Commercial insolvency in Canada
Encyclopedia
Insolvency
Insolvency means the inability to pay one's debts as they fall due. Usually used to refer to a business, insolvency refers to the inability of a company to pay off its debts.Business insolvency is defined in two different ways:...
proceedings. It is governed by the following statutes:
- The Bankruptcy and Insolvency Act ("BIA")
- The Companies' Creditors Arrangements Act ("CCAA")
- The Winding-Up and Restructuring Act
The following discussion concentrates on insolvency as it applies to corporations, but the rules apply to individuals and other entities involved in commercial matters as well, with necessary modifications.
Financial difficulties prior to insolvency
Provincial legislation under the property and civil rightsProperty and civil rights
In Canadian constitutional law, section 92 of the Constitution Act, 1867 provides the provincial government with the exclusive authority to legislate on matters related to property and civil rights in the Province. Note that civil rights in this context is different from what is understood as civil...
power of the Constitution Act, 1867
Constitution Act, 1867
The Constitution Act, 1867 , is a major part of Canada's Constitution. The Act created a federal dominion and defines much of the operation of the Government of Canada, including its federal structure, the House of Commons, the Senate, the justice system, and the taxation system...
regulates the resolution of financial difficulties that occur before the onset of insolvency, and the BIA incorporates many of them by reference in the application of its provisions. Notable legislation is in effect for governing:
- absconding debtors
- bulk sales (in Ontario only)
- fraudulent conveyanceFraudulent conveyanceA fraudulent conveyance, or fraudulent transfer, is a civil cause of action. It arises in debtor/creditor relations, particularly with reference to insolvent debtors. The cause of action is typically brought by creditors or by bankruptcy trustees...
s - relief of creditors
- seizure of assets
Alternatives to resolving financial difficulties
Where a commercial debtor is experiencing financial difficulties, it is generally in his best interests to work with the secured lenders. The following options may be considered in order to seek a resolution to the matter:- informal compromise with creditors
- out-of court restructuring agreementsRestructuringRestructuring is the corporate management term for the act of reorganizing the legal, ownership, operational, or other structures of a company for the purpose of making it more profitable, or better organized for its present needs...
- plans of arrangement under the Canada Business Corporations ActCanada Business Corporations ActThe Canada Business Corporations Act, also known as Bill C-44, is a Canadian act respecting Canadian business corporations.-External links:*...
or similar provincial corporations legislation - the debtor making an assignment for the general benefit of creditors under the pertinent provincial legislation
- the creditor(s) securing appointment of a receiver or interim receiverReceivershipIn law, receivership is the situation in which an institution or enterprise is being held by a receiver, a person "placed in the custodial responsibility for the property of others, including tangible and intangible assets and rights." The receivership remedy is an equitable remedy that emerged in...
to seize and administer any of the debtor's property - the debtor making a proposal to creditors (known as a "Division I proposal")
- the debtor making an application under the CCAA to make a compromise or arrangement with its creditors
- an insolvent debtor making an assignment under the BIA for the general benefit of his creditors
- creditors applying for a bankruptcy order where the debtor owes at least $1,000 and has committed an act of bankruptcy
All options other than the first four have the effect of staying any proceedings that can be brought against the debtor.
Insolvent persons have the choice of making an assignment immediately, or to seek protection from creditors in order to reorganize their affairs and continue as a going concern. For the latter option, companies owing less than $5 million generally opt to file a Division I proposal, while those owing more can also opt for the CCAA proceeding.
Entities subject to insolvency regime
The BIA covers all debtor and insolvent persons, and "person" includes (in addition to individuals):- partnerships (including one or more of the partners, upon the creditor's application)
- unincorporated associations
- corporations (including income trusts, but excluding banks, insurance companies, trust companies, loan companies and railway companies)
- cooperative societies and organizations
- successors of partnerships, associations, corporations societies and organizations
- heirs, executors, liquidators of the succession, administrators or other legal representatives of a person
The CCAA covers insolvent companies (together with their affiliates) with debts greater than $5 million.
The Winding-Up and Restructuring Act covers financial institutions not covered by the BIA.
The Canada Transportation Act covers railway companies.
Settlement of the insolvent person's estate
The trustee/receiver/monitor must first realize the amount of the proceeds from the property that is available for payment to the different classes of creditors, and different rules apply according to the type of proceeding. They are summarized as follows:| Type | Notice of intention, or proposal | Bankruptcy | Receivership | CCAA |
|---|---|---|---|---|
| Held in trust for another person | Exclude | Exclude | Exclude | |
| Exempt from execution or seizure | Exclude | Exclude | Exclude | |
| Income tax refunds for the fiscal year of the event | Add | Add | Add | |
| Such powers over property as are exercised for the insolvent person's own benefit | Add | Add | Add | |
| Garnishments for enforcing notices of assessment for income tax, CPP and EI liability | Exclude | Exclude | Exclude | |
| Withholding taxes deducted at source | Exclude | Exclude | Exclude | |
| Funds constituting a deemed trust for the Crown (other than for garnishments and withholding taxes deducted at source) | Exclude | |||
| Third party's property in possession of bankrupt | Exclude | |||
| Goods shipped in 30 days prior to the event, and still unpaid | Exclude | Exclude | Exclude | |
| Produce of farmer, fisherman or aquaculturist shipped in 15 days prior to the event, and still unpaid | Exclude | Exclude | Exclude | |
| Copyrights and manuscripts for works not yet published | Revert to owner | |||
| Property transferred at undervalue | Add | Add | Add | Add |
The estate is then settled, using the priority of claims outlined in the BIA.
Creation of security interests
It is in the lender's or supplier's best interest to minimize his financial exposure should his client experience financial difficulties. To that end, there is a range of remedies available to establish his status as a secured (vs unsecured) creditor under both provincial and federal legislation.In the common law
Common law
Common law is law developed by judges through decisions of courts and similar tribunals rather than through legislative statutes or executive branch action...
provinces, security interests are created through the registration of mortgages and charges against the real property concerned. In Québec, this is done by way of hypothec
Hypothec
Hypothec is a mortgage in Roman and Scots law, in other words, a legal right over a debtor's property that however remains in the debtor's possession....
s against immoveable property.
For personal property (moveable property in Québec), secured creditors create their security interests through registration under the Personal Property Security Act
Personal Property Security Act (Canada)
The Personal Property Security Act is the name given to each of the statutes passed by all common law provinces, as well as the territories, of Canada...
("PPSA") in force in their province, or under the Civil Code
Civil Code of Quebec
The Civil Code of Quebec is the civil code in force in the province of Quebec, Canada. The Civil Code of Quebec came into effect on January 1, 1994, except for certain parts of the book on Family Law which were adopted by the National Assembly in the 1980s...
in Québec by way of hypothec
Hypothec
Hypothec is a mortgage in Roman and Scots law, in other words, a legal right over a debtor's property that however remains in the debtor's possession....
through the Registre des droits personnels et réels mobiliers. Banks can also create security interests under SS. 426-427 of the Bank Act
Canada Bank Act
The Bank Act is an Act of the Government of Canada respecting banks and banking.The Act groups banks in three schedules. Schedule I banks are banks allowed to accept deposits that are not a subsidiary of a foreign bank, Schedule II banks are banks allowed to accept deposits that are a subsidiary...
, which normally have priority over PPSA registrations.
There can be complex interplay between insolvency law and other legal regimes, such as admiralty law
Admiralty law
Admiralty law is a distinct body of law which governs maritime questions and offenses. It is a body of both domestic law governing maritime activities, and private international law governing the relationships between private entities which operate vessels on the oceans...
.
In the common law
Common law
Common law is law developed by judges through decisions of courts and similar tribunals rather than through legislative statutes or executive branch action...
provinces and territories, legislation in place for specific security interests is as follows:
Debtor protection provisions
No person may terminate or amend — or claim an accelerated payment or forfeiture of the term under — any agreement, including a security agreement, with a bankrupt individual by reason only of the individual’s bankruptcy or insolvency. Similar provision is made with respect to any insolvent person upon filing a notice of intention or a proposal, as well as for any debtor company subject to the CCAA by reason only by reason only that proceedings commenced under the CCA or that the company is insolvent. Because of these restrictions on what are called "ipso facto" clauses, creditors must be careful in specifying appropriate trigger events in their contracts' termination clauses.A notice of intention or a Division I proposal will automatically create a stay of proceedings and "no creditor has any remedy against the debtor or the debtor’s property, or shall commence or continue any action, execution or other proceedings, for the recovery of a claim provable in bankruptcy". Similar provision is also made on the bankruptcy of any debtor. Directors of insolvent companies that have filed a notice of intention or a proposal have similar protection.
Contracts may be assigned elsewhere in the event of a notice of intention of a Division I proposal, bankruptcy or CCAA proceeding. Agreements of any kind can be disclaimed in the event of a Division I proposal or CCAA proceeding, as well as leases in a bankruptcy proceeding.
Critical suppliers may be ordered to continue dealing with companies undergoing a CCAA proceeding, if the goods or services supplied are critical to the company's continued operation.
Anti-avoidance provisions
As in other countries, certain debtors may be tempted to bypass the process outlined above through the transfer of assets from an insolvent company to a phoenix companyPhoenix company
A phoenix company is a commercial entity which has emerged from the collapse of another through insolvency.The new company is set up to trade in the same or similar trading activities as the former, and is able to present the appearance of "business as usual" to its customers.-Phoenix Companies in...
, thus abandoning outstanding liabilities to creditors. Recent legal developments have made this procedure unattractive, through creditors using the oppression remedy
Oppression remedy
In corporate law, an oppression remedy is a statutory right available to oppressed shareholders. It empowers the shareholders to bring an action against the corporation in which they own shares when the conduct of the company has an effect that is oppressive, unfairly prejudicial, or unfairly...
available under the CBCA and similar provincial corporations legislation.
Several procedures are available for investigating companies' behaviour during times of insolvency or other financial difficulty. The BIA provides for examination of relevant parties during the administration of the estate, and the CBCA and similar provincial corporations legislation provides for the court to appoint inspectors to investigate and report back on fraudulent, dishonest, oppressive or unfairly prejudicial behaviour of a corporation. A typical inspector's report can be viewed here.
Where bankruptcy is sought, it does not necessarily wipe the slate clean on certain debts. Some liabilities are not released upon discharge. Directors and parties related to the bankrupt may still be held personally liable for certain tax debts, and directors can be held accountable for other liabilities.
Certain bankruptcy and CCAA proceedings involve the issue of unpaid wages, severance and termination pay, and other payroll liabilities. The Wage Earner Protection Program Act provides a procedure to claim a portion of the amount due, against which the "super-priority" of the employees on the assets of the estate is subrogated.
Removal of directors
The court has power to remove one or more of the company's directors, if the court is satisfied that the director is unreasonably impairing or is likely to unreasonably impair the possibility of a viable proposal (or in the case of the CCAA, a compromise or arrangement) being made in respect of the company or is acting or is likely to act inappropriately as a director in the circumstances.Related articles
- Bankruptcy and Insolvency Act
- Companies' Creditors Arrangements Act
- Insolvency law of CanadaInsolvency law of CanadaThe Parliament of Canada has exclusive jurisdiction to regulate matters relating to bankruptcy and insolvency, by virtue of s.91 of the Constitution Act, 1867...