Article by: Ashley Fife TEP, and Michael Giraud TEP

Estate & Succession Planning 31 Jan 2025

A question of capacity

With incapacity issues on the rise, what can trustees do to mitigate against, and manage the impact of, a settlor or other key person's incapacity (and the possibility of undue influence) on existing and new trust structures? This article considers some scenarios that a trustee may face in this context along with guidance provided by case law and offers some practical suggestions.

Ashley Fife and Michael Giraud explore the issues trustees may need to navigate when confronted with mental incapacity of key individuals

Trust professionals appreciate that one of the principal reasons a family trust structure may be established is to provide a settlor and the settlor's family with a robust succession plan. Trust structures are often intended for a long duration. Consequently, trustees are likely to have to navigate circumstances involving the elderly, settlors, beneficiaries, and protectors and directors of companies or other key persons (together, Key Contacts) that may be losing or have lost the mental capacity to understand relevant information and make important decisions.

The frequency that trustees are having to navigate age-related incapacity issues is rising. The UK's National Health Service has observed that:¹

the number of people with dementia is increasing as people are living longer; and
one in 11 people over age 65 have dementia in the UK.

Alzheimer's Disease International² reports that:³

there are over 55 million people worldwide with dementia and this figure is forecast to reach 78 million in 2030 and 139 million in 2050; and

China and India (growing markets for trustees) have the fastest-growing elderly populations.

When a Key Contact may be suffering from incapacity, questions may arise as to whether the Key Contact was or is able to make decisions and/or were or are being improperly influenced by other persons when making decisions (known as undue influence). Incapacity issues can seriously disrupt a trust structure's administration. The US elections may be a striking example of the disruption, particularly where there may not be an adequate procedure for navigating issues where a person tasked or appointed to make important decisions may be suffering from incapacity.

This article raises incapacity issues that a trustee or the trustee's delegated administrator may need to navigate, both regarding the formation of a trust structure and during its administration, and considers how trustees might approach them.

Some questions for trustees in this context, when accepting trusteeship, include:

Was the settlor properly advised regarding incapacity issues that may impact on the trust structure?
Is the trustee satisfied that there are no incapacity issues impacting the settlor or other Key Contacts that trustees might need to consider regarding the structuring, restructuring and administration of the structure?
Does the trust instrument and/or family constitution (if any) provide the trustees, the family and/or trusted advisors a process to identify and implement succession of roles, and to otherwise navigate incapacity issues?
Does the trustee or delegated administrator have appropriate policies and procedures to assist it in identifying and navigating issues of incapacity?
Are the Key Contacts of similar ages? Note the possibility they may suffer incapacity issues at a proximate time to one another, potentially compounding the disruption to the trust structure's administration.

Finally, it must be considered whether there is enough time to properly implement structuring or restructuring so proper consideration can be given to the relevant family’s needs and the trust structure's ongoing efficient administration. The challenge may be compounded with cultures where the mere mention of incapacity or death tends to be avoided, to the detriment of effective planning.

During ongoing administration, some questions to consider include the following:

What can trustees do to promptly identify, prepare for and navigate incapacity issues affecting Key Contacts? The death of a matriarch or patriarch can significantly impact family dynamics and family members' interactions with trustees.
What are the implications for a trust structure’s administration if a Key Contact is unresponsive to requests to be medically examined for incapacity or otherwise or requesting, perhaps under undue influence, trustees and/or directors of underlying companies to take actions that the trustees or directors believe might not be in the interests of beneficiaries as a whole? What are the options for trustees/directors?
What are the tax and other implications if illness means a Key Contact must stay in a jurisdiction?
How can and should trustees provide appropriate support to incapacitated beneficiaries?
What are other practical implications of a Key Contact's incapacity?

How might trustees navigate a Key Contact's incapacity?

It can be difficult to identify whether and when a Key Contact is incapacitated, particularly from afar. People often experience incapacity gradually, with transitory periods (perhaps with increasing frequency) where they experience various degrees of incapacity.

Once trustees have identified that a Key Contact is experiencing incapacity issues, trustees will wish to manage the implications for the trust's efficient administration in accordance with their duties and in a pragmatic manner. If feasible, trustees may wish to explore managing such incapacity issues without the costs and potential delay of court proceedings and the consequent impact that such may have on a trust structure's administration, pending a court's determination. In such instances, trustees may benefit from being able to draw upon robust policies and procedures to assist them to respond to such situations efficiently.

Not all trust instruments contain adequate provisions that assist trustees to navigate a Key Contact's incapacity and the nature and effectiveness of such provisions vary.

It may assist trustees to consider the:

approaches that courts have taken to determine incapacity and undue influence at the time a Key Contact made and/or implemented a decision; and
trustees' duties in circumstances where there are questions regarding whether a person is experiencing incapacity issues.

There may be nuances between courts' approaches in different jurisdictions to determine incapacity issues.

Legal test for capacity

The Banks v Goodfellow⁴ test (the Capacity Test) is applied in many common-law jurisdictions and provides that a person has testamentary capacity if the person:

understands the nature of the act and its effects;
comprehends the extent of the property being disposed of; and
is aware of persons that may have a claim to the property.

Legal test for undue influence

The England and Wales Court of Appeal decision of Macklin v Dowsett6 confirmed that to successfully set aside a vulnerable person's decision due to undue influence (the Undue Influence Test):

a presumption of undue influence must be established, i.e., the vulnerable person had reposed trust and confidence in another (the influencer) or acquired some ascendancy over the vulnerable person, and the decision was not otherwise readily explicable by the relationship between the vulnerable persons and the influencer; and
the presumption must not be rebutted, i.e., the person seeking to rebut the presumption must prove the vulnerable person's decision was not procured by an abuse of the influencer's position of influence but was rather the exercise of the will of the vulnerable person based on full, free and informed thought.7

Recent cases provide guidance for trustees

In In the matter of the Poulton Trust,⁸ the settlor (Alan) established an irrevocable discretionary trust under Cayman Islands law in 2003 to benefit him and his children.⁹ Alan married his second wife (Deborah) in 2004 and sometime thereafter she was added as a beneficiary.¹⁰

Alan was diagnosed with terminal cancer in October 2015. Sometime following the diagnosis, his children complained to the trustee, asserting that Alan was incapacitated and that Deborah was declining them access to, and improperly influencing, Alan. In March 2016, Alan exercised his personal power¹¹ that he held as settlor and protector to exclude his children as beneficiaries and requested that the trustee distribute the entire trust fund to him and Deborah,¹² which the trustees resolved to do in May 2016. Alan died in June 2016.

On the children's application, Justice Kawaley, applying the Capacity Test, held that:

The determination of capacity was for the court (although the knowledge, skill and experience of experts may be an invaluable tool in the analysis).
The Capacity Test would not be applied in a mechanistic way but should consider other factors (e.g., bereavement, depression, mental energy) capable of contributing to incapacity issues.
Taking into account psychiatric evidence that Alan suffered from any permanent cognitive impairment or significant transitory impairment (and notwithstanding periods Alan lacked lucidity and had diminished capacity), on the balance of probabilities, Alan had sufficient capacity to understand the implications of excluding his children.

Further, applying the Undue Influence Test, Kawaley J held that:

The purpose of the test is to ensure that when vulnerable people made significant decisions they are not improperly influenced by others.
Influence was improper/undue where, for example, the influencer had preferred their interests to those of the vulnerable person they influenced.
There is no automatic presumption of undue influence in a marriage.
A finding of undue influence did not require the vulnerable person to be victimised, forced or tricked by the influencer into a decision.
Alan had diminished mental capacity, was legally blind, suffered anxiety, was largely bedridden, consumed alcohol excessively and was extremely dependent on Deborah to manage his affairs, including instructing lawyers to draft the deed of exclusion.¹³
Undue influence was rebuttably presumed, despite an absence of evidence of overtly persuasive conduct or intention of Deborah to improperly influence Alan.
The children's exclusion be set aside as Deborah was unable to rebut the presumption that Alan's decision was procured by her position of influence rather than made as a result of his full, free, informed thought.¹⁴

The trustee remained neutral in the proceedings. The trustee retained extensive notes of its communications with Alan. The children had threatened to bring claims against the trustee, asserting that the trustee had improperly exercised their powers in May 2016 to appoint all of the trust fund to Alan and Deborah and thereby terminate the trust. Kawaley J indicated that the children would be precluded from such claims after his judgment, as they ought to have pleaded them in the proceedings.¹⁵ Nevertheless, trustees are well advised to consider all relevant factors, including incapacity issues, the general health of the settlor and the interests of the beneficiaries as a whole when exercising a discretionary power.¹⁶

Representation of BOS Trustees Limited

Although these are procedural proceedings, the factual background for the substantive proceedings exemplify difficult issues that trustees may need to navigate arising from the possibility of a Key Contact's incapacity, again in a context of a ‘blended family’.¹⁸

The core facts and allegations, in respect of incapacity and undue influence, included that:

The settlor, then in his early 80s, settled a Jersey law trust in 2010 with property originating from his first wife's substantial inheritance.
After the settlor's first wife died in September 2016, the settlor remarried a long-time friend a few months thereafter and the trustee added her as a beneficiary in April 2017.
In November 2020, the settlor updated his letter of wishes to request that 90 per cent of the trust fund be held for his wife, with the trustee subsequently removing his daughter as a beneficiary.
The settlor suffered strokes in 2016 and 2018 and died in April 2021. His daughter subsequently commenced proceedings alleging his wife unlawfully killed the settlor by recklessly exposing him to COVID-19.
The settlor's daughter alleged that the settlor was incapacitated when he executed his most recent letters of wishes and the deed removing her as a beneficiary, and that his wife unduly influenced him to do so.
The trustee issued a representation seeking the court's directions (adopting a neutral stance on the question of incapacity and undue influence) regarding how it should administer the trust, pending the court's substantive determination.

The substantive proceedings appear to be ongoing. The trustee has instructed a consultant old-age psychiatry expert to provide evidence. There do not appear to be claims against the trustee, but questions may arise as to whether the trustee properly considered incapacity issues affecting the settlor, including the influence exerted upon him by his second wife, when excluding the settlor's daughter.

Trust instruments and POAs

What provisions might be considered in trust instruments to facilitate trustees' in navigating Key Contacts' incapacity issues? Some considerations are as follows.

Definition of incapacity

Many trusts, if they include a definition of incapacity (or equivalent) at all, provide that trustees may rely upon a certification from one or two medical practitioners regarding whether a Key Contact is incapacitated or may form their own view. However, a Key Contact might refuse to undergo such assessment/s. Trustees might consider they have insufficient information on or exposure to the Key Contact and be reluctant to form their own conclusion for fear of adverse implications, were their conclusion to be proved wrong.

Should trust instruments include a provision requiring a Key Contact to undergo a medical assessment within a prescribed period, and should the Key Contact fail this assessment, they shall be deemed to be incapacitated. If the Key Contact is a protector or other power holder, they will cease to hold their powers. Should the trust instrument prescribe the qualifications of the medical practitioners who perform the assessment? If so, what qualifications are appropriate? Is a general medical practitioner sufficient?

Does the trust instrument provide clear succession provisions in respect of a protector or other power holder that ceases to hold their powers due to incapacity?

POAs

An enduring power of attorney (EPA) is a document appointing a person (and attorney) to manage the property and financial affairs of another person (the donor). Abuses of EPAs or lasting powers of attorney (LPAs, together, POAs) are on the rise, with many going undetected. These issues contributed to the enactment of the UK Mental Incapacity Act 2005 (MCA 2005) in the UK, which requires the independent certificate provider to confirm that:

the donor understands the LPA;²⁰
the donor's granting of the LPA was not as a result of fraud or undue pressure fraud; and
registration of the LPA is with the England and Wales Office of the Public Guardian, in order to be it to be effective.

The LPA can, unlike the EPA, also cover health and welfare decisions pertaining to the donor. A number of jurisdictions are exploring introducing similar measures as those addressed under the MCA 2005.

Some points to consider, follow:

Should a trust instrument clarify whether a protector or other power holder's attorney, appointed by an EPA, may exercise such Key Contact's powers (including, if the Key Contact is a beneficiary, request a distribution) when the Key Contact is determined to be incapacitated?
If such delegation is permitted, is the scope of the EPA sufficiently wide to extend to the powers under the trust instrument?
Was the attorney validly appointed by the POA? Was the POA properly executed and witnessed?
Has the POA been certified and/or registered, if that is required?
Has the POA been revoked by the Key Contact prior to the Key Contact's incapacity?
Does the attorney's power cease under the POA if the attorney becomes bankrupt, the attorney is found to be suffering an incapacity, is uncontactable or for some other reason?
Have the trustees taken relevant advice from a lawyer practising in the jurisdiction of the governing law POA?

Payments to support an incapacitated beneficiary

Who is permitted under the trust instruments to receive trust distributions on behalf of an incapacitated beneficiary?
Case law is littered with cases concerning the misapplication of funds that were intended to benefit an incapacitated person. Is the attorney, guardian, family member or other recipient properly applying trust property that a trustee has distributed to support an incapacitated beneficiary?
Does the trust instrument provide an appropriate level of exoneration to the trustees for not monitoring that payments they make out of the trust property for the support of an incapacitated beneficiary to an incapacitated beneficiary's attorney are applied as the trustees' intended?
Do such exoneration provisions (if they exist) adequately protect the trustees, if the attorney or other recipient has misapplied or misappropriated trust property that the trustees distributed to benefit an incapacitated beneficiary?

Conclusion

This article only raises and explores some of the issues trustees may need to navigate when confronted with incapacity issues concerning a Key Contact. The main points are that:

incapacity issues are on the rise;
incapacity issues can seriously impact familial relationships and a trust structure's administration;
many trust instruments, family governance documents, and trustee policies and procedures may not provide adequate assistance to trustees to navigate these issues; and
trustees are well advised to be mindful of incapacity issues and endeavour to be ‘ahead of the curb’ to minimise their impact on the administration of trust structures.

Trust businesses should also consider incapacity issues in their own ranks when considering and implementing succession planning for their businesses, as well as when making trustee decisions. Well-advised families will consider trustees' and administrators' ability to respond effectively to incapacity issues when selecting a trustee or administrator.

A version of this article was first published in the STEP: TQR Issue 4 2024.

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References

¹ According to guidance provided by the NHS, ‘What is dementia’

² An international federation of Alzheimer and dementia associations around the world, in official relations with the World Health Organisation.

³ Dementia statistics, Alzheimer's Disease International
⁴ (1869-70) LR 5 QB 549. Banks v Goodfellow was applied in the recent Cayman Islands case of Re Poulton, also known as In the matter of the Poulton Trust, 2022 1 CILR 224.

⁵ Undue influence is an equitable doctrine.

⁶ 2004 EWCA 904. Macklin v Dowsett was applied in Re Poulton.

⁷ Gouldbourne v Gouldbourne, Civil G0207 of 2014 and 114-115, was referred to in Re Poulton.

⁸ 2022 1 CILR 224

⁹From three different women. Two of the children were directly employed in the family business that was 50 per cent owned by the trust.

¹⁰ For more background on this case, see Andrew Peedom, Under the influence?, Trust Quarterly Review (June 2022)

¹¹ Above, note 4, at paras.49-54. The trust instrument did not expressly state the power of exclusion was a personal or fiduciary power but it was held to be a personal power as it was held by the settlor and he could exercise it for his own benefit.

¹² US advisors advised Alan that he had a substantial US tax liability (having not disclosed the trust to the Internal Revenue Service) and to terminate the trust and make fresh provision for his wife and children.

¹³ The lawyers were instructed by Alan's agent, who was committed to advancing Deborah's interests. The lawyers were not retained to advise on the merits of the exclusion, see paras.465-481 and 588-589 of the judgment.

¹⁴ Deborah and one of the children acknowledged under cross examination that Alan would have wanted to take care of Deborah and his children.

¹⁵Above, note 4, at para.323

¹⁶ It does not appear that any arrangements had been made for Alan or Deborah to resettle the property following the final distribution.

¹⁸ That is, family that forms when two people in a relationship or marriage combine their children from previous relationships.

¹⁹ The daughter also alleges that the settlor did not validly settle many of the assets into the trust because, under the laws of the relevant jurisdiction, that property was conjugal property and he required the consent of his first wife to do so, and did not have her consent. The daughter was also an executor of her mother's will.

²⁰ Per reg.8 of the UK’s The Lasting Powers of Attorney, Enduring Powers of Attorney and Public Guardians Regulations 2007, ‘Someone who has known the donor personally for the period of at least two years which ends immediately before the date on which that person signs the certificate or person chosen by the donor who, on account of the person's professional skills and expertise, reasonably considers that the person is competent to make the judgments necessary to certify the matters prescribed by the Act.’