Trusts And Foundations: The Interaction Between Offshore And Onshore

It is possibly less known that trusts have had an unparalleled development in some Central and Eastern European countries over the last decade. In fact, 2024 marked the 10^th anniversary of the trust law in the Czech Republic and Hungary. More precisely, both countries enacted their new civil codes in 2014, which include a specific section on trusts[1].  The Czech trust would be hardly recognisable by a common lawyer insofar as it is a standalone fund that is not owned by simply administered by the trustee. A direct translation of its name is in fact “fiduciary fund”. This idea was not new however. It is the very notion of trust practised in the Canadian province of Quebec, where it is regulated under the local civil code[2]. Hungary adopted a different approach and attempted to recreate the functions of a trust in the form of a specific contractual arrangement, which may be translated as a “fiduciary asset management contract”.

The significance of this phenomenon can be precisely measured in the Czech Republic, where trusts must be registered in the same way as companies in order to come into existence. The number of Czech registered trusts as of 30 June 2024 was 5,102. This number is remarkable in comparison with the corresponding record of some offshore financial centres. Trusts need not be registered in Hungary and an exact figure is therefore not available. However, the perception of the local practitioners provides an estimate in the region of 2,000.

Trusts are not the only legal arrangement that is practised in these jurisdictions. The Czech and Hungarian civil codes also include some sections regulating private foundations, which in many respects are the civil law equivalent to trusts. These entities, which have legal personality like companies, are established by way of a registration in a specific section of the local equivalent of Companies House. The number of foundations in the Czech register was 2,818 as of 30 June 2024. A significant number of these entities may have been incorporated for charitable purposes, but their very number confirms their relevance as a private wealth management tool. What is possibly even more surprising is that a comparable number of family foundations have been registered in Poland since the enactment of the statute creating them in May 2023[3].

The Czech, Hungarian, and Polish experiences appear to indicate that trusts and private foundations are an important tool in the domestic private client practice that can easily overcome the use of foreign, offshore entities for the same purposes. The success of these arrangements appears to come from two main factors. The first is the requirement of such legal devices as trusts in a civil law environment that otherwise would not be able to offer comparable instruments for asset protection and wealth management purposes. Some robust academic thinking went into the design of such legal arrangements, which took different approaches in the different countries, but led in practice to functionally equivalent results.

The second factor is a generally favourable, although not exceedingly aggressive, tax treatment that compares favourably with the equivalent offshore arrangements. For example, a Czech trust is a taxpayer in its own right (like in the US), and can benefit from the local participation exemption rules for the dividends and capital gains from its subsidiaries. A Polish family foundation is also a taxpayer in its own right and is exempt from corporate income tax on its passive income. It is an international practice for private foundations to face some restrictions on the range of activities they can engage in, which usually corresponds to a general prohibition from carrying on an active business. A Polish family foundation may receive ‘active income’, but in that case, it is subject to the full corporate income tax rate. A way out is, of course, to have a subsidiary carrying out such business and paying dividends to the foundation controlling it.

This is an example where a local arrangement under Polish (or respectively Hungarian and Czech) law can be usefully completed by a foreign legal entity in a financial centre rather than fully replacing it. For instance, Cypriot holding companies and Luxembourg investment funds may be conveniently used as intermediate vehicles to hold assets in a structure that has a Polish foundation or a Czech trust on top.

In a world that is increasingly transparent and interconnected with automatic exchange of information and beneficial ownership registers. there is an inevitable trend for people to limit the number of jurisdictions where they organise their assets, and to prefer their own home jurisdiction to the extent possible. The experience of the Central and Eastern European countries referred to above appears to be particularly significant. It is not unthinkable that it may be a sign of a trend to be followed in other onshore civil law jurisdictions such as Slovakia (where a bill on private foundations has long been under way) and Greece (where a working group was recently formed under the auspices of the local bar association to submit proposals for new legislation in this area).

This is not necessarily a threat for the international financial centres: it may well be an opportunity, setting the framework for a new business model that may be based on two success factors. The first is the combination of the legal and tax components of the domestic arrangement and the offshore one, like in the cases alluded to above. The second is the robustness of some offshore jurisdictions in the development of their legal environment, mainly by virtue of landmark judgments, and frequent and focussed statutory amendments. A clear example in this respect is Jersey, where a number of significant judgments were reported in 2024, some of which clarified certain aspects of the laws of rectification[4] and mistake[5]. In addition to that, a consultation was held in July 2024 with a view to amending the Jersey trust law, and providing a statutory clarification to certain aspects that were the subject matter of recent case law in the neighbouring island of Guernsey and in the UK. More specifically, the ability of the beneficiaries to terminate a trust irrespective of the settlor’s intention – known as the ‘rule in Saunders v Vautier’ – will be denied in cases where the trustee has the power to add beneficiaries. This was a direct reaction to the Guernsey Court of Appeal decision in Rusnano v Molard[6]. Similarly, in another proposed amendment to the Jersey trust law, a security voluntarily created on the trust property takes priority over a former trustee’s indemnity, contrary to what appeared to be the Privy Council’s decision in Equity Trusts (Jersey) v Halabi[7] where a ‘pari passu’ approach appeared to be favoured.

Another example of this trend is The Cayman Islands, where relevant case law was reported in 2024 providing clarifications on the local special trust regime known as the ‘STAR trust’[8], and an amendment act came into force with a view to repealing the rule against perpetuities[9].

International financial centres can maintain a leadership role in the trust industry only to the extent that their judiciary and legislative powers ensure a first-class understanding and development of the law in this area. The traditional advantages of confidentiality, low tax, and a generally business-friendly environment, can no longer make the difference. On one hand, these features are common to all the international financial centres, regardless of the level of sophistication of their legal environment. On the other hand, a number of onshore jurisdictions are introducing domestic arrangements that can closely reproduce the most attractive features of the offshore ones. For sure, this onshore legislation is new, and some families may find it safer to rely on well-established legal rules and arrangements. Nonetheless, the natural attractiveness of a domestic legal arrangement makes it more likely that it will be used in combination with some foreign one, rather than being altogether ignored.

An interesting example may be the brand new trust law of Scotland, which received Royal assent in January 2024[10]. In a surprisingly fast legislative process, the Holyrood Parliament passed an innovative statute that contains the main features of modern offshore trust law with the reassuring century-long tradition of trusts in the UK. Although this law is waiting for some regulations by the competent ministries and therefore not yet in force, it is poised to become the governing law of choice for trusts recognised in civil law jurisdictions under the Hague Trusts Convention of 1992. It must not be forgotten that Scotland relies on Roman law for its property rights, to the point that it can be said that Roman law is still alive and directly enforceable in Scotland. This makes Scots law much more akin to the legal environment of most civil law jurisdictions than to England. In addition, Scotland’s new trust law has abandoned some antiquated rules that are still followed in England, in such areas as non-charitable purpose trusts or the liability of trustees to third parties, and has embraced the more modern approach that can be found in many offshore jurisdictions. As a final example of its modernity, under the new Scottish trust law, trustees will be allowed to take into account ESG considerations when deciding between two financially equivalent investment options.

[1] Czech Republic, New Civil Code, Law 89 of 2012 (in force as of 1st January 2014), §§ 1448 – 1474; Hungary, New Civil Code, Act V of 2013 (in force as of 15 March 2014), §§ 6 : 310 – 330.

[2] Quebec, Civil Code (1994) Art 1260 – 1298 – Trust (Fiducie)

[3] Poland, Family Foundation Law of 26 January 2023 (in force since 22 May 2023)

[4] Representation of NBK Trustees (Jersey) Ltd re C Trust [2024] JRC 133

[5] Representation of RBC Trustees (Jersey) Ltd re the LM Will Trust [2024] JRC 107

[6] [2019] GRC 011

[7] [2022] UKPC 36

[8] In the matter of the G Trust (No 1) [2024] unreported, 24 Feb 2024, FSD 270

[9] Perpetuities (Amendment) Act 2024

[10] Trusts and Succession (Scotland) Act 2024

Paolo Panico
Paolo Panico is a solicitor in Scotland and a director of Private Trustees SA, an independent trust company in Luxembourg, and of Teton Trust Company LLC, a regulated trust company in Wyoming (USA). Paolo is chairman of the STEP Europe Region and a member of the Council and Board of STEP Worldwide as well as deputy chairman of the International Tax Planning Association (ITPA). Paolo teaches at the Master in Wealth Management of the University of Luxembourg and at the LLM of the University of Liechtenstein. His publications include: Private Foundations. Law and Practice (Oxford University Press, 2014), International Trust Laws, 2d ed (Oxford University Press, 2017), and as editor Beneficial Ownertship Registers: The STEP Handbook for Advisers (Globe Law and Business, 2021) and Trust Laws in Cyprus: An International Perspective (Globe Law and Business, 2022).