The long awaited decision of the Supreme Court of Canada in Sun Indalex Finance, LLC v. United Steelworkers et al. was released today.

In a decision which divided the Court, the majority allowed the appeals brought by Indalex’s parent and the guarantor of Indalex’s DIP loans. In doing so, the majority upheld the priority of the DIP security over claims for funding deficiencies existing in Indalex’s two pension plans.

In its decision, the Court organized the matters in issue into three main categories:

  1. Application of the statutory deemed trust;
  2. Priority of pension liability claims under the statutory deemed trust; and
  3. Breach of fiduciary duty and constructive trust.

Application of Statutory Deemed Trust

The majority of the Court agreed with the Court of Appeal for Ontario that the scope of the deemed trust arising under s. 57(4) of the Pension Benefits Act extended to pension liabilities representing deficiencies arising on pension plan wind-up. In effect the majority concluded on this point that under the statutory provision, the debtor Indalex was deemed to hold its assets in trust up to the amount necessary to satisfy the full wind-up deficiency in the pension plan for salaried employees. As indicated below, however, the majority’s conclusion about the application of the statutory deemed trust is subject to the Court’s decision concerning the priority of the deemed trust as against the Court ordered DIP loan charge.

Priority of Statutory Deemed Trust

Although the Court ruled that statutory deemed trusts under provincial legislation may continue to apply during a CCAA proceeding, the judges were unanimous in their view that priority granted to a DIP loan under a CCAA Court order has the same effect as priority mandated under federal statute. The Court therefore concluded that an actual conflict in operation existed as between the Pension Benefit Act’s deemed trust and the DIP priority charge granted under the CCAA. Accordingly, the Court applied the doctrine of paramountcy and held that the DIP loan charge under the CCAA order was entitled to full priority over the claims for pension wind-up liabilities.

Breach of Fiduciary Duty and Constructive Trust

The majority of the Court concluded that in the case of a corporate debtor that also acts as the administrator of a pension plan it was a breach of the duties arising from these roles for Indalex not to have given adequate notice to pension plan members of the motion granting DIP loan priority.

Although the Court found that Indalex had breached its duties in failing to give adequate notice, the majority concluded that this breach did not justify the imposition of a constructive trust over Indalex’s assets. In reaching this conclusion, the Court relied on the settled law that a constructive trust can only be imposed against an asset or fund that is closely connected with a breach of duty. In this case, the Court held that there was no such asset or fund in Indalex’s hands and therefore the constructive trust remedy was inapplicable. In reaching this conclusion, the Court effectively determined that the breach of fiduciary duty should have no effect on the priority of the claims under the Indalex DIP loan.

Conclusions

Overall, this decision has clarified the rules governing the provision of interim funding during restructurings under the CCAA. By invoking the doctrine of paramountcy to give primacy to the DIP loan charge in this case, the Court has made an important statement concerning the hierarchy of the various legal principles applicable during complex restructurings. This decision provides a measure of commercial certainty to parties providing DIP financing and removes the spectre of “being primed” by the significant claims that can exist in underfunded defined benefit pension plans.

It is important to emphasize that this decision also confirms that the deemed trust under the Ontario Pension Benefits Act can apply to the whole amount of funding deficiencies existing on the wind-up of defined benefit pension plans. This confirms the change in the law created by the Ontario Court of Appeal’s decision. In circumstances involving a competition between ordinary secured creditors (eg. not involving Court ordered DIP loan priority), the decision provides support for the argument that pension plan wind-up shortfalls may be entitled to priority over prior perfected security. There remain potential arguments relying on the Bank Act and the security that it contemplates to contest the priority of pension plan deemed trust claims, however, this issue will remain an important area of uncertainty for lenders. The situation during Bankruptcy and Insolvency Act liquidations may also permit arguments in favour of lender priority.

Following this decision, businesses with significant defined benefit pension plans may be challenged when seeking financing. Lenders will continue to be cautious when dealing with these types of borrowers. It is reasonable to assume that this will all drive a continuation of the trend away from defined benefit pension plans.