Legal nature of a trust and governing legislation

In case Russian entrepreneur goes outside the bounds of civil law, he faces a great number of institutions used only by common law. Trust or discretionary assets management which is mistakenly compared by Russian specialists to discretionary management under Russian law is one of such institutions.

Trust ownership or discretionary assets management (hereinafter referred to a trust) is one of special tools for assets management and tax planning which exists only in English Law and applied within jurisdictions the legislation of which is based upon English Law, e.g. Great Britain, the USA, British Virgin Islands, Hong Kong, Cyprus and others.

Governing law

In Cyprus the relations connected with discretionary management are governed by the Trustee Law, Cap.193 of 1995 in conjunction with the International Trust Law 1992. In case some relations are not regulated by Cyprus law they can be rendered in accordance with common law (UK case law), or equity law based upon UK basic doctrines .The reform of the International Trust Law of 2012 resulted in a number of significant advantages, namely:

Trust settlors and beneficiaries can become the residents of Cyprus;
A settlor can provide a protector with ample powers, the powers with regards to a trust cancellation or amendment;
Real estate located in Cyprus can now become the subject-matter of international Cyprus trust;
Now Cyprus is explicitly specified as the jurisdiction the right of which can be applied for disputes adjudication in courts which are empowered to settle the corresponding disputes, being the jurisdiction supporting high-level legislative definiteness and disputes settlementreliability.

Definition

According to Cyprus law, the term “discretionary management” means the relations which occur within the life-time of a trust settlor or after his death (according to his will) in case the assets were placed under the control of a trustee in order for him to manage them in favor of a beneficiary or to achieve a definite goal. The property placed under discretionary management is possessed by a discretionary manager who shall hold the assets in favor of a beneficiary. The property placed under discretionary management may include all types of assets located throughout the world.

Declaration of trust notwithstanding the property to management of which it is concluded (real estate, money, shares, and other securities) is the civil-law agreement. The legislation does not provide for any special formalities regarding such type of agreement. Trust type and its terms are mainly determined by the result which a trust settlor wants to achieve in the end.

Difference from Russian institution of discretionary management

One of the main features that differs trust institution in English Law from discretionary management in Russian Law is the fact that in case the property is placed under the discretionary management under Russian Law, the discretionary manager does not become the owner of the property. The settlor remains the owner, and the entry regarding the nominal holder and discretionary management is done in the corresponding register bearing the owners data. Property ownership transfer by one person to another provided that the latter will manage it as if it belonged to him, meaning reasonably and carefully, is the fundamental principal for property transfer to a trust which was framed in English Law at the time of Crusades. Income and property right will be transmitted back upon the request of the first person. In case the property is transferred to a trust under English Law a discretionary manager replaces the owner of the property whose name is written in all official registered (hereinafter for convenience purposes and in order to avoid confusion, the term “discretionary manager” shall be used to identify a trustee).

Parties of declaration of trust

The following are the parties of trust ownership:

Settlor;
Trustee;
Beneficiary;
Protector (not obligatory).

Settlor

Discretionary management is created by a settlor who transfers all or a part of his property to a discretionary manager who possess this property in favor of beneficiaries (both the settlor himself, and the third parties appointed by him can be the beneficiary). The settlor has extensive authority at property discretionary management provided he observes some restrictions established by law. Any physical or legal person being the owner of the property to be transferred to a trust can be a settlor.

Beneficiary

Beneficiaries are the beneficial owners of the property transferred to a trust and income drawn from its use irrespective that legally this property is perfected onto another person (discretionary manager). Both trust settlor and the third party nominated by the settlor can be ultimate beneficiary. Beneficiaries can receive income from discretionary management by the property both along with the return of the property transferred to discretionary management and prior to such return. They can also receive income from discretionary management in one installment or periodically upon a specified time expiry or upon a certain event occurrence. Recurrence, amount and terms of income receipt by a beneficiary depends on Declaration on trust terms and conditions.

Manager

Any physical or legal person can be a discretionary manager. As a rule, a discretionary manager is the person whom the settlor personally trusts (for example, close relative) or a person who can professionally fulfill the obligations having good record as a person providing such type of services (for example, lawyer, auditor, notary officer, corporate services provider). Legislative requirements to be fulfilled in order to be granted the status of a discretionary manager are not yet specified. As a rule, a discretionary manager is appointed by means of signing of a document which establishes discretionary ownership upon the property, which means that any person can become a manager basis discretionary management agreement signed with him. Discretionary ownership agreement can provide for availability of one or a couple of trustees. Quantity of trustees shall not exceed four. Appointment of new or additional trustees is done in the case of a trustee retirement and a new one is not appointed. If instructed by a trust settlor at any time, the property being discretionary managed can be transferred to a new trustee or reallocated among effective discretionary managers. A court can appoint a trustee in case of his absence and incase of necessity.

Protector

Protector is the optional member in trustrelations. Protector can be appointed by a settlor as a person who has given control over discretionary manager and, as a rule, has the right to fire him out and appoint a new discretionary manager. But his position is restrained as he can prevent violations from the part of managers only in case of some given circumstances are provisioned by an agreement. He does not fulfill the functions and bears no responsibility of a manager.

Characteristics of legal status of property transferred to trust

Legal status of property transferred to trust has the following characteristics:

Formally, right of ownership to the property being in discretionary ownership belongs to discretionary manager or another person authorized by him;
Herewith, the property being in discretionary management constitutes an independent (also from any other provisions of family law) fund which can be used exclusively by beneficiaries and managers for permitted purposes;
The property is not the part of a discretionary manager own holding;
The property may not be included into estate list for physical persons being the settlors or beneficiaries, and into property holdings list of legal persons which is subject to sale to meet creditors’ requirements in case of bankruptcy or organization dissolution;
A trustee has the right and shall manage, use and dispose of property in accordance with the terms of property discretionary management and his special duties set forth by the legislation in force;
The law permits the change of governing law with regards to discretionary management to that of jurisdiction law which is different from the jurisdiction of trust participants or their location.

Types of trusts

Depending on the origin, the following types of trusts can be distinguished:

Discretionary management initiated by a settlor (by means of written consent, y deed, by will or in certain cases merely verbally);
Discretionary management originated by the act of law (in cases when a discretionary manager administered by himself for his personal ends in order to lead a beneficiary into error, and the beneficiary had reasonable grounds to believe that the settlor acts in his interest).

Depending on the circumstances and purposes which a settlor strives to accomplish, the following types of trusts can be distinguished:

Discretionary trust proving for discretionary trust and authorizes an agent to dispose of the property for the benefit of another person at his own discretion (i.e. mutual investment fund which can invest into a wide range of financial instruments at the option of managers). It is the most common trust type. Upon such trust establishment, a discretionary manager acquires the right to determine, at his option, the amount of benefit which beneficiaries can derive, and derivation procedure. In case such trust is established, beneficiaries can be defined either by name or by reference to their definite team (like, sons or the holders of defined classes of investment fund units); or the issues remains to a settlor sole discretion in case such will is expressed by a settlor. Settlor of such trust can appoint protector. As a rule, such trust is concluded by means of a Letter of Wishes, but at the same time the parties can conclude a separate agreement;
Fixed interest (investment) trust is the trust where discretionary manager is not entitles to solely control investment composition. Fixed interest trust tires the manager up with regards to beneficiary income and assets distribution (the examples are the following: a) trust-fund having severe restrictions of the investments, investment portfolio is generated by a manager using the funds of settlors (shareholders), and the structure of which changes within the whole period a trust exists; b) income distribution to given physical persons, family members, in the course of a physical person lifetime; c) distribution of dividends and income gained on sale of shares to the shareholders;
Fixed interest and discretionary trust is the combination of above mentioned types of trusts which enables a manager to solely administer the assets and derive income. But at the same time it requires income distribution to specifies persons or groups of persons in a stated ratio (i.e. dividends distribution to the owner of given classes of shares);
Maintenance (protective) trust is the trust concluded for a period of time not exceeding beneficiary’s lifetime and acting under the specific circumstances (such as beneficiary bankruptcy). Upon such event occurrence and upon settlor option, property income shall be distributed to the beneficiary and his family for the life term;
Common declaration of trust is a sort of discretionary trust where the settlor and the beneficial interest owner are not pointed out in the documents, and the manager claims that he holds the assets of a third party which were handed over to him for administration. As a rule, such trust is established only on the basis of a Letter of Wishes;
Commercial trust is actuallyagent’s activity in the interests of a third party. Under commercial trust, a manager has the right to trade and to guide the employees of a settlor on his own behalf, which means he manages settlor business as if owned.

The purposes for trust establishment

Trust as security and financial planning facility

There are a lot of purposes which s settlor strives to achieve transferring the property to a trust. Some of them are as follows:

To protect the assets from the creditors by formally separating himself from the property. In this case a settlor is able to derive benefit from the assets being discretionary managed and not belonging to him. As a result, he bears no responsibility with his own property for the liabilities to the creditors;
To preserve the property within the family. In this case, property is transferred to trust in order to decrease the possibility of property wasting by his close relatives ( more often by the devisees) as a result of mismanagement or disadvantageous marriage;
To provide incapable or impaired persons (mentally deprived included) with the revenue without ceding the control over the property to them;
To provide for privacy of a person receiving the revenue;
To make charity and religious presents;
To administer funds in favor of a third person, e.g. to allocate funds to pension funds.

Tax planning

International trusts (in case beneficiaries are not Cyprus residents or property is located off Cyprus territory) in Cyprus have significant tax advantages and provide for considerable tax planning possibilities to the parties involved. The basic ones shall be pointed out:

Income and revenues received at the expense of foreign property being discretionary managed, are tax exempt from profit tax, capital gain tax or estate tax in Cyprus;
In case money transferred to a trust is placed into deposit account with the local Cyprus bank, the interests are tax exempt in Cyprus as the interests obtained from foreign funds and deposited with a bank in Cyprus are tax exempt. Interests on deposits placed through offshore bank subsidiaries are also tax exempt;
A foreigner who establishes an international irrevocable trust in Cyprus and who later becomes Cyprus resident (comes for retirement) does not lose the right for tax exemption in case the property transferred to trust and revenues from it are placed outside Cyprus even this person is a beneficiary;
Income from international trust established for property administration is tax exempt from death duty in Cyprus in case a trust settlor does not live in Cyprus and has no property in Cyprus transferred to a trust. A settlor and the beneficiaries can avoid paying death duties in their native country if permitted by legislation of the country;
Provisions of Double Taxation Avoidance Agreement also apply to discretionary property.

Classic examples of trust use

The following are the classical situations where trust advantages can be used:

Settlor has income from other sources abroad and is not willing to transfer it to his country of residence (fiscal residence);
Settlor strifes that dividends and capital gain income received from Cyprus sources are not transferred to his accounts in his domicile country (fiscal residence);
Settlor has funds dynamically circulating outside of his fiscal residence country or domicile, herewith currency restrictions and control exist in the country;
Settlors plan to become Cyprus residents and receive registration certificate. Such settlors can receive tax exemptions in Cyprus by means of preliminary funds allocation in Cyprus through international trust;
Settlors intend to preserve company ownership right anonymous and confidential;
Settlors would like to transfer their assets to another jurisdiction (to establish holding trust in another jurisdiction) providing for higher security for them.

Standard terms of Declaration of trust in Cyprus

As it was mentioned before, Declaration of trust is the civil-law agreement terms of which mainly depend on the settlor requests. As a rule, Declaration of trust includes the following provisions:

Discretionary management actual transfer to trust;
Trust duration;
Income repayment period;
Income accrual duration;
Beneficiaries notification (about particular person or group of people);
Manager powers and duties;
Manager liability for violation;
Settlor and beneficiary warranties;
Incomerepaymentandpropertyreturnterms.

Manager rights and obligations

Rights:

Discretionary manager has the right to allocate funds for investments providing the corresponding security of the investments is rendered; in parallel, such right governs discretionary Manager scope of responsibility in case improper investments are done;
Discretionary manager has the right for commercial activity, funds raising, obligations’ fulfillment (keeping in mind good faith and restrictions set for the by agreement);
Discretionary manager has the right to insure the property being discretionary managed for the amount which includes property total value without beneficiary’s consent. He is also entitled to assign any documents or property being discretionary managed under custody;
Discretionary manager is entitled to delegate any and all authorities under Declaration of Trust by power of attorney but remains absolutely responsible for any and all actions and failures to act of the person;
Discretionary manager is entitled to reject the appointment expressly or implicitly keeping from obligations fulfillment;
Discretionary manager willing to retire has the right for discharge (with no need for substitution) in case he gets an approval from all consolidated discretionary manager and a person authorized to appoint discretionary managers. At least two discretionary managers or a corporation being a discretionary manager shall remain;
Discretionary manager held liable for property discretionary management process breach has the right for indemnification on the part of beneficiary who explicitly incites of breach to the extent to which the latter receive the respective profit. He also has the right for contribution on the part of consolidated discretionary manager, if available. If a discretionary manager was acting in a reasonable manner and in good faith the court is entitled to release him from personal responsibility.

Obligations:

To carry out property discretionary management with then reasonable prudence;
To strictly observe the terms for property discretionary management: "Discretionary manager shall act exclusively to the benefit of discretionary management and shall not derive benefit from his work , provided the agreement containsno special provision on repayment. He is expected to correspond to fairness and reasonable business efficiency highest level. He shall not bein the circumstances when his personal interests contradict to discretionary management interests ".
General rule: discretionary managers are not entitled to assign their rights. The right to hire a legal counsel or a banker to commit deals with discretionary managed property is the only exemption here .

Beneficiary rights and obligations

Rights:

To receive profit from the property ownership rights to which are transferred to discretionary management for which he is authorized under the terms of discretionary management;
To also act as discretionary manager;
To obtain the information about discretionary management by means of pressure for information about international trust accounts disclosure in those cases when discretionary management is considered to be international trust according to the International Trust Law.

Obligations:

To strictly observe the terms of property discretionary management agreement; violation of the terms causes personal responsibility to discretionary manager.

Beneficiary warranties and defense of the rights

Beneficiary basic warranties:

Protection by operation of law, managers’ criminal responsibility is included.
Business reputation of managers and services providers.
Liability insurance.
Property discretionary management agreement as the warranty.
Additional documents.

Protection by operation of law:

Managementbasicprincipal: discretionary managers shall administer discretionary property in the reasonable manner and with good faith, and shall strictly observe all terms of property discretionary management;
Obligations under the deal concluded by discretionary manager exceeding his authorities (authority exceeding activity) or violating set limits shall be completely borne by the manager himself. Beneficiary becomes beneficial interests’ owner under the deals concluded by manager violating declaration of trust but using the property transferred to trust;
According to treaty-made law, discretionary management terms infringement enables innocent party (beneficial interests’ owner) to seek in court for full recovery of a damage caused by such infringement;
Beneficiary has the right to monitor the property being discretionary managed. Beneficiary has priority right for assets as claim security;
Following civil procedure, criminal procedure can be initiated against discretionary manager(s), and a judge has the right to render judicial penalty decree or prison confinement at his own discretion.

Property discretionary management agreement

Property discretionary management agreement is the legally operative document signed by a settlor and a manager. The agreement can be made public by the settlor or beneficiary at any time in order to confirm equity. Agreement terms violation enable the beneficiary to initiate comprehensive legal prosecution;
Ultimately detailed special provisions can be entered into an agreement. Discretionary manager shall observe these provisions upon property administration (e.g. to execute instructions presented in a defined format, in defined manner and in a defined place);
In case a professional executive is chosen, the structure of his assets is preliminary checked (preliminary vocational evaluation is possible) and provisions being the confirmation that “discretionary manager property amounts at least up to or exceeds the total amount of an agreement for discretionary managementis entered into the agreement. And in case a discretionary manager obligations under discretionary management agreement are violated a beneficial interest owner can entirely compensate for losses resulting from such violation”;
A recognizance with regards to a manager assets can be formed as a warranty; a third party can provide nominee shareholder with additional security. In this case, the third party shall provide sworn deposition stating that the total value of its assets at least amounts up to or exceeds discretionary management agreement total amount;
The manager can be entrusted with the obligation to insure the assets and his property, or he can do it willfully;
An agreement is signed for a specified period enabling the beneficiary to appoint new discretionary manager through his life-time. Therefore, in case beneficiary is not satisfied with the activity of the existing discretionary manager he is entitled to substitute him or to invite an additional one.

Supplementary documents

Customary business practices in Cyprus provide for the following additional means of a beneficiary’s rights enforcement:

A manager at the moment of assets hand over to trust executes Declaration of trust where it is clearly provisioned that a manager acts not in his personal interests and administers the assets of another person;
Amanageratthemomentoftrustestablishmenthands over to the beneficiary undated documents regarding property transfer to the beneficiary’s name. These documents can be implemented at any time (with regards to the shares those can be: instrument of transfer, share certificate, resolution on shares transfer, share ownership transfers from the date pointed out in instrument of transfer). The abovementioned instruments can be used the most effectively at assets being in the trust transfer under demise.

Business reputation and face-to-face contact

Protection of anonymity of a settlor and a beneficiary is the main reason for assets transfer to trust. Using a trust is considered to be ideal and absolutely legal way for anonymity protection. In case the procedure of a manager appointment is carried out properly, taking into the account abovementioned provisions, there is no risk of assets loss.

It is important to understand that a manager selection procedure shall be considered as any other procedure of services provider selection. A provider to whom services ordering customer trusts and whom he agrees to grant a credit, is always either personally known by the customer or has positive public business reputation; insurance, security and other warranties on the basis of which a customer concludes about service provider source credibility are also included. Moreover, face-to-face contact is the best thing for business relations between a provider and a customer improvement.

The same situation we have with a manager selection. The only difference here is that sometimes a manager himself becomes a service provider, and in other cases a provider providing services abroad contributes to manager selection. In this case, the same requirements shall be imposed upon provider business reputation. An agreement signed between a service provider and a customer shall provision that a manager furnishing party shall bear subsidiary responsibility.

Cyprus company shares transfer to discretionary management

Transfer of shares to discretionary management is not a special type of trust. Shares’ discretionary management can be executed both as discretionary trust and fixed interest trust (the most common). CommonDeclaration of trust or trust deed, or complete Declaration of trust can be drawn up upon trust establishment. Another name of the parties under Declaration of trust is the characteristic feature of shares discretionary management. A set lord is referred to as a beneficiary owner, and a trustee is referred to as a nominee shareholder. One should keep in mind that the above terminology is valid only within the frames of Declaration of trust. In all official public sources a nominee shareholder will be pointed out without prefix “nominee”. The information about a beneficiary owner (beneficiary) will be known only to corporative services provider and to a bank; they both will keep it as professional commercial secret. The nominee shareholder candidacy can be selected by a beneficiary in his sole discretion (in this case service provider bear no supplementary responsibility for his actions) or among those suggested by corporate service provider (in this case provider bears supplementary responsibility provisioned by ministerial agreement signed with him).

Koprus Prava as fiducially services provider

Potential risks which might appear during the use of nominee shareholder is that theoretically nominee shareholder can exceed his authorities and embezzle company shares, dispose of company shares or property in his sole discretion, or he can undertake additional responsibilities onto the company. The company Koprus Prava renders professional fiducially services, has corresponding experience, customers’ recommendations and respect in professional environment. Koprus Prava values its reputation of professional corporative services provider and a legal person executing fiducially responsibilities, and does its best to protect interests of beneficiary owners. Koprus Prava being corporative services provider diversifies the risk for the account of efficient carrying out of nominee service, adequate verification of the candidates, reliable documents custody, constant cooperation with actual beneficiaries or their representatives. The responsibility of Koprus Prava is insured. Moreover, Koprus Prava provides actual beneficiary owners with “on demand” instrument of transfer signed by nominee shareholder which enables actual beneficiary owner to efficiently transfer the shares.

Therefore, property discretionary management provides for beneficiaries’ anonymity / confidentiality (unless otherwise is provisioned by law under certain circumstances), protection of settlor assets being discretionary managed, creditors’ protection in case of a bankruptcy (fraud upon creditors is not included). This also enables discretionary property settlor to transfer at his sole discretion assets / property to any other beneficiary as the validity period of property discretionary management by no means will depend on death estate foreign law or legal succession laws. Benefits obtained by a settlor from various directions such as taxation, confidentiality, death estate planning without family law provisions of specified jurisdiction observation, property protection against the third party claims and jurisdiction changeability all of the above provide for property discretionary management efficient administration and making it an instrument of a great request.