Jeremy Hudson and Edward Francis consider when a constructive trust may arise between partners in a joint venture
Question
I run a small development company, A Ltd, which was interested in acquiring a derelict site for residential development. However, A Ltd did not have the funding to proceed alone, so I approached a larger developer, B Ltd, to join in the development on the footing that it would fund the acquisition, A Ltd would carry out the build, and the profits from the development, after B Ltd was reimbursed its funding costs and A Ltd its build costs, would be shared equally. The discussions were conducted on an open basis, but no formal contract was concluded. With the benefit of my introduction, B Ltd entered into negotiations with the vendor and subsequently acquired the site. It then pulled out of the development and sold the site on to another developer at a substantial profit. Does A Ltd have any redress?
Answer
In the absence of any concluded contract to develop the site, A Ltd will be unable to bring a claim against B Ltd for the profits it may have gained from the development. However, B Ltd will be treated in equity as having acquired the site as constructive trustee for itself and A Ltd and will have to account to A Ltd for one half of the profits derived from the resale.
Explanation
Although there was an agreement in principle for the companies to acquire the site, it does not appear that any enforceable contract came into being under which the parties were compelled to proceed with the development, such that B Ltd could now be liable to compensate A Ltd for its disappointed expectations.
However, even in the absence of a binding contract, equity will intervene to impose a constructive trust under the principles set out in Pallant v Morgan [1953] Ch 43. In that case C had refrained from bidding for land at auction to allow D a clear run to bid, on the understanding that, if successful, the land would be divided between C and D under terms to be determined. After D was successful, it was held that D was not entitled to retain the property for his sole benefit; in the light of the agreement, D must be taken to have made his bid on behalf of both parties, and to hold the land on trust for himself and C jointly.
The applicable principles
In Banner Homes Group plc v Luff Developments Ltd [2000] EWCA Civ 3016; [2000] PLSCS 16, Chadwick LJ set out the requirements for a Pallant equity to arise:
(1) An arrangement or understanding must exist between the parties which precedes the acquisition of the relevant property, and which colours the acquisition of the property by one of them.
(2) It is not necessary for the arrangement or understanding to be contractually enforceable.
(3) The arrangement or undertaking should contemplate that one party will take steps to acquire the relevant property, and that, if it does so, the other party will obtain some interest in the property. It is also necessary that the acquiring party has not informed the non-acquiring party before the acquisition that it no longer intends to honour the arrangement or understanding.
(4) In reliance on the arrangement or understanding, the non-acquiring party should do something which confers an advantage on the acquiring party, or is detrimental to the ability of the non-acquiring party to acquire the property on equal terms.
In Baynes Clarke v Corless [2010] EWCA Civ 338; [2010] PLSCS 101, Patten LJ noted that “the key to the imposition of a constructive trust is that it would be unconscionable for the purchasing party to retain ownership of the land for his own benefit having regard to the prior agreement reached and to the claimants’ reliance upon it”. In every case the question is “whether the agreement made or the words used were reasonably relied upon by the claimants as an assurance that they would obtain an interest in the property”. The court must “concentrate on the quality of the assurance given and whether the claimants’ reliance on it was therefore reasonable”.
Two further refinements to the doctrine arose in Kearns Brothers Ltd v Hova Developments Ltd [2012] EWHC 2968 (Ch); [2012] PLSCS 240. There it was held sufficient for the equity to arise that the non-acquiring party (who had introduced the property) had stood back to allow the acquiring party to purchase the land, even though it would not have been in a position itself to acquire the land in its own right. And it was not a prerequisite for a constructive trust that the parties intended that the non-acquiring party should have a proprietary interest in the land itself, rather than just an interest in the profits to be derived from its development.
Trust of the proceeds of sale
These cases demonstrate the flexibility of the constructive trust doctrine to prevent one party unjustly retaining the benefit of property intended for the joint benefit of co-venturers, even where the pre-acquisition arrangements between them were too uncertain or informal to have contractual effect. It is likely that such principles would be applied by the court here for the benefit of A Ltd in holding that B Ltd acquired the site on constructive trust with a view (but without obligation) to it being developed for their joint benefit, and, where such development did not proceed, on terms for equal division of the net profits derived from its resale.
If parties to a prospective joint venture wish to avoid the possibility of a constructive trust being imposed, it is advisable prior to the commencement of any preliminary discussions to state expressly that those discussions are to be “subject to contract”, thus making it clear that the parties reserve the right to withdraw from negotiations prior to any final agreement being concluded: London & Regional Investments v TBI plc [2002] EWCA Civ 355.
Jeremy Hudson is a partner at Charles Russell Speechlys LLP and Edward Francis is a barrister at Enterprise Chambers
• Questions on any topic can be e-mailed to egq&a@enterprisechambers.com and egq&a@charlesrussell.co.uk
