Urbancorp Cumberland 2 GP Inc. (Re), 2020 ONCA 197: Trusts under the Construction Act in the Context of Insolvency Proceedings

04 June 2020

In a decision released on March 11, 2020, the Ontario Court of Appeal provided reassurance for those in the construction industry of the effectiveness of section 9(1) of the Construction Act, RSO c C.30 ("CA") in insolvency proceedings. This decision did not overturn the previous decision rendered in Re Veltri Metal Products Co (2005), 48 CLR (3d) 161 (Ont CA) ("Veltri"); rather, the Court of Appeal distinguished the two cases on the facts.



Section 9(1) provides for a trust in favour of unpaid contractors over the sale proceeds of certain property. In Urbancorp Cumberland 2 GP Inc. (Re), 2020 ONCA 197 ("Urbancorp"), the Court of Appeal reversed the motion judge's rejection of a trust claim by contractors.

In sum, the Court of Appeal found that the trust created by section 9(1) of the CA would only be displaced by the doctrine of paramountcy if it conflicted with a specific priority created under the Companies' Creditors Arrangement Act, RSC 1985, c C-36 ("CCAA"). In this case, nothing displaced the operation of the s. 9(1) trust over the proceeds to the extent of the amounts owed to the appellants, as the value of consideration received by the owner from the sale of premises, which had been improved by the work or materials of a contract, exceeded the amount of mortgage indebtedness. In contrast, in Veltri, the value of the consideration received was insufficient to discharge the security of the lenders. As a result, the owner had no interest or right to any of the sale proceeds, and no trust arose in favour of the contractors.

Re Veltri Metal Products Co, (2005), 48 CLR (3d) 161 (Ont CA)

In Veltri, construction lien claimants who had provided work or materials to a property leased by Veltri made trust claims under sections 7(1), (2) and (3) of the CA. Subsection 7(1) creates a trust fund for amounts received by an owner that are to be used in the financing of the improvement, while subsections 7(2) and (3) create a trust over amounts certified as payable to a contractor or unpaid when substantial performance has been declared by the court, to the extent such amounts are in the owner's hand or received by the owner.

Under the terms of the court-approved sale of Veltri's assets, the proceeds were to be applied in the payment of specific items and were paid to the Monitor.

The Court of Appeal decided that, on the facts of the case, the prerequisites of amounts "in the owner's hand" or "received by the owner" were not met. Veltri's lenders had security over all of Veltri's assets, and the debt to the secured creditors exceeded the purchase price of the assets. As a result, Veltri had no right in or right to any of the net sale proceeds. There was also no evidence that the leasehold interest had any value or that any of the purchase price was allocated to the leasehold interest. In Urbancorp, the Court of Appeal did not overturn this decision, but held that Veltri was distinguishable on the facts.

Urbancorp Cumberland 2 GP Inc. (Re), 2020 ONCA 197

Background

In Urbancorp, the Cumberland Group, a residential condominium developer, was granted insolvency protection under the Bankruptcy and Insolvency Act, RSC 1985, c B-1 ("BIA"), and continued under the CCAA. The Cumberland Group owned unsold condominium units in a project it constructed, to which the appellants had supplied work and materials. The appellants were owed $3,864,428.72 in unpaid sums. Edge on Triangle Park Inc. ("Triangle"), a related entity of the Cumberland Group, was the registered owner and developer of the residential condominium development. Triangle had transferred residential units, parking spots, and storage units to Edge Residential Inc. ("Residential").

Each member of the Cumberland Group filed a Notice of Intention to Make a Proposal under section 50.4(1) of the BIA. During the BIA proceedings, the Proposal Trustee was authorized by the court to open one or more bank accounts on behalf of Triangle and Residential, and to conduct a sale process for the condominium assets of the Cumberland Group.

An order was made granting the members of the Cumberland Group protection under the CCAA, appointing the Proposal Trustee as Monitor, and directing that the sales process be continued under the CCAA proceedings.

When the condominium units were sold, each sales agreement listed the vendor as "Edge on Triangle Park Inc. as represented by the Fuller Landau Group Inc. solely in its capacity as Proposed Trustee of Triangle…". The purchasers were vested with all of the right, title and interest of the respective Cumberland Group entity, together with any beneficial interest of any Cumberland Group entity. Under the Approval and Vesting Order, the proceeds of the sale were ordered to stand in the place of the units in order to determine the priorities of claims and encumbrances, as though the units had not been sold.

Upon sale, the proceeds were placed in the bank accounts opened by the Monitor in Triangle's and Residential's names. After the mortgage indebtedness on the property was satisfied, about $4.2 million of the sale proceeds remained.

Section 9(1) of the Construction Act

The appellants claimed that a trust had arisen in their favour from the sale proceeds, pursuant to section 9(1) of the CA.

Section 9 states:

9(1) Where the owner's interest in a premises is sold by the owner, an amount equal to,

(a) the value of the consideration received by the owner as a result of the sale,

less,

(b) the reasonable expenses arising from the sale and the amount, if any, paid by the vendor to discharge any existing mortgage indebtedness on the premises, constitutes a trust fund for the benefit of the contractor.

(2) The former owner is the trustee of the trust created by subsection (1), and shall not appropriate or convert any part of the trust property to the former owner's use or to any use inconsistent with the trust until the contractor is paid all amounts owed to the contractor that relate to the improvement.

Upon a motion brought by the Monitor, the motion judge, relying on Veltri, had held that a section 9(1) trust had not arisen, because the sale proceeds were not received by the "owners" of the premises, but by a CCAA Monitor.

In response, the appellants served a Notice of Constitutional Question: Does section 9 of the CA continue to have application following a bankruptcy or initial order under the CCAA?

In support of their position, the appellants made the following arguments:

  1. The condominium sales were sales by Triangle or Residential as "the owner";
  2. The value of the consideration exceeded both the expenses of the sale and the amount of mortgage indebtedness; and
  3. A BIA or CCAA proceeding does not prevent the recognition of a section 9(1) trust, and the validity of a section 9(1) trust in an insolvency should be recognized.

(a) The Sales were Sales by the "Owner"

The Court agreed with the appellants that the sales of the units were sales by the "owner". The agreements of purchase and sale were entered into on the behalf of Triangle or Residential by the Monitor, in its sole capacity as their Proposal Trustee/Monitor. The fact that Triangle and Residential had entered into the agreements through a representative did not detract from the fact that they were the vendors of the units. Moreover, the units were registered in their names and the units were not vested in the Monitor by any court order. The sales agreements transferred to the purchasers all of the right, title and interest of the Cumberland Group in the unit. As well, the sale proceeds were received by Triangle and Residential because the proceeds were deposited into bank accounts opened for them by the Proposal Trustee.

In considering whether a trust arises under section 9(1), the Court of Appeal held that it is irrelevant whether the sale was effected by a representative of the owner who had control over the process, as that would not detract from the fact that the owner had made a sale of its interest and received funds that exceeded the mortgage indebtedness and the expenses of sale. The sale was of the owner's interest, notwithstanding that the sale occurred in an insolvency process.

(b) The value of consideration received by the owner exceeded the mortgage debt

The Court of Appeal found that since the value of consideration received by the owner exceeded the mortgage indebtedness, there was a positive balance that could constitute a trust for the benefit of the appellants.

The positive balance in this case, in contrast to the negative balance in Veltri, is the key distinguishing feature of the two cases.

Where the amount received on the sale of property is insufficient to discharge the lenders' security over them, or where the value of the consideration is zero, a section 9(1) trust cannot arise. As a result, a trust cannot arise in favour of the contractor. Alternatively, where the compensation received exceeds the amount owed to lenders, the owner will continue to have an interest in or right to the net sale proceeds, and a trust on behalf of a contractor will be effective.

(c) The Effectiveness of a Section 9(1) Trust in Insolvency and the Doctrine of Federal Paramountcy

The Court of Appeal stated that, since section 9(1) creates a valid trust in accordance with the principles of general trust law, section 9(1) may create a trust without conflicting with the BIA or the CCAA.

Citing the decision of the Supreme Court of Canada in Canadian Western Bank v Alberta, 2007 SCC 22, the Court of Appeal reiterated that a provincial legislature cannot, through measures such as a deemed trust, affect priorities granted under federal legislation. The Court of Appeal noted that under the CCAA, even provincial trusts that do not meet requirements of a trust under general trust law may be effective, but a provincial trust will lose its effect under the CCAA to the extent that the doctrine of paramountcy requires that result. For example, the doctrine of paramountcy requires that the first priority of DIP financing granted by a CCAA court must prevail over a provincial statutory deemed trust for pension benefits, as compliance with the provincial statutory deemed trust would result in defiance of the order for the priority of DIP financing made under federal law.

Therefore, a statutory provincial trust, such as the one created by section 9 of the CA, is effective in insolvency proceedings, to the extent that it does not conflict with a specific priority under federal law. While paramountcy may render a provincial trust inoperative in whole or in part, that was not the case in Urbancorp.

In Urbancorp, the DIP Financing Charges and expenses for the CCAA proceedings were given priority over all other interests and claims. Given that there was more than enough money left over after payments were made to satisfy the section 9(1) trust, the doctrine of paramountcy did not render the provincial trust inoperative.

This result should reassure contractors that where owners initiate proceedings under the BIA or the CCAA, contractors may hold valid trust claims to any sale proceeds of property which they have improved by the work or materials of a contract. Any trust claim, however, is contingent on the proceeds of the sale exceeding the amounts of mortgage indebtedness on the property and other priorities granted under federal legislation.


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