The bankruptcy or insolvency of a party can bring considerable complexity to even the most straightforward construction litigation files. Two issues that are frequently encountered when construction law and bankruptcy law converge are (1) the implementation of a stay of proceedings; and (2) the impact of a bankruptcy under the Bankruptcy and Insolvency Act (the “BIA”) on a breach of trust claim under the Construction Act, formerly the Construction Lien Act.

The decision of Campoli Electric Ltd. v. Georgian Clairlea Inc.[1]provides an example of such a situation, specifically how a stay of proceedings under the BIA is viewed in the context of a breach of trust claim under the former CLA.[2]In his decision, Master Short methodically and helpfully lays out his analysis and the applicable legal tests, thereby creating a useful guide for any lawyer faced with similar issues.

This article will first lay out a brief, high-level introduction to stays of proceedings, as well as the CLA’s breach of trust provisions. It will then apply these concepts in examining Master Short’s reasons in the Campoli decision.

Stay of Proceedings

The stay of proceedings is an automatic component of an insolvency proceeding and includes all bankruptcies and court-appointed receiverships which are governed by the BIA, the Courts of Justice Act(“CJA”), as well as Plans of Arrangement under the Companies’ Creditors Arrangement Act (“CCAA”).

A proposal proceeding is a means whereby a debtor (whether a business or individual), subject to approval by its creditors and the Court, can compromise its debts and continue. A bankruptcy, on the other hand, contemplates finality and closure as it relates to an enterprise or an individual.

Section 69.1 of the BIA provides that “no creditor has any remedy against the insolvent person or the insolvent person’s property, or shall commence or continue any action, execution or other proceedings, for the recovery of a claim provable in bankruptcy, until the trustee has been discharged or the insolvent person becomes bankrupt.”

A similar provision is included in the model order for receiverships granted pursuant to the BIA.[3]The stay provision under the model CCAA Initial Order is similar to that in a receivership other than that it is usually limited in time with extensions requiring a further Court Order.[4]

The stay takes effect upon the filing of a voluntary bankruptcy or upon the granting of a Bankruptcy Order, a Receivership Order, or an Initial Order under the CCAA and operates to prevent creditors from taking steps to enforce their rights against the debtor subject to the legislative provisions allowing for an application by a creditor to have the stay lifted.

Section 69.4 of the BIA provides the court with the discretion to lift the stay if it is satisfied that the creditor or person is likely to be materially prejudiced by its continued operation or where it is equitable on other grounds to make such a declaration. As we will see in the Campoli decision, the lifting of a stay pursuant to section 69.4 is far from automatic.

The CCAA does not contain similar provisions to those contained in the BIA with respect to the lifting of the stay. That having been said, the Ontario Superior Court of Justice in Canwest Global Communications Corp, Re[5]held that the court should have regard to the objectives of the CCAA, the balance of convenience, the relative prejudice to the parties, the merits of the proposed action (where relevant), and the good faith and due diligence of the debtor company. There is jurisprudence which suggests that there is a heavy onus on the party looking to lift the stay where doing so would impede, if not destroy, the proposed re-organization.

The stay of proceedings can become a complicating factor for a lien claimant with respect to the preservation and perfection of a claim for lien, which must still be done in accordance with the timeframes imposed by the Construction Act. The model Orders for both receiverships[6]and CCAA filings[7]contain provisions specifically permitting lien claimants to preserve their liens. It is important to note that commencing an action to perfect lien claims will require leave of the court or the consent or the monitor or receiver. With respect to a bankruptcy proceeding, the BIA makes lien claimants secured creditors who are technically unaffected by a stay. Common practice is still for lien claimants to seek the Licensed Insolvency Trustee’s consent and leave in any event. With respect to a proposal proceeding, even secured creditors are prevented from enforcing their rights, and therefore leave of the court is required to preserve and perfect lien rights. The monitor, receiver, or Licensed Insolvency Trustee in a bankruptcy or a Proposal will typically consent to granting leave to lift the stay for this limited purpose. There will also likely be an additional application for leave to have the lien action set down within the two years of the commencement of the action perfecting the lien.[8]

This is among the reasons why it is so important for a bankruptcy search to be conducted when a party is in the process of preserving and/or perfecting a claim for lien.[9]

Breach of Trust

The Construction Actimposes a very powerful remedy for those who are unpaid on a construction project in for the form of a claim for breach of trust. Master Short provides a helpful summary of the Act’s breach of trust provisions in his decision. Pursuant to the CLA, “all amounts owing to a contractor or subcontractor, whether or not due or payable or received by a contractor or subcontractor, on account of the contract or subcontract price of an improvement constitute a trust fund for the benefit of the subcontractors and other persons who have supplied services or materials to the improvement who are owed amounts by the contractor or subcontractor.” The power of the breach of trust provisions is due to the fact that, amongst other things, plaintiffs are able to sue officers, directors, and those with effective control of a corporation personally, if a trust fund is appropriated or converted to their own use or a use inconsistent with the trust until all subcontractors and other persons who supplied to the improvement are paid all amounts related to the improvement owed to them. However, it is a defence to breach of trust if one creditor is paid in preference to another, so long as the party has a legitimate claim to payment. The section does not require a pro rata distribution among all creditors, so long as the funds go to a proper recipient.[10]

Trusts will impact how property is dealt with in a bankruptcy or insolvency situation. Section 67(1)(a) of the BIA, which is federal statute, provides that “the property of a bankrupt divisible among his creditors shall not comprise property held by the bankrupt in trust for any other person.” For such a trust to be enforceable, it would require the three certainties of a trust at common law: certainty of intent, certainty of subject matter, and certainty of object. A trust under the Construction Act, which is created by provincial statute, does not require these three certainties. Therefore, a statutory trust under the Construction Act may not be a trust under the meaning of the BIA, unless it otherwise conformed to the three common law certainties.[11]It is important to note that section 8.1 of the Construction Actimposes requirements for how a trustee under section 8 must manage trust funds, including depositing them into a bank account in the trustee’s name and maintaining specified written records respecting the trust funds. Whether the new section 8.1 will help align trust funds under the Construction Act with the common law trust requirements remains to be seen.

Similarly, section 178(1)(d) of the BIA contemplates a circumstance where an order of discharge does not release the bankrupt from, inter alia, any debt or liability arising out of fraud, embezzlement, misappropriation or defalcation while acting in a fiduciary capacity. However, as cited by Master Short in reliance on commentary from Duncan Glaholt and David Keeshan from the 2016 Annotated Ontario Construction Lien Act, a breach of trust under the Construction Act only survives bankruptcy if there is “some element of dishonesty, wrongdoing, or misconduct”. Such conduct is not a prerequisite for a breach of trust under the Construction Act, and therefore there will be many cases where a breach of trust under the Construction Act does not survive bankruptcy.

Campoli Electric Ltd. v. Georgian Clairlea Inc.

Georgian Clairlea Inc. (“Georgian”) owned and developed a construction project comprised of 112 stacked townhomes and 30 freehold townhomes (the “Project”). In 2009, three years after the Project began, it experienced financial difficulty resulting in subcontractors not being paid and liens being registered. Georgian subsequently went bankrupt. Eugene, Anthony and Frank Maida, who were at the material time officers, directors and persons with effective control of Georgian, all made Proposals related to their insolvencies.

Two creditors, E-M Air Systems Inc. (“EM Air”) and Campoli Electric Ltd. (“Campoli”) brought motions for Orders under section 69.4 of the BIA in order to lift the stay of proceedings imposed under section 69(1) due to Anthony Maida filing a Proposal and Eugene Maida filing a Notice of Intention to file a Proposal. By lifting the stays, the claimants would be able to move forward with their breach of trust actions. Likewise, Triumph Aluminum and Sheet Metal Inc. (“Triumph”) brought a similar motion to lift the stay to allow it to move forward with its breach of trust action. Adding to this somewhat complicated web of motions examined by Master Short was the fact that a previous Master had, on consent, lifted the stay imposed relating to the Notice of Intention to File a Proposal by Frank Maida. Frank Maida was now seeking, via cross-motion, to have the stay reinstated. If any of the stays were or remained lifted, the Maidas sought summary judgment on the basis that the actions concern issues that were settled in 2009, that they were statute barred by the Limitations Act, 2002and that there was no genuine issue requiring a trial since the plaintiffs could not establish breach of trust under the Construction Act.

Issue 1: Lifting the Stay

First, Master Short examined section 69.4 of the BIA, and the test set out above with respect to who may apply to the court for a lifting of a stay. Master Short considered section 69.4 alongside section 178(1), dealing with claims involving fraud, embezzlement, misappropriation or defalcation while acting in a fiduciary capacity. The moving parties relied on this subsection to support their position that regardless of whether there is a discharge, the personal defendants would remain liable for breach of trust.

In his decision, Master Short addressed several arguments made by the plaintiffs as to why the stays should be lifted. One argument advanced by Campoli and EM Air was that the stays had to be lifted so that their claims against Eugene and Anthony Maida could be valued, allowing them to participate in their Proposals. Another argument was that Anthony and Eugene were necessary parties for the complete adjudication of several of the various actions. Master Short disagreed, stating that evidence of these individuals could be obtained even without lifting the stays, and that Campoli and EM Air could still prove their entitlement and participate in the Proposal without establishing a violation of section 13 of the CLA.

Issue 2: Breach of Trust

Master Short provides a helpful summary of the CLA’s breach of trust provisions, as set out above. On the basis of the fact that some element of dishonesty, wrongdoing or misconduct is required for a breach of trust under the CLA to survive bankruptcy, Master Short concluded that the conduct of the Maida brothers would be a significant factor to consider.

Master Short, citing the Ontario Court of Appeal’s decision of Airex Inc. v. Ben Air System Inc., also clarified that once the beneficiary of a trust showed that it was a contractor on the project in question who supplied materials to the alleged trustee, that the beneficiary had not been paid, and that the trustee had received payment, the onus was on the trustee to show that the trust monies had been properly applied. Master Short concluded, however, that the moving parties had failed to establish that any funds were misapplied, stating that their evidence was contradictory and lacked documentary support. In doing so, he said that breach of trust was not established simply because a project lost money. In essence, “simply because the project lost money does not turn the principals or officers or directors of a corporation into guarantors of the liabilities of the Corporation.” In this case, the fact that the Maida brothers provided personal guarantees on mortgages was held not to establish a breach of trust. Master Short also found in this particular case, as long as the necessary holdbacks were maintained, any payments made on account with respect to mortgages on the Property were authorized uses of those funds, and not a breach of trust. The units took six years to sell and resulted in a $9 million loss for Georgian, its related companies, and the Maidas.

Issue 3: Settlement Agreements and the Limitation Period

The Plaintiffs signed Minutes of Settlement dated June 17, 2009 (and amended on July 7, 2009). EM Air signed additional Minutes of Settlement in February 2011 re-affirming that all claims against Georgian were settled, and Triumph signed Supplementary Minutes of Settlement in 2011 containing a full and final release of all Project-related claims. These documents were signed to allow the Project to be completed and end any lien actions and other litigation in order to complete the Project. Master Short found that the trades knew they were giving up all Project-related claims, including all registered and unregistered liens, in the hopes of being paid from the Project’s sale proceeds surplus through a Trades Mortgage intended to replace Georgian’s debt that would rank behind the main Project financing. Master Short found that the Plaintiffs all had legal advice and were experienced in the construction industry, and that they all knew that they would (1) only be paid after the Project was sold; (2) that the prior mortgages would be paid first; and (3) that they were giving up the right to sue for any debts related to the Project.

Relying on the Limitations Act, Master Short concluded that the Plaintiffs were aware of their breach of trust claims in 2009, and were therefore out of time when they started their action in 2012. He also found that no tolling agreement was entered into, nor was there anything in the Minutes of Settlement to preserve a breach of trust claim. Citing the Ontario Superior Court of Justice decision of Cast-Con Group Inc. v. Alterra (Spencer Creek) Ltd. (2008), which was upheld by the Divisional Court, Master Short found that the “trust claim clock runs from when the default entitling a party to lien a project, is discovered.”

Outcome: Putting the Pieces Together

With respect to Frank Maida’s request to restore the stay previously lifted on consent, section 187(5) of the BIA states that “every court may review, rescind or vary any order made by it under its bankruptcy jurisdiction”, but subsection (6) states that “every order of a court may be enforced as if it were a judgment of the court.” In light of this, Master Short declined to vary the order of Registrar Jean. He noted that the power granted by section 187(5) should be used sparingly, and that if the order was to be varied, such a request must be brought before the judicial officer who initially made the order. Master Short therefore declined to reinstate the stay.

In determining whether to lift the stays of the other Maida brothers, Master Short considered the fact that even if the stays were lifted or reinstated (in the case of Frank Maida), a judgment for breach of trust would make no difference since the Canada Revenue Agency had a claim that was much larger than the Plaintiffs’ claims. If CRA were to vote in favour of the Proposals, they would be accepted, and if they voted against them, the Maidas would be bankrupt. He also considered the position taken by the Maidas that allegations made with respect to fraud against the Maidas were significantly undermined on cross-examination.

In considering the case law surrounding the lifting of a stay, Master Short cites the Ontario Court of Appeal’s 2001 decision in Ma, Re.This decision stated that lifting a stay is “far from a routine matter”, and that there is an onus on the applicant to establish that the situation falls within the meaning of section 69.4. The court must ensure that there are “sound reasons consistent with the scheme of the Bankruptcy and Insolvency Act.” One reason cited as to why a stay would not be lifted is “if it were apparent that the proposed action had little prospect of success.”

Master Short found that the Plaintiffs had little prospect of success, for the reasons cited throughout the decision but also because the Plaintiffs’ claims could not survive bankruptcy. The case law is clear that some element of dishonesty, wrongdoing or misconduct must be established for a breach of trust claim to survive bankruptcy pursuant to section 178(1)(d). This creates a zone where there will be breaches of trust pursuant to the Construction Actthat do not fall within section 178(1)(d) of the BIA. Master Short found that there was no evidence that any of the Maidas deliberately misappropriated trust money for their own use, and since any judgment they might receive would not survive bankruptcy, there were no sound reasons for lifting the stays.

Lastly, Master Short considered whether summary judgment should be granted. He found that this motion could be determined under Rule 20.04(2)(a), which states that “the court shall grant summary judgment if the court is satisfied that there is no genuine issue requiring a trial with respect to a claim or defence.” Master Short determined that he did not need to exercise any of the enhanced fact finding or mini trial powers reserved to judges. There was no “air of reality” to the argument that the cause of action was only discoverable two years before the action was commenced, there was no meaningful evidence of misappropriation of funds, and the parties went into their settlement agreements with eyes wide open. Both parties had the opportunity to put their best foots forward on the motion, and the motion must be decided on the basis of the evidence actually before the court. Here, the plaintiffs failed to put forth sufficient evidence that trust funds were being paid to someone other than those entitled to receive them under the Construction Act. Accordingly, the plaintiffs failed to satisfy their onus. He also cited the doctrine of promissory estoppel as a reason to uphold the Minutes of Settlement and related Trade Mortgages. On the basis of all of the above, and applying the legislative test contained at section 69.4 of the BIA, Master Short found that it was not likely that the moving parties would be materially prejudiced by not lifting the stay, and that it would not be equitable in consideration of the steps taken in reliance upon the Trade Mortgages and the related documents.

The motions seeking to lift the stays of Eugene and Anthony Maida were therefore dismissed, the motion to reinstate a stay of the actions against Frank Maida was dismissed, and the motion of Frank Maida to have the actions dismissed against him were granted.

Appeal to the Divisional Court

Master Short’s decision was upheld by the Divisional Court, which determined that it was only necessary to consider the limitations issue. On this point, the Divisional Court determined that Master Short was correct and that the limitation period for breach of trust had expired before the appellants had issued their claims.

Conclusion

Master Short’s decision in Campoliis useful to review and revisit for new and experienced lawyers alike. Not only does it serve as a helpful guide to the key principles and tests a lawyer must deal with when it comes to lifting stays and dealing with breach of trust claims in the context of a bankruptcy or insolvency, but it also as an example of a pragmatic and well-reasoned application of these principles in order to untangle a messy multi-party construction litigation file.

Max Gennis, Associate, Glaholt LLP

Philip H. Gennis, J.D., CIRP., LIT, Senior Principal, msi Spergel inc., Licensed Insolvency Trustees

References:

[1] 2017 ONSC 2784 (Master); aff’d 2018 ONSC 2008 (Div. Ct.).

[2] Master Short’s decision specifically addresses the previous CLA, and not the current CA. However, it is anticipated that his reasons will be helpful in looking at cases under the CA. For the sake of clarity, the abbreviation “CLA” will be used in this article when referring to the Campolidecision.

[3] THIS COURT ORDERS that no Proceeding against or in respect of the Debtor or the Property shall be commenced or continued except with the written consent of the Receiver or with leave of this Court and any and all Proceedings currently under way against or in respect of the Debtor or the Property are hereby stayed and suspended pending further Order of this Court.

[4] THIS COURT ORDERS that until and including [DATE – MAX. 30 DAYS], or such later date as this Court may order (the “Stay Period”), no proceeding or enforcement process in any court or tribunal (each, a “Proceeding”) shall be commenced or continued against or in respect of the Applicant or the Monitor, or affecting the Business or the Property, except with the written consent of the Applicant and the Monitor, or with leave of this Court, and any and all Proceedings currently under way against or in respect of the Applicant or affecting the Business or the Property are hereby stayed and suspended pending further Order of this Court.

[5] 2009 CarswellOnt 7882 (S.C.J.).

[6] 10. THIS COURT ORDERS that all rights and remedies against the Debtor, the Receiver, or affecting the Property, are hereby stayed and suspended except with the written consent of the Receiver or leave of this Court, provided however that this stay and suspension does not apply in respect of any “eligible financial contract” as defined in the BIA, and further provided that nothing in this paragraph shall (i) empower the Receiver or the Debtor to carry on any business which the Debtor is not lawfully entitled to carry on, (ii) exempt the Receiver or the Debtor from compliance with statutory or regulatory provisions relating to health, safety or the environment, (iii) prevent the filing of any registration to preserve or perfect a security interest, or (iv) prevent the registration of a claim for lien.

[7] 15. THIS COURT ORDERS that during the Stay Period, all rights and remedies of any individual, firm, corporation, governmental body or agency, or any other entities (all of the foregoing, collectively being “Persons” and each being a “Person”) against or in respect of the Applicant or the Monitor, or affecting the Business or the Property, are hereby stayed and suspended except with the written consent of the Applicant and the Monitor, or leave of this Court, provided that nothing in this Order shall (i) empower the Applicant to carry on any business which the Applicant is not lawfully entitled to carry on, (ii) affect such investigations, actions, suits or proceedings by a regulatory body as are permitted by Section 11.1 of the CCAA, (iii) prevent the filing of any registration to preserve or perfect a security interest, or (iv) prevent the registration of a claim for lien.

[8] Michael P. McGraw, Construction and Insolvency Law, Process and Priorities the Intersection of Complex and Confusing, Ontario Bar Association Construction Law Section, Nuts and Bolts, February 2013, p. 2.

[9] Duncan W. Glaholt, Conduct of a Lien Action 2018(Toronto: Carswell, 2017) at p. 91.

[10] Short decision, paras 51-56.

[11] The principle that a provincial statutory trust must constitute a trust at common law and meet the three certainties of intent, object and subject matter in order to survive bankruptcy has been held as recently as the 2018 Ontario Superior Court of Justice [Commercial List] decision of RBC v. A-1 Asphalt Maintenance Ltd., 2018 ONSC 1123, para 4, currently under appeal.