Earlier this year, the Ontario Court of Appeal released its decision in Urbancorp Cumberland 2 GP Inc. (Re) [PDF], which clarifies the scope and effectiveness of a section 9(1) vendor’s trust under the Ontario Construction Lien Act in insolvency proceedings. Although this case was decided under the Construction Lien Act, the statutory trust provisions remain unchanged under the amended Construction Act, and we expect that Urbancorp will continue to bind parties going forward.

In Urbancorp, the Court revisited earlier jurisprudence and unanimously held that in appropriate circumstances a section 9(1) vendor’s trust can be effective in a Companies’ Creditors Arrangement Act (“CCAA”) sales process, even where the sale proceeds pass through the hands of the court-appointed Monitor.

Background to the Urbancorp decision

The Construction Act (and its predecessor, the Construction Lien Act) creates various statutory trusts to protect contractors and subcontractors who have provided services and materials to an improvement. In particular, section 9(1) provides for a vendor’s trust in favour of contractors where an owner sells a property and its contractors remain unpaid (“Vendor’s Trust”).

In Urbancorp, Cumberland, a condo developer, was granted insolvency protection under the Bankruptcy and Insolvency Act (the “BIA”) (the BIA proceeding was continued under the CCAA). Cumberland owned unsold condo units in a project it constructed, which were sold during the insolvency proceedings. Several unpaid contractors claimed that a section 9(1) Vendor’s Trust arose over the sale proceeds, which would give them a priority in the insolvency proceedings.

In the lower court, the motion judge rejected the trust claim, due to the court-appointed Monitor’s involvement in the sale of the condos and a previous decision of the Court in Re Veltri Metal Products Co. [PDF] (“Veltri”). Not surprisingly, the contractors appealed. They argued that Veltri was wrongly decided, and also asked a constitutional question: “does s.9 of the CLA continue to have application following a bankruptcy or initial order under the CCAA?”

Section 9(1) trust may be effective on insolvency

Tackling the constitutional question first, the Court reviewed the existing law which holds that, as a matter of federal paramountcy, provincial statutory trusts such as those created by the Construction Lien Act will not survive in federal BIA proceedings unless the provincial trusts have the attributes of a trust at common law (i.e., certainty of intention, object, and subject matter). In particular, in The Guarantee Company of North America v. Royal Bank of Canada, the Court had previously concluded that the statutory trust created by section 8(1) of the Construction Lien Act satisfied these requirements, and the Court here found that similar reasoning applied to the statutory Vendor’s Trust.

The Court went on to note that if a section 9(1) Vendor’s Trust may be effective when an insolvency is subject to the BIA, it follows that it may be similarly effective under the CCAA. In fact, there may be an even broader recognition of provincial statutory trusts in the CCAA as opposed to the BIA, given that under the BIA a provincial statutory trust is ineffective in bankruptcy if it does not have the attributes of a trust at common law, whereas under the CCAA even provincial trusts that do not meet those requirements may continue to apply.

However, there is one important exception to the recognition of provincial statutory trusts in a CCAA proceeding – they can lose their effect and be displaced under the doctrine of paramountcy where they conflict with a specific priority created under the CCAA, or an order giving effect to that specific priority. For example, priority charges, including debtor-in-possession (“DIP”) financing charges, may be created under a CCAA order. As a matter of paramountcy, such charges may take priority over provincial Construction Lien Act trusts and may render them inoperative, but only to the extent required to deal with the conflict.

Clarifying the application of Veltri

Moving to Veltri, the Court held that it had been correctly decided on its facts, but interpreted too broadly. In the lower court, the motions judge had determined that he was bound by Veltri which he understood to stand for the proposition that the control by a court-appointed monitor of a sales process, or the receipt by the court-appointed monitor of the proceeds of sale, prevented a section 9(1) Vendor’s Trust from arising.

The Court clarified that Veltri did not turn on the involvement of the monitor. Rather, in Veltri, the contractors had provided work or materials to a leased property. While there were sale proceeds from Veltri’s assets, Veltri’s lenders had security over all of the assets and were owed more than the amount received on the sale, and there was no evidence that the leasehold interest had any value or that any proceeds were allocated to it.

No section 9(1) trust could arise in these circumstances. Section 9(1) provides that the Vendor’s Trust only arises if the value of the consideration received by the owner from the sale of the premises exceeds the sum of the reasonable expenses arising from the sale and the amount of any outstanding mortgage indebtedness on the property. No trust arises if the value of the consideration is zero, or if the sum of such expenses plus the mortgage debt is equal to or greater than any sale proceeds.

Key takeaways

Urbancorp provides some welcome clarity regarding the circumstances in which statutory trusts under the old Construction Lien Act (and by extension the new Construction Act) will be found to be effective in insolvency proceedings. Some key take-aways are:

  • a section 9(1) Vendor’s Trust may be effective when the insolvency is subject to the BIA, as well as the CCAA;
  • the involvement of a court-appointed monitor in insolvency proceedings will not automatically prevent a Vendor’s Trust from arising;
  • a provincial statutory trust such as the Vendor’s Trust may not confer priority if such priority would conflict with a specific priority under the CCAA order, such as DIP financing or insolvency administration charges, which are ordered to take priority over all other creditors in the CCAA proceeding; and
  • Veltri is limited to its facts and does not stand for the proposition that control by a CCAA court-appointed monitor of a sales process, or the receipt by the court-appointed monitor of the proceeds of sale, without more, prevents a Vendor’s Trust from arising when the proceeds of sale of the improvement have a positive value that exceeds the sum of sales expenses plus any mortgage debt on the property.