Trustees’ responsibilities and litigation risk in trust product sales

Affected by the economic cycle and many other factors, in 2021, the trust industry faced continual severe challenges. Failure to redeem trust products as scheduled led to investors suing trust companies for non-compliance with fiduciary duties. The sale of trust products prompted litigation on trust companies’ fiduciary duties. Most investors consider trust companies’ failure to perform their risk disclosure obligations as an important example of trust companies improperly performing their duties.

BASIC PERFORMANCE REQUIREMENTS

Under the Measures for the Administration of Trust Companies’ Trust Plans of Assembled Funds, trust companies should adhere to the business philosophies of “know your product” and “know your client” while selling trust products. They should follow the principles of risk matching and prudent compliance, and strengthen the risk rating of trust products to sell investors products that match their risk identification ability and risk tolerance, which are obtained by effectively evaluating their risk tolerance and investment demand. They must not mislead investors.

RISKS INVOLVING LITIGATION

In disputes, investors’ claims about the fiduciary duties of trust companies in the sales stage include but are not limited to:

(1) The trust company entrusts an entity unqualified to promote trust products, or the trust’s promotion is inconsistent with what is written in the trust documents. For example, in Li v Xinhua Trust (2018), Li claimed Xinhua Trust entrusted a natural person who was not qualified to promote the project to recommend the product to him, and there was off-site promotion outside Chongqing, the place of recommendation stated in the trust contract, requiring Xinhua Trust to bear the liability for breach of contract. A court generally holds that, in such a case, the China Banking and Insurance Regulatory Commission (CBIRC) should punish the trust company. If the trust contract does not stipulate the trust company’s default liability for off-site promotion, the investor’s request for the trust company to bear the default liability will not be supported.

(2) The trust company has not fully fulfilled its obligation to examine the qualification of investors. For example, in Mao v Sichuan Trust (2019), Mao requested Sichuan Trust to return the principal and interest, while Sichuan Trust failed to submit sufficient proof of the assessment and identification of Mao’s risk tolerance, risk perception and risk preference. The court held that before investors subscribed to the trust products, the trust company had failed to effectively assess the investors’ risk tolerance and investment demand, and sold mismatched products to investors whose risk identification ability and risk tolerance were lower than the product risk level and, after being sued, the trust company failed to submit evidence it had fulfilled its obligation, such as a trust plan specification and risk statement signed by the investors. Due to a shift in the burden of proof and the litigation, the trust company was to bear the legal consequences of failing to provide evidence, i.e., contracting negligence liability.

(3) Promotion staff fail to introduce trust products to investors in detail and fully reveal the potential risks, explicitly or implicitly promising investors the trust property will not suffer any loss, and promising minimum income or guaranteed repayment of principal and interest. For example, in Chen v CITIC Trust, Chen claimed that during promotion of the trust scheme, CITIC Trust exaggerated the investment value of the project via slogans such as high returns, stable income and government guarantees without providing clear indications or explanations of unstable factors and various risks, which induced investors to make wrong judgements. The court generally holds that a trust company should state the possible risks and put expressions such as “no guaranteed principal and minimum income”, and “the expected rate of return is the potential annualised rate of return, but does not represent the actual annualised rate of return”, in the risk warning documents. Then it can be considered that detailed information has been disclosed and risk-return characteristics revealed.

RISK PREVENTION TIPS

Strictly standardise the trust product promotion entity. Whether a trust company promotes trust products on its own or entrusts a third-party organisation or agency, the qualifications for promotion should conform to the provisions of laws, administrative regulations, departmental rules and other normative documents.

Strictly standardise off-site promotion. A trust company should report to the CBIRC provincial branch where it is registered and consider where to promote the trust plan before promotion. Attention should be paid to whether the promotion place of trust products and the consequences of default are stipulated in the trust documents. A trust company should not violate provisions in the trust documents, otherwise it will be liable for breach of contract.

Strictly standardise the promotion methods. Except for trust products licensed for public offering, other trust products should not be promoted in a manner that violates the principle of private placement, and should not be publicised to unspecified investors through public media (including newspapers, radio, television or the internet), lectures, report meetings, analysis meetings, etc.

Strictly fulfil obligations to manage investors’ suitability. A trust company should thoroughly examine the qualifications of investors with an investor questionnaire survey and risk tolerance assessment to match them to suitable trust products. Keep relevant materials of investors and promotion records for future reference, so the trust company may prove it has fulfilled its obligation of examining the investors, in case of any disputes.

Strictly standardise promotional materials. When promoting trust products, a trust company or promotion agency should: introduce the trust products to investors in detail and fully reveal the risks; not go beyond the promotional materials to make false or exaggerated propaganda; and not promise, or promise in a disguised form, guaranteed principal or return. When signing a trust document with an investor, a trust company or promotion agency should explain the risk warning clauses in the trust document individually, and require investors to sign each clause to prove the trust company has fulfilled its risk warning obligation.

Yao Xiaomin is a partner and Sun Yangyang is an associate at Lantai Partners