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Complications In bankruptcy during a hot housing market

A recent decision by the Court of Appeal for Ontario illustrates some of the complications that can arise for debtors, creditors and trustees when bankruptcy proceeds alongside skyrocketing real estate prices.

A Bankrupt Continues To Pay Into His Residential Property

The case involves Raymond Lepage, who filed for bankruptcy in 2010. At the time, the appointed Trustee in bankruptcy assessed the value of Lepage's residence and found it to have negative equity. Although the Trustee made representations of disclaiming the property to Lepage, no action was taken. Lepage accepted the Trustee at his word and continued to live in the residence and to pay the mortgage, property taxes, insurance and maintenance costs.

As a second-time bankrupt, Lepage would not be eligible for discharge until at least 36 months following his filing. Meanwhile, as the years elapsed, the housing market in his area took off.

Lepage eventually applied for discharge in 2015. When the Trustee reported that no amounts were realized on Lepage's residence, the Canada Revenue Agency (CRA) - Lepage's only unsecured creditor - took notice. When a new appraisal obtained by the CRA revealed a significant increase in the home's value, the CRA contested the Trustee's report.

No Entitlement To Surplus Income For A Bankrupt

In the original decision, the judge held that although the increased property value should accrue to the estate, the Trustee's representations and Lepage's subsequent reliance on them gave rise to promissory estoppel. As such, the Trustee could not renege and now claim the entirety of the increased value in the house's equity in order to satisfy Lepage's debt to the CRA.

Lepage sought reimbursement for the property taxes, insurance, principal and interest he had paid in the interim. Citing these as reasonable living costs that Lepage would have incurred anywhere else during his bankruptcy, the judge denied him credit on all such costs - with the exception of amounts he paid on the mortgage's principal.

The CRA appealed and the appellate court agreed. Whereas the original decision wrongly allowed Lepage to retain surplus income gained from the increased home value during the course of his bankruptcy, the decision in the appeal underscores the rule that any after-acquired property of a bankrupt vests in the Trustee and is destined for use to satisfy creditors.

While the appointed Trustee may have narrowly escaped liability, the case serves as a warning example of the risk that Trustees may face when a property increases in value over the course of a bankruptcy.

Appointed trustees are wise to seek professional legal guidance on how to navigate their duties amid the gyrations of the real estate market.

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