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Builders' lien trust in bankruptcies

Monies paid to a contractor in respect of an improvement on real property (the "Trust Funds") are subject to a trust (the "Trust") in favour of subcontractors, workers, and material suppliers, among others, who remain unpaid with respect to their work, services or materials (the "Beneficiaries"). The contractor is obligated to deal with the Trust Funds for the benefit of the Beneficiaries in accordance with the relevant builders' lien legislation. The contractors may be held liable for breach of the Trust if the Trust Funds are used for payments other than to Beneficiaries. In addition, third parties, such as directors of a corporate contractor, can also be held liable for breach of trust in a claim by the Beneficiaries if the Trust Funds are not used in accordance with the requirements of relevant legislation.

When the contractor becomes bankrupt, there may be monies in the contractor's bank account that were Trust Funds at the time of payment and therefore are subject to the Trust in favour of the Beneficiaries. In addition, there may be monies owed to the contractor in respect of improvements that have been done. Such payments, when made to the trustee in bankruptcy or a receiver are also potentially subject to the Trust in favour of the Beneficiaries.

Uncertainty in the law

As a result of decisions in Ontario in:

· Royal Bank of Canada v. Atlas Block Co Limited, 2014 ONCS 3062;

· Bank of Montreal v. Kappeler, 2017 ONSC 6760; and,

· Royal Bank of Canada v. A-1 Asphalt Maintenance Ltd., 2018 ONSC 1123,

trustees, receivers and Beneficiaries may believe that the Trust is extinguished in the event of a bankruptcy. While this result may be the case for Beneficiaries in Ontario when the contractor becomes bankrupt, that may not be the case outside of Ontario.

In particular:

· Nova Scotia, as a result of Re Kel-Greg Homes Inc., 2015 NSSC 274;

· Saskatchewan, as a result of D & K Horizontal Drilling (1998) Ltd. v. Alliance Pipeline Ltd., 2002 SKQB 86, affd. 2002 SKCA 145;

· Alberta, as a result of Iona Contractors Ltd. v. Guarantee Company of North America, 2015 ABCA 240, leave to appeal to the Supreme Court of Canada refused; and,

· British Columbia, as a result of Re 0409725 B.C. Ltd., 2015 BCSC 561,

are jurisdictions in which the courts have found that the statutory trust created by provincial builders' lien legislation continues to apply so that identifiable Trust Funds in the possession of the bankrupt contractor at the date of bankruptcy and funds received from owners after such bankruptcy are Trust Funds for the benefit of Beneficiaries, and thus are not the property of the bankrupt. Unfortunately, there is no simple yes or no answer as to whether there will be identifiable Trust Funds subject to the Trust following a bankruptcy. Each case must be analyzed on its own facts, and in light of the relevant legislation, to determine if the monies in the possession of the bankrupt contractor will continue to be subject to the Trust for the benefit of the Beneficiaries.

Factors to consider

With respect to Trust Funds in the bankrupt contractor's account at the date of bankruptcy the court must consider:

· were the Trust Funds held in a separate account or a co-mingled account;

· does the legislation (as in British Columbia) permit co-mingling of Trust Funds received by the contractor;

· were any funds, other than Trust Funds, deposited into the account;

· can the deposits be isolated so as to determine the Trust Funds that were deposited into the account;

· can payments from the account prior to bankruptcy be analyzed to determine if they were made to Beneficiaries or others from the account?

Funds received by a trustee in bankruptcy (or receiver) after bankruptcy in respect of the work done prior to the bankruptcy may require a different analysis, depending on the relevant legislation. Nevertheless, it is an analysis that should be done if Beneficiaries wish to assert their Trust claims.

It is clear that monies received by the contractor in respect of the improvement are a trust fund. If the payment is received by someone else on behalf of the contractor, does that change the nature of the trust? This is unlikely. Third parties may be liable for breach of trust if they intercept or otherwise deal with trust funds in a manner inconsistent with the trust.

Should trustees in bankruptcy or receivers who receive monies on account of an improvement by the now bankrupt contractor be able to say that they have no liability under the Trust? Cases outside of Ontario suggest that would not be the case. While there may be some limits on the priority, for example, a court appointed receiver might be entitled to a priority over the Trust in respect of its fees by the terms of the order making the appointment; Beneficiaries may be able to limit that priority, or perhaps have it extinguished, if timely application is made to the court.

These are "live" issues for consideration in jurisdictions outside of Ontario, and in particular British Columbia. Accordingly, Beneficiaries should consider consultation with an insolvency lawyer where a contractor is in bankruptcy or receivership, and in particular, where there are monies owed in respect of improvements made on real property.

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