For several years now, in both commercial and personal financings, financial institutions and private lenders have added a clause to their loan agreements providing for an additional hypothec over and above the principal hypothec provided for in the agreement. This is now a well-established practice in Quebec.
It should first of all be noted that, as provided in Article 2667 of the Civil Code of Québec, the principal hypothec “secures the capital, the interest accrued thereon and the costs, other than fees for professional services, legitimately incurred for their recovery or to conserve the charged property.”
With respect to interest, the principal hypothec covers the interest due for the year when the hypothec is registered as well as the three previous years. In order to secure interest due for a further period, the creditor must register a notice of preservation specifying the additional amount.
That being the case, what is the use of the additional hypothec?
This protective measure is intended to increase the value of the security so that it covers interest not secured by the principal hypothec, as well as certain costs that may be incurred by the creditor. The amount secured by the additional hypothec is generally on the order of 20% of the amount of the loan.
Case law and doctrinal authority have established that the additional hypothec clause is to be narrowly construed. In other words, it cannot serve as a “catch-all” clause.
With respect to the various costs that may be incurred by the creditor, the Court of Appeal indicated in 2002 that the additional hypothec can only cover obligations specifically provided for in the deed of hypothec.
The costs incurred in recovering the amounts due in the event of a default are generally covered by the additional hypothec when specifically provided for in the loan agreement, i.e. bailiff’s costs, costs associated with prior notice of the exercise of hypothecary rights, judicial costs, etc.
To these are generally added the costs of preserving the hypothecated immovable, i.e. all necessary expenses for maintaining and preserving the immovable in order to preserve its economic and market value (e.g. repair, supervision and administration costs).
But how are extra-judicial and other costs incurred by the lender dealt with?
Claims for extra-judicial and other costs incurred in enforcing hypothecary security have been much debated over the last decade. In 2002, Article 2762 of the Civil Code of Québec came into force, prohibiting the creditor from claiming professional fees incurred in order to recover the capital and interest secured by the hypothec or to preserve the charged property, notwithstanding any stipulation to the contrary.
The latest court decisions in this regard are to the effect that despite a clear and precise provision in the deed of hypothec, where the creditor institutes proceedings solely to enforce its hypothecary security, extra-judicial and other recovery costs cannot be claimed, regardless of whether or not they are reasonable.
It is thus critical for a lender to refer to the wording of the additional-hypothec clause, and the obligations stipulated in the deed of hypothec, in order to determine which heads of claim will be given the same priority of rank as the principal hypothec, and which will be characterized as merely ordinary claims.
In conclusion, it should be noted that a distinction must be made between an additional-hypothec clause and a so-called “multi-projects” clause. In the case of the former, the lender unilaterally advances the funds required for the payment of its costs, whereas in the latter case, the additional advances are made by the lender with the borrower’s consent.