Sham or Badly Administered Trusts

"Don’t judge a book by its cover"

A sham trust exists where the trust appears to have been established in terms of a trust instrument, but the terms of the Trust Instrument do not reflect the founder’s and the trustees’ true intentions, thereby misleading third parties about the true terms of the trust.  The makeup of a trust is a competition between control and protection. As a general proposition, the higher the control one has of the trust, the greater the chance that the trust will be deemed an ‘alter ego’ or sham.

Asset protection is the main reason to form a family trust as part of an estate plan.  However, some easily overlooked trust administration processes that may result in the family trust being deemed as a sham trust. When the Courts of Law prove that a Trust is sham, the creditors will be able to attach the trust assets and laws relating to marriage and divorce will successfully prove that the assets form part of the defendant’s personal estate.  Despite the fact that the trust does exist, the courts will disregard the trust and treat the assets as if they belong to defendant.

The following issues, for example, may easily lead to your family trust being deemed sham :

  • the absence of trustee resolutions

  • the absence of  income tax filings

  • the absence of appropriate documentation

  • the absence of accounting records and bank accounts

  • no  lease agreement between the settlors and the family Trust in terms of which the settlors  can  justify the alleged tenancy by them of the properties supposedly owned by the family Trust

  • no bank account operated by the  family trust through which any rent would have been paid

  • no  evidence that the founders (as trustees of the trusts) had convened and held any trustees’ meetings; and

  • provisions relating to control of the founds and trustees of the trust property for their own benefit as beneficiaries.

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