Single test of knowledge now required on knowing receipt

The Court of Appeal recently considered the knowing assistance and knowing receipt heads of constructive trust and set out a single test of knowledge on knowing receipt.

Facts

BCCI (Overseas) Limited ("Overseas") is a subsidiary of BCCI Holdings SA ("Holdings"). The BCCI Group collapsed insolvent in 1991 as a result of a long-running fraud perpetrated by its senior management. Overseas and ICIC Overseas Limited ("ICIC"), another company controlled by the BCCI Group, held full licences under Cayman Islands law to carry on banking business.

By an agreement dated 10th July 1985, the defendant invested $10m through ICIC to purchase shares in Holdings. Under the agreement the defendant was to hold the shares for at least two years and received a guaranteed rate of return of 15% per annum. After two years ICIC would buy back the shares if the defendant wanted to sell them. After five years the shares would be transferred to the defendant. The purpose of the agreement was to allow ICIC, who at that time was suffering acute liquidity problems and needed outside money without creating balance sheet liabilities, to give a false impression that the dummy loans that had been made by it were performing normally. The defendant was paid US$16.679m by Overseas in December 1988. Overseas and ICIC, through their liquidators, claimed that the agreement was a sham and that the defendant was liable to account to them for US$6.679m, being the excess over the US$10m he paid to ICIC pursuant to the agreement together with interest as a constructive trustee.

First Instance

At first instance Mr Justice Carnwath ([1999] BCC 669) held that although the agreement was not a sham, its artificial nature might suggest dishonesty. The Judge considered that dishonesty in one form of another was essential for the foundation of a case for both knowing assistance and knowing receipt. The question was whether the defendant was dishonest by the objective standard set by the Privy Council in Royal Brunei Airlines Sdn Bhd v Tann [1995] 2AC 378. The Judge, however, refused to infer from the artificial nature of the transaction and the high rate of return, that the defendant had dishonestly assisted in the breaches of fiduciary duty by senior officers of BCCI or knowingly received property derived from the breaches of duty. The Judge found that the Defendant had no knowledge of the frauds being perpetrated and that he did not regard the transaction as dishonest and therefore the test set in Royal Brunei was not satisfied.

Court of Appeal

In the Court of Appeal, Lord Justice Nourse considered whether the Defendant was liable for dishonestly assisting or participating in the breaches of trust (knowing assistance) and secondly whether the Defendant was liable for receiving the payment with knowledge of the breaches of trust (knowing receipt).

Knowing Assistance

As far as knowing assistance was concerned the Court of Appeal found that the Defendant did not act dishonestly and accordingly without that essential feature the case for knowing assistance was bound to fail.

Knowing Receipt

With regard to knowing receipt the essential requirements were set out by Hoffmann LJ in El Ajou -v- Dollar Land Holdings plc [1994] 1 All ER 685, 700:

"For this purpose the plaintiff must show, first, a disposal of his assets in breach of fiduciary duty; secondly, the beneficial receipt by the defendant of assets which are traceable as representing the assets of the plaintiffs; and thirdly, knowledge on the part of the Defendant that the assets received are traceable to a breach of fiduciary duty".

In this case the first two requirements were satisfied, but the satisfaction of the third requirement, knowledge on the part of the defendant that the sum received by him was traceable to a breach or breaches of fiduciary duty, was more difficult. The Court of Appeal found that there were two distinct questions firstly, what, is meant by knowledge; secondly, is it necessary for the recipient to act dishonestly.

With regard to dishonesty, the Court of Appeal found that the Judge's view namely, that the test for knowing receipt was the same as for dishonest assistance was wrong. Nourse LJ stated that while a knowing recipient will often be found to have acted dishonestly, dishonesty is not a pre-requisite of liability for knowing receipt (Belmont Finance Corp. -v- Williams Furniture Ltd (No. 2) [1980] 1 All ER 393). As far as knowledge was concerned, the question was whether the recipient must have actual knowledge (or the equivalent) that the assets received are traceable to the breach of trust or whether constructive knowledge is enough. The Court of Appeal acknowledged that the authorities were divided as to the level of knowledge required in order to found liability in knowing receipt. Nourse LJ, however, formed the view that, just as there is a single test for dishonesty for knowing assistance, so there ought to be a single test of knowledge for knowing receipt. Accordingly, Nourse put forward the following: whether the recipient's state of knowledge made it unconscionable for him to retain the benefit of the receipt. Nourse believed that this formulation should enable the Courts to give "common sense decisions in the commercial context in which claims in knowing receipt are now frequently made".

Conclusion

Applying a single test of knowledge for knowing receipt the Court of Appeal concluded that the Defendant's state of knowledge in 1985 when the agreement was entered into and in 1988 when the shares were re-purchased was not such to make him liable for knowing receipt. Further the Defendant did not have actual constructive knowledge that the receipt of US$16.679m derived from breaches of duty by senior officers of BCCI.