TMSF v. Merrill Lynch Case Analysis

In Tasarruf Mevduati Sigorta Fonu v. Merrill Lynch Bank & Trust Co. (Cayman) Ltd., [2011] UKPC 17, the Privy Council held that a settlor’s power to revoke his two Cayman Islands trusts was, in equity, tantamount to ownership. Reversing the Cayman courts, it held that the proper order was one requiring the settlor to delegate the power to receivers; the two trusts held roughly $24 million.

The decision turned on the character of the power. Mr. Demirel could revoke by deed, in his own favor, and he owed no fiduciary duty to anyone. The Privy Council contrasted a revocation power exercisable only with another person’s consent, which English courts have treated as a special power that does not make its holder the owner.

A $30 Million Judgment and Two Cayman Trusts

Tasarruf Mevduati Sigorta Fonu, known as TMSF, is the agency the Turkish state established to take over and restructure failed Turkish banks. Mr. Demirel controlled the group of companies that owned Egebank, one of those banks. TMSF claimed that its investigations showed about $490 million misappropriated from Egebank by Demirel, his family, and his associates. On November 20, 2001, the Turkish courts entered a $30 million judgment against Demirel personally on a claim by Bank Ekspres, another failed bank whose assets TMSF had acquired, over allegedly fraudulent loan transactions.

Demirel had signed two deeds of trust in the Cayman Islands on June 28, 1999, creating the Mana Trust and the Dolphin Trust. The trustee of both was Merrill Lynch Bank and Trust Company (Cayman) Limited. Each trust held shares in Cayman companies, and as of October 31, 2006 those companies’ cash balances at Merrill Lynch totaled about $24 million.

Both trusts were discretionary. The named beneficiaries were Demirel, the woman who later became his wife, and any children he might have, with the remainder passing to charity. The Privy Council observed that for practical purposes the beneficiaries were Demirel and his wife. No one disputed that the trusts were valid under Cayman law.

The Power Demirel Kept

Each trust deed gave Demirel, the settlor, a power to revoke, amend, vary, or alter the trust in any manner whatsoever. He could exercise it at any time by deed delivered to the trustee. The trustee’s written consent was required only for a change that would increase the trustee’s own obligations. A revocation in Demirel’s favor needed no one’s agreement.

The Privy Council stated the practical effect plainly: by revoking the trusts, Demirel could put back into his own hands enough money to satisfy a very large proportion of the judgment debt. TMSF asked the Cayman courts to appoint receivers over that power so the receivers could exercise it and reach the trust funds.

How the Case Reached the Privy Council

TMSF went to the Cayman courts to turn its Turkish judgment into a Cayman one. In December 2005 it sued the trustee and the trust-owned companies and obtained freezing orders over the trust assets. In February 2007 it sued Demirel to enforce the Turkish judgment and froze up to $45 million of his assets. On April 30, 2008, TMSF won summary judgment for $30 million plus interest and costs.

In August 2008 TMSF applied for the receivership over the powers, together with orders requiring Demirel to assign or delegate them. Chief Justice Smellie refused in 2009. In his view a power was not property, treating powers as property had always been the legislature’s work, and the order sought “would strike at the very heart of the trust concept.”

The Cayman Islands Court of Appeal agreed that only the legislature could make this advance, though it rejected the idea that the order would strike at the heart of the trust concept. It added a practical objection. Demirel had been declared bankrupt in Turkey in December 2008, at TMSF’s own instance, so his bankruptcy trustee, rather than any single creditor, was the natural person to collect his assets.

Why the Power Was Tantamount to Ownership

The Privy Council started from the modern law of equitable execution rather than from the old line between powers and property. A court may appoint a receiver by way of equitable execution over assets that ordinary legal execution cannot reach. The English Court of Appeal held in Masri v. Consolidated Contractors International (UK) Ltd (No 2) that this jurisdiction develops incrementally, applying old principles to new situations, and that the demands of justice are the overriding consideration.

The distinction between a power and property, the Board explained, was never an absolute rule. A settlor who can revoke in his own favor holds what the older authorities called a completely general power, and a completely general power is tantamount to ownership. Lord Collins quoted the nineteenth-century treatise writer Lord St Leonards: to distinguish a general power from outright ownership “is to grasp at a shadow while the substance escapes.”

The same authorities draw the line differently when the power is restricted. The Board discussed Re Watts, where a settlor could revoke her settlement only with her mother’s consent, and the court refused to treat her as owner of the settled property. A power that requires another person’s agreement is a special power, and its holder is not treated as an owner.

The Board held that Demirel’s powers of revocation gave him rights tantamount to ownership in equity. It held that the interests of justice required an order making the Cayman judgment effective.

The Delegation Order

Appointing receivers over the revocation power solved only half of TMSF’s problem, because the receivers also needed a way to exercise the power. Demirel argued that a power of revocation cannot be assigned or delegated at all. The Board answered that the rule against delegating a power is not inflexible: it exists to protect a confidence that someone else has placed in the power holder. Demirel’s power involved no such confidence. His only discretion was whether to revoke in his own favor, and he owed no fiduciary duties.

The Board therefore held that the appropriate order was for Demirel to delegate his powers of revocation to the receivers. The receivers could then exercise the powers themselves. The Board’s answer also covered executing the delegation on Demirel’s behalf if he defaulted. The Board found it unnecessary to decide whether a court could instead order a settlor to revoke his trusts himself.

The Turkish bankruptcy did not change the result. The Board was informed that Turkish law did not vest the power in Demirel’s bankruptcy trustee, and TMSF undertook to make the proceeds available to the creditors as a whole. The Board advised that the appeal be allowed.

How American Law Reaches a Revocable Trust

American law reaches the assets of a revocable trust by treating them as the settlor’s own property. The Privy Council surveyed the American authorities in its judgment. The Restatement of Trusts ordinarily treats a revocable trust as though the settlor owned it, and the Uniform Trust Code makes revocable-trust property answerable to the settlor’s creditors during his lifetime. American courts have stopped short of compulsion, though. The Board quoted a Massachusetts decision that no court in that state had ever forced a settlor to exercise a power to amend or revoke.

The American offshore trust cases apply their pressure to the settlor personally. The settlor in In re Lawrence began civil contempt confinement in September 2000 over trust assets he said he could not turn over. In SEC v. Bilzerian the district court held the settlor of a Cook Islands trust, one the court described as revocable, in civil contempt of its disgorgement orders. In TMSF the creditor reached the power itself, in the trust jurisdiction’s own courts. The remedy was the delegation of the power, not a coercive sanction against the settlor.

What TMSF Means for Offshore Trust Design

An offshore trust whose settlor keeps a power of revocation is exposed from two directions at once. A U.S. court can treat the trust assets as the settlor’s own property while the power exists, which is why a properly drafted Cook Islands trust agreement makes the trust irrevocable from the start. The Privy Council’s ruling supplies the second direction. Hearing the appeal from the trust jurisdiction’s own courts, it held that a court could order the settlor to delegate his revocation power to the creditor’s receivers. No U.S. proceeding was involved at any point.

TMSF first converted its Turkish judgment into a Cayman judgment, and the receivership was ancillary to that Cayman judgment rather than to the foreign one. A creditor holding a U.S. judgment against a Cook Islands trust faces the same first step, because U.S. judgments cannot be enforced in the Cook Islands of their own force and the creditor must sue anew under local law.

The trusts themselves were valid Cayman discretionary trusts from start to finish; what the creditor reached was the power Demirel kept for himself. The Cayman Islands remains a leading jurisdiction for estate planning and commercial trusts, and its courts decided this case under English equitable principles carried into Cayman law by the Grand Court Law.

Among the decisions collected in the offshore trust case law library, TMSF stands alone as the case where an offshore jurisdiction’s own final court handed a creditor the settlor’s retained power. The enforcement fights over Cook Islands trusts in U.S. courts have instead run through contempt pressure, fraudulent transfer claims, and settlement.