French variations on English trusts

Sun 11 March 2018, Philippe Ropenga Estate management EU Succession Regulation 650/2012

It often is said that the use of trusts in a civil law country is difficult due to the conception of ownership derived from Roman law. This is true. Culture also has an influence on perception. English law and French law examine similar issues but look at them from a different perspective. The French practitioner listens carefully to his English counterpart and hears something different from what his colleague would expect. These differences of perception have a practical effect on family estate management. The English and the French usually play a different theme when dealing with family estate (1). Variations help to put these two themes together (2).

1 Two different themes

A brief description of variations in English law (1.1) helps an Anglo-Saxon ear to notice variations in French law (1.2).

1.1 English law

English law pays more attention to interest than to ownership. It therefore leaves room for different arrangements regarding trust property. The trust instrument can give some overriding powers to the trustee, especially in a discretionary trust context where the trustee has to consider whether to make a distribution. Moreover, if the trust instrument does not allow to do something that would be in the beneficiary's interest, the court can help. The Trustee Act 1925 already set an extensive legal framework that could help to unlock difficult situations. Section 57 of the Act in particular contains provisions related to dealings with trust property. In 1958, English law went a step further with the Variation of Trusts Act. Its section 1 allows the court to vary the trust even if the variation affects the beneficiary's interest. These variations are mainly designed to protect vulnerable people such as infants. They contribute to highlight the importance of the beneficiary's interest. Courts have to make sure that a variation is in the interest of all the beneficiaries¹ before approving it. The Variation of Trusts Act 1958 should not allow a variation that amounts to the creation of a trust that would be totally different from the earlier one². Such a variation can however be approved if the substratum of the trust remains unchanged³. The formulation of this rule is very Anglo-Saxon⁴. Variations allow the court to preserve the interest of the beneficiary by taking into account changes that might have been unforeseen by the settlor.

1.2 French law

Let us see how French law acts when unforeseen difficulties regarding an estate arise.

There are no trusts in French law. French law therefore does not focus on beneficial interests but on the legal title. When a person dies, heirs instantly become undivided co-owners of the estate as a whole. The notary has to fulfil liquidation formalities, especially those related to immovable property. Until the liquidation is over, heirs have to decide what to do with the property. Any decision has in principle to be unanimously approved. It is possible to establish a non-trading company that will be the owner of the assets to set different governance rules that will allow a single person to make decisions. This company is called a société civile immobilière (SCI). It often is used in France to organise management of family assets across generations. The company's articles of association have to be written by a notary who is a public officer and has a monopoly regarding formalities related to immoveable property rights. The avocat assists and advises his client to help him solve liquidation disputes as well as administration and management issues. The articles of association of an SCI can be valid, preserve each shareholder's property right, and lead to a deadlock situation nonetheless. How is this possible? You surely think about the case where no one has a clear majority. This happens when management issues have been overlooked when drafting the articles of association. The French Cour de cassation that is the supreme court regarding civil, commercial and criminal matters has recently drawn the practitioner's attention to a different issue⁵. As you now know, when a person dies, heirs become undivided co-owners of the whole estate. They have to agree on a liquidation plan. The shares of the SCI are part of the estate that has to be liquidated, and thus, are part of the indivision. What happens when an undivided co-owner refuse to agree to a resolution that will lead to the sale of company property? Can he be held liable for abuse of right as a minority shareholder? Can the voting rules be disregarded to circumvent this obstacle? No. The ownership right of an undivided co-owner has to be respected in any case. There however is a workaround: ask the court to appoint an administrator who will vote according to the court order. An SCI simplifies management since the potential paralysing effect of equal co-ownership can be avoided. One should however plan his estate to preserve management continuation on death of the founder of the SCI. Three scenarios can be distinguished:

1. There is no SCI Heirs share undivided co-ownership. This is the worst scenario. According to article 815 of the French civil code, no one should be forced to reman in indivision. Nevertheless, as you can imagine, heirs should at least agree on the price of property rights since the heirs have to pay the leaver his share. It is true that the court can appoint a valuator, but heirs have to agree on how to distribute items. In a family context, shares are not only related to price but also to property. Goods often have a sentimental value as well. The judge will never make an authoritative decision since he cannot infringe ownership rights unless law authorises him to do so. Disputes and legal proceedings can last for decades; the estate decays.

2. An SCI governed by clear management rules has been created. Some shareholders may have more powers than others to make some decision alone. A "dictatorship" may also appear. The SCI, as any company, may conversely be deadlocked. Nevertheless, if the SCI clearly is paralysed by a shareholder, as in the example above, the judge may issue an order to circumvent the obstacle without infringing ownership rights.

3. The SCI contains provisions that consider changes in management. The testator may also appoint someone who will manage the SCI for a short time in case of death to facilitate the transmission to the next generation.

As one can see, an SCI allows to take the beneficiary's interest into account although it is not done directly.

Let us now see how to make the most of these two themes in a single etude.

2 A single etude

An etude addresses technical difficulties (2.1) and fosters the development of useful skills (2.2).

2.1 Technical difficulties

Management left aside, there are two main sources of technical difficulties: tax and private international law.

The main problem with tax is that HMRC classifies the SCI as an opaque structure⁶ while French tax administration considers it as a transparent one. It means in practice that the SCI will be taxed by HMRC on the basis of capital gains. HMRC taxes the company, then the shareholder, while French tax administration only taxes any profit made by the shareholder. French tax administration obviously treats the SCI better since it wants to avoid long-lasting disputes about the management of the property. The SCI is a valuable management tool. It may, in some circumstances, be the only effective tool available to avoid facing the worst scenario mentioned above. It thus is important to consider the effect of HMRC's position in each situation. In France, some SCI are only used as a management tool and do not make any profit.

The EU Succession Regulation (650/2012) applies in France. It simplifies conflict rules regarding succession. The law of the habitual residency applies to the whole estate⁷. Since no one knows what one's place of habitual residency will be at the time of one's death, it is of good practice to choose law of the nationality if one wishes this law to apply⁸. Some people have used an SCI to avoid forced heirship⁹. This is useless under the Succession Regulation when the choice of law leads to the application of a law that ignores forced heirship.

These issues have to be addressed, but solving them does not lead to a better handling of the beneficiary's interest. The practitioner has to use other skills.

2.2 Useful skills

It may seem weird to discuss the beneficiary's interest if profit distribution is excluded for tax reasons. Nevertheless, even if the SCI does not distribute any profit, it has to decide how to allocate resources such as money or time to maintain the value of the property. The beneficiary's interest has therefore to be taken into account. Furthermore, practitioners draft complex documents because they want to make sure that, if a dispute arises, the withdrawal of a partner from the company is as easy as possible. These arrangements protect the shareholder from further trouble; they do not help the company to solve the problem that is the cause of the conflict. To resolve the problem, the practitioner has to help clients to identify value to let them find out what is in their or in someone else's interest.

Identifying value requires to look at the property's evolution over time to determine what each heir is happy about or not. They will have to leave a possible self-centred approach aside during the process. Each heir will say what matters to him. The practitioner will try to find out with the heirs what values they share. Value is a hybrid concept that is objective and subjective. The objective part is the property as a thing (building, location, environment). The subjective part is what each shareholder associates the property with (happy memories, family home…). Identifying shared values allow to agree on the value of the property.

Once a shared value is identified, it is easier to determine the interest. To know whether something is done in one's interest, one has to answer the following question: does this action change the situation of the beneficiary? It is an objective test. The question depends on the object that is considered. It can also be formulated like this: how will the suggested action contribute to the development of value as previously identified?

This helps the practitioner to realise that, while technical difficulties are closely related to a given jurisdiction, solving family estate issues requires skills that are not based on a specific law.

In brief, the variation of few elements can lead to serious dissonances. Combining these English and French themes in a single etude allows to hear more clearly that interest is the element that matters most in the family estate context, notwithstanding the jurisdiction, the applicable law, or the legal structure that has been chosen in a given matter. Hence, looking after the interest of the beneficiary is the only way to maintain or restore harmony.

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