Trustee Investment: A Changing Landscape

At the other end of the scale are ESG (Environmental Social Governance) investments which chime with the wish for sustainable and ethical investment. In between are tried and tested investments, businesses, land, property, physical art and collectibles, and financial assets. So where is the tipping point which moves trustees to embrace “new” categories of assets and cope with the risk, bearing in mind their overriding duty is to have regard to the best interests of the beneficiaries; and to avoid conflict between their position as trustees and their personal position?

Investment Diversification

In the UK, in the wake of the deregulation in the City in the 1980s/1990s (the Big Bang), modernisation of the approach to trustee investment came with the Trustee Act 2000 which replaced the narrow investment ambit of the Trustee Investment Act 1961. This allows trustees to invest as if they are absolute owners but also provides that they must consider the suitability of the proposed investment and the need to diversify (the elements of modern portfolio theory); and must review their investments. The Act also imposes a statutory duty of care on trustees which requires a trustee to exercise such care and skill as is reasonable, having regard in particular to their knowledge and experience and to whether they are professional trustees, and which requires a more proactive approach than the common law duty of care. When investment functions are delegated, investment policy statements and regular review of these are required.

In practice before the Trustee Act 2000, advisers had already been adapting their precedents for settlors and testators to confer very wide investment powers, allowing more speculative investments; and to deal with the fact that while diversification should in principle be considered to avoid risk, a trust fund would often comprise assets of one particular type such as a family business, landed estate or an art collection, which were being settled with the key objective of retention and preservation for the family over a long trust period. Clauses permitting non-diversification and modifying the duty to supervise and raise enquiries, otherwise known as anti-Bartlett clauses after the case of Bartlett v Barclays Bank Trust Co Ltd (Nos 1 and 2) [1980], have long been included as standard.

The UK approach is similar to that found in other international finance centres where there are ultraflexible trust deeds, usually some trust principles in legislation and case law, and guidance from the financial regulators. In many international finance centres, there is scope to reserve the power of investment to the settlor or another person or persons, the investments are likely to be held in underlying companies, and the objectives of the trust for its beneficiaries may be documented in separate governance paperwork between the trustees/the settlors/the family.

There are other factors which will play a part too. Increasing regulation and compliance since the late 1990s means that trustees wish to be satisfied about the source of funds for the assets being settled and will need to identify all the requirements for information, filing and registration in every relevant jurisdiction. Less tangible but also of concern are moral/ethical/reputation issues. In a world where more contemporary judgement may decide that earlier standards are not high enough, professional trustees who want to maximise the returns of their beneficiaries also need to be alert to the thoughts of the beneficiaries on how the approach of their trustees may be perceived and to have worked out their internal policies and appetite for risk.

ESG Investing

Taking ESG investments first, trustees may have found that discussions on ESG have been prompted initially by beneficiaries but now have much wider traction as an investment aspect which they will wish to discuss with their investment advisers and their beneficiaries.

How should trustees approach this topic? It is a serious topic which requires regular discussion with beneficiaries. It is important that beneficiaries recognise that the trustees’ overriding responsibility is to act in the interest of all the beneficiaries, including minors and the unborn. Trustees need to have regard for the interests of all the beneficiaries and will be looking for strong financial performance to avoid being criticised and incurring potential liability.

It is also important to be clear with the beneficiaries that the term ‘ESG’ encapsulates a wide scope of sustainability. The environment is only one factor although for some beneficiaries it may well be the lead factor, reflecting the increased awareness of climate change, nature and biodiversity. But social and governance factors are equally key too. The social factor has come into increased awareness as the pandemic highlighted the inequalities of treatment in the workplace and the need for more diversity and inclusion, a living wage, fair taxation and looking at supply chains. Governance is about the wider responsibility that companies have about the way they run themselves and the culture they promote.

It is also key to distinguish between ESG considerations and impact investing, which is designed to help a business or organisation perform a positive benefit for society while at the same time producing a financial return, and which may raise some moral questions.

In the financial industry itself, there is much further to go in terms of clarity, information, and standards. In the UK, the Financial Conduct Authority (FCA) released a new ESG Strategy[ii] on 3 November 2021 to coincide with COP26 Finance Day. The paper acknowledged the difficulty of assessing the integrity of some of the “green” claims being made (so called “greenwashing”) and the need to adapt to a more sustainable long-term future. The FCA undertakes to “take an innovative approach to how we embed ESG in our regulatory activities – including our supervision and oversight of securities issuers, market participants and regulated firms – and how we help deliver tools and solutions for the financial markets”. It followed the UK Government’s Policy Paper on ‘Greening Finance: A Roadmap to Sustainable Investing’ issued in October 2021.

Since then, the FCA has introduced a specific Task Force on Climate-Related Financial Disclosures. This brings the UK more into line with the EU which issued regulations on disclosure relating to sustainable investments and sustainability risks in 2019, and these regulations have applied from March 2021. The regulations require financial market participants and financial advisors to consider “negative externalities on environment and social justice of the investment decisions/advice and, if so, how this is reflected at the product level”.[iii]

The hope is that ESG investments will lead to new economic growth which is socially and environmentally sustainable to help prevent poverty, inequality, and environmental pressures.[iv]

Against this background trustees and their advisors, while accepting ESG’s philosophy, may still struggle to know for some time if the financial performance of their ESG investment was good or that the sustainability objectives are being met. They should be clear about this to their beneficiaries.

Ultimately trustees may become comfortable with ESG investments if disclosure is clear, performance is good as part of a routinely reviewed portfolio and it becomes an established asset class. But whether trustees will become comfortable about the risk and volatility inherent in cryptoassets remains to be seen and it may depend on the risk appetite of the trustee provider.

Investing In Crypto

Enhanced due diligence will be needed if trustees are approached by a settlor wishing to settle cryptoassets or seeking to appoint new trustees of a settlement holding cryptoassets or by a settlor or family of beneficiaries wishing to invest in cryptoassets. In the first two cases, as with  any other kind of asset, source of funds will have to be investigated. The unique code of a NFT stored on the blockchain may show its provenance, price, and ownership but the trustees will still need to know where the original funds came from; they will equally need to know this for cryptocurrencies.

The non-materiality of cryptoassets and the lack of knowledge about their language and concepts is likely to become less important over time if they become more mainstream. Ironically the hope for Bitcoin was that it would remove the controllers of global finance and business, allowing everyone to participate in a financial system on an equal footing. However, interest from financial institutions has helped to create trust in the system. The difficulty though remains for trustees that their expert advice on such investments is likely to come from supporters of it and not necessarily detractors.

The regulatory environment for cryptoassets differs very much from jurisdiction to jurisdiction which can be problematic for trustees who value consumer protection, recourse to compensation and financial stability. The UK, for example, is further behind jurisdictions like Switzerland and Singapore which are being progressive in their approach; however, on 4 April 2022 the UK government announced some wide plans to make the UK a global hub for cryptoasset technology and investment as part of its wish to keep the UK financial services sector at the forefront of technology and innovation.[v]

There are also tax implications to consider – HM Revenue & Customs has issued guidance on how to approach the taxation of cryptoassets and has recently issued nudge letters about possible taxable capital gains. In response to the developments on financial markets, the OECD[vi] has announced a consultation on a new global tax transparency framework providing for the automatic exchange of tax information on transactions in cryptoassets in a standardised manner, and is proposing amendments to the CRS to bring new financial assets, products and intermediaries into scope.

Opinion remains divided on whether cryptoassets are assets which will generate untold wealth, or are the emperor’s new clothes and will come crashing down. For now, trustees are likely to come under increasing pressure to hold such assets and they will need to consider the following:

• How do they plan to set up a risk-free structure or improve an existing one to limit their exposure to liability through the wording of their clauses dealing with investment, nondiversification, and exoneration from liability?

• How do they ensure that they have delegated appropriately the investment advice on the assets and other advice associated with the assets such as the exploitation of image rights?

• How do they establish source of funds?

• How do they establish how ownership will be transferred and held?

• Do they know the situs of the assets, and the regulatory and fiscal implications of that situs?

• Have they taken any additional reassurance or indemnity from the settlor and guidance about the retention of the assets and the time/circumstances when the assets should no longer be kept?

The investment and technology world moves faster than regulators and trustees. Trustees who worry about following investment trends should remember that their core duties give them a rigorous framework about how to approach new or speculative investments and ways of dealing with the risk. They should also remember that the lifetime of a trust in England is 125 years and in many offshore jurisdictions it is without specific time limits – they are investing for the long term, and it is a marathon, not a sprint.

Footnotes:

[i] https://www.ifcreview.com/articles/2021/may/pause-for-reflection-developments-in-the-uk-for-the-international-client/

[ii] https://www.fca.org.uk/publications/corporate-documents/strategy-positive-change-our-esg-priorities

[iii] https://ec.europa.eu>info>sustainablefinance

[iv] Report of the World Commission on Environment and Development: Our Common Future (1987)

[v] https://www.gov.uk/government/news/government-sets-out-plan-to-make-uk-a-global-cryptoasset-technology-hub

[vi] https://www.oecd.org/tax/exchange-of-tax-information/public-consultation-document-crypto-asset-reporting-framework-and-amendments-to-the-common-reporting-standard.pdf

Helen Ratcliffe
Helen is a Consultant at BDB Pitmans LLP. She specialises in estate and tax planning for individuals, families and trustees, usually with an international dimension. She regularly writes and speaks on trust and tax topics.