Introduction
Foskett v McKeown [2001] 1 AC 102, a judgment by the House of Lords, establishes foundational principles regarding tracing in equity. Tracing, in this context, is the process of identifying a new asset as a substitute for an original one, particularly when that original asset is subject to a trust or fiduciary relationship. The case underscores the distinction between following, which tracks the same asset as it changes hands, and tracing, which identifies a new asset derived from the original. This distinction is critical in determining the extent of a beneficiary's equitable claim. The decision in Foskett v McKeown elucidates that beneficiaries are entitled to claim a proprietary interest in the traceable proceeds of trust property, a right that binds all recipients except bona fide purchasers for value without notice. The judgement provides a framework for determining the remedies available to beneficiaries when a trustee improperly uses trust funds.
The Facts of Foskett v McKeown
The case originated from a scenario where a trustee, Mr. Murphy, misused trust funds. The claimants had entrusted Mr. Murphy with monies for investment in land in Portugal. Instead of acquiring land, Mr. Murphy used a portion of these trust funds, approximately £20,000, to pay two-fifths of the premiums for a life insurance policy. This policy was held on trust for his wife and children. Mr. Murphy subsequently committed suicide and the insurance company paid out £1 million to his family. The claimants sought to assert a proprietary claim to a proportionate share of the insurance payout. The central legal question was whether the claimants were entitled to trace their funds into the insurance policy and, if so, what remedy was available to them. The family argued that the claimants were at most entitled to an equitable lien, securing the £20,000 of trust money used for the premiums. The House of Lords had to determine whether the beneficiaries could claim a share of the proceeds proportionate to their contribution, or were limited to a repayment of the misappropriated sum.
Tracing and Following: A Core Distinction
Lord Millett, in his judgment, clarified the difference between following and tracing. Following pertains to the process of following the same asset as it moves between parties. In contrast, tracing involves identifying a new asset as a substitute for the original misappropriated asset. Lord Millett stated that both processes are exercises in locating assets which can be taken to represent an asset belonging to the plaintiff and to which they assert ownership. He noted that beneficiaries can not follow trust money once it reaches a bank or insurance company, since its identity was lost in the hands of the recipient. He made a point that the claim for unjust enrichment differs from a proprietary claim because a claim in unjust enrichment requires the plaintiff to demonstrate that "the defendant has been enriched at the plaintiff’s expense," while a proprietary claim requires the plaintiff to show that "the defendant is in receipt of property which belongs beneficially to him or its traceable proceeds." Furthermore, a claim in unjust enrichment is subject to a change of position defence which may reduce the element of enrichment, whereas a proprietary claim is subject to a bona fide purchaser for value defence. This defense operates to clear the defendant's title. This distinction is essential for determining the available remedies; tracing establishes a proprietary interest, while following does not.
The Beneficiary's Right to Election of Remedy
The judgment in Foskett v McKeown confirmed that when a trustee misapplies trust money to acquire a new asset, either exclusively or mixed with their own funds, the beneficiary has the option to choose a remedy. The beneficiary can elect to either assert beneficial ownership of the proceeds or bring a personal claim against the trustee for breach of trust and enforce an equitable lien or charge on the proceeds to secure restoration of the trust fund. This right to elect ensures that the beneficiary can choose the remedy that provides the greatest advantage, considering the specific circumstances and available assets. This right to election is not a right to double recovery; they cannot claim both beneficial ownership and an equitable lien. Where trust funds from multiple beneficiaries are used to acquire an asset, each beneficiary shares proportionately (pro rata), aligning the equitable interest with their contribution to the purchase. In the current case, the claimants could trace their funds to the insurance payout and claim either a beneficial ownership of 40% of the payout, or an equitable lien for the amount of trust money misappropriated.
The Significance of a Proprietary Claim
A proprietary claim, as articulated in Foskett v McKeown, differs fundamentally from a personal claim in unjust enrichment. A proprietary claim rests on establishing that the defendant is in receipt of property which belongs beneficially to the claimant or its traceable proceeds. A claim in unjust enrichment, on the other hand, requires demonstrating that the defendant has been enriched at the plaintiff’s expense. This difference has important practical implications. A proprietary claim can be asserted against any recipient of the trust property, or its traceable proceeds, except a bona fide purchaser for value without notice. This protection extends to situations where the recipient is an innocent volunteer, such as in the case of a donee, who has not given value for their property. A proprietary claim also has priority over the claims of general creditors, which is significant when the trustee is insolvent. The case of Ultraframe (UK) Ltd v Fielding [2007] WTLR 835 confirms that the proprietary remedy is not discretionary, and that the claim does not depend on showing a profit, nor unjust enrichment.
Common Law Parallels: Jones v De Marchant
Lord Millett’s judgment referenced the Canadian case Jones v De Marchant (1916) 28 DLR 561, to illustrate similarities between common law and equity regarding innocent recipients of misappropriated property. In Jones v De Marchant, a husband wrongfully used his wife's beaver skins to make a fur coat, which he gifted to his mistress. The court held that the wife could recover the whole coat due to the law of accession, the principle that when materials from one party are added to materials from another the title to the whole belongs to the original owner of the base item. The mistress, being a gratuitous donee, held no better title than the wrongdoer. This common law principle parallels the equitable principle that a recipient of misappropriated trust property who has not given value for their interest does not receive better title than the original wrongdoer. This illustrates that, like the wife in Jones, the beneficiaries in Foskett had the right to trace their property into the policy payout, and claim their portion. The comparison between common law and equity emphasizes the principle that those who receive misappropriated property by way of gift are not better placed than the wrongdoer.
Implications for Backwards Tracing
While Foskett v McKeown did not directly address the concept of backwards tracing, it established essential principles that have informed subsequent cases. Backwards tracing is the situation where a party seeks to trace trust funds to an asset already owned by the wrongdoer, usually after the trust funds were used to repay a debt associated with that asset. In cases such as Federal Republic of Brazil v Durant International Corp [2016] AC 297, the Privy Council explicitly recognized the possibility of backwards tracing in certain circumstances. The case in Brazil noted that although Lord Millet stated that it is the value of an asset which is traced, the court must be cautious to avoid expanding tracing in a manner which harms innocent parties. However, backwards tracing is possible if a claimant can establish a connection between the misuse of funds and the acquisition of the asset. The court must consider the entire transaction to determine if there is a coordinated scheme of payments, ensuring that the availability of equitable remedies depends on the substance of the transactions and not on the strict order in which events occur. This builds upon the concept of tracing in Foskett v McKeown.
Conclusion
Foskett v McKeown provides a critical framework for understanding the principles of tracing in equity. The decision clarifies the crucial distinction between following and tracing, establishing a proprietary right for beneficiaries in the traceable proceeds of trust property. Beneficiaries have a right to elect either beneficial ownership or an equitable lien when a trustee misapplies trust money, which reflects a significant protection for beneficiaries' interests. The decision's reference to Jones v De Marchant highlights the alignment of common law and equitable principles regarding innocent recipients. Furthermore, while not directly addressing backwards tracing, the judgment sets a foundation for its later development, as demonstrated by the decision in Federal Republic of Brazil v Durant International Corp. The principles articulated in Foskett v McKeown continue to inform the administration of equitable remedies in cases involving breach of trust and misappropriation of funds, and highlight the importance of a flexible application of equitable principles when tracing misappropriated funds.
