The Substratum Rule: Does It Matter?

• Published date: 16 August 2022
• Subject Matter: Corporate/Commercial Law, Litigation, Mediation & Arbitration, Trials & Appeals & Compensation, Trusts
• Law Firm: Ogier
• Author: Mr Jordan Constable

Over the past few years, offshore courts have been grappling with whether an overarching equitable concept known as the 'substratum principle' exists. The substratum principle is explored further below, however the essence of the principle is that absent special circumstances, a trustee is precluded from making changes to how a trust operates if doing so will change the very fabric of the trust.

The first of these judgments made in Wong v Grand View [2019] Bda LR 41 ("Wong") suggested that the law of equity had created the "substratum principle" as a freestanding rule of law. However more recent judgments in Jersey (Representation of Rysaffe Fiduciaries Sarl [2021] JRC 230 ("Rysaffe")), Cayman (In the Matter of the Poulton Family Trust (unreported, FSD 0121 of 2016 (IKJ), 18 February 2022) ("Poulton") and a subsequent appeal following Wong in Bermuda (Grand View v Wong (Civil Appeal No. 5A of 2019) ("Grand View") indicate that the Wong decision was wrong, sounding the death knell for the substratum principle.

That said, the Judicial Committee of the Privy Council has considered the Grand View decision and judgment is awaited. In the interim, this article explores whether the existence of the substratum principle as a freestanding rule of law matters anyway, given longstanding equitable principles precluding trustees from exercising their powers for improper purpose, which has a similar effect to that of the purported substratum principle.

Given the clarity with which the Courts in Bermuda, Jersey and Cayman have treated the existence of such a rule, it may be thought that the matter has been decided and the 'substratum rule' dead. However, the eulogy for the rule may not yet be written as the Judicial Committee of the Privy Council (the Privy Council) recently heard an appeal of the Court of Appeal of Bermuda's decision in Grand View between the 8th and 10th of March 2022 and has reserved judgment.

It may well be that the Privy Council resurrects the rule in its full glory or in some diminished way. However, even if it does, it is arguable that, properly understood, the existence of the rule will not make any substantive difference to the way in which trustees view the exercise of their powers. Accordingly, and despite the uncertainty of the Privy Council's determination of the appeal in Grand View, this article seeks to ask a broader question: whether the substratum principle did exist as a freestanding rule of equity, or merely as an iteration of the doctrine of fraud on a power, does it make a difference?

The so-called substratum rule

The substratum of a trust has been variously described with perhaps the most straightforward explanation derives from the first instance decision in Wong [at '91], citing Master Teverson in Duke of Somerset v Fitzgerald¹ that: "The substratum of the trust refers to its beneficial core".

In turn, the substratum rule² itself has been defined in various ways but can be distilled into a simple proposition: "if an arrangement changes the whole substratum of the trust, then it may well be said that it cannot be regarded merely as varying that trust"³ with the consequence that a purported exercise of a power of amendment or variation is rendered ineffective. Instead, in order to effect the proposed "variation", what would instead be required is a resettlement of the trust on new terms.

In Grand View, the principal issue was whether the trustee of an irrevocable discretionary family trust (the Global Resource Trust or GRT) acted appropriately when it changed the trust's beneficial objects from natural person family members of the settlors, to a Bermuda law mixed purpose and charitable trust (the Wang Family Trust), which was settled by the founders of a lucrative group of Taiwanese companies (the Founders, who are also settlors of the GRT) to hold shares in the same, and to meet the various purposes of the Founders, including their admirable ethos that the rich do not own their wealth but are merely custodians with a duty to give it back to society. For that reason, the natural person beneficiaries of the GRT could expressly not benefit from the Wang Family Trust. Following the aforementioned change of beneficiaries, the trustee of the GRT would appoint all trust assets to the Wang Family Trust, thereafter terminating the GRT.

Various members of the Founders' family challenged the trustee's decision and at first instance the Supreme Court of Bermuda (Kawaley, AJ) found, inter alia, that "it is now settled law that a general power of...