The recent High Court decision in Stokes Family Trust v RM Colebrook Family Trust should ring alarm bells for anyone who routinely makes purchases on an “or nominee” basis and then nominates the same trustee purchaser as to do so could invoke the doctrine of undisclosed principal.
The facts of the case can be summarised simply as:
- Mrs C entered into a contract to purchase a property subject only to her being able to borrow the deposit
- the contract was subsequently confirmed after the RM Colebrook Family Trust (“the Trust”) provided mortgage security for a loan advance on account of the deposit
- the settlement of the purchase of the new property was to occur on the same day as the sale of an existing property owned by the Trust
- the sale did not settle, neither did the purchase
- it was not disputed that the failure of the sale to settle led to the failure of the settlement of the purchase
- the vendor trust (Stokes Family Trust) ultimately sold the property at a substantially reduced price and, in due course, obtained judgment against Mrs C in the amount of over $943,000 on account of her failure to settle the purchase.
It was after this that it all got pretty interesting. Mrs C was essentially insolvent. The Trust was not. The Stokes Family Trust argued that when Mrs C entered into the agreement for sale and purchase, even though the purchaser was styled as Mrs C or nominee, and the trustees of the Trust had not discussed or considered the purchase, Mrs C did intend to act on the Trust’s behalf. Or as the Court put it ” … the only question must be whether Mrs colebrook intended that, if and when push came to shove, it was she or the [Trust] who would settle the transaction.” For the record, whether or not this is the correct question will remain to be seen over time if or when the decision or another like it is appealed.
To put this into context it is useful to consider some brief points on undisclosed principals from the leading modern authority on the subject Siu Yin Kwan v Eastern Insurance Company Ltd:
- an undisclosed principal may sue and be sued on a contract made by an agent on his behalf, acting within the scope of his actual authority
- in entering into the contract the agent must intend to act on the principal’s behalf
- the agent of an undisclosed principal may also sue and be sued on the contract
- any defence that the third party may have against the agent is available against the (undisclosed) principal
- the contract may, expressly, or by implication, exclude the participant’s right to sue and / or liability to be sued. The contract itself, or the circumstances surrounding the contract, may show that the agent is the true and only principal
The evidence shows that Mrs C did not make arrangements for herself or for any other trust to settle the purchase and the Court was satisfied that “Plan A” was for the Trust to complete the purchase. Whether or not Mrs C may have intended to act on the Trust’s behalf – if she was not authorised to do so by the trustees – and it was accepted that she was not – can she have acted as the Trust’s undisclosed agent? This is particularly relevant given the requirement noted above specifying the need to act within the scope of actual authority.
A bit more interesting
In canvassing the evidence the Court accepted the evidence of Mrs C’s co-trustee (her sister) that no formal authority was given to Mrs C on account of the purchase. In that regard the Court also noted that “… formality and record-keeping were hardly particular features of the operation of the [Trust].
While it was postulated that Mrs C might have advised her co-trustee of her desire to make the purchase and for the co-trustee to consent, as appeared normal based on past practice, it appears however that where this had happened the co-trustee’s consent was in the form of ratification of decisions. For the doctrine of undisclosed principal to apply the agency must exist at the time the contract is entered into. However, ratification necessarily involves subsequent consent. The Court did not consider whether any question of ratification arose as a new path was found. And what a slippery slope it was.
Just plain scary
The approach adopted was to look at the history of the Trust’s prior dealings and how the co-trustee was involved with these. Determining the future from the past. In doing so the Court noted that the Trust was Mrs C’s “creature” and that it appeared to be understood that she would have “virtually free rein” when it came to the Trust’s property transactions. In the totality of the circumstances the Court found that Mrs C’s “authority to act on behalf of the Trust in relation to dealings over her family home(s) can be fairly inferred.” The Court also determined that Mrs C was confident that the Trust would agree to the purchase of the new property.
The result was therefore a finding that Mrs C was acting with the Trust’s inferred authority and entered into the purchase agreement as the Trust’s undisclosed agent. Accordingly, the trustees of the Trust were liable for the judgment against Mrs C in the amount of more than $943,000.
Application of the law
Whether inferred authority is, in fact and in law, sufficient to support the existence of an undisclosed agency, will require the matter to be appealed or further considered. It is clear from commentary on the doctrine, which has been described as “surprising and anomalous” as perhaps might be this case, that the picture is not clear cut. What is of concern is that the only way the argument works in this case is to infer the authority. Statements on the doctrine confirm the requirement that there be a principal. However, where the agent’s authority is inferred, as must be the principal, it is necessary to ask whether this case is on all fours with the doctrine or whether the Court was determined to find what might be considered a “fair” outcome. Subjectively, if not objectively. Consideration of the requirements of the doctrine highlight the need to objectively identify the principal:
“An undisclosed principal may sue or be sued on a contract made on his behalf, or in respect of money paid or received on his behalf, by his agent acting within the scope of his actual authority. Where a contract is involved, the agent on entering into it must have intended to act on the principal’s behalf.” See Bowstead and Reynolds at para 8-070.
While it is not doubted or disputed that the application of the doctrine can provide a windfall for the third party, or that the third party necessarily will have no knowlege that the agent is acting for a principal, can the doctrine apply where neither the inferred agent or the inferred principal have knowledge of their inferred relationship?
Regardless of whether or not the facts of this case are accepted as coming within the requirements of the doctrine of undisclosed principal, the clear message from this case is where the trust is seen as being one trustee / beneficiary’s “creature” as was the case here, and where that trustee is acting with a free rein, the trust is vulnerable to such claims.
The Court highlighted the lack of formality, the absence of records of trustee decisions, the apparent delegation of responsibility and the cipher-like rubber stamp nature of the co-trustee. In fairness, it is likely that the co-trustee (like so many other lay trustees) had no idea as to a trustee’s rights and obligations. This does not change the outcome.
The messages to take from this case: the vital importance of trustee resolutions and of trustee meetings; and the need to rein in the renegade driving-force trustee. Trustees need to work together, record their decisions and act as a collective group. If this is too hard, why bother with the charade?
Finally, where a person (whether or not a trustee) is regularly entering into agreements and later nominating a trust to purchase, consider inserting a term into the agreement to confirm that there is no agency (unless of course an agency is in fact intended).
- Stokes, Stokes and Williams as trustees of the Stokes Family Trust v Insight Legal Trustee Company Limited and Heenan as trustees of the RM Colebrook Family Trust  NZHC 1822
- Contracting with Companies, Trusts, Partnerships and Nominees, NZLS August 2010, 4. Undisclosed Principals
- Tan Cheng-Han, Undisclosed Principals and Contract (2004) 120 LQR 480
- Siu Yin Kwan v Eastern Insurance Co Ltd  UKPC 43