Third party liability: the risk of being sued by those damaged by regulatory or enforcement action

Pages209-216
DOIhttps://doi.org/10.1108/13590790510624855
Date01 July 2005
Published date01 July 2005
AuthorN. R. W. Davidson
Subject MatterAccounting & finance
Third Party Liability: The Risk of Being Sued by Those
Damaged by Regulatory or Enforcement Action
N. R. W. Davidson
AN OBLIGATION UNSOUGHT
AND UNWANTED
Professionals have traditionally been able to identify a
`safe' course to steer in most circumstances. Known
contractual and ethical standards provide the guide.
Circumstances in which a professional must choose
one of two options, both of which contain a high
risk of liability, are unwelcome and associated with
allegations of misappropriated funds, or dispute as to
ownership.
A request that a bank freeze funds in an account,
against the account holder's opposition, or otherwise,
raises a conundrum for the bank or trustee. The
account holder who is withheld access to the funds
will readily identify adverse consequences, before or
after the event. The interference with contractual rela-
tionships, and consequential damage, underscores the
problem. The debtor± creditor relationship lies at the
heart of the bank's potential liability if it makes the
wrong call.
Where theft is alleged, the bank must make its deci-
sion in a context which is inherently uncertain. The
Serious Fraud Oce (in New Zealand) cannot
answer or resolve this question during an investiga-
tion. An early-phase investigation may identify suspi-
cions but no conclusions. There has been imprecision
surrounding the principles to be applied in construc-
tive trust cases, so legal advice in times past has been
no panacea.
The cases Royal Brunei Airlines Sdn Bhd v Tan,
1
and
Twinsectra Ltd v Yardley and Others
2
re¯ect dierent
tests at ®rst instance and each appellate level. A
bank's decision will be made at the outset of investiga-
tion, without the bene®t of hindsight, and under
shadow of doubt regarding the consequences. In the
not unfeeling words of Tipping J, in the New
Zealand Court of Appeal (now of the Supreme
Court):
`Banks could be forgiven for thinking that the law
places them in something of a no win situation.'
3
Solicitors also face this problem, when asked to pay
out trust funds which have a suspicious taint. A
range of regulatory or enforcement actions impact.
A liquidator might be seeking to recover company
funds to pay creditors, for example, or the Securities
Commission might be investigating the legitimacy
of proceeds from the sale of shares.
DISHONESTY IN ENGLAND
The original dictum which spurred the constructive
trustee debate is that in Barnes v Addy.
4
Lord Selbourne
LC considered that agents of trustees could themselves
be liable in equity, if
`. . . those agents receive and become chargeable
with some part of the trust property, or [if] they
assist with knowledge in a dishonest and fraudulent
design on the part of the trustees.'
5
This dictum was interpreted as referring to two heads
of liability. The ®rst head was `knowing receipt' of
funds, the second was `knowing assistance', and
banks and solicitors may be liable as constructive trus-
tees under these heads.
Development came in the judgment of Lord
Nicholls of Birkenhead in Royal Brunei Airlines v
Tan.
6
An airline appointed a company to sell passenger
and cargo transportation. All monies received were to
be held on trust for the airline, and were supposed to
go into a bank account for that purpose. They were
instead paid into the company's current account.
The airline commenced action against the company's
managing director for knowingly assisting a fraudu-
lent and dishonest design on the part of the company
as trustee.
Lord Nicholls identi®ed dishonesty as `the touch-
stone of liability' in the knowing assistance cases,
7
and thus the question was whether the director had
acted dishonestly in using the funds for a purpose
other than that for which they were designated.
Lord Nicholls made a seemingly clear statement of
principle, that dishonesty `means simply not acting as
an honest person would in the circumstances. This is an
objective standard'.
8
Other remarks seem to con®rm this:
Page 209
Journal of Financial Crime Ð Vol. 12 No. 3
Journalof FinancialCrime
Vol.12,No. 3,2005,pp. 209 ±216
#HenryStewart Publications
ISSN1359-0790

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