Free trade and global competition have created new opportunities for US businesses in Canada. As a result, both US and Canadian businesses and financial markets enjoy far greater interaction. The following summarizes significant Canadian legal issues that a US lender should be aware of when considering whether to underwrite or participate in a credit involving Canadian assets.

regulatory matters

Under the Bank Act (Canada), a “foreign bank” shall not engage in or carry on business in Canada except as authorized by the Act (i.e. through a foreign bank subsidiary or an authorized foreign branch or some other approved entity). The term “foreign bank” is broadly defined in the Act to include any entity that is called a bank or that is regulated as or like a bank. It also includes any entity that controls a foreign bank and any entity that provides financial services and is affiliated with a foreign bank.

This prohibition against engaging in or carrying on business in Canada would not prohibit a foreign bank from making a loan to a Canadian borrower as long as the nature and extent of all the foreign bank’s activities in Canada do not amount to engaging in or carrying on business in Canada. Whether a foreign bank would be considered to be engaging in or carrying on business in Canada by reason of making a particular loan to a Canadian borrower would depend on all the surrounding circumstances. Some of the factors that could be relevant include: how the relationship between the foreign bank and the Canadian borrower arose; where the documentation was negotiated and executed; and where the transaction was closed. Generally, where all aspects of the marketing, negotiation, execution and closing of a loan transaction by a foreign bank took place outside Canada, the foreign bank would not be considered to be engaging in or carrying on business in Canada solely by reason of that loan transaction.

Under the federal regulatory framework, a foreign bank wishing to have a presence in Canada has several options. A qualifying foreign bank can carry on its wholesale banking business in Canada directly through a branch. The other options are the establishing of a foreign bank subsidiary or the maintaining of a representative office in Canada. The latter is limited to promoting the services and acting as a liaison with clients of the foreign bank. Foreign bank subsidiaries have the status of Canadian chartered banks and are regulated like their domestic counterparts. Foreign bank branches are regulated in a manner parallel to the domestic regulatory scheme.


withholding tax

Prior to January 1, 2008, under the Income Tax Act (Canada) (the “ITA”), non-resident lenders were generally subject to a 25 per cent tax on the gross amount of interest they collected from Canadian resident borrowers (reduced to a 10% withholding tax on conventional interest payments to parties entitled to the benefits of the Canada-United States Income Tax Convention (1980), as amended, the “Canada-US Tax Treaty”). Withholding tax was a significant factor in structuring transactions and could influence whether debt was raised wholly in Canada or wholly or partly outside Canada.

Effective as of January 1, 2008, the ITA was amended to eliminate Canadian withholding tax on conventional (e.g., non-participating) interest payments made to arm’s length non-residents of Canada, regardless of their country of residence. Furthermore, the recently-ratified Fifth Protocol to the Canada-US Tax Treaty eliminates withholding tax on conventional interest payments made after December 31, 2009 to non-arm’s-length parties entitled to the benefit of such treaty (such payments made in 2009 would be subject to a 4 percent withholding tax).

These amendments are welcomed by both non-resident lenders and Canadian borrowers. Canadian borrowers will particularly benefit where a withholding tax exemption would not otherwise have been available because they will no longer face demands to “gross-up” interest payments to compensate for the imposition of withholding tax. The new statutory changes will reduce transaction costs as the need for additional documentation and structuring to fit within an applicable withholding tax exemption has largely been eliminated. The changes also facilitate greater access to foreign debt financing by Canadian borrowers, increase liquidity for Canadian lenders and introduce additional competition in the Canadian corporate debt markets.

thin capitalization rules

US lenders sometimes lend to a US corporation which, in turn, lends those funds to its Canadian subsidiary. Thin capitalization rules under Canadian tax legislation determine whether the subsidiary may deduct interest on the amount borrowed from the US parent. Essentially, the rules prevent Canadian subsidiaries from deducting interest on the portion of loans from a US parent that exceeds two times the subsidiary’s equity (retained earnings and share capital and contributed surplus attributable to specified non-residents). The same rule applies equally to other interest-bearing loans to Canadian subsidiaries from “specified non-residents”. The thin capitalization rules generally do not apply to a direct loan from an arm’s length US lender.

legislative framework for taking security

In Canada, provincial legislation generally governs the creation and enforcement of security. (A notable exception is security granted to banks under the federal Bank Act, discussed in greater detail below.) Provincial registry and land titles systems govern security against real property, whereas provincial personal property security legislation governs security against personal property.

PPSA jurisdictions

Most Canadian provinces have adopted comprehensive personal property security legislation (PPSA) resembling Article 9 of the United States Uniform Commercial Code (UCC). The PPSA regulates the creation, perfection and enforcement of a security interest in a debtor’s assets, and creates a system for determining the priority of competing interests in collateral. The act applies to any transaction that creates a security interest in personal property, regardless of the form of document used to grant the interest.

Under the PPSA, “security interest” is defined as an interest in personal property that secures payment or performance of an obligation. “Personal property” encompasses virtually all types of personal property. In most cases, the creditor perfects the security interest by registering a financing statement.

Most Canadian lenders in PPSA jurisdictions use a general security agreement covering all of the debtor’s existing and after-acquired assets. A general security agreement typically does not extend to real property. Rather, a separate mortgage of lands commonly secures the real property. To create security in both real and personal property, the creditor may use a debenture which combines both a real property and personal property charge in the same document. Other security agreements may be limited to specific types of personal property, such as inventory, equipment or receivables.

non-PPSA jurisdiction

Quebec, Canada’s only civil law jurisdiction, has a European style Civil Code that codifies the province’s general principles of law. The hypothec, Quebec’s main form of security, may be granted by a debtor to secure any obligation, and may create a charge on existing and after-acquired movable or immovable property. It may be made with or without delivery, allowing the grantor to retain certain rights to use the property.

Bank Act Security

Section 427 of the Bank Act provides a particular type of security available to only Canadian chartered banks and foreign bank subsidiaries incorporated under the Bank Act. The section entitles the bank to take security, from certain classes of debtors, against articles the debtor deals in, produces or uses in the course of its particular business. The debtor classes include manufacturers, wholesale or retail purchasers, shippers or dealers, and farmers, fishers and forestry producers.

When a bank takes security under the Bank Act, it must register the security with the Bank of Canada agent in the province where the debtor has its principal place of business. Before the security is granted, the bank must file a statutory form, the Notice of Intention to Grant a Security Interest. Once filed, Section 427 security is effective across Canada. Lenders may assign their rights and powers in respect of only certain types of property on which Section 427 security has been given.

A major advantage of Bank Act security is that it transfers title to the bank, thus allowing the bank to defeat certain claims that would otherwise take priority, such as a landlord’s claim for unpaid rent. There is no clear code governing the relative priorities of competing Bank Act and PPSA security.

selected issues in taking security in Canada

security in government receivables

Under Canadian federal legislation, subject to prescribed exceptions, receivables owed by the federal government can be assigned only absolutely (not as security) and only with appropriate notice to the government, which must be acknowledged. Some provinces have similar legislation covering receivables owed by the provincial government. In Canada, asset-based lenders frequently exclude government receivables from the borrowing base. In cases involving significant Crown receivables, it may be possible to structure an indirect form of security.

security in deposit accounts

The PPSA permits a lender to take security over deposit accounts that are treated as receivables owed by the depository to the debtor owner. Consequently, lenders in Canada commonly take a security interest in the credit balance of a debtor’s deposit account. The PPSA provides that security interests in deposit accounts are perfected by registering a financing statement.

lock-boxes and blocked accounts

Traditionally, Canadian debtors obtained working capital credit facilities on a demand basis from Canadian banks, which also served as the debtors’ retail banks and cash management services providers. Where the Canadian lender also provided cash management services to the debtor, lock-box and blocked account arrangements served no purpose and were not used. However, two main factors changed this: the growth of asset-based financing by Canadian subsidiaries of US banks and non-banks in Canada over the last 20 years, and the lock-box and blocked accounts arrangements that are conventional components of these financings. Through their participation in the establishment and operation of such arrangements, most Canadian banks are now familiar with lock-box and blocked account arrangements.

pledges of shares

Canadian lenders generally require debtors to pledge their shares if the debtor is a private company. Under the PPSA and the Securities Transfer Act, 2006 (STA), versions of which are in force in most Canadian jurisdictions, a secured party can perfect its security interest in shares by registering under the PPSA or by taking control under the STA (or both). An interest perfected by control is superior to one perfected only by registration. For certificated shares, taking physical possession of the share certificates (endorsed, if applicable) meets the STA requirement for control. Control in other forms of investment property such as book-based securities can be achieved by other means under the STA, such as a control agreement with the relevant intermediary. In Ontario, the practice is to perfect by both control and registration. A private company’s constating documents must include a restriction on the right to transfer its shares. This restriction usually states that each transfer of the company’s shares requires approval by the company’s directors or shareholders. In light of this restriction, pledged shares often are transferred into the name of the lender or its nominee to better perfect the lender’s security in the private company’s shares.

security in real property - title opinions

In Canada, lenders taking security on real property have the option of relying upon either title insurance or a title opinion from legal counsel. Title insurance, as a viable alternative, is a recent development in Canada and, although resort to title insurance is steadily increasing, title opinions are still more commonly used by Canadian lenders. A title opinion may be provided by counsel for the lender or the debtor and states that the debtor has a good and marketable title to the secured property, subject to encumbrances identified in the opinion.

legal opinions

Canadian lenders generally rely on the legal opinions of debtors’ counsel as to the enforceability of loan and ancillary documents. Like US counsel, Canadian counsel in practice do not provide opinions on the title to personal property or the priority of personal property security.

environmental liability

Secured lenders face three major risks under federal and provincial environmental laws. First, the debtor’s financial stability may be threatened by environmental liabilities. Second, the debtor’s environmental liabilities may impair the value of the lender’s security. Finally, the lender may itself face exposure for environmental liabilities. This can arise if the lender actually participates in or exercises control over the day-to-day operations or financial management of the polluting business (before or after the appointment of a receiver), or becomes the owner of a contaminated site by foreclosure or similar action.

Interest Act (Canada)

Under the Interest Act (Canada), any contract or agreement may stipulate or allow for any rate of interest. However, the contract or agreement must contain an annual interest rate or, in the case of contracts or agreements where the rate or percentage is for a period of less than one year, an express statement of the annual equivalent interest rate. Failure to include an annual interest rate or an annual equivalent interest rate will result in the imposition of an interest rate not to exceed five percent per year. In addition, where contracts or agreements are secured by a mortgage on real property, a higher rate of interest cannot be recovered on amounts in arrears.  

Criminal Code (Canada)

Section 347 of the Criminal Code (Canada) makes it a criminal offence to receive interest at a criminal rate, defined as an effective annual rate of interest that exceeds sixty percent. Interest in the Criminal Code (Canada) is broadly defined to include interest, fees, commissions and similar charges and expenses that a borrower pays in connection with the credit advanced. This section has arisen almost exclusively in civil, not criminal, cases where the borrower seeks to avoid repayment by arguing that the contract was illegal. Courts have struggled with which, if any, contractual provisions should be enforced when a contract imposes a criminal rate of interest.


Canadian laws governing intercorporate guarantees are quite different from their US counterparts. Generally speaking, the validity of an intercorporate guarantee is less likely to be successfully challenged under bankruptcy, fraudulent conveyance or preference legislation. In many jurisdictions in Canada, corporate laws now permit a corporation to give financial assistance by way of guarantee or otherwise to any person for any purpose, provided it discloses material financial assistance to its shareholders after such assistance is given. However, the corporate laws in certain provinces continue to prohibit financial assistance to members of an intercompany group if there are reasonable grounds to believe that the corporation would be unable to meet prescribed solvency tests after giving the assistance, subject to specified exceptions. Under certain circumstances, granting a guarantee in a manner that disregards the interest of creditors or minority shareholders could be challenged under the oppression provisions of Canadian corporate legislation.

enforcing security

Before enforcing security, a lender must demand that the debtor repay the loan, and give the debtor reasonable time to do so. The lender must comply with these requirements even if the debtor waived these rights in the loan and security documents. The secured lender (and any receiver it may appoint) must act in good faith and in a commercially reasonable manner when selling or otherwise disposing of the secured assets. The lender also must give advance notice of the intention to realize on security. If the lender fails to meet these obligations at any stage of the enforcement process, it may be liable to the debtor or other creditors for damages.  

priorities issues

priming liens  

In Canada, a number of statutory claims may “prime” or take priority over a secured creditor. Priming liens commonly arise from a debtor’s obligation to remit amounts collected or withheld on behalf of the government (for example, unremitted employee deductions for income tax, pension plan contributions and employment insurance premiums and unremitted federal goods and services taxes and provincial sales taxes), or the debtor’s direct obligations to the government (for example, municipal taxes and workers’ compensation assessments). The relative priority of statutory claimants and secured creditors is greatly affected, and often reversed, by the debtor’s bankruptcy.

subordinated liens

In Canada, senior secured lenders commonly permit another lender to hold a subordinated security interest in the same collateral. However, the existence of a subordinated lien can complicate matters in a number of ways. First, should the senior lender realize on its security, it must do so in a commercially reasonable manner. The existence of a junior lender in no way alters that obligation. However, as a practical matter, another lender (other than the debtor or the debtor’s unsecured creditors) is more likely to challenge the senior lender’s actions. Moreover, the junior lender possesses certain technical rights that may otherwise affect realization (for example, notice of disposition of the collateral).

Finally, the junior lender might make it more difficult to successfully reorganize the debtor’s debt. For example, corporate reorganization statutes divide the debtor’s creditors into classes. Generally, the secured lender has an advantage by being in a class by itself, as this provides the lender with complete control. In most reorganizations, a senior and junior lender are placed in separate classes. However, under some circumstances the senior and junior lender may be placed in the same class. Additionally, a junior lender may ask the court to lift a stay, and thereby effectively end the reorganization attempt. The senior lender may prefer that the stay continue.

insolvency and restructuring

Canada’s two principal insolvency statutes are the Bankruptcy and Insolvency Act (BIA) and the Companies’ Creditors Arrangement Act (CCAA). In Canada, reorganizations analogous to a Chapter 11 proceeding can be conducted under the BIA through that statute’s proposal regime or under the CCAA. Liquidations akin to Chapter 7 proceedings in the U.S. are conducted under the BIA.

Significant amendments, to both the BIA and the CCAA, were brought into force on September 18, 2009. These amendments codify existing case law as well as implementing various technical and substantive reforms.

corporate restructuring statutes

In Canada, reorganizations can be conducted under the BIA or, for a company or income trust with at least $5 million in debt, under the CCAA.

Each act provides that creditors may be stayed from enforcing their claims. Canadian courts also have the power to coordinate local proceedings with any foreign insolvency proceedings involving the debtor.

proposals under the Bankruptcy and Insolvency Act

The restructuring process begins by filing either a definitive proposal for compromising claims of creditors or a notice of intention to make a proposal. Once a notice or proposal is filed, all proceedings against the debtor are stayed automatically. Secured creditors are stayed from enforcing their security unless they gave a notice of intention to enforce security more than ten days before the debtor’s notice or proposal was filed. Unless an extension is granted, the debtor must file a definitive proposal within 30 days of filing the notice of intention to make a proposal. A debtor who fails to do so is automatically deemed bankrupt.

The proposal under the BIA may be put to all creditors together, or to unsecured and secured creditors arranged in classes. If included, secured creditors with a “commonality of interest” must be in the same class. Although the proposal need not include all secured creditors, those excluded from the debtor’s proposal are not bound by it and may enforce their security during the restructuring process.

The proposal must be accepted by a double majority of the creditors (one-half in number and two-thirds in value) and approved by the court. Once approved, it immediately binds all classes of unsecured creditors with provable claims that arose before the proposal’s filing date as well as those included secured creditors in classes which vote in favour of the proposal. If the proposal is rejected by the creditors or the court, the debtor is automatically deemed bankrupt.

Companies’ Creditors Arrangement Act

Subject to certain exceptions, protection under the CCAA is available to an insolvent Canadian corporation which has assets or carries on business in Canada if total claims against it exceed CDN$5 million. Affiliated companies’ debts may be included to meet the threshold.

To initiate proceedings under the CCAA, the debtor files an application with the court. The application requests an order permitting the debtor to file a proposal for reorganization and granting a stay of proceedings. The initial stay cannot exceed 30 days. The CCAA provides the court with broad discretion concerning the scope of the stay. To date, the CCAA’s stay provision has been broadly interpreted, and it remains to be seen how the amendments will affect practice going forward. Certain amendments, such as suppliers rights and the treatment of executory contracts, discussed below, will impact the content of the initial stay order. If the court grants a stay, it will appoint a monitor to supervise the debtor’s business and financial affairs.

Like the BIA, the CCAA allows creditors to be separated into different classes. The creditors must meet and vote on the debtor’s proposed plan of reorganization, which must be accepted by the same double majority of creditors that the BIA requires.

Although restructuring under the CCAA is usually more expensive and time-consuming than under the BIA, larger corporate debtors tend to use the CCAA because there is greater flexibility to deal with complex reorganizations.

debtor-in-possession financing

Courts have express authority under both the BIA and the CCAA to approve debtor-in-possession financing (DIP), subject to statutory guidelines. While DIP financing had been available prior to the amendments through the development of case law, the codification may make it easier to obtain priming DIPs.


Bankruptcy proceedings under the BIA are analogous to Chapter 7 proceedings. Debtors become bankrupt in Canada in one of the following three ways:

by filing a proposal for reorganization that is either refused by the creditors, or accepted by the creditors and rejected by the court (as discussed above);  

by making an assignment for the general benefit of the creditors (voluntary bankruptcy); or  

by being petitioned into bankruptcy by one or more creditors (involuntary bankruptcy).

voluntary bankruptcy

Debtors can make an assignment in bankruptcy only if they are “insolvent.” Under the BIA, debtors are insolvent if:  

they cannot meet their obligations as they generally become due;  

they have stopped paying their current obligations in the ordinary course of business as they generally become due; or  

the value of their property is insufficient to satisfy their debts.  

involuntary bankruptcy

A creditor can apply for a bankruptcy order in respect of a debtor who owes at least $1000 and has committed an “act of bankruptcy,” as defined in the BIA, within the six months preceding the application. Most commonly, the application is filed because the debtor has ceased to meet its liabilities generally as they become due. Should the debtor dispute the application, the matter is referred to a judge for a hearing. Where the facts alleged in the application have been proven, the court will enter a bankruptcy order, declaring the debtor bankrupt.

An under-secured creditor may apply for a bankruptcy order for strategic reasons. For example, priorities between a secured creditor and some statutory claimants (as discussed above) may be “reversed” in certain circumstances if the debtor becomes bankrupt.

effect of bankruptcy

A bankruptcy stays the claims of all creditors, except secured creditors. A trustee-in-bankruptcy is appointed and all of the debtor’s assets vest in the trustee. The assets are sold and the proceeds are distributed among the debtor’s creditors, in accordance with priorities determined by the BIA. Secured creditors, however, are generally not affected by these proceedings and are entitled to exercise their rights over the collateral for which they have a security interest.

investigations and reviewable transactions

Bankruptcy proceedings are sometimes also used by a creditor when the creditor wishes to investigate a debtor’s affairs. The trustee has a statutory right to obtain possession of the bankrupt’s books and records, to examine under oath the officers of the bankrupt or any other person reasonably thought to have knowledge of the bankrupt’s affairs, and to require such a person to produce any documents in his or her possession or power relating to the bankrupt, the bankrupt’s dealings or property. These powers may be important if there are concerns that the debtor has attempted to conceal certain assets or to conceal the transfer of certain assets.

Finally, bankruptcy proceedings can also be invoked to allow the trustee to attempt to reverse certain transactions entered into within prescribed periods prior to the bankruptcy, such a preferential payment or transaction entered into in order to defeat the claims of creditors.

repossession of goods by suppliers

A lender who finances goods that a supplier provides to a debtor may be at risk if the debtor becomes bankrupt or insolvent within 30 days of receiving those goods. Under the BIA, unpaid suppliers may repossess goods delivered within 30 days before a bankruptcy or receivership if they make a demand for repossession within 15 days of the date of bankruptcy or receivership. However, among other things, if the purchaser altered or resold the goods, or the goods cannot be identified, the rule does not apply.

wage earner protection

Under the Wage Earner Protection Program Act (the WEPPA), an employee whose employer has become bankrupt or subject to receivership on or after July 7, 2008 is entitled to receive payments from a federal Wage Earner Protection Program on account of any outstanding wages that were earned in the six months immediately prior to bankruptcy or the first day of receivership in an amount not to exceed the greater of $3,000 and four times the maximum weekly insurable earnings under the Employment Insurance Act.

Corresponding amendments to the BIA are now in force that provide an employee of an employer which is bankrupt or in receivership, with a priority charge on the employer’s “current assets” for unpaid wages and vacation pay (but not for severance or termination pay). This charge will secure unpaid wages and vacation pay for the six month period prior to bankruptcy or receivership to a maximum of $2,000 per employee (plus up to $1,000 for expenses for “traveling salespersons”). The priority charge ranks ahead of all other claims, including secured claims, except unpaid supplier rights.

pension plan contributions lien

The BIA now also grants a priority charge in bankruptcies and receiverships for outstanding current service pension plan contributions, ranking behind the wage earners priority but otherwise with the same priority as is accorded to that lien. The pension contribution priority extends to all assets, not just current assets, and is unlimited in amount.

The pension charge secures (1) amounts deducted as pension contributions from employee wages but not contributed to the plan prior to a bankruptcy or receivership and (2) amounts required to be contributed by the employer to a pension plan, for “normal costs”. The priority does not extend to unfunded deficits arising upon a wind-up of a defined benefit plan and should not include scheduled catch-up or special payments required to be made by an employer because of the existence of a solvency deficiency.

The existence of this lien underscores the importance of effective reporting and monitoring of pension contributions by the borrower, as well as other employee obligations such as vacation pay.

other notable amendments to Canada’s insolvency legislation

In addition to the wage and pension legislation discussed above, further amendments that came into force on September 18, 2009 include:

changes to the cross-border insolvency rules, including the adoption of some elements of the UNCITRAL model law, which also formed the basis for Chapter 15 of the recently amended US Bankruptcy Code;  

authorization to assign or disclaim executory contracts, excluding collective bargaining agreements, financing agreements where the debtor company is the borrower, real property leases where the debtor is the lessor as well as derivative and other “eligible financial contracts”; and  

debtors are expressly authorized to pursue asset sales out of the ordinary course of business during a restructuring, including a going-concern sale of a business. The sale must be approved by the court, which is to consider a number of specific criteria, and notice of a sale must be given to secured creditors who are likely to be affected by the sale.  

For a more detailed discussion of Canadian insolvency legislation and the amendments, please refer to McMillan’s publications available at  

a cautionary note

The foregoing provides a summary of aspects of Canadian law that may interest investors considering doing business in Canada. A group of McMillan lawyers prepared this information, which is accurate at the time of writing. Readers are cautioned against making decisions based on this material alone. Rather, any proposal to do business in Canada should most definitely be discussed with qualified professional advisers.