With an ageing population and many business owners continuing to work for longer, issues of capacity are becoming increasingly prevalent and problematic. 

Well-advised clients will have enduring powers of attorney (EPAs) in place, which permit an appointed attorney(s) to step into the donor’s shoes to make decisions regarding their financial matters, as well as their health and wellbeing. However, EPAs alone are not a complete solution. Where clients are trustees or appointors of one or more trusts, a more holistic approach is required.   

Trusts and incapacity: The issue

EPAs give authority to the appointed attorney(s) to deal with the donor’s personally held property. They do not give the attorney authority to deal with property held by the donor as trustee. 

A trustee may delegate their functions as trustee to another suitable person by deed pursuant to the Trusts Act 2019 (the Act). However, a delegate’s authority is limited to the following circumstances: 

(a)    where the trustee is absent from New Zealand; 
(b)    where there is a temporary inability to contact the trustee;
(c)    where the trustee is suffering from a temporary physical incapability; or
(d)    where the trustee suffers a temporary lack of capacity to perform the functions of a trustee. 

A delegate is unable to act in circumstances where the trustee is not expected to regain capacity to act.

There is no automatic consequence of a trustee losing capacity under New Zealand law. However, the Act compels the person holding the power of appointment and removal of trustees to exercise their powers to remove the incapacitated trustee. This gives rise to two questions: 

(a)    when does a trustee become incapacitated? 
(b)    what if the person holding the power to appoint and remove trustees is the incapacitated person? 

When does a trustee become incapacitated? 

Unlike some other jurisdictions, there is no definitive test of capacity under New Zealand law. Instead, a person’s capacity to make decisions is judged in relation to the particular decision or transaction at issue. Where there are concerns about a person’s capacity, typically an appropriately qualified health practitioner will be engaged to assess the person’s capacity to understand the nature and effects of the relevant decision. 

Where possible capacity issues are identified early, the trustee could be asked to retire as a trustee. The decision to retire requires capacity like any other decision, although the level of capacity required to understand the nature and effects of retirement should not be a high one. Notably, an attorney under an EPA is unable to resign a trusteeship on behalf of a donor.

The difficulty is that whether or not an individual has capacity is rarely black and white. Often an individual’s capacity deteriorates over time, and even fluctuates from day to day (or even within a day). As capacity is tested against a particular decision to be made, a person may be capable of making simple trustee decisions, but not more complex ones weighing multiple considerations. The fiduciary nature of a trustee role means that if there are concerns about a trustee’s capacity to make any decision which would be expected in the usual course of the trusteeship, removal should be considered.

It is becoming more common for trust deeds to set out how the mental capacity of a trustee is determined, and to provide for the automatic removal of a trustee that has lost capacity. This can provide some clarity as to the process to be followed. 

Where a trustee is not automatically removed by operation of the trust deed, the Act now compels the holder of the power of appointment and removal of trustees to exercise their powers to remove the incapacitated trustee. A failure to act by the appointor could result in the appointor becoming liable to the beneficiaries for any resulting loss to the trust fund. 

What if the person holding the power to appoint and remove trustees is incapacitated? 

It is common for settlors of New Zealand trusts to hold office as trustee and as an appointor. If that person’s capacity deteriorates, it can be a very difficult and sensitive situation for the co-trustees.  

Modern trust deeds typically provide for powers of appointment and removal of trustees to pass to others in the event of incapacity. If there is no such provision in the deed, then the Act provides a statutory back up - providing that the remaining trustees are empowered to remove a trustee and appoint a replacement where no appointor can act under the trust deed. 

Where the powers to remove a trustee under the Act are invoked, the Act requires that notice of the removal be served on the trustee being removed, even if the trustee is incapacitated. However, notice is not required if the incapacitated trustee has had property managers appointed in respect of his or her affairs under section 31 of the Protection of Personal and Property Rights Act 1988.

A removal under the Act is not effective until 20 days following service of the notice (within which period the removed trustee can oppose the removal). The implication is that until such time as the removal takes effect, the trustees are unable to validly progress trustee decision making as the incapacitated trustee remains in office and subject to the duties and obligations of a trustee. 

The Act also empowers the court to make orders to appoint and remove trustees if it considers it “necessary or desirable” to do so, and “difficult or impracticable” to do so without the court’s assistance.   

The Act also includes some helpful provisions to facilitate the vesting of assets in the new trustees where incapacitated trustees have been removed from office and are therefore unable to validly sign transfer documents. 

How can trustees prevent these issues arising?

The failure to remove an incapacitated trustee can have serious implications. Valid trustee decisions require active deliberation and participation by all trustees - even if the trust deed permits the trustees to pass those decisions by majority. As an incapacitated trustee cannot validly participate in decision making, any trustee decisions made can be invalidated. 

In addition, an incapacitated trustee remains bound by the duties and obligations of a trustee, including the potential liabilities if those duties and obligations are not fulfilled. 

Issues of capacity can give rise to complex issues and there are often sensitivities and questions of timing. Settlors and trustees can take steps to prevent these issues arising by: 

(a)    including appropriate provisions in the trust deed to provide greater clarity as to the timing and process to address these issues. 
(b)    addressing issues of trustee or appointor capacity at an early stage to protect the interests of the beneficiaries and the affected trustee, and to ensure continuity and validity in trustee decision making.  

This article was co-authored by Oscar England, a solicitor in our Corporate and Commercial team.