Royal Bank of Canada v. Sparrow Electric Corp.

Royal Bank of Canada v. Sparrow Electric Corp.
Collection
Supreme Court Judgments
Date
1997-02-27
Report
[1997] 1 SCR 411
Case number
24713
Judges
La Forest, Gérard V.; Sopinka, John; Gonthier, Charles Doherty; Cory, Peter deCarteret; McLachlin, Beverley; Iacobucci, Frank; Major, John C.
On appeal from
Alberta
Subjects
Financial institutions
State
Notes
SCC Case Information: 24713
Decision Content
Royal Bank of Canada v. Sparrow Electric Corp., [1997] 1 S.C.R. 411
Her Majesty The Queen Appellant
v.
Royal Bank of Canada Respondent
Indexed as: Royal Bank of Canada v. Sparrow Electric Corp.
File No.: 24713.
1996: June 19; 1997: February 27.
Present: La Forest, Sopinka, Gonthier, Cory, McLachlin, Iacobucci and Major JJ.
on appeal from the court of appeal for alberta
Crown -- Priority -- Employee source deductions not paid by company in receivership -- Company’s inventory subject to fixed charge and to Bank Act security -- Whether bank had priority to proceeds of sale of inventory over statutory trust in favour of Her Majesty -- Bank Act, S.C. 1991, c. 46, s. 427 -- Income Tax Act, R.S.C., 1985, c. 1 (5th Supp .), ss. 153 , 227(4) , (5) -- Personal Property Security Act, S.A. 1988, c. P‑4.05, s. 28(1).
.
Banks and banking operations ‑‑ Security -- Company’s inventory subject to fixed charge and to Bank Act security -- Employee source deductions not paid by company in receivership -- Whether bank had priority to proceeds of sale of inventory over statutory trust in favour of Her Majesty -- Bank Act, S.C. 1991, c. 46, s. 427 -- Income Tax Act, R.S.C., 1985, c. 1 (5th Supp .), ss. 153 , 227(4) , (5) -- Personal Property Security Act, S.A. 1988, c. P‑4.05, s. 28(1).
The Royal Bank secured a loan made to Sparrow Electric with a general security agreement (GSA) covering Sparrow’s present and after‑acquired property and with Bank Act security (BAS) created by an assignment of inventory under s. 427 of the Bank Act . When Sparrow experienced financial difficulties, a standstill agreement was executed. This agreement allowed Sparrow to continue its business but permitted the bank, on default, to appoint a receiver and enforce its security. A receiver was appointed in November 1992 at which time it was discovered that Sparrow had not been remitting its payroll deductions as required by s. 153 of the Income Tax Act (ITA ). It is probable that these defaults had occurred in 1992. In January 1993, the receiver received court permission to sell Sparrow’s assets. An amount from the proceeds of sale equivalent to that owing the federal government was ordered to be held in trust pending resolution as to entitlement. The bank claimed priority based on its GSA and its BAS, which entitled it to inventory proceeds. The federal government’s claim was based on the s. 227 ITA deemed trust provisions, which created a deemed statutory trust in the moneys deducted from wages but not remitted to Her Majesty.
On the first application to determine priority, the deemed trust was held to take priority over the GSA. On a subsequent application by the bank for a determination of whether its BAS took priority over the deemed trust, the Court of Queen’s Bench found that the deemed trust took priority. The Court of Appeal found that the BAS took priority over the deemed trust. At issue here is whether the s. 227(5) ITA deemed trust takes priority over a previously executed GSA and a previously executed BAS with respect to the proceeds of the sale of the inventory.
Held (La Forest, Gonthier and Cory JJ. dissenting): The appeal should be dismissed.
(1) Section 227(4) and (5) of the Income Tax Act
Although the employer, at the point of withholding, becomes the trustee of a fund which is in law the property of its employee, s. 227(4) ITA has the effect of making Her Majesty the beneficiary under that trust. A conceptual difficulty arises when the tax debtor fails to set aside moneys which are to be remitted. The subject of Her Majesty's beneficial interest at that point becomes intermingled with the general assets of the tax debtor and Her Majesty's claim then becomes that of a beneficiary under a non‑existent trust. Subsections (4) and (5) of s. 227 resolve this conceptual dilemma by clearly and unambiguously rendering amounts unremitted as held in trust for Her Majesty. In particular, s. 227(5) is designed to, upon liquidation, assignment, receivership or bankruptcy, seek out and attach Her Majesty's beneficial interest to property of the debtor which is in existence at that time. The trust is not a real trust, as its subject matter cannot be identified from the date of the trust’s creation. However, s. 227(5) has the effect of revitalizing the trust whose subject matter has lost all identity. This identification of the subject matter of the trust therefore occurs ex post facto. Her Majesty has a statutory right to access whatever assets the employer then has, and may realize from those assets the original trust debt. This interpretation is consistent with the scheme of distribution under the Bankruptcy and Insolvency Act .
The s. 227(5) deemed trust operates to Her Majesty’s benefit in a secondary manner. Under it, Her Majesty’s interest can attach retroactively to disputed collateral if the competing security interest has attached after the deductions giving rise to Her Majesty’s claim in fact occurred. Conceptually, the s. 227(5) deemed trust allows that claim to go back in time and attach its outstanding s. 227(4) interest to the collateral before that collateral became subject to a fixed charge. The same result occurs when a statutory lien attaches prior to the mortgaging of disputed collateral. Here, the deductions of tax from the employees' pay cheques occurred after the attachment of the bank's fixed charge to the inventory, so this second aspect of s. 227(5)'s operation did not arise.
The mechanism of s. 227(5) cannot accurately be described as a means of “tracing”; indeed, this subsection is antithetical to tracing in the traditional sense in that it requires no link at all between the subject matter of the trust and the fund or asset into which the subject matter is being traced. Section 227(5) is more accurately described as a “relaxation of the equitable tracing rules”.
Section 227(5) does not permit Her Majesty to attach Her beneficial interest to property which, at the time of liquidation, assignment, receivership or bankruptcy, in law belongs to a party other than the tax debtor. Subsections (4) and (5) of s. 227 are manifestly directed towards the property of the tax debtor, and it would be contrary to well‑established authority to stretch the interpretation of s. 227(5) to permit the expropriation of the property of third parties who are not specifically mentioned in the statute.
Therefore, the proper analysis in determining whether Her Majesty is entitled to priority pursuant to these subsections must utilize principles of property law. The nature of the interests competing with those of Her Majesty must be scrutinized in order to determine whether and to what extent such interests have title in the disputed fund. If it is found that legal title in the collateral is in the bank, and not Sparrow, Her Majesty’s deemed trust could only attach to Sparrow's equity of redemption.
The “statutory trust” approach can be distinguished from other legislative methods, such as an explicit “Crown priority” provision, used to secure an interest to unremitted payroll deductions. The application of such a provision to a priority competition can proceed without regard to the quality of the “security interest” which competes with Her Majesty’s claim. Such a provision simply transfers title in the collateral to Her Majesty regardless of whose interest may compete with it, so long as its requirements are met.
(2) Characterization of the Bank’s Interests
The bank's interest in Sparrow's inventory must be characterized as either a floating charge or a fixed and specific charge. A specific charge is one that, without more, fastens on ascertained and definite property or property capable of being ascertained and defined. A floating charge floats with the property which it is intended to affect until it crystallizes. Crystallization occurs upon the default of the debtor and transforms the interest into a fixed and specific charge over the inventory. The critical significance of the characterizing of an interest as being fixed or floating is that it describes the extent to which a creditor can be said to have a proprietary interest in the collateral. During the period in which a charge over inventory is floating, the creditor possesses no legal title to that collateral and a statutory trust or lien attaching during this time will attach to the debtor's interest and take priority over a subsequently crystallized floating charge. A security interest characterized as a fixed and specific charge, however, will take priority over a subsequent statutory lien or charge because all that the lien can attach to is the debtor's equity of redemption in the collateral.
Common law principles did not alter the effect that legislation may have on the characterization of security interests. Here, the Alberta Personal Property Security Act (PPSA) and the Bank Act are determinative of the characterization of the bank's GSA and BAS, respectively. The PPSA explicitly removes statutory trusts from its operation and accordingly does not govern the priority competition between a statutory trust and a security interest. The Act’s effect, however, fundamentally changes the characterization of security interests. Generally speaking, absent an express intention to the contrary, a security interest in all present and after‑acquired personal property will attach when that agreement is executed by the parties. Once attachment has occurred, the GSA becomes in law a fixed and specific charge over the collateral. For these reasons, the GSA held by the respondent bank must be characterized as a fixed and specific charge with a licence to deal with the inventory that arose because of the bank’s granting Sparrow permission to sell the encumbered inventory. The fixed charge attached on the agreement’s execution.
Similarly, security taken under the Bank Act is in the nature of a fixed and specific charge. The concept of the fixed charge is correlative to the notion of a creditor’s having legal proprietary rights in the collateral. It is misleading to suggest that s. 427 security is in the nature of a floating charge because the bank effectively acquires legal title. Unlike a floating charge which may apply to all property of a specified kind held by the borrower from time to time but does not affix itself specifically upon any particular item of property until it crystallizes upon default by the borrower, s. 427 security is a fixed charge on each item of assigned property held from time to time whether or not the loan is in default. This gives a bank significantly greater rights than it would hold under a floating charge debenture on inventory. For this reason, the security interest of the bank in the form of BAS should be characterized as a fixed and specific charge with a licence to sell the inventory.
The traditional concept of the fixed charge seems to be at odds with the notion of having a proprietary right over collateral such as after‑acquired inventory which is not yet in existence at the time the security agreement is executed. A fixed charge over all present and future inventory represents a proprietary interest over a dynamic collective of present and future assets. The conception of this form of charge must change to meet the modern realities of commercial law and in particular the legislative provisions which have been brought to bear in this appeal. In effect, the fixed and specific charge gives to the secured creditor the title (subject to the debtor's equitable right of redemption) to the present inventory of the debtor, as well as the after‑acquired inventory of the debtor. In this way, the secured creditor becomes the legal owner of inventory as it comes into possession of the debtor.
Where a secured creditor holds a fixed charge over a debtor's inventory, that charge will have the effect of ensuring the creditor has legal title to any and all inventory subject to the charge at any given time, subject to the caveat (not operative here) that no outstanding statutory payroll deductions had in fact been made prior to the attachment of the fixed charge. Here, the inventory which was subject to the liquidation sale belonged in law to the respondent bank: both under its GSA and its BAS the bank held a fixed charge over Sparrow's inventory. Her Majesty’s beneficial interest accordingly could only attach, before its sale, to Sparrow's equity of redemption in the property.
(3) Licence Theory
Per Sopinka, McLachlin, Iacobucci and Major JJ.: The security interests that the respondent has under the Bank Act and the PPSA take priority over the deemed trust that arises in favour of Her Majesty by operation of s. 227(4) ITA . While the former interests are subject to a licence to sell, that licence is not nearly so broad as to encompass the satisfaction of income tax obligations. A licence to sell inventory authorizes at most only the satisfaction of obligations that are immediately incidental to an actual sale of the inventory.
The licence theory holds that a bank’s security interest in a debtor’s inventory, whether fixed and specific, is subject to a licence in the debtor to deal with that inventory in the ordinary course of business. The point is that the bank’s claim to the inventory must as a consequence give way to any debts incurred in the ordinary course of business. In theory, a creditor who has granted a licence to sell inventory has thereby consented to his security interest’s being subject to other obligations that may arise “in the ordinary course of business”. The licence is thus supposed to afford evidence of the respondent’s intention to take less than an entire security interest in the inventory.
The licence affords no such evidence. The potential sale of the inventory does not amount to an actual limitation of the security interest. A great difference exists between saying, on the one hand, that if a debtor sells inventory and applies the proceeds to a debt to a third party, then the third party takes the proceeds free of any security interest and saying, on the other hand, that because a third party could take the proceeds free of any security interest, no security interest exists in the proceeds as against that third party. A licence to sell inventory in the ordinary course of business is a condition of the former kind. The consequent (defeasance of the security interest) follows only if the antecedent (sale of the inventory and application of proceeds to an obligation to a third party) is satisfied. The security interest in the inventory disappears only if the debtor actually sells the inventory and applies the proceeds to a debt to a third party.
In accordance with s. 28(1) PPSA, the result of a sale of inventory is to give the purchaser an unencumbered interest in the inventory and the licensor a continuing security interest in the proceeds of the sale. Only if the debtor subsequently uses the proceeds to satisfy an obligation to a third party will the proceeds be removed from the scope of the licensor’s security interest in them. Accordingly, a security agreement with a licence to sell creates a defeasible interest; but the event of defeasance is the actual sale of the inventory and the actual application of the proceeds against an obligation to a third party.
By itself, s. 28(1) PPSA does not necessarily compel rejection of the broad interpretation of the licence to sell. However, the maxim expressio unius est exclusio alterius is appropriately invoked here to complete the argument. The statute prescribes certain consequences for the security interest that follow a dealing with inventory, and in particular, it prescribes the defeasance of the interest if the debtor actually sells the inventory and applies the proceeds to an obligation to a third party. Significantly, the statute does not contemplate a defeasance on the happening of any other event. The statute occupies the field and crowds out other possible interpretations of the licence.
Because the inventory in question was not sold pursuant to the licence, here the licence can have had no effect on the respondent’s security interest. What the debtor might have done with the licence does not matter. If it were otherwise, the licence to sell inventory would entirely eviscerate the respondent’s GSA.
The argument might be made that the deemed trust works by deeming an actual sale of the inventory to have been made. It this were correct, then it would not matter that the inventory was not actually sold pursuant to the licence. However, the deeming is not a mechanism for undoing an existing security interest, but rather a device for going back in time and seeking out an asset that was not, at the moment the income taxes came due, subject to any competing security interest. The deemed trust provision cannot be effective unless it is first determined that there is some unencumbered asset out of which the trust may be deemed. In this case the inventory was encumbered by the GSA.
The debtor’s covenant in the GSA to pay all taxes was not part of the licence and was merely a covenant to obey the law. It adds nothing to s. 153(1) ITA and does not prescribe the outcome of a priority contest.
A number of policy considerations support this conclusion. Judicial innovation in this field risks legal uncertainty. Inventory financiers would have to provide against the risk that their security interest might be defeated by some rival claim. There is also a real possibility that recognition of a broad licence theory would obliterate the PPSA charge against inventory. If Parliament wishes to do so, it may step in and assign absolute priority to the deemed trust. But in the absence of clear statutory language to that effect, the bank’s GSA must prevail.
Per La Forest, Gonthier and Cory JJ. (dissenting): The critical issue here was the scope of the contractual licence. In particular, if the bank's consent included the right to sell the inventory in order to pay wages, then that consent by necessity included the right to sell inventory to remit payroll deductions. In such a situation, Her Majesty’s interest would be able to attach to the proceeds of the inventory and so take priority over the bank's interest.
The licence theory operates, in the context of the statutory scheme at issue here, as an exception to the general rule that at the time of “liquidation, assignment, receivership or bankruptcy” Her Majesty’s interest cannot attach to property which is at that time the property of a secured creditor. Where a secured creditor has consented to the use of its collateral when deductions are made in order to pay the statutory deductions which are the object of a deemed trust, that creditor has bound itself by the statutory requirements relating to those deductions. Here, therefore, the wage deductions at issue were made at a time when the bank had permitted the sale of inventory in order to pay wages (and thus wage deductions), and the bank’s inventory existent at the time of receivership can accordingly be attached under s. 227(5).
The critical factor in the “licence to sell” argument is the permission which must be found to have been granted with respect to the usage of the proceeds of the disputed collateral. While licences are often expressed in terms of a “right to sell in the ordinary course of business”, this permission is made with respect to the usage of proceeds, which is the proper focus of the inquiry, and not necessarily the circumstances of sale. Here, Sparrow was permitted to sell its inventory in the ordinary course of its business and “use” the proceeds generated therefrom.
The licence to sell inventory in the ordinary course of business in this case necessarily included a licence to sell inventory to pay wages, and remit wage deductions, in the course of Sparrow’s business. Where, as here, the secured party has security over the majority of the assets of the debtor, the security interest over the inventory must permit the debtor to sell the inventory and put it to the general use of its business, including towards the payment of wages. The scope of the licence can be ascertained either from the express terms of the security agreement or from the nature of the agreement and the conduct of the parties. The licence here was to sell inventory in the “ordinary course of [Sparrow's] business . . . and use [the proceeds]” which renders it of such a quality as to include a right to use the proceeds to pay wages. A licence to sell inventory may in certain circumstances be circumscribed so as not to include a right to use the proceeds to pay wages.
The true test of whether the licence to sell inventory includes the right to pay wages is a matter of interpreting the contractual arrangement between the parties. The focus is not so much on the circumstances of the selling of inventory, but rather the permitted usage of the proceeds of inventory. Where the licence has a limited scope, that licence may not include the right to use proceeds to pay wages. However, the expression of a limited use for proceeds of inventory cannot prevail if the arrangement between the parties is such as to allow, in practice, the debtor to use the inventory proceeds in the course of its business. The test should be whether the debtor had the freedom to use these funds in the ordinary course of business as opposed to being under an obligation to remit them to the secured party.
The GSA contained an express licence permitting Sparrow to sell inventory in the course of its business and use the proceeds available; the BAS contained an implied licence to this effect. While it is true that the GSA contained a trust proceeds clause, this clause cannot have the effect of limiting the scope of the licence where the real arrangement between the parties was, as expressly stated, that Sparrow could use the proceeds of inventory in the course of its business. The bank in this case was not a small inventory financier who required Sparrow to remit proceeds of inventory to it immediately. To the contrary, the bank was a large scale lender who permitted Sparrow to use inventory sales to maintain the viability of its enterprise. Under the licence at issue here, the bank permitted Sparrow to sell inventory to pay wages and, necessarily, payroll deduction obligations.
The appellant’s s. 227(5) deemed trust must take priority over the bank’s security interests in the disputed collateral. The trust fund representing the deducted amounts, while without identified subject matter from the date of its inception, is capable of identifying property subject to that trust ex post facto. This result is not precluded with respect to the BAS by virtue of s. 428(1) of the Bank Act . Although s. 428(1) secures the respondent bank’s proprietary right to the disputed collateral, the bank nevertheless consented to the divestment of this interest. Such a waiver of priority renders s. 428(1) of no assistance to the bank.
The licence theory, in addition to providing certainty in disputes between consensual and non‑consensual security interests, achieves fairness in commercial law. In essence, the bank is willing to accept the benefits of Sparrow’s non‑payment of statutory deductions and has permitted the use of its collateral to pay these deductions, but refuses to accept the burden of Sparrow’s unlawful action at the time of its receivership. It should be the policy of the law that the respondent bank be held accountable for Sparrow’s outstanding statutory obligations. The licence theory ensures that in appropriate circumstances this result will obtain.
The licence theory does not go so far as to mean that every subsequent claim should prevail over the GSA because every rival claim might have to be satisfied out of the proceeds of a hypothetical sale of the inventory. The consent to pay wages is a necessary but not sufficient condition. It did not simpliciter lead to the conclusion that Her Majesty’s interest must prevail. What is significant is that the bank consented to payment of wages, including deductions, out of inventory which, at the time of the deductions and upon actual payment of wages, were deemed by statute to be taken out of the estate of the debtor. The unique nature of the statutory provisions applicable to wage deductions, and the bank’s consent thereto, are integral to the success of the s. 227(5) claim in the case at bar. In this way, the licence theory is circumscribed in its ability to defeat prior secured interests.
In addition, the licence theory as applied here is not inimical to the integrity of commercial law. It operates narrowly, in conjunction with unique statutory provisions, so as to actualize legally performed obligations. It does not create uncertainty in commercial transactions.
Cases Cited
By Iacobucci J.
Referred to: R. in Right of B.C. v. F.B.D.B., [1988] 1 W.W.R. 1; Alberta (Treasury Branches) v. M.N.R.; Toronto-Dominion Bank v. M.N.R., [1996] 1 S.C.R. 963.
By Gonthier J. (dissenting)
Royal Bank v. Sparrow Electric Corp., Alberta Court of Queen’s Bench, Edmonton, November 24, 1993, unreported; R. in Right of B.C. v. F.B.D.B., [1988] 1 W.W.R. 1; Dauphin Plains Credit Union Ltd. v. Xyloid Industries Ltd., [1980] 1 S.C.R. 1182; Bank of Montreal v. Hall, [1990] 1 S.C.R. 121; Board of Industrial Relations v. Avco Financial Services Realty Ltd., [1979] 2 S.C.R. 699; Royal Bank of Canada v. G.M. Homes Inc. (1984), 52 C.B.R. (N.S.) 244; Roynat Inc. v. Ja‑Sha Trucking & Leasing Ltd., [1992] 2 W.W.R. 641; Ford Motor Co. of Canada Ltd. v. Manning Mercury Sales Ltd. (Trustee of), [1994] 6 W.W.R. 372; National Bank of Canada v. Director of Employment Standards (1986), 5 P.P.S.A.C. 326; Abraham v. Coopers & Lybrand Ltd. (1993), 13 O.R. (3d) 649; Armstrong v. Coopers & Lybrand Ltd. (1986), 53 O.R. (2d) 468, aff'd (1987), 61 O.R. (2d) 129, leave to appeal refused, sub nom. National Bank of Canada v. Armstrong, [1988] 1 S.C.R. xii; Manitoba (Minister of Labour) v. Omega Autobody Ltd. (Receiver of) (1989), 59 D.L.R. (4th) 34; Re Deslauriers Construction Products Ltd., [1970] 3 O.R. 599; Pembina on the Red Development Corp. Ltd. v. Triman Industries Ltd. (1991), 85 D.L.R. (4th) 29; Alberta (Treasury Branches) v. M.N.R.; Toronto-Dominion Bank v. M.N.R., [1996] 1 S.C.R. 963; Friesen v. Canada, [1995] 3 S.C.R. 103; Illingworth v. Houldsworth, [1904] A.C. 355; Re Urman (1983), 44 O.R. (2d) 248; North Sky Trading Inc. (Bankrupt), Re (1994), 158 A.R. 117; Royal Bank of Canada v. Workmen's Compensation Board of Nova Scotia, [1936] S.C.R. 560; C.I.B.C. v. Klymchuk (1990), 74 Alta. L.R. (2d) 232.
Statutes and Regulations Cited
Bank Act, R.S.C. 1927, c. 12, s. 88.
Bank Act, R.S.C., 1985, c. B-1, ss. 2(1), 178, 179(1), 185(2), 186(2).
Bank Act, S.C. 1991, c. 46, ss. 425(1) “goods, wares and merchandise”, 427(1), (2), 428(1), 434(2), 435(2).
Bankruptcy and Insolvency Act, R.S.C., 1985, c. B‑3, s. 67 [am. 1992, c. 27, s. 33].
Canada Pension Plan, R.S.C. 1970, c. C‑5.
Canada Pension Plan, R.S.C., 1985, c. C‑8, s. 23(3) , (4) .
Canada Pension Plan, S.C. 1964‑65, c. 51, s. 24(3), (4).
Income Tax Act, R.S.C., 1985, c. 1 (5th Supp .), ss. 153(1) (a), (3) , 224(1.2) [ad. 1987, c. 46, s. 66; am. 1990 c. 34, s.1], (1.3) [ad. 1987, c. 46, s.66], 227(4), (5).
Personal Property Security Act, S.A. 1988, c. P‑4.05, ss. 4(a), 10(1), 12(1), 13(1), 28(1).
Personal Property Security Act, S.B.C. 1989, c. 36.
Personal Property Security Act, R.S.O. 1990, c. P.10.
Unemployment Insurance Act, 1971, S.C. 1970‑71‑72, c. 48.
Unemployment Insurance Act, R.S.C., 1985, c. U‑1, s. 57(2), (3).
Workmen's Compensation Act, R.S.N.S. 1923, c. 129, s. 79(2).
Authors Cited
Cuming, Ronald C. C. “Commercial Law -- Floating Charges and Fixed Charges of After‑Acquired Property: The Queen in the Right of British Columbia v. Federal Business Development Bank” (1988), 67 Can. Bar Rev. 506.
Cuming, Ronald C. C., and Roderick J. Wood. Alberta Personal Property Security Act Handbook, 2nd ed. Toronto: Carswell, 1993.
Cuming, Ronald C. C., and Roderick J. Wood. British Columbia Personal Property Security Handbook, 2nd ed. Toronto: Carswell, 1993.
Moull, William D. “Security Under Sections 177 and 178 of the Bank Act ” (1986), 65 Can. Bar Rev. 242.
Waters, D. W. M. Law of Trusts in Canada, 2nd ed. Toronto: Carswell, 1984.
Wood, Roderick J. “The Floating Charge in Canada” (1989), 27 Alta. L. Rev. 191.
Wood, Roderick J. “Revenue Canada's Deemed Trust Extends Its Tentacles: Royal Bank of Canada v. Sparrow Electric Corp.” (1995), 10 B.F.L.R. 429.
Wood, Roderick J., and Michael I. Wylie. “Non‑Consensual Security Interests in Personal Property” (1992), 30 Alta. L. Rev. 1055.
Ziegel, Jacob S. “Symposium: Recent and Prospective Developments in the Personal Property Security Law Area” (1985), 10 Can. Bus. L.J. 131.
Ziegel, Jacob S., Benjamin Geva and R. C. C. Cuming. Commercial and Consumer Transactions, Rev. 2nd ed. Toronto: Emond Montgomery, 1990.
APPEAL from a judgment of the Alberta Court of Appeal (1995), 28 Alta. L.R. (3d) 153, 165 A.R. 132, 89 W.A.C. 132, [1995] 6 W.W.R. 718, 33 C.B.R. (3d) 34, 10 P.P.S.A.C. (2d) 1, allowing an appeal from judgments of Agrios J. (1993), 19 Alta. L.R. (3d) 183, 10 P.P.S.A.C. (2d) 1, at p. 3, [1995] 1 C.T.C. 101, and (1994), 21 Alta. L. R. (3d) 275, 156 A.R. 187, [1994] 9 W.W.R. 338. Appeal dismissed, La Forest, Gonthier and Cory JJ. dissenting.
Edward R. Sojonky, Q.C., and Michael J. Lema, for the appellant.
Ray C. Rutman, for the respondent.
The reasons of La Forest, Gonthier and Cory JJ. were delivered by
1 Gonthier J. (dissenting) -- This case involves a determination of priority between a deemed statutory trust and various security instruments in regard to the proceeds of a liquidation sale of inventory. In particular, the appeal requires a determination of the priority status of Her Majesty's deemed trust under s. 227(4) and (5) of the Income Tax Act, R.S.C., 1985, c. 1 (5th Supp .) (hereinafter “ITA ”), these provisions becoming operative in this case because of the misappropriation of unremitted payroll deductions lawfully belonging to Her Majesty. In competition to this claim, the Royal Bank of Canada asserts priority under both a general security agreement and an assignment of inventory under s. 427 of the Bank Act, S.C. 1991, c. 46 .
I - Facts
2 The debtor, Sparrow Electric Corporation (hereinafter “Sparrow”), carried on business as an electrical contractor in Alberta. The enterprise was of a substantial size, employing 200 to 300 employees in its business operations. To finance these operations, Sparrow borrowed heavily from the respondent Royal Bank of Canada (hereinafter the “bank”). The bank secured Sparrow's borrowing with various forms of security, covering most of the assets utilized in Sparrow's business. Of particular relevance to this appeal, however, the bank held a general security agreement over all of Sparrow's present and after-acquired personal property, as well as an assignment of inventory under s. 178 (now s. 427 ) of the Bank Act, R.S.C., 1985, c. B-1.
3 In 1992, it became apparent to the bank that Sparrow was having financial difficulties. On two occasions, August 5, 1992 and September 30, 1992, the bank wrote to Sparrow advising its management that Sparrow was in default on its loan obligations. On October 16, 1992, in order to give Sparrow some time to correct its default situation, the bank and Sparrow entered into a “Standstill Agreement”. This agreement permitted Sparrow to continue carrying on business under the proviso that, should Sparrow's position fail to improve, the bank would be entitled to appoint a receiver and enforce its security.
4 Sparrow's financial position did not improve. For this reason, on November 19, 1992, the bank appointed a receiver to take over Sparrow's business, and on December 8, 1992, the bank successfully petitioned Sparrow into bankruptcy. The order appointing the receiver empowered the receiver to, among other things, carry on Sparrow’s business as it deemed necessary. The receiver did in fact carry on Sparrow’s business for some time, employing approximately 200 employees in order to fulfil Sparrow's outstanding contractual obligations. These employees were terminated effective January 15, 1993.
5 In addition to the failure to pay the loan obligations which inevitably led to its bankruptcy and receivership, Sparrow had failed to honour other obligations in its attempt to remain in business. In particular, Sparrow failed to remit payroll deductions as required by s. 153 ITA . While the record does not disclose the exact date of these failures, it appears that the first instance of non-remittance could have occurred no later than August 7, 1992. Having regard to the amount of payroll deductions outstanding as of August 7, and to the average number of Sparrow's employees on the payroll, we can conclude that the actual payroll deductions which give rise to Her Majesty's claim in all likelihood occurred some time in the year 1992. In any event, by the time of its receivership, in addition to substantial amounts outstanding to the bank, Sparrow was indebted to the appellant (“Her Majesty”) in the amount of $625,990.86 for unremitted income tax payroll deductions.
6 On January 12, 1993, the receiver applied to the Alberta Court of Queen's Bench for authorization to sell various Sparrow assets. Part of the pool of assets to be sold included Sparrow’s inventory which is the subject of this appeal. On January 15, 1993, Wilson J. authorized both the sale of the assets and remittance of its proceeds to the bank in partial repayment of its claims, but ordered that an amount equal to Her Majesty’s claim for unremitted payroll deductions be held in trust pending a resolution as to the entitlement to this portion of the proceeds. At some later date, the assets were in fact sold, and the amount of $625,990.86 set aside. It has been held in judicial proceedings that the amount held is constituted entirely of proceeds from inventory (Royal Bank v. Sparrow Electric Corp., Alberta Court of Queen’s Bench, Edmonton, November 24, 1993, unreported). That ruling is not at issue in this appeal.
7 At present, the fund being held and constituting the proceeds of inventory is sufficient to satisfy either Her Majesty's claim, or part of the outstanding claims owing to the bank. The determination of priority in this appeal will therefore be determinative as to which party is entitled to the entirety of the disputed fund.
II - The Competing Interests
8 For convenience, I will at the outset outline the claims of the bank and of Her Majesty which are advanced as being entitled to the proceeds of the inventory.
(A) The Bank
9 The respondent bank advances two distinct security instruments in order to establish its claim to the disputed fund. First, the bank argues that its general security agreement (“GSA”), executed on February 25, 1992, and perfected pursuant to the Alberta Personal Property Security Act, S.A. 1988, c. P‑4.05 (“PPSA”), is entitled to priority. By this agreement, Sparrow assigned to the bank a security interest in all of its present and after-acquired personal property, including “all inventory of whatever kind and wherever situate” (para. 1(a)(i)). In addition, para. 7 of that agreement provided that proceeds of the collateral received by Sparrow would be received and held in trust for the bank. Of significance to this appeal, however, para. 4 of the GSA contained two express covenants, providing:
So long as this Security Agreement remains in effect Debtor covenants and agrees:
(a) to defend the Collateral against the claims and demands of all other parties claiming the same or an interest therein; to keep the Collateral free from all Encumbrances ...; provided always that, until default, Debtor may, in the ordinary course of Debtor's business, sell or lease inventory and, subject to Clause 7 hereof, use Money available to Debtor,
...
(e) to pay all taxes, rates, levies, assessments and other charges of every nature which may be lawfully levied, assessed or imposed against or in respect of Debtor or Collateral as and when the same become due and payable; [Emphasis added.]
Additionally, under the credit facilities agreement between Sparrow and the bank, dated January 22, 1992, Sparrow covenanted as follows:
(3) it will promptly pay when due all business, income and other taxes properly levied on its operations and property and remit all statutory employee deductions when due; [Emphasis added.]
10 The bank's second claim is that its Bank Act security (“BAS”) entitles it to priority to the inventory proceeds. That security instrument was executed on two occasions, January 29, 1990 and December 12, 1990. Under the General Assignment, Sparrow assigned to the bank, inter alia, “all goods inventory, [and] stock-in-trade” as continuing security for the payment of loans to the bank. In addition, as part of the Agreement as to Loans and Advances, Sparrow granted security in both its inventory and its proceeds. At the time these instruments were executed, s. 178 of the Bank Act, R.S.C., 1985, c. B-1, was in effect. However, on June 1, 1992, that Act was replaced with the Bank Act, S.C. 1991, c. 46 . The relevant portions of these two acts are identical. However, as the facts giving rise to this case occurred while the latter Act was in force, I will refer to the provisions of this new Act for the purposes of this appeal. As such, the bank's claim for security under its BAS is grounded in s. 427 (formerly s. 178 ) of the Bank Act , which provides:
427. (1) A bank may lend money and make advances
(a) to any wholesale or retail purchaser or shipper of, or dealer in, products of agriculture, products of aquaculture, products of the forest, products of the quarry and mine, products of the sea, lakes and rivers or goods, wares and merchandise, manufactured or otherwise, on the security of such products or goods, wares and merchandise and of goods, wares and merchandise used in or procured for the packing of such products or goods, wares and merchandise,
...
(2) Delivery of a document giving security on property to a bank under the authority of this section vests in the bank in respect of the property therein described
(a) of which the person giving security is the owner at the time of the delivery of the document, or
(b) of which that person becomes the owner at any time thereafter before the release of the security by the bank, whether or not the property is in existence at the time of the delivery,
the following rights and powers, namely,
(c) if the property is property on which security is given under paragraph (1)(a), (b), (g), (h), (i), (j) or (o), under paragraph (1)(c) or (m) consisting of aquacultural implements, under paragraph (1)(d) or (n) consisting of agricultural implements or under paragraph (1)(p) consisting of forestry implements, the same rights and powers as if the bank had acquired a warehouse receipt or bill of lading in which that property was described, ...
...
and all such property in respect of which such rights and powers are vested in the bank under this section is for the purposes of this Act property covered by the security. [Emphasis added.]
Section 425(1) (formerly contained within s. 2(1)) provides that:
425. (1) ...
“goods, wares and merchandise” includes products of agriculture, products of aquaculture, products of the forest, products of the quarry and mine, products of the sea, lakes and rivers, and all other articles of commerce; [Emphasis added.]
And s.