The decision of the Supreme Court of Canada last month in Century Services Inc. v. Canada1 is of striking interest to the tax and insolvency bars. The Court considered Crown priorities, in particular, the various “deemed trust” provisions found in section 227 of the Income Tax Act (Canada),2 section 86 of the Employment Insurance Act,3 section 23 of the Canada Pension Plan (the “CPP”)4 and in particular section 222 of the Excise Tax Act (GST Portions).5
Importantly, the Court described the legal context of the deemed trust provisions within Canada’s insolvency legislation. With all statutory interpretation now based on “a textual, contextual and purposive analysis”,6 the Court’s description of the inter‐relationship between the Bankruptcy and Insolvency Act 7(the “BIA”) and the Companies’ Creditors Arrangement Act8 (the “CCAA”) and the interpretation to be given to tax legislation and other Crown priority conferring legislation in insolvencies will have a direct influence on many future income tax and other cases involving deemed trusts and/or Crown priorities.
The key points arising from Century Services are:
- in an historical context Crown priorities are in decline in insolvencies;9
- deemed trusts are an exception to the historical trend;10
- a distinction exists between deemed trusts for source deductions (i.e., employer withholding for income tax, employment insurance and CPP) and deemed trusts for other amounts, such as collected GST;11
- the CCAA is remedial in nature and is designed to provide flexibility in addressing complex reorganizations involving insolvency;12
- the BIA’s reorganization provisions are generally rules‐based;13
- the CCAA and BIA should be read as harmonious legislation designed to address companies in financial distress;14 and
- the CCAA and, to a lesser extent, the BIA are designed to avoid, where possible, the social and economic costs of a company liquidating its assets and should be interpreted in light of this purpose.15
Century Services – The Facts
The Appellant, Century Services, was the major secured creditor of a debtor corporation which had sought protection under the CCAA. The debtor had collected approximately $300,000 in GST which it had not remitted to the Crown.
In the course of the debtor’s attempted reorganization, the Supreme Court of British Columbia ordered that unremitted GST be placed in the Monitor’s (under the CCAA a monitor is required to be appointed in connection with a reorganization) trust account until the outcome of the reorganization was known.16 (A company that fails to make a satisfactory arrangement under the CCAA, will most often end up liquidating under the BIA.) It was subsequently concluded that reorganization was not possible and the debtor sought leave of the Supreme Court of British Columbia to make an assignment in bankruptcy under the BIA. At this juncture, as the Supreme Court of Canada describes:
The Crown sought an order that the GST monies held by the Monitor be paid to the Receiver General of Canada. Brenner C.J.S.C. dismissed the latter application. Reasoning that the purpose of segregating the funds with the Monitor was “to facilitate an ultimate payment of the GST monies which were owed prefiling, but only if a viable plan emerged”, the failure of such a reorganization, followed by an assignment in bankruptcy, meant the Crown would lose priority under the BIA.17
Underlying Brenner C.J.S.C.’s reasoning was his reading that subsection 222(3) of the ETA (the GST deemed trust provision) gave the Crown priority where the debtor was subject to the CCAA but not the BIA. The British Columbia Court of Appeal, while allowing an appeal using different reasoning, read subsection 222(3) of the ETA as the Chief Justice had.18 The Chief Justice’s and the B.C. Court of Appeal’s reading was also consistent with the Ontario Court of Appeal’s reading of the provision in Ottawa Senator Hockey Club Corp. (Re).19
The relevant portion of subsection 222(3) of the ETA reads:
(3) Despite any other provision of this Act (except subsection (4)), any other enactment of Canada (except the Bankruptcy and Insolvency Act), any enactment of a province or any other law, if at any time an amount deemed by subsection (1) to be held by a person in trust for Her Majesty is not remitted to the Receiver General or withdrawn in the manner and at the time provided under this Part, property of the person and property held by any secured creditor of the person that, but for a security interest, would be property of the person, equal in value to the amount so deemed to be held in trust, is deemed . . . .
On the face of it, subsection 222(3) appears clear because only the BIA is stated to be excepted from subsection 222(3)’s application. In other words, deemed trust Crown priority exists unless the BIA applies. The CCAA is not part of the BIA and therefore deemed trust priority exists.
However, subsections 18.3(1) and (2)20 of the CCAA provided:
18.3(1) Subject to subsection (2), notwithstanding any provision in federal or provincial legislation that has the effect of deeming property to be held in trust for Her Majesty, property of a debtor company shall not be regarded as held in trust for Her Majesty unless it would be so regarded in the absence of that statutory provision.
(2) Subsection (1) does not apply in respect of amounts deemed to be held in trust under subsection 227(4) or (4.1) of the Income Tax Act, subsection 23(3) or (4) of the Canada Pension Plan or subsection 86(2) or (2.1) of the Employment Insurance Act . . . .
After reviewing the legislative context and purpose of the CCAA and BIA, the Supreme Court of Canada concluded that it was the CCAA provisions that provided the rule and not the BIA. This meant that neither the CCAA nor the BIA provided deemed trust Crown priority for the collected but unremitted GST. Accordingly, the Appellant’s appeal as the secured creditor was allowed.
In reviewing the relevant CCAA and BIA provisions, the Supreme Court specifically noted that deemed trust Crown priority was afforded for source deductions (income tax, employment insurance and CPP) but not for other deemed trust amounts, such as unremitted GST.
The Supreme Court does not discuss the policy reasons for distinguishing deemed trust source deductions from other deemed trust provisions. The Court’s conclusion comes simply from the text of the CCAA, BIA and other legislation (such as the ITA).
Presumably, the policy reason for the distinction is that while Parliament recognizes the importance of avoiding, where possible, the liquidation of corporations and is willing to have GST amounts compromised, Parliament is not willing to have deemed trust source deductions compromised because such amounts, if compromised, would arguably impact the income tax, employment insurance and pension plans of employees and such should not be compromised because they involve more than just the fisc’s coffers.
In examining the CCAA and the BIA, the Supreme Court noted the apparently incongruous result of deemed trust Crown priority existing under the CCAA but not the BIA if the reading given by the lower courts in the proceedings and the Ontario Court of Appeal in Ottawa Senators were to be followed. The Court stated:
Moreover, a strange asymmetry would arise if the interpretation giving the ETA priority over the CCAA urged by the Crown is adopted here: the Crown would retain priority over GST claims during CCAA proceedings but not in bankruptcy. As courts have reflected, this can only encourage statute shopping by secured creditors in cases such as this one where the debtor’s assets cannot satisfy both the secured creditors’ and the Crown’s claims (Gauntlet, at para. 21). If creditors’ claims were better protected by liquidation under the BIA, creditors’ incentives would lie overwhelmingly with avoiding proceedings under the CCAA and not risking a failed reorganization. Giving a key player in any insolvency such skewed incentives against reorganizing under the CCAA can only undermine that statute’s remedial objectives and risk inviting the very social ills that it was enacted to avert.
Arguably, the effect of Ottawa Senators is mitigated if restructuring is attempted under the BIA instead of the CCAA, but it is not cured. If Ottawa Senators were to be followed, Crown priority over GST would differ depending on whether restructuring took place under the CCAA or the BIA. The anomaly of this result is made manifest by the fact that it would deprive companies of the option to restructure under the more flexible and responsive CCAA regime, which has been the statute of choice for complex reorganizations.21
In Century Services, the Supreme Court did not address expressly that Parliament may have intended a result which may appear to be incongruous. Certainly, some may argue, with the CCAA’s flexibility, absent deemed trust Crown priority for collected but unremitted GST, an incentive will exist for companies anticipating a possible CCAA reorganization, to collect, but not remit, GST in order to have a source of funds that they can use to satisfy the claims of secured and unsecured creditors in any plan of arrangement. If this is indeed a concern for the Crown, one may expect legislative amendments in short order.
The foregoing argument that there may be “GST damming” in anticipation of CCAA proceedings is no more than a straw man and this is the likely reason the Supreme Court does not describe it in its reasons. The Crown may take comfort that the CCAA will not be so abused so as to facilitate GST damming for at least two reasons. First, the directors of the company may be personally liable for collected but unremitted GST under section 323 of the ETA in the period leading up to any CCAA filing.22
Second, a court supervising CCAA proceedings enjoys a broad discretion which could be exercised to thwart such potential abuse. The Supreme Court described judicial decision making under the CCAA as follows:
Judicial decision making under the CCAA takes many forms. A court must first of all provide the conditions under which the debtor can attempt to reorganize. This can be achieved by staying enforcement actions by creditors to allow the debtor’s business to continue, preserving the status quo while the debtor plans the compromise or arrangement to be presented to creditors, and supervising the process and advancing it to the point where it can be determined whether it will succeed. In doing so, the court must often be cognizant of the various interests at stake in the reorganization, which can extend beyond those of the debtor and creditors to include employees, directors, shareholders, and even other parties doing business with the insolvent company. In addition, courts must recognize that on occasion the broader public interest will be engaged by aspects of the reorganization and may be a factor against which the decision of whether to allow a particular action will be weighed.23
Whether or not section 222 of the ETA is amended in light of Century Services, the case is nevertheless significant. Century Services sets forth the historical and legislative context of the CCAA and the BIA and it will be in that context that future cases involving statutory interpretation of tax provisions involving insolvency matters will be placed. Moreover, an important distinction between deemed trusts for source deductions (such as income tax) and deemed trusts for GST collected but not remitted is made.