest but important respects. It is certainly not an easy Bill to understand, but it will bring benefits to private and charitable trusts, which will help a good number of people, including the more disadvantaged in society. 

4.43 pm 

Robert Flello (Stoke-on-Trent South) (Lab):  As ever, it is a pleasure to serve with you in the Chair, Mr Caton. 

The Bill is indeed a technical one; it is about a specialised area—a niche thing. Although the Bill is, as the Minister said, a Law Commission Bill, it is strictly a Government Bill, as Lord Henley said in the other place. I am pleased that the Bill began life under the then Lord Chancellor in 2000. There is some history to which we can point. 

I congratulate the Law Commission. The fact that its work load was such that it had to take a break of about four or five years from the Bill before it was able to get back to it shows both the scale of work that it has to deal with and its unswerving dedication never to let things lie even though months or indeed years have passed. 

The Minister said that the Bill is hard to understand—I am possibly paraphrasing her. It takes me back to my own experience of trusts, working with a number of accountancy firms. I thought that I would never hear again the delightful words “discretionary trust”, “accumulation and maintenance” and “interest in possession”, or even simple words such as “settlor”, “beneficiary” and “trustee”. I thank the Government for introducing the Bill and allowing me to hear those beautiful words again. 

Seriously, however, Lord Phillips of Sudbury used an interesting turn of phrase in the other place when he referred to the Law Commission as 

“the unsung heroes of the forest of the law and, within it, it is a true forester.”—[Official Report, House of Lords, 25 April 2012; Vol. 736, c. GC296.] 

I am not quite sure I will follow that particular path, but I will follow Lord Phillips down a different path. He raised concerns about the language in clause 3(1), (2) and (3), and Lord Henley addressed those concerns in his reply, saying that the Bill had been looked at by many knowledgeable people. However, that does not quite seem like a full answer. I appreciate that, in the Special Public Bill Committee, Murray Hallam, speaking for the Law Society, confirmed that it was happy with the wording. When the Minister replies, however, will she explain why we have some of the phrases in clause 3? For example, subsection (1) says that, 

“trustees are satisfied that it is likely that, but for the distribution, there would have been a receipt”, 

while subsection (2) states: 

“The trustees may make a payment out of the capital funds”, 

and subsection (3) refers to 

“the position in which the trustees consider that the beneficiary would have been had there been the receipt”. 

When the Minister gets to her feet shortly, will she address those points and give us the clarity that was not forthcoming in the other place? 

On clause 4, proposed new section 104A uses the phrase: 

“Investment of endowment fund on total return basis” 

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and goes on to say: 

“This section applies to any available endowment fund”. 

I appreciate that “available endowment fund” is defined later, but I am just curious about the use of the word “available”. Again, will the Minister comment on that when she gets to her feet? 

The cost-benefit analysis part of the impact assessment makes for interesting reading. Page 2 talks about the economic assessment. Under the heading, 

“Description and scale of key monetised costs by ‘main affected groups’”, 

it says: “Costs not quantifiable.” The document then talks about the benefits, saying: “Benefits not quantifiable.” It is a little interesting to have a cost-benefit analysis in which the costs and the benefits are not quantifiable. The way of looking at this seems to be, “Well, if it needs to be sorted, we’ll sort it.” That is not quite the rigorous basis I would have looked for. Again, the Minister may want to say a word or two about that. 

I intend to return to the detail of the Bill when it goes into Committee—next week, I believe. At this point, however, the Opposition—understandably, given the Bill’s history—support its principles. We will have more to say when it reaches Committee, but, for now, I am happy to leave it at that. I look forward to the contributions from other Members who, I am sure, are

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desperate to show off their knowledge of trust law, as well as their appreciation of capital and income, and the fruits of the forest. I also look forward to the Minister’s response. 

4.47 pm 

Mrs Grant:  We have had a thoughtful but fairly short debate. The Bill will make useful changes to the law—changes that are certainly technical and outside the daily experience of most people, although that does not mean that they will not benefit ordinary people. 

The shadow Minister has raised a number of issues, and I will have to write to him on some of them. On his point about clause 3, however, I can say that the Law Commission drafted the provision very carefully to avoid putting too much of a burden on trustees. As I said, however, I will write to him in more detail on the language and the use of the term “available”. 

I am especially pleased that we have been and will be able to help charities invest more easily. We think that more money will be made available for charitable purposes. The Bill will simplify and modernise the law of trusts. With that in mind, I commend it to the Committee. 

Question put and agreed to.  

4.50 pm 

Committee rose.  

Prepared 6th November 2012