Learning Outcomes
This article explores the nature of fiduciary relationships and the stringent obligations they impose, particularly the duty preventing fiduciaries from making unauthorised profits. After studying this material, you should be able to identify fiduciary relationships, explain the rationale and strict application of the no-profit rule, recognise potential breaches, and understand the main exceptions and remedies relevant for the SQE1 assessment.
SQE1 Syllabus
For SQE1, you are required to understand the core principles governing fiduciary relationships and the associated duties, especially as they apply in the context of trusts and company directorships. A key aspect is the strict prohibition on fiduciaries profiting from their position without authorisation. You need to understand how this rule operates and its consequences.
As you work through this article, remember to pay particular attention in your revision to:
- The definition and characteristics of a fiduciary relationship.
- The scope and strictness of the duty not to profit from a fiduciary position (the 'no-profit rule').
- The related duty to avoid conflicts of interest.
- Key case law illustrating these principles (e.g., Keech v Sandford, Boardman v Phipps).
- Exceptions to the no-profit rule, such as informed consent or authorisation.
- The consequences of breaching this duty, including liability to account and the potential imposition of a constructive trust.
Test Your Knowledge
Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.
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Which of the following relationships are typically considered fiduciary?
- Trustee and beneficiary
- Company director and company
- Solicitor and client
- All of the above
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A trustee uses information gained during their trusteeship to buy shares personally, making a significant profit. The trust itself could not have afforded the shares. Is the trustee liable to account for the profit?
- No, because the trust suffered no loss.
- No, because the trustee acted honestly.
- Yes, because the trustee profited from their fiduciary position without authorisation.
- Yes, but only if the trustee acted dishonestly.
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What is the primary remedy when a fiduciary makes an unauthorised profit?
- Damages for negligence
- An injunction
- An account of profits (often secured by a constructive trust)
- Rescission of the trust
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Can a trustee purchase trust property?
- Yes, if they pay a fair market price.
- Yes, if the other trustees agree.
- No, unless authorised by the trust instrument, the court, or all fully informed beneficiaries (the 'self-dealing' rule).
- No, under any circumstances.
Introduction
Equity imposes strict duties on individuals who occupy positions of trust and confidence relative to others. Such individuals are termed 'fiduciaries'. Central to these duties is the obligation of loyalty, which demands that fiduciaries act solely in the best interests of those they serve (their 'principals'). This article examines one of the core aspects of this loyalty: the duty not to profit from the fiduciary position without proper authorisation. Understanding this principle is essential for advising clients in various contexts, including trusts, company law, and agency, and is a key area assessed in SQE1.
The Nature of a Fiduciary Relationship
A fiduciary relationship arises where one party (the fiduciary) undertakes to act for or on behalf of another (the principal) in circumstances that engender trust and confidence. This relationship gives the fiduciary power and discretion that could potentially be misused to the detriment of the principal.
Key Term: Fiduciary A person who holds a position of trust and confidence regarding another person (the principal) and is legally bound to act in the principal's best interests. Examples include trustees, company directors, agents, and solicitors.
Key Term: Principal The person to whom fiduciary duties are owed (e.g., a beneficiary in a trust, a company in relation to its directors).
Equity imposes stringent duties on fiduciaries primarily to prevent the abuse of the power and discretion entrusted to them. The overarching duty is one of undivided loyalty.
The Core Fiduciary Duties: No Conflict and No Profit
Two fundamental rules underpin the fiduciary's duty of loyalty:
- The No-Conflict Rule: Fiduciaries must not place themselves in a position where their personal interests conflict, or may possibly conflict, with their duty to the principal.
- The No-Profit Rule: Fiduciaries must not make a secret or unauthorised profit from their position.
These rules are often intertwined; profiting from the position frequently involves a conflict of interest. This article focuses primarily on the no-profit rule, but its connection to the no-conflict rule is important.
The Duty Not to Profit (The No-Profit Rule)
This is a strict equitable principle prohibiting a fiduciary from obtaining any unauthorised benefit by reason of, or by use of, their fiduciary position or opportunities or knowledge resulting from it.
Key Term: No-Profit Rule The equitable rule that a fiduciary must not make any unauthorised profit from their fiduciary position.
The rule is applied inflexibly by the courts. Key aspects include:
- Strict Liability: The fiduciary's liability does not depend on proof of fraud, bad faith, or dishonesty. Even if the fiduciary acted honestly and believed they were acting in the principal's best interests, they may still be liable.
- Irrelevance of Loss: Liability arises even if the principal suffered no loss or could not have taken advantage of the opportunity themselves.
- Deterrence: The primary rationale is prophylactic – to deter fiduciaries from being swayed by personal interest rather than their duty.
Illustrative Case Law
Two landmark cases demonstrate the strict application of the no-profit rule.
Keech v Sandford (1726)
- Facts: A trustee held a lease of the profits of a market on trust for an infant beneficiary. The landlord refused to renew the lease for the benefit of the infant. The trustee then took the renewal in his own name.
- Held: The court ruled that the trustee held the renewed lease on constructive trust for the infant beneficiary.
- Principle: A fiduciary cannot retain a benefit obtained through their position, even if the principal could not have obtained that benefit directly.
Boardman v Phipps [1967]
- Facts: Boardman (solicitor to a trust) and Tom Phipps (a beneficiary) used information obtained while acting for the trust to acquire shares in a company personally. The trust itself lacked the power to buy more shares. They acted honestly, believing it benefited the trust, and both they and the trust made significant profits.
- Held: The House of Lords held (by a majority) that Boardman and Phipps were liable to account to the trust for the profits they personally made. They had used information and opportunity derived from their fiduciary positions.
- Principle: The liability arises from the mere fact of making a profit through the fiduciary position without the fully informed consent of the principals (the beneficiaries), irrespective of good faith or lack of loss to the principal.
Worked Example 1.1
Sarah is a trustee of the Miller Family Trust, which holds shares in TechStart Ltd. Through attending board meetings as a representative of the trust's shareholding, Sarah learns confidential information about TechStart's upcoming product launch, which is likely to significantly increase its share price. Using this information, Sarah buys shares in TechStart Ltd for her personal portfolio before the news becomes public. The shares subsequently triple in value. Advise Sarah.
Answer: Sarah has breached her fiduciary duty. She used confidential information, acquired solely because of her position as trustee, to make a personal profit. This falls foul of the no-profit rule, as demonstrated in Boardman v Phipps. It is irrelevant that Sarah may have acted without intending to harm the trust or that the trust itself may also have benefited from the share price increase. Sarah is liable to account for the profit she made; the shares she bought will likely be held on constructive trust for the beneficiaries of the Miller Family Trust.
Scope of the No-Profit Rule
The no-profit rule extends beyond simply taking trust property. It covers various scenarios:
- Exploiting Opportunities: Using knowledge or opportunities gained through the fiduciary role for personal advantage (Boardman v Phipps).
- Receiving Bribes or Secret Commissions: Accepting payments from third parties in connection with the fiduciary role (e.g., FHR European Ventures LLP v Cedar Capital Partners LLC [2014]).
- Directors' Fees: Receiving remuneration as a director of a company if the directorship was obtained solely by virtue of the fiduciary position (e.g., trustee using trust shares to vote themselves onto the board), unless authorised.
- Competing with the Principal: Setting up a business that competes directly with the principal's business (Re Thomson [1930]).
- Self-Dealing: Purchasing trust property from the trust or selling personal property to the trust (see below).
The Self-Dealing Rule
A specific application of the no-conflict and no-profit rules is the 'self-dealing' rule. This prohibits a trustee from purchasing trust property or selling their own property to the trust.
Key Term: Self-Dealing Rule The rule prohibiting a trustee from buying trust property from, or selling their own property to, the trust, due to the fundamental conflict of interest.
Such transactions are voidable by the beneficiaries as of right, regardless of whether the price was fair or the trustee acted honestly. The trustee cannot be both buyer and seller in the same transaction.
The Fair-Dealing Rule
This rule applies where a trustee purchases the beneficial interest of a beneficiary (not the trust property itself). Such transactions are not automatically voidable but can be set aside unless the trustee can demonstrate they acted fairly, paid full value, and made full disclosure of all material facts to the beneficiary.
Worked Example 1.2
David is a trustee of a trust holding a valuable painting. David is also an art collector and wishes to purchase the painting for his personal collection. He obtains two independent valuations confirming a fair market price and purchases the painting from the trust at that price, informing his co-trustee but not the beneficiaries.
Is this transaction valid?
Answer: No, the transaction is voidable by the beneficiaries under the self-dealing rule. David, as trustee, cannot purchase trust property. It is irrelevant that he paid a fair market price or informed his co-trustee. The beneficiaries can choose to set aside the sale. David should have sought either the fully informed consent of all adult beneficiaries or court approval.
Worked Example 1.3
Ben is the beneficiary of a trust, holding a remainder interest in a share portfolio currently valued at £100,000. He needs cash urgently and offers to sell his interest to one of the trustees, Fiona, for £80,000. Fiona, knowing the portfolio is likely to increase in value significantly soon, accepts the offer after fully explaining the potential increase to Ben.
Can this transaction be set aside?
Answer: Possibly not. This involves the fair-dealing rule, as Fiona is buying the beneficial interest from Ben, not trust property. The transaction can stand if Fiona can show she acted fairly, paid a fair price (which might be debatable given the known potential for increase), and made full disclosure. Here, she disclosed the potential increase. If £80,000 was considered a fair price for a future interest given the risks and time value of money, and Ben freely consented after full disclosure, the transaction might be upheld.
Exceptions and Defences
A fiduciary may be permitted to profit from their position or enter into transactions involving potential conflicts if they obtain proper authorisation.
- Authorisation by the Trust Instrument: The trust deed (or will) creating the fiduciary relationship may expressly permit certain profits (e.g., a charging clause allowing professional trustees remuneration) or transactions.
- Informed Consent of the Principal(s): The fiduciary may profit if they make full disclosure of all relevant facts to the principal(s) (all beneficiaries if a trust, provided they are adult and sui juris) and obtain their freely given, informed consent.
- Court Authorisation: The court has established jurisdiction to authorise a fiduciary to act in a way that would otherwise constitute a breach, particularly where it is beneficial to the trust (e.g., allowing a trustee to purchase trust property in specific circumstances).
- Statutory Authority: Some statutes may authorise conduct that would otherwise be a breach (e.g., Trustee Act 2000 provisions for remuneration of certain professional trustees).
Exam Warning
Be cautious when assessing consent. For beneficiaries' consent to be valid defence for a trustee, ALL beneficiaries must be adults (sui juris) and must give fully informed consent after full disclosure of all material facts by the trustee. Partial or uninformed consent is insufficient.
Consequences of Breach: Constructive Trust
Where a fiduciary makes an unauthorised profit in breach of duty, equity typically requires them to account for that profit to the principal. The profit is often deemed to be held on a constructive trust for the principal.
Key Term: Constructive Trust A trust imposed by equity in certain circumstances where it would be unconscionable for the legal owner of property to assert beneficial ownership against another person. It can arise, for example, over unauthorised profits made by a fiduciary.
Key Term: Account of Profits An equitable remedy requiring a defendant (e.g., a fiduciary) to surrender profits made through their wrongful conduct (e.g., breach of fiduciary duty) to the claimant (the principal).
This means the principal acquires a proprietary interest in the profit or any property acquired with it. This is advantageous if the fiduciary becomes bankrupt, as the principal can claim the specific property ahead of general creditors. It also allows the principal to benefit from any increase in the value of property acquired with the profit.
Key Point Checklist
This article has covered the following key knowledge points:
- Fiduciary relationships are based on trust and confidence, imposing a duty of loyalty.
- Core fiduciary duties include the no-conflict rule and the no-profit rule.
- The no-profit rule strictly prohibits fiduciaries from making unauthorised profits from their position.
- Liability is strict; good faith or lack of loss to the principal are generally irrelevant (Keech v Sandford, Boardman v Phipps).
- The rule covers exploitation of opportunities, information, secret commissions, and director's fees obtained through the fiduciary role.
- The self-dealing rule prevents trustees buying trust property; the fair-dealing rule governs trustees buying a beneficiary's interest.
- Exceptions exist where there is authorisation by the trust instrument, court, statute, or the fully informed consent of all principals.
- Unauthorised profits are typically held on constructive trust for the principal, who can demand an account of profits.
Key Terms and Concepts
- Fiduciary
- Principal
- No-Profit Rule
- Self-Dealing Rule
- Constructive Trust
- Account of Profits
