EXPLAINING THE OBLIGATION OF LOYALTY

DAVID HEMSWORTH

The fiduciary obligation, although an enduring aspect of equitable jurisdiction, remains a

theoretical enigma. Is a theoretical explanation of the fiduciary obligation desirable or even
possible?

I INTRODUCTION

The question of definitive explanation of fiduciary obligations is on that puzzles some

academics. Other academics appear puzzled at the empuzzlement of their colleagues. It may
be concluded, even from this simple dichotomy, that either one set is over-simplifying the
question or the other is over-complicating. An unimpeachable method to employ at such an
intellectual disjuncture is to concede the temporary impossibility of explaining certain
sections of the puzzle and attend to more easily answered questions. In this stepwise way
equitys Great Enigma may be finally solved.

It is not possible, due to the relationship-contingent scope and content of fiduciary

duties, to comprehensively define when and how the duties may be breached or what the
duties in fact entail. However, it may be possible to narrow the types of obligations that
attach to various fiduciary relationships. One of the chief points of contention is whether the
duty is prescriptive or is proscriptive and, in turn, how the scope of the fiduciary obligation
differs from other general law duties. As the purpose of the fiduciary doctrine is to ensure
loyalty to a principal we shall begin our investigation of the fiduciary obligations by
reference to this gold standard. This essay will suggest that the duties owed by fiduciaries are
initially proscriptive though subsidiary positive duties arise in circumstances where
proscriptions have been passed by.

There are certain duties, arising in the context of a fiduciary relationship, which are
not fiduciary duties but which by their context and often lack of constancy they cause a
confusion of the distinction between legal and equitable duties. A simple way to avoid
eliding the distinction is to remember that, while these protean1 duties may arise from time
to time, the central fiduciary duties are, by contrast, stolidly Praetorian. Their proscriptive
nature guards fiduciaries against corrupting influences.
1 RP Meagher & Adrian Moroya, Crypto-Fiduciary Duties (2003) 26(2) UNSW
Law Journal 348.
 II LOYALTY

A fiduciary is a person who is, ostensibly, faithful.2 When a beneficiary enters into a
relationship with a fiduciary they are, quite literally, putting their confidence in the fiduciary.3
The beneficiaries of fiduciary relationships entrust their fiduciaries to act on their behalf in
such a way, or rely on the advice of their fiduciary to such an extent, that they are vulnerable
to having their interests adversely affected by a disloyal fiduciary. The relationship,
therefore, imports a general duty to act loyally.4 This duty is so general that, in reality, it
includes a number of more narrow duties.5 These can be narrowed to an irreducible core of
obligations.6

These were named in Armitage v Nurse, in relation to trustees,7 as duties of honesty

and of good faith.8 Of course, these are still vague notions. It cannot be seen, simply by
observing conduct, whether a person has acted dishonestly or in bad faith. It cannot, still, be
concluded whether a fiduciary has used a power bona fide in the interests of the beneficiary.9
A conclusion as to these standards requires further minute interrogation, lest an illusory

2 Fiduciary (n.): From Latin fidus (adj.) meaning trustworthy or faithful.

3 Confidence (n.): From Latin confidentia (n.) meaning assurance, in turn

from: con- meaning with and fide meaning faith, reliance or trust.

4 The duty of loyalty central to the discussion in conceptions of the fiduciary duty
antithetic to each other: Rebecca Lee, Rethinking the content of
the fiduciary obligation (2009) 3 Conveyancer and Property Lawyer 236; against
Matthew Conaglen, The nature and function of fiduciary loyalty (2005) 121 Law
Quarterly Review 452.

5 See the description by Toohey J of the content of fiduciary obligations in Mabo

v Queensland (No 2) (1992) 175 CLR 1, 204.

6 Armitage v Nurse [1998] Ch 241, 253-254. (Armitage)

7 In modern law, from Keech v Sandford (1726) 25 ER 223; [1558-1774] All ER

230.

8 Armitage, 254.

9 Howard Smith Ltd v Ampol Petroleum Ltd [1974] AC 821; [1974] UKPC 3.
answer be arrived at. This is where Courts look to certain proscribed conducts to determine
whether the prophylaxis10 of the relationship has been appropriately maintained.
Fiduciaries are thus barred from acting on conflicting interests or duties and from profiting
from the fiduciary position.11 The latter is, in many respects, a subset of the former.

These preventative obligations can be breached only by positive, deliberate conduct

on the part of the fiduciary. For reasons of semantic structure, negligence cannot suffice. For
reasons of law, negligence cannot breach a fiduciary relationship.12 [G]ross negligence may
be evidence of mala fides, but it is not the same thing.13

III SPECIFIC DUTIES: ARE THEY PROSCRIPTIVE OR PRESCRIPTIVE?

A The Duties of Care and Diligence: Are They Truly Fiduciary?

Trusteeships and directorships are positions which are (now) always imbued with
fiduciary obligations. The trustee has a duty of reasonable care in relation to trust property
and the director has duties of care and diligence in undertaking work for company. These
duties are owed by fiduciaries and yet are not prohibitive. The obvious case to rebuke the
suggestion of a fiduciary duty of care is Breen v Williams.14 Simply invoking this case,
however, does not explain the fallacy.

10 Green and Clara Pty Ltd v Bestobell Industries Pty Ltd [1982] WAR 1, 20.

11 Matthew Conaglen The nature and function of fiduciary duty (2005) 121 The
Law Quarterly Review 452, 459; See generally: Breen v Williams (1996) 186 CLR
71 (Breen); Bristol & West Building Society v Mothew [1998] Ch 1 (Mothew);
Boardman v Phipps [1967] 2 AC 46; Permanent Building Society (in liq) v
Wheeler (1994) 11 WAR 187 (Wheeler); Norberg v Wynrib [1992] 2 SCR 226
(Norberg).

12 On this point, and more strongly see: Mothew, 17. See generally: Armitage,
254, a case of breach of trust about whether a trustee liability exemption clause
operated in cases of gross negligence.

13 Goodman v Harvey (1836) 4 A&E 870, 876.

14 (1996) 186 CLR 71.

 Nocton v Lord Ashburton15 has been held up as a case demonstrating that equity is
disinterested in the subjective intention of a fiduciary.16 Viscount Haldane LC said at 954:

it is a mistake to suppose that an actual intention to cheat must always be proved.

A man may misconceive the extent of the obligation which a Court of Equity imposes
on him. His fault is that he has violated, however innocently because of his ignorance,
an obligation which he must be taken by the Court to have known, and his conduct has
in that sense always been called fraudulent, even in such a case as a technical fraud on
a power. It was thus that the expression "constructive fraud" came into existence.

It is submitted that using this piece of dicta as holding proof of fraud irrelevant to the
assessment of breach of fiduciary duty is acontextual. The ignorance referred to in the Lord
Chancellors judgment was a solicitors ignorance of his obligations. It was not ignorance of
a set of facts that established his liability. The solicitor had failed to understand that he was
required to prefer the interests of his client when advising him of a transaction in which the
solicitor had a conflicting interest. He was acting outside the bounds of his fiduciary
obligations because he had deliberately preferred however innocently his own interests
ahead of his clients. The solicitor had, at the least, constructive knowledge of his
obligations.17

In any event, if a duty to be careful arose as a result of the fiduciary relationship it

was not a fiduciary duty to be careful. Viscount Haldane LC made it very clear, in
subsequent cases, that as a matter of substance, the duty may arise as a special duty in
relationships not limited to those in Derry v Peak.18 It was be inconsistently formalistic to
consider that because the duty arose out of a relationship which was also fiduciary that its
breach was therefore a breach of fiduciary duty.19 This is especially so considering that the
special duty has developed into the trite tortious duty to take reasonable care to avoid injury
to a neighbour. The fiduciary relationship, in Nocton, is in fact a category of special
15 [1914] AC 932 (Nocton).

16 Glen Anderson, Fiduciary Obligations (2014) Glen Anderson, 31.

17 As in Farah Constructions v Say-Dee (2007) 230 CLR 89, 174-178.

18 Robinson v National Bank of Scotland [1916] UKHL 4 (Viscount Haldane LC).

See how the Lord Chancellors judgment in that case and also his judgment in
Nocton was treated by Lord Devlin in Hedley Byrne & Co Ltd v Heller & Partners
Ltd [1964] AC 465, 523-524 (Hedley Byrne).
relationship for which a duty of care in negligence may be found without recourse to
questions of proximity, as the test then was.20 If an innocent misrepresentation is made
between parties in a fiduciary relationship, it may give a right to claim damages for
negligence.21

More recently, Lord Brown-Wilkinson reasoned in Henderson v Merrett Syndicates

Ltd22 that the duty of care owed by fiduciaries should not have been pleaded as a separate
head of liability from the head of negligence. It was, to him, the same duty as that imposed
on bailees, carriers, trustees, directors, agents and others and it arises from the
circumstances in which the [obligor was] acting, not from their status or description.23 His
lordship, however expressed an understanding that as the tortious duty of care was in part
derived from the fiduciary duty of care, a distinction between the two is irrelevant the
duties are concurrent. This has a ring of truth to it, however it ignores the fact that what
fiduciary duty of care there was has, rightly or wrongly and over time, grown into the body of
tort. In any event, this conception requires rejigging the ratio of Viscount Haldane LC in
Nocton to one which lays out the duty of care as fiduciary. This is not what Nocton did and,
in Hedley Byrne, it was not treated in such a way.

Conceiving fiduciary obligations as breached by mere negligence is to ignore that a

person is not disloyal or unfaithful in making an error. Even gross negligence is distinct from
mala fides.24 This is not to say that an incompetent fiduciary cannot breach a fiduciary duty
by their incompetence. If they hold themselves out to be competent knowing they are to be
required to act beyond their abilities then this would constitute sufficient dishonesty.

19 The duty may, even if not a legal duty, be an equitable one: Permanent
Building Society (in liq) v Wheeler (1994) 11 WAR 187.

20 Hedley Byrne, 530-531.

21 Ibid, 539.

22 [1995] 2 AC 145.

23 Ibid, 205.

24 Goodman v Harvey (1836) 4 A&E 870, 876.

However, [saying] simple carelessness in giving advice is [a breach of duty] is a perversion
of words.25

Rebecca Lee, though opposed to the thought that the proscriptive conflict and profit
rules are exhaustive of the fiduciarys duties, is also wary of conceptualising the duty of care
as fiduciary.26 The lack of disloyalty or bad faith speaks against any wrongdoing within the
fiduciary scope. Negligence does not necessarily entail a failure to act towards the
enhancement of interests of the beneficiary.27 It means simply that the fiduciary did not
attain a result which was in the best interests of the principal. Such a standard is redundant in
the scope of the fiduciary relationship as it is both imperative and sufficient that the fiduciary
act in the sole interests of the principal.

At a functional level this delineation is a blessing. The difficulty in testing best

interests was alluded to by Lord Eldon in Ex parte James.28 His Lordship was clear that it is
not for the Court to weigh whether the assignee acted fairly or in the best interests of the
bankrupt, saying:

whether he has fairly given benefit of that knowledge, to the cestui que trust, which he
always acquires at the expense of the cestui que trust, no Court can discuss with competent
sufficiency or safety to the parties.29
This is a clearly expressed reason why fiduciaries should be proscribed from benefitting from
their position. The detriment of their conduct on the beneficiary, and their contemporary
knowledge of that detriment, is not capable of adequate interrogation by the Courts.

Even if the trustees duty of care is fiduciary, this does not mean that this prescriptive
duty or any such duty is transportable to other fiduciary categories. The trustee is vested
with almost ultimate power regarding property. They are not merely advisors or overseers.
Undertaking to act as a trustee absent competence may well be a sufficiently disloyal act to

25 Girardet v Crease & Co (1987) 11 BCLR 361, 362.

26 Lee, above n 4, 248-252.

27 Ibid, 251.

28 (1803) 8 Ves Jun 338.

29 Ibid, 348-349.
consider a fiduciary breach. However this should still, keeping in mind the proscriptive
duties, be assessed by reference to conflict and profit.

B The Duty of Care is Not Fiduciary Is it Safe to Conclude any Duty that is Not
Proscriptive May be Eliminated as a Fiduciary Duty?

The label of fiduciary duty should not be flung around so as to stick to every breach
of any duty committed by a person occupying a fiduciary position.30 The proscriptive rules
are a sensible way of fencing the discourse around the essential feature of the relationship. A
good way of understanding the importance of the proscriptive rules is to view the
performance of them as protecting the obligation of loyalty and also as having been moulded
by that same obligation. Determining whether a fiduciary was disloyal would be impossible
without reference to these standards. However, cases occasionally arise where these
proscriptive duties are, apparently, ineffective.

A fiduciary, if the proscriptions were the final word on the duties of the fiduciary,
would avoid fiduciary liability simply by doing nothing. They may of course be liable in
contract or tort, but not under fiduciary law with a narrow proscriptive approach. A fiduciary
who undertakes to do something does not breach their fiduciary duty by a direct refusal to do
it? This, of course, sounds ludicrous. That is, until it is understood that while it is not, per se,
a fiduciary wrong not to act the failure may readily be seen to be fraudulent.31

What of the fiduciary who becomes conflicted but does not act to advance the
interests of the other party or who in fact resigns from their duties with the other party?32
Surely they cannot be said to have acted disloyally merely by finding themselves in an
awkward position. The courts, of course, take an equitable approach. Being in a position of
conflict brings a duty to confess the conflict. This confession then narrows the scope of the
fiduciary relationship so the principal is not open to be harmed by the conflict. The duty to
confess does not arise before a breach of the proscriptions is at least nascent.33 Even then, the

30 Girardet v Crease & Co (1987) 11 BCLR 361, 362.

31 Nocton, 965.

32 For instance the solicitor who is the solicitor for two parties who have come
into disagreement.
conflict may not be avoidable and so a further duty arises a fiduciary duty of care to avoid
an inference of acting for an improper purpose.34

There are occasions when a positive non-fiduciary duty is breached that an incidental
breach of fiduciary duty will occur.35 For instance, if a fiduciary falls short of their legal duty
of care or fails to take action which they are required to take under the terms of their
contractual agreement it would be unfaithful of them to accept payment for that inaction.
They come, then, under a positive duty to account. A would-be wrong can be prevented such
as where trustees appoint themselves directors of a company under a power and neglect to
account for receipt of directors fees.36 They will of course receive an allowance for their
effort if the breach is not dishonest. Similarly, where an honest solicitor to a trust saves a
company partly owned by the trust by buying a majority shareholding, the solicitor will be
ordered to account for the profit he received from owning the shares but will be allowed an
allowance not only for effort but also for risk.37 This indicates that even if a dishonest breach
cannot be found equity will ensure the parties transact in a balanced way. In this way the
declaration preserves loyalty as it ought to have been.

Lord Eldon in Ex parte James opened his analysis by stating that a trustee38 is bound
by his duty to acquire all the knowledge possible to enable him to sell at the utmost

33 P & V Industries Pty Ltd v Anthony Porto [2006] VSC 131; 14 VR 1; cf Item
Software (UK) Ltd v Fassihi [2004] EWCA (Civ) 1244 (Fassihi). The Victorian
decision derides Fassihi for its failure to consider Commonwealth decisions
countering the judgment. Arden LJ did not differentiate between fiduciary and
non-fiduciary duties and considered that a breach of loyalty and good faith was a
fiduciary breach. This is, with respect, correct though it would appear safer to
analyse such a statement by reference to the proscriptive rules.

34 Teck Corp Ltd v Millar (1972) 33 DLR 288, 315-316; and, more generally,
Mothew, 19.

35 RP Meagher & Adrian Moroya, Crypto-Fiduciary Duties (2003) 26(2) UNSW

Law Journal 348, 351.

36 Re Macadam; Dallow v Codd [1946] Ch 43.

37 Boardman v Phipps [1967] 2 AC 46.

38 The term trustee is used interchangeably with assignee in this case.

advantage for the beneficiary.39 This is a prescription of action on the part of the trustee but,
arguably, this arises as a result of the particular relationship. It is conduct necessary to keep
the relationship viable. The fiduciary obligation is not to misuse power accruing from
conduct in the relationship.

Finding a relationship by reference only to whether the relationship has proscriptive

duties or not is putting too much value on the pro/pre-scription distinction.40 It is submitted
that it is correct for the courts to read the proscriptive duties in a broad sense and allow
prescriptive duties to coexist, so far as they go toward the rectification of nascent proscriptive
breaches.

39 Ex parte James (1803) 8 Ves Jun 338, 348.

40 See Breen v Williams (1996) 186 CLR 71.

 IV CONCLUSION: DESIRABILITY AND POSSIBILITY

It has been demonstrated above that it is possible to narrow what is considered a

fiduciary obligation if one considers the proscriptive duties as gate-keeping elements which
can be applied to a wide range of conduct and which beget prescriptive duties upon
satisfaction of a proscriptive element. All of these duties are to be conceived of in relation to
the overriding obligation of loyalty. Reading widely the proscriptive approach prevents courts
resorting to introducing fact-specific duties.41 This is important to the integrity of the
equitable principle and the legal system at large.

Refining when breaches of duty will be considered fiduciary in nature is important

to allow people acting in such positions to accurately know their obligations. Deterrence is a
moot point in fiduciary law if the actors do not realise they are to be deterred.42

Before extending the fiduciary duty to novel categories43 it is necessary to have a

comprehensive understanding of, and agreement over, the provenance of the doctrine.
[I]diosyncratic notions of fairness and justice44 cannot be the drivers of change. Principled
development by analogy is only available after the conceptual foundation is properly
understood.45 This is especially so in a jurisdiction which tends to find a relationship
rightly or wrongly by consideration of the types of duties owed.46

The conflations of negligence and fiduciary standards seem to have resulted in a drift
towards allowing damages, with a penal ambit, for breach of fiduciary duty.47 Without
expressing an opinion on this, other than concern for fair pleading, it must be said that the
41 See Lee, above n 4, 236; Fact-specific duties as in Fassihi.

42 Paul B Miller, Multiple Loyalties and the Conflicted Fiduciary (2014) 40(1)
Queens Law Journal 301, 323.

43 This phraseology is used with hesitation. All fiduciary relationships are to be

found by reference to themselves and not by reference to category.

44 Muschinski v Dodds (1985) 160 CLR 583, 615 per Deane J.

45 Ibid, 615.

46 See Breen; and also Hospital Products Ltd v United States Surgical Corp
(1984) 156 CLR 41.
trend speaks volumes for the need to establish an enclosing definition of what is fiduciary. In
Gerula v Flores48 Weiler JA was careful to award punitive damages on the basis of a tortious
breach even though the conduct also breached fiduciary duty. This, it is respectfully
submitted, is an appropriately cautious approach which demonstrates respect for the
distinction between doctrines and the distinction between the types of duties owed by persons
in fiduciary positions. The easiest path is to resort to proscriptive norms which, when
breached, create further duties which may be prescriptive but which are, nonetheless,
subsidiary.

47 Harris v Digital Pulse Pty Ltd (2003) 56 NSWLR 298; Norberg v Wynrib [1992]
2 SCR 226.

48 [1995] 126 DLR 507.

 BIBLIOGRAPHY

Articles/Books/Reports

Conaglen, Matthew, The nature and function of fiduciary loyalty (2005) 121 Law Quarterly
Review 452

Edelman, J, Directors and Fiduciary Duties: The story of Nocton v Lord Ashburton (Speech,
23 May 2012, Corporate Counsel Day: Australian Corporate Lawyers Association, WA
Division)

Gregory, William A, The Fiduciary Duty of Care: A perversion of words (2005) 38 Akron
Law Review 181

Ho, Lusina & Pey-Woan Lee, A Directors Duty to Confess: A matter of good faith? (2007)
66(2) Cambridge Law Journal 348

Jensen, D Prescription and Proscription in Fiduciary Obligations (2010) 21 Kings Law

Journal 333

Lee, R In Search of the Nature and Function of Fiduciary Loyalty: Some Observations on
Conaglens Analysis (2007) 27 Oxford Journal of Legal Studies 327

Meagher, RP & Adrian Maroya, Crypto-Fiduciary Duties (2003) 26(2) University of New
South Wales Law Journal 238

Meagher, RP, JD Heydon & MJ Leeming, Meagher, Gummow and Lehanes Equity:
Doctrines and Remedies, (Butterworths LexisNexis Australia, 2002)

Miller, Paul B , Multiple Loyalties and the Conflicted Fiduciary (2014) 40(1) Queens Law
Journal 301

Cases

Boardman v Phipps [1967] 2 AC 46; [1966] 3 All ER 721

Breen v Williams (1996) 186 CLR 71

Brickenden v London Loan and Savings Co [1934] 3 DLR 465

Bristol & West Building Society v Mothew [1998] Ch 1; [1996] 4 All ER 698
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Green and Clara Pty Ltd v Bestobell Industries Pty Ltd [1982] WAR 1

Daniels v Anderson (1995) 37 NSWLR 438

Farah Constructions v Say-Dee (2007) 230 CLR 89

Harris v Digital Pulse Pty Ltd (2003) 56 NSWLR 298

Henderson v Merrett Syndicates Ltd [1995] 2 AC 145; [1994] 3 All ER 506

Hill v Church of Scientology of Toronto [1995] 2 SCR 1130

Howard Smith Ltd v Ampol Petroleum Ltd [1974] AC 821; [1974] UKPC 3

Item Software (UK) Ltd v Fassihi [2004] EWCA (Civ) 1244

Mabo v Queensland (No 2) (1992) 175 CLR 1

Nocton v Lord Ashburton [1914] AC 932

Norberg v Wynrib [1992] 2 SCR 226

P & V Industries Pty Ltd v Anthony Porto [2006] VSC 131; 14 VR 1

Phipps v Boardman [1965] Ch 992

Re Macadam; Dallow v Codd [1946] Ch 73