Chapter |0

Breach of trust, strangers

and tracing

Introduction

Thevarious claims considered in this chapter in outline

Thischapterconsiders the liability of trustees for breach of trust;, the personal lia-
bility of third party 'strangers' for their involvement in a breach of trust, whether
becausethey assisted that breach of trust dishonestly or because they received
property from a breach of trust unconscionably; and the possibilities for trac-
ingproperty that was originally held on trust or which was a substitute for that
trustproperty. It is easiest to think of these three different types of action as being
thealternativesthat are open to bene ciaries if there is some breach of trust (or
abreach of some other duciary duty). The bene ciaries are effectively able to
recovertheir loss from the trustees, or from strangers, or from any person who
holdsthetraceableproceeds of the trust property. It is quite an arsenal of equitable
doctrinesavailable to the bene ciaries.
Thethemerunning through this chapter is that the law of trusts will always try
tocometo the aid of the bene ciary: in effect, wrapping the bene ciary in cotton
wool.In this chapter what we will see is a relic from the past of the law of trusts
asthe main means by which many members of the landed classes would have
theirincomesprotected and their homes provided for them in family settlements.
Tohavepermitted either trustees or third parties to take bene t fronm those people
wouldhavebeen to strip them of their possessions; therefore, the courts of equity
tooktheapproach of enforcing the rights of bene ciaries as strictly as possible.

Thedistinction between personal claims and proprietary claims

It isimportant to distinguish between proprietary claims and personal obligations
Inthischapter. A proprietary claim is a claim that speci c property must be held
ontrust or subject to a charge or held on some other basis, whether because that
propertywas the original trust property or because it is a substitute that has been
acquiredwith the original trust property. By contrast, a personal claim is a claim
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seeking compensation from a speci ed individual which grants no rights inprop

erty. The defendant toa personal claim must therefore nd the cash
compensation
from their own personal resources. A proprietary claim will provideprotection
against the defendant's insolvency, but a personal claim will not.Therefore,a
personal claim gives the bene ciary no effective remedy if thedefendant doe;
not have suf cient wealth to make good that loss or if the defendantisbankrut
Of the doctrines considered in this chapter, tracing is directed atprovidingpro
prietary remedies; whereas the claims against strangers for dishonest assistanc:
or unconscionable receipt are purely personal claims against thosestrangersto
account for the bene ciaries' loss. The claim for breach of trust againstatruste
provides for one proprietary remedy or two alternative, personalremedies,asdis
cussed below. The bene ciary will frequently seek to bring a number ofclaimsa
once until she nds a person with suf cient wealth to compensate her forherlos.

The hypothetical example on which this chapter is based

An example may help to introduce the material considered in thischapter.
Sup-
pose that Charlie Croker was the bene ciary of a trust on whichTommy
holdsl
three of the original Mini Cooper cars used in the getaway sequenceinthe
semital
1960s lm The ltalian Job. These cars are uniquely valuable: let ussuppose
thau
together they are worth £1 million. Tommy then transferred these carsawayin
breach of trust by giving possession of them to a car dealer,Freddie.TommywS
advised to do this by Bridger, a corrupt lawyer who also claimed to beanexperti
movie memorabilia – although Bridger did not take possession of thecarsatany
time. Let us suppose that both Freddie and Bridger knew that Tommywasating
in breach of trust. The question is: what remedies are available toCharlie
Croke?
Let us take them in reverse order.
Clearly, Charlie Croker would want to recover the cars if theyareuniquely vale
able and particularly if they are likely to increase in value.Therefore,aspartofte
discussion of tracing, Charlie Croker will attempt to bring what isknownasatit
lowing' claim to recover the three original cars. This is clearly aproprietaryclin
to recover the original property, and not to recover a substitute forthat
property.I
the cars had been sold, however, to a purchaser acting in good faiththenChutit
Croker would not have been able to recover the very cars that weretaken ud
him. Instead, he would have to bring a 'tracing claim to recoverthesaleprocts
of the cars, or any property that has been acquired with those saleproceds.IbX
sale proceeds are a substitute for the original cars that are held in the
defendat
hands. These issues are considered at the end of this chapter in thetracingsetat
Alternatively, Charlie Croker could bring a claim for breach oftrustagas
Tommy as trustee to recover the cash value of the trust property.Theseises
considered immediately below. Similarly, Charlie Croker would beableto nt
a claim for unconscionable receipt against Freddie for receiving thecarsin
knowledge that they were transferred to him in breach of trustandonthe
that he acted unconscionably in so doing. The claim would be for'receip en
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sis that Freddie took possession of the cars. Charlie Croker could also claim
aainst Bridger for dishonest assistance in that breach of trust, on the basis that
he facilitated the breach of trust even though he did not come into possession of
theproperty. The principal issue would be in proving that he acted dishonestly
in so doing. Freddie and Bridger would both face a form of personal liability as
constructivetrustees to account to Charlie Croker for the total loss to the trust.
Clearly,there is a complex web of claims at play here: this chapter will attempt to
separateout the various principles.

Breach of trust

The key principles

Themain principles governing liability for breach of trust are as follows. The
trusteeswill be liable for any loss that is caused by a breach of trust. If there is
abreachof any term ofa trust instrument or any breach of any of the duties of
trusteesdescribed in Chapter 5, then there will be a breach of trust. The trustees
faceany of three remedies. First, an obligation to restore any property transferred
avayinbreach of trust to the trust ('speci c restitution'). Second, if the original
trust property cannot be recovered, then the trustee bears a personal obligation
torestore the trust fund in cash terms. That means that the trustee must pay the
bene ciariesan amount of money (or other property) equal to the amount of the
reductionin the trust fund. Third, the trustees bear a general obligation to com-
pensatethe bene ciaries for any other loss that results to the trust. These core
principlesare expanded on in the discussion to follow.

Thedecision in Target Holdings v Redferns

Theleadingdecision in relation to breach of trust is that of the House of Lords in
TargetHoldings Ltd v Redferns (1995). Target was seeking a mortgage over land.
Toachievethis it required a valuation of the property and the legal services of Red-
ferns,a rm of solicitors, to ensure that it acquired a valid legal charge over it. To
facilitatethis underlying purpose, the valuer provided a fraudulently high valuation
oftheproperty's free market value. The valuers were crooks and part of a larger
conspiracyto defraud Target; we can forget about the crooks because they were
untraceablein this litigation. Redferns was entirely innocent of the fraud. Redferns
wasto hold the loan moneys on trust for Target solely for the purpose of the trans-
action. In fact, Redferns misused the moneys; thus, there was a technical breach
oftrust at this time. Later, Redferns replaced the money and the transaction went
aheadasplanned. Subsequently, the crooks disappeared with Target's money, leav-
ingTarget with only a mortgage over property worth much less than it expected.
Therefore, in its desperate search for someone to sue, Target brought a claim
againstRedfernsfor breach of trust. The House of Lords held that Redferns would
notbe liable because there was no causal connection between the loss suffered by
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Target and the breach committed by Redferns. In short, the loss was causedbythe
fraudulent over-valuation of the land and not by Redferns' short-termmisuseof
the money, even though that was technically a breach of trust by Redferns.Under
older authorities the trustees would have been liable for their bene ciaries'los,
even though their breach of trust had not directly caused that loss.Consequently
the rule emerges: the loss must be caused by the breach of trust, and not bysome-
thing else.

The nature of the remedies for breach of trust against a trustee

The liability that a trustee faces, as set out by Target Holdings v Redferns, isthree-
fold. First, a liability to recover the speci c property that had previously beenheld
on trust and which was misapplied in breach of trust. Second, a liability toaccount
to the bene ciaries for the cash equivalent of the loss caused to the trustfund:in
short, to write a cheque for that amount. Third, by extension to thesecondrem-
edy, a right to equitable compensation for any further loss caused by thebreachof
trust. Each is considered in turn in this section. It should be noted thatthecommon
law standards of foreseeability of harm, proximity, causation and so forthđonot
apply in equity to breach of trust claims (Target Holdings vRedferns).

Speci c restitution

The rst form of remedy is to require the trustee to recover any propertythatwas
transferred away in breach of trust. This is a proprietary remedy andinvolves
recovery of the very property that was formerly held on trust, asopposedtoany
substitute property. Where it is a particularly valuable or important item ofprop-
erty that is lost to the trust fund, then this remedy will be particularlyimportantto
the bene ciaries. The trustee will be required to deliver up thatspecifhc property
if it is in her possession or under her control. (The law on tracing, as
considered
later in the chapter, deals with the problem of recovering the trustpropertyi thas
been passed to someone else.) orzstoroilstsh
In Target Holdings v Redferns, Lord Browne-Wilkinson expressedliabilityfor
breach of trust to be in the form of an action against the trusteepersonallyto
recover the trust property in the rst place. However, where the originaltrust
property has passed out of the trustee's control or possession, the actionagainst
the trustee for breach of trust converts to a mere action in money torecover om
the trustee personally the equivalent cash value of the speci cassets
misapplied
inbreach oftrust,asconsideredin thenextsection. s

Restoration of the value of the trust fund and equitablecompensation

The second cause of action is then for restoration of the value of thetrustfundby
means of an amount of money or other property equal to the value ofthepropery
lost to the trust fund by the breach of trust. The amount ofcompensationtobë
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 Breach of trust, strangers and tracing T67

naid will be an amount to return the trust to the position it had occupied before
thebreach of trust. This covers two different heads of liability (it is suggested):
rst,compensationfor the value of any property lost from the fund, which cannot
berecovered by speci c restitution; and, second, equitable compensation for any
otherlosscausedto the trust. This remedy will apply if speci c restitution is not
possiblebecausethe original trust property cannot be located.
LordBrowne- Wilkinson explained the method for valuing the loss to the trust
in the following way. The amount of compensation required is that required to
put (thetrust fund] back to what it would have been had the breach not been com-
mitted'. In other words, the aim of the second remedy is to calculate the amount
ofmoneythat is necessary to restore the value of the trust fund. It is important to
notethat there is a difference between personal compensation for loss suffered as
abreach of trust, and compensation equivalent to the value of property lost to the
rust(Swindle v Harrison (1997), Bristol & West BS v Mothew (1996).
It ispossible that this could take a number of forms other than straightforwardly
payingcash. For example, it might permit the acquisition of an annuity, which
wouldgenerate similar levels of income to any trust capital misapplied in breach
oftrust. The level of compensation, as a matter of evidence, must equate to the
lossthat the bene ciary can demonstrate was caused by the breach of trust such
thatthe trust fund is placed back in the position it would have occupied, but for
thebreach. This might include any loss that the trust would have suffered subse-
quentlyasaresult of the nature of the trust property -for example, accounting for
alarge fall of the value of such property subsequently.

Defencesto breach of trust

Thereare a number of defences to an action for breach of trust that are considered
inChapter 18 of Hudson, Equity and Trusts (2017), Among the most signi cant
defencesare the following. In Nestlé v National Westminster Bank ple (1994),
it was held that a trustee would have a good defence to a claim for breach of
trust, which was based on a contention that the trustee had failed to generate suf-
cient pro t from trust investments, that the trustee had done what other trustees
inthesame position had done in the nancial market. It is also a good defence if
thebene ciaries have consented to the trustees' actions or have agreed to release
thetrusteesfrom liability for breach of trust.
Trusteeswill have a good defence to liability for breach of trust if there is a
clausein the trust instrument that excludes or limits their liability for the breach
complainedof by the bene ciaries (Armitage v Nurse (1998). The trustees will
notbe permitted to exclude their liability for dishonest activity, but they will
beable to exclude their liability in this way for gross negligence (Armitage v
Nurse).
Furtherto s 6l of the Trustee Act 1925 the trustee may be excused from liabil-
ity by the court if the court considers that she has 'acted honestly and reason-
ably,and ought fairly to be excused for the breach of trust'. Thus, it would be
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 I68 UnderstandingEquity& Trusts

a reasonable excuse that the trustee had searched for a bene ciary from whom
nothing had been heard for 30 years and whom everyone thought to bedead (Re
Evans (1999).

The personal liability of strangers to account as

constructive trustees
Introduction
The status of the trustee and the duciary is easily comprehensible. The rle that
a duciary cannot pro t from that of ce is well established in equity. Thefurther
question is: in what circumstances will a person who is not a trustee be heldliable
in respect of any breach of that trust? Such a person is referred to in thecaselaw
and in the following sections as a 'stranger' to the trust, having no o cial posi-
tion as trustee connected to it. Equity has always sought to impose duciaryduties
on those who misuse trust property, whether holding an of ce under thattrustor
not. This has extended to the imposition of the duties of a trustee onpeoplewho
meddle with the trust fund. One of the practical reasons for pursuing thisremedy
is that the intermeddler is frequently an advisor or professional who issolventand
therefore capable of making good the money lost to the trust if thepropertyitself
is lost and the trustees have no money.
In short, the applicable principles can be stated in the following terms.First,a
stranger will be personally liable to account to the trust for any losssufferedina
situation in which she dishonestly assists in a breach of trust, wihoutreceiving
any proprietary right in that trust property herself (Royal Brunei Airlines vTan
(1995)). The test for "dishonesty' in this context extends beyondstraightforward
deceit and fraud into reckless risk-taking with trust property and otheruncon-
scionable behaviour demonstrating a lack of probity'. Second, astrangerwillbe
personally liable to account to the trust for any loss suffered in asituationinwhich
she receives trust property with knowledge that the property has beenpassedto
her in breach of trust (Re Montagu's ST (1987)) and provided that shecanbe
shown to have acted unconscionably. Knowledge' in this contextincludes actual
knowledge, wilfully closing one's eyes to the breach of trust, or failing tomake
the inquiries that a reasonable person would have made.
These claims are best understood as part of the web of claims thatmaybe
brought by bene ciaries in the event of a breach of trust. To return totheoriginal
example of Charlie's cars at the beginning of this chapter, personalliabilty to
account would concern the claims against Freddie and against Bridgerasknow
ing recipients and as dishonest assistants of the trust property,respectively.
Thest
claims would impose on Bridger and Freddie, respectively, personalliability
account to the bene ciaries for the value of the property passed.However,
should not be forgotten that in many cases these claims will formpartof mu
larger web of actions commenced by bene ciaries. Thebene ciariesmay a
seek a proprietary claim to recover the cars, or the proceeds from theirsale,o
way of tracing, which is discussed later.
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Unconscionable receipt

The core principles

The rst category of personal liability to account concerns strangers who receive
sometrust property when it has been paid away in breach of trust. This doctrine has
beenknown as 'knowing receipt', although the current formulation of the test sug-
geststhat it should now be known as 'unconscionable receipt'. The main principles
relatingto unconscionable receipt are as follows. A stranger to the trust (i.e. some-
onewho is not a trustee) will be personally liable to account to the bene ciaries for
anylosscaused by a breach of trust as a constructive trustee if that stranger both
receivedproperty in the knowledge that there had been a breach of trust and had
donesoas a result of unconscionable behaviour. The concept of knowledge is satis-
edifthestrangerhasactual knowledge of the breach of trust, or if the stranger wil-
fullyshuttheireyes to the obvious, or if the stranger wilfully and recklessly failed
tomakethe inquiries that an honest and reasonable person would have made in the
circumstances.These core principles are expanded on in the discussion to follow.
This form of liability has been described as a receipt-based claim analogous
toequitable compensation (El Ajou v Dollar Land Holdings (1993)). Where a
personknowingly receives trust property that has been transferred away from the
trustorotherwise misapplied, that person will incur personal liability to account.
AstheSupreme Court in Williams v Central Bank of Nigeria (2014) accepted,
thereis no trust here in the ordinary sense of that term: that is, the defendant
doesnot hold property on trust for the claimant. Instead, the defendant is liable to
compensatethe bene ciaries of a trust for any loss that they suffered as a result
ofabreach of trust that caused property to pass knowingly to the defendant. The
detailsof this claim will be considered in detail below: rst, in relation to what
constitutes'receipt', then the concept of knowledge, and nally the concept of
unconscionability.

The nature of freceipt'

The rstquestion is: what actions will constitute 'receipt under this category? In
EIAjouv Dollar Land Holdings (1993) Hoffnann LJ held that the defendant must
havetaken bene cial ownership in the property. By contrast, in the decision of
MillettJ in Agjp v Jackson (1990), his Lordship held that:

thereis receipt of trust property when a company's funds are misapplied by

anypersonwhose duciary position gave him control of them or enabled him
to misapply them.

Therefore,anyone who has control of trust property is taken to have received that
property.Seemingly, it is enough that the property passes through the stranger's
hands,even if the stranger never had the rights of an equitable or common law
OWNEof the property. For example, a bank through which payments are made
ppearsto be capable of being accountable for knowing receipt of money paid
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 170 Understanding Equity & Trusts

in breach of trust (Polly Peck International v Nadir (No 2) (1992); and ingeneral
terms a bank becomes the absolute owner of any money deposited with it(Foley
v Hill (1848).

The nature of 'knowledge'

It is important to note that the test is this area is one of 'knowledge' andnot
"notice'. Rather than depend on the imputed notice as used in conveyancinglaw,
the courts have focused instead on whether or not the defendant hasknowledgeof
material factors. If the defendant is to be xed with personal liability toaccount,
then it is thought that the defendant must be demonstrated to know thosefactors
that will attach liability to her. The further question, however, is what aperson
can be taken to 'know'. The test for knowledge was whittled down to the fol-
lowing three types of knowledge in relation to liability for knowing receiptinRe
Montagu:

(1) actual knowledge;

(2) wilfully shutting one's eyes to the obvious; and
(3) wilfully and recklessly failing to make inquiries that an honestpersonwould
have made.

The common factor between these categories is that they include anecessaryele-
ment of wilful or deliberate behaviour on the part of the defendant whocannotbe
proved to have actually known of the facts that were alleged. As Scott LJheldin
Polly Peck, these categories are not to be taken as rigid rules and 'onecategory
may merge imperceptibly into another'.
Suppose that Eric was handed £1,000 in cash by Stan as he ran around thecor-
ner of the street. 'Don't ask me any questions, just hide this for me', yelledStan
as he thrust the money into Eric's hands and ran away. Meanwhile, Eric couldhear
Kyle shouting, 'Where is the trust's money? from the neighbouring street.Letus
assume that Stan had taken the money from his fellow trustee Kyle andsprinted
away with it. Clearly, Eric does not have actual knowledge of whathashappened
because he has not had a full explanation of the facts, nor can he see Kyle.How
ever, Eric would be shutting his eyes to the obvious if he turnedaround,walked
away from Kyle's voice in the neighbouring street and folded the money intohis
trouser pocket because it must be obvious to any reasonable person thattherehas
been a theft of some sort here. Given the context and the noise of Kyleshouting,
this would be a wilful failure. The idea that Eric should 'hide' the moneyclearly
suggests that something is amiss. Equally, if Eric purported to followStan's
instructions later that evening to invest the money in a particular accountwithout
asking any questions, then we would say that Eric had failed to make theinquiries
an honest person would have made (such as asking Stan what hadhappenedear
lier in the day and where the money had come from) and it is alsosuggestedthat
this would be wilful and reckless of Eric in such clear circumstances.Therefore.
the second and third forms of knowledge would have been made outhere.
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Theacid test - Should you have been suspicious?"

Thethird category of knowledge is more di cult to de ne, dealing with situa-
tions in which the defendant could have been expected to have asked more ques-
tions or investigated further. This constructive knowledge is best explained by
ScottLJ in Polly Peck International v Nadir (No 2) (1992), where he held that the
acidtest was whether or not the defendant 'ought to have been suspicious' that
trustproperty was being misapplied (Eagle Trust v SBC (No 2) (1996).
Similarly, in Macmillan v Bishopsgate (No 3) (1996) money had been passed
througha series of bank accounts by shysters who had looted money from a pension
trust fund in breach of trust. The issue arose whether the bank through which the
moneyhadpassed should be treated as a knowing recipient of that money after the
breachof trust. It was held that account of cers were not detectives and therefore
werenot to be xed with knowledge that they could only possibly have had if they
hadcarried out extensive investigations in a situation in which they had no reason to
believethatthere had been any impropriety. It was held that they were entitled to
believethat they were dealing with honest men' unless they had some suspicion
raisedin their minds to the contrary. In El Ajou v Dollar Land Holdings, Millett J
heldthat liability for knowing receipt would attach in a situation in which any
honest and reasonable man would have made inquiry'. In short, the issue is
whether or not the circumstances would necessitate a person to be suspicious,
suchthat her conscience would encourage her to make inquiries.

Two illustrations

Thecase of Polly Peck International v Nadir No 2 is a useful illustration of the

principle in action. The facts related to the actions of Asil Nadir in respect of
theinsolvency of the Polly Peck group of companies. This particular litigation
referredto a claim brought by the administrators of the plaintiff company against
abankcontrolled by Nadir - IBK – and the Central Bank of Northern Cyprus. It
wasallegedthat Nadir had been responsible for the misapplication of substantial
funds in sterling, which were the assets of the plaintiff company, which were
passedthrough TBK into Northern Cyprus. Then IBK sought to change the sterling
amountsinto Turkish lire. It was claimed that the Central Bank had exchanged the
sterlingamounts for Turkish lire either with actual knowledge of fraud on the
plaintiff company or in circumstances in which the Central Bank ought to have
put in an inquiry as to the source of those funds. The plaintiff claimed that the
Central Bank should be personally liable to account as knowing recipient of the
sterlingamounts that had been exchanged for lire.
TheCentral Bank contended that it had no such knowledge, actual or construc-
tive, of the source of the funds. It argued that large amounts of money passed
through its systems as a Central Bank on a regular basis and that, as such, it should
notbe on notice as to title to every large amount.
The Court of Appeal held that it was enough to demonstrate that the recipient
had the requisite knowledge both that the funds were trust funds and that they
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were being misapplied. On the facts of this case it was held that the simplefact
that the plaintiff company was exchanging amounts of money betweensterling
and lire via IBK was not enough to have put it on suspicion that there hadbeena
breach of trust. In deciding whether or not the Central Bank ought tohaveben
suspicious, Scott LJ preferred to approach the matter from the point ofviewofthe
'honest and reasonable banker'. It does appear, therefore, that the
reasonablenes
of the recipient's belief falls to be judged from the perspective of therecipient
itself. On the facts it was held that there was no reason for suspicionbecause
large amounts of money passed through the Central Bank's accountsregularlyand
there was nothing at the time of this transaction to cause the bank to besuspicious
of this particular transaction.
The case of Polly Peck can be compared with the earlier decision ofMegaryJ
in Re Montagu (1987), in which the tenth Duke of Manchester was abene ciary
under a settlement created by the ninth Duke, subject to the trusteesappoint-
ing chattels to other persons. In breach of trust, the tenth Duke and thetrustes
lapsed into the habit of treating all of the valuable chattels held on trustas
belong-
ing absolutely bene cially to the tenth Duke. The tenth Duke made anumberof
disposals of these valuable chattels during his lifetime, includingauctioningoff
valuable historical treasures such as Catherine of Aragon's travelling trunk.The
issue arose whether or not the tenth Duke's estate should have been heldliablefor
knowing receipt of these chattels in breach of trust. There was no doubtthatasa
matter of fact the property had been received in breach of trust.
His Lordship took the view that there had been 'an honest muddle' inthis
case.
Further, although the tenth Duke had undoubtedly had actual knowledgeofthe
terms of the trust at one stage, it was held that one does not have therequisite
knowledge on which to base a claim for knowing receipt where the defendant
has genuinely forgotten the relevant factors. Megarry J went further, insupot
of the idea that one should only be liable for knowing receipt if onehadknowt
edge of the relevant factor, in nding that the knowledge of atrustee-solicitor
or
other agent should not be imputed to the defendant. That is, you do notknow'
something simply because your agent knows it. Thus, the distinction isdrasa
with the doctrine of notice under which notice can be imputed fromagenttopri-
cipal. Thus, while the Duke had forgotten the terms of the trust, hewasnottobe
imputed with his lawyers' knowledge that for him to treat the propertyashisoum
personal property would have been in breach of trust. Megary Jthusnaroued
the scope of the knowledge test to acts that the defendantconductedwil ly
or deliberately, or to facts of which he had actual knowledge.Consequenty,
ao
liability for knowing receipt attached to the tenth Duke or his estate.e

The requirement for unconscionability

Signi cantly, the recent case law has required that the defendant isalsostoanl
have acted unconscionably and not simply to have had knowledge ofthebr
of trust in the manner discussed above. This requirement of
'unconscionabuiy
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asbeenadvanced in the Court of Appeal decisions in Bank of Credit and Com-

merceInternational v Akindele (2001), Criterion Properties v Stratford Proper-
ies(2002), and Charter plc v City Indexr (2006), in which it was held that for a
defendantto be liable in knowing receipt the defendant must be shown to have
actedunconscionably. So, in Akindele it was held that the defendant had received
moremoney than he was entitled to receive from his bank as a result of a breach
offduciary duty by his bankers, but it was held that he had not acted unconscion-
ably himself in so doing and therefore that he would not be liable to account for
thelosscaused by that breach of duciary duty.
This new test requires that the defendant be demonstrated to have had knowl-
edge, on the basis outlined above, and also that they acted unconscionably in
moregeneralterms. In the Court of Appeal in Charter ple v City Index Ltd (2007),
CarnwathLJ held that

liability for 'knowing receipt depends on the defendant having suf cient
knowledge of the circumstances of the payment to make it 'unconscionable'
for him to retain the bene t or pay it away for his own purposes.

Inessence, this second element means that a defendant will not be held to be
liable unless there was something unconscionable about their actions over and
abovethe attribution of knowledge to them.

Dishonest assistance

The key principles

Thekey principles relating to dishonest assistance are as follows. A stranger to the

trust (i.e. someone who is not a trustee) will be personally liable to account as a
constructivetrustee to the bene ciaries for any loss caused by a breach of trust if
thatstrangerhad dishonestly assisted that breach of trust. The test for 'dishonesty
hasbeenthe subject of many decisions. In Royal Brunei Airlines v Tan (1995) and
BarlowClowes v Eurotrust (2005), two different Privy Councils held that the test
should be an objective test as to what an honest person would have done in the
circumstances.In Twinsectra v Yardley (2002), the House of Lords held that there
should also be a requirement that the defendant must have realised that honest
people would have considered their behaviour to have been dishonest, thus add-
ing an element of subjectivity which narrowed the test markedly. The objective
testhas purportedly been followed, although hints of subjectivity have crept in as
a result of later cases. These core principles are expanded on in the discussion to
ollow. sst)
Where a stranger dishonestly assists a trustee in a breach of trust, that dishon-
estassistant will be personally liable to account to the trust for the value lost to
the trust. 'Dishonesty in this context does require that there be some element of
traud,lack of probity or reckless risk-taking. It is not necessary that any trustee of
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the trust is dishonest; it is suf cient that the dishonest assistant isdishonest.The
distinction from knowing receipt is that there is no requirement for theimposition
of liability that the stranger has had possession or control of the propertyatany
time. Therefore, some commentators have doubted whether or not this form of
liability should really be described as a 'constructive trust' in any eventbecause
no property is held on trust by the stranger. However, the term 'constructivetrus-
teeship' is correct because the defendant is being construed to be liable tocom-
pensate the trust for its loss as though she was a trustee.

The nature of dishonest assistance

The leading case for the test of dishonest assistance is Royal BruneiAirlinesv
Tan (1995). In that case, the appellant airline contracted an agencyagreement
with a travel agency, BLT. Under that agreement BLT was to sell tickets forthe
appellant. BLT held money received for the sale of these tickets onexpresstrust
for the appellant in a current bank account. The current account wasusedto
defray some of BLT's expenses, such as salaries, and to reduce itsoverdraft.BLT
was required to account to the appellant for these moneys within 30days.The
respondent, Tan, was the managing director and principal shareholder ofBLT.
From time to time amounts were paid out of the current account intodeposit
accounts controlled by Tan.
BLT held the proceeds of the sale of tickets as trustee for theappellant.Intime,
BLT went into insolvency. Therefore, the appellant sought to proceedagainstTan
for assisting in a breach of trust. The issue between the parties waswhetherthe
breach of trust which is a prerequisite to accessory Iiability must itselfbeadis-
honest and fraudulent breach of trust by the trustee'. It was held thatTanwouldbe
liable because he had acted dishonestly in assisting the breach oftrust.
In describing the nature of the test Lord Nicholls held thefollowing:

acting dishonestly, or with a lack of probity, which issynonymous,

means
simply not acting as an honest person would in the circumstance. Thisisan
objective standard.

This Tan test is therefore based on an objective understanding of'dishonesty'

whereas knowing receipt, in the judgment of Scott LJ in Polly Peck(1992),sets
out a subjective test of whether or not the recipient ought to havebeen
suspicious
and thereby have constructive notice of the breach of trust. One canthereforebë
dishonest if one fails to act honestly: signi cantly, you do not havetobeactivey
deceitful. Therefore, if I were to nd a £10 note on the oor of a traincarriage
next to the foot of another passenger when there is only one otherpassenger, an
honest person would ask that other passenger if the note wastheirs. IfI wee0
pocket the note, Lord Nicholls would nd me dishonest for failing to dowhatun
honest person would have done. He would not ask whether l actuallyknewthe
note belonged to that other person, and so forth.
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Nevertheless,as considered below, Lord Nicholls's judgment has been adapted

andremoulded by later cases. We shall begin our discussion with an analysis of
themisjudged foray by Lord Hutton in the House of Lords into turning the test
into a partially subjective test, its reversal by the Privy Council, and then the
remodellingof the objective test by the lower courts more recently.

Whether dishonesty is subjective or objective in this context

Therehave been two subsequent House of Lords decisions on the meaning

of dishonesty' in this context since Royal Brunei Airlines v Tan. In the rst,
Twinsectrav Yardley (2002), a solicitor was appointed to manage a client's affairs
inplaceof the former solicitor. The client had borrowed money by way of a loan.
Theterns of the loan had limited the purposes for which the loan moneys could
beused.The replacement solicitor was nevertheless directed by the client to use
the loan moneys for purposes other than those set out in the loan contract, in
breachof the solicitor's own obligations under that agreement. The money was
disipated. The lender sued the replacement solicitor to recover the dissipated
loanmoneys, contending that the solicitor had been a dishonest assistant in the
client'sbreach of his duciary obligations (in the form of a Quistclose trust, as
discussedin Chapter 11). The solicitor contended that he had not known of the
natureof his client's duties to the lender and in consequence that he had not acted
dishonestly.
TheHouse of Lords was therefore faced with a dilemma. If the test for dishon-
estywere objective, as Lord Nicholls had suggested in Royal Brunei Airlines v
Tan(1995), then it would not matter that the solicitor had not known that he was
actingdishonestly because his liability would be assessed objectively. Lord Hut-
ton in Twinsectra v Yardley therefore held that the test for dishonesty should be
madeup of two components: rst, it must be shown that an honest person would
nothaveacted as the solicitor had acted; and, second, it must also be shown that
thesolicitor had himself known that his action would have been considered to be
dishonestby such an honest person. This second limb is subjective. Consequently,
the solicitor was found not to be liable for dishonest assistance. (It was unclear
whetheror not the majority agreed with Lord Hutton's view of this test.)
This conclusion seems to me to be somewhat remarkable. It is remarkable in
the rst place that a solicitor should be entitled to demonstrate his lack of dishon-
estyby contending that he did not understand the nature of his own client's legal
obligations.Second, it is a remarkable conclusion because it transforms the nature
of liability for dishonesty in this context into a semi-subjective test. In Walker v
Stones(2001), it had been held by the Court of Appeal that a person would not be
absolvedfrom liability for dishonesty simply by suggesting that he or she did not
considerhis or her actions to have been dishonest. Instead, it was enough for the
courtto impose such liability if it could be shown objectively that an honest per-
son would not have acted in the manner that the defendant had acted. This notion
of subjective and objective liability is taken up again in Chapter 14. In short, it is
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argued there that a doctrine predicated on conscience (such as the law oftrusts)
ought to operate on an objective basis, in the manner envisaged as long agoas
1615 by Lord Ellesmere in the Earl of Oxford's Case, to inquire into thedefend-
ant's actions and to judge whether or not the defendant had acted properly inthe
court's eyes. That is, the test ought properly to be an objective test.
In the second House of Lords' decision in Dubai Aluminium vSalaam(203),
a partner in a rm of lawyers was alleged to have been a dishonest assistatin
his client's breach of trust. The focus of the appeal was on the liability ofthe
remaining partners in that law rm to share out their partner's potentialliability.
Lord Nicholls re-asserted the test as being one of objective dishonestywithout
reference to Lord Hutton in Twinsectra v Yardley. The basis of the liabilityfor
dishonesty was again exxplained as being that of a person construed to beliableas
though an express trustee to account to the bene ciaries for any loss thattheymay
have suffered as a result of a breach of trust.
The weakness in Lord Hutton's test in Twinsectra v Yardley wasillustratedin
Barlow Clowes v Eurotrust (2005), before the Privy Council. Lord Hutton'stest
permits a defendant to say, in effect, “my personal morality does notconsiderthat
to be dishonest and I did not think anyone else would consider that to bedishon-
est' such that the defendant can escape liability. In Barlow Clowes v Eurotrst
the defendant controlled a nancial institution through which very largeamounts
of money were paid by fraudsters who were taking money in breach of duci-
ary duty from a number of investment funds under their control. Thedefendant,
perhaps blinded partly by the prospect of going into partnership withthesewll
heeled fraudsters in the future, did not ask where these large sums ofmoneywere
coming from and so did not actually discover the underlying breach oftrustIt
was argued that the defendant had dishonestly assisted these breaches oftrustby
acting as a conduit for the misappropriated money. The defendant arguedthathis
personal morality required that he did whatever his clients asked of himwithout
question, and therefore that under Lord Hutton's test he had not beendishonest
because he had not appreciated that other people would consider him tohaveben
dishonest. The Privy Council upheld the nding of the court at rstinstancehat
the defendant had been dishonest on these facts. The Privy Councilreiteratedhe
principle that the appropriate test in this context is an objective test; thatmeans
it is not open to a defendant to claim to have a personal moral code thatabsolves
her from liability for dishonesty. This objective approach haspurportedlybeet
followed by the Court of Appeal in Abou-Rahmah v Abacha(2006).

The remodelling of the objective test in recent cases

The Court of Appeal (Abou-Rahmah v Abacha (2006) and Starglade v Nat

(2010)) and the High Court (4G Zambia v Meer Care & Desai & Others (2001)
have focused latterly on a couple of sentences in the judgment of LordNicho5
in Royal Brunei Airlines v Tan (which otherwise focused solely onobjectivty)
which suggested that the court should consider the defendant's knowledge
anN
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experience,and the circumstances in which she was acting, as opposed to looking

solelyatthe likely attitude of an honest person without considering anything else.
Themore of the defendant's personal characteristics that are considered, the more
likely it is that any given individual defendant will escape liability by referring to
theirown stupidity, lack of experience or naivety. This approach was taken in the
Court of Appeal in Starglade v Nash, where the court considered the defendant's
lackofeducationand lack of understanding of legal concepts as being important,
eventhough an objectively honest person might have found the defendant to have
beendishonest in the context without considering those factors. What emerges
fromthis discussion is that Lord Nicholls's judgment in Royal Brunei Airlines v
Tanhasbeen warped slightly out of shape by the lower courts choosing to focus
ona few sentences in a judgment otherwise concerned only with objectivity.

Risk as dishonesty

LordNichollsexpandedhis discussion of dishonesty' to consider the taking of risk.

Risktherefore is expressly encompassed within the new test. Lord Nicholls held:

All investment involves risk. Imprudence is not dishonesty, although impru-

dencemay be carried recklessly to lengths which call into question the hon-
esty ofthe person making the decision. This is especially so if the transaction
servesanother purpose in which that person has an interest of his own.

Therefore,an investment advisor who is employed by the trust could be liable

for dishonesty' if she advises the trust to take a risk that is considered by the
courtto have been a reckless risk. The thinking is that, ifX advises the trustees to
takea risk that is objectively too great, then X could be considered to have been
dishonestin giving that advice. The basis of liability is that a third party takes
arisk that a clearly unauthorised transaction will not cause loss . ..If the risk
materialisesand causes loss, those who knowingly took the risk will be account-
ableaccordingly. For these purposes it is said that 'fraud includes taking a risk
to the prejudice of another's rights, which risk is known to be one which there
is no right to take'. Therefore, there is enormous potential liability in respect of
advisorswho advise trustees in any matter to do with investment or the treatment
of their property.

Thenature of the remedy of personal liability to account

Asmentionedabove, the form of relief awarded in this type of claim is the impo-
sition of a personal liability to account on the stranger who is found to be liable
asa constructive trustee. In Selangor v Craddock (No 3) (1968), it was held by
Ungoed-ThomasJ that this form ofrelief is 'nothing more than a formula for equi-
tablerelief. The court of equity says that the defendant shall be liable in equity, as
though he were a trustee.
 178 Understanding Equity & Trusts

In short, this is not a trust as ordinarily understood. There is no speci cproperty

that is held on trust by the stranger. The cases on dishonest assistance areexcluded
by Lord Browne-Wilkinson in Westdeutsche Landesbankv Islington (1996)from
many of the rules that concern express trusts. It does appear that this form of
equitable relief is as much in the form of a remedy as of an institutional trust.
That means dishonest assistance is as much a form of equitable wrong(organised
around a standard of good conscience) as a trust (under which identi edproperty
is held on trust for bene ciaries). The defendant is construed as, or treatedas
though he was, a trustee: hence the term 'constructive trustee'.
There is one underlying problem with the remedy of personal liability to
account in this context. The liability attaches to the defendant either forreceiptor
for assistance provided that the relevant mens rea of knowledge ordishonestyhas
been satis ed. The defendant is then liable for the whole of the losssufferedby
the bene ciaries, the remedy appearing to be an all-or-nothing remedy.

Tracing: understanding the nature of the claim

Introduction
This section considers the important topic of the law of tracing literaly an
attempt by a claimant to establish a proprietary claim to a speci c piece ofprop-
erty by tracing a pre-existing property right into it. The main principles areasfol-
lows. The law of tracing is the means by which a claimant (for present
purposes,
we shall assume that this is a bene ciary under a trust) seeks to traceproperty
that was originally held on trust that was transferred away in breach oftrust,
or to trace substitute property for that original trust property. This ʻtracing'pro-
cess is merely the detective work of locating property against which aclaimmay
then be brought. Most commonly in the cases this has related to moneyheldin
a bank account being transferred through various accounts and mixed upwith
other money several times so as to make the traceable proceeds dif cult toiden-
tify. So-called 'common law tracing' only permits the recovery of theoriginal
trust property or substitute property that has not been mixed with otherproperty:
whereas equitable tracing' enables the claimant to trace into mixtures ofprop-
erty and offers a wide range of remedies. The remedies for equitabletracingare
a choice between a constructive trust, an equitable charge, a lien, orsubrogation.
The principal defences are of change of position by the defendant, ofestoppel
by
representation, or that the defendant was a bona de purchaser of thepropertyin
question. Each of these core principles is considered in the discussiontofollow.
There is therefore an important point of distinction to be madebetweensek
ing to establish title to an item of property that is precisely thepropertythatw
previously owned, and seeking to establish title to an item of property thatisnot
the exact property that was previously owned: for example, substituteproper)
acquired with the sale proceeds of the original property. Clearly, theformerc
requires the claimant to say, "That is mine and I want it back.' In manyçae
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this will be a case of fact and proof. However, the latter case is more compli-
cated.How is it that a claimant can assert title in property that that claimant has
neverowned before? In most cases the answer will be that the claimant seeks to
stablishrights in property because it constitutes a substitute for the original trust
Droperty.This is an important feature of equity, that it permits property rights to
beestablished in substitute property (on the basis of the principles considered
below)and in particular that it allows such property rights to be asserted even in
circumstancesin which property has been mixed.

Common law tracing

Insituationsin which the claimant seeks to identify a speci c item of property in

thehands of the defendant in which the claimant has retained proprietary rights,
theclaimantwill seek a common law following claim to require the return of that
speci citem of property. To return to Charlie Croker's claim for his three Mini
Coopersat the beginning of this chapter, it is a common law following claim
thatis the claim that would return title in the three original cars to Charlie. An
extensionto the doctrine demonstrates that the claimant can also rely on common
lawtracing to establish claims to any substitute for that original property, pro-
videdthat it has not been mixed with other property. So, if the cars were sold for
£l million, it would be possible to bring a common law tracing claim to recover
that£1 million provided that the £1 million has been kept separate from all other
money.If that money were mixed with any other money it would be necessary to
bringa claim for equitable tracing, as discussed below.
Thislimitation on the common law tracing process makes it very brittle in that
t onlyrecoversrights in original property, or so-called 'clean substitutions'. If
thepropertybecomes unidenti able, then the common law tracing claim will fail.
Theusualtactic for the money launderer is therefore to take the original money,
to divide it up into randomly sized portions, pay it into accounts that already
containother money, convert the money into different currencies and move it
intoaccountsin another jurisdiction. This type of subterfuge avoids common law
tracing,Instead,the claimant would be required to rely on equitable tracing, con-
sidered below.
The Court of Appeal decision in FC Jones and Sons v Jones (1996), con-
cemedan amount of £11,700 which was paid from a partnership bank account
toMrsJones, who was the wife of one of the partners. Mrs Jones invested the
moneyin potato futures and made a large pro t. Ultimately she held a balance
of£49,860: all of the money was held separately in a single bank account. Sub-
sequently,it transpired that the partnership had committed an act of bankruptcy
underthe Bankruptcy Act 1914 (rendering it technically bankrupt before it had
madethepayment to Mrs Jones) and therefore all of the partnership property was
deemedto have passed retrospectively to the Of cial Receiver. This meant that
the Ofcial Receiver was the rightful owner of the £l1,700 before it had been
paidto Mrs Jones. It was held that the Of cial Receiver could trace into both the
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 180 Understanding Equity & Trusts

original £11,700 and the pro ts making up the £49,860 at common law onthe
basis that all of those moneys had been held separately in a bank accountandnot
mixed with any other property.

Equitable tracing
The more complex situation is that in which the claimant's property haspassed
into the hands of the defendant, but has been substituted for another item ofprop-
erty in which the claimant has never previously had any proprietary rights.The
claimant will be required to pursue an equitable tracing claim to asserttitle tothe
substitute property as being representative of the claimant's originalproperty.An
equitable tracing claim requires that the claimant had some pre-existingequita-
ble proprietary right in that property - although the validity of this rulehasbeen
doubted by many commentators.
It is a prerequisite for an equitable tracing claim that theclaimanthadsome
equitable interest in the original property, or that the person whotransferredthat
property away had some duciary relationship to the claimant, such asbeinga
trustee (Re Diplock (1948)). Similarly, the Court of Appeal inBoscawenvBajwa
(1995) held that there must be a duciary relationship that calls theequitable
jurisdiction into being in a case involving the purchase of land.Particularprob-
lems with equitable tracing are considered in the sections to follow.

Tracing thro ugh electronic bank accounts

One particular di culty arises in relation to money passedthroughbank accounts.
English law treats each payment of money as being distinct tangibleproperty
such
that, when a bank account containing such money is run overdrawn, thatproperty
is said to disappear. Consequently, there can be no tracing claim inrespectof
property that has ceased to exist.
One of the most vexed problems in tracing claims is that ofestablishing pro-
prietary rights in amounts of money that are held in electronic bankaccounts.
For
two reasons most of the cases in this area involve large bankingand commercial
institutions. First, it is only such wealthy institutions that can afford topayfor
the complex and long-winded litigation that is necessary in this eld.Second,
the nature of electronic bank accounts raises very particular problemsforEngish
lawyers, and indeed all legal systems.
Electronic bank accounts are choses in action (debts) betweendepositorand
bank. The bank owes, by way of debt, the amount of money in theaccounttothe
depositor (provided that the account is in credit) on the terms of theircontrat
Therefore, these accounts are not tangible property. Rather, they aredebtswth
value attached to them (the amount of the deposit plus interest). It is therirt
surprising that English lawyers often tend to think of money(whetherheldns
bank account or not) as being tangible property, as is evidenced by LordBroNN
Wilkinson's leading speech in Westdeutsche Landesbank. The analogyusedo
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 Breach of trust, strangers and tracing 181

IordBrowne-Wilkinson on a number of occasions in explaining the nature of

auitableproprietary rights was that of 'a stolen bag of coins'. This metaphor
isparticularlyenlighteningbecause it envisages proprietary rights in electronie
bankaccountsas being concerned with tangible property (the individual coins)
andnotintangible property (the true nature of bank accounts). When considering
theway in which tracing applies to money held in accounts, conceiving of that
moneyas being tangible, rather than being simply an amount of value, creates
problems,particularly in relation to the loss of the right to trace, which will be
considered next.

Lossof the right to trace

Thequestion of loss of the right to trace is important while considering the par-
ticularproblem of tracing through electronic bank accounts. In Bishopsgate
InvestmentManagementv Homan (1995), money was taken by newspaper mogul
RobertMaxwell from pension funds under his effective control in breach of trust.
Thebene ciaries under those pension funds sought to recover the sums taken
fromtheir trusts on the basis of an equitable tracing claim. The money had been
passedinto bank accounts that had gone overdrawn between the time of the pay-
mentof the money into the account and the bringing of the claim. On the basis
thattheaccounts had gone overdrawn (and therefore were said to have none of
theoriginalproperty left in them) it was held that the bene ciaries had lost their
rightto trace into that particular account because the property had disappeared.
Thesame principle appears in Roscoe v Winder (1915), where it was held that
benefciariescannot claim an amount exceeding the lowest intermediate balance
inthebankaccount after the money was paid in. The claimant will not be entitled
totrace into any such property where the account has been run overdrawn at any
timesince the property claimed was put into it.
Similarly, it was held in Westdeutsche Landesbank v Islington LBC (1996)
thatthespeci c property provided by the payer was not capable of identi cation,
giventhat it had been paid into bank accounts that had subsequently been run
overdrawnon a number of occasions. In that eccentric way in which English law-
yersthink about money held in electronic bank accounts, it was said that once a
bankaccountgoes overdrawn or the money is spent, then that money disappears.
Thisis amoney launderer's paradise. Rather than say, if money passes out of a
computer-heldbank account but its value is still held in some form by the owner
ofthataccount, therefore we should treat that person as still having the money',
Englishlaw actually says, 'if that electronic money has gone from that account
andcannot be traced in its equivalent proprietary form, we must assume it has
disappeared.No wonder the English have such an affection for mediocre TV
magiciansif they are so easily convinced by disappearing tricks.
Therewere dicta of Lord Templeman in the Privy Council in Spacelnvestments
LidvCanadian Imperial Bank of Commerce (1986), to the efect that a claimant
shouldbe entitled to have a charge over all of the assets of the bank equal to the
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size of its claim, and therefore that there does not need to be any loss of theright
to trace just because the traceable proceeds cannot be identi ed preciselyamong
the bank's many accounts and assets. This idea has been rejected, inter alia,by
the Court of Appeal in Serious Fraud Of ce v Lexi Holdings ple (2009), tothe
effect that a general charge would not be ordered over all of the assets ofabankon
the basis that the claimant could demonstrate that the traceable proceeds oftheir
property had passed into the bank at some point. Rather, the claimant isrequired
to demonstrate into which fund or account that property passed for theclaimant
to be entitled to pursue a tracing action. Similarly, in Re BA Peters ple;Atkinsonv
Moriarty (2008), it was held by the Court of Appeal that it is impossibletotrace
money into an overdrawn account on the basis that the property from whichthe
traceable substitute derives is said to have disappeared. This point wasreinforced
by Briggs J in Re Lehman Brothers (Europe) (No 2) (2009), where clientmoney
had been mixed with the bank's own money in such a way that it wasimpossible
to identify any given money owing from the traceable proceeds of aparticular
class of claimant, with the result that it was impossible for them to bringatracing
action, and furthermore they could not assert a charge over the entireassetsofthe
defendant bank.

The bene ts of equitable tracing

The bene ts of equitable tracing over common law tracing appear inmongy-
laundering cases like Agip Africa v Jackson (1991), which upheld thecoreprinck
ple that there must be a duciary relationship that calls the equitablejurisdiction
into being. In short, once that pre-existing equitable interest isdemonstrated
then
the claimant is able to trace her property into the most complex ofmixturcsor
through many transformations in the nature of the traceable proceeds.Anexam-
ple may be instructive. In Agip, on instructions from the plaintiff oilexploration
company, the Banque du Sud in Tunis transmitted a payment to LloydsBankin
London, to be passed on to a speci ed person. The plaintiff's chiefaccountat
fraudulently altered the payment instruction to be in favour of acompany
called
Baker Oil Ltd. Before the fraud was uncovered, Lloyds Bank paid outtoBaker
Oil before receiving payment from Banque du Sud via the New York
payment
system. The account was then closed and the money transferred via theIsleof
Man to a number of recipients. The defendants were independent
acountants
who ran a number of shell companies through which the moneyswerepaid.Tie
issue arose whether or not the value received by Baker Oil wasthetraceablepr
ceed of the property transferred from Tunis.
It was impossible to trace the money at common law where thevaluehadbet
transferred by 'telegraphic transfer' because it was impossible toidenttytt
speci c money that had been misapplied. On these facts, becausetheplaintits
duciary had acted fraudulently, it was open to the plaintiff to tracethemoty
in equity. There was also personal liability to account, imposed onthoseper
who had knowingly received misapplied funds or who haddishonestyasitil
the misapplication of the funds.
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Équitabletracing into mixed funds

Theprocess of tracing and identifying property over which a remedy is sought
isđifferent from the issue of asserting a remnedy in respect of that property. In
wationto mixtures of trust and other money held in bank accounts, a variety of
approacheshave been taken in the courts.
Asconsidered in the initial hypothetical situations at the start of this chapter,
oneofthe more problematic issues in equitable tracing claims is that of identify-
ingtitle in property in funds that are made up of both trust property and other
property.Where it is impossible to separate one item of property from another, it
will be impossible to effect a common law following claim. Suppose that it was
oneofCharlie Croker's Mini Cooper cars (identi able by their registration plates
andchassisnumbers) that had been taken and parked in a car park with other cars.
It wouldbecomparativelyeasy to identify that car and recover it undera common
law following claim, as in Jones above. However, where the property is fungible,
suchas money in a bank account, such segregation cannot be easily performed.
So, if that car had been sold and the money paid into a bank account and mixed
withothermoney, then only equitable tracing will provide a claim.

Mixture of trust money with trustee's own money

The rst factual situation to be considered in the context of equitable tracing into
mixed funds is that where the trustee mixes money taken from the trust with
propertythat is bene cially her own. The attitude of the courts could be best
explainedas selecting the approach that achieves the most desirable result for the
bene ciaries.
The problem with commingling a trustee's own money with trust property is
deciding whether property used, for example, to make investments was taken
fromthe trust or taken from the trustee's own money. On the basis that the trustee
isrequiredto invest trust property to achieve the best possible return for the trust
(Cowanv Scargill (1984)), and on the basis that the trustee is required to behave
honestlyin respect of the trust property, the court may choose to assume that the
trusteeintended to use trust property to make successful investments and her own
money for any inferior investments.
This approach is most clearly exhibited in Re Hallett 's Estate (1880). Hallett
wasa solicitor who was a bailee of Russian bonds for one of his clients, Cotter-
ill. Hallettalso held securities of that type on express trust for his own marriage
settlement(so that he was among the bene ciaries of that marriage settlement).
Hallettsold the bonds and paid all the proceeds of sale into his own bank account.

l
Hallettsubsequently died. Therefore, it was left to the trustees of the marriage
settlementand Cotterill to claim proprietary rights over the renmainingcontents of
Hallett's bank account.
It was held that it could be assumed that, where a trustee has money in a per-
sonalbank account to which trust money is added, the trustee is acting honestly
Whenpaying money out of that bank account. Therefore, it is assumed that the
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 184 Understanding Equity & Trusts

trustee is paying out her own money on investments that lose money and not the
trust money. It was held that 'where a man does an act which may be rightfully
performed... he is not allowed to say against the person entitled to the property
or the right that he has done it wrongfully'. As such he cannot claim that 'it was
your money I wasted, not mine'. Therefore, it is said that the trustee has rightfully
dissipated her own moneys such that the trust money remains intact.
By contradistinction to the 'honest trustee approach', there is the 'bene ciary
election' principle, which appears most clearly in Re Oatway (1903). It was held
that where a trustee has wrongfully mixed her own money and trust money, the
trustee is not entitled to say that the investment was made with her own money
and that the trust money has been dissipated. Importantly, though, the bene ciar-
ies are entitled to elect either that the property be subject to a charge as security
for amounts owed to them by the trustee, or that the unauthorised investment be
adopted as part of the trust fund. Hence the term bene ciary election approach'.
It is therefore clear that the courts are prepared to protect the bene ciaries at all
costs from themisfeasance of the trustee - re-emphasising the strictness of the
trustee's obligations to the bene ciaries. Therefore, where the trustee confuses
trust money with her own money, the court will tend to apply whicheverapproach
is most advantageous to the bene ciaries.
In Foskett v McKeown (2001), a trustee had committed a breach of trust by
taking trust money to pay some of the premiums on a life assurance policy thathe
had taken out over his own life in favour of his children. Latterly the trusteedied
and the policy paid out a large lump sum to the children. Because the trust money
had been taken in breach of trust the bene ciaries of the trust sought to traceinto
the lump-sum payout so as to recover a part of that lump sum in proportion to the
total value of the insurance premiums for which the trust money had paid. Itwas
held by the House of Lords that the bene ciaries were entitled to such apropor-
tionate share of the lump sum. Tracing was explained in that case as being part
of the law of property's purpose of vindicating the property rights of theoriginal
equitable owners of the money: consequently, the bene ciaries should beentitled
to trace their money from the trust into the premium payments and then into a
proportionate share of the lump-sum payout after the trustee's death.

Mixture of two trust funds or with innocent volunteer's money

This section considers the situation in which trust property is misappliedsuch

that the trust property is mixed with property belonging to an innocent thirdparty.
Therefore, rather than consider the issues that arose in the previous sectioncon-
cerning the obligations of the wrongdoing trustee, it is now necessary todecide
how property belonging to innocent parties should be allocated betweenthem.It
was held in Re Diplock (1948) that the entitlement of the bene ciary to themixed
fund should rank pari passu (or, proportionately) with the rights of theinnocent
volunteer. Therefore, none of the innocent contributors to the fund isconsidered
as taking any greater right than any other contributor to the fund. Rathet,each
person has an equivalent, proportionate charge over that property.
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 Breach of trust, strangers and tracing 185

Themore di cult situation, however, is that in which the fund containing the
mixedproperty is used in chunks to acquire separate property. Suppose a current
hankaccount from which payments are made acquires totally unrelated items of
theproperty.The problem will be deciding which of the innocent contributors to
thefundought to take which right in which piece of property. The following facts
may illustrate the problem, concerning payments in and out of a current bank
accountthat was at zero at the opening of business on 21 May.

Date Payments in Payments out

21 May £2,000 from trustA
22 May £4,000 from trust B
23 May £1,000 to buy ICI plc shares
24 May £3,000 to buy SAFC plc shares
25 May £2,000 to buy BP plc shares

Onthesefacts, £6,000 was in the account at the end of 22 May, being amixture
ofmoney from two separate trusts (A and B). By 26 May, the traceable proceeds
of that property had been used to buy ICI shares, SAFC shares and BP shares.
Theproblem is then to ascertain the title to those shares. There are two possible
approaches:either particular shares are allocated between the two trust funds or
both funds take proportionate interests in all of the shares. The two scenarios
appearin different cases, as considered immediately below.
The long-standing rule relating to title in property paid out of current bank
accounts is that in Clayton's Case (1816). In relation to current bank accounts,
thedecision in Clayton's Case held that the appropriate principle is ' rst in, rst
out',such that, in deciding which property has been used to acquire which items
ofproperty, it is deemed that money rst deposited is used rst in the rst property
acquired.The reason for this rule is a rigid application of accounting principles.
If moneyis paid in on 21 May, that money must be deemed to be the rst money
to exit the account.
Therefore, according to the facts set out above, the deposit made from A on
21 May is deemed to be the rst money to be paid out. Therefore, the ICI shares
acquired on 23 May for £1,000 would be deemed to have been acquired with
moneyderived from trust A. Therefore, the tracing claim would assign title in the
ICI shares to A. By the same token, the SAFC shares would be deemed to have
beenacquired on 24 May with the remaining £1,000 from A and £2,000 from B.
The BP shares are therefore acquired with the remaining £2,000 from trust B.
The drawback with the Clayton s Case approach is that it will be unfair to trust
Ai CI shares were to halve in value while shares in BP were to double in value.
That would mean A's £1,000 investment in ICI would be worth only £500 as a
Tesultof the halving in value, whereas B's £2,000 investment in BP would then be
worth£4,000 as a result of the doubling in value.
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 186 Understanding Equity & Trusts

The alternative approach would be to decide that each contributor shouldtake

proportionate shares in all of the property acquired with the proceedsof themixed
fund. This is the approach taken in most Commonwealth jurisdictions (ReOntario
Securities Commission (1985). On the facts above, each party contributed tothe
bank account in the ratio 1:2 (in that A provided £2,000, B provided£4,000).
Therefore, the ICI shares, the SAFC shares and the BP shares would be heldon
trust one-third for A and two-thirds for B. The result is the elimination ofanydif.
ferential movements in value across this property in circumstances in which itis
pure chance which bene ciaries would take rights in which property.
A slightly different twist on this approach was suggested in BarlowClowes
International v Vaughan (1992). In that case investors in the collapsedBarlow
Clowes organisation had their losses met in part by the Department ofTradeand
Industry. The Secretary of State for Trade and Industry then sought torecover,in
effect, the amounts that had been paid away to those former investors bytracing
the compensation paid to the investors into the assets of Barlow Clowes.
At rst instance, Peter Gibson J found that the rule in Clayton 's Case(1816)
should be applied. Clayton's Case asserts the rule that tracing claims intomixed
funds in current bank accounts are to be treated as the money rst paid intothe
bank account is to be rst paid out of the account. The majority of theCourt
of Appeal favoured a distribution between the rights of the variousinvestors
on a pari passu basis. However, in the Court of Appeal, Leggatt andWoolfLJ
approved the proportionate share approach culled from the Canadiancasesbutdid
not think it was actually feasible on these facts.
It is clear from decisions in the wake of Barlow Clowes v VaughanthattheEng-
lish courts would prefer to resile from the Clayton s Case principle. At thetimeof
writing, however, Clayton's Case has not been formally overruled -merelycriti-
cised and distinguished. So, in Russell-Cooke Trust Cov Prentis(2003),LindsayJ
held that the Clayton's Case approach was still binding but that it wasalso
capable
of being distinguished on the facts of any given case. Lindsay J relied ondictaof
Woolf LJ in Barlow Clowes v Vaughan to the effect that to

throw all the loss upon one [party], through the mere chance of hisbeing
earlier in time, is irrational and arbitrary... To adopt it hereis toaportion
a common misfortune through a test which has no relation whatevertothe
justice of the case.

This approach suggests that the court's purpose - when dealing withmixtures
of the property of two innocent people - is to achievejusticebetween
themi
there is no obvious fault on the part of one party or the other. Thesamepointw3S
accepted in Commerzbank AG v IMB Morgan ple (2004) byLawrenceColns
Consequently, the current preference in the cases has been for aproportionat
share approach, but only where the application of the Clayton's Caseapproach
on
the facts of any given case would produce a result that was irrationalandarbitray
Latterly in National Crime Agency v Robb (2015), SirTerenceAtherton
Cremindèd
us of the practical dif culties with the rst-in, rst-out' approach. Inthatcase3
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 Breach of trust, strangers and tracing 187

fraudulentinvestment scheme had taken investments from a large number of clients

andfunnelled those amounts into accounts in different jurisdictions. Those investors
hadpaid different amounts of money at different times into a London bank account
Rainstwhich a tracing action was being brought. It was held that while equitable
tracingwaspossible, it would be almost impossible to match inputs with outputs from
thesebank accounts so as to be able to give effect to the Claton 's Case analysis. The
practicaldi culties of tracing payments through bank accounts was illustrated again
inRelfoLid (in liquidation) v Varsani (2014) where the Court of Appeal identi ed the
i culty of proving in that case that one payment was indeed the traceable substitute
ofanotherwhen a large number of payments had been made into a bank account.
A similarissue arose in the case of Charity Commissionv Framjee (2015). In
thatcasea charitable trust operated a website that purported to raise money for dif-
ferentcharities. The Charity Commission investigated this organisation because
therewere discrepancies in its accounts. Once again, it was held that the sheer
volumeofpayments that had been made through the website made it impractica-
bletooperate the Clayton s Case ' rst-in, rst-out' approach. It would have been
posiblein theory to do this calculation but Henderson J considered that it would
betoo time-consuming and expensive to make it worthwhile. Therefore, on these
facts,it was held to be preferable to use a proportionate share analysis. In light of
this,itappearsthat it is also appropriate to ignore Claytons Case if it would be
too complicated to apply.

Claimingin tracing cases: trusts and remedies

Theonusis on the claimant to claim the remedy that is most appropriate in the cir-
cumstances.Different types of remedy will be more suitable or more appropriate
indifferent circumstances, depending on the nature of the property and whether
ornotthere are innocent third parties involved. Usually, this issue resolves itself
to achoice between a charge over the traced property, or a possessory lien over
theproperty,or the award of proprietary rights in the form of a constructive trust
overtheproperty in favour of the claimant. Each of these remedies is considered
indetail below, but their basic characteristics can be explained here. First, the
chargearisesonly in equity and entitles the claimant to seize the property and seek
acourtorder to sell it if the defendant does not pay the claimant, whatever the
claimantis owed under the terms of the charge. Second, a lien entitles the claim-
anttotakepossession of property and to retain that property until the defendant
paysthe claimant, whatever the claimant is owed. Both of these types of rem-
edyaretherefore concerned with ensuring that the claimant is paid an amount of
moneyand both require that the property can be identi ed separately from other
property.The third “remedy' is the constructive trust, which entitles the claimant
l0anequitable proprietary interest in the traced property. In theory, such a con-
sructivetrust could be constructed so that any third party with rights in the traced
propertywould hold the equitable interest in that property in common with the
Caimant;more usually, a constructive trust will be claimed so that the claimant
Canbecomethe absolute bene cial owner of property so that she can acquire any
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 I88 Understanding Equity & Trusts

future increase in value in that property. A constructive trust is likely to besought

in circumstances in which the property is intrinsically valuable or when it islikely
to be ofuse to the claimant.
The principal issue is therefore whether the appropriate remedy is to award
a charge over the property or possession by way ofa lien, or to awarddirect
proprietary rights in property to the claimant. The advantage of the directprori-
etary right is that the claimant acquires an equitable interest in speci cproperty.
However, a charge does grant quasi-property rights that will be enforceable inthe
event of an insolvency (Re Tilley's WT (1967)).
A constructive trust will grant the claimant equitable proprietary rights inthe
property, which means that the claimant will become its owner (with theadvan-
tages of locking in any future increase in the value of the property andtheburden
of maintaining the property) as opposed to receiving merely a cash sumequalto
its value. (Interestingly, Lord Browne-Wilkinson held in WestdeutscheLandes.
bank v Islington (1996) that a constructive trust is imposed only if thedefendant
has acted unconscionably, although tracing actions are not dependent onuncon-
scionability by the defendant (e.g. Re Diplock (1946), where an innocentcharity
was required to surrender propety under a tracing action.) Alternatively, thecourt
may simply order that the mixture be divided between the innocentvolunteersin
proportion to the size of their original contributions to that mixed fund.

Defences
While the preceding discussion has considered the contexts in which aclaimant
will be able to mount a tracing claim, there will be situations in which therecipi-
ent of the traceable proceeds of the claimant's property will be able toresistthe
claim. There are at least three defences apparently available: change ofposition,
estoppel by representation and bona de purchaser for value without notice.

Change of position
The defence of change of position will be available to a defendant whohas
received property and, on the faith of the receipt of that property,sufferedsome
change in their personal circumstances (Lipkin Gorman v Karpnale (1991).The
clearest judicial statement of the manner in which the defence ofchangeofposi-
tion might operate can be extracted from the (partially dissenting) speechofLord
Goff in Lipkin Gorman:

Where an innocent defendant's position is so changed that he will sufferan

a injustice if called upon to repay or to repay in full, the injustice ofrequirng
him so to repay outweighs the injustice of denying the plaintiffrestitution.

Suppose the following facts: B has received a valuable painting that wastrans
ferred in breach of trust. B is unaware of the breach of trust andtherefore
spenas
a large amount of money on a lease for suitable premises to show thepantui3
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to the public, on security for the painting, and on insurance. Subsequently, the
bene ciariesunder the trust bring a claim to trace their trust property. Lord Goff's
explanation of the defence of change of position would make this circumstance
a dif cult one. The issue would be whether or not B's expense would be said to
outweighthe value of the painting. Clearly, expenditure of a few thousand pounds
would not justify B retaining a painting worth several millions and so the painting
would have to be returned. B would then be required to seek a remedy from the
personwho transferred the property to her initially.
Thedefence of change of position would appear to include all sums spent by
thedefendant in reliance on any representation or payment made by the claimant,
including the cost of nancing a proposed transaction between the parties (Sanwa
Australia Finance v Finchill Property (2001). Furthermore, where the defend-
ant forgoes an opportunity to take a bene t from another source in reliance on
thepayment received from the claimant, then the defendant is entitled to include
sucha reliance within his or her defence of change of position (Palmer v Blue
Circle Southern Cement (2001). What the defendant cannot do is seek to rely on
the bene t of a contract that turned out to have been void (South Tyneside Met-
ropolitan BC v Svenska International ple (1995), or claim to have acted in good
faith reliance on a payment in circumstances in which they have acquiesced in the
actionthatrendered such payment void (Standard Bank v Bank of Tokyo (1995).
In any event, the defendant is required to have acted in good faith in seeking to
assertadefence of change of position (Lipkin Gorman v Karpnale (1991).
In Scottish Equitable v Derby (2000), a pensioner mistakenly received a pay-
ment from a pension fund and the fund therefore sought to recover the money
from him. The pensioner argued that his change of position was contained in
part in an expenditure of £9,600 on his home and also on his alleged disappoint-
ment in losing his windfall. The court would not accept that his disappointment
couldconstitute a change of position and instead considered it to be entirely spuri-
ous,although it was held that his expenditure of £9,600 in reliance on his belief
that the money was his would constitute a change of position entitling him to a
defenceto that extent. By contrast, in Philip Collins Ltd v Davis (2000), overpay-
mentsof royalties were mistakenly made to one of Phil Collins's musicians over
anumber of years. The musician sought to retain that money simply on the basis
thathe thought he was due it, even though his contract provided expressly to the
contrary; the company proposed to recover the money by withholding it from
future royalties which would otherwise have been paid to the musician. It was
heldthatthe musician was entitled to retain half of the overpayments on the basis
thathe had changed his way of life in reliance on the overpayments and could be
saidto have changed his position to that extent.
InDextra Bank and Trust Co Ltd v Bank of Jamaica (2002), the Privy Coun-
cil was prepared to hold that even incurring a future liability would constitute
achange of position. So, if a person's change of position was on the basis that
shehad entered into a contract whereby at some point in the future she would be
requiredto pay money to another person, that would also constitute a change of
position.However, this point is not without complication. A future liability has
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been held not to amount to a factor suf cient to found the defence of change of
position in Pearce v Lloyds Bank (2001). It is suggested that the approach taken in
Dextra Bank and Trust Co Ltd v Bank ofJamaica is to be preferred because,once
a liability becomes legally enforceable, the defendant can be considered to have
become liable to make payment and so to have changed his position in thesense
that his balance sheet will show that he owes a liability.
In Brazil v Durant International Corporation (2015), the Privy Council con-
sidered a complex money-laundering scheme. It was held that it was possible to
trace in circumstances in which the payment out of an account had beenorganised
to take effect before a deposit was made into that account. This was consideredto
be an example of 'backwards tracing' (where the traced property makes goodan
amount which has already been paid); although it is very similar to the principle
in Dextra Bank.
S0uisdko hihibesteed
Estoppel by representation
Estoppel by representation is a defence that is similar, at least at rst glance, to
that of change of position. The signi cant diference between the twodefencesis
that the estoppel is predicated on some representation being made by the claim-
ant, as opposed to a balancing of the competing equities of the case assuggested
by the defence of change of position. A good example of this defence inaction
arose in National Westminster Bank ple v Somer International (2002), in whicha
company received a payment of about the same amount as it expected toreceive
for one of its other clients at about the same time. The bank paid the moneyinto
the claimant's account. The bank told the claimant company that thisamount
was about to clear into the company's account. In fact the bank had made amis-
take in that the money should have been paid into another customer'saccount.
Consequently, the company shipped goods to one of its own clients,believing
that that client had paid for the goods in advance. The bank that hadmistakenly
made the payment sought to recover the money. The Court of Appeal heldthatthe
equitable doctrine of estoppel by representation meant that the claimantshould
be entitled to set off the value of the goods sent to its client in relianceonreceipt
of the payment against the remaining value, which it would berequiredtoretun
to the bank.

Bona de purchaser for value without notice of the other's rights

A further applicable defence is that of the bona de purchaser for valuewithout

notice (also known as 'equity's darling'). The nal problem is theperennialoneol
deciding between the person who has lost their property to awrongdoing duciary
and the person who buys that property in all innocence. Let us take theexample
of the painting held on trust for bene ciaries, which is transferredawayinbreach
of trust by a trustee. Suppose then that the painting is purchased byErica,ingo
faith, for its full market price. Erica will necessarily take the view thatshena
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naid an open market price for property in circumstances in which she could not
have known that the property ought properly to have been held on trust. By the
sametoken, the bene ciaries would argue that it is they who ought to be entitled
torecover their property from Erica.
From a strict analytical viewpoint, the property lawyer might take a differ-
entapproach and nd for the bene ciaries on the following basis. At no tíme do
thebene ciaries relinquish their property rights in the painting before Erica pur-
chasesit. Therefore, those rights ought to be considered as subsisting. Erica can-
notacquire good title on the basis that the bene cial interest still properly remains
in the bene ciaries. The approach of equity, though, is to protect free markets by
ensuringthat the bona de purchaser for value without notice of the rights of a
bene cial owner is entitled to assert good title in property in such situations. Such
aperson is rightly referred to as 'equity's darling'. Consequently, a good defence
to a tracing claim would appear to be an assertion that you are a purchaser acting
in good faith without notice of the rights of the bene ciary (per Lord Browne-
Wilkinson in Westdeutsche Landesbank v Islington (1996).

Choice between remedies

Asconsidered above, there is a possibility of a number of remedies ranging from
thoseassociated with tracing claims, to those associated with restoration of the
valueofspecifñic property, to those based on compensation (Target Holdings Ltdv
Redferns (1996). There is, then, a question as to the remedy that the bene ciary
isrequired to pursue in all the circumstances. The equitable doctrine of election
arisesin such situations to provide that it is open to the claimant to elect between
alternativeremedies (Tang v Capacious Imvestments Ltd (1996). In Tang, the pos-
sibility of parallel remedies arose in relation to a breach of trust for the plaintiff
bene ciaryto claim an account of pro ts from the malfeasant trustee or to claim
damagesrepresenting the lost pro ts to the trust. It was held that these two reme-
diesexisted in the altermative and therefore that the plaintiff could claim both, not
beingrequired to elect between them until judgment was awarded in its favour.
Clearly,the court would not permit double recovery in respect of the same loss,
thus requiring an election between those remedies ultimately.

Movingon.
Thislongchapterhas raised a number of issues in outline form only - for a more
detailed discussion, the reader is referred to Chapters 12 and 18 to 20 of my
longer textbook, Equity and Trusts (Hudson, 2017). What we have achieved in
theforegoing discussion is the nal piece of the jigsaw relating to the treatment
ofthe law of trusts in theory. The next two chapters consider the practicalities of
rists asused in relation to commercial transactions and also as used for chartable
purposes.
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