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Graeme Fraser and Stephen Morrall discuss the treatment of joint investments in Family Law Journal

  • May 06, 2016
  • By Hunters Law

This article was originally published in Family Law Journal

COHABITANTS: An unequal partnership?

Graeme Fraser and Stephen Morrall consider the treatment of joint investments in properties and businesses by a cohabiting couple

The volatile stock market, high property prices, and a lack of new house building have made property ownership very attractive.  Low interest rates have made investments in property very accessible.  Many unmarried couples are pooling their resources to set up businesses and to buy properties both to live in or as an investment. This article examines, using a case study, the position of an unmarried couple who have purchased property and established a business together, but whose relationship then breaks down.

Case Study – the facts

Jack and Olivia became friends nine years ago while sharing a house in London owned by Olivia’s mother.  Olivia had a well-paid job in the City and Jack took on various jobs, trying to find his niche.  When Olivia’s mother died, Olivia inherited the London house and six rental properties in Manchester, none of which were mortgaged.  Anxious about the uncertainties caused by the 2008 banking crisis, on Jack’s advice, Olivia decided not to sell the London house but to convert it into flats, one of which they would occupy and the rest of which would be let.  Jack spent six months and some of his own money converting the house into flats which increased its value four-fold.  The rental income from all of the properties is paid into an account in Olivia’s sole name.

Jack was a keen amateur cyclist, and inspired by Great Britain’s performance during the Beijing Olympics, he set up a cycle shop in London at nearby premises called ‘Jack’s Cycles’.  He had no capital of his own but, after Olivia’s mother died, he and Olivia were living together in an established relationship, and she agreed to provide him £100,000 towards his set up costs.  They never discussed whether this was by way of a loan or a capital investment in the business but Olivia had to mortgage the London house to raise the money.  While she did not regard it as a gift, she did not expect to be repaid any time soon.  Jack borrowed a further £50,000 (being the balance of the capital he needed) from the bank as a personal loan.  Olivia helped Jack out in the shop at weekends.  Jack’s Cycles did well and, a year later, Jack and Olivia purchased the shop’s freehold premises using the retained profits of the business and some of the income Olivia had saved from her properties.  The freehold was registered in joint names.

Jack needed warehouse space for Jack’s Cycles and found suitable premises in Manchester.  The warehouse was purchased for £300,000 and was registered in joint names. However, to finance it, Olivia had to raise £150,000 by mortgaging two of her other properties in Manchester.  The remaining £150,000 was paid out of the credit balance on the bank account that Jack had set up in his sole name for Jack’s Cycles.

By mutual understanding, the profits from the business were paid into a joint account used by Jack and Olivia to fund their lifestyle.  Jack’s Cycles, which was unincorporated, is now highly successful.  In the course of reviewing the financial records of the business, Olivia discovered that over time Jack had paid £1.3 million into an overseas account, for reasons which he could not explain. Their personal relationship has however now broken down and Olivia has thrown Jack out of their home.

The problem

As Jacobs LJ stated in the Court of Appeal decision of Kernott v Jones [2010] (at para [90]):

‘In reality human emotional relationships simply do not operate as if they were commercial contracts and it is idle to wish that they did.’ 

The number of cohabiting couples who are not married or in a civil partnership has increased by 30% in the past 10 years to 3.2 million (Financial Times, 17 February 2016). Half the population still believes that an unmarried couple is treated the same by the law as a married couple when a relationship breaks down (The Economist, 16 January 2016).  Common law marriage is a myth.  People in unmarried relationships in England have no legal protection on a break-up if they have not agreed how their assets are held.  Where substantial assets are involved they should take informed legal advice on their domestic and commercial relations.  Because Jack and Olivia’s relationship was based on love and trust, they did not enter into any formal – or even informal – agreements about their respective rights and obligations in relation to Jack’s Cycles, or the commercial and the residential properties, should their relationship fail.

How will Jack and Olivia resolve their situation?

The substantive body of family law premised upon resolving financial arrangements using principles of fairness to help those who have married or entered civil partnerships does not apply to those who have neither married nor entered into a civil partnership. Cohabiting couples must rely instead on general principles of trust and property law.

It is trite law that a legal interest in land must be created or disposed of in writing signed by the person creating or conveying the same, or by will, or by operation of law (per s53(1), Law of Property Act 1925 (LPA 1925)). However, equitable interests in land can arise either expressly, or as a result of the conduct or intentions of the parties which the courts will recognise as capable of creating a resulting trust or a constructive trust (per s53(2), LPA 1925 –  the exception extends to interests created by proprietary or promissory estoppel, which are not discussed in this article).   A resulting trust is a type of trust that is imposed by law. It returns the beneficial ownership in the trust property back to the settlor.  It can also arise where parties have each contributed financially to a property. A constructive trust is a trust that arises by operation of law where it would be unconscionable for a person who holds an asset to deny the beneficial interest of another person in the asset, eg where parties share a common intention that one should have a beneficial interest in an asset owned by the other, and the first has acted to his detriment on the basis of that intention. This is known as a common intention constructive trust.

Jack and Olivia have not entered into any express agreements and will have to fall back onto equitable principles to determine what interests they have in the various properties they have acquired together.  The starting point is the maxim that ‘equity follows the law’, ie that the equitable interests are the same as the legal interests.  If that were so, Olivia would be entitled to keep all the properties she inherited in London and Manchester and claim a half share in the commercial properties purchased for the cycle business.  However, her position is not that simple.

Domestic property

In Stack v Dowden [2007] a cohabiting couple purchased a house in joint names, funded by a joint mortgage as to part of the purchase price,  and otherwise by, first,  the proceeds of sale of their previous home which had been registered in Ms Dowden’s sole name and, secondly, some savings taken from her sole account.  The trial judge found that Mr Stack had done work on the previous home, and that the savings were in fact joint savings.  He decided that they held the house as tenants in common in equal shares, and ordered a sale.

The case ultimately went to the House of Lords which decided that, in a domestic context, the starting point, however the property is held, is to determine the beneficial ownership. Where property is held in joint names, the court considers not only the extent of the parties’ beneficial interests but also whether they intended their beneficial interests to be different from their legal interests.

The courts treat properties used as family homes and investment properties differently and are much more inclined to find a common interest constructive trust in relation to a family home, occupied by the family.  However, the law is complex and this approach only applies in a narrow set of circumstances.

In Jones v Kernott [2009], which developed the principles of Stack v Dowden, an unmarried couple had bought their family property in joint names and had made different financial and practical contributions to the property and the relationship.  In a joint judgment, Lady Hale and Lord Walker confirmed that, where a property is held in joint names, there is a presumption that equity follows the law and that they are joint tenants both in law and equity. This presumption can however be displaced. Where either the parties did not intend a joint tenancy at the outset, or had changed their original intention, but where it is not possible to ascertain by direct evidence or by inference their actual intention as to their respective property ownership shares, a court will have to decide what share each is fairly entitled to having regard to the whole course of dealing between them in relation to the property.

Where a property is held by one party only, however, there is a presumption that the legal owner is also the beneficial owner.  For the other party to be able to establish a beneficial interest, he or she must be able to demonstrate that the couple had a different common intention which the court can deduce from their conduct.

Accordingly, as the London flat that Jack and Olivia occupied and the rental properties have remained in Olivia’s sole name, Jack faces an uphill struggle to obtain any share.  He will be able to show he made direct financial contributions, such as paying the mortgages and the costs of a conversion, but he must also show there was a common intention that he should acquire a beneficial interest in those properties.  Following Jones v Kernott, Jack should argue that a constructive trust has arisen in his favour in relation to the flat they occupied at least in proportion to the financial contribution he made towards its conversion.  He may be able to justify a greater share if he can show evidence that he and Olivia actually intended that, and if they are in dispute, the court will determine their respective shares, by what it considers fair, having regard to the whole course of dealing. It may be possible to impute an intention to Jack and Olivia as they were domestic partners and Jack invested in the family home – but the courts have difficulty doing this. Do note that the outcome might be different if this couple had children, whose financial needs might also have to be considered under Schedule 1 to the Children Act 1989.

Investment property for commercial use

In resolving any dispute regarding their ownership of the investment properties used for Jack’s Cycles’ business, the starting point will be to take a strict resulting trust approach and determine Jack’s and Olivia’s shares by reference to their respective financial contributions towards the acquisition of the properties.

In Laskar v Laskar [2008] an investment property was purchased by family members.  The court concluded that, despite the family relationship, the investment was commercial and a resulting trust analysis should apply, awarding interests in the property strictly in proportion to the parties’ respective financial contributions.  Following this, Olivia’s and Jack’s interests in the commercial properties used by Jack’s Cycles will be determined by reference to the financial contributions each has made towards their acquisition and upkeep.

As Lord Neuberger stated in Laskar (at para 17):

To my mind it would not be right to apply the reasoning in Stack v Dowden to such a case as this, where the parties primarily purchased the property as an investment for rental income and capital appreciation, even where their relationship is a familial one.’

Friends cohabiting

If the relationship had broken down at a stage when Jack and Olivia were platonic friends rather than cohabitants the court may, following the decision in Gallarotti v Sebastianelli [2010] be more likely to adopt a resulting trust approach in relation to the flat which they shared, and award shares to each of them in proportion to their respective financial contribution.  If evidence of a contrary intention were available, the court might find that a common intention constructive trust had arisen.  In Gallarotti two friends had bought a flat together.  Each had made a financial contribution though it was registered in the sole name of Mr Sebastianelli.  On the basis of the parties’ conduct, the court was able to find evidence of a common intention and award him a 75% interest on the basis of a constructive trust.

Partnership considerations

In addition to the property considerations, we should also analyse whether Jack and Olivia had established a partnership in relation to Jack Cycles, as their course of dealing has the hallmarks of a partnership under the Partnership Act 1890.  This might affect their interests in the two commercial properties that they acquired together as well as the other assets of the business such as, arguably, the offshore bank account.

In any case, both Jack and Olivia have contributed financially to the commercial properties, and, if they are not partnership assets which are shared under any partnership agreement or through principles of partnership law, a court is likely to find a resulting trust in which the beneficial interests reflect the respective financial contributions.

Put it in writing!

As can be seen from the case law, if a cohabiting couple do not agree expressly how to treat commonly held or used assets, it can be very difficult to determine their respective interests.  Jack and Olivia can regulate their affairs at any time before, during or even after the end of their relationship through legally enforceable agreements.  When they became an established couple, they could have entered into a cohabitation agreement which regulated their financial affairs and dealt with their rights and obligations in relation to the various properties.

When Jack’s Cycles was set up a simple partnership agreement would have put beyond doubt the existence and terms of their business relationship.  If they had incorporated Jack’s Cycles, their rights and duties as shareholders and directors would have been regulated in the articles of association and, possibly, a private shareholders agreement.  Incorporation has the added advantage of limited liability as well as being more tax efficient.  Now that they have fallen out, they could negotiate a separation agreement formalising the settlement reached, either amicably or in settlement of court proceedings.

Even if Jack and Olivia had not bothered with formal agreements, their respective beneficial titles to the properties they have acquired together could have been regulated on the property forms they signed:  since April 2008, all conveyances into joint names must be done using form TR1 which contains a declaration of trust section.  It is not obligatory to complete it but it is obviously desirable.  Furthermore, since October 2012, co-owners of property can complete a separate form JO which sets out their beneficial interests in the property.  Either way, had they used one of these forms, they would have avoided the uncertainty that now exists between them.

Conclusion

Most relationships are based on love and trust.  Where a cohabiting couple are not married, their legal rights in relation to each other are fewer and more difficult to determine than for a married couple.  If they acquire assets together or one contributes financially or in another way to the other’s assets, there are no clear legal rules to reflect their respective interests and they should record their intentions in legally binding agreements which can be used to clarify their financial entitlements from their relationship if it breaks down.  The common law rules developed in the cases referred to above are difficult to apply in practice and, if the parties have to go to court to resolve their differences, the outcome is uncertain.

Where there has been no agreement, the lack of a specific family based remedy for cohabitants can lead to hardship and vulnerability, as their situation will not necessarily be fairly addressed by the general law. The Cohabitation Rights Bill, currently going through Parliament, provides for protection for those who live in England and Wales as a couple or have lived together as a couple. Without the government’s support, this Bill may not get much further, but it is to be hoped that safety net legislation will emerge which requires the financial burden of relationship breakdown to be borne by whichever partner has the financial means to do so.

Graeme Fraser & Stephen Morrall

Hunters incorporating May, May & Merrimans

Cases

Kernott v Jones [2010] EWCA Civ 578

Stack v Dowden [2007] UKHL 17

Jones v Kernott [2009] EWHC 1713 (Ch)

Laskar v Laskar [2008] EWCA Civ 347

Gallarotti v Sebastianelli [2012] EWCA Civ 865

[pdf height=”1200px”] http://www.hunters-solicitors.co.uk/wp-content/uploads/2016/05/Hunters-Asset-Diagram.pdf [/pdf]

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