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Insight and analysis
Analysis
Bainbridge: tracing the
proceeds of a mistake
Speed read
The recent case of Bainbridge v Bainbridge confirms that, under the
doctrine of mistake, voluntary dispositions can be rescinded. The
donors received professional advice that no CGT charge would
arise on the transfer of three parcels of farmland to a trust. This was
incorrect. To complicate matters, by the time of the application,
two parcels had been sold and the proceeds used by the trustees
to purchase other farmland. The court combined two equitable
remedies – rescission and tracing – to restore the transferors to
their original positions, notwithstanding the intervening sale of
part of the subject matter of the mistaken transaction.
Arabella Murphy
Maurice Turnor Gardner
Arabella Murphy is a partner and head of
private wealth at Maurice Turnor Gardner LLP.
She advises wealthy families, trust companies and banks
in connection with a range of wealth matters, including
tax planning, risk management and family governance,
disharmony and disputes. Email: arabella.murphy@mtgllp.
com; tel: 020 7786 8714.
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n Bainbridge v Bainbridge [2016] EWHC 898 (reported
in Tax Journal, 6 May 2016), the Bainbridges were a father
and son who farmed in partnership. On the advice of their
solicitors, they transferred several pieces of farmland to a
discretionary trust. They had been advised (wrongly) that
this would not trigger a charge to CGT. Two parcels of land
were subsequently sold by the trustees, and the proceeds of
the sale were used to acquire new farmland (the ‘new land’)
and to discharge various tax and partnership liabilities,
including SDLT due on the purchase of the new land. It was
then discovered that the transfer of the land into the trust had
triggered CGT liabilities in excess of £200,000.
The claimants applied for rescission of the transfers on
the grounds of mistake, applying the principles set out in
the Supreme Court judgment in the jointly heard appeal of
Pitt v HMRC; Futter v HMRC [2013] UKSC 26. The claim
was unopposed, either by the trustees or by HMRC (which
declined to be joined); however, needing to be satisfied that
the relief was justified, whether or not it was contested, Master
Matthews conducted a painstaking analysis of the facts and of
case law.
Pitt and Futter and the law of mistake
The so-called ‘rule in Hastings-Bass’ [1975] Ch 25 applied,
until the judgment of the Supreme Court in Pitt and Futter
to set aside actions taken by trustees that had unexpected
consequences, even where professional advice had been
taken by the trustees, if a relevant matter was overlooked
or an irrelevant matter included in the decision making
process. Criticism arose because this set a relatively low bar
for rescinding transactions with significant tax and other
consequences.
The Supreme Court cited the judgment of Lightman J
in Abacus Trust (Isle Of Man) v Barr [2003] Ch 409; and
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confirmed that where trustees have taken professional advice,
even if that advice is wrong, they will not have breached their
fiduciary duties, and Hastings-Bass is not available. The Pitt and
Futter appeal was expected therefore to result in trustees who
have received advice being obliged to pursue their advisors for
negligence, rather than applying to undo the harm.
An alternative, where negligent advice has been relied
upon, is to seek to have the transaction rescinded on the
grounds of mistake. While its judgment in relation to the
Hastings-Bass rule was necessarily limited to fiduciary
decisions, the Supreme Court also considered the test for
setting aside voluntary dispositions, a remedy available to any
disponor (one who legally transfers his or her own property
to another). In relation to Pitt v Holt alone (on appeal from
the Court of Appeal judgment at [2011] EWCA Civ 197), the
court was asked in the alternative to rescind the disposition on
the grounds of mistake.
The Hastings-Bass rule is not based on mistake, but is a
test of the validity of fiduciary decision making. Whereas,
for Hastings-Bass purposes, failing to consider something, or
considering it in an insufficient way, may suffice, the doctrine
of mistake requires a ‘positive misapprehension’ (per Lord
Walker in Pitt and Futter). Trustees able to avail themselves
of the Hastings-Bass test rarely need to consider the more
burdensome test for mistake; but, in the Pitt appeal, the
Supreme Court acknowledged that there is often overlap, and
usefully clarified the law on mistake relating to dispositions.
Parties to a voluntary transaction with unexpected results,
including adverse tax consequences, have long been able to
seek to set aside the transaction under the doctrine of mistake
(Ogilvie v Allen (1899) 15 TLR 294, confirming Ogilvie v
Littleboy (1897) 13 TLR 399, was cited as the earliest leading
authority). This is so, even if professional advice has been
taken, providing that the relevant mistake was ‘as to the effect
of the transaction itself, and not merely as to its consequences
or the advantages to be gained by entering into it’ (per Millett J
in Gibbon v Mitchell [1990] 1 WLR 1304). This distinction has
not always been easily understood or applied, as illustrated by a
submission by HMRC in Futter that the decision of the trustees
in that case ‘was not in any meaningful sense different from
what they intended (apart from the tax consequences)’. The
judge at first instance in Futter [2010] EWHC 449 Ch rejected
this argument, as the claim in that case was for relief under
Hastings-Bass, and mistake had not been pleaded. However,
mistake was pleaded in Pitt v Holt, where, in the Court of
Appeal, Lloyd LJ restated Millett LJ’s words in Gibbon: ‘there
must be a mistake on the part of the donor, either as to the legal
effect of the disposition, or as to an existing fact which is basic
to the transaction’, and the mistake must be ‘fundamental’.
Reviewing the Pitt decision in the Supreme Court, Lord
Walker quoted Lindley LJ in Ogilvie v Littleboy to confirm
that, when setting aside a voluntary disposition, a donor
must show that his mistake was ‘of so serious a character as to
render it unjust on the part of the donee to retain the property
given to him’. Lindley LJ in Ogilvie (upheld by the House of
Lords) concluded that the claimant’s regrets over her decision
to make a charitable settlement in a particular manner (which
she came to regard as overly restrictive) did not amount to
such a mistake.
In Pitt, Lord Walker confirmed that ‘a mistake must be
distinguished from mere ignorance or inadvertence, and also
from … misprediction’. Citing (as did Lloyd LJ in the Court
of Appeal) Lady Hood of Avalon v Mackinnon [1909] 1 Ch
476, where a crucial gift had been forgotten, Lord Walker
confirmed that: ‘Forgetfulness, inadvertence or ignorance
is not, as such, a mistake, but it can lead to a false belief or
assumption which the law will recognise as a mistake.’ At first
instance, the judge in Pitt had held that: ‘If someone does not
17 June 2016 |
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apply his mind to a point at all, it is difficult to say that there
has been some real mistake about it’; however, the Court of
Appeal held (and the Supreme Court confirmed) that Mrs Pitt
had an ‘incorrect conscious belief ’ that the transaction would
have no adverse consequences.
The Bainbridge case
In Bainbridge, Master Matthews referred to the Court of
Appeal decision in Pitt, and to the summary of that test set
out in Kennedy v Kennedy [2014] EWHC 4129:
(1) ‘There must be a distinct mistake as distinguished from
mere ignorance or inadvertence or what unjust
enrichment scholars call a “misprediction” relating to some
possible future event. On the other hand, forgetfulness,
inadvertence or ignorance can lead to a false belief or
assumption which the court will recognise as a legally
relevant mistake…
(2) A mistake may still be a relevant mistake even if it was due
to carelessness on the part of the person making the
voluntary disposition, unless … he or she deliberately ran
the risk, or must be taken to have run the risk, of being
wrong.
(3) The causative mistake must be sufficiently grave as to make
it unconscionable on the part of the donee to retain the
property. That test will normally be satisfied only when
there is a mistake either as to the legal character or nature
of a transaction or as to some matter of fact or law which is
basic to the transaction…
(4) The injustice (or unfairness or unconscionableness) of
leaving a mistaken disposition uncorrected must be
evaluated objectively but with an intense focus on the facts
of the particular case.’
On the facts, the court recognised ‘a distinct mistake, not
just ignorance, made by both claimants’ that no CGT would
be payable on the transfer. This mistake was fundamental,
and there was no question that the claimants had run the risk
of being wrong. On the contrary, they received clear advice
(although the solicitors denied this) that no CGT would arise.
Accordingly, it would be unconscionable or unjust to allow
the trustees of the discretionary trust to retain the land.
An interesting set of questions then arose in relation to the
parcels which had been sold. The claimants accepted that the
purchasers had bought the land in good faith and there was
no suggestion that the court should be invited to rescind the
original transfers in such a manner that the sales would be
impugned. It was accepted that the part of the proceeds which
had been spent on taxation and partnership liabilities was not
capable of being restored and no order was sought.
In these circumstances, the first question was whether
rescission could be made only in respect of part of the original
transfer (affecting the land which was still owned by the
trustees). The court (citing Kennedy) found that the transfers
of land were separate, such that an order could be made
in respect of the retained land alone without offending the
principle in De Molestina v Ponton [2002] 1 LL Rep 70 that
partial rescission (of a single transaction) cannot be ordered.
In relation to the new land, rescission was sought, but it
was argued that the new land ‘represented’ the sold land, and
that the court could order that the new land be ‘restored’ to the
original beneficial owners of the land which had been sold.
It would be a bar to an order for rescission if third parties
had acquired rights of which they should not be deprived
(Tennent v City of Glasgow Bank (1879) 4 App Cas 615). Master
Matthews distinguished a claim for rescission which would
necessarily result in those third party rights being restored to
the claimants, and a claim where other rights are to be restored
to the transferors, if the circumstances permit. Rescission is
| 17 June 2016
Insight and analysis
not an ‘all or nothing’ remedy (contrary to TSB v Camfield
[1995] 1 WLR 430). However, it ‘is fact sensitive, and permits
what is practically just’ (referring to O’Sullivan v Management
Agency and Music Ltd [1985] QB 428 and Cheese v Thomas
[1994] 1 WLR 129). It can also be ‘a foundation for a claim to
other property than that which was originally transferred’, as
the right to rescind may be ‘facilitated by virtue of a process of
tracing through the products of the original property’.
Referring to Shalson v Russo [2005] Ch 281, he cited
Rimer J: ‘Rescission … involves a giving and a taking back on
both sides … [The claimant] enjoys a sufficient proprietary
title to enable him to trace, follow and recover what, by virtue
of such revesting, can be regarded as having always been
in equity his own property.’ It did not matter that Shalson
concerned fraudulent misrepresentation; the position is the
same where the rescission is brought about by a mistake,
or even undue influence. As was found in Pearce v Beverley
[2013] EWHC 2627 (Ch): ‘The property transferred … revests
beneficially in the transferor, subject to third party rights. In a
case where third party rights cannot be disturbed, there is no
reason not to apply the tracing process to exchange products
of the transferred property in order to find other assets to
which to make a claim instead.’ The court therefore restored
the new land to the Bainbridges.
A further complication arose over the tax treatment of
intervening events. The effect of rescission is that the original
transfer never took place (AC v DC [2012] EWHC 2032), and
the court held that this is the default position for tax purposes.
Income received during the period while the trustees
purportedly owned the farmland would therefore belong
to the original transferors (Wright v National Westminster
Bank [2014] EWHC 3158 (Ch), who were required to give
undertakings to the court to file corrective tax returns
accordingly. Other questions – such as rollover relief – were
left for the Bainbridges and HMRC to resolve.
Finally, for general law purposes, by applying to rescind
the original transfers and trace through into the new land, the
father and son were to be treated as having elected to ratify the
subsequent transactions entered into by the trustees. This was
a practical approach. Although the Master did not make this
point, it contrasts with Breadner v Granville-Grossman [2000]
4 All ER 705, where one reason for refusing the Hastings-Bass
application was that it would be practically impossible to
unwind the many transactions undertaken in the intervening
period. Bainbridge suggests that a successful applicant under
the doctrine of mistake could simply be treated as having
ratified all the actions (as if he had taken them himself), with
whatever taxation consequences attend.
Conclusions
The Bainbridge case confirms that rescission on the grounds of
mistake may be ordered, even where the claimants could seek
damages from the professionals upon whose advice they relied.
CGT was clearly at the heart of the transaction, and not a mere
consequence of it. It would be unconscionable for the trustees
to retain the land; but, given the impossibility of unwinding
third party rights, the court took an innovative approach by
rescinding the transfers, while adopting the trustees’ later
transactions, allowing the substituted land to be ‘restored’ to
the transferors in place of their original holdings. ■
The author thanks Aurea Kevill of the same firm for her
contribution.
For related reading, visit www.taxjournal.com
!
Cases: T and C Bainbridge v P Bainbridge (4.6.16)
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Futter & Pitt: the Hastings-Bass principle (Simon McKie, 30.5.13)
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