Constructive Trusts from Contracts, Transfers and Creditor Arrangements (Sections 86, 87 and 91 to 93)

The remaining constructive obligations in Chapter IX arise from contracts and transfers. A person who receives property under a contract that can be rescinded, a debtor who becomes his creditor's representative, a buyer who takes property knowing of another's contract to buy it, a person who buys property he has agreed to hold on trust, and a creditor who secretly obtains a better deal than his fellow creditors are all made to hold what they receive for the persons truly entitled. This note covers Sections 86, 87, 91, 92 and 93.

1. Transfer under a Rescindable Contract (Section 86)

Section 86, Indian Trusts Act, 1882 (transfer pursuant to rescindable contract)

Where property is transferred in pursuance of a contract which is liable to rescission or induced by fraud or mistake, the transferee must, on receiving notice to that effect, hold the property for the benefit of the transferor, subject to repayment by the latter of the consideration actually paid.

Where a transfer is made under a contract that is voidable (for example for coercion, undue influence, fraud or misrepresentation under Sections 19 and 19A of the Indian Contract Act) or that was induced by fraud or mistake, the transferor may elect to rescind. Section 86 gives that election proprietary force:

Trigger: the obligation arises when the transferee receives notice that the transferor treats the contract as rescinded.
Effect: from then on the transferee holds the property for the transferor, and must not deal with it inconsistently.
Condition: the transferor must repay the consideration actually paid. Rescission restores both parties, not just one.
Limit: a bona fide purchaser for value who acquired the property before rescission is protected (Section 96).

2. Debtor Becoming Creditor's Representative (Section 87)

Section 87 (debtor becoming creditor's representative)

Where a debtor becomes the executor or other legal representative of his creditor, he must hold the debt for the benefit of the persons interested therein.

Under older common law rules, appointing a debtor as executor could extinguish the debt, because a person cannot sue himself. Section 87 prevents that result. A debtor who becomes his creditor's executor or administrator holds the debt as an asset of the estate for the heirs, legatees and creditors interested in it. He must account for it just as he would for any other estate asset.

3. Property Acquired with Notice of an Existing Contract (Section 91)

Section 91 (property acquired with notice of existing contract)

Where a person acquires property with notice that another person has entered into an existing contract affecting that property, of which specific performance could be enforced, the former must hold the property for the benefit of the latter to the extent necessary to give effect to the contract.

Section 91 protects a person who has a specifically enforceable contract relating to property against a later purchaser who knows of it. If A agrees to sell land to B, and C, knowing of the agreement, buys the land from A, C holds the land for B to the extent necessary to give effect to B's contract. Three conditions apply:

an existing contract affecting the property;
the contract is one of which specific performance could be enforced (so a contract that is unenforceable, time barred or outside the Specific Relief Act's scope does not qualify); and
the later acquirer has notice of the contract, actual or constructive (Section 3).

The section works alongside Section 19(b) of the Specific Relief Act, 1963, under which specific performance may be enforced against a subsequent transferee except one who paid money in good faith without notice of the original contract, and Section 40 of the Transfer of Property Act, which makes an obligation arising out of a contract and annexed to the ownership of land enforceable against a transferee with notice or without consideration.

4. Purchase by a Person Contracting to Hold on Trust (Section 92)

Section 92 (purchase by person contracting to buy property to be held on trust)

Where a person contracts to buy property to be held on trust for certain beneficiaries and buys the property accordingly, he must hold the property for their benefit to the extent necessary to give effect to the contract.

Where a person has contracted to buy property and hold it on trust for others, and then buys it, he cannot claim it as his own. The obligation arises from the contract and the purchase, even if he never executed a formal declaration of trust. It is a safeguard against a person who uses another's money or an agreed arrangement to buy property and then denies the trust.

5. Secret Advantage of a Compounding Creditor (Section 93)

Section 93 (advantage secretly gained by one of several compounding creditors)

Where creditors compound the debts due to them, and one of such creditors, by a secret arrangement with the debtor, gains an undue advantage over his co-creditors, he must hold for the benefit of such creditors the advantage so gained.

When creditors agree to a composition, each accepting a proportion of what he is owed, they act on the understanding that all are treated alike. A creditor who secretly obtains a better deal from the debtor breaks that understanding. Section 93 makes him hold the undue advantage for the other creditors, so that the equality on which the composition rested is restored. The principle reflects the pari passu treatment of creditors that also underlies modern insolvency law.

6. Comparing the Constructive Obligations

Section	Who is bound	In whose favour	Key condition
86	Transferee under a voidable contract	Transferor	Notice of rescission; repayment of consideration
87	Debtor who becomes creditor's representative	Persons interested in the estate	None beyond the appointment
88	Fiduciary	Person he must protect	Advantage from position or conflicting dealings
89	Person gaining by undue influence	Person prejudiced	No consideration, or notice
90	Qualified owner	All persons interested	Advantage from position; cost sharing
91	Acquirer of property	Prior contracting party	Notice; specifically enforceable contract
92	Buyer who contracted to hold on trust	Intended beneficiaries	Contract and purchase
93	Secretly advantaged creditor	Co-creditors	Composition; secret undue advantage

⚠ Key point

A transferee under a contract liable to rescission or induced by fraud or mistake holds for the transferor once he has notice, subject to repayment of the price (Section 86). A debtor who becomes his creditor's executor or representative holds the debt for those interested (Section 87). A person who acquires property with notice of an existing specifically enforceable contract affecting it holds it for the contracting party to the extent needed (Section 91). A person who contracts to buy property to be held on trust and buys it holds for the beneficiaries (Section 92). A compounding creditor who secretly gains an undue advantage holds it for his co-creditors (Section 93). Bona fide purchasers for value are protected throughout (Section 96).

7. Related Topics and Provisions

Obligations in the nature of trusts (Topic 32): Sections 80, 95 and 96
Constructive trusts from a fiduciary position (Topic 35): Sections 88 to 90
Key definitions (Topic 4): notice under Section 3
Trust distinguished from contract (Topic 55)