Courts in common law jurisdictions continue to grapple with how to deal with a spouse’s interest in a discretionary trust when there is a marital breakdown, and whether to include them in property division, and if included, how to value them in dividing family property.
There have been shifts by courts in common law countries over the years to include discretionary interests in trusts, while other jurisdictions, including many U.S. states, take a more conservative approach and exclude discretionary trust interests from matrimonial property division.
Under traditional trust law principles, a person with a discretionary interest in a trust is not considered to have an existing property interest. Instead, he or she is considered to have a mere “expectancy” because the trustee can choose whether or not to pay income or capital but is under no obligation to do so – like a birthday gift – and the traditional view is that such interests have little or no value.
Some Canadian courts, including in Ontario, have taken a more liberal view and have considered an interest in a discretionary trust to be property for purposes of dividing property on a divorce, and have in certain situations based on the particular facts of each case, attributed significant value to a discretionary interest in a trust.
British Columbia has gone further and removed any ambiguity of whether a discretionary trust interest is property subject to division on divorce by expressly including discretionary trust interests as assets subject to marital property division under its family law legislation. Its legislation provides that a spouse’s interest in property held in a discretionary trust is generally excluded property, and remains the sole property of the spouse who claims the exclusion, but provides that if there has been an increase in the value of excluded property during the spouse’s relationship, that appreciation is considered family property to be shared with the other spouse.
The question then arises of how to value any increase in value of a spouse’s interest in a discretionary trust.
This was the very question faced by the courts in Cottrell v. Cottrell, 2022 BCSC 1607, upheld on appeal by the B.C. Court of Appeal 2023 BCCA 471. The trial judge looked at a number of factors in coming to its decision. The husband argued that as there had been a significant increase in the value of the assets of the trusts in question in which his wife had a discretionary interest, which can be quantified, he should be entitled to share equally in it, and that there was sufficient certainty that his former spouse would ultimately receive a distribution of the trusts’ assets which justified his claim.
The court took a different view and held it an important distinction that the legislation specifically refers to an increase in the value of a spouse’s beneficial interest and not to the increase in the value of the actual property held by the trust.
In this case, the court held that the wife’s interest was uncertain, as she had no actual or apparent ability to compel a distribution by the trustee of the amount she might receive. As well, the trusts had been settled by her parents and her father had the ability as trustee to distribute all of the property to himself, and as well to remove her as a beneficiary, and she could die without receiving any distribution. Based on such factors, her interests could be defeated, extinguished or rendered valueless.
In upholding the trial judgment, the B.C. Court of Appeal stated it could not find that the wife’s beneficial interest was greater than it was when the trusts were settled or that there was any increase in the value of her interest, which was the relevant issue, and not any increase in the underlying assets of the trusts. However, it also stated its finding that the husband had failed to show there had been an increase in value of the wife’s interest was particular to the case at hand, and that there could be a different conclusion in another case involving different trusts, trustees, beneficiaries and spouses.
So, there you have it: in this case, 50% of zero is still zero and the court’s decision accords with traditional trust principles in this respect.
The case law on valuing a discretionary interest is only slowly emerging, and there is great uncertainty on how a court in each particular situation will deal with these issues, leading sometimes to unexpected and undesirable results.
A prenuptial or marriage contract should be considered which can specifically address the treatment of trust interests, including where appropriate excluding them from property division as well as support claims.
In establishing a discretionary trust, it is key that careful consideration is given with proper trust advice on how it should be structured to minimize exposure to family law claims along with other important considerations from a tax and non-tax viewpoint.
Related reading:
Estate Planning and Marital Property Considerations, (Updated May 2024)
Heads Up: Grappling with Family Law’s Treatment of Discretionary Trust Interests, (January 2015)
Planning with Discretionary Trusts for the Matrimonial Home, (March 2014)
— Margaret O’Sullivan