Part 1: the Development of Knowing Assistance in Australia and England

Raunak Vallabhji - 11015322

Introduction:

The equitable principle of ‘knowing assistance’ in the current day has different formulations in the jurisdictions of Australia and England. Interestingly however they developed and diverged from the historic 1874 judgement of Barnes v Addy1. Part one of this paper explores these developments through relevant case law and demonstrates how the current divergent positions came to be. At present time, the English position on knowing assistance established in Royal Brunei Airlines Sdn Bhd v Tan2 is the superior position as it is free of the strict formulations of Barnes v Addy and provides a more substantive, conscience based approach to determining accessory liability. Part two of this paper critically compares and contrasts the current positions in Australia and England and seeks to establish the above claims.

Part 1: The development of knowing assistance in Australia and England.

Barnes v Addy – the second limb: knowing assistance.

In 1874, the English Court of Appeal handed down its judgment in Barnes v Addy3. The significance and implications of this decision are debated to this day.4 However, despite these advances in its interpretation, Barnes v Addy remains a key, historical jurisprudential framework in determining accessorial liability.5

1 Barnes v Addy (1874) 9 Ch App 214, 251. 2 Royal Brunei Airlines Sdn Bhd v Tan [1995] 2 AC 378. 3 Barnes v Addy (1874) 9 Ch App 214, 251. 4 Dan Butler, ‘Equitable Remedies for participation in a breach of directors’ fiduciary duties: the mega litigation in Bell v Westpac; Butler; (2013) 31 C&SLJ 307. Raunak Vallabhji - 11015322

Barnes v Addy defined two grounds or ‘limbs’ of accessorial liability for a breach of trust or fiduciary duty. The first limb, “knowing receipt”, refers to the situation in which a third party receives charge over trust property. The second limb, and the focus of this paper, “knowing assistance”, renders a third party liable if that third party assists with knowledge in a dishonest and fraudulent design on the part of the trustee6. It is important to note, the term assistance as defined by Jacobs’ Law of Trusts in Australia is not characterised as causation of the breach: “There is certainly assistance, if in the absence of steps being taken by the third party, the breach of duty by the fiduciary could not have occurred”.7

As such the key elements of the second limb are:8  A dishonest and fraudulent design by the trustee or fiduciary.  An element of knowledge on the part of the defendant.  Assistance by the defendant towards the dishonest and fraudulent design of the trustee or fiduciary.

These three elements (in particular the first two) are the central themes in this paper and are key in demonstrating the subsequent, varying formulations of the second limb of Barnes v Addy in Australia9 and England.10

Consul Development – knowing assistance in Australia.

The Australian High Court case of Consul Development Pty Ltd v DPC Estates Pty Ltd11 affirmed the second limb of knowing assistance in Barnes v

5 Pauline Ridge, ‘Equitable accessorial liability: Moving beyond Barnes v Addy’ (2014) 8 J Eq 28. 6 Barnes v Addy (1874) 9 Ch App 214, 251-2. 7 J D Heydon and M J Leeming, Jacobs’ Law of Trusts in Australia (LexisNexis Butterworths, 7th ed, 2006) 291 [1339]. 8 Barnes v Addy (1874) 9 Ch App 214, 251-2. 9 Farah Constructions Pty Ltd v Say-Dee Pty Ltd (2007) 230 CLR 89. 10 Royal Brunei Airlines Sdn Bhd v Tan [1995] 2 AC 378. 11 Consul Developments Pty Ltd v DPC Estates Pty Ltd (1975) 132 CLR 373. Raunak Vallabhji - 11015322

Addy. This was done in a very formulaic fashion12 with little departure from the elements of Barnes v Addy, in that a third parry must: “Assist with knowledge in a dishonest and fraudulent design on the part of the trustee.”13

In reaching this affirmation, Gibbs J and Barwick J, clarified the applicable level of knowledge required for a third party to be liable. In their judgement, they created what has been interpreted as a spectrum of additional categories of knowledge in furtherance of the broader categories of actual and constructive knowledge.14

More recent authorities15 reconcile this spectrum with the now well- established Baden scale of knowledge16 put forward in the case of Baden, Delvaux and Lecuit v Société Générale pour favoriser le Dévéloppement du Commerce et de l’Industrie en France.17 The scale consists of five categories of knowledge:

1. Actual knowledge. 2. Wilfully shutting one’s eyes to the obvious. 3. Wilfully and recklessly failing to make such inquiries as an honest and reasonable person would make. 4. Knowledge of circumstances, which would indicate the facts to an honest and reasonable person. 5. Knowledge of circumstances, which would out an honest and reasonable person on inquiry.

12 Ridge, above n 8. 13Barnes v Addy (1874) 9 Ch App 214, 251-2. 14 Consul Developments Pty Ltd v DPC Estates Pty Ltd (1975) 132 CLR 373, [398] [412]. 15 Farah Constructions Pty Ltd v Say-Dee Pty Ltd (2007) 230 CLR 89 16 Baden, Delvaux and Lecuit v Société Générale pour favoriser le Dévéloppement du Commerce et de l’Industrie en France [1992] 4 All ER 279. 17 Ibid. Raunak Vallabhji - 11015322

As Consul pre-dated Baden, the degree of knowledge required was not considered in the exact terms of the Baden Scale. However this paper will show the spectrum of knowledge described by Gibb J and Stephens J was analogous.

Stephens J can be interpreted in relation to the third Baden category when he stated that when a third party that has: “Conscientiously refrained from inquiry for fear lest he learn of fraud[,]”18 he or she would in fact fall into the scope of knowledge required.

Gibb J is alluding to constructive knowledge i.e. the fourth Baden category in the following: “It would not be just that a person who had full knowledge of all the facts could escape liability because his own moral obtuseness prevented him from recognizing an impropriety that would have been apparent to an ordinary man.”19

Gibbs J can be said to be alluding to the fifth Baden category in the following: “it is going too far to say that a stranger will be liable if the circumstances would have put an honest and reasonable man on inquiry, when the stranger's failure to inquire has been innocent and he has not wilfully shut his eyes to the obvious.”20

As such, the judgements of Gibbs J and Stephen J are readily interpreted as accepting the first four elements of the Baden Scale and rejecting the last element, which alludes to constructive notice.

18 Consul Developments Pty Ltd v DPC Estates Pty Ltd (1975) 132 CLR 373, [412]. 19 Ibid., [398]. 20 Consul Developments Pty Ltd v DPC Estates Pty Ltd (1975) 132 CLR 373, [398]. Raunak Vallabhji - 11015322

Thus, at the time of Consul, the elements of knowing assistance established in Barnes v Addy held firm.

Royal Brunei – English law’s step away from Barnes v Addy

The English decision in Royal Brunei Airlines Sdn Bhd v Tan21 fundamentally altered the test for knowing assistance and directly challenged the elements set out in the second limb of Barnes v Addy.22

Knowledge On the subject of knowledge, Lord Nichols renounced the use of the Baden levels of knowledge and replaced the concept with an overarching test of dishonesty. This less formulaic test considered all the relevant circumstances of the case including the third parties knowledge of the circumstances to determine whether their actions could be categorised as objectively dishonest. Although knowledge is a crucial factor in this test of dishonesty, it is not the source of liability. Liability stems from an all-encapsulating, objective test of dishonest conduct.23

The objective nature of this test was deeply emphasised in Royal Brunei, his lordship stated: “The standard of what constitutes honest conduct is not subjective. Honesty is not an optional scale, with higher or lower values according to the moral standards of each individual.”24

21 Royal Brunei Airlines Sdn Bhd v Tan [1995] 2 AC 378. 22 Susan Barkerhall Thomas, ‘Knowing Receipt and Knowing Assistance: Where Do We Stand’ (1997) UNSW law journal 20(1). 23 Philip Podzebenko, ‘Redefining Accessory Liabitlity: Royal Brunei Airlines Sdn Bdh v Tan’ (1996) 18 Sydney L. Rev. 234. 24 Royal Brunei Airlines Sdn Bhd v Tan [1995] 2 AC 378 [389]. Raunak Vallabhji - 11015322

Despite this ruling, as well as precedent for an objective dishonesty test in England,25 it was challenged and deemed to contain a subjective element in the case of Twinsectra Limited v Yardley26 however it was re-instated as being purely objective with the Privy Council decision in the case of Barlow Clowes International Ltd v Eurotrust International Ltd.27

Dishonest and fraudulent design Royal Brunei also alleviated the requirement for a ‘dishonest and fraudulent design’ on the part of the trustee. Lord Nichols stated: “His [the trustee’s] state of mind is essentially irrelevant to the question of whether the third party should be made liable.”28 As an alternative, a fault-based29 methodology to liability was established. “What matters is the nature of his fault, not the trustees.”30 His Lordship held that the traditional rule provided inadequate protection in circumstances where the trustee was innocent but the assistant was dishonest.31 This paper agrees that it is rational that the liability of a third party is in fact greater when there is an innocent trustee. In these instances the third party possesses a closer causal connection32 to the liability and carries the entirety of fault.33 Although this is a rare occurrence, it would be unjust to deny a beneficiary the ability to impute liability onto a guilty third party because the trustee is innocent.

The move away from the strict formulations of Barnes v Addy has resulted in a more substantive, all-encapsulating approach to determining accessory liability. The fault based methodology and emphasis on dishonesty as a

25 Carl Zeiss Stiftung v Herbert Smith & Co (no2) [1969] 2 Ch 276. ; Agip (Africa) Ltd v Jackson [1992] 4 All ER 385. 26 Twinsectra Limited v Yardley [2002] 2 AC 164. 27 Barlow Clowes International Ltd v Eurotrust International Ltd (in liq) [2006] 1 All ER 333. 28 Royal Brunei Airlines Sdn Bhd v Tan [1995] 2 AC 378 [385]. 29 Ibid. 30 Ibid. 31 Rob Chambers, 'Knowing Receipt: Frozen In Australia' (2007) 2 J Eq 40. 32 Royal Brunei Airlines Sdn Bhd v Tan [1995] 2 AC 378 [69]. 33 Chambers, above, n28. Raunak Vallabhji - 11015322 touchstone to liability stops the law from being limited by technical questions of knowledge and hurdles of dishonest/fraudulent design of the trustee.

Farrah Constructions – Barnes v Addy upheld.

The case of Farrah Constructions Pty Ltd v Say-Dee Pty34 took place over a decade after the ruling in Royal Brunei, providing opportunity for the Australian High Court to solidify its position on knowing assistance in light of the developments in the English law.

Knowledge A bench of five judges re-emphasised the decision in Consul Development, and explicitly reconciled the knowledge requirement to the Baden scale, stating that only levels one to four would apply to impute liability.35 As such, the law in Australia remains tethered to the element of knowledge, with further clarity provided by the Baden scale of knowledge.

Dishonest and fraudulent design Furthermore, the high court affirmed it’s previous position in Consul, requiring a trustee to have a dishonest or fraudulent design in order for liability to be imputed upon a third party36. The previous decision of Royal Brunei was considered, however no comment was made in terms of its validity in terms of the given case. However, while discussing knowing receipt, the court, in obiter, did generally state that intermediate courts of appeal should not attempt to develop the law given the long standing English authority37 and the decisions of the previous decisions38 of the high court39.

34 Farah Constructions Pty Ltd v Say-Dee Pty Ltd (2007) 230 CLR 89. 35 Ibid., [176]. 36 Farah Constructions Pty Ltd v Say-Dee Pty Ltd (2007) 230 CLR 89 [180]. 37 Barnes v Addy (1874) 9 Ch App 214, 251. 38 Consul Developments Pty Ltd v DPC Estates Pty Ltd (1975) 132 CLR 373. 39 Farah Constructions Pty Ltd v Say-Dee Pty Ltd (2007) 230 CLR 89 [134]. Raunak Vallabhji - 11015322

Part 2: The superiority of the English position

A quick comparison of how the law stands in Australia and England today

In terms of the knowledge component, Farah affirmed the requirement of knowledge in accordance with category one to four of the Baden Scale and held that such knowledge is enough to impute liability to a third party. On the other hand, Lord Nichols in Royal Brunei adamantly rejected the formulaic approach to knowledge in Consul and the Baden Scale of knowledge. The new overarching principle of ‘dishonesty’ involves an objective test to determine if one acted dishonestly. Whilst this may encapsulate an element of knowledge, it is no longer the cornerstone to impute liability to a third party.

In terms of dishonest or fraudulent design on behalf of the trustee, Royal Brunei discredits this requirement opting for a fault-based approach. The actions of the trustee are no longer relevant when a third party is at fault due to his or her dishonesty.

Advantages of the Australian position

The key advantage to the formulaic approach of the Australian courts is the degree of clarity that ensues from the use of knowledge as a corner stone to Raunak Vallabhji - 11015322 impute liability. The Baden Scale is now well defined and has case law to support it. The English approach in Royal Brunei is slightly marred by ambiguity arising from its objective test of dishonesty. Although dishonesty has been further defined in cases after Royal Brunei,40 the court, when considering whether a reasonable person would be held to have acted dishonestly in the given context, has some variance in its interpretation.

This was observable in the two decisions of Agip (Africa) Ltd v Jackson 41 and Equiticorp Finance Ltd (in liq) v Bank of New Zealand.42 In Agip a court of appeal held that an experienced accountant did in fact possess a ‘guilty mind’ when he set up a series of shelf companies into which a fiduciary deposited vast amounts of money stolen from the employer.43 In contrast, the case of Equiticorp held that a senior partner of a law firm who had created shelf companies, in which stolen funds were deposited, was not dishonest.44 Arguments as to the differing occupations of the defendants in above cases are not substantive. In Royal Brunei Lord Nichols specifically stated: “Honesty is not an optional scale with higher or lower values according to the moral standards of each individual.”45

Given the factual similarity of the two cases, the strictly objective nature of the test and the comparable positions of knowledge both parties held, the result in an ideal legal landscape should be similar.

Advantages of the English position

40 Barlow Clowes International Ltd v Eurotrust International Ltd (in liq) [2006] 1 All ER 333. 41 Agip (Africa) Ltd v Jackson [1992] 4 All ER 385. 42 Equiticorp Finance Ltd (in liq) v Bank of New Zealand (1993) 32 NSWLR. 43 Lee Aitken, 'Unforgiven: Some thoughts on Farah Constructions Pty Ltd v SayDee Pty Ltd' (2007) 29 Aust Bar Rev 195. 44 Ibid. 45 Royal Brunei Airlines Sdn Bhd v Tan [1995] 2 AC 378 [389]. Raunak Vallabhji - 11015322

The reformulation of the second limb of Barnes v Addy in Royal Brunei, alleviated the need for a fiduciary or a trustee to have perpetrated a dishonest or fraudulent design before a third party can be held liable.

The term ‘dishonest or fraudulent design’ was clarified in recent Australian cases after Farah. The case of The Bell Group Ltd (in liq) v Westpac Banking Corporation46 lowered the threshold for this test by taking a more literal approach from the classic threshold of “morally reprehensible.”47 Drummond JA stated: “Conduct by a trustee or fiduciary that involves a breach of duty … will be sufficient to constitute dishonest and fraudulent conduct.’48

Despite this clarification and the lowering of the threshold in the recent Bell case, the requirement of a dishonest design does not adequately protect beneficiaries49 as guilty third parties could escape liability due to the innocence of the trustee.50 This argument is largely criticised due to the vague existence of ‘knowing inducement’ in Australia.51 Cases of knowing inducement are said to effectively fill the gap left by the knowing assistance by allowing third party liability for inducing an innocent breach of trust, i.e. one without a dishonest/fraudulent design by the trustee. The recent case of Othman v Stanley & Ors52 held a third party liable for inducing a breach of trust where the trustee was innocent.

However, the concept of knowing inducement is vague at best and not engrained in equity.53 As such, this paper seeks to argue that the entire mechanism of holding a guilty third party liable with an innocent fiduciary is

46 The Bell Group Ltd (in liq) v Westpac Banking Corporation (No 9)(2008) 255 FLR 1. 47 Selangor United Rubber Estates Ltd v Cradock (No 3) [1968] 1 WLR 155. 48 The Bell Group Ltd (in liq) v Westpac Banking Corporation (No 9)(2008) 255 FLR 1 [2123]. 49 Rob Chambers, 'Knowing Receipt: Frozen In Australia' (2007) 2 J Eq 40. 50 Podzebenko, above, n 21. 51 Ibid. 52 Othman v Stanley & Ors [2012] VSC 211. 53 Alison Gurr, 'Accessory Liability and Contribution, Release and Apportionment' [2010] MULR 481. Raunak Vallabhji - 11015322 unnecessarily complicated. The fault-based approach of the Privy Council is far more straightforward.

The over refinement and stringent nature of Barnes v Addy

Australian reluctance to absolve the dishonest or fraudulent design element

The reason for this reluctance, in my opinion, is largely a jurisprudential question. The liability stemming from knowing assistance is derivative from an initial breach of a fiduciary duty. As such the liability of the third party must be secondary.54 The Australian position maintains knowing assistance is secondary liability by requiring a primary breach of a trust or fiduciary relationship by another.55

However this has been criticised and this paper agrees with such insights. Kirby J’s dissent in Equitcorp was supportive of the “Abandonment of the jurisprudence in Barnes v Addy.”56 Requiring a primary breach, yet allowing the entirety of the liability to be rendered on a third party is inconsistent and not secondary in nature as the liability is not subordinate in a monetary sense.57 Kirby J held that the Australian approach failed to share risks equitably58 and as such he maintained that for justice to be done to both the third party and the beneficiaries, the law should hold liable the participants in the breach.59

54 Ibid. 55 Royal Brunei Airlines Sdn Bhd v Tan [1995] 2 AC 378 [382]. 56 Equiticorp Finance Ltd (in liq) v Bank of New Zealand (1993) 32 NSWLR [105]. 57 Gurr, above, n49, 507. 58 Equiticorp Finance Ltd (in liq) v Bank of New Zealand (1993) 32 NSWLR [105]. 59 Ibid. Raunak Vallabhji - 11015322

Conclusion: The English position better allows the court of equity to be a court of conscience

Barnes v Addy on the facts was a case involving a family conflict in mid- Victorian England.60 Its stringent applicability to cases concerning modern commercial matters is questionable.

The Hon Gummow AC scrutinised the over refined and over specialised nature of the jurisprudence in Barnes v Addy and critiqued the “tendency to take passages in older courts and apply them as if they were statutory enactments.”61. He recommended conceptual synthesis such as that in Royal Brunei to keep the legal system functioning as a coherent whole.62

The move away from the strict formulations of Barnes v Addy has resulted in a more substantive, all-encapsulating approach to determining accessory liability. Whilst test of dishonesty in Royal Brunei falls victim to the natural variations of judgement involved in any objective test, fault based liability avoids the constraints of the unreasonable jurisprudential mandates in Barnes v Addy and directs courts of equity to respond strictly to unconscientious conduct. This effectively stops the law from being limited by technical questions of knowledge and hurdles of dishonest or fraudulent design of the trustee. It is for these reasons and the arguments above; this paper maintains the English position of knowing assistance is superior.

60 Walker R, “Dishonesty and Unconscionable Conduct in Commercial Life – Some Reflections on Accessory Liability and Knowing Receipt” (2005) 27(2) Syd LR 187. 61 Hon William Gummow AC, “Knowing assistance” (2013) 87 ALJ 311. 62 Gummow, above, n 57, [319]. Raunak Vallabhji - 11015322

Bibliography

Journal articles:

Aitken, Lee, 'Unforgiven: Some thoughts on Farah Constructions Pty Ltd v SayDee Pty Ltd' (2007) 29 Aust Bar Rev 195.

Butler, Dan, ‘Equitable Remedies for participation in a breach of directors’ fiduciary duties: the mega litigation in Bell v Westpac; Butler; (2013) 31 C&SLJ 307.

Chambers, Rob, 'Knowing Receipt: Frozen In Australia' (2007) 2 J Eq 40.

Gummow, Hon William “Knowing assistance” (2013) 87 ALJ 311.

Gurr, Alison, 'Accessory Liability and Contribution, Release and Apportionment' [2010] MULR 481.

Podzebenko, Philip, ‘Redefining Accessory Liabitlity: Royal Brunei Airlines Sdn Bdh v Tan’ (1996) 18 Sydney L. Rev. 234.

Ridge, Pauline, ‘Equitable accessorial liability: Moving beyond Barnes v Addy’ (2014) 8 J Eq 28.

Thomas, Susan, ‘Knowing Receipt and Knowing Assistance: Where Do We Stand’ (1997) UNSW law journal 20(1).

Walker, R, “Dishonesty and Unconscionable Conduct in Commercial Life – Some Reflections on Accessory Liability and Knowing Receipt” (2005) 27(2) Syd LR 187.

Cases

Agip (Africa) Ltd v Jackson [1992] 4 All ER 385.

Baden, Delvaux and Lecuit v Société Générale pour favoriser le Dévéloppement du Commerce et de l’Industrie en France [1992] 4 All ER 279. Raunak Vallabhji - 11015322

Barlow Clowes International Ltd v Eurotrust International Ltd (in liq) [2006] 1 All ER 333.

Barnes v Addy (1874) 9 Ch App 214, 251.

Carl Zeiss Stiftung v Herbert Smith & Co (no2) [1969] 2 Ch 276.

Consul Developments Pty Ltd v DPC Estates Pty Ltd (1975) 132 CLR 373.

Equiticorp Finance Ltd (in liq) v Bank of New Zealand (1993) 32 NSWLR.

Farah Constructions Pty Ltd v Say-Dee Pty Ltd (2007) 230 CLR 89.

Othman v Stanley & Ors [2012] VSC 211.

Royal Brunei Airlines Sdn Bhd v Tan [1995] 2 AC 378.

Selangor United Rubber Estates Ltd v Cradock (No 3) [1968] 1 WLR 155.

The Bell Group Ltd (in liq) v Westpac Banking Corporation (No 9) (2008) 255 FLR 1.