A Co-Trustee's Misappropriation and a Client's Request for Silence
You are the principal of a small STEP-regulated trust company. In February, a beneficiary of the Kestrel Trust, Priya, asks why a £180,000 distribution approved in 2022 was never received. You discover that your co-trustee, Graham, a longstanding director, instructed the trust bank to pay £180,000 to a company incorporated in Belize, ostensibly for 'investment advice'. The company's sole director is Graham's brother-in-law. The trust's accounts, which Graham prepared, show the payment as an investment. Graham tells you he used the money to cover a personal guarantee and will repay it in six months; he asks you not to tell the other trustee, the bank or the beneficiaries. The trust has 12 beneficiaries, including two minors. Your firm's professional indemnity insurer has not been notified. The settlor's widow says she does not want a scandal and asks you to handle it quietly. The trust deed permits investment but not loans to trustees. The trust's year end is 31 March.
1. Identify the professional, regulatory and fiduciary issues, including your reporting obligations.
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The payment is a breach of trust. Graham used trust money for his personal guarantee through a company connected to his brother-in-law. That is a conflict of interest, an unauthorised loan to a trustee and a dishonest misapplication of trust property. The accounts misdescribe the payment as an investment, which is a false accounting issue. The trust deed permits investment but not loans to trustees, so there is no power to support the transaction.
Your professional duties override the widow's request for quiet handling. As a trustee, you must recover the trust property and inform the other trustee. As a principal of a regulated trust company, you must consider a suspicious activity report to the National Crime Agency under the Proceeds of Crime Act 2002; the payment may be criminal property. You must not tip off Graham. You should also consider the STEP Code of Conduct, your firm's internal reporting, and notification to the professional indemnity insurer. The beneficiaries, including the minors, are owed undivided loyalty and accurate information. Concealment would expose you to liability for breach of trust and professional sanction. You should not resign as a way of avoiding the issue; resignation does not remove the duty to report and may prejudice the beneficiaries.
2. Explain the steps you should take and the advice you should give to the client, including communication with beneficiaries.
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Immediately suspend Graham from trustee functions and secure the trust's bank mandates and records. Call a trustee meeting with the other independent trustee, disclose the evidence and take legal advice. Instruct forensic accountants to trace the £180,000 and preserve documents. Write to Graham requiring repayment and an account; do not accept a promise of repayment in six months without security. Consider freezing the Belize company's assets or seeking a freezing injunction. Report to the NCA if suspicion is met, and notify the insurer.
Communicate with the beneficiaries honestly but without prejudicing recovery or any investigation. Priya is entitled to know why her distribution was not paid; the minors' interests should be represented by a guardian or independent trustee. The widow's wish for privacy does not override the duty to account. Consider applying to court to remove Graham, appoint a replacement trustee and obtain directions on recovery. If the firm cannot act independently, appoint separate counsel. Keep a written decision log. The priority is recovery and protection of the trust fund, not reputation management.
3. Discuss the trust company's potential liability and the role of insurance.
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The trust company is exposed because it was trustee when the breach occurred and because Graham was a director. Trustees are jointly liable for breaches of trust, although an innocent trustee may seek relief under section 61 of the Trustee Act 1925 if it acted honestly and reasonably and ought fairly to be excused. That relief is not available if the company failed to supervise or ignored red flags. The company may also face vicarious liability for Graham's acts and regulatory action for failing to have proper controls.
Notify the professional indemnity insurer immediately. Policies often exclude dishonest or fraudulent acts, but defence costs and innocent trustee coverage may still be available. Check whether the firm has fidelity or crime cover. Do not make admissions to the insurer without advice. The company should consider a civil claim against Graham and his brother-in-law for breach of trust, dishonest assistance and unconscionable receipt. It should also review its conflicts, dual control and bank mandate procedures. The beneficiaries may claim against the company if recovery is not pursued; a settlement with them may need court approval because minors are involved.