It was recently announced that amendments to the Ontario Personal Property Security Act (the Ontario PPSA) that were passed way back in 2006 will become effective on December 31, 2015. This matters to the structured finance community because these amendments change the test for determining the debtor’s “location”. For participants in derivatives, futures, securities lending and repo markets, the debtor’s location is relevant to cash collateral and security interests in contractual and other intangible rights (such as futures contracts and rights against clearing houses). As outlined below, the changes mean that creditors who have taken steps to perfect by registration in the jurisdiction of the debtor’s chief executive office will have to consider whether they should file a financing statement in an additional jurisdiction if the debtor’s registered office turns out to be in a different jurisdiction. Also, where new security is taken, filing in both jurisdictions may be required or at least prudent.
Under the Ontario PPSA, the law of the jurisdiction where the debtor is located governs the validity, perfection and effect of perfection or non-perfection and priority of a security interest granted by that debtor in intangibles (including cash collateral accounts and contractual rights, for instance) and many other types of property. While perfection by control is most often relied on, it is also possible to perfect by registration in investment property (securities and securities accounts for example) and where that method of perfection is relied on, the law of the jurisdiction where the debtor is located also governs perfection of a security interest in investment property by registration. The conflict of laws rules are largely consistent across the common law provinces and territories of Canada (i.e. except for Quebec). These “PPSA jurisdictions” have also generally deemed a debtor (other than an individual) to be located at its place of business, if there is one, or at its chief executive office, if it has more than one place of business. “Chief executive office” is not defined.
The background of the 2006 amendments (which are now to be brought into effect) is that there had been criticism of the existing Ontario PPSA debtor’s location definition, on the grounds that the whereabouts of a debtor’s chief executive office is not always obvious given that it is not generally identified on a public record. In addition, the location of the chief executive office can be difficult to determine in the context of partnerships and trusts that may be managed by persons in a variety of jurisdictions or in the case of entities that do not have a specific physical location from which they conduct business. The amendments are intended to increase certainty and reduce costs by allowing location to be determined from information that can easily be found in the debtor’s constating documents or through a search of a public registry.
So why have these amendments been sitting around unproclaimed for all these years? The main reason is that Ontario wanted to wait until other PPSA jurisdictions adopted a similar change, since having different conflict of laws rules in different jurisdictions leads to its own problems. However, following the recommendation of the Business Law Agenda Stakeholder Panel (which recently reviewed a range of Ontario corporate and commercial statutes) that the amendments be given effect, December 31, 2015 was suddenly announced as the date the amended rules will come into force, even though the other PPSA jurisdictions have not followed Ontario’s lead (and might not do so).
New location rule
The new location definition locates a debtor according to its entity type as follows:
Click here to view table.
As many debtors’ locations will change, for purposes of the Ontario PPSA, as a result of the new definition (including those Canadian banks that have a chief executive office in Ontario, but registered office in another province), transition rules have been enacted to ensure creditors have time to take steps to perfect as required by the new definition and to have continuous perfection from the time of the original filing, if necessary. The rules generally provide that a security interest in collateral arising and perfected prior to December 31, 2015 will remain perfected under the Ontario PPSA until December 31, 2020 (notwithstanding that the security interest has not been perfected under the law of the jurisdiction of the debtor’s new location as long as the perfection status is maintained). If a security interest that arose prior to December 31, 2015 was perfected under the then-applicable law and is, subsequent to that date and prior to December 31, 2015, perfected in accordance with the law of the debtor’s location under the new definition, the security interest will be continuously perfected. Secured creditors still need to do a careful analysis, however, because how the Ontario rules interact with rules in other jurisdictions is altered by this change in law.
Here is an example of how the transitional rules would operate in the context of a typical cash collateral arrangement for derivatives.
Suppose the parties have entered into a New York form of ISDA Credit Support Annex before December 31 that allows for cash collateral and that both before December 31 the secured party has received cash which it is still holding in 2016 and has also received additional cash after 2016. The secured creditor filed a financing statement in Ontario on August 1, 2015 with respect to a counterparty with a chief executive office in Ontario, but a registered office in Nova Scotia.
- For the validity of the security interest in the cash collateral delivered prior to December 31, Ontario law will apply because the security interest is what the PPSA defines as a “prior security interest”, namely a security interest that arose under a “prior security agreement” (i.e. one entered into before December 31). For such prior security interests the old definition of location applies (s. 7.2(5)). Even if the CSA is amended, renewed, or extended after December 31, it remains a prior security agreement with respect to any collateral that was described in the agreement prior to December 31.
- For the validity of the security interest in the cash collateral delivered after December 31, Ontario law will still apply because, even though the security interest attached after December 31, it arose under a prior security agreement. For the perfection of the cash collateral (whether delivered before or after December 31) the applicable law is based on the new definition (s. 7.2(6)). In our example, this means that perfection is governed by the internal law of Nova Scotia and that law requires a financing statement to be filed to perfect a security interest in cash collateral. However, because it is a “prior security interest”, it is deemed to continue to be perfected by the existing Ontario registration until the earlier of the date that registration expires or after five years, namely on December 31, 2020 (s. 7.2(7)). Since most filers in our experience have filed perpetual registrations, the 2020 date is likely the relevant one.
- If the secured creditor does file a financing statement in Nova Scotia, Ontario law will treat the secured creditor as continuously perfected from the date of perfection under the prior law, namely August 1, 2015 in our example (s. 7.2(8)). In other words, perfection under Ontario law will apply from the date of the original Ontario filing.
- For the priority of the cash collateral (whether delivered before or after December 31) the applicable law depends on whom the priority fight is with. For example,
- The old definition applies to a competition between two perfected prior security interests (s. 7.2(11)). Therefore, as between the CSA secured creditor and another perfected secured creditor under a prior security agreement, Ontario law governs.
- The new definition applies to a priority competition between a prior security interest that was not perfected as of December 31 but was subsequently perfected under the new law and another prior security interest (s. 7.2(12)). This could apply to the CSA if the competition was with a secured creditor that perfected a prior security interest after December 31 and not before (or vice versa).
- The new definition applies to a competition between a prior security interest and a security interest that arises after December 31 (s. 7.2(6)). In our example the priority of the CSA creditor vis-à-vis a subsequent secured creditor is governed by the internal law of Nova Scotia (s. 7.2(9)). This may not make much difference to the end result because priority rules in Nova Scotia allow reliance on the earlier perfection status under Ontario law (at least as long as there is not an earlier registration in Nova Scotia with respect to the same collateral). (We’ll spare you the gory details of that analysis.)
For CSAs entered into after December 31, the relevant location definition will be the new one for issues of validity, perfection and priority as between competing secured creditors. The same will be the case if a new class of collateral is added to a CSA. For example, if the CSA does not currently provide for cash collateral, and it is amended after December 31 to include cash collateral, the new definition will apply.
Proceedings outside of Ontario
The above example deals with the result if the proceeding is before the Ontario courts. Because the debtor location definition is currently relatively uniform across Canada (except for Quebec) it has not been necessary to give much thought to the possibility that proceedings might be brought outside of Ontario for entities with a chief executive office in Ontario because the courts in those other jurisdictions would have applied Ontario law in any event. However, when rules are different between jurisdictions you do have to take that into account. If you do have a counterparty with a registered office in Nova Scotia, for example, you may want to consider the possibility of proceedings relating to the security interest being taken in that province. In that case, you would consider the conflict of laws rules under Nova Scotia law. In our example, the Nova Scotia court would apply the chief executive office location rule, although unlike Ontario, it applies Ontario law conflict of laws rules as well (although as at the date of attachment). In that case, the relevant conflict of laws rules under Nova Scotia law are essentially the Ontario rules, as described above or, if attachment of the security interest was earlier than December 31, as they existed before proclamation. In our example above, this would mean applying the chief executive office definition to the cash collateral posted before December 31 and the new rules to that posted after.
December 31 is not too far away, so what is a secured creditor to do? Here are some thoughts on the way forward:
- For new security agreements the new location definition does have to be considered for validity, perfection and priority. For most counterparties, the information required to determine location can be found in searchable public records. As long as any new location is still a Canadian PPSA jurisdiction, there should not be any substantive differences in the law. File in both registered office and chief executive office jurisdiction to avoid any analytical headaches.
- For existing security agreements, figure out if any of the existing Ontario counterparties have a registered office outside of Ontario. If not, no new filings are required.
- If there is a registered office outside of Ontario, consider the impact on each of the types of intangible collateral taken from Ontario counterparties and determine based on an analysis of both Ontario law and the law in the new location whether any new filings are required. The transition rules may give some time to get this done, but you need to consider the rules in the new jurisdiction to confirm that. You should also carefully consider whether your priority position has changed, because prior registrations in the new jurisdiction may suddenly enjoy a priority they did not have before.
- Having a specific rule for partnerships and trusts is helpful. These types of entities are common debtor types in financial market transactions and if they have trustees, partners, management companies in different jurisdictions or don’t have a business establishment it has sometimes been necessary to consider the laws of multiple jurisdictions. Now there will be one clear governing law. So going forward, secured creditors should solicit the information from counterparties (if they don’t know it already) to determine the governing law of the trust document or the partnership agreement in the case of a general partnership. For limited partnerships, the place of formation will govern and that can also be found on the public record.