Jason Bryk 

Phone: 204.956.3510

Fax: 204.957.0227

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August, 2012

Over the last 10 years, the use of property disclosure statements in residential real estate transactions has substantially increased in Canada.  Manitoba is no exception.  Essentially, a property disclosure statement (a/the "PDS") is a series of statements by a seller to a potential (or actual) purchaser of the seller's residential property pertaining to the seller's knowledge (or lack of knowledge) of various elements of the property which would, in most cases, be of interest and/or concern to the purchaser.

The current form of residential real estate offer to purchase mandated for use where a real estate agent or broker is involved (a/the "Standard Offer") contains a promise by the seller that the seller will, within a short period of time (typically, 24 to 48 hours) provide the purchaser with a PDS.  The purchaser then has a short period of time (again, typically, 24 to 48 hours) to decide if the purchaser is - or is not - satisfied with the contents of the PDS.  If the seller fails to deliver the PDS, or the purchaser is not satisfied with the contents of the PDS, then the contract is terminated.  The Standard Offer also provides that immediately upon provision of the PDS to the purchaser, the PDS "forms part of this agreement".  Additionally, the Standard Offer contemplates that if the parties are agreeable to this, the seller is not obligated to provide any PDS to the purchaser.

On a related note, the Standard Offer additionally contains a promise by the seller that (again) within a short period of time, the purchaser is entitled to have the property inspected and that if the results of the inspection are not satisfactory to the purchaser, the agreement is terminated.  Again, the parties can agree to the removal of this promise from their agreement.

After a residential real estate transaction has been consummated and the purchaser moves in, the purchaser may discover certain "defects" in the property.  The defects may be sufficiently serious (at least in the purchaser's mind) that the purchaser will want to undo the transaction.  Or the aggrieved purchaser may wish to receive compensation from the seller for the costs incurred in remedying the defects (or, in effect, to lower the purchase and sale price by virtue of the loss in value created by reason of the existence of the defects).  When such an aggrieved purchaser has had the seller's PDS incorporated into the contract, what is the legal effect of such incorporation?  The British Columbia case of Hanslo and Barry (British Columbia Supreme Court, judgment given November 29, 2011, hereinafter, the "Barry Case") provides a very useful analysis of the role which is typically played by the incorporation of a PDS into a purchase and sale of residential real estate contract.  The Barry Case contains a useful review of the role of caveat emptor ("buyer beware") and the exceptions to that rule which the Courts have worked out over the years.

In essence, caveat emptor means that as a general rule, a buyer of real estate runs the risk of acquiring it subject to defects and that it is up to the purchaser to do/conduct its own inspections and due diligence to ensure the absence of defects before unequivocally committing himself/herself.  The seller is - again, as a general rule - not obligated to "disparage" the seller's own property and generally has no obligation to divulge the existence of defects.

What are the exceptions to the caveat emptor rule?  A review of the relevant jurisprudence, a fair amount of which is cited by the Court in the Barry Case, would indicate the following exceptions:

  1. where the seller fraudulently misrepresents or conceals a defect;
  2. where a seller knows of a latent defect rendering house unfit for human habitation;
  3. where a seller is reckless as to the truth or falsity of the seller's statements made relating to the fitness of the property for habitation; and
  4. where the seller knows of a latent defect rendering the property dangerous (clearly, this is fairly similar to #2 above).

Although not really an exception the caveat emptor rule, it should be remembered that where a seller actually promises, as a term of the contract, that a defect does not exist, or if it does exist, that it will be remedied at the seller's cost by closing, the seller cannot then rely on the rule of caveat emptor if such promise is breached.

The facts in the Barry Case were fairly simple and not in dispute (there was some question as to credibility which the Court decided in favour of the plaintiffs).  The defendant's home was situated on land located downstream from a creek; before the creek reached the defendant's property line, it ran into an underground culvert which carried the creek water under the defendant's home.  On more than one occasion, the creek had overflowed with the result that the culvert was not able to contain all of the expanded creek water and this resulting in flooding into the defendant's home.  Mould had built up in those areas where such flooding had occurred.  The plaintiffs entered into an agreement with the defendant to purchase the defendant's home, and as part of the transaction, the defendant provided the plaintiffs with a PDS.  In the PDS, the defendant stated that he was not aware of the existence of any moisture and/or water problems in the walls, basement or crawl space, that he was not aware of any damage due to wind, fire or water, and, that he was not aware of the existence of any unregistered easements or unregistered rights-of-way.  The Court held that the defendant's said statements were false and that the plaintiffs had relied on the truthfulness of such statements to induce them into obligating themselves to purchase the defendant's property, with the plaintiff subsequently suffering loss as a result of such reliance (the costs to repair the flooding/mould damage).

The Court had to decide what was the effect of incorporating the PDS into the contract. 

It was argued for the plaintiffs that incorporation of the seller's statements in the PDS constituted those statements as contractual warranties.  After reviewing previous relevant case law, the Court held that, at least in this case, the seller's statements did not constitute contractual warranties.  Citing an earlier British Columbia case, the Court held that, notwithstanding the incorporation of the PDS into the contract, the same was "…not necessarily a warranty.  Its main purpose is to put purchasers on notice with respect to known problems.".  On the other hand, the Court determined that the seller's PDS statements constituted representations, and that it was reasonable to conclude that the purchasers had relied on same and were thereby induced into entering the contract, ultimately to their detriment.  The Court stated that if the seller had made correct statements, it is almost certain that the purchasers would have made investigations which would have lead them to become aware of the flooding problem and of the fact that what amounted to an unregistered right-of-way (for the culvert carrying water under the house) affected the property. 

From the perspective of a "traditional" legal analysis, the concept of a representation forming part of a contract is somewhat odd; statements pertaining to the subject matter of a contract which are actually included within the "body" of the contract are usually considered to be warranties (or promissory conditions).  Statements relating to the subject matter of a contract which are not incorporated into the contract, but which nevertheless are relied upon by one of the parties, thereby inducing such party to commit itself, are considered to be representations.  Nevertheless, for the purpose of the Barry Case, whether "incorporated" into the contract or not, the Court held that the defendant was responsible to the plaintiffs for the plaintiffs' flooding/mould damage remediation costs, on the basis of misrepresentation(s).

The provisions in the form of residential property offer to purchase utilized in British Columbia and in the Standard Offer, as well as the provisions contained in the form of PDS used in the Barry Case and in the more or less standardized form of PDS used by realtors in Manitoba are  fairly similar.  In particular:

(a)          both forms of contract specify that there are no "representations, warranties, promises or agreements" other than what is set forth in the contract and what is set forth in the PDS, if PDS is incorporated into the contract;

(b)          both forms of contract provide that where the parties agree upon it, the PDS is incorporated into or forms part of the contract; and

(c)           the Manitoba form of PDS specifically says that the seller's statements do not constitute warranties as to the actual condition of the property (notwithstanding that such statements are incorporated into the contract), and, the seller's statements in the British Columbia form of PDS were confirmed by the Court in the Barry Case to constitute representations, not contractual warranties.

Thus it appears (at least in British Columbia and Manitoba) that when statements contained in a PDS, although not warranties, are relied upon by a purchaser, and it turns out that they are falsely made (at least when so made intentionally, recklessly or negligently), and the purchaser relies on same and thereby suffers loss, the purchaser will have a remedy against the seller.

A few other elements of the Barry Case which should be of interest to potential sellers, buyers, realtors and counsel are:

(i)         the defendants argued that when, after the plaintiff had been provided with a PDS which the plaintiff was satisfied with, the plaintiff then signed a confirmation "removing" the plaintiff's requirement of obtaining a satisfactory PDS, this meant that the PDS no longer existed for the purposes of the contract.  Not surprisingly, the Court held that such "removal" was not a complete waiver of the purchaser's rights under or with respect to the PDS, but merely a confirmation of fulfillment of the seller's obligation to provide a satisfactory PDS.

(ii)        the plaintiffs argued that the seller's answer to the question: "Are you aware of any damage due to wind, fire or water?" should have included information, not only to existing damage, put also to past damage, even if the past damage had been repaired.  The Court disagreed and held that the question refers only to existing damage.  In support of this argument, the Court pointed to several other questions in the PDS where a seller is asked to advise as to whether or not there has "ever" been a problem or problems of certain types.

(iii)       the defendants argued that because the plaintiffs obtained a building inspection report for the property and did not terminate the transaction by virtue of the information provided therein, the plaintiffs had ceased to rely on the statements contained in the PDS.  The Court disagreed and held that, at least in the Barry Case, the plaintiffs did not cease relying on the PDS, and were in fact, entitled to rely on both the PDS and the building inspector's report.

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February 2016

Most practicing Manitoba lawyers know that if a corporate client wishes to carry on business in Manitoba, where the corporation has been incorporated in a jurisdiction outside of Manitoba, it is necessary for the client to be registered under The Manitoba Corporations Act (Section 187 of the Act).  What exactly does "carrying on business" mean?

Section 187(2) of the Act provides that a corporation is "deemed" to be carrying on business where:

(i)            it has a resident agent or representative, or, a warehouse, office or place of business in Manitoba;

(ii)           its name and a Manitoba address is listed in "a Manitoba telephone directory" (increasingly insignificant with the rise of internet communications);

(iii)          its name and a Manitoba address are included in any "advertisement advertising the business or any product of the (corporation)";

(iv)          it is the registered owner of "real property" situated in Manitoba; or

(v)           it otherwise "carries on its business or undertaking" in Manitoba.

It appears that it is an extra-provincial corporation's "presence" or degree of connection in or with Manitoba that requires registration in this province.

But what about the case of a corporation which has been incorporated in, say, Ontario, which is the true or beneficial owner of an asset (typically, but not necessarily, real property), situated in Manitoba, where the property is registered in the name of a Manitoba corporation which has formally declared that it holds the property as a trustee for the Ontario corporation?  Does it matter that the (express) trust is a "bare" trust, where the trustee has no management, administration or discretionary rights or powers to deal with the trust property, all of the same belonging to the Ontario corporation?  Assume further that none of the above indicia of a Manitoba presence or connection are applicable (in particular, the Ontario corporation is not itself the registered owner of the subject realty, does no advertising and has no place of business, agent or representative in Manitoba).  The only question is whether or not the Ontario corporation can be described as "otherwise carrying on its business or undertaking in Manitoba"?

The Manitoba Companies Office (which administers the Act) has advised the writer that it has no particular policy guidelines to answer this question.  There is a paucity of case law on this matter, however there have been several Court decisions which deal with related or analogous situations.  Consider the following:

  1. In Huber v. Pocklington Financial Corp. Ltd. (Nova Scotia Supreme Court Trial Division, 1982), the question was whether or not a corporation which was not incorporated in Nova Scotia,  had no place of business and did not in any normal sense of the words, "carry on business" in Nova Scotia, should nevertheless be held to be carrying on business in Nova Scotia indirectly by reason of its holding virtually all of the issued capital stock of another corporation which was clearly resident in and carried on business in Nova Scotia.  The Court held that the shareholding corporation was not carrying on business in Nova Scotia.  The two corporations were separate legal entities.
  2. In Wilson v. Hull (Alberta Court of Queen's Bench, 1993), the question was whether or not an Alberta corporation was "ordinarily resident" in the State of Idaho in the context of a judgment obtained by an Idaho corporation which sold goods to the Alberta corporation, with the Alberta corporation breaching its contractual obligations under the arrangement and consequently sustaining a default judgment obtained by the Idaho corporation in an Idaho Court.  The Idaho judgment creditor sought to have its judgment registered in Alberta.  Under relevant Alberta law, the judgment debtor could stop registration of the Idaho judgment in Alberta provided that it could establish that the Alberta corporation was "neither carrying on business nor ordinarily resident within the jurisdiction of the original court (Idaho)".  The Court held that the Alberta corporation was carrying on business in Idaho on the basis that "…part of carrying on business is paying for debts that are legitimately owed", and, the debt was payable in Idaho.  The principal of the Alberta corporation had attended at the Idaho corporation's place of business to conduct negotiations at the beginning of the contractual relationship, but otherwise didn't "carry on business" in Idaho.  In considering this case in the context of the question posed at the beginning of this paper, one should bear in mind firstly, that the matter did not relate to the question of carrying on or not carrying on business in relation to the need for corporate registration, and, secondly, that substantial justice was accomplished in this case because the Alberta corporation had clearly reneged on its contractual obligations without any valid excuse.
  3. In the Nova Scotia Power Corp. v. AMCI Export Corp. (Nova Scotia Court of Appeal, 2005), the question was whether or not a particular American incorporated corporation (operating out of Pennsylvania) was "resident out of the province of Nova Scotia").  Nova Scotia Power alleged that the Pennsylvania corporation was in breach of a contract between the parties under which the Pennsylvania corporation had agreed to sell coal to Nova Scotia Power.  Nova Scotia Power launched a lawsuit in Nova Scotia against the Pennsylvania corporation claiming $11,000,000.00 damages.  To secure its position, Nova Scotia Power sought to attach certain assets of the Pennsylvania corporation which were situated in Nova Scotia, but would only be entitled to the attaching order if it could be established that the Pennsylvania corporation was resident outside of the province.  The Court held that the Pennsylvania corporation was resident in Nova Scotia, and with its assets in Nova Scotia, was resident, or at least sufficiently resident in the forum's jurisdiction so as to substantially eliminate the risk of the plaintiff not being able to realize on any judgment it obtained by virtue of the Pennsylvania corporation being outside "reach" of Canadian Courts.  As with the Wilson v. Hull case, it must be kept in mind that this was not really a "carrying on business" case relating to the need (or the absence of the need) to extra-provincially register. 

So what might we conclude concerning the above-stated original question?  The writer's cautious conclusion is that the Ontario corporation, which does not meet with any of the indicia above stated (in The Manitoba Corporations Act) and which is a mere beneficial owner of the Manitoba realty registered in the name of the bare trustee Manitoba corporation, would not be required to be extra-provincially registered in Manitoba.  The lack of discretionary and management powers held by the trustee (the hallmark of a bare trust) re-enforces this conclusion.  But the word "cautious" is required because there is a meaningful - at least to the beneficial owner - "connection" between the beneficial owner and the Manitoba realty being held for it.  A Court may at some time consider that that "connection" is sufficient to hold the Ontario corporation as "carrying on business" in Manitoba.

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November 2009 

Persons giving or taking interests in real property, or contemplating doing so, in particular, with respect to real properties situated outside of areas affected/covered by public/community wastewater collecting and processing systems, including buyers, sellers, mortgage lenders and realtors and lawyers advising same, should be aware of the requirements specified under the "Onsite Wastewater Management Systems Regulation" (Manitoba Regulation #83/2003, registered April 28, 2003 and the "Onsite Wastewater Management Systems Regulation, amendment" (Manitoba Regulation #156/2009, registered September 28, 2009), both of these Regulations having been enacted under the Environment Act (Manitoba) (the "Act").  Hereinafter, the "combined" aforementioned Regulations will be referred to as the "Amended Wastewater Regulation".

Before considering the requirements imposed on property owners under the Amended Wastewater Regulation, it is important to take note of certain of the definitions set forth at the beginning of the Amended Wastewater Regulation, in particular:

  1. "Wastewater" means either one or both "greywater" and "sewage", in other words, in a typical household, either one or both of "used" water that drains out of a kitchen or bathroom sink, bathtub or shower, and, the effluent that is placed in or runs through toilets.
  2. "Onsite wastewater management system" means all or any part of a system for the "holding", "treatment" and/or "management" of wastewater, "including, but not limited to:

(a)          an aerobic treatment unit;

(b)          a composting toilet system;

(c)           a disposal field;

(d)          a greywater pit;

(e)          a holding tank;

(f)            a septic tank; and

(g)          a sewage ejector."

Although not specifically stated as such, the intent of this definition appears to be to describe a wastewater management system which is designed or intended to service a particular property only, as opposed to a "community" (or multi-property) wastewater management system.

  1. "Wastewater collection system" means a sewer system used for the collection and conveyance of wastewater.  Again, although not specifically stated as such, it would appear that the intent of this definition is to cover wastewater management systems, or perhaps more accurately, the "collection" portion thereof, which is used or intended to be used to service multiple properties.  Also, although it is not clearly specified, it would appear that "wastewater collection system" is intended to refer to systems which are owned by a level of government or some entity controlled by a level of government, most typically, by a local government.

Although there are many rules in the Amended Wastewater Regulation that specify (often detailed) requirements for the installation, maintenance and operation of onsite wastewater management systems, the purpose of this memorandum is to highlight certain requirements/obligations of landowners which came into effect via Manitoba Regulation #156/2009, namely:

  1. Sections 8.1 and 8.2 provide:

(a)          A person who, on the day that the Amended Wastewater Regulation came into force, owns land in an area that is serviced by a wastewater collection system, but who has not connected his/her wastewater sources to the system must both connect his/her wastewater sources to the wastewater collection system and take any onsite wastewater management system that the person has (or any privy located on the land) out of service and decommission it, before the earlier of five years from the date that the Amended Wastewater Regulation came into force and the transfer or subdivision of the person's land.

(b)          In the case of a person in a similar position to that described in subparagraph (a) immediately hereinabove, but who does not have a wastewater collection system available to be hooked up to on the date that the Amended Wastewater Regulation came into effect, but whose property is subsequently commenced to be serviced by a wastewater collection system, such person must similarly connect to the installed wastewater collection system and take out of service any onsite wastewater management system (or privy) located on such person's land and decommission it, by the earlier of five years from the day upon which the (newly installed) wastewater collection system has been installed and the transfer or subdivision of the person's land.

Both Sections 8.1 and 8.2 go on to specify that where a person transfers his/her land without doing the required remediation work before transfer, the new owner/transferee must complete the required remediation within "two years after the transfer".  Presumably this means two years after the date upon which registration of a transfer of land is giving "accepted" status by the Land Titles Office.  Also presumably, an "old" owner who transfers title before doing the required remediation work will be in breach of the Amended Wastewater Regulation and thus subject to fines, penalties, etc., notwithstanding that the new owner/transferee does the required remediation work within the two year time span given to the new owner/transferee.

  1. Section 14.2 of the Amended Wastewater Regulation provides that the owner of land on which a sewage ejector system is located must take such system out of service and decommission it before the earlier of the transfer of the land on which the sewage ejector system is located and the subdivision of the land on which the sewage ejector system is located.  As similarly specified in Sections 8.1 and 8.2 pertaining to transfers of ownership of land serviced by a wastewater collection system, it is further provided that where the owner of land with a sewage ejector system on it transfers ownership without taking the ejector system out of service and decommissioning it, the transferee/new owner then has the obligation to do the required remediation work within two years after the transfer.  Again, it would appear that even where the transferee/new owner does the required remediation work within the two year period, the old owner/transferor is in breach (or perhaps more accurately, continues to be held to be in breach) of its obligation and is thus subject to fines, penalties, etc.
  2. The original Wastewater Management Systems Regulation specified (in Section 8) that, in effect, a person was not entitled to install (or modify) an onsite wastewater management system on his/her land without first submitting a proposal for same and having the director (under the Act) approve same.  Section 8(2.1) of the Amended Wastewater Regulation now specifies that, not only must the director refuse any such proposal where there is an existing wastewater collection system available to be hooked up to, but that the director must also refuse any such proposal if the applicant's property "is expected to be serviced by a wastewater collection system within five years after the day that the proposal was received".  In this regard, Section 8.3 of the Amended Wastewater Regulation now provides that:

(a)          If there is a dispute or difference of opinion as to whether or not a landowner's property is - or is not - in an area that is serviced by an (existing) wastewater collection system, or, as to whether or not the property is "expected to be serviced" by a wastewater collection system within five years, the director may determine the matter in dispute; and

(b)          The director may also at any time inform a landowner as to whether or not the owner's land is in an area that is serviced by an existing wastewater collection system or is expected to be serviced by a wastewater collection system within five years.  Property owners, realtors, mortgage lenders and their legal advisors may wish to make appropriate "searches" or enquiries of the director in this regard.

These new rules/requirements raise certain questions which we will all have to consider and take into account when advising clients:

(I)            As noted above, it appears that even where a potential seller and buyer are aware of the Amended Wastewater Regulation's requirements as they apply to the seller's land, an arrangement between the parties to the effect that the purchaser will do the required remediation work (presumably two years from the date of transfer), and presumably with an "adjustment" in the sale and purchase price, may not relieve the seller form exposure to fines, penalties, etc. which may be imposed on the seller by virtue of his/her/its failure to do the required remediation work by the time of transfer.  Should such arrangements thus be avoided at all cost, or should a seller and buyer be advised that, provided that the buyer does the required remediation work within the required two year period (and the purchaser will not be exposed to fines, penalties, etc.), the seller, despite such potential exposure, is not likely to be prosecuted by the authorities simply because the "evil" intended to be eliminated by the Amended Wastewater Regulation will have been eliminated?  Would such advice itself be unethical because one would be counselling the seller to, in effect, "break the law"?

(II)          Regarding the triggering occurrences of "transfer" and "subdivision" of land:

(a)          Does "transfer" include change of ownership arising by virtue of operation of law, such as where a surviving joint tenant acquires ownership, change of ownership by way of devise, inheritance, corporate amalgamation, winding-up, transmission on bankruptcy or changing of ownership by virtue of the issuance and registration of a vesting order given by a Court?

(b)          If there is the disposition and acquisition of an interest in land which does not constitute a "subdivision" within the meaning of the Manitoba Planning Act and/orthe City of Winnipeg Charter, would the same not constitute a "subdivision" for the purposes of the Amended Wastewater Regulation?

(III)         As noted above, this writer suspects that a wastewater collection system means a wastewater collection system which is owned by a level or entity of government, but this is not entirely clear.  Would the expression include a collection system which is privately or communally owned? 

(IV)        What about those unfortunate persons who entered into contracts to sell and buy lands before the Amended Wastewater Regulation came into effect, but with a closing after such effective date?  In some cases, such persons' purchase and sale contracts may be legally "frustrated", but unless the cost of the required remediation is substantial in relation to the purchase and sale price, this may will not likely be so.  Perhaps the only practical way to deal with these situations is for the buyer and the seller to more or less equally split the cost of the required remediation - but what about a buyer who refuses to do so?

(V)          Are there enough competent tradespeople available to take onsite wastewater management systems out of service, decommission them and where appropriate, hook up a property owner's wastewater sources to a new (or existing) wastewater collection system servicing the neighbourhood?

(VI)        What will be the cost of taking an onsite wastewater management system out of service, decommissioning it, and, connecting a property's wastewater sources to a wastewater collection system servicing the neighbourhood?

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November, 2016

The Manitoba provincial government originally proclaimed its (new) New Home Warranty Act and Regulation thereunder to come into force as of January 1, 2017.  However, this date has now been pushed back to January 1, 2018.  Although we have a year to go, it's not too early for those in the home building business (including both contractors and their financiers) to start preparing for what will be required of them under the legislation.

The following is an overview of the regulatory scheme:

(i)            In most cases, a builder is prohibited from building a new home unless:

(a)          the builder is registered as a builder under the legislation; and

(b)          a "warranty provider" (registered as such under the legislation) has committed to provide a home warranty for the home in accordance with, and containing the undertakings required by the legislation.

(ii)           In most cases, a "warranty provider" will be an insurer licenced to carry on business as an insurer under the Insurance Act.

(iii)          All warranty providers - even insurance companies which are already licenced under The Insurance Act - must additionally register as warranty providers under the Act.

(iv)          If a builder constructs a new home and sells it to an owner without the builder arranging for the provision of a warranty to the owner, then the builder itself is "deemed" to have provided the required warranty to the owner.

(v)           Provision is made for aggrieved owners to make claims under their warranties and for the mediation of disputes.

(vi)          Builders who fail to fulfill their obligations under the legislation are liable to prosecution with the maximum penalties being a fine of up to $300,000.00, imprisonment for a term of not more than three years, or both.

(vii)        Additionally, the legislation provides for the imposition of "administrative penalties" on those breaching the legislation's requirements.

(viii)       There are detailed specifications regarding what a new home warranty is to cover, set forth in both the Act and its Regulation.

(ix)          Local governments are generally prohibited from issuing building permits for new homes unless and until the builder provides the permit issuer with proof that the builder has been registered under the Act and that a warranty provider has committed to issue a warranty for the home.

(x)           The rights originally given to the first buyer from a builder continue to be enforceable against the warranty provider and/or builder by the first buyer's successors in title, subject to the coverage time limitations specified in or for the original warranty.

(xi)          In addition to new self-contained detached or semi-detached homes, the legislation also applies to:

(a)          residential condominium units and the common elements of a residential condominium regime;

(b)          a manufactured home;

(c)           a former non-residential building that is converted to residential use(s); and

(d)          a multi-unit project, including a co-operatively organized project, but excluding life lease projects (although a life lease project builder would still have to get project specific permission to build the project and to not have to provide any warranties);

However, hotels, motels, dormitories, mobile homes, residential camps, and, personal care homes are exempt.  Also, builders of apartment buildings may apply for authorization to construct a rental apartment building without having to arrange for warranty protection.

The foregoing is a "bare bones" summary, and persons interested in this matter would be well advised to study the Act and its Regulation in detail.

Builders will find it difficult to attempt to deflect the application of the new rules from their operations.  In particular, note:

(1)          The Act makes it clear that builders, home owners and warranty providers are not entitled to contract out of the legislation's requirements, in whole, and generally speaking, even in part only; and

(2)          The Ontario Superior Court case of Tarion v 15181621 Ontario Inc. and Turner (judgment released October 27, 2015) is instructive.  Here, a builder refused to provide or honour a new home warranty and claimed that by its simply not registering as a builder under the Ontario legislation, the legislation should not apply to it.  The Court held that the builder was required to comply with the legislation, even though it had not registered.  Additionally, the Court held that the builder's sole shareholder, director and officer, being the "guiding mind" of the builder, was liable.  In fact, the Court stated that while both the builder and its sole shareholder "concede…that the alleged breaches of the Act occurred (and) they acknowledge that they violated the statute, they deny any legal responsibility for its consequences".

Given that the Act and its Regulation are obviously consumer protection legislation, it is unlikely that the government will change its mind and do away with the new rules.  Some legislative "tinkering" and/or a delay beyond January 1, 2018 as the effective commencement date may occur, but in all probability we will have the existing legislative regime - or something fairly close to it - in effect sooner or later.  As initially stated, affected parties should prepare for this.  

Some additional matters

(A)          a builder can build a new house without being registered provided that the builder will be using the home for "personal" use and gets "authorization" to do so.

(B)          re warranties themselves:

(i)            generally, a new home warranty is to cover defects in materials, labour and design for 12 months and material Building Code violations and defects re electrical, plumbing, heating and HVAC systems for 2 years and structural elements for 7 years;

(ii)           generally, a warranty provider can put dollar limits on claims made under its warranties, but the limits can't be less than $100,000.00.

(C)          warranties do not have to cover:

(i)            "normal" wear and tear;

(ii)           defects created by persons other than the builder;

(iii)          contaminated soil, unless the builder supplied it and knew - or should have known - of the contamination;

(iv)          failure by anyone - other than the builder - to comply with warranty requirements for appliances, equipment or fixtures manufacturers;

(v)           Acts of God ("pure" accidents which are usually capable of being insured);

(vi)          fire, explosion or smoke; and

(vii)        flooding or sewer backup.

(D)          there are rules re what a warranty provider can - and cannot - specifically exclude form a new home warranty.

(E)          commencement date of a new home warranty is the date upon which the owner/purchaser becomes entitled to occupy it.

(F)          the government is obliged to establish a "public registry".  Accordingly, anyone should be able to search/examine the registry and will find particulars of:

(i)            each new home built by a registered home builder for which a warranty provider has committed to provide a warranty;

(ii)           each home builder who is registered as such;

(iii)          each new home constructed by an owner/builder who has received authorization to do so; and

(iv)          each apartment building constructed without a new home warranty with confirmation that the building is not covered by a home warranty.

(G)         new home builders' and new home warranty providers' registrations are for one year and must be renewed annually.

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September, 2001

The Manitoba Personal Property Security Act (the “PPSA”) is primarily designed to govern interests held in personal property which (i) secure the payment or performance of an obligation of the owner of the collateral affected, and (ii) are consensually created (i.e. by the collateral owner’s conscious intentional act).  PPSA “purists” (of which the writer is not one) were no doubt appalled by the extension of the PPSA’s regime to “true” (i.e. non-financing) leases of chattels for a term of more than (or capable of being for more than a term of) one year - although all Manitoba personal property security legislation from the beginning (September of 1978) always did apply to certain interests which did not meet the above criteria.  For example, the interest that a person obtains when he or she acquires an interest in an account or chattel paper, not as security for the payment or performance of an obligation, but rather in the nature of acquisition of ownership of the account or the chattel paper. 

Such “purists” will be further appalled by the fact that under Bill 33 of the Second Section of the Thirty-seventh Legislature of Manitoba, an amendment is proposed to the Manitoba Highway Traffic Act which will allow a financing statement to be filed in the Manitoba Personal Property Registry (the “PPR”) to give notice of the forfeiture of a motor vehicle consequent upon its involvement in the commission of certain offences, and, that pursuant to an amendment to The Family Maintenance Act, which is now actually proclaimed in force, a financing statement will be capable of being registered in the PPR giving notice of a statutorily created security interest in the personal property of a person indebted for maintenance, following any default in the payment of the same.  Note however that these are not the first governmental inroads made into the security interest regime provided for under the PPSA; for example, the government previously gave itself the power to acquire a security interest in a motor vehicle (and to file a financing statement in the PPR with respect to the same) to secure payment of certain fines owing by a person. 

The proposal under the Highway Traffic Act provides that once a financing statement giving notice of a forfeiture is registered, any subsequent transfer of the vehicle or any subsequently created security interest in the vehicle “is void upon forfeiture of the vehicle…”  The arrangement contemplates that the government can first file a financing statement against a vehicle before conviction, and then subsequently, if and when a conviction is obtained and the actual forfeiture occurs, the result is that the government obtains the vehicle free and clear of any interest acquired in it which arose between the time of such registration and the time of conviction for the offence.  The proposal also provides that if the vehicle was damaged during commission of the offence, insurance proceeds must be paid to the government pending the outcome of proceedings arising out of the offence. 

The statutorily created security interest under The Manitoba Family Maintenance Act will, upon registration in the PPR by the government on behalf of the claimant, have priority over any other claim or right in any or all of the property or assets of the person in default in paying maintenance, whether created or arising before or after the default, excepting only for:

(i)            a purchase money security interest perfected (most typically, by way of registration in the PPR, but this could also include perfection by possession) before the government files the maintenance claim financing statement; and

(ii)           a purchase money security interest arising after the government has filed the maintenance claim financing statement, provided that the purchase money security interest creditor registers its financing statement no later than 15 days after the debtor obtains possession of the financed collateral.

Some questions arise from the language of these new Family Maintenance Act provisions:

  1. The legislation says that upon registration of the maintenance claim financing statement, the security interest thereby created “is a lien and charge on the property and assets of the person required to pay maintenance…”  Clearly, such lien and charge would apply to the property and assets of the debtor existing at the time financing statement is registered, however, does it extend to subsequently acquired personal property?  One would think that the intent of the Legislature was to attach both present and after acquired property, however, this is not explicitly stated. 
  2. The legislation states that the security interest secures arrears of maintenance which exist at the time of registration of the maintenance claim financing statement and arrears of maintenance which accrue after that financing statement is registered.  If a person obligated to pay maintenance has a history of going into - and out of - default in payment of his or her obligations, will the government keep its original maintenance claim financing statement continuously registered indefinitely, even during periods of time when the debtor happens to have paid up his or her arrears?  Related to this question is whether or not a debtor who has paid off all maintenance arrears is entitled to require a discharge of the maintenance claim financing statement.  Under the PPSA a debtor in a registration for a “normal” financing statement is entitled to require a discharge of the financing statement when the obligation secured has been paid off or satisfied.  In this regard, although these new provisions of the Family Maintenance Act say that a maintenance claim security interest is “deemed to be security interest under the Personal Property Security Act”, and that the official who registers the financing statement in the PPR on behalf of the maintenance claimant is “deemed to be a secured party under the Personal Property Security Act, and the person in default is deemed to be a debtor under that Act”, the legislation does not say that the maintenance claim security interest is “subject to the provisions of the Personal Property Security Act”, or words to that effect.

If, once a person has gone into arrears of the payment of maintenance and a financing statement is accordingly registered against him or her, and the government’s policy is to keep the financing statement registered indefinitely, then the debtor’s ability to access credit may be permanently reduced or eliminated. 

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August 2008

Lawyers familiar with real property mortgage security will be aware that where a debtor, being the owner of an interest in real property ("Realty"), promises its creditor that the debtor will provide the creditor with a mortgage or charge against the Realty, such promise is treated as creating an immediately existing (security) interest in the Realty.  That is, a promise is treated as being a kin to the creation of a mortgage charge even before the debtor - at some point in the future - fulfills its promise by providing an actual mortgage charge in favour of the creditor.  Such immediately created interest in the Realty is frequently referred to as a species of "equitable mortgage".  As such, the making of such promise by the debtor is sufficient to justify and support the filing of a caveat against the debtor's title, such filing thereby establishing the priority of the creditor's "equitable mortgage" thus created.

But what about a situation where a debtor owning real property promises its creditor that the debtor will not mortgage, charge or create any similar security interest in the Realty?  Does such (negative) promise, often called a "negative pledge", create an immediate interest in land in favour of the creditor sufficient to entitle the creditor to register a caveat against the debtor's title?  The writer is aware of some solicitors who believe that a negative pledge creates an immediate interest in land sufficient to justify the registration of a caveat, and, that in the past, the Manitoba Land Title System has on occasion permitted the filing of caveats based on negative pledges. However, it is the writer's view that a negative pledge - without more - does not create an interest in land, thus eliminating the possibility of a creditor filing a caveat against the debtor's title; additionally the writer has been advised that the Land Titles system will not currently accept a caveat based on a negative pledge.  This is not to say that a negative pledge is an invalid undertaking between the parties to it - it is a legitimate covenant (or perhaps contractual undertaking) between the creditor and the debtor.  A negative pledge is sometimes used where the breach of the covenant by the debtor allows the creditor to accelerate repayment in full of the debtor's indebtedness, with the consequent entitlement of the creditor to commence to realize its real and/or personal property securities.

Note the writer's use of the words "without more" above. If a negative pledge is combined with a promise by the debtor to actually provide mortgage security in favour of the creditor at some point in the future, such an arrangement, or at least the part comprising the promise to provide the security at some point in the future, would constitute an interest in land caveatable by the creditor against the debtor's title.  But the creditor and its solicitor must be very careful in the wording they employ in this situation; if the debtor's promise is to provide mortgage security to the creditor upon the creditor making a demand to receive such security, such a promise would not be an interest in land, unless and until the creditor actually demanded that the mortgage security be provided to it.  On the demand being made, an interest in land would arise and the creditor could then file a caveat, although if the mortgage security was forthcoming after the demand was made, registration of the actual mortgage security would be sufficient (in most instances) without the creditor having to file a "preliminary" caveat.

Given the foregoing, a creditor would be well advised to combine a negative pledge with a promise by the debtor to provide mortgage security against the debtor's Realty by some specified deadline (presumably not too far in the future).  If the deadline arrived and the creditor felt sufficiently comfortable in continuing the existence of the debt without the acquisition of actual mortgage security, the creditor could agree to extend the time by which it had to receive mortgage security to some (again not too far in the future) new deadline date.  However, such an arrangement might leave the creditor open to the argument that the priority originally established by the creditor's caveat becomes lost upon the expiry of the original promise and that the creditor should be obliged to discharge its original caveat and file a new one based on the "extended promise".  In this situation, it is arguable that the priority of the "extended promise"  (ie as an interest in the debtor's Realty) would be subordinate to all claims and interests against the Realty which have arisen between the filing of the original promise's caveat and the filing of the creditor's new caveat giving notice of the "extended promise".

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March 2011

It is generally understood that where a lender takes a security interest in present and after-acquired goods which are - or which may in the future become - affixed to real estate, and the goods are not what are defined as "building materials" in Section 1 of the Personal Property Security Act ("PPSA"), to establish and protect the lender's priority in such affixed goods, the lender should both register a financing statement (describing the affected collateral) in the Personal Property Registry and additionally file a PPSA (Fixtures) Notice against the title to the relevant realty.  This is prudent - and I believe the normal - practice for situations where lenders are taking both a real property mortgage and a personal property security agreement from the debtor.  The rational for registering both a financing statement in the Personal Property Registry and a fixtures notice against the title to the relevant realty was explained in the Law Society of Manitoba publication “Highlights of the New Personal Property Security Act” published October 26, 1999.  The publication states that “There are special filing and priority rules regarding fixtures that will be covered later in this paper.  Those provisions act to reverse the common law rule that goods affixed to land become real property and are governed by real property laws.”  The paper goes on to state that “Due to the fixtures priority rules in the PPSA possibly dealing with claims of mortgagees of the land, there is a potential problem due to the PPSA priority not meshing with the priority rules under other legislation affecting competing land claims”.  The footnote for that statement references The Real Property Act and The Mortgage Act of Manitoba.  A review of the following provisions of the MPPSA supports this position:

(a)          Section 1 which contains definitions of "fixture", "goods", "personal property", "collateral" and "security interests";

(b)          Section 3(1)(a) which spells out what the PPSA applies to;

(c)           Section 36 which mandates that a secured creditor should register a PPSA (Fixtures) Notice to establish and maintain the creditor's priority with respect to fixtures; and

(d)          Section 69(2), which, in effect, provides that where there is a conflict between the PPSA and any other provincial legislation (other than consumer protection type legislation), the conflict is to be resolved in favour of the PPSA.

In other words, by virtue ofManitobahaving codified the law as it relates to the perfection of security interests in fixtures, one can no longer rely upon the common law rule that registration of a real property mortgage automatically attaches to goods that are, or in the future may become, fixtures.

For the reasons outlined above, where the lender is taking only a personal property security agreement which extends or could extend to fixtures, the lender should also register both a financing statement in the Personal Property Registry and a PPSA (Fixtures) Notice against the relevant realty.  But what about the situation where the lender takes only a real property mortgage and not a personal property security agreement?  On the basis of the general (or "common" law), one would reasonably expect that the mortgage - unless by its terms it expressly excluded affixed goods - would "automatically" include goods which are (or in the future become) fixtures.  Following this line of reasoning, one would expect that upon due registration of the mortgage, it should not be necessary to do any further registrations.  However it is this writer's view that counsel should in fact go further and file both a financing statement in the Personal Property Registry (which describes the present and after-acquired goods affixed/to be affixed to the subject realty), plus, based on such Personal Property Registry registration, additionally register a PPSA (Fixtures) Notice against the title(s) to the subject realty.

Frankly, this situation calls out for reform, and it would behoove the provincial government to amend one or both of the PPSA and the Real Property Act to make it clear that due registration of a real property mortgage which does not specifically exclude present and/or after-acquired goods affixed/to be affixed to the mortgaged realty, should be sufficient to establish and maintain the mortgagee's security priority in fixtures.  As to what that priority should be, the writer believes that once a real property mortgage has been duly registered, that should establish (subject to Section 17 of the Manitoba Mortgage Act), the mortgagee's priority for the mortgage's charge against both the real estate other than fixtures and for fixtures.  That priority should apply to goods which were already affixed to the realty when the mortgage was registered.  As to goods which become affixed after the mortgage has been registered, the mortgage should also have priority over same, subject however to "super priority" rights which should be given to purchase money financiers.

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November 2014

Readers of my previous paper (the "Previous Paper") on this topic will recall that it contemplated a fairly common situation in which a farming couple wished to turn over ownership of their farm property to their offspring, but retain - during the balance of their lives - ownership of their home without retaining ownership of any of the land underlying the home.  The motivation for seeking out such an arrangement is to avoid the time and expense typically incurred were the retiring farm couple to transfer ownership of their farm property to their offspring (or to a corporation owned by their offspring), and then lease back the home (together with either the land immediately underlying the home's footprint, or some slightly larger area of land, in any event, something less than 80 acres.  Under The Manitoba Planning Act (the "Planning Act"), approval for such a lease arrangement would be required to validate the lease and allow the couple to caveat the affected land with notice of their leasehold rights.  The Planning Act exempts a long-term lease where the leased land is at least 80 acres, but in the situation envisaged, the parties do not wish to lease that great an area.  The Planning Act also exempts a lease of "floor space", but it is arguable as to whether or not a lease of the whole of the house, excluding the land immediately underlying the house's footprint, would be considered to be a lease of floor space in a building.

In the Previous Paper, the writer attempted to point out that, although conveyance of ownership of a house excluding the underlying land did not seem to be what the Legislature intended when it enacted the Planning Act's subdivision control rules and requirements, nevertheless, a strict reading of the legislation and a strict application of how the common law views an improvement to land, would suggest that such a conveyance (of a house alone) would be prohibited under the Planning Act, unless subdivision approval was given thereto.

It has been recently pointed out to the writer that there is probably another legal impediment to attempting to create a valid and enforceable conveyance of ownership of a house alone (excluding the underlying land).  This has much to do with the modern statutory framework of land ownership, in particular, as provided for in The Manitoba Real Property Act.  As noted in the Previous Paper, Canadian Courts have from time to time recognized dispositions of ownership of improvements to land made or provided to be made without a concurrent disposition of the ownership of the underlying land.  In other words, it appears to be theoretically possible to treat an improvement to land as a chattel, or at least to be able to convert the nature of a land improvement, from "real property" to "personal property".  Incidentally, such an arrangement should be contrasted with the situation where the owner of a building and the underlying land physically removes the building from the land and has it moved to another location where it is placed on and thus forms part of the land at the new location; this is an actual and physical separation of an improvement from the underlying land, but that is not what I was dealing with in the Previous Paper.  Where the land improvement, ownership of which has been conveyed separately from the underlying land, physically remains on the underlying land, there is simply no legally established public registry office in which the transferee of ownership of the building can record notice to "all the world" that the building is now under ownership which is separate from the ownership of the underlying land.  The (new) owner of the building would not be able to record a caveat against the underlying land owner's title giving notice of the building owner's rights and interests, simply because the building owner's rights and interests are rights and interests in a chattel, not in land.  So far at least, The Real Property Act does not provide for a system of titles to be issued to the owners of buildings only.

With there being no mechanism for the owner of a building, notionally separated from the underlying land, to give notice to third parties dealing or who may deal with the owner of the underlying land, of the building owner's rights and interests, it is arguable that a Court would give priority to third parties acquiring rights and interests in the underlying land from the underlying land owner, over the building owner's rights and interests.  The claims of the underlying land owner's mortgagees, lien claimants and bankruptcy trustee come to mind.  It may also be "telling" that the Legislature felt it necessary to statutorily intervene in real property law in order to validate dispositions of condominium units and air space parcels, separated from the ownership of the land underlying a condominium or air space parcel project.

It is the writer's view that the "real" problem in the retiring farm couple situation which the writer postulated in the Previous Paper is not the land law problems discussed above, but rather the lack of an unambiguous exemption in the Planning Act so as to permit a retiring farm couple to be able to long-term lease their home, with the land underlying the home and reasonably adjacent thereto, being less than 80 acres.  Until an appropriate legislative amendment is made to the Planning Act, counsel should be very cautious in encouraging their clients to enter into arrangements conveying ownership of a home without including the underlying land.

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July 2019

Those who are familiar with the writer's various "case comments" and related papers will recall that a number of them have dealt with Section 8 of the Interest Act (Canada) (respectively, "Section 8" and the "Act").  A recent case dealing with Section 8 is Walia v. 2155982 Ontario Inc., 2019 ONSC 1059, judgement issued February 13, 2019 (hereinafter, the "Walia Case").  The Walia Case not only dealt with a facet of Section 8, but also considered what is commonly called the "indoor management rule".  Thus the Walia Case is a good source of guidance for commercial practitioners who frequently have to deal with both of these issues.

  1. Section 8 of the Act.  2155982 Ontario Inc. as mortgagor (the "Mortgagor") mortgaged some Ontario realty to Mr. Walia as mortgagee (the "Mortgagee") with the secured indebtedness carrying interest at a rate of 12% per annum.  The parties agreed that (to quote from the judgement) "…upon default or if the mortgage is not paid in full by the due date…interest will accrue at the rate of 21% from the date of default or the due date until the balance is paid in full".  Both parties acknowledged that the stipulation for interest "upon default" at the (increased) rate of 21% ran afoul of Section 8.  But the Mortgagee argued that the stipulation for the increased interest rate "if the mortgage is not paid in full by the due date" did not run afoul of Section 8.  Section 8 refers to a post-interest rate increase which is triggered by a mortgagor's default, and should not invalidate an increase in the interest rate merely upon maturity of the secured debt.

The Court disagreed and posed the question: "Does the term "arrears" in the case of a mortgage in default apply only to missed monthly payments or does it also apply to the entire mortgage amount if not paid when due?".  The Court concluded that when a mortgage secured debt has matured, and it is not then - virtually immediately - repaid in full, the outstanding balance - which would usually be the entire outstanding balance - is "in arrears".  Thus what the parties had agreed to was contrary to Section 8.

However, readers should keep in mind the fact that The Supreme Court of Canada (in Krazel Corp. v. Equitable Trust Co., 2016 SCC 18) held that "…a rate increase triggered by the passage of time alone does not infringe Section 8…".  Presumably it is - and continues to be - permissible for the parties to contract for a rate at, say, 5% per annum for, say, the first two years of a mortgage secured loan's term, and then stipulate for an increase in the interest rate to, say, 8% per annum, for the third and following years of the term.

  1. Application of the "Indoor Management Rule".  The Mortgagor and the Mortgagee had entered into what is commonly called a "commitment letter" pertaining to the financing secured by the mortgage.  A "commitment letter" is an offer of financing made by a lender to a borrower which, when accepted or agreed to by the borrower, becomes a form of loan agreement (hereinafter, a or the "Loan Agreement").  In the Walia Case scenario, the mortgagee had signed and one of two signatories of the corporate mortgagor had signed.  The mortgagor argued that because the corporate mortgagor's "internal" rules required a second authorized signatory to sign the Loan Agreement, the Loan Agreement was not duly executed, and thus not binding on the mortgagor.  The mortgagee counter-argued that based on the "indoor management rule", the mortgagee was entitled to assume that the mortgagor's "internal" corporate rules had been followed.  The classic judgement dealing with this concept was Royal British Bank v. Turquand, 119 ER 886.  The Court acknowledged the continuing validity of the indoor management rule, but pointed out that the rule "…was not intended to protect parties who knew or ought to have known that the person signing on behalf of the corporation did not have authority (or sufficient authority) to do so.".

The Court noted that in this situation, the mortgagee knew that a second signatory was required in order to entitle and obligate the mortgagor to become indebted/borrow funds.  Additionally, it was acknowledged that the lawyers for the mortgagor and the mortgagee were father and son and that they worked out of the same office space; the Court concluded that both lawyers must have communicated with each other on an ongoing basis.  Additionally, the Loan Agreement had been prepared by the mortgagee's lawyer "…at the (mortgagee's) direction, with a place for both (the two authorized signatories of the mortgagor) to sign.".  Further, the mortgagee had provided documentation pertaining to various transactions entered into by the mortgagor and the mortgagee, and in almost all cases, the documents were signed by the two (required) authorized signatories of the mortgagor.  As the Court stated: "The glaring exception was the (Loan Agreement).  It contained two signature lines, one for (the authorized signatory of the mortgagor who did sign)" with the other signature line having been left blank. Accordingly, the Court held that the mortgagee was not protected by the "indoor management rule".

The Walia Case suggests that:

(1)          If you choose to act for both parties to a transaction, you will most likely diminish both of your clients' potential ability to rely - where a dispute later erupts - upon the indoor management rule;

(2)          The current practice amongst experienced commercial practitioners is to require one or both of the following from the "other side":

(a)          a certificate or statutory declaration containing statements by a knowledgeable representative of the party making the statements therein which contain positive statements pertaining to the due authorization, due execution and due delivery of documents by that party; and

(b)          a legal opinion from counsel for that party which confirms due authorization, due execution and due delivery.

(3)          If counsel for one party to a transaction has actual knowledge - or arguably, constructive knowledge - that something may be "amiss" with respect to the other side's authorization, delivery and/or execution of its documents, that lawyer will not likely be able to rely on the "indoor management rule".  The writer would go as far as to suggest that if you and I are opposite counsel in a commercial transaction and I get one or more of a "comfort assurances" certificate or statutory declaration from your client and a legal opinion from you, but I know that one or more of the material statements in such documentation is incorrect - or I have reasonable suspicions as to the correctness thereof or it can later be proved that I should have had the knowledge of the inaccuracy of such statements - I would not likely be able to be able to rely on the indoor management rule.  In most cases, my knowledge - or lack of knowledge - is, from a legal perspective, fastened on to my client.

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June 2016

The Canada Interest Act (the "Act") provides, in essence, that any arrangement or understanding whereby a debtor is obliged to pay a "fine, penalty or rate of interest" on real estate secured indebtedness which has the "effect of increasing the charge" on any arrears of the indebtedness (ie, upon or after default by the debtor) is prohibited.  The Section goes on to provide that "interest on arrears of interest or principal" may be charged/collected, as long as the interest rate is not greater than the rate payable prior to default.  Section 9 of the Act additionally provides that where a debtor has paid more than it is obliged to pay under Section 8, the excess is to be paid back or credited to the debtor.

A frequently occurring motivation for a creditor to wish to stipulate for a post-default rate of interest higher than the pre-default rate, is to induce the debtor to pay on time.  However, in enacting Section 8, presumably, Parliament concluded that, as a matter of public policy, it was inequitable or unfair to allow creditors to "penalize" their debtors for failure to pay on time.

In pondering the application of Section 8 to credit transactions, consider the following scenarios:

  1. Scenario #1 - a creditor ("C") extends credit (say $100.00) to a debtor ("D") for 12 months.  "D" agrees to pay interest at 5% per annum until default, and after default, until payment is made in full, "D" is to pay 8% per annum.
  2. Scenario #2 - "C" extends $100.00 credit to "D" for a term of 12 months.  "D" agrees to pay interest at 5% per annum for the first 11 months, and thereafter, to pay interest at a rate of 8% per annum until all indebtedness is fully paid.
  3. Scenario #3 - "C" extends $100.00 credit to "D" for 12 months.  Interest is payable at 8% per annum, but, the parties agree that if "D" actually pays interest at 5% per annum and repays the indebtedness in full when it is due, then at the time of repayment in full, "C" will forgive the difference between 8% per annum and 5% per annum.  If payment is not made in full when due, then the interest payable would be 8% per annum both before and after default.
  4. Scenario #4 - "C" extends $100.00 credit to "D" for 12 months. In addition to "D"'s obligation to repay the $100.00, "D" agrees to pay a "finder's fee" or a "processing fee" of $10.00 to "C" at the end of the 12-month period, so that "D"'s obligation is to pay $110.00 at or by the end of the term.  Additionally however, "C" promises "D" that if "D" makes payment in full by the end of the term, then "C" will forgive the $10.00 fee.
  5. Scenario #5 - "C" extends $100.00 credit to "D" for 12 months.  No interest is payable by "D" during the term, but if repayment in full is not made by the end of the term, then "D" is obligated to pay interest, from and after default, at a rate of 5% per annum.
  6. Scenario #6 - "C" extends $100.00 credit to D for 12 months.  Interest is payable at 5% per annum, both before and after default.  Part way through the term, "C" sells its debt claim against "D" to "X" on the basis that "X" will "step into the shoes" of "C" and be able to require "D" to pay back the debt (with interest at 5% per annum) by the end of the term.  However, "C" agrees with "X" that "C" will only receive (from "X" for the purchase of "D"'s debt) $75.00.  Thus, by the end of the term, "X" thus will have collected (assuming "D" pays in full when due) $100.00 plus 5% per annum over the 12-month term.  But, "X"'s rate of return will be higher than 5% per annum, because he was able to purchase the right to get $100.00 by paying only $75.00.
  7. Scenario #7 - "C" extends $108.00 credit to "D" for 12 months.  No interest is payable by "D" during the term and no interest is payable beyond the end of the term where "D" does not repay on time.  However, if "D" pays in full at the end of the term, "C" will forgive and release its claim of entitlement for $8.00.

Does Section 8 prohibit any - or all - of these arrangements?  Recently (judgement rendered May 6, 2016) The Supreme Court of Canada, in the Equitable Trust Company case (hereinafter, the "Equitable Case") considered directly, and probably by implication, all of the above scenarios.

Based on the majority judgement (the majority consisted of 7 of the 10 judges sitting) in the Equitable Case, and considering the reasoning put forward by the majority, this writer believes that Section 8 of the Act would apply to the above-described scenarios as follows:

  1. Scenario #1 - would prohibit.  This is a "black and white" case, and there should be no doubt here.
  2. Scenario #2 - complies with Section 8.  However, where the higher rate of interest becomes payable just before the end of the term (say one or two days before the maturity date), Section 8 may prohibit the arrangement on the basis of "substance over form".
  3. Scenario #3 - would prohibit.  This is a "discount type" arrangement, and the Court emphasized that Section 8 is not restricted to the charging of interest post-default in the usual sense of the word "interest".  It also applies to discount incentives.
  4. Scenario #4 - would prohibit.  This too is a "discount type" arrangement, or at least sufficiently analogous to one that it would be prohibited by Section 8.
  5. Scenario #5 - would prohibit.  This contradicts what other Courts have felt to be permitted under the Section 8 restrictions, such arrangements being typically referred to as "zero rate" loans.
  6. Scenario #6 - complies with Section 8.  The writer mentions this example simply to distinguish the discount transaction which exists between the creditor and the creditor's assignee, not between the creditor and the debtor.  The arrangement does not in any way change what the debtor is obliged to pay on account of its debt, whether before or after default.
  7. Scenario #7 - complies with Section 8.  In this scenario, not only is the creditor not getting any rate of return, it is (arguably) agreeing, in advance, to take a loss on payment.  Commercially and realistically, it is almost impossible to visualize such an arrangement being entered into.

In coming to its conclusion in the Equitable Case, the Court stressed that Section 8 refers to what the effect of an arrangement is.  Where the agreement provides an inducement to the debtor to perform on time and where the debtor fails to perform on time, the debtor becomes obligated to pay value - in addition to the principal balance - in excess of what the debtor would have had to have paid if the debtor had performed on time, the arrangement is prohibited by Section 8.

The dissenting judges pointed out that if discount type inducements are not legally permissible, arrangements which may actually benefit debtors will be unavailable to them.  This writer agrees with the dissenting minority, but, with respect, it appears that the majority judges correctly interpreted the meaning of Section 8, based in particular on the evidence before them, including, in particular, the principles of statutory interpretation.  Accordingly, it is this writer's view that Parliament should amend Section 8 to narrow its application, and in particular, to permit the entering into and the offering of bona fide discount and similar inducements to perform on time.

If and when Parliament does consider this matter, the legislators should keep in mind that the prohibition in Section 8 only applies to real estate secured debt.  The Section was based on a pre-statutory equitable principle going back several hundred years to when most wealth was represented by real estate, not - as is the case today - equipment, inventories and investment property, all of which can secure debt which calls for post-default higher interest rates and other "penalties" (subject of course to the "penalties" or higher interest rates not being unconscionable).  At the very least, Parliament should consider amending Section 8 so as to remove its application from non-residential property secured loans and/or non-consumer credit transactions.

In attempting to navigate around the dangers which may be imposed - sometimes unexpectedly - by the application of Section 8 to credit transactions, consider the following:

(a)        Although unusual, a borrower, a lender (or other credit grantor) and a guarantor (of the borrower's obligation) could enter into an arrangement (with the borrower pledging real estate to secure its direct borrowing obligation) whereby after default by the borrower, and upon the lender making demand of the guarantor, the guarantor's obligation would be to not only pay the principal debt, but also to pay interest at a rate higher than the rate payable by the borrower on its debt obligation.  Would this arrangement run afoul of Section 8?  It would probably depend on whether or not a Court concluded that the guarantor's obligation was so closely related to (or derived from) the borrower's obligation, that Section 8 must apply both to the borrower and to the guarantor.  If the guarantor's obligation was replaced by an indemnification obligation, it appears to this writer that it would be less likely for Section 8 to be held to apply to the indemnifying party.

(b)        Where a creditor has obtained a real property mortgage from a debtor which, by its terms, secures all present and future obligations, limited only to the maximum principal or face amount of the mortgage (sometimes called a "multi-purpose mortgage" or a "collateral mortgage"), and one or more of the debts thereby secured contravene Section 8, with one or more of the other debts not being in contravention of Section 8, this can present a problem to the mortgagee.  It is the writer's practice to include a provision in this type of mortgage to the effect that where any debt secured by the mortgage by its terms contravenes Section 8, then either the mortgage doesn't secure that debt, or, it secures the debt, but only to the extent of non-contravention.  This may well be useful where one or more of the debts secured by the realty mortgage are also substantially secured by personal property security interests.  The rule in Section 8 does not apply to debts secured by charges on personalty.

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September 2018

Readers of the writer's recent paper entitled "LENDERS AND THEIR LAWYERS: BEWARE OF SECTION 4 OF THE CANADA INTEREST ACT" will be aware of the recent (January 10, 2018) Ontario Superior Court of Justice's decision in the Solar Power Network Inc. v. ClearFlow Energy Finance Corp. case (the "Solar Case"). That Court held that Section 4 of the Interest Act invalidated certain interest-like claims of a creditor, notwithstanding that the interest payment, calculation and determination provisions of the documentation between the parties contained provisions which were very broadly utilized in Canadian credit transactions.  Fortunately, the Trial Court's decisions were - in part - overturned by the Appeal Court.

To recap the Trial Court's confirmation of the facts in the Solar Case, Solar Power Network Inc. and related entities were renewable energy companies specializing in installing solar panels in commercial, institutional and industrial rooftops.  The respondent ClearFlow Energy Finance Corp. was a project finance company that provided financing to the solar energy and clean technology sector.  And that was precisely the relationship between ClearFlow (as "Lender") and Solar Power Network (as "Borrower").  The Lender provided a number of separate loans (or financings) to the Borrower to enable it to obtain and install solar power equipment.  The loans were initially intended - by both parties - to be of a short term nature, with the Borrower arranging for longer term more "conventional" financing in due course.  The loans were documented in various ways, including loan agreements and promissory notes, but, as observed by the Court, regardless of the form of the documentation, each loan provided for three different "components" of remuneration payable by the Borrower in connection with the making of the loans, namely:

(i)            An interest rate which was usually set at 12% per annum, compounded and calculated monthly, and 24% per annum following default (the "Base Interest").

(ii)           An administration fee charged at the outset of the loan transaction calculated as a percentage of the principal amount of the loan advanced.  If a loan was not repaid on time, then the initial administrative fee was tacked on to the principal balance of the loan and carried forward as an extended loan, with a new administrative fee being charged on the total amount of the extended loan.  These fees are referred to herein as the "Administration Fees"; and

(iii)          A discount of 0.003% of the outstanding principal balance of a loan, calculated on a daily basis for each day that the loan was outstanding.  If the discount fee had not been paid when the initial term of the loan had expired, the outstanding balance of the discount fee applicable to the loan during its initial term would be added on to the loan and carried forward to form part of the principal amount of the extended loan, to which a further discount fee would be applicable.  These discount fees are referred to herein as the "Discount Fees".

The Trial Court concluded that:

(a)          The Discount Fees were interest within the meaning of Section 4, but the Administration Fees were not interest.

(b)          Although the Administrative Fees provisions were not subject to Section 4 and the Base Interest did not contravene Section 4, the fact that the provisions dealing with the Discount Fees breached Section 4's requirements "tainted" the Base Interest (as well as the Discount Fees) with the result that Section 4 applied so as to require reduction of the Base Interest to 5% per annum (the "default rate" where there is non-compliance with Section 4).

(c)           The relatively simple to state and simple to understand formula typically used by lenders to specify a rate of interest based on a one year period when the contractually stipulated rate is for a unit of time less than one year was not sufficient compliance with the disclosure requirements of Section 4.

(d)          Proper disclosure under Section 4 requires that the lender provides rate information which takes into account the compounding of interest.

The Ontario Court of Appeal agreed with the lower Court's view that the Administration Fees were not interest and that the Discount Fees were interest.  But it took exception to the lower Court's conclusion that the typical annualizing formula found in many Canadian business transaction documents was not sufficient disclosure.  This should be comforting to creditors and their counsel given that, had all of the trial Court's conclusions been upheld, it would have potentially invalidated a large number of interest calculation and payment provisions frequently found in credit transaction documents.  It was no coincidence that The Canadian Bankers' Association became an intervener at the Court of Appeal hearing.

Of particular interest were the following Appeal Court's holdings:

  1. The Trial Court's conclusion that the Administration Fees were not interest and that the Discount Fees were interest was correct.  Just because the parties call a fee something other than "interest", it will in law be interest if, in the circumstances and considering the "purpose" of the fee, it carries the hallmarks of interest.  Specifically, the Discount Fees were "compensation for the use or retention of money, related to the principal amount owing and they accrued over time".
  2. The commonly used "annualized formula" to produce a rate or percentage "equivalent" to the less than annualized stated rate was sufficient for the disclosure purposes of Section 4.  Thus an initially stated rate of, say, 2% per month is properly disclosed under Section 4 by additionally describing the rate as 24% per annum. Or, frequently, a rate stated at 2% for a 360 day year is equivalent to 2% times 365/360.
  3. Although using these formulas does not take into account the effect of the compounding of interest (typically, monthly in arrears), this is about all that the creditor can do in those situations where compounding may occur, but it is impossible, at the outset, to know exactly when - and how frequently - the compounding will occur.  In the Solar Case scenario, and as stated by the Appeal Court, "…whether the Discount Fee would ever compound was entirely contingent on Solar Power requesting and ClearFlow granting an extension of the loan at the end of its term.  It was therefore impossible for the Loan Agreement to state an equivalent rate or percentage that took into account compounding of the discount fee".
  4. The fact that there was no annualizing formula stated for the Discount Fees did not "taint" the provisions for payment of the Base Rate, so as to reduce it to 5% per annum.  The Base Rate had an annualizing formula which complied with Section 4.  In this case however, the matter was academic because the annualized rate for the Discount Fees was less than 5% per annum.

The Appeal Court noted that the parties in the Solar Case were experienced and business-sophisticated parties who both engaged counsel.  In applying the conclusions of the Court to future transactions, lawyers should keep this salient fact in mind.  In any event, and on the whole, it is refreshing to see a Court make the following statements:

(a)          "…consideration of all relevant principles of statutory interpretation indicates that a different interpretation, more in line with modern commercial reality and the expectations of the parties, is appropriate";

(b)          "Courts have repeatedly departed from the "plain meaning" (of statutory language) when interpreting legislation to avoid absurd results"; and

(c)           "(in the dealings between the parties in the Solar Case) there was plainly no attempt to subvert the law".

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-               Effective June 12, 2008, The Manitoba Personal Property Security Act (the "MPPSA") was altered by certain amendments (the "Investment Property Amendments") which, to a substantial extent, modify Manitoba's rules regarding the taking, perfecting and realization of security interests in most types of personal property usually thought of as investments.  That is, such things as stocks, bonds and other investments in businesses and business ventures, as well as rights and interests in or derived from same.

-               The Investment Property Amendments are contained in Part 7 of the new Manitoba Securities Transfer Act (the "MSTA"), the MSTA having been enacted to alter theManitoba rules dealing generally with purchases and sales of investments.  The Investment Property Amendments borrow heavily and incorporate definitions and concepts from the MSTA, so in order to understand the Investment Property Amendments, it is necessary to review and understand substantial portions of the MSTA.

-               Both the MSTA and the Investment Property Amendments:

(a)          reflect the modern reality of the existence of "intermediaries" in the investments marketplace, that is, that, at least for publically traded investments, most investors do not hold their investments directly from the issuers thereof, but rather hold interests (or undivided interests) in investments which are in turn acquired by one or more intermediaries from the original issuers (intermediaries being typically banks, trust companies, brokers, investment dealers, etc.);

(b)          bringManitoba's rules for dealings (including secured transactions) with investments substantially in line with the similar rules enacted in theU.S.and in (now) most Canadian provinces;

(c)           reflect the fact that, although sometimes (although less and less frequently), one's investments may be represented by a tangible (ie., paper) certificate, in essence, all investments covered by the MSTA and the Investment Property Amendments comprise one or more (typically a "bundle") of intangible rights and interests.  An investor may own 1,000 common type shares in ABC Widgets Ltd. which are represented by a share certificate, but the share certificate itself (a mere piece of paper) has no inherent value, rather, it is the rights to receive dividends and/or capital, to vote in the operation of the business being carried on by the issuing corporation etc. to which the investor is entitled by virtue of owning the shares that constitute the real value of the share certificate.  Even in the case of futures contracts, while the underlying subject matter of this type of arrangement may well be - and frequently is - some tangible goods/commodities, most futures contracts investors never intend to acquire, keep and then physically dispose of the underlying goods/commodities, rather, it is the (possible and hoped for) gain in a futures transaction which an investor values.

-               The MPPSA definition and concept of collateral which is "intangible" continues to exist, but with intangible personal property which falls within the category of "investment property" (as defined in the Investment Property Amendments) now being excluded from the formally defined category of "intangible" personal property.  Some investments may not in fact fall within the definition of "investment property" under the Investment Property Amendments, and in any such case, it is likely that such investment would fall within the MPPSA’s definition and category of "intangible" personal property.

2.         Some new concepts

-               The key to understanding the Investment Property Amendments and how they operate is to comprehend the meanings of a number of new definitions and concepts which have been introduced by the Investment Property Amendments.  In particular, note the following:

(a)          "investment property" is defined in the MPPSA (as amended) as a "security", or, a "security entitlement", or, a "securities account", or, a "futures contract", or, a "futures account";

(b)          each of the aforementioned components of the definition of "investment property" is further defined, either in the MPPSA (as amended) or in the MSTA.  Note in particular:

(i)            a "security" is defined to mean what we normally consider as an investment issued by an entity directly to the holder thereof, including debt type obligations and equity/participation shares or interests, whether represented by a (paper) certificate or merely recorded in the holder's name in the issuer's records;

(ii)            a "securities account" is defined to mean an arrangement in which one or more investments are placed for the benefit of an investor by someone else who, as or as part of their regular business, establishes and maintains "securities accounts". The person who establishes and maintains such an account is called (and defined as) a "securities intermediary".  Typically securities intermediaries are brokers, banks and trust companies. 

(iii)          A "security entitlement" is defined to mean the rights and interests which an investor has as against a securities intermediary as recorded in the securities intermediary's records pertaining to one or more investments (and perhaps other assets of value which are not strictly investments) maintained by the security intermediary in a securities account established for the investor.  Such investor is defined as an "entitlement holder";

(iv)          A futures contract is defined as an arrangement whereby an investor has the right to deal with (to buy, to sell or to have an option to buy or to sell) something of value in the future on specified terms (obviously in particular specifying the "price" or consideration involved/to be involved), where such arrangement is traded on or is subject to the rules of a futures exchange, is standardized (presumably pursuant to the rules or requirements of such futures exchange), and, where the investor's rights and interests under the contract are "carried on the books of a futures intermediary".  "Futures intermediary" is defined to be either a party dealing in futures who is permitted to trade, either as principal or as agent, under the securities or commodities futures laws of Canada, or, is a clearing house recognized or otherwise regulated by Canadian authority;

(v)           A “futures account” is defined to mean an arrangement in which one or more futures contracts are maintained by a futures intermediary for the benefit of an investor.

(c)           the MPPSA (as amended) defines "control" by reference to its definition in the MSTA.  "Control" describes the dominion over an investment which is granted to or taken by someone acquiring ownership of such investment, or, in the context of a secured transaction, the dominion which is granted to or taken by a secured party in an investment who acquires such dominion by virtue of acquiring a security interest in such investment.  In this regard, note:

(i)            different rules for how to obtain control of an investment apply depending on what type of investment property one is dealing with.  The methods of obtaining control range from the simple act of a secured party obtaining physical possession of a certificated security in bearer form from or under the authority of the debtor/owner of the security, to more complex arrangements existing between the secured party, the issuer of a security (or an "intermediary") and the debtor/owner of the investment, such arrangements typically involving the secured party having an overriding right to liquidate (or redeem) the investment, but with the debtor retaining, to a greater or lesser degree, the ability to exercise the rights which normally attach to ownership of the investment;

(ii)           the arrangements just referred to will be most typically utilized for investments which are not certificated securities. Although not specifically defined as such in the legislation, such arrangements have become known as "control agreements".  These agreements have been previously utilized in situations where an investor owns a "pool" of investments which are held for the investor by a broker, dealer or other person (who under the new legislation would now be called an "intermediary").  In connection with a "pooling" arrangement,  the investor wishes to grant security in its "pool" of investments, but at the same time wishes to continue to be able to (i) utilize the intermediary's judgement and advice in selecting and modifying investments in the "pool" from time to time, and (ii) have the intermediary acquire new investments to be added to the "pool", often with the intermediary extending credit, in whole or in part, to the investor to finance new acquisitions, and, (iii) itself buy and sell investments in the "pool", as well as exercise other rights attaching to the investments such as obtaining or dealing in options to acquire investments or further investments, redeem investments and exercise voting rights.  What is key here and what will make for interesting and perhaps creative drafting by counsel are "control agreement" provisions which balance the rights and obligations of each of the secured party, the investor/debtor and the intermediary, bearing in mind each of their sometimes conflicting interests;

(d)          The MSTA makes it clear that:

(i)            even though a control agreement permits the investor/debtor to retain certain rights to deal with the pledged collateral - thus taking away somewhat from the secured party's primary rights to sell or redeem the collateral - the secured party will nevertheless be deemed to remain "in control" of the pledged collateral;

(ii)           the issuer of an uncertificated security or a securities or futures intermediary will not be entitled to enter into a control agreement with a secured party unless the investor/debtor specifically consents to same.  Thus secured parties will need to ensure that such consent has been issued;

(iii)          even if the owner of an investment and its secured party agree upon the need for a control agreement to be entered into with the relevant intermediary or uncertificated security issuer, the intermediary or the issuer will not be obliged to enter into a control agreement unless it consents to do so.  Thus, where a proposed debtor suggests pledging investment property (involving an intermediary or the issuer of an uncertificated security) to its proposed secured party/creditor, the secured party/creditor should not waste too much time on the matter without first ascertaining whether or not the intermediary or issuer is prepared to enter into a reasonable control agreement;

(iv)          where an intermediary or the issuer of an uncertificated security has entered into a control agreement, it is not either entitled or obliged to provide details of same to third parties unless the investor/debtor has authorized the intermediary or issuer to do so.  Thus, it will be necessary for investor/debtors to ensure that their securities issuers or intermediaries are authorized (and indeed required) to provide at least some information to at least certain enquiring third parties regarding particulars of any existing control agreements.  Otherwise new potential creditor/secured parties to whom the debtor may wish to pledge the remaining equity in its investment(s) will be unable to obtain needed information pertaining to any existing control agreement arrangements;

(v)           as just noted, it may be appropriate (and commercially reasonable) for an investor holding one or more uncertificated securities and/or a "pool" of investments through an intermediary to be able to grant security in its investments to more than one creditor/secured party at the same time.  This would be the situation where there is or it is anticipated that there will be sufficient equity/value in the investor's investments to secure credit extended from two - or perhaps even more - creditors.  In any such case, in addition to each creditor/secured party having its own control agreement pertaining to its security, it would probably be appropriate for all of the creditor/secured parties (along with the investor/owner) to enter into an intercreditor agreement, or perhaps, one "master" control agreement involving all of the interested secured creditors.  Such arrangements would be intended to provide at least some assurance to each of the creditors that its (security) interest in the collateral would be protected and maintained.  These would no doubt deal with the situation where it became necessary for the pledged collateral to be liquidated for the benefit of all of the creditors involved.

(vi)          if an investor obtains credit from its intermediary (as noted above, this would typically occur where an investor adds to its "pool" of investments held/maintained by a broker, dealer, bank, etc. on credit extended by the broker, dealer, bank etc.) and thereupon grants a security interest in the investor's "pool" of investments to its intermediary, the mere granting of the security interest "automatically" gives the intermediary control of the "pool" of investments.  Other secured parties must both have the debtor enter into a security agreement and take the steps required in order to achieve control.  Thus intermediaries who enable their customers to acquire investments utilizing the intermediaries’ credit are given a favoured position under the legislation in comparison with other secured parties.  However, note that intermediaries in this position are no different from secured parties who obtain "purchase money security interests" who are already given a favoured position under the existing legislation.

3.         Perfection and attachment

-           These expressions are used in the legislation to describe the status of a security interest held by a secured party in relation to the secured party's right to enforce or realize upon its security interest in the collateral as against or in relation to :

(a)         the debtor; and

(b)         other persons having interests in the collateral, including, but not limited to, other secured parties.

             Part - although not all - of the requirements to achieve "attachment" for a security interest have to do with establishing the security interest as being enforceable by the secured party against the debtor only.  Part of one of the requirements for "attachment" and all of the requirements for "perfection" of a security interest have to do with the security interest being established as enforceable by the secured party against persons other than the debtor.

             "Perfected" status for a security interest cannot be achieved unless all of the requirements for attachment have also been achieved.   Having achieved "attached" status, in order to achieve perfected status, the secured party must, in most - although not all – cases, take one or more further steps or actions.  When a security interest has achieved "perfected" status, it then gives the secured party the highest and best "bundle" of rights with respect to the collateral against not only the debtor, but also against other persons with interests in the collateral (as noted, most typically, but not exclusively, against other secured parties).

-           The requirements for attachment remain essentially the same, namely that:

(a)          value must have been provided to the debtor; and

(b)          the debtor must have rights in the collateral (the Investment Property Amendments have added an alternative to this, namely that the debtor must be able to transfer rights in the collateral to the secured party); and

(c)          the security interest must have become enforceable against third parties pursuant to the requirements contained in Section 10 of the MPPSA (as amended).

             The Investment Property Amendments have altered Section 10 with respect to investment property - although the requirements of Section 10 remain unchanged for collateral other than investment property.  The investment property changes are as follows:

(a)         where the collateral is a certificated security in registered form, attachment will occur if the security certificate has been delivered to the secured party in accordance with the rules for "delivery", set forth in Section 68(1) of the MSTA; and

(b)         where the collateral is investment property generally, attachment will occur when the secured party acquires control of the collateral.

Attachment also requires the entering into of a security agreement, and note that if the security agreement contains a proper description of the collateral (as specified in Section 10 (1)(d) of the MPPSA (as amended)), then the existence of such signed security agreement with such proper description will itself satisfy the requirements of Section 10 (1).  The likely reason why a secured party would both want the debtor to enter into a security agreement with a proper description of the pledged collateral as well as wanting to obtain control of the pledged collateral would be because, in most instances, where a secured party has obtained control of investment property, that gives the secured party the highest and best perfection rights (as well as the achievement of “attachment”) for the secured party's security interest.

The Investment Property Amendments also specify that where a secured party's security interest attaches to a security account or to a futures account, same will also, respectively, constitute "automatic" attachment of the security interest to all of the security entitlements "carried in the security account", or, as the case may be, "automatic" attachment of the security...

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You have been retained by a married or common-law cohabiting couple to act for them in connection with their acquisition of a residential property.  At the time your clients come to your office to be advised generally on the transaction and to "sign up" the required documents, including, in particular, the mortgage they intend to have registered against the property upon their acquisition thereof:

(i)            one (or both) of your clients have signed a binding purchase and sale agreement; and

(ii)           they have not yet commenced to occupy the property as their residence.

You place the mortgage documentation before your clients, explaining that they will have to sign and swear (or affirm) as to the fact that the property is their homestead under The Manitoba Homesteads Act (the "Act"), and where one only of your clients is to be on title, the "off-title" client must provide a Homesteads Act consent to the mortgaging which is to be acknowledged separate and apart from the "on-title" client.  This would be a scenario repeated time and again throughoutManitobain lawyers' offices.

But is this in fact a correct procedure?  At the time that the clients attend upon you to sign the mortgage - with its accompanying statements under the Act - given that your clients are not yet occupying the property as their residence, does the Act apply?  Would it be more appropriate for the Homesteads Act statement negativing the application of the Act to be made?

The writer has to credit Mr. Gordon Hoeschen of Hoeschen & Sloane in Morden for raising this question/problem, and the writer thanks Mr. Hoeschen for same.

Consider the following:

  1. The definition of "homestead" in Section I of the Act clearly refers to a residence being occupied by a couple. Section 4(a) of the Act, referring to the need for there to be a consent to a disposition, does not say (one way or the other) that when the consent is given, the person giving it (and his or her "on-title" spouse) have to then occupy the subject residence although it does refer to a consent to a disposition of a "homestead" (which as just noted, is defined on the basis of occupancy by a couple).
  2. Section 5(1) of the Act, referring to the mode of creation of "proof" as to the non-applicability of the Act, does appear to require that when the statements are made, they are to "speak" from the time when the statements are made, not as to what will or will not be the case at some future time. (In this regard, Section 194 of the Manitoba Real Property Act must be kept in mind, in that it deems a statement contained in a prescribed form - admittedly "prescribed" meaning prescribed under the Real Property Act, not the Homesteads Act - to be the equivalent of a statement made under oath or in an affidavit, affirmation or statutory declaration under the Manitoba Evidence Act, although it is logical to assume that the intent of the legislation was that the statement should/would "speak" from the time when it is made).
  3. The definition of "land" in the Manitoba Real Property Act, Section 1 refers to, inter alia "land, …of every kind and description, whatever the estate or interest therein, and whether legal or equitable…". Is this definition broad enough to include a future/prospective interest in land, for example, the homestead rights (and obligations) that an "off-title" spouse and his or her "on-title" spouse will acquire when they take up occupancy of the subject property?  Is there a more or less current, existing interest, at least in the person who intends to be "on-title", provided that he or she is a purchaser under a purchase and sale agreement, so that at the time the Homestead Act statements are made in a mortgage, at least the intended "on-title" spouse has at that time a sufficient equitable interest in the subject property by virtue of the purchase and sale agreement?
  4. Sections 63(2), 63(3) and 66(4) of the Manitoba Real Property Act provide, in effect, that an instrument (whether a mortgage or otherwise) only effectively performs its function when it is duly registered against title at the Land Titles Office. This appears to support an argument that the provision of Act evidence and the making of acknowledged consents to dispositions of a homestead "speak" or take effect prospectively, that is, only when the instrument is registered, notwithstanding that the language of the Act prescribed statements and the language of the Homestead Act consent (which appears in the prescribed forms of mortgage and transfer, etc.) appear to "speak" currently and not prospectively.

After considering this matter, I believe that those who argue that prior to occupancy, there are no homestead rights, are probably correct. However, I think that the timing problem could be alleviated - and solicitors dealing with the above-described situation can arrange for the provision of the Homestead Act statements or, as the case requires, acknowledged Homestead Act consents, at the time when the parties attend upon the solicitor.  This would be done by changing the wording of the Homestead Act statements and consent to disposition so that they either (ie., "pick one" as is (then) applicable) "speak" currently or, as the case requires, that they "speak" prospectively and contingently. The contingency here is simply that the parties who sign the documents subsequently take up occupancy. If that occupation occurs after the instrument is registered, the Homestead Act statements, or as the case may be, acknowledged consent, would validate the transaction previously effected by the registration of the instrument. If occupancy is taken up between when the document is signed and when registration occurs, then the Homestead Act statements, or, as the case may be, the acknowledged consent, would be deemed to take effect immediately or perhaps thereafter at the time of registration. If after the time of signing, the parties never take up occupancy (because they choose to live elsewhere) but the "on-title" spouse wishes to go through with the acquisition and mortgaging, then the Homestead Act statements, or as the case may be, the Homestead Act acknowledged consent would simply be deemed to not exist (or perhaps, the "on-title" spouse's Homestead Act statement would be deemed to be given at the time of registration and the statement "The within land is not the homestead of me within the meaning of the Manitoba Homesteads Act" would be deemed to have been made by the spouse taking title.

Examples of prospective statements might be:

"My co-mortgagor is my spouse (common-law partner) and (he/she) has Homestead Act rights in the within land by virtue of our occupancy of the within land as our home" ("We do not occupy the within land at the date of this statement, but we intend to so occupy same in the future, and when and if we so occupy, my co-mortgagor who is then my spouse or common-law partner will have Homestead Act rights in the within land upon our so commencing to so occupy the within land").

The writer appreciates that the foregoing described "solution" to the timing problem would require a statutory amendment to the Act.

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In a typical construction project scenario, the property owner contracts with a "general contractor" who promises to construct, or cause to be constructed, the specific project desired by the owners, with completion promised (subject to unforeseen contingencies) by a specified deadline date, and for a consideration or price worked out and agreed to by the parties in advance.  If the contractor fails to do what it promised, the owner has the right to sue the general contractor for the owner's loss.  The general contractor will enter into a number of further contracts with others who are able to and typically "specialize" in providing the different goods and services required to complete the project.  This would typically include an excavation/ foundation firm, a framing firm, a drywall firm, a plumbing firm and an electrical firm.  Suppliers and installers of fixtures and equipment required to heat and light the completed project would also have to be engaged in order to provide the owner with what it has bargained for.  These other providers of "inputs" to the project, that is, providers other than the general contractor, will not have their own direct contracts with the owner, rather, their contracts will be with the general contractor.  Such other providers are usually referred to as "subcontractors" or "subtrades".  The general contractor and the subcontractors will typically engage a number of individual persons to do the actual work ("employees"), and additionally, some of the subcontractors will have to purchase materials from other firms who are in the business of selling such goods ("suppliers").  So what happens if, notwithstanding that the owner is able to and pays what it owes to the general contractor, the general contractor is unable to or otherwise fails to pay what it owes to its subcontractors, suppliers, the subcontractors' own suppliers and the employees of all of these other inputting parties?  The subcontractors can sue the general contractor (they have direct contractual relationships with the general contractor), but what if the general contractor has become insolvent?  They can't sue the owner because they don't have any direct contractual relationship with the owner.  To alleviate this problem, Manitoba - and indeed most other North American jurisdictions - have long ago enacted legislation giving protection to those persons who "improve" a property, but who have no direct contractual relationship with the owner of the property.  The Manitoba Builders' Liens Act (the "BL Act") is the current Manitoba version of that legislation. 

The BL Act, broadly speaking, provides for three legal "mechanisms" to protect persons "improving" real property, namely:

  1. a lien against the property, which, to some degree, provides the improving party with something akin to a real property mortgage (if the improving party isn't paid, it can liquidate the property so as to generate funds required to pay what is owed to it);

  1. the requirement that every time the property owner makes a payment to the general contractor on account of the general contract, 7½% of each such payment is to be held back from the general contractor and, in most construction projects, placed in a distinct trust account, with the funds to be released when the project is completed; and

  1. the imposition of a trust applicable to funds earmarked to be used to pay for the project, with the resulting imposition of trustee obligations on those persons receiving those funds. 

(I)         The Lien

(i)            The BL Act creates liens in favour of those improving real property which form a charge against the real property being improved, and, gives the lien holder the right to have the improved property sold for the purpose of raising funds to pay monies due to the lien holder.

(ii)           With respect to any particular real estate project, whether or not one or more Liens hold priority over a Lender’s duly registered mortgage security:

(1)          is not dependant on whether or not the BL Act holdbacks which are supposed to be made, are or are not made; and

(2)          is dependant on whether or not the Lender advances funds under its mortgage security at a time when one or more Liens have been registered against the title to the real property. If any such advance is made when one or more Liens are so registered, the Lender’s mortgage security, with respect to that advance, will be subordinate to the claims of the holders of the registered Lien or Liens.

(iii)          Where a particular  project is covered by one, or perhaps two or three, titles, it is relatively fast and inexpensive for the Lender to search the title or titles. All such searches should be conducted after 3:00 p.m. local time, when the Manitoba Land Titles Offices cease taking registrations, and, assuming no Lien or Liens have been registered, the funds should be released to the owner before 9:00 a.m. on the next following business day when the Land Titles Offices reopen to take registrations.

(iv)          The problem in effecting title searches arises where, with respect to a particular project, that project is covered by many titles.  For example, a project may comprise a large number of separately titled single family residential units, or a project has been condominiumized and there are a large number of separately titled condominium units. In these cases:

(1)          where the Lender is financing a project with many titles, only randomly selected titles be searched after 3:00 p.m. on the date of intended advancement (we recollect a situation where we acted for a lender providing advances to the owner of a 310 condominium unit building, and, given that it was impossible to conduct 310 after 3:00 p.m. title sub-searches, we searched, say, the titles for units 1, 25, 50, 75, 100, etc. For the next advance, we searched the titles to units 10, 40, 70, 100, etc.).  If the Lender is financing a project where all of the project's titles are in the name of the same owner, it is very unlikely that a Lien would be registered against only one title, and far more likely that if there was a Lien claimant, that claimant would have registered against all of the project’s titles;

(2)          generally however, where a particular project is a relatively large one and the Lender’s advances are in substantial amounts, and, provided that the project only has a few titles, it would be best to search all titles with respect to each advance.

(v)           From a “risk management” perspective, if the Lender searches only random titles (where a project has many titles), while it is possible that the Lender may make an advance whilst one or more Liens have been registered, on the next succeeding titles search by the Lender, such Lien(s) would be discovered, and no further advances would be made until the Lien(s) were removed. In this way, the Lender would tend to minimize its risk, without completely eliminating it.

(II)        Holdbacks

(i)            The BL Act obligates the owner of a property being improved to hold back from each progress invoice submitted to such owner by the project (general) contractor, 7.5% of that invoice, and, where the contract between the contractor and the owner is in excess of $200,000, the owner and contractor are required by the BL Act to open an interest-bearing builders' liens holdback account with a Manitoba chartered bank, trust company or credit union. Although somewhat simplified, in essence, the holdback monies are to be withheld from the contractor until 40 days after the first to occur of completion or abandonment of the project by the contractor. At that point in time, provided that no Lien or Liens have been registered against the project title, the monies in the holdback account may be released to the contractor.

(ii)           Payment of each contractor invoice to the extent of 92.5% of the invoiced amount by the owner to the contractor will reduce the project Lien claimants' (including the general contractor's) Liens to the extent of and in proportion to that 92.5% payment portion, provided that when the owner makes payment, it does so “in good faith” and before the registration of any Liens against the owner’s title. We take “in good faith” to mean that the owner, when making payment, should have no reason to believe that the general contractor who he pays will fail to make payment to those who are in turn engaged by the general contractor to assist it in fulfilling its duties under its contract with the owner.

(iii)          As previously stated, whether or not BL Act holdbacks are made does not affect the priority of the Lender’s mortgage security against the property being improved. Further, the BL Act does not specify that there is any obligation on an owner’s financier to make or to ensure that the holdbacks are made, and where required, be put into an interest bearing holdback account. Nevertheless there are some advantages to a project financier if the holdbacks are made and kept available during the course of construction.  Consider the situation where, before completion of the project, there is a failure to finish due to insolvency of the general contractor or a major sub-contractor.  In this situation the actual setting aside of holdback monies means that there are funds which can be paid into Court, for the purpose of having the Court order the discharge of all of the registered Liens (Section 55(2) of the BL Act). It has been our experience that where this has occurred, and provided that the owner is able to find a replacement general contractor (or major sub-contractor), the removal of the Liens enables the project financier to recommence making project advances, so that the project can be completed, at which time, the financier then has a completed project subject to its security.

(III)       The Trust

(i)            The BL Act imposes trust obligations on project owners, contractors and sub-contractors with respect to monies received by each of them in connection with construction projects. In essence, the trusts are established for the benefit of the persons whom the recipient or holder of project monies has contracted with in order to effect the construction, including contractors, sub-contractors, and certain other beneficiaries such as employees, and The Manitoba Workers Compensation Board. As a general rule, trust monies are not to be used for any purpose other than satisfying the claims of beneficiaries of the trust.

(ii)           A major advantage which accrues to the beneficiary of a trust is that the beneficiary can “trace” trust funds or property which the trustee has parted with in breach of the trust, provided that the trust monies or property can be “identified” in the form of some other property, or in a bank account.  It is possible that a Lender could be liable to a beneficiary that was a victim of a breach of trust committed by the owner, if that beneficiary is able to assert a tracing claim against the "misappropriated" trust money (and such tracing leads to funds that are in an owner's account with the Lender).  Tracing allows a beneficiary to access the specific trust funds it is entitled to, even if those funds are in the hands of third parties (such as a Lender), and even though the third parties themselves may not be guilty of breach of trust.  However:

(1)          tracing is only applicable if the trust property is "identifiable".  The comingling of other funds in an owner's account where the Lender and the owner have established a multi-account "set-off" arrangement, may reduce the likelihood that the particular beneficiaries' trust monies remain "identifiable";

(2)          other funds that may be present in an owner’s deposit account should not be available to a beneficiary who obtains a Court tracing order.  That is because tracing is a proprietary remedy, which means it attaches only to funds from a particular project.  The beneficiary would not be entitled to the owner’s other funds which may be held by the Lender if these other funds do not relate to the beneficiary's particular project; and

(3)          in the Supreme Court of Canada decision in Citadel General Assurance Co. v. Lloyds Bank Canada, [1997] 3 S.C.R. 805, La Forest J. stated that the tracing remedy is subject to certain equitable defences.  Some of these defences may be available to a Lender to allow it to resist a tracing claim.  In particular, as the Manitoba Court of Appeal held in Glenko Enterprises Ltd. v. Keller, 2000 MBCA 7, a tracing claim will be denied where trust funds come into the hands of a third party that gave consideration for the property and who had no notice that it was trust property or, if the third party did have notice that it was trust property, the third party did not have knowledge that an application of such trust property against the trustee's indebtedness constituted a breach of trust.  The court in that case suggested this defence may be available to banks in circumstances that are similar to the present issue.

(iii)          The BL Act does not specifically impose its trusts upon an owner’s financier. Pursuant to the Bank Act (Canada), banks (as depository financial institutions) are in most cases not obliged to determine whether or not funds placed with the depository institution are - or are not - trust funds and whether or not such funds are used in breach of trust obligations by those having control of such funds.

(iv)          However, under the Bank Act, notwithstanding the aforementioned “general” rule, a depository financial institution may be held directly liable to the beneficiaries of a trust in essentially two situations, namely:

(1)          where the institution knows that the trust is or may be breached and nevertheless applies trust monies on account of indebtedness owed by the trustee to the institution (“knowing receipt”);

(2)          where the institution facilitates or assists a trustee in effecting a breach of trust without the institution applying trust monies on account of the trustee’s indebtedness owed to the institution (“knowing assistance”).

(v)           Nevertheless, and in any event, for a Lender/depository financial institution to be liable to BL Act trust beneficiaries, it is not enough for a beneficiary to merely prove that the institution knew of the fact that there are or were trust monies standing to the credit of a trustee’s account with the institution.

In the ManitobaCourt of Queen's Bench decision in Glenko Enterprises v. Ernie Keller Contractors Ltd. (1994), 98 Man. R(2d) 141 (the "Glenko Case"), Beard J. synthesized the relevant case law into the following summary (which was expressly adopted by the Manitoba Court of Appeal and in several other Manitoba cases).

"11       In summary, the case law states that the following inquiries must be made to determine whether a bank which has applied trust funds received from a building contractor to reduce an account overdraft has participated in a breach of trust and must therefore account to the beneficiaries of that trust for those funds:

1.         Did the bank know that the monies being deposited by the customer were trust funds subject to statutory trust conditions?  (Most depository institutions would know this or, because the BL Act trust is a statutorily created trust, the institution would be deemed to know this.)

2.         Did the bank have actual knowledge of the fact that there were trust beneficiaries whose accounts were unpaid?  (This is a question of fact in each case, but certainly, there are probably many situations where the depository institution has no such knowledge.)

3.         If the bank did not have actual notice of unpaid trust beneficiaries, did it have knowledge of facts and circumstances sufficient to put it on inquiry? If so, did it make reasonable inquiries?  (Again, this would be a question of fact in each case, but there are certainly going to be situations where a bank does not have knowledge, and, even where it has, makes reasonable inquiries without ascertaining a breach of trust.)

4.         Did the bank receive and apply the funds in the ordinary course of business without knowledge of any unusual circumstances?  (In amplification of this the Court noted that:  "… the bank is not liable for the builder's breach of trust if the bank, in the ordinary course of business, accepts the deposits and allow cheques to be written thereon, - or for that matter if it applied to funds on overdraft - unless it had or clearly should have had knowledge of the breach of trust by the contractors or of facts to put it on notice".)"

In order for liability to attach to the institution, it would be necessary for a beneficiary to establish that the institution not only knew that it held trust monies, but also that it knew - or from the perspective of a reasonable party should have known - that beneficiaries had not been paid what was due to them when due or that there was a reasonable likelihood that such beneficiaries would not be paid what was then due to them

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 September, 2012

A seller ("S") enters into an agreement with a purchaser ("P") will sell to P, S's residential real estate (the "Property").  The sale and purchase agreement (the "Agreement") requires P to pay S a total of $100,000.00 for the Property, with P having to pay "upfront" a deposit of $5,000.00 (the "Deposit").  Before closing, P reneges and the transaction is aborted.  S takes the Deposit and subsequently resells the Property.

Two likely scenarios may occur here:

(i)            in reselling the Property, S sells for an amount less than the price stipulated in the (original) Agreement, say, for only $90,000.00 (the "Loss Scenario"); or

(ii)           in reselling the Property, S is able to obtain a sale price in excess of that stipulated in that (original) Agreement, say, $110,000.00 (the "Windfall Scenario").

What are S's rights (and obligations) in relation to the Deposit?  Both the Manitoba Court of Appeal 25 years ago and the British Columbia Supreme Court in a recent case (judgment issued February 9, 2012, hereinafter, the "Tang Case") have held that the parties' rights (and obligations) with respect to a deposit in this situation depends on the precise wording of the sale and purchase agreement.

The situation dealt with in the Tang Case is an example of the Windfall Scenario.  In that case, the Court compared the wording of the contract in the Tang Case with the wording in the contracts considered in two earlier B.C. cases and noted that:

(i)            in the Williamson Pacific Developments case, the deposit was stated to be "non-refundable", and the use of that word, together with the deposit forfeiture language in the contract, convinced the Court to hold that the deposit was forfeited to the aggrieved seller without the proof of actual damages; and

(ii)           in the Agosti case, the word "non-refundable" was not present, and the relevant language specified that where the buyer reneged, the deposit was "absolutely forfeited to the seller…on account of damages".  The Court concluded that this language meant that in order to actually claim the deposit monies, the seller would have to prove damages.  As the Agosti case was an example of the Loss Scenario, the aggrieved seller was entitled to damages, but the point here was that such entitlement only flowed from the fact that the seller did suffer a loss (in reselling the property).

The wording in the contract considered by the Manitoba Court of Appeal was also significant in that the Court held that when the buyer reneged and the seller took the buyer's deposit, that act also terminated the contract and all rights of the seller arising out of the buyer's default.  Consequently, when the seller resold the property at a loss (an example of the Loss Scenario), the aggrieved seller was not able claim against the buyer for the deficiency.  As a result, the wording in the standard Manitoba form of residential property offer to purchase mandated for use by realtors was changed so that an aggrieved seller would be able to claim the deposit while still maintaining the seller's right to claim further compensation from the buyer where the seller subsequently sold the property at a loss.

The aforementioned Manitoba standard form contract wording dealing with what happens to a deposit is as follows:

"Where the defaulting party is the Buyer, the Seller shall be entitled to retain the deposit as the Seller's own property, but whether or not the Seller has then terminated or thereafter terminates the Seller's right and obligation to sell and the Buyer's right and obligation to purchase under this agreement by virtue of the Buyer's default, such retainer of the deposit shall not itself constitute a termination of this agreement and shall not restrict the Seller from exercising any other remedies which the Seller may have by virtue of the Buyer's default, including the right to claim damages from the Buyer which the Seller sustains in excess of the deposit".

The question the writer poses in this paper is whether or not the above Manitoba language is sufficient to enable an aggrieved seller to keep a defaulting buyer's deposit without the need for the seller to suffer, and then if necessary, prove to a Court that the seller has suffered a loss?  The writer's belief is that the wording is sufficient for this purpose.  The word "non-refundable" does not appear in the wording, but it is clearly stated that the aggrieved seller "shall be entitled to retain the deposit as the Seller's own property".  This language - in the writer's view - is equivalent to the use of the word "non-refundable".  If the deposit is kept by the aggrieved seller and becomes the seller's "own property", then by the very nature of things, the deposit can't be "refundable".

The Tang Case also deals with an attempt by the buyer to have the sale agreement invalidated on the basis that the seller failed to provide the buyer with a title search.  Not surprisingly, the Court took the position that notwithstanding that the seller had promised to provide a title search to the buyer, the failure of the seller to do so was not "a condition precedent entitling (the buyer) to terminate the contract".  In so holding, the Court noted that the promise to provide a title search was not indicated to be a promise for "the sole benefit" of the buyer.  In the aforementioned Manitoba form of standardized offer to purchase residential real estate, there is a differentiation between conditions which "benefit the buyer" and conditions which "benefit the seller".  All of the conditions stated to "benefit the buyer" are prefaced with the words: "This agreement is terminated unless the following conditions for the benefit of the buyer are fulfilled or waived".  What would happen in Manitoba, if a buyer was able to have included under the heading "CONDITIONS BENEFITTING THE BUYER" a promise by the seller to produce a title search?  It is this writer's opinion that it would be inequitable to allow a buyer to terminate simply because no title search was produced, but that view would run contrary to the plain meaning of the language if such a condition was included in the place suggested.  Perhaps consideration should be given to amending the standard form offer so as to differentiate between conditions which benefit the seller, the non-fulfillment of which, would entitle the buyer to terminate, and other conditions which would not permit the buyer to terminate on non-fulfillment, but would be more in the nature of warranties.

The Tang Case does not deal with the question of whether not an aggrieved seller, who would otherwise be entitled to keep the defaulting buyer's deposit, would be prohibited in law from doing so by virtue of the fact that a Court adjudicating the matter concluded that the amount of the deposit, in relation to the total sale and purchase price, was excessive.  That is, where the Court holds that forfeiture of the deposit constitutes the seller obtaining an unfair or inequitable penalty imposed on the buyer.  The creation of an unfair penalty must be kept in mind by those persons who prepare agreements providing for the disposition and acquisition of interests in real estate.

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May, 2008

Presumably it is human nature that leads persons who suffer financial set backs to blame their banker for their misfortune, even where the banker cannot be reasonably held to have been responsible for the loss.  This may be due to the feeling amongst a broad segment of the population that banks are "big, bad" commercial enterprises who treat their customers, or at least their "smaller" customers, more or less onerously. Possibly, it is because of the perception that banks have "deep pockets" and can easily afford to compensate persons who are in fact the victims of their own carelessness or lack of business foresight.  Maybe, it is because in recent years, the Courts have on occasion held banks to be in a fiduciary position vis-à-vis some of their customers.

However, it is important to understand that where the Courts have held that a bank has a trustee type duty to its customer, this has almost always been in the situation where the customer is peculiarly vulnerable to being affected by the bank's conduct and where the customer has placed substantial reliance on the bank in conducting the customer's financial and/or business affairs. 

In the recent judgment in the Baldwin case (rendered September 27, 2006, hereinafter the "Baldwin Case"), the Ontario Court of Appeal held that in lending funds to customers which the customers then placed in certain investments, acting on the advice of financial advisors (the financial advisors not being connected to the bank), the customers were not entitled to hold the bank responsible for losses sustained in connection with their investments.  The customers attempted to claim compensation from the bank both on the basis of the bank's negligence and on the basis that the bank owed a fiduciary duty to the customers (which it breached) to advise them as to the risks inherent in investments and their obtaining of the loans from the bank.

Although not related to each other, the investment advisors and the bank did work together to facilitate a customer's borrowing from the bank and to effect the customer's investments utilizing the bank borrowings.  A customer would complete a loan application with the assistance of the financial advisor and the advisor would then submit the application to the bank.  Where the bank approved the loan for a particular customer, the bank would (presumably with the authorization of the customer) advance the loan proceeds directly to the customer's advisor who would then utilize same to make the customer's investments.  The customers pledged their investments to the bank to secure their loans and consequently, all of the loans had "margin requirements".  Thus if a customer's investments fell in value, the bank would require the customer to pay down the loan so as to take into account the then lower value of the bank's security.

Having had to have repaid their loans in whole or substantially in part, the customers claimed variously that:

(i)            the bank did not explain the "margin requirement" terms of the loans;

(ii)           the customers did not understand the loan documents (the documents having in fact contained clear advice/information as to the "margin requirement" terms);

(iii)          the bank had the same duty of care to advise the customers of the risks involved as did their financial advisors (whom the customers also sued); and

(iv)          the bank owed the customers a fiduciary duty of care (in addition to any obligation the bank might have had not to be negligent vis-à-vis the customers), presumably, on the basis that the customers were vulnerable and that the bank was in a position to adversely affect the customers by making (and later demanding repayment of) the loans to the customers.

The Courts (at trial and on appeal) noted:

  1. The loan documents contained "various provisions by which the borrowers (acknowledged) responsibility for the borrowing and investment decisions, and (disclaimed) any responsibility on part the of the lender";
  2. "There was nothing to suggest to the (bank) that (the bank) ought to (have inferred) that, contrary to what the signed documents said, the (borrowers) had not read the documents;
  3. While it is true that the losses sustained by the customers would not have occurred if the bank had not made the loans to them, "…the making of (the loans) requires the consents of two parties (in the case of each loan) the lender and the borrower, (and) the lender cannot impose the loan on the borrower";
  4. The customers "went to the (bank), not for advice, but for loans";
  5. The customers'financial advisors "…knew the intended investment programs of (the customers) and (the financial advisors) were in a position under the applicable regulatory requirements to develop and recommend and implement those investment programs for (the customers) and to monitor them over time, (and) the bank was not in this position"; and
  6. While the bank did "promote" the concept of its making loans available to the customers so that they could purchase their investments through the financial advisors, such promotional activity by the bank was made towards the financial advisors, not towards the customers.

Based on the foregoing, the appeal Court held that the bank had no obligation to any of its customers for their investment losses.

Reading the decision in the Baldwin Case, one might ask the question as to what would happen in a similar situation where the bank chooses to conduct "due diligence" as to the viability of the proposed investments to be made by its customers utilizing the funds to be borrowed from the bank, and such "due diligence" reveals one or more substantial "weaknesses" in the contemplated investments?  Common sense would suggest that, to protect itself, the bank should not make the loans (or perhaps reduce the size of the loans it was originally asked to make) because the viability of its security (a pledge of the customers'investments) would be in doubt.  Additionally, the bank might incur liability to its customers in this situation by failing to warn them of the "weaknesses" which the bank's research has revealed.  However, in a situation where the bank did not intend to rely on its security, and instead intended to rely essentially on a customer's promise to repay the loan (no doubt due to the customer's strong creditworthiness), the bank would probably be able to extricate itself from liability by having the customer sign a written acknowledgement in which the bank set forth the results of its "due diligence" and contained a signed acknowledgement by the customer that, notwithstanding the specified "weaknesses" in the contemplated investments, the customer wished to go ahead and make the investments and thus borrow the required funds for same from the bank.

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April, 2018

Persons and businesses extending credit at a cost and their counsel have for a long time been - or should have been - aware of the requirements of Section 4 of the Interest Act (Canada) (the "Act").  Section 4 requires that where a person (the "Lender") extends credit to another person (the "Borrower"), and the Borrower is required to pay value to the Lender in exchange for such credit (such value being typically what is commonly considered to be "interest"), in order to get anything more than a return of 5% per annum on the outstanding credit (owed from time to time), the Lender must ensure that the documentation entered into by the Borrower with the Lender specifies what the consideration is on an annualized basis.  The usual situations in which an annualized specification is required is where the interest payable on the credit extended is:

(i)            described as being calculated on a basis of a "yearly" period of less than 365 days (or less than 366 days in a leap year), with the "yearly period" being frequently defined as 360 days; and

(ii)           described as a percentage of the credit extended calculated and payable (and compounded if not paid) on a monthly basis (ie, 2% per month).

In both these cases, the Lender must disclose the annualized version of these rates.  Traditionally, lenders have responded to this requirement by either making a relatively simple mathematical calculation to obtain the annualized equivalent rate and then specifying the precise equivalent rate, or by specifying a formula pursuant to which the Borrower may (with relative ease) make its own mathematical calculation to arrive at the required annualized rate.

Section 4 applies where the credit extended by the Lender is secured by personalty, or not secured at all.  It does not apply where the credit is secured by real estate.

The matter of what a Lender must do to comply with Section 4 was dealt with - and expanded upon - by the Ontario Superior Court of Justice in its recent (January 10, 2018) decision in the Solar Power Network Inc. v. ClearFlow Energy Finance Corp. case (hereinafter, the "Solar Case").  As stated in paragraph (1) of the judgement, Solar Power Network Inc. and related entities were renewable energy companies specializing in installing solar panels in commercial, institutional and industrial rooftops.  The respondent ClearFlow Energy Finance Corp. was a project finance company that provided financing to the solar energy and clean technology sector.  And that was precisely the relationship between ClearFlow (as "Lender") and Solar Power Network (as "Borrower").  The Lender provided a number of separate loans (or financings) to the Borrower to enable it to obtain and install solar power equipment.  The loans were initially intended - by both parties - to be of a short term nature, with the Borrower arranging for longer term more "conventional" financing in due course.  The loans were documented in various ways, including loan agreements and promissory notes, but, as observed by the Court, regardless of the form of the documentation, each loan provided for three different "components" of remuneration payable by the Borrower in connection with the making of the loans, namely:

(i)            An interest rate which was usually set at 12% per annum, compounded and calculated monthly, and, 24% per annum following default (the "Base Interest").

(ii)           An administration fee charged at the outset of the loan transaction calculated as a percentage of the principal amount of the loan advanced.  If a loan was not repaid on time, then the initial administrative fee was tacked on to the principal balance of the loan and carried forward as an extended loan, with a new administrative fee being charged on the total amount of the extended loan.  These fees are referred to herein as the "Administration Fees"; and

(iii)          A discount of 0.003% of the outstanding principal balance of a loan, calculated on a daily basis for each day that the loan was outstanding.  If the discount fee had not been paid when the initial term of the loan had expired, the outstanding balance of the discount fee applicable to the loan during its initial term would be added on to the loan and carried forward to form part of the principal amount of the extended loan, to which a further discount fee would be applicable.  These discount fees are referred to herein as the "Discount Fees".

The Court observed that the Administration Fees were calculated over 90 or 180 day periods, while the Discount Fees were calculated daily.

There were a number of issues between the parties which the Court had to consider.  Two of those issues related to the proper categorization of the Administration Fees and the Discount Fees for the purpose of applying Section 4 of the Act to these charges.  The first issue relating to Section 4 was whether or not the Administration Fees and the Discount Fees were "interest" within the meaning of Section 4.  A second question relating to Section 4 was whether or not, if either one or both of the Administration Fees and the Discount Fees were to be considered as interest within the meaning of Section 4, did Section 4 operate to limit the Lender's entitlement to interest - including the Base Interest - to a "mere" 5% per annum.

The Court's review and analysis of the aforementioned fees is enlightening and brings some clarification to the meaning of Section 4 (which was previously absent in the case law).  This is of critical importance for lenders and their counsel in devising the appropriate wording for the payment of the consideration to be provided in exchange for the extension of credit.  In particular, the questions dealt with were:

  1. Are the Administration Fees "interest" within the meaning of Section 4?

The Court held that the Administration Fees were not interest.  In coming to this conclusion, the Court took note of several aspects of the relationship between the parties, some of which were arguably "fact specific" to the Solar Case.  In particular:

(a)          the Administration Fees were compensation for the Lender's "administrative work in setting up and administering the loans";

(b)          the Borrower's applications to obtain the loans and the loan documents themselves required negotiation and were "document intensive";

(c)           on the average, 35 invoices from 15 separate suppliers were required with respect to the subject matter of each loan;

(d)          additional administrative work was required once the Lender ascertained that the Borrower was having financial difficulties; and

(e)          the Administration Fees were charged on a one-time basis only, and would only be charged if a loan was not repaid within its term.

  1. Were the Discount Fees interest within the meaning of Section 4?

The Court held that the Discount Fees were a form of interest, and did so, notwithstanding that the Lender argued that these fees were an additional consideration for its administration of the financings, and, notwithstanding that the Borrower did not present any evidence to the contrary.  The Court stated that when looking at the "substance" of the Discount Fees, the following matters indicated that these fees should be considered interest (ie, essentially, consideration for the use of money over a period of time, with the consideration being determined with reference to the principal amount of the credit extended and the length of time that the credit is outstanding):

(a)          the Discount Fees were not connected to the creation of a new loan or a renewal of an existing loan, or the documentation pertaining thereto;

(b)          unlike the Administration Fees which varied depending on the "risk and resulting work undertaken by the Lender", the Discount Fees were the same for all types of loans and loan documentation (Editorial comment: in deciding whether or not to charge interest, and in particular, the rate of interest, a creditor usually does take into account the riskiness of the loan transaction);

(c)           while the Administration Fees were charged at the beginning of the loan term (or upon a renewal of an existing loan) the Discount Fees varied, and in particular, increased, over the period of a loan's term;

(d)          in cross-examination, a representative of a Lender acknowledged that the Borrower's obligation to pay the Discount Fees "incentivized" the Borrower "to make earlier payout of the loans".  The fact that the Discount Fees were designed to "encourage the hastening of the pay down of the loans" savours of interest, not a fee for the time and efforts required to administer the loans.

  1. If the Discount Fees were interest, does Section 4 require that only the Discount Fees be reduced to 5% per annum, or is the Lender additionally limited to collecting 5% per annum with respect to the Base Interest?

As the Court held that the Administration Fees were not interest, Section 4 did not apply to these fees in the sense of requiring the disclosure of an annualized rate.  However, the parties disagreed as to whether or not Section 4 should, in addition to applying to the Discount Fees, also apply to the Base Interest Rate.  The Base Interest Rate, taken by itself, did not breach the requirements of Section 4.  That rate was stipulated to be 12% per annum, compounded and calculated monthly, 24% per annum after default*.  The Court held that the meaning (and Parliament's intent) of/for Section 4 was to limit the Lender to 5% per annum even though part of the interest stipulated did not breach the Section 4 requirements, but another part (or parts) thereof did so.  In other words, if a creditor obligates its debtor to pay two or more "types" of interest, and one of those "types" is worded so as to breach Section 4, that breach "taints" all other interest obligations, even though the other types(s) of interest comply with Section 4 (ie, even though they are specified to be calculated on an annual basis).  The Court observed that "the case law has repeatedly recognized that Section 4 of the Act should be applied equally to sophisticated and unsophisticated parties".  Thus the fact that the Lender and the Borrower in the Solar Case were "sophisticated" (ie, financially experienced business parties, and that each had their own counsel) did not relieve the Lender of its Section 4 obligations.  Additionally, the Court stated that "As draconian as it may seem to limit all of the interest to 5% where the offending Discount Fees are only a small portion of the overall interest obligation, the result is in keeping with the consumer protection purpose of this legislation".

  1. Did the fact that the loan documents contained a formula for calculating the annual rate of interest for the Discount Fees satisfy the requirements of Section 4?

The Lender argued that, assuming that Section 4 did apply to the Discount Fees, it had complied with Section 4 because it had included a formula which should have enabled the Borrower to easily calculate the annualized rate that the Discount Fees represented.  This formula is very similar to the formula that lenders and their counsel frequently use.  In essence, it provides that where an amount of interest, fees or other charge is stated to be applicable at a rate based on a period comprising less than 365 days (or less than 366 days in a leap year), the "equivalent yearly rate" is determined by dividing the specified rate by the number of days in the period and then multiplying that result by the actual number of days in the calendar year.  The Solar Case Discount Fees rate was stated to be 0.003, and the Lender's position was that all that the Borrower needed to do (to determine the annual equivalent) was to multiply 0.003 by 365 (or 366 in a leap year).  Notwithstanding the apparent simplicity of this formula, the Court held that "a formula does not necessarily allow for (a) clear understanding to occur.  Formulas can be confusing and even misleading".  Interest was required to be paid on outstanding interest when a loan rolled over, thus the Court declared that it was "…not accurate to say that by simply multiplying 0.003% times 365 that the Discount Fees annualized rate would be…clearly understood (by the Borrower".  Unless and until the Solar Case decision is overturned or legislatively altered, lenders and their counsel should no longer rely on the efficacy of an "equivalent rate formula" to satisfy Section 4's requirements, and precise statements of equivalent rates per 365 (or 366 in a leap year) day periods should be included in loan documentation.

  1. How are lenders and their counsel to calculate annualized interest rates?

In considering whether or not an "equivalent rate formula" would - or would not - satisfy Section 4's requirements, the Court observed that there were "two potential methods of expressing the equivalent rate of interest".  These are:

(a)          simply multiplying the stated interest rate by the number of compounding periods (or interest payment intervals) in the year (ie, 2% per month times 12 months is "equivalent" to 24% per annum").  This is called the "nominal interest rate";

(b)          where a calculation is made in which takes into account the value that a lender gets when it doesn't  have wait until the end of the year to obtain the benefit of the interest it is entitled to. This is called the "effective annual rate".  It factors in the "effect that compounding has on the overall interest rate (ie, 2% per month, when factoring in the monthly compounding, is "equivalent" to 26.8% per annum)".  Although not expressly stated, this writer assumes that the Court is referring here to the concept of the value or benefit that a creditor receives when it obtains interest - primarily determined with respect to a period of one year - at intervals more frequent than yearly.  This is sometimes referred to as the "re-investment of interest theory".

The Court concluded that the more accurate method of calculation of the annualized rate required by Section 4 is the "effective annual rate".**

Some other conclusions and observations of the Court in the Solar Case worth noting are:

(I)            The Lender argued that it received legal opinions from the Borrower's counsel which stated that the loan documents were "enforceable".  The Lender argued that these legal opinion letters supported its position that the Borrower "knew the fees were in fact fees and not interest".  The Court held that since the opinion letters included the (usual) stipulation that the enforceability opinions were limited by "laws affecting creditors' rights generally", and since Section 4 affects creditors' rights generally, the Lender was not entitled to rely on the Borrower's counsel's legal opinions.  Had those opinions not included the usual limitation statement, might the Court have come to a different conclusion in the Solar Case?  We'll probably never know, but it does emphasize the significance of the need for lawyers to include (reasonable) limitations and qualifications to enforceability opinions.

(II)          The Lender also argued that after the Borrower encountered financial difficulties and it entered into several "forbearance agreements", those agreements provided a defense for the Lender due to the presence of a provision to the effect that the indebtedness owed by the Borrower, together with interest, fees, costs, etc. "(were) unconditionally owing by the Borrower to the Lender without offset, defense or counterclaim of any kind, nature or description whatsoever" (underlining here for emphasis purposes).  The Court disposed of this argument because a more recent forbearance agreement (four had been entered into) qualified the above provision by concluding with "except as may be otherwise required by law".  The Court held that that exception did permit the Borrower to challenge the Lender's entitlement to interest under the loan documents.

* Interestingly, if the loan indebtedness had been secured by a charge on real estate, Section 8 of the Act would have prohibited the Lender from charging and collecting interest at any rate per annum in excess of the rate per annum stipulated as being applicable before default.

** Section 6 of the Act has often been considered to require disclosure of what amounts to the effective annual interest rate, but only for indebtedness secured by real property mortgages and only where there are periodic "blended" payments of principal and interest called for under the terms of the payment/repayment of the secured debt.

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January, 2011

Security interests, unlike diamonds, do not necessarily last forever or lose their lustre ("priority").  Two common situations in which a secured party can lose its security interest or the priority thereof are:

(i)            under Section 20 of the Manitoba Personal Property Security Act (the "MPPSA") - where a secured party fails to properly perfect its interest.  In this situation, the security interest doesn't entirely disappear, but it become unenforceable against most third party claimants, including the debtor's bankruptcy trustee; and

(ii)           Section 30(2) of the MPPSA - where the secured party holds a security interest in the debtor's inventory and the debtor sells items of its inventory to a buyer or buyers in the ordinary course of the debtor's business.  In this situation, the secured party's security interest is completely terminated insofar as the sold inventory is concerned, although the secured party is entitled to have its interest continue as against ("traceable") proceeds generated from the debtor's sale or sales (if there are any traceable proceeds).

The generally accepted rationale for the existence of Section 30(2) is that if "ordinary course" buyers couldn't purchase items of the debtor's inventory without having to search the registry to see if the debtor has given a security interest to its financier and then have to get the financier to release its security interest as against the particular item or items purchased, commerce would grind to a halt.

But what about a debtor who gives a security interest in its inventory to a financier, but who then leases - as opposed to selling - inventory items to one or more lessees?  Section 30(2) of the MPPSA provides that in this situation, the lessee "takes free of any perfected or unperfected security interest given by the lessor…whether or not the lessee knows of it (i.e., the security interest given to the lessor's financier) unless the lessee also knows that the lease constitutes a breach of the security agreement under which the security interest was created".  It would be rare indeed for an "ordinary course" lessee to know both of the existence of a security interest given to the lessor's financier and of the fact that the lease was contrary to the terms of the financier's security agreement with the lessor.

But what does Section 30(2) actually mean to the lessee and those claiming under and through the lessee, such as others to whom the lessee might attempt to sell or re-lease the goods, others to whom the lessee might attempt to mortgage the goods, and, the lessee's trustee in bankruptcy where the lessee becomes bankrupt?  Three cases form the 1990s and a B.C. case decided in November of 2010 give guidance to those involved in goods leasing transactions.  The most recent case is the Perimeter/Century/GE case (the “GE Case", British Columbia Court of Appeal).  The 1990s cases were reviewed by the Court in the GE Case. Before considering the facts and reasoning in the GE Case, it is instructive to consider the Court’s analysis of the aforementioned three previous cases. The following is a summary of these cases:

  1. The Car-Ant Investments Ltd. case, Saskatchewan Court of Queen's Bench, 1990 (the "Car-Ant Case").  "D" acquired ownership of some trailers and then leased them to "B", the lease including options to purchase.  "D" failed to properly register its lease interest in the Personal Property Registry.  Subsequently, "D" granted a security interest in the trailers (and the leases) to GMAC.  GMAC did duly register its security interest in the Personal Property Registry, against both the trailers and the leases.  Subsequently, "B" became bankrupt.  The Court noted that "D" was in the finance business, not the business of dealing in trailers.  "B's" bankruptcy trustee argued that in order for GMAC to have priority over the trustee with respect to the trailers, GMAC not only had to duly register against the trailers, but that it also should have ensured that "D" had duly registered its lease interest against the trailers.  The Court disagreed, stating that it was not necessary for a financier in GMAC's position to have to ensure "double" perfection against the leased goods.  The Court also held that GMAC's right to proceed against the trailers arose immediately, and that it was not necessary for GMAC to honour the lease.  This was because "D" was not leasing the trailers to "B" in "D's" ordinary course of business, with the result that the Saskatchewan equivalent of the above-quoted rule (i.e., the Saskatchewan equivalent to Section 30(2)) did not apply.
  2. The David Morris Fine Cars Ltd. case, Alberta Court of Queen's Bench, 1994 (the "Morris Case").  "M", being in the business of leasing and selling vehicles, leased a vehicle to "B".  "M" failed to register its lease interest in the Personal Property Registry.  Subsequently, "M" mortgaged its interest in the vehicle (and the lease) to BMO.  BMO duly registered its interest against the vehicle (and the lease) in the Personal Property Registry.  Subsequently, "B" became bankrupt.  A contest arose over who was entitled to the vehicle (or the proceeds of sale thereof), "B's" bankruptcy trustee or BMO.  The trustee argued that because BMO had taken its security interest in the vehicle after "M" had leased it to "B", BMO took its security subject to the "weakness" in "M's" legal position (i.e., "M's" failure to register notice of its lease rights in the vehicle in the Personal Property Registry), so that BMO's position was subordinate to the trustee's position.  Although not stated explicitly, there is a suggestion here that had "M" first granted security in the vehicle to BMO, with BMO duly registering its interest in the Personal Property Registry, a subsequent leasing of the vehicle to "B" might have given BMO priority over "B’s” bankruptcy trustee notwithstanding the failure by "M" to register its lease interest in the Personal Property Registry.  The Court also appears to have taken the view that with "M" having leased the vehicle to "B" in the ordinary course of the carrying on of "M's" business, unlike the situation in the Car-Ant Case, the Alberta equivalent of Manitoba Section 30(2) applied and, contrary to what was held in the Car-Ant Case, the affect of the legislation was to exterminate BMO's security interest.  As it turned out, BMO appealed the trial Court's decision, but for whatever reason, that appeal was never heard.
  3. The Re Giffen case, Supreme Court of Canada, 1998 (the "Giffen Case").  Here TLC, which was in the business of leasing and dealing in motor vehicles, leased a vehicle to "T".  Thereafter, "T" subleased the vehicle to "B".  Neither of TLC or "T" duly registered their lease and sublease interests in the Personal Property Registry.  Subsequently, "B" became bankrupt, and a contest arose between "B’s” bankruptcy trustee and TLC as to who was entitled to priority in the vehicle (or the sale proceeds thereof).  The Court noted that while TLC was in the business of leasing vehicles, "T" was not.  The contest was between the bankruptcy trustee and TLC (not “T”) as to who had priority over the vehicle or the proceeds of sale thereof.  The trustee argued that the effect of the British Columbia equivalent to Manitoba Section 20(b)(i) was to subordinate (or extinguish) TLC's rights in the vehicle in favour of the trustee's rights.  On an initial appeal, TLC argued that on the basis of Section 71(2) of the Canada Bankruptcy and Insolvency Act (the "BIA"), the bankruptcy trustee only succeeded to whatever were the property rights of the bankrupt on bankruptcy and that at the time of its bankruptcy, "B" was merely a lessee and not an owner of the vehicle.  This appeal initially succeeded, but the Supreme Court of Canada disagreed. It held that in considering the application of the Personal Property Security Act to this situation, it is not appropriate to focus on such concepts as proprietary rights, title and ownership.  Personal Property Security legislation ignores the concepts of title and ownership, and instead, focuses on the priority of competing rights and interests, and that is the correct way to resolve these disputes.  Thus "B’s” trustee was entitled to enforce its rights under the BIA (for the benefit of "B’s” creditors generally) in priority to the rights of either TLC or ("T") because neither of TLC or "T" had properly perfected their lease and sublease interests in the PPR.  In effect, the trustee could and did get a better "title" to the vehicle than TLC and "T".

In the GE Case, “L”, being the owner of three buses, leased those buses to “B” but “L” failed to properly register its lease interest in the British Columbia PPR. Subsequently, “L” granted a security interest in the buses and in its rights under the leases to GE.  GE did properly register its security interest against the buses as well as against “L’s” rights under the leases. Subsequently, “B” became bankrupt and a contest arose between “B’s” bankruptcy trustee and GE as to who had priority with respect to the buses and/or the proceeds of sale thereof. The Court noted that in leasing the buses to “B”, “L” was doing so in the course of the ordinary carrying on of “L’s” business. Taking into account the reasoning in the aforementioned cases (the Car-Ant Case and the Giffen Case in particular) and the British Columbia equivalent of the above cited PPR rules, the Court held in favour of GE. The Court emphasized that when someone like “L” leases goods in the ordinary course of its business, the effect of the legislation is that a security interest in the goods granted by the lessor to its financier, will, as between the financier and the lessee, becomes “abridged”, but that that security interest will "spring back to life" (and thus enable the financier to realize its security) upon termination of the lease. The lessee does not acquire ownership of the goods, but instead can assert its lease rights (essentially possession of the leased goods) in priority to the financier’s security rights but only until the lease ends. In the GE Case, “B’s” trustee did not make any of the rental payments due under the leases, the buses were returned to “L”/GE and consequently, the leases were at an end.

What does the GE Case and the earlier cases considered by the Court in the GE Case suggest for those in the leasing business and those financing such business? I suggest the following:

(i)            the need for lessors and their secured creditors to make proper registrations in the Personal Property Registry;

(ii)           a lessor’s financier does not - for its own sake alone - have to ensure that the lessor properly registers its lease interest as long as the financier has properly registered its security interest (although, for their own benefit, lessors should duly register their lease interests); and

(iii)          where a lessor has leased goods to a lessee in the ordinary course of the lessor’s business, and, prior or subsequent to such leasing, the lessor grants a security interest in the goods to the lessor’s financier, the financier’s security interest is not capable of being enforced by the financier as against the lessee’s possessory rights under its lease unless and until the lease ends.

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October 2011

You are interested in buying a home and you find one in what appears to be a very attractive district of older (but well kept up) homes in a heavily treed neighbourhood. The particular property you are interested in has all the amenities that you and your young family (three growing children) could ever want. The price and terms are acceptable to you, and you make an offer which is quickly accepted. Before contracting to buy, you had two or three "walk-throughs" on the property and you didn't notice any existing or potential problems. However, after you move in, you discover that behind the recently installed drywall in the basement rec room and underneath the rugs on the rec room floor, there are a number of cracks/fissures. Not only is moisture slowly seeping in, but there is strong evidence (visually and odiferously) of the existence of black mould on the walls and the floors. You consult with foundation experts and are told that there are severe structural (and mould) problems with the home and that it will cost at least $100,000 to remedy the situation. Even then, the "experts" tell you that there are no "guarantees", because an underground river runs directly beneath the property. It is quite clear that your vendor intentionally misled you with respect to these problems by hiding them, utilizing the aforementioned drywall and strategically placed rugs, such rugs having been put underneath extremely heavy furniture which the vendor had in place at the time of your inspections. Most people (lawyers and laypersons) would agree that you have a remedy against your vendor on the basis that the vendor has intentionally deceived you by hiding these defects - which were not easily ascertainable by you when you made your inspections - because these "latent" defects constitute a substantial impediment to your enjoyment of the property, at least without your incurring a very high remediation cost.

            But what if the "defect", also latent in the sense that it would not be ascertainable upon a reasonable inspection of the property, is something external to the property? This very question came before the Ontario Superior Court of Justice (judgment March 11, 2011) in the Dennis v. Gray case (the "Gray Case"). In the Gray Case, the "defect" ascertained by the purchaser after the purchaser had committed to buy was the fact that a convicted child pornographer lived across the street. When the purchaser learned of this fact, the purchaser became concerned for the well being of his children and didn't want to complete the purchase transaction. The hearing was not a full blown trial to decide the merits of the plaintiff's case, but rather the determination of a preliminary motion by the defendant in which the defendant sought to convince the Court to strike out the plaintiff's claim on the basis that there should be no trial because "it is (not) "plain and obvious" that such a fact does . . . in law amount to a "latent defect" of such a nature that it must be disclosed to a purchaser." However, the Court concluded that it was not so plain and obvious and thus, regardless of whether or not the plaintiff would ultimately succeed in its claim, it was appropriate for the claim to at least go forward to trial. The defendant argued that the existence of the convicted child pornographer was generally known in the neighbourhood, but the Court observed that in fact, the criminal record of the neighbour could not be ascertained from any routine inspection, at least not ascertained with certainty. The Court also observed that what has been held by the Courts to be an actionable latent defect has generally expanded somewhat over time, and thus it is not necessary to foreclose completely the possibility of considering as latent defects, elements which are external to the actual property.

            It will be interesting to discover what happens with the Gray Case if it does proceed to a formal trial, perhaps followed by one or more appeals. There are certainly other elements external to certain properties which, if known to a potential purchaser at an early stage, might very well discourage the purchaser from committing himself/herself. Examples might be noises emanating from a manufacturing/processing facility, even though the facility is situated several miles away. Consider odours emanating from such a source, again, notwithstanding that the source is situated several miles away (think of the old sugar beet processing facility in Fort Garry, or a sewage treatment facility). Another possible irritant to a potential purchaser - although this would not be external to the property - is the fact that the home to be purchased is reputed to have been haunted by ghosts for many years. Surely all of these would be expansions - perhaps reasonable expansions, perhaps not - of what the law views as being an actionable latent defect.

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October 2019

You are in the business of making real property mortgage secured loans, and you are approached by a person requesting a loan to be secured by a mortgage of such person's title to particular land.  You make what are currently considered to be prudent "credit checking" investigations with respect to the contemplated loan - in particular, you order, obtain and review a search of the proposed borrower's title to the subject land (which confirms that the title is in the name of who the borrower claims to be) and you request and obtain and review at least two pieces of the borrower's identification, including one piece of "photo identification" (which also confirms that the person indicated in such identification is one and the same as the person the borrower purports to be).  You may also make enquiries of the borrower as to how the borrower came to acquire the property, and the borrower advises that he/she acquired it by a previous purchase or acquired it by inheritance.  Although you do not make further inquiries in order to verify the alleged facts behind such acquisition (most lenders would not do so unless they had some reason to be suspicious, and this doesn't appear to be the case here), you have no reason to doubt the accuracy of the borrower's explanation of its acquisition of the land.

You approve the loan, take and register a mortgage of the borrower's land and advance funds. 

Subsequently, you discover that the land was previously in the name of person "A" and that a fraudster (person "X") forged a transfer of title to "X"'s co-fraudster (person "Y"), "Y" being your borrower.  Your borrower has not misrepresented himself/herself to you as someone other than the real person "Y", namely the co-fraudster, but, as noted, you did not believe and had no reason to believe that "Y" was a fraudster and was involved in what amounted to the theft of the land from the original (and proper) owner "A".

Two questions arise here:

(i)               is "A" entitled to have "Y"'s title cancelled and title to the land restored in "A"'s name? and

(ii)              is your mortgage - obtained by you bona fide and for value - also to be cancelled or should your mortgage "follow" the title back from "Y"'s name to "A"'s name, with the result that "A" is now (clearly unfairly) saddled with your mortgage and the obligation to repay "Y"'s mortgage loan?

Two recent (March, 2009) British Columbia Court of Appeal cases (the "Gill Case" and the "Oehlerking Case") deal with these questions.  In both of these cases, the Court held that the innocently deprived landholder ("A") was entitled to a cancellation of the title held by the co-fraudster "Y" and to the restoration of title back in "A"'s name, but that the innocent mortgage lender was not entitled to have its mortgage "follow" title back into the hands of "A".

The Court's holding that the innocently deprived landholder was entitled to get its title back from someone involved in fraud is based on British Columbialand law which appears to be similar to that in other Canadian common law jurisdictions operating under Torrensland title systems.  The holding that the innocent mortgage lender who has advanced value loses its mortgage is based on the current state of British Columbialand law which may - or may not - be the same as the land laws of such other Canadian jurisdictions. 

Most Canadian jurisdictions (including British Columbia) will protect a bona fide and for value purchaser - as opposed to a bona fide and for value mortgage lender - who acquires title (ie. ownership, as opposed to a mortgage security) from a person who has been involved in fraud whereby the original owner is deprived of title, provided that such subsequent bona fide and for value purchaser acquires his/her title before the innocently deprived original owner learns of his/her loss and registers notice his or her claim to reinstatement against the title.  In other words, as long as a subsequent purchaser acquires from a fraudster bona fide and for value before the innocently deprived title holder can act, such purchaser will be able to acquire and keep his/her title to the exclusion of the innocently deprived owner.  But where the subsequently acquiring party acquires an interest bona fide and for value which is less than fee simple ownership, such as a mortgage, such subsequent bona fide and for value interest holder will lose its interest in favour of the innocently deprived owner.  That is the situation in British Columbia under its current legislative scheme and may be the situation in otherTorrens system based Canadian common law jurisdictions, depending on the provisions of such other jurisdictions' legislation.

A reading of the Gill Case and the Oehlerking Case (and related earlier jurisprudence) additionally raises or may suggest these questions:

(1)             what would be the position (inBritish Columbiaand in jurisdictions with legislation similar toBritish Columbia's) of a bona fide and for value purchaser (or mortgagee) who dealt with a fraudster who had arranged for the wrongful transfer of title from an innocently deprived previous owner into the name of a fictitious person (whom the fraudster then impersonates)?; and

(2)             what would be the position (in British Columbia and in jurisdictions with legislation similar to British Columbia's) of a person who has acquired an interest (whether ownership or some lesser interest such as a mortgage) bona fide and for value but who loses his/her interest by virtue of the operation of applicable land law legislation, where such subsequent bona fide and for value person makes a claim against his/her jurisdiction's government operated Assurance Fund?

The second question is complicated somewhat by the fact that whilst it should be relatively easy to remedy the loss sustained by a bona fide and for value mortgagee who loses its interest (ie. the amount of such party's compensation would simply be the balance of its outstanding loan), in the case of a bona fide and for value purchaser who loses his/her ownership interest, quantification of such person's loss may be hard to determine because of the difficulty in valuing the loss.  Where the subsequent bona fide and for value purchaser is entitled by applicable law to keep his/her title to the exclusion of the original innocently deprived owner, then the question becomes how to compensate the original owner.  Valuation of the original owner's loss may be even more difficult to determine.

In British Columbia and in jurisdictions whose legislation is similar to British Columbia's (or is held by the Courts to be of the same effect as British Columbia's), the law appears to place a fairly onerous burden on mortgage lenders.  Even if a lender conducts "due diligence" along the lines of what is described in the first paragraph of this paper, the lender may lose its security and thus fail to recoup, in whole or in part, its loan.  Of course, where a jurisdiction permits an innocently deprived mortgage lender to recoup itself out of an Assurance Fund, the lender's situation will be substantially alleviated.

InManitoba, the Real Property Act Sections 59(1), 62(1)(c) and 182(1) deal with these matters.  Using the above hypothetical example, is the writer's view that:

(i)               person "A" is clearly entitled to get title to "A"'s land back from person "Y";

(ii)              perhaps the bona fide and for value mortgagee's mortgage will follow the land back from "Y"'s name to "A"'s name in which case the Assurance Fund would be available to pay out the mortgage thereby having it discharged, but it may also be arguable that the mortgage was a nullity from the beginning, and thus is not capable of following title back into "A"'s name, and if the mortgage is considered to be a nullity, then Section 182(1) may not apply so as to enable the mortgagee to make a claim.

Some lenders, wishing to protect themselves from the risk of loss due to land fraud and/or wishing to minimize the necessity of having to make a formal claim for reimbursement against the Assurance Fund, may attempt to shift the burden of ensuring the absence of land fraud in a mortgage transaction to the lawyer providing the legal services in connection with the transaction.  This would be done by the lender's instructions to the lawyer specifying that it is the lawyer's responsibility to ensure that the person or persons purporting to be the mortgagor(s) are who they claim to be and/or that the mortgagor(s) have acquired the mortgaged real estate, in effect, honestly and for value.  A lawyer will be hard-pressed to fulfill this obligation where - as is the case in many if not most mortgage lending transactions - the lawyer does not know the borrower(s) until he or she meets with them for the first time in connection with the real estate transaction.  Where the lender's requirement of the lawyer is as aforementioned, no amount of due diligence on the part of the lawyer in identifying and/or verifying the identification of the borrower(s) will suffice, because what the lender is asking the lawyer to do, is, in effect, "guarantee" the identity of the borrower(s) and the validity of their underlying acquisition of the mortgaged realty.

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