Professional Interpretation

1. Relevant Cases

1.1 The Enforcement of Loan Guarantee Disputes among Xi’an branch of Bank of Communications, Rural Credit Cooperative of Shanyang County, Shaanxi Bicon Pharmaceutical Group Holding Company Limited and Shanghai Yi Rong Enterprise Development Co., Ltd.

The analysis of the judgment of The Supreme People’s Court: Trust property is not only the material carrier for establishing and surviving the legal relationship of trust, but also the material prerequisite for the realization of trust purpose. According to the structure of legal relationship of trust, once the trust is established effectively, the trust property forms an independent and closed property, which is independent from the client's property as well as the trustee's inherent property and the beneficiary's property. Under the Article 17 of the Trust Law of the People's Republic of China, Compulsory execution of the trust property must not be carried out except in the case of one of the situations listed below:(1) prior to the establishment of a trust a creditor already has the rights of a priority creditor in relation to the trust property and has exercised these rights in accordance with the law;(2) in administering trust affairs trustees have run up debts and creditors have demanded the discharging of these debts;(3) tax that shall be borne by the trust estate itself needs to be paid; or(4) other situations stipulated by the law.In relation to the compulsory execution of trust property in violation of the provisions in the preceding paragraph, the settlor, the trustees or the beneficiaries shall have the right to raise objections in a people's court.

This clause clearly stipulates the principle of prohibiting the enforcement of trust property and its four exceptions, and the four situations in which the trust property can be enforced are essentially all the situations in which the trust property itself has a burden. There is a connection between prohibiting the enforcement of trust property and the independence of trust property. The independence of the trust property precludes the legality of repaying the settlor and trustee's debt by the trust property. The settlor and the trustee can not fulfill their own debt with the trust property. The court can not treat the trust property as the property of the settlor or trustee to be enforced.

1.2BARCLAYS BANK LIMITED v. QUISTCLOSE INVESTMENTS LIMITED

In this case, Quistclose Investment Limited and Rolls Razor Limited signed a loan contract. They agreed that the funds Rolls Razor lent to Quistclose were for the sole purpose of paying dividends to shareholders. The money was deposited in a Barclays bank account that was separate from all other Rolls Razor funds. After Rolls Razor went bankrupt, Barclays Bank argued for reimbursement of overdrafts in the bank with funds from Rolls Razor's dividend account.

The judgment of the House of Lord:

"There is no doubt that the loan was made specifically in order to enable Rolls Razor Ltd. to pay the dividend. There is equally, in my opinion, no doubt that the loan was made only so as to enable Rolls Razor Ltd. to pay the dividend and for no other purpose…

The mutual intention of the Respondents and of Rolls Razor Ltd., and the essence of the bargain, was that the sum advanced should not become part of the assets of Rolls Razor Ltd., but should be used exclusively for payment of a particular class of its Creditors, namely, those entitled to the dividend…

That arrangements of this character for the payment of a person's Creditors by a third person, give rise to a relationship of a fiduciary character or trust, in favor, as a primary trust, of the creditors…

The basis for the decision was thus clearly stated, viz., that the money advanced for the specific purpose did not become part of the bankrupt's estate…

From these there is no doubt that the bank was told that the money had been provided on loan by a third person and was to be used only for the purpose of paying the dividend. This was sufficient to give them notice that it was trust money and not assets of Rolls Razor Ltd. They never contemplated that the money so provided could be used to reduce the existing overdraft. "

In summary, the House of Lord held that the funds independently deposited into the dividend account should be treated as trusts for the benefit of the lender. The lender was the beneficiary under the trust and thus precluded the transfer of funds to the borrower's creditors in the event of the borrower's bankruptcy. The trust can protect the trust beneficiary from the recourse of its creditors and can be exempt from debt. 

2. The difference between domestic and overseas trust system

2.1 The degree of perfection of the legal system is differentThe essence of the trust is the legal contract between the settlor and the trustee. The foundation of the asset preservation is the approval of the trust law and its supporting regulations. The degree of perfection of the legal system determines the extent to which the trust protects the client's property. The laws of domestic trusts are not developed, and several major related laws and regulations are almost blank, including the provisions of the Company Law on the trust ownership of private companies or listed companies, the inheritance distribution system under the Inheritance Law on the trust property, the establishment of trust property under the Marriage Law and the tax payment of trust assets under the Tax Law.

On the contrary, the laws of overseas family trusts are well established in foreign countries which recognize the role of trusts.

2.2 Differences in the trust structureDomestic trusts are generally presented as unincorporated entities such as trust funds or trust plans. They can only hold domestic cash and domestic insurance policies, and the cost of property ownership changes is high. For example, most of the changes in real estate ownership in China are considered as transactions, which will be levied transaction tax, while holding the real estate tax in the name of corporate legal person is much more than individuals. It is also difficulty for the shops in the name of clients to transfer to a non-legal person such as a trust plan. In addition, due to the imperfect legal system of trusts, there is no clear law about the holding of other assets, such as equity, real estate, jewelry and so on.

In contrast, it is convenient for overseas family trusts to hold financial assets such as offshore cash portfolios under offshore companies, as well as shares in private companies or public companies, commercial or residential properties, aircrafts, yachts, antique wines, works of art, and the like. Also it is easy to change the ownerships of properties.

2.3 The confidentiality of trust properties is differentThe registration of trusts in China follows the principle of "registration effectiveness". Only registered trust in accordance with the law is effective. Therefore, in China the settler is obliged to register the property before which is transferred into a trust.

 However, overseas trusts, which are highly concealed and legally approved and protected, allow the trust company not to disclose the trust property and the distribution arrangement to any institution, organization or individual. Equities of the trust in listed companies need to be disclosed but not to disclose the distribution of the beneficiaries of the equities. And the properties within the trust are entirely owned by offshore companies. The shareholders and directors of offshore companies are not exposed to the public. 

2.4 Tax planningSince the Trust Law which was promulgated in 2011 has not been amended, the supporting laws are not perfect.

 Under non-malicious trusts, overseas family trust structures can be evaded from inheritance tax and other taxation if they are properly designed. For example the company may be exempted from some stamp duty by transferring shares into the trust before the company is listed.

3. Summary

Trust has many functions, such as keeping the wealth information confidential, not being prosecuted, blocking debt recourse, protecting the rights of designated beneficiaries. Among them, the most striking thing is that once the property is transferred into the trust, it will be isolated from the settlor which acts as a property protection. When disposing of the property to the beneficiaries, the trustees must obey the settlor's wishes without interference from the judiciary, administration or creditors. Even if the settlor passes away, his instructions for the management and distribution of wealth can still be extended. In particular, offshore trusts can also function as protecting the debtors and avoiding estate tax.

Trusts in western countries have become the most important tool in the management of private wealth heritage planning. However, there is no authentic trust management of private wealth in China. It is deemed that as the pace of the introduction of estate tax approaches, the private wealth trust will definitely come into being. In this regard, we believe that the inheritance of wealth needs to be planned as soon as possible and scientific planning should be conducted in accordance with the national laws and policies, with the allocation of expertise and technical planning, so as to enhance the efficiency of wealth inheritance and reduce inheritance costs and losses.