The trustee's equitable duty of care (the "prudent person" test)
263 ASIC submitted that the trustee's equitable duty of care was encapsulated by Finn J in Australian Securities Commission v AS Nominees Limited (1995) 62 FCR 504, 516-518. I will return to that decision below. My discussion of the test for the duty of care commences, as Finn J did, with the observation that it is old and accepted law that in "managing a trust business the trustee should exercise the same care as an ordinary, prudent business person would exercise in conducting that business as if it were his or her own".
264 The "prudent person" test is commonly attributed to the decisions in Speight v Gaunt (1883) 22 Ch D 727 (Bacon VC and, reaching a different conclusion, the Court of Appeal) and Speight v Gaunt (1883) 9 App Cas 1 (House of Lords). But this was not the first application of this standard in the context of acts by trustees. There were numerous earlier applications, including a decision a decade earlier also by Bacon VC in Oriental Commercial Bank v Savin (1873) LR 16 Eq 203, 206. The earliest application of the test in the context of trustees may have been on the other side of the Atlantic, by Putnam J in Harvard College v Amory, 26 Mass (9 Pick) 446, 461 (1830), an approach which was subsequently adopted in legislation or decisions in most United States jurisdictions.
265 The statement of the test was, and is, intended to be flexible. As Heydon and Leeming observe, the standard "changes with economic conditions and contemporary thinking": Heydon JD and Leeming MJ, Jacobs' Law of Trusts in Australia (8th ed, LexisNexis Butterworths Australia, 2016) 356 [17-18].
266 However, there are two difficulties that can arise with the application of the prudent person test.
267 The first difficulty is that this flexible test was often applied in an inflexible manner or by adding glosses such as a need for caution. Many of the early decisions that considered the test in England, Australia, and the United States placed great importance upon the need for caution in trust investment. For instance, in Learoyd v Whiteley (1887) 12 App Cas 727, 733, Lord Watson said:
Business men of ordinary prudence may, and frequently do, select investments which are more or less of a speculative character; but it is the duty of a trustee to confine himself to the class of investments which are permitted by the trust, and likewise to avoid all investments of that class which are attended with hazard.
See also Re Whiteley (1886) 33 Ch D 347, 356-357 (Lindley LJ).
268 This approach was appropriate in an era where the trust was almost invariably used as a concept for preservation of the capital of the settlor, rather than as an investment vehicle. But this requirement for caution is very difficult to apply as a single, undifferentiated test in the context of the use of trusts in an almost infinite variety of businesses and business purposes. As the reporter of the third Restatement of the Law of Trusts, Professor Halbach, observed in The American Law Institute, Restatement of the Law Third, Trusts Vol 3 (American Law Institute, 2007) 288:
Unfortunately, much of the apparent and initially intended generality and adaptability of the prudent-man rule was lost as it was further elaborated in the courts and applied case by case. Decisions dealing with essentially factual issues were accompanied by generalizations understandably intended to offer guidance to other courts and trustees in like situations. These cases were subsequently treated as precedents establishing general rules governing trust investments. Specific case results and flexible principles often thereby became crystallized into specific subrules prescribing the types and characteristics of permissible investments for trustees.
Based on some degree of risk that was abstractly perceived as excessive, broad categories of investments and techniques often came to be classified as "speculative" and thus as imprudent per se. Accordingly, the exercise of care, skill, and caution would be no defense if the property acquired or retained by a trustee, or the strategy pursued for a trust, was characterized as impermissible.
269 The rule in s 90 of the third Restatement of the Law of Trusts now provides for a general standard of prudent investment, but emphasises that the duty is one of a prudent investor "in light of the purposes, terms, distribution requirements, and other circumstances of the trust". Subparagraph (a) also provides that the standard "requires the exercise of reasonable care, skill, and caution, and is to be applied to investments not in isolation but in the context of the trust portfolio and as a part of an overall investment strategy, which should incorporate risk and return objectives reasonably suitable to the trust". This rule is in similar terms to the obligation in s 24(1)(a) of the Trusts Act which permits a trustee, when exercising a power of investment, to take into account "the purposes of the trust and the needs and circumstances of the beneficiaries".
270 One rationale for the emphasis upon the purposes of the trust was described in the Restatement as follows (351):
some trust situations and beneficiary objectives justify more venturesome fiduciary investment policies. Even in these cases of less conservative investment strategy, however, prudent management of others' properties still calls for sound and careful fiduciary behaviour (including "risk management") in carrying out programs that deliberately involve the taking of higher risk in quest of greater return.
271 The short point is that the refrain in the older cases about caution and avoidance of hazard, if read in isolation, suggests a duty which is abstracted from the terms of the trust instrument and the nature of the trust business. But whether an investment is incautious due to its speculative nature, or impermissibly hazardous, may be affected by the terms of the trust instrument. To give a simple example, a trust established for the purposes of speculation, with terms requiring investment in speculative ventures, requires a different assessment of hazard from a trust which requires investment in government bonds. As Gummow J said in Breen v Williams [1996] HCA 57; (1996) 186 CLR 71, 137, describing the obligations of a trustee under a trust instrument to manage a trust business: "the trustee is required both to observe the terms of the trust and, in doing so, to exercise the same care as an ordinary, prudent person of business would exercise in the conduct of that business were it his or her own" (emphasis added).
272 A second difficulty with a single prudent person standard of care is that it does not differentiate between the degrees of skill required by different types of trustee. As ASIC submitted, a more precise approach is that of Finn J in Australian Securities Commission v AS Nominees Limited (517-518):
The standard of trustee care and caution of which I have been speaking so far does not differentiate between types of trustee. It is of general application. That standard, moreover, was settled a century ago and during a period when trust corporations were not used for the trading and investment purposes that are the commonplace in this country today. There is, in my view, a substantial question now to be answered as to whether a higher standard is not to be exacted from at least corporate or professional trustees (a) which hold themselves out as having a special or particular knowledge, skill and experience, and (b) which, directly or indirectly, invite reliance upon themselves by members of the public in virtue of the knowledge, etc, they appear so to have.
In Bartlett v Barclays Trust Co Ltd (No 1) [1980] Ch 515 at 534 Brightman J was prepared to impose such a higher duty of care on a trust corporation:
"a professional corporate trustee is liable for breach of trust if loss is caused to the trust fund because it neglects to exercise the special care and skill which it professes to have."
This decision has been cited with apparent approval, though it was not in terms relied upon, by Gleeson CJ in Gill v Eagle Star Nominees Ltd (unreported, Supreme Court, NSW, Gleeson CJ, 22 September 1993). It is, in its own way, consistent with observations of the Privy Council in the Australian appeal National Trustees Co of Australasia Ltd v General Finance Co of Australasia Ltd [1905] AC 373 at 381, when refusing to excuse a trust company from a breach of trust. There is extensive United States case-law affirming such a higher standard. It is conveniently explained and exemplified in Scott on Trusts, par 174.1; see also Fales v Canada Permanent Trust Co [1977] 2 SCR 302 where the question is recognised but not answered by the Supreme Court of Canada; and see G G Bogert, Law of Trusts and Trustees (2nd revd ed, 1977), par 541.
If it were in fact necessary for me so to do (which it is not), I would be prepared to apply to the trustee companies in these proceedings a standard of care higher than that of the ordinary prudent businessperson.
273 With respect, I agree with these observations.
274 The ultimate foundation of the trustee's duty of care in equity is the trustee's objective assumption or undertaking of responsibility in the trust deed or acceptance of trust duties arising from a declaration of trust. The question is one of construction of all of the circumstances, including the general implication, arising from centuries of custom, that trustees are expected to take care. The foundational concept of assumption of responsibility has a long lineage in the law as the basis for imposition of liability: Swick Nominees Pty Ltd v LeRoi International Inc (No 2) [2015] WASCA 35; (2015) 48 WAR 376, 443-447 [368]-[381]. The recognition of liability on the basis of an assumption of responsibility is not unique to trustees. As long ago as 1964, Lord Devlin said in Hedley Byrne & Co. Ltd v Heller & Partners Ltd [1964] AC 465, 528-529 that there was "ample authority" to justify the statement that "the categories of special relationships which may give rise to a duty to take care in word as well as in deed are not limited to contractual relationships or to relationships of fiduciary duty, but include also relationships… where there is an assumption of responsibility". And in Henderson v Merrett Syndicates Ltd and Ors [1995] 2 AC 145, 205, Lord Browne-Wilkinson said:
The liability of a fiduciary for the negligent transaction of his duties is not a separate head of liability but the paradigm of the general duty to act with care imposed by law on those who take it upon themselves to act for or advise others. Although the historical development of the rules of law and equity have, in the past, caused different labels to be stuck on different manifestations of the duty, in truth the duty of care imposed on bailees, carriers, trustees, directors, agents and others is the same duty: it arises from the circumstances in which the defendants were acting, not from their status or description. It is the fact that they have all assumed responsibility for the property or affairs of others which renders them liable for the careless performance of what they have undertaken to do, not the description of the trade or position which they hold.
(Emphasis added.)
275 Similarly, in Permanent Building Society (in liq) v Wheeler (1994) 11 WAR 187, 247, Ipp J (Malcolm CJ and Seaman J agreeing) explained that "the tortious duty not to be negligent, and the equitable obligation on the part of a trustee to exercise reasonable care and skill are, in content, the same".
276 For this reason, any holding out by a trustee of a special or particular knowledge, skill and experience reflects an assumption of that special degree of responsibility. Again, the question is an objective one which is based upon the circumstances of the trust deed or declaration of trust and the acceptance of the obligation by the trustee.