Baba v Sheehan

1. [1]

   BRERETON JA: I have had the benefit of reading in draft the judgment to be delivered by Emmett AJA. I agree with his Honour that the appeal must be dismissed and, subject to what follows, with his Honour’s reasons.

2. [2]

   Ultimately, the sole ground of appeal relied upon by Mr and Mrs Baba was that the primary judge was in error in failing to hold that the purported removal of the third respondent Smart Street Optical Pty Ltd (now ACN 121 894 479 Pty Ltd), and appointment of the fourth respondent Silktote Pty Ltd (“Silktote”), as trustee of the Smart Street Optical Trust by the first respondent Mr Sheehan, was void as a fraud on the power of appointment conferred by the Trust Deed on Mr Sheehan. Leave to amend the appeal to raise an additional objection to the formal validity of the appointment of Silktote as trustee in October 2016 was refused. [1]

3. [3]

   It is important to distinguish at the outset a “power of appointment” of the kind in question here – that is, to appoint a new trustee – from a power to appoint trust property to a discretionary beneficiary, about which most of the law on the nature of a trustee’s powers is concerned. The latter power is of quite a different character: it is conferred on a trustee, to deal with trust property, for the benefit of beneficiaries, and is, unquestionably, fiduciary in character.

4. [4]

   Although there are cases that hold that a power of the present kind is also fiduciary in nature, [2] this is open to serious doubt, at least as a general rule, and it is clear that the appointment of the appointor himself or herself as trustee, or of a company controlled by the appointor, is not necessarily prohibited, although many of the cases turn on the terms of the particular trust deed. [3] In theory, it is difficult to see how, in the context of the modern discretionary trust, involving a nominal settlor, a trustee who can be removed and replaced by an appointor who is typically the “true” settlor, and discretionary beneficiaries who have no proprietary interest but a mere right to due administration, there is any reposing of trust or confidence in, or any reliance on, the appointor, by the beneficiaries. However, this case is not an appropriate vehicle finally to resolve this issue, which was left open by this Court in El Sayed v El Hawach, [4] although it is difficult to reconcile the decision of the High Court in Montevento Holdings Pty Ltd v Scaffidi, [5] which upheld the appointment of a company controlled by the appointor, with a fiduciary obligation to avoid preferring one’s own interest.

5. [5]

   However, though it might not be correctly characterised as a “fiduciary power”, it has been accepted that such a power is controlled by the doctrine of “fraud on a power”, so that it must be exercised bona fide for the purpose for which it was conferred. [6] As the primary judge recorded, that was common ground in the instant case. [7]

6. [6]

   The doctrine of “fraud on a power” operates to avoid the exercise of a power where it has been exercised for a purpose, or with an intention, beyond the scope of, or not justified by, the instrument creating the power. [8] Such an exercise of power for an extraneous purposes is invalid and void, as Dixon J said in Mills v Mills: [9]

7. [7]

   The doctrine therefore directs attention to the purpose for which the power is conferred on its repository. For present purposes, the focus is not on the responsibilities of the trustee, but on the power of the appointor.

8. [8]

   The appellants’ case was that if Mr Sheehan’s only purpose in appointing Silktote as trustee was to obtain control of the trust for himself (which Mr Sheehan denied), that was an improper or extraneous purpose within the doctrine.

9. [9]

   I would not accept that a purpose of maintaining or exerting control of a trust is, absent any intention that the appointee act other than properly in accordance with its responsibilities as trustee, necessarily inconsistent with the purpose for which a power of appointment of this kind is created, particularly in the context of the modern discretionary trust. Usually, a significant if not dominant purpose of this type of power of appointment is to reserve to the appointor the ability to “control” the trust by removing and replacing the trustee.

10. [10]

    In In the Marriage of K R and M I Davidson (No 2) (“Davidson”), [10] Simpson, Nygh and Murray JJ said that, in the context of a modern discretionary family trust, the appointor was not prevented from appointing a trustee who would comply with the appointor’s wishes:

11. [11]

    The High Court did not disagree; in dismissing an application for special leave to appeal in Davidson, Mason CJ said: [11]

12. [12]

    This approach was referred to by Murphy JA and Hall J in Scaffidi v Montevento Holdings Pty Ltd, as follows: [12]

13. [13]

    In Mercanti v Mercanti, [13] the appointor had removed a corporate trustee and replaced it with another corporate trustee which he controlled. The primary judge, Le Miere J, held that in the absence of evidence of any purpose beyond placing the appointee in control of the trust, this did not involve an exercise of a power for any improper or ulterior purpose (emphasis added): [14]

14. [14]

    On appeal, Buss P, having referred to that passage, held that the purpose of transferring control to the appointee was not of itself improper:

15. [15]

    To the same effect, and with reference to same passage in the judgment of Le Miere J, Newnes and Murphy JJA said that the reinstatement of earlier arrangements for the management of the trust’s business in place of those which had operated for the last seventeen years was not in itself an improper purpose:

16. [16]

    In Australian Conservation Services Pty Ltd v Liladel Holdings Pty Ltd, [15] Mossop J considered that the trust in question was one in respect of which the power of the appointor to remove and appoint trustees could be exercised for the purpose of controlling the trust estate for the appointor’s benefit:

17. [17]

    In the present case, the judgment of the primary judge included the following findings: [16]

18. [18]

    There was no specific challenge to the findings of fact contained in those paragraphs. As Emmett AJA demonstrates, they were well open to the primary judge, notwithstanding that he considered Mr Sheehan’s evidence as to his purpose in changing the trustee not to be “entirely satisfactory”. Moreover, even if Mr Sheehan’s sole motive was to obtain control of the trust, I am not persuaded that would have been “improper” in the relevant sense, absent any intention that his appointee act other than properly in accordance with its responsibilities as trustee.

19. [19]

    I agree with the orders proposed by Emmett AJA.

20. [20]

    EMMETT AJA:

Introduction

1. [21]

   The third respondent was formerly known as Smart Street Optical Pty Limited (Smart Street). However, following the removal of Smart Street as trustee, the registration of Smart Street was cancelled under s 601AB of the Corporations Act 2001 (Cth). The registration of Smart Street has now been reinstated but its name is now “ACN 121 894 479 Pty Limited”, by reason of the registration of a new entity with its former name. The fourth respondent is Silktote Pty Limited (Silktote). The new entity, called Smart Street Optical Pty Limited, was registered on 4 March 2020. Silktote is the ultimate shareholder of that new entity. To avoid confusion, the parties will be referred to by their names as at the time of the events in question in the proceedings.

2. [22]

   Mrs Baba commenced proceedings in the Corporations List of the Equity Division of the Supreme Court seeking, principally, an order that Mr David Hurst, a registered liquidator, be appointed as receiver and manager of the business and property of the Trust with power to do all things necessary or convenient to effect the sale of the business of the Trust and to pay dividends to holders of units in the Trust. The claim for that relief appears to have been misconceived and is not pressed in the appeal. In addition, Mrs Baba sought a declaration that the appointment of Silktote as trustee of the Trust was void and of no force or effect. Silktote filed a cross-claim seeking, relevantly, a declaration that it is now the trustee of the Trust and that certain payments that had been made by Smart Street, while the trustee of the Trust, were made in breach of trust.

3. [23]

   Ultimately, for reasons published on 26 September 2019, [17] 30 April 2020 [18] and 17 July 2020, [19] a judge of the Equity Division (the primary judge) ordered that Mrs Baba’s claim be dismissed with costs and that judgment be entered for Silktote against Mr Baba in the sum of $24,528, together with interest in the sum of $4,453.18. By notice of appeal filed on 24 December 2019, Mrs Baba appealed against the orders dismissing her claims. By amended notice of appeal filed on 19 August 2020, Mrs Baba and Mr Baba appealed from the orders made dismissing Mrs Baba’s claim and from the orders made on the cross-claim against Mr Baba.

4. [24]

   An application for leave to amend the grounds of appeal further, which was made ore tenus on 20 November 2020, was dismissed. During the course of the hearing of the appeal on 20 November 2020, the amended notice of appeal was further amended by leave of the Court, such that the only ground of appeal relied on by Mr and Mrs Baba is that the primary judge was in error in failing to hold that the purported removal of Smart Street and appointment of Silktote as trustee of the Trust by Mr Sheehan was void as a fraud on the power of appointment conferred by the Trust Deed on Mr Sheehan.

The Trust

1. [25]

   The Trust was established by deed dated 15 December 2006 (the Trust Deed). The parties to the Trust Deed were:

2. [26]

   The Trust Deed recited that the Appointor had agreed to act as appointor for certain purposes, that Smart Street had agreed to act as trustee for certain purposes and that, by the Trust Deed, it was intended to establish a unit trust that would be administered for the benefit of the persons provided for in the Trust Deed. Clause 3 of the Trust Deed provided for the beneficial interest in the Trust Fund (as defined) to be divided into 100 units, each of which was to confer an equal interest in the Trust Fund but was not to confer any interest in any particular part of the Trust Fund but only such interest in the Trust Fund as a whole as is conferred on a unit under the provisions contained in the Trust Deed.

3. [27]

   Clause 4 of the Trust Deed provided that the 100 Foundation Units were to be issued to the Unitholders as follows:

4. [28]

   Clause 2 of the Trust Deed relevantly provided that the Appointor was to be entitled, by instrument in writing, at any time and from time to time:

5. [29]

   Prior to the establishment of the Trust, it had been proposed that a partnership would be established to conduct an optometry practice at Charlestown in New South Wales. An agreement signed on 2 September 2006 by Mr Sheehan, on behalf of Rijalu, and by Mr Carney and by Mr Baba purported to record the intention of the parties to that agreement (the Partnership Agreement). The Partnership Agreement provided that the partners of the proposed partnership were to be:

6. [30]

   Under the Partnership Agreement, each of Messrs Sheehan, Carney and Baba was to be responsible for all debts incurred in the establishment and ongoing operation of the optometry practice in the proportions specified above. The Partnership Agreement recorded that Mr Baba and Mr Carney were to be paid salaries as specified and that any increase in the initial salaries to be paid to Mr Baba and Mr Carney would result in the same increase being paid to Rijalu in the form of a consultancy fee.

7. [31]

   Notwithstanding the signature of the Partnership Agreement, the parties proceeded with the establishment of the Trust for the purpose of conducting the proposed optometry practice (the Trust Business). For the purpose of the Trust Business, Smart Street, as trustee of the Trust, established and operated banking accounts with Westpac Banking Corporation Limited (Westpac).

The Dispute

1. [32]

   The accounting work of the Trust was carried out by Mr Darren Tappouras. Mr Baba generally looked after accounting matters and gave instructions to Mr Tappouras.

2. [33]

   In early 2016, Messrs Sheehan, Carney and Baba were contemplating a sale of the Trust Business to an entity controlled by Mr Sheehan, which conducted a business known as “Better Eyecare”. The proposed purchaser required a “due diligence” to be conducted. Mr Sheehan gave evidence that, in April 2016, he became concerned about the way in which the Trust Business was being managed and that Mr Carney and Mr Baba “were struggling to understand” the financial figures of the Trust Business.

3. [34]

   Mr Sheehan said, in particular, that an email exchange between Mr Tappouras and Mr Baba concerning the finalisation of a tax return gave him some concern. Mr Baba wrote to Mr Sheehan saying that Mr Carney had declined to “sign off” on the tax return because it did not make sense. Mr Sheehan also said that he was troubled by an apparent discrepancy in the financial figures of the Trust and by the fact that there was no money in the Trust’s bank account for distribution to the Unitholders.

4. [35]

   In his evidence, Mr Sheehan said that he became concerned that he was being kept out of the affairs of the Trust. In May 2016, he sent an email to Mr Tappouras requesting information about an increase in what he described as “beneficiary loans” to Mr Carney and Mrs Baba shown in the financial statements of Trust for the year ended 30 June 2015.

5. [36]

   In early August 2016, Mr Sheehan was provided with draft accounts for the year ended 30 June 2016. He said that he formed the view that there were “some important issues” raised by the accounts and that he discussed them with Mr Carney and Mr Baba, who had advised him that the financial figures “did not seem right”. Mr Sheehan said that Mr Baba told him that he would “follow it up with the accountants”.

6. [37]

   Subsequently, Mr Sheehan received a copy of an email from Mr Baba to Mr Tappouras stating that some of the distributions had “gone through salary sacrifice” and that that accounted for the discrepancy. Mr Sheehan said in his evidence that he was concerned about that suggestion, since he had never agreed to payments being made by way of “salary sacrifice”. He said that he felt excluded because he understood that Mr Tappouras was acting for Mr Carney and Mr Baba personally.

7. [38]

   On 23 October 2016, Mr Sheehan sent an email to Mr Tappouras asking him to supply copies of tax returns for the past 10 years plus breakdowns of salaries and other payments made to Mr Baba and Mr Carney and their related parties and entities. On the following day, Mr Sheehan sent a further email to Mr Tappouras requesting details of various “categories in the 2016 Financials”. Mr Sheehan said that he tried to telephone Mr Tappouras about his request but received no response.

8. [39]

   Mr Sheehan said that he also spoke to Mr Baba and Mr Carney and told them that he wanted to have access to the Trust’s bank accounts and that Mr Tappouras was not giving him information. Mr Sheehan said that he told Mr Baba and Mr Carney that he was concerned that they did not understand their “responsibilities as trustees”. He said that there were “so called salary sacrifices” that had not been discussed, business practices that “aren’t usual” and that the Trust’s bank accounts did not have money for distribution to the Unitholders. He said that it appeared to him that the distributions from Trust were not being made in proportion to the unit holdings.

9. [40]

   On 26 October 2006, Mr Sheehan sent an email to Mr Carney and Mr Baba addressed “Dear Anna, Steve and Mustafa” and saying, relevantly, as follows:

10. [41]

    Mrs Baba responded to Mr Sheehan’s affidavit, denying that assertion. However, she also said:

11. [42]

    In cross-examination, Mr Sheehan conceded that his discussions with Mr Baba and Mr Carney referred to above initially took place in the context of a potential sale of the Trust Business. He said that, when he sent the email to Mr Tappouras on 23 October 2016 asking for a copy of the Trust Deed, he already had one. He said that he asked Mr Tappouras for a copy, “so that [Mr Sheehan] could assess whether [Mr Tappouras] understood that this was not a partnership, it was a unit trust”.

12. [43]

    Mr Sheehan also accepted in cross-examination that, following the email referred to above, Silktote took control of the Trust Business and that Silktote had since taken no steps to try to sell the Trust Business. When asked whether the steps that he took on 26 October 2016 to change the trustee were solely for the purpose of taking total control of the business himself, Mr Sheehan responded, “I refute that”. When he was asked whether he took control of the Trust for the purpose of enabling himself to have control and ownership of the business in its entirety, his response was “I totally refute that”.

Findings of the primary judge

1. [44]

   The primary judge did not find Mr Sheehan’s evidence as to his purpose in changing the trustee of the Trust to be “entirely satisfactory”. His Honour did not read the emails as reflecting any concern on Mr Sheehan’s part about the way in which the Trust accounts were being kept or the way in which the affairs of the Trust were being managed. His Honour did not consider that the correspondence indicated that any requests by Mr Sheehan were being ignored. Nevertheless, his Honour accepted that, by 23 October 2016, Mr Sheehan had questions about the affairs of the Trust. His Honour was not satisfied that Mr Sheehan fully understood what had been done about the “salary sacrifice arrangement” and considered that the evidence fell far short of establishing that Mr Sheehan had approved the “salary sacrifice” payments, as Mrs Baba alleged.

2. [45]

   The primary judge accepted Mr Sheehan’s denial that his sole motivation in appointing Silktote was to obtain control of the Trust. His Honour was satisfied that Mr Sheehan had genuine concerns about the way in which the affairs of the Trust were being conducted and that he exercised his power to appoint a new trustee so as to protect the interests of Rijalu as a unitholder. His Honour considered that that was legitimate and was not foreign to the purpose for which the power was conferred by cl 2 of the Trust Deed. His Honour observed that that conclusion did not depend upon Mr Sheehan’s concerns about the Trust being well-founded and that it was sufficient that Mr Sheehan had acted “genuinely and in good faith”, as his Honour found he did. His Honour rejected Mrs Baba’s challenges to the exercise of the power conferred on Mr Sheehan as Appointor under cl 2 of the Trust Deed and concluded that the power was validly exercised in October 2016.

The Appeal

1. [46]

   In the course of the hearing of the appeal, a question arose as to whether or not the procedure specified by cl 2 of the Trust Deed had been properly followed by Mr Sheehan. The primary judge found that it had been. However, there may be a real question as to whether the evidence supported a finding that there was an instrument in writing, as required by cl 2, whereby Smart Street was removed and Silktote was appointed. Nevertheless, that was not a ground of appeal and the oral application to amend to raise that ground was refused, in circumstances where no prior notice of such an amendment had been given to the respondents. [21]

2. [47]

   As indicated above, the only ground of appeal is that the primary judge erred in concluding that Mr Sheehan, as Appointor, validly exercised the power conferred by cl 2 of the Trust Deed to remove a trustee and appoint a new trustee. If the power was not validly exercised, Smart Street remained trustee of the Trust Deed and the cross-claim brought by Silktote would have had no basis, since Silktote sued only in its purported capacity as trustee of the Trust Deed. Thus, if its appointment was ineffective, the only proper cross-claimant was Smart Street.

3. [48]

   The exercise of a power may be fraudulent if made, relevantly, for purposes foreign to the power or for a corrupt purpose. The exercise of a power will be for a corrupt purpose if, for example, the holder of the power intends a benefit to result to the holder, such as appointment to a child of the holder who is in ill health, with the intention or hope that the appointor will take the property of the child as next of kin. That is not this case. Rather, the basis for the challenge by Mrs Baba is that the power was exercised by Mr Sheehan for a purpose foreign to the power.

4. [49]

   The purpose of a trust deed in conferring a power is to benefit the objects of the relevant trust. If the power is exercised for an unauthorised purpose, which benefits the person on whom the power is conferred, the exercise of the power will be for a foreign purpose. Nevertheless, there must be some ulterior purpose, such as an intention to defeat the purpose of the Settlor of the Trust. A power will be exercised for a foreign purpose if it is exercised with the intention of benefiting someone who is not an object of the power. The objects of the Trust, as specified in the Trust Deed, are the Unitholders. The exercise of the power conferred by cl 2 of the Trust Deed must, accordingly, be for the purpose of benefiting the Unitholders. If the power were to be exercised for the purpose of enabling Mr Sheehan to control the Trust Business and the affairs of the Trust, that would be an exercise for a foreign purpose.

5. [50]

   In that context, it is relevant that each of Mr Baba, Mr Carney and Mr Sheehan was a director and shareholder of Smart Street. On the other hand, the only directors and shareholders of Silktote are Mr Sheehan and his wife. Thus, the effect of replacing Smart Street with Silktote was to remove from Mr Baba and Mr Carney any capacity to have a say in the affairs of the Trust and to limit those who have such a say to Mr Sheehan and his wife. If that were the purpose and intention of Mr Sheehan in exercising the power, it would be for a foreign purpose and be void and ineffective. However, if Mr Sheehan, as Appointor, in good faith formed the view that it was in the interests of all of the Unitholders that Smart Street be replaced with Silktote because Silktote was better qualified to manage the affairs of the Trust and the Trust Business, there would be no fraud on the power.

6. [51]

   The essence of Mrs Baba’s claim, as ultimately formulated in this Court, is that the exercise of the power conferred by cl 2 of the Trust Deed was a fraud on that power because it was exercised for the purpose of enabling Mr Sheehan to acquire control of the Trust and the Trust Business, for the purpose of facilitating the sale of the Trust Business to Better Eyecare. As indicated above, while the relief pursued before the primary judge was the appointment of a receiver to the Trust, that relief was not pressed in this Court. Mrs Baba accepted that, if this Court were to conclude that the removal of Smart Street and the appointment of Silktote were ineffective, declarations to that effect would suffice.

7. [52]

   The hurdle before Mrs Baba in the appeal is the finding by the primary judge that Mr Sheehan’s motive in exercising the power conferred by cl 2 of the Trust Deed was not exercised for an improper purpose of obtaining control of the Trust. That is a finding of fact that was open on the evidence before his Honour. Mrs Baba has not advanced arguments that justify this Court’s interfering with his Honour’s finding.

8. [53]

   The primary judge clearly considered the evidence given by Mr Sheehan as to his motives and purpose in exercising the power conferred by cl 2 of the Trust Deed. Mrs Baba contended that the concessions made by Mr Sheehan in cross-examination should have led to the conclusion that his evidence as to his motives and purpose should be rejected. Indeed, as indicated above, his Honour did not find Mr Sheehan’s evidence as to his purpose to be “entirely satisfactory”. His Honour did not consider that the emails relied upon by Mr Sheehan, on a fair reading, reflected a concern about the way in which the Trust accounts were being prepared or the way in which the affairs of the Trust were being managed. Further, it appears that Mr Sheehan was dissembling, in one sense, when he asked for a copy of the Trust Deed, in circumstances where he already had one. Nevertheless, his Honour considered that Mr Sheehan’s concerns as to the “salary sacrifice arrangement” were genuine and justified the exercise of the relevant power in order to protect his interest as a unitholder.

9. [54]

   The evidence as to the “salary sacrifice arrangement” was not entirely clear. It appears that arrangements were put in place whereby payments of consultants’ fees were made to Mr Baba and Mr Carney, who were employed in the Trust Business. The distributions made to Mrs Baba and to Sedarni, as “Unitholders”, were reduced by the amounts of the consultants’ fees. Mrs Baba contended that that arrangement was financially neutral so far as the Trust was concerned. The consultants’ fees were apparently treated as deductible expenses of the Trust Business, thereby reducing the assessable income of the Trust.

10. [55]

    Whatever may be the truth as to the “salary sacrifice arrangement”, his Honour found that it had not been approved by Mr Sheehan. Again, that finding involved the acceptance of Mr Sheehan as a witness of credit.

11. [56]

    The judgment entered on the cross-claim related to the relevant payments made to Mr Baba. The dispute as between Mr Sheehan and Mr Carney, and their respective companies, was settled at a mediation prior to the trial before the primary judge.

12. [57]

    No basis has been advanced to justify a conclusion that the primary judge erred in assessing Mr Sheehan’s credibility and accepting the reliability of the evidence given by Mr Sheehan as to his motives and purpose in exercising the power conferred by cl 2 of the Trust Deed. No ground has been established for concluding that the exercise of the power was void or invalid. It follows that the appeal must be dismissed with costs.

13. [58]

    SIMPSON AJA: I agree with the orders proposed by Emmett AJA, for the reasons his Honour gives. I have read with considerable interest the erudite discussion in the concurring judgment of Brereton JA. Since both Emmett AJA and Brereton JA would, in the end, dispose of the appeal essentially on the basis of a credit-based finding of fact I am able to defer to another day and another case further consideration of the issues discussed by Brereton JA.