Learning Outcomes
After reading this article, you will be able to explain when a beneficiary can bring a proprietary claim against a trustee for breach of trust, distinguish between clean substitutions and following assets, and apply the principles of tracing to substituted trust property. You will also be able to identify the requirements for a successful proprietary claim and understand the remedies available to beneficiaries in these scenarios.
SQE1 Syllabus
For SQE1, you are required to understand the circumstances in which a beneficiary may assert a proprietary claim against a trustee for breach of trust. As you revise this topic, focus on:
- the distinction between personal and proprietary claims for breach of trust
- the requirements for a proprietary claim, including tracing, clean substitutions, and following assets
- the legal consequences of a trustee substituting trust property for another asset
- the remedies available to beneficiaries where trust property has been misapplied or substituted.
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.
- What is a "clean substitution" in the context of breach of trust?
- Which of the following is required for a beneficiary to assert a proprietary claim against a trustee?
a) The trustee must be solvent
b) The beneficiary must have an equitable proprietary interest in the property
c) The property must have increased in value
d) The trustee must have acted honestly - True or false? If a trustee uses trust money to buy a new asset without mixing it with other funds, the beneficiaries can claim the new asset.
- What is the main difference between following and tracing in trust law?
Introduction
When a trustee breaches trust by misapplying trust property, beneficiaries may seek to recover their loss through a personal claim or, in some cases, a proprietary claim. Proprietary claims are especially important where the trustee is insolvent or the trust property has been substituted for another asset. This article explains the principles of proprietary claims, focusing on clean substitutions and the process of following assets, and outlines how beneficiaries can trace and recover property in these situations.
Proprietary Claims: Overview
A proprietary claim allows a beneficiary to assert rights over specific property, rather than merely seeking compensation from the trustee’s personal assets. This is particularly valuable if the trustee is bankrupt or the substituted property has increased in value.
Key Term: proprietary claim
A claim by a beneficiary to recover specific property (or its substitute) in which they have an equitable proprietary interest, rather than a claim for compensation from the trustee personally.
Clean Substitutions
A clean substitution occurs when a trustee uses trust property to acquire a new asset, without mixing the trust property with other funds. The new asset is directly traceable to the original trust property.
Key Term: clean substitution
The exchange of trust property for a new asset, where the new asset is acquired solely using trust property and remains identifiable.
If a trustee sells trust shares and uses the proceeds to buy a car, the car is a clean substitution for the original shares. The beneficiaries may claim the car, or, if the car has decreased in value, may claim a charge over it for the amount of trust money used.
Worked Example 1.1
A trustee sells trust-held shares for £30,000 and uses the entire sum to purchase a painting. The painting later appreciates to £40,000. Can the beneficiaries claim the painting?
Answer:
Yes. The painting is a clean substitution for the original trust property. The beneficiaries may claim the painting itself, including any increase in value.
Following and Tracing Assets
When trust property is misapplied, beneficiaries may need to identify its location or substitute. Two related concepts are used:
Key Term: following
The process of tracking the same asset as it moves from one person to another.Key Term: tracing
The process of identifying a new asset that has been substituted for the original trust property, allowing the beneficiary to assert a claim over the substitute.
Following is used when the property itself is transferred. Tracing is used when the property is exchanged for something else. Both are essential for establishing a proprietary claim.
Worked Example 1.2
A trustee transfers trust money to buy a car, then sells the car and uses the proceeds to buy a boat. Can the beneficiaries claim the boat?
Answer:
Yes. The beneficiaries can trace the trust money through the car to the boat, provided each substitution is clear and the property remains identifiable.
Requirements for a Proprietary Claim
To bring a proprietary claim for a clean substitution, the following must be established:
- The claimant has an equitable proprietary interest in the original trust property.
- The property has been substituted for another asset (cleanly, without mixing).
- The substituted asset is identifiable.
- There is a sufficient connection between the original trust property and the substitute.
If these requirements are met, the beneficiary may claim the substitute asset or, if it has decreased in value, may claim a charge (equitable lien) over it for the amount of trust money used.
Worked Example 1.3
A trustee misapplies £10,000 of trust funds to buy a car, which later falls in value to £7,000. What are the beneficiaries’ options?
Answer:
The beneficiaries may claim a charge over the car for £10,000 (the amount misapplied), allowing them to recover the loss from the sale proceeds.
Advantages of Proprietary Claims
Proprietary claims are especially useful if:
- The substituted asset has increased in value (the beneficiary can claim the full value).
- The trustee is insolvent (the beneficiary can recover the asset ahead of unsecured creditors).
- The property has passed through several substitutions, provided each is clean and traceable.
Limitations and Defences
A proprietary claim may fail if:
- The substituted asset cannot be identified.
- The property has been mixed with other funds (in which case different tracing rules apply).
- The property has been transferred to a bona fide purchaser for value without notice (who takes free of the beneficiary’s interest).
Exam Warning
If trust property has been mixed with other funds, or passed to a bona fide purchaser for value without notice, the beneficiary’s proprietary claim may be lost or limited. Always check whether the asset is still identifiable and whether any defences apply.
Summary Table: Proprietary Claims and Clean Substitutions
| Scenario | Beneficiary’s Remedy |
|---|---|
| Clean substitution, asset increased value | Claim the substituted asset |
| Clean substitution, asset decreased value | Claim a charge (lien) for original sum |
| Asset mixed with other funds | Apply tracing rules for mixed funds |
| Asset transferred to bona fide purchaser | No proprietary claim |
Key Point Checklist
This article has covered the following key knowledge points:
- Proprietary claims allow beneficiaries to recover specific property or its substitute following a breach of trust.
- A clean substitution occurs when trust property is exchanged for a new asset without mixing with other funds.
- Beneficiaries can follow or trace trust property into substituted assets, provided the asset is identifiable.
- If the substituted asset increases in value, the beneficiary may claim the asset; if it decreases, they may claim a charge for the original amount.
- Proprietary claims may be lost if the asset is mixed or transferred to a bona fide purchaser for value without notice.
Key Terms and Concepts
- proprietary claim
- clean substitution
- following
- tracing
