Lenders will want to take note of a recent BC Court of Appeal decision which decided that on a secured loan, the two year limitation period to enforce security will start from the day the security becomes enforceable, even if demand has not been made. In any case in which the terms of the security provide that it is enforceable upon default, the right to enforce may be triggered without the lender taking any action. Absent postponement of the right to enforce, the limitation period on the security will expire two years after default. The lender may then be left with an unsecured covenant to pay.
In Leatherman v 0969708 BC Ltd, 2018 BCCA 33 (“Leatherman”), the Court of Appeal overturned a lower court decision granting an order nisi following an action for enforcement of security on a private loan between friends. The court held that although the personal covenant to pay the principal on demand remained, the security was unenforceable. The limitation period had started to run on the security when interest had not been paid (ie there was a default), three years earlier.
This situation will be rare with commercial lenders, where it is likely that loan defaults are monitored and that limitation dates are constantly postponed due to acknowledgements or actions by the borrower consistent with the agreement. Nevertheless, lenders should consider amending loan documentation to provide that security is not automatically enforceable upon default, but rather is enforceable only if the lender issues a declaration to that effect.
Mr. and Mrs. Leatherman loaned $1.5 million and in return were granted a mortgage on land owned by 0969708 BC Ltd (the “borrower”).
The terms of the mortgage provided that the principal amount was repayable “on demand”, with interest due every October 31st. In addition, the mortgage incorporated the Prescribed Standard Mortgage Terms (under the Land Title Act), which stated:
8(1) If a default occurs, all the mortgage money [ie principal and interest] then owing to the lender will, if the lender chooses, at once become due and payable,
(2) if a default occurs the lender may, in any order that the lender chooses, do any one or more of the following:
(a) demand payment of all the mortgage money;
(b) sue the borrower for the amount of money due;
. . .
(f) apply to the court for an order that the land be sold on terms approved by the court;
(g) apply to the court to foreclose the borrower's interest in the land so that when the court makes its final order of foreclosure the borrower's interest in the land will be absolutely vested in and belong to the lender;
. . .
The mortgage was granted in May, 2013. The borrower defaulted on the first interest payment on 31 October 2013, and subsequently made no further payments. In November 2015, the lenders and borrower corresponded regarding the loan, but no substantial action was taken by either side. The court has not ruled on whether these communications constituted postponement of the right to enforce security. That issue has been sent back for decision.
In November 2016 (three years after the default in paying interest), the Leathermans demanded payment. In December 2016, they filed a petition seeking repayment and foreclosure.
BC Limitations Act
This case is the first decision to deal with sections 14 and 15 of the ‘new’ Limitations Act SBC 2012 c.13 (the “Act”), which came into force in 2013. These provisions govern special exceptions to the general rules of “discoverability”, specifically for the enforcement of demand obligations and the realization of security:
14 A claim for a demand obligation is discovered on the first day that there is a failure to perform the obligation after a demand for the performance has been made.
15 A claim to realize or redeem security is discovered on the first day that the right to enforce the security arises.
The two year limitation period starts to run on the date the claim is “discovered,” as described in those sections.
Lower Court ruling
At the BC Supreme Court, the Chambers judge held that the intention of the parties was to create a simple demand loan, and the limitation period would run from the date of demand. He granted the order nisi to allow them to proceed with foreclosure.
BC Court of Appeal ruling
The Court of Appeal overturned this decision. It applied three different sections of the Act to the mortgage: (a) for the demand obligation to pay principal, s. 14 applied and the limitation period started to run on failure to pay following demand; (b) for the contingent obligation to pay interest on specific dates, the “regular” provision in s. 6 of the Act appears to have been applied, meaning the limitation period for each interest payment ran from the date of default of that payment, and (c) for the right to realize on security, s. 15 applied, and the limitation period started to run when the security became enforceable, which in this case was at the time of the first default in payment of interest.
Accordingly, in 2016, the lender was found to be entitled to sue on the principal and for interest that was not more than two years overdue; however the lender had no further recourse for interest that was more than two years overdue or to realize on its security. The limitation periods for the 2013 interest and the security had both commenced running in 2013, more than two years earlier.
As mentioned, no ruling has yet been been made on whether the rights had been postponed.
An application for leave to appeal at the Supreme Court was filed in March 2018 and is currently outstanding.
Section 24 of the Act deems the date of “discovery” to be the date on which liability is acknowledged in respect of the claim. If the debtor makes an acknowledgement before a limitation period has expired, the start of the limitation period will be postponed.
An acknowledgment may be a statement in writing, in which case it must be clear and explicit.
Under s. 24(8) of the Act, a debtor also “acknowledges” a creditor’s claim to realize on security by performing an obligation under or in respect of the security agreement.
How should lenders respond?
1. Monitor defaults
It is important that lenders monitor defaults on current loans. If security has become enforceable and/or defaults have been made in interim payments, the lender should obtain an acknowledgement from the debtor (in writing or by performance under the credit or security agreement) to ensure postponement of the limitation period.
2. Amend terms of existing agreements and review language in agreements going forward
Reviewing the language of standard form security agreements should be a priority for lenders. Additionally, lenders may also seek an amendment to the language of existing agreements.
The language that is problematic automatically creates a right to enforce security in the event of a default. Standard form contracts frequently include a list of defaults, upon the occurrence of which the lender is automatically entitled to enforce its security. It is this language that invokes s. 15 of the Act. Whether or not the lender chooses to enforce, the limitation period has begun to run.
One example of alternative language would be to provide that the lender may enforce upon default only if it provides a written declaration to the borrower, invoking a right to enforce its security. In that way, the lender must take a specific action before the security is enforceable and the limitation period begins to run.