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Insolvency - CCAA II

. Urbancorp Toronto Management Inc. (Re)

In Urbancorp Toronto Management Inc. (Re) (Ont CA, 2022) the Court of Appeal considered the anti-deprivation rule:
[36] As to the first proposed ground of appeal, we do not accept the moving party’s submission that the Supervising Judge erred in his application of Chandos. It bears noting, as the Supreme Court did, that the anti-deprivation rule has relatively ancient roots in Canadian law, dating to Watson v. Mason (1876), 22 Gr. 574 (Ont. C.A.) and Hobbs v. The Ontario Loan and Debenture Co., (1890) 1890 CanLII 10 (SCC), 18 S.C.R. 483. The rule was referred to by Blair J., as he then was, in Canadian Imperial Bank of Commerce v. Bramalea Inc. (1995), 1995 CanLII 7262 (ON SC), 33 O.R. (3d) 692 (Gen. Div.), in which he adopted the following summary of the rule, at p. 694:
A provision in an agreement which provides that upon an insolvency, value is removed from the reach of the insolvent person’s creditors to which would otherwise have been available to them, and places that value in the hands of others – presumably in a contract other than a valid secured transaction – is void on the basis that it violates the public policy of equitable and fair distribution amongst unsecured creditors in insolvency situations.
[37] He added, at p. 695:
… I am satisfied that the principle which underlies the notion is the deprivation of the creditors’ interests in a bankruptcy as a result of a contractual provision that is triggered only in the event of bankruptcy or insolvency and which results in property that would otherwise be available to the bankrupt and the creditors, or its value, being diverted to which is in effect, a preferred unsecured creditor. [Citations omitted.]
[38] In Chandos, the majority confirmed that the anti-deprivation rule exists in Canadian law and has not been judicially or statutorily eliminated. Referring to Bramalea, it described the rule as follows, at para. 31:
As Bramalea described, the anti-deprivation rule renders void contractual provisions that, upon insolvency, remove value that would otherwise have been available to an insolvent person's creditors from their reach. This test has two parts: first, the relevant clause must be triggered by an event of insolvency or bankruptcy; and second, the effect of the clause must be to remove value from the insolvent's estate. This has been rightly called an effects-based test. [Emphasis added.]
[39] After stating that the focus of inquiry is on the effects of the provision rather than the intention of the parties in drafting it, the majority in the Supreme Court stated, at para. 35:
The effects-based rule, as it stands, is clear. Courts (and commercial parties) do not need to look to anything other than the trigger for the clause and its effect. The effect of a clause can be far more readily determined in the event of bankruptcy than the intention of contracting parties. An effects-based approach also provides parties with the confidence that contractual agreements, absent a provision providing for the withdrawal of assets upon bankruptcy or insolvency, will generally be upheld. [Emphasis added.]
[40] The Court added, at para. 40:
All that said, we should recognize that there are nuances with the anti-deprivation rule as it stands. For example, contractual provisions that eliminate property from the estate, but do not eliminate value, may not offend the anti-deprivation rule (see Belmont, at para. 160, per Lord Mance; Borland’s Trustee v. Steel Brothers & Co. Limited, [1901] 1 Ch. 279; see also Coopérants). Nor do provisions whose effect is triggered by an event other than insolvency or bankruptcy. Moreover, the anti-deprivation rule is not offended when commercial parties protect themselves against a contracting counterparty's insolvency by taking security, acquiring insurance, or requiring a third-party guarantee. [Emphasis added.]
[41] The emphasized portions of the above extracts make it clear that the focus of the concern is (a) whether the provision in question is “triggered” by an event of bankruptcy or insolvency and (b) whether the effect of the contractual provision is to deprive the estate of assets upon bankruptcy: see Lloyd W. Houlden, Geoffrey B. Morawetz & Janis P. Sarra, The 2021 Annotated Bankruptcy and Insolvency Act (Toronto: Thomson Reuters, 2021), at F§108. The Supreme Court in Chandos was clearly aware of the commercial importance of the issue when it stated that “contractual agreements, absent a provision providing for the withdrawal of assets upon bankruptcy or insolvency, will generally be upheld.”
. Montréal (City) v. Deloitte Restructuring Inc.

In Montréal (City) v. Deloitte Restructuring Inc. (SCC, 2021) the Supreme Court of Canada considered in depth the application of the CCAA.

. Canada v. Canada North Group Inc.

In Canada v. Canada North Group Inc. (SCC, 2021) the Supreme Court of Canada considered the conflict between court-ordered draws on an insolvent's estate for re-structuring and necessary professional payments under the CCAA ('priming charges') versus statutory deemed trusts imposed on source-deductions from earnings and similar trusts. In this extract the court examines the insolvency court's discretionary to make such orders:
[16] The central issue in this appeal is whether the CCAA authorizes courts to grant super-priority charges with priority over a deemed trust created by s. 227(4.1) of the ITA. In order to answer this question, I proceed in three stages. First, I assess the nature of the CCAA regime and the power of supervising courts to order such charges. Given that supervising courts generally have the authority to order super-priority charges with priority over all other claims, I then turn to s. 227(4.1) of the ITA to determine whether it gives Her Majesty an interest that cannot be subordinated to super-priority charges. Here I assess the Crown’s two arguments as to why s. 227(4.1) provides for an exception to the general rule, namely that Her Majesty has a proprietary or ownership interest in the insolvent company’s assets and that, even if Her Majesty does not have such an interest, s. 227(4.1) provides Her with a security interest that has absolute priority over all claims. I conclude by assessing how courts should exercise their authority to order super-priority charges where Her Majesty has a claim against an insolvent company protected by a s. 227(4.1) deemed trust.

V. Analysis

[17] In order to determine whether the CCAA empowers a court to order super-priority charges over assets subject to a deemed trust created by s. 227(4.1) of the ITA, we must understand both the CCAA regime and the nature of the interest created by s. 227(4.1).

....

[21] The most important feature of the CCAA — and the feature that enables it to be adapted so readily to each reorganization — is the broad discretionary power it vests in the supervising court (Callidus Capital, at paras. 47-48). Section 11 of the CCAA confers jurisdiction on the supervising court to “make any order that it considers appropriate in the circumstances”. This power is vast. As the Chief Justice and Moldaver J. recently observed in their joint reasons, “On the plain wording of the provision, the jurisdiction granted by s. 11 is constrained only by restrictions set out in the CCAA itself, and the requirement that the order made be ‘appropriate in the circumstances’” (Callidus Capital, at para. 67). Keeping in mind the centrality of judicial discretion in the CCAA regime, our jurisprudence has developed baseline requirements of appropriateness, good faith and due diligence in order to exercise this power. The supervising judge must be satisfied that the order is appropriate and that the applicant has acted in good faith and with due diligence (Century Services, at para. 69). The judge must also be satisfied as to appropriateness, which is assessed by considering whether the order would advance the policy and remedial objectives of the CCAA (para. 70). For instance, given that the purpose of the CCAA is to facilitate the survival of going concerns, when crafting an initial order, “[a] court must first of all provide the conditions under which the debtor can attempt to reorganize” (para. 60).

[22] On review of a supervising judge’s order, an appellate court should be cognizant that supervising judges have been given this broad discretion in order to fulfill their difficult role of continuously balancing conflicting and changing interests. Appellate courts should also recognize that orders are generally temporary or interim in nature and that the restructuring process is constantly evolving. These considerations require not only that supervising judges be endowed with a broad discretion, but that appellate courts exercise particular caution before interfering with orders made in accordance with that discretion (Pacific National Lease Holding Corp., Re (1992), 1992 CanLII 427 (BC CA), 72 B.C.L.R. (2d) 368 (C.A.), at paras. 30-31).

[23] In addition to s. 11, there are more specific powers in some of the provisions following that section. They include the power to order a super-priority security or charge on all or part of a company’s assets in favour of interim financiers (s. 11.2), critical suppliers (s. 11.4), the monitor and financial, legal or other experts (s. 11.52), or indemnification of directors or officers (s. 11.51). Each of these provisions empowers the court to “order that the security or charge rank in priority over the claim of any secured creditor of the company” (ss. 11.2(2), 11.4(4), 11.51(2) and 11.52(2)).

[24] As this Court held in Century Services, at para. 70, the general language of s. 11 is not restricted by the availability of these more specific orders. In fact, courts regularly grant super-priority charges in favour of persons not specifically referred to in the aforementioned provisions, including through orders that have priority over orders made under the specific provisions. These include, for example, key employee retention plan charges (Grant Forest Products Inc., Re (2009), 2009 CanLII 42046 (ON SC), 57 C.B.R. (5th) 128 (Ont. S.C.J.); Timminco Ltd., Re, 2012 ONSC 506, 85 C.B.R. (5th) 169), and bid protection charges (In the Matter of a Plan of Compromise or Arrangement of Green Growth Brands Inc., 2020 ONSC 3565, 84 C.B.R. (6th) 146).

[25] In Sun Indalex Finance, LLC v. United Steelworkers, 2013 SCC 6, [2013] 1 S.C.R. 271, at para. 60, quoting the amended initial order in that case, this Court confirmed that a court-ordered financing charge with priority over “all other security interests, trusts, liens, charges and encumbrances, statutory or otherwise”, had priority over a deemed trust established by the Personal Property Security Act, R.S.O. 1990, c. P.10 (“PPSA”), to protect employee pensions. Justice Deschamps wrote for a unanimous Court on this point. She found that the existence of a deemed trust did not preclude orders granting first priority to financiers: “This will be the case only if the provincial priorities provided for in s. 30(7) of the PPSA ensure that the claim of the Salaried Plan’s members has priority over the [debtor-in-possession (“DIP”)] charge” (para. 48).

[26] Justice Deschamps first assessed the supervising judge’s order to determine whether it had truly been necessary to give the financing charge priority over the deemed trust. Even though the supervising judge had not specifically considered the deemed trust in the order authorizing a super-priority charge, he had found that there was no alternative but to make the order. Financing secured by a super priority was necessary if the company was to remain a going concern (para. 59). Justice Deschamps rejected the suggestion “that the DIP lenders would have accepted that their claim ranked below claims resulting from the deemed trust”, because “[t]he harsh reality is that lending is governed by the commercial imperatives of the lenders, not by the interests of the plan members or the policy considerations that lead provincial governments to legislate in favour of pension fund beneficiaries” (para. 59).

[27] After determining that the order was necessary, she turned to the statute creating the deemed trust’s priority. Section 30(7) of the PPSA provided that the deemed trust would have priority over all security interests. In her view, this created a conflict between the court-ordered super priority and the statutory priority of the claim protected by the deemed trust. The super priority therefore prevailed by virtue of federal paramountcy (para. 60).

[28] There are also practical considerations that explain why supervising judges must have the discretion to order other charges with priority over deemed trusts. Restructuring under the CCAA often requires the assistance of many professionals. As Wagner C.J. and Moldaver J. recently recognized for a unanimous Court, the role the monitor plays in a CCAA proceeding is critical: “The monitor is an independent and impartial expert, acting as ‘the eyes and the ears of the court’ throughout the proceedings . . . . The core of the monitor’s role includes providing an advisory opinion to the court as to the fairness of any proposed plan of arrangement and on orders sought by parties, including the sale of assets and requests for interim financing” (Callidus Capital, at para. 52, quoting Ernst & Young Inc. v. Essar Global Fund Ltd., 2017 ONCA 1014, 139 O.R. (3d) 1, at para. 109). In the words of Morawetz J. (as he then was), “[i]t is not reasonable to expect that professionals will take the risk of not being paid for their services, and that directors and officers will remain if placed in a compromised position” (Timminco, at para. 66).

[29] This Court has similarly found that financing is critical as “case after case has shown that ‘the priming of the DIP facility is a key aspect of the debtor’s ability to attempt a workout’” (Indalex, at para. 59, quoting J. P. Sarra, Rescue! The Companies’ Creditors Arrangement Act (2007), at p. 97). As lower courts have affirmed, “Professional services are provided, and DIP funding is advanced, in reliance on super-priorities contained in initial orders. To ensure the integrity, predictability and fairness of the CCAA process, certainty must accompany the granting of such super-priority charges” (First Leaside Wealth Management Inc. (Re), 2012 ONSC 1299, at para. 51 (CanLII)).

[30] Super-priority charges in favour of the monitor, financiers and other professionals are required to derive the most value for the stakeholders. They are beneficial to all creditors, including those whose claims are protected by a deemed trust. The fact that they require super priority is just a part of “[t]he harsh reality . . . that lending is governed by the commercial imperatives of the lenders” (Indalex, at para. 59). It does not make commercial sense to act when there is a high level of risk involved. For a monitor and financiers to put themselves at risk to restructure and develop assets, only to later discover that a deemed trust supersedes all claims, smacks of unfairness. As McLachlin J. (as she then was) said, granting a deemed trust absolute priority where it does not amount to a trust under general principles of law would “defy fairness and common sense” (British Columbia v. Henfrey Samson Belair Ltd., 1989 CanLII 43 (SCC), [1989] 2 S.C.R. 24, at p. 33).

[31] It is therefore clear that, in general, courts supervising a CCAA reorganization have the authority to order super-priority charges to facilitate the restructuring process. Similarly, courts have ensured that the CCAA is given a liberal construction to fulfill its broad purpose and to prevent this purpose from being neutralized by other statutes: [translation] “As the courts have ruled time and again, the purpose of the CCAA and orders made under it cannot be affected or neutralized by another [Act], whether of public order or not” (Triton Électronique inc. (Arrangement relatif à), 2009 QCCS 1202, at para. 35 (CanLII)). “This case is not so much about the rights of employees as creditors, but the right of the court under the [CCAA] to serve not the special interests of the directors and officers of the company but the broader constituency referred to in Chef Ready Foods Ltd. [v. Hongkong Bank of Can. (1990), 1990 CanLII 529 (BC CA), 51 B.C.L.R. (2d) 84 (C.A.)] . . . Such a decision may inevitably conflict with provincial legislation, but the broad purposes of the [CCAA] must be served” (Pacific National Lease Holding, at para. 28). Courts have been particularly cautious when interpreting security interests so as to ensure that the CCAA’s important purpose can be fulfilled. For instance, in Chef Ready Foods, Gibbs J.A. observed that if a bank’s rights under the Bank Act, S.C. 1991, c. 46, were to be interpreted as being immune from the provisions of the CCAA, then the benefits of CCAA proceedings would be “largely illusory” (p. 92). “There will be two classes of debtor companies: those for whom there are prospects for recovery under the [CCAA]; and those for whom the [CCAA] may be irrelevant dependent upon the whim of the [creditor]” (p. 92). It is important to keep in mind that CCAA proceedings operate for the benefit of the creditors as a group and not for the benefit of a single creditor. Without clear and direct instruction from Parliament, we cannot countenance the possibility that it intended to create a security interest that would limit or eliminate the prospect of reorganization and recovery under the CCAA for some companies. To do so would turn the CCAA into a dead letter. With this in mind, I turn to the specific provision at issue in this appeal.


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