Chandos Construction Ltd. v. Deloitte Restructuring Inc.

Chandos Construction Ltd. v. Deloitte Restructuring Inc.
Collection
Supreme Court Judgments
Date
2020-10-02
Neutral citation
2020 SCC 25
Case number
38571
Judges
Wagner, Richard; Abella, Rosalie Silberman; Moldaver, Michael J.; Karakatsanis, Andromache; Côté, Suzanne; Brown, Russell; Rowe, Malcolm; Martin, Sheilah; Kasirer, Nicholas
On appeal from
Alberta
Subjects
Bankruptcy and insolvency
Notes
Case in Brief
SCC Case Information
Decision Content
SUPREME COURT OF CANADA
Citation: Chandos Construction Ltd. v. Deloitte Restructuring Inc., 2020 SCC 25
Appeal Heard: January 20, 2020 Judgment Rendered: October 2, 2020 Docket: 38571
Between:
Chandos Construction Ltd.
Appellant
and
Deloitte Restructuring Inc. in its capacity as
Trustee in Bankruptcy of Capital Steel Inc., a bankrupt
Respondent
- and -
Attorney General of Canada, Canadian Association of Insolvency and
Restructuring Professionals and Insolvency Institute of Canada
Interveners
Coram: Wagner C.J. and Abella, Moldaver, Karakatsanis, Côté, Brown, Rowe, Martin and Kasirer JJ.
Reasons for Judgment: (paras. 1 to 46)
Rowe J. (Wagner C.J. and Abella, Moldaver, Karakatsanis, Brown, Martin and Kasirer JJ. concurring)
Dissenting Reasons: (paras. 47 to 139)
Côté J.
Note: This document is subject to editorial revision before its reproduction in final form in the Canada Supreme Court Reports.
chandos construction v. deloitte restructuring
Chandos Construction Ltd. Appellant
v.
Deloitte Restructuring Inc. in its capacity as Trustee in Bankruptcy of Capital Steel Inc., a bankrupt Respondent
and
Attorney General of Canada,
Canadian Association of Insolvency and
Restructuring Professionals and
Insolvency Institute of Canada Interveners
Indexed as: Chandos Construction Ltd. v. Deloitte Restructuring Inc.
2020 SCC 25
File No.: 38571.
2020: January 20; 2020: October 2.
Present: Wagner C.J. and Abella, Moldaver, Karakatsanis, Côté, Brown, Rowe, Martin and Kasirer JJ.
on appeal from the court of appeal for alberta
Bankruptcy and insolvency — Anti‑deprivation rule — Priority of claims — Clause in subcontract awarding fee to general contractor in the event of subcontractor’s bankruptcy — Subcontractor filing assignment in bankruptcy prior to completing subcontract — Whether general contractor entitled to set fee off against amount owing to subcontractor — Whether anti‑deprivation rule exists at common law — If so, whether clause invalid by virtue of anti‑deprivation rule.
Chandos Construction Ltd. (“Chandos”), a general construction contractor, entered into a construction subcontract with Capital Steel Inc. (“Capital Steel”). Clause VII Q(d) of the subcontract provides that Capital Steel will pay Chandos 10 percent of the subcontract price as a fee for the inconvenience or for monitoring the work in the event of Capital Steel’s bankruptcy. When Capital Steel filed an assignment in bankruptcy prior to completing its subcontract with Chandos, Chandos argued it was entitled to set off the costs it had incurred to complete Capital Steel’s work and to set off 10 percent of the subcontract price, as provided for by clause VII Q(d). Capital Steel’s trustee in bankruptcy applied for advice and directions as to whether clause VII Q(d) was valid. The application judge found the provision to be a valid liquidated damages clause, but the Court of Appeal reversed the decision.
Held (Côté J. dissenting): The appeal should be dismissed.
Per Wagner C.J. and Abella, Moldaver, Karakatsanis, Brown, Rowe, Martin and Kasirer JJ.: Clause VII Q(d) is invalid by virtue of the anti‑deprivation rule. This rule renders void any provision in an agreement which provides that upon an insolvency (or bankruptcy), value is removed from the reach of the insolvent person’s creditors which would otherwise have been available to them, and places that value in the hands of others.
The anti‑deprivation rule has existed in Canadian common law since before federal bankruptcy legislation existed, and has not been eliminated by any decision of the Court or by Parliament. Parliament’s actions are better understood as gradually codifying limited parts of the common law rather than seeking to oust all related common law. The anti‑deprivation rule prevents contractual provisions from frustrating the scheme of the Bankruptcy and Insolvency Act (“BIA ”) as it renders void contractual provisions that would prevent property from passing to the trustee. This helps maximize the global recovery for all creditors in accordance with the priorities set out in the BIA .
The test under the anti‑deprivation rule has two parts: the relevant clause is triggered by an event of insolvency or bankruptcy, and the effect of the clause is to remove value from the insolvent’s estate. This is an effects‑based test. What should be considered is whether the effect of the contractual provision was to deprive the estate of assets upon bankruptcy, not whether the intention of the contracting parties was commercially reasonable. Adopting a purpose‑based test would create new and greater difficulties. It would require courts to determine the intention of contracting parties long after the fact, detract from the efficient administration of corporate bankruptcies, and encourage parties who can plausibly pretend to have bona fide intentions to create a preference over other creditors by inserting such clauses. It would also be inconsistent with the general principles of contractual freedom — parties do not negotiate with a view to protecting the interests of their creditors in the event of their bankruptcy. Finally, under a purpose‑based rule, unsecured creditors would receive even less than they do now. An effects‑based approach provides parties with the confidence that contractual agreements, absent a provision providing for the withdrawal of assets upon bankruptcy or insolvency, will generally be upheld.
Clause VII Q(d) violates the anti‑deprivation rule and is thus void. It provides that, in the event Capital Steel commits any act of bankruptcy, Capital Steel shall forfeit 10 percent of the subcontract price — this is a direct and blatant violation of the rule. It cannot be rescued by the law of set‑off, as set‑off only applies to enforceable debts or claims. It applies to debts owed by the bankrupt that were not triggered by the bankruptcy, since the anti‑deprivation rule only makes deprivations triggered by insolvency unenforceable.
Per Côté J. (dissenting): There is agreement with the majority that the anti‑deprivation rule has a longstanding and strong jurisprudential footing in Canadian law and that it has not been eliminated by the Court or through legislation. However, this rule should not apply to transactions or contractual provisions which serve a bona fide commercial purpose. As clause VII Q(d) furthers a bona fide commercial purpose, it is enforceable and does not offend the anti‑deprivation rule. Accordingly, the application judge’s order should be restored.
The anti‑deprivation rule should not apply to transactions or contractual provisions which serve a bona fide commercial purpose for three reasons. First, courts applying the anti‑deprivation rule in Canada have not been content to rest their reasons for decision merely on a finding that the effect of a transaction or contractual provision was to deprive a bankrupt’s estate of value — the golden thread weaving its way through the jurisprudence is the presence or absence of a bona fide commercial purpose behind the deprivation. In the minority of cases where bona fide commercial purpose has not been discussed, its absence has been readily inferable from the circumstances.
Second, there is a principled legal basis for retaining a bona fide commercial purpose test. The anti‑deprivation rule is based on the common law public policy against agreements entered into for the unlawful purpose of defrauding or otherwise injuring third parties. It thus requires an objective assessment of the parties’ intentions. In contrast, the pari passu rule has an effects‑based test because it is based on an implied prohibition in the BIA that operates regardless of the parties’ intentions. The pari passu provision in the BIA establishes a very clear bright line rule that all claims proved in a bankruptcy shall be paid rateably. This clear and straightforward statutory language readily supports a conclusion that Parliament intended to prohibit a debtor from contracting with creditors for a different distribution of the debtor’s assets in bankruptcy than that provided in s. 141 of the BIA .
The anti‑deprivation rule does not derive from a strained interpretation of s. 71 of the BIA . But even if the anti‑deprivation rule was an implied prohibition in the BIA , it is a well‑established principle that the BIA does not grant a trustee any greater interest in a bankrupt’s property than that enjoyed by the bankrupt prior to the bankruptcy. Holding that s. 71 of the BIA converts the bankrupt’s qualified interest in an asset into an absolute or unqualified interest in the hands of the trustee breaks with this principle. The statutory context includes numerous provisions indicating that arm’s‑length bona fide commercial transactions are valid as against the trustee of a bankrupt’s estate.
Third, as a matter of public policy, the considerations cited in support of an effects‑based test are not sufficient to override the otherwise strong countervailing public interest in the enforcement of contracts. Despite being a judicially‑derived public policy, it is still prudent for courts to take into account the policies embodied in legislation as a reflection of society’s public policy concerns. Therefore, anti‑deprivation rule’s common law character does not preclude a court from taking into account Parliament’s objective of maximizing global recovery for all creditors, when considering how to formulate the anti‑deprivation rule. However, Parliament’s objectives must be weighed against the other policy interests protected by the common law when considering how to best formulate the rule. The common law places great weight on the freedom of contracting parties to pursue their individual self‑interest, and the public policy considerations which have been cited in support of an effects‑based test are not sufficient to override the otherwise strong countervailing public interest in the enforcement of contracts.
A purely effects‑based test gives too little weight to freedom of contract, party autonomy, and the elbow‑room which the common law traditionally accords for the aggressive pursuit of self‑interest. It may also create significant uncertainty by introducing a vague standard which unduly restricts the scope of the anti‑deprivation rule. By contrast, a subjective purpose test would place too little weight on Parliament’s objective of maximizing global recovery for all creditors. The middle path — the objective bona fide commercial purpose test — is the best way to balance freedom of contract, the interests of third party creditors, and commercial certainty. Certainty in commercial affairs is typically better served by giving effect to contracts which were freely entered into, particularly when they serve commercial purposes and are not directed at an unlawful objective.
In addition, applying a bona fide commercial purpose test would not require a significantly more onerous analysis into the parties’ intentions than that entailed by an effects‑based test. Moreover, while debtors are not properly incentivized to protect their creditors’ interests when dealing with third parties, creditors can access a full range of options to protect their rights: the oppression remedy, the directors’ duty of care, the various anti‑avoidance provisions in the BIA and in provincial statutes, as well as the ability of creditors to bargain for contractual protections. Parliament has also occupied much of the ground formerly covered by the common law such that there is a reduced need for a general anti‑deprivation rule. Indeed, the many statutory protections already in place to safeguard the interests of creditors undermine any perceived policy need to expand the reach of the anti‑deprivation rule. These provisions reflect Parliament’s policy preference for upholding the validity of bona fide commercial arrangements, even when they have the effect of reducing the pool of assets available to a debtor’s creditors in bankruptcy.
In the instant case, clause VII Q(d) furthers a bona fide commercial purpose. A general contractor’s role is essentially to oversee and coordinate the construction of a project by various subcontractors according to a set schedule. It is evident that a subcontractor’s bankruptcy during the construction of the project would require the general contractor to redirect significant administrative and management resources. The general contractor would also incur administrative and management costs from mitigating the fallout up and down the construction pyramid. Costly delays would ensue as well. Thus, a fee for the inconvenience of completing the work using alternate means is legitimate. Clause VII Q(d) does not demonstrate any intent on the part of Chandos or Capital Steel to avoid the operation on bankruptcy laws or to prejudice Capital Steel’s creditors.
Cases Cited
By Rowe J.
Distinguished: Coopérants, Mutual Life Insurance Society (Liquidator of) v. Dubois, [1996] 1 S.C.R. 900; referred to: Belmont Park Investments Pty. Ltd. v. BNY Corporate Trustee Services Ltd., [2011] UKSC 38, [2012] 1 A.C. 383; A.N. Bail Co. v. Gingras, [1982] 2 S.C.R. 475; Canadian Imperial Bank of Commerce v. Bramalea Inc. (1995), 33 O.R. (3d) 692; In Re Hoskins and Hawkey, Insolvents (1877), 1 O.A.R. 379; Re Wetmore, [1924] 4 D.L.R. 66; Westerman (Bankrupt), Re, 1998 ABQB 946, 234 A.R. 371, rev’d 1999 ABQB 708, 275 A.R. 114; Re Knechtel Furniture Ltd. (1985), 56 C.B.R. (N.S.) 258; Re Frechette (1982), 138 D.L.R. (3d) 61; Aircell Communications Inc. (Trustee of) v. Bell Mobility Cellular Inc., 2013 ONCA 95, 14 C.B.R. (6th) 276; HGC v. IESO, 2019 ONSC 259; 1183882 Alberta Ltd. v. Valin Industrial Mill Installations Ltd., 2012 ABCA 62, 522 A.R. 285; Watson v. Mason (1876), 22 Gr. 574; Hobbs v. The Ontario Loan and Debenture Company (1890), 18 S.C.R. 483; Parry Sound (District) Social Services Administration Board v. O.P.S.E.U., Local 324, 2003 SCC 42, [2003] 2 S.C.R. 157; Heritage Capital Corp. v. Equitable Trust Co., 2016 SCC 19, [2016] 1 S.C.R. 306; Royal Bank of Canada v. North American Life Assurance Co., [1996] 1 S.C.R. 325; Alberta (Attorney General) v. Moloney, 2015 SCC 51, [2015] 3 S.C.R. 327; Husky Oil Operations Ltd. v. Minister of National Revenue, [1995] 3 S.C.R. 453; Bhasin v. Hrynew, 2014 SCC 71, [2014] 3 S.C.R. 494; Watkins v. Olafson, [1989] 2 S.C.R. 750; Borland’s Trustee v. Steel Brothers & Co., Limited, [1901] 1 Ch. 279; Holt v. Telford, [1987] 2 S.C.R. 193.
By Côté J. (dissenting)
A.I. Enterprises Ltd. v. Bram Enterprises Ltd., 2014 SCC 12, [2014] 1 S.C.R. 177; Sattva Capital Corp. v. Creston Moly Corp., 2014 SCC 53, [2014] 2 S.C.R. 633; Symes v. Canada, [1993] 4 S.C.R. 695; Ludco Enterprises Ltd. v. Canada, 2001 SCC 62, [2001] 2 S.C.R. 1082; Belmont Park Investments Pty. Ltd. v. BNY Corporate Trustee Services Ltd., [2011] UKSC 38, [2012] 1 A.C. 383; Hobbs v. The Ontario Loan and Debenture Company (1890), 18 S.C.R. 483; Ex parte Voisey (1882), 21 Ch. D. 442; Ex parte Williams (1877), 7 Ch. D. 138; Coopérants, Mutual Life Insurance Society (Liquidator of) v. Dubois, [1996] 1 S.C.R. 900; A.N. Bail Co. v. Gingras, [1982] 2 S.C.R. 475; British Eagle International Airlines Ltd. v. Cie Nationale Air France, [1975] 1 W.L.R. 758; In Re Hoskins and Hawkey, Insolvents (1877), 1 O.A.R. 379; Murphy, a Bankrupt (1803), 1 Ch. 44; Watson v. Mason (1876), 22 Gr. 574; Re Frechette (1982), 138 D.L.R. (3d) 61; Borland’s Trustee v. Steel Brothers & Co., Limited, [1901] 1 Ch. 279; Re Knechtel Furniture Ltd. (1985), 56 C.B.R. (N.S.) 258; Canadian Imperial Bank of Commerce v. Bramalea Inc. (1995), 33 O.R. (3d) 692; Aircell Communications Inc. (Trustee of) v. Bell Mobility Cellular Inc., 2013 ONCA 95, 14 C.B.R. (6th) 276; Westerman (Bankrupt), Re, 1998 ABQB 946, 234 A.R. 371, rev’d 1999 ABQB 708, 275 A.R. 114; R. v. Salituro, [1991] 3 S.C.R. 654; Shafron v. KRG Insurance Brokers (Western) Inc., 2009 SCC 6, [2009] 1 S.C.R. 157; Transport North American Express Inc. v. New Solutions Financial Corp., 2004 SCC 7, [2004] 1 S.C.R. 249; Higinbotham v. Holme (1812), 19 Ves. Jr. 88, 34 E.R. 451; In re Stephenson, [1897] 1 Q.B. 638; Whitmore v. Mason (1861), 2 J. & H. 204, 70 E.R. 1031; Ex parte Mackay (1873), L.R. 8 Ch. App. 643; Elford v. Elford (1922), 64 S.C.R. 125; Campbell River Lumber Co. v. McKinnon (1922), 64 S.C.R. 396; Zimmerman v. Letkeman, [1978] 1 S.C.R. 1097; Giffen (Re), [1998] 1 S.C.R. 91; Lefebvre (Trustee of), 2004 SCC 63, [2004] 3 S.C.R. 326; Flintoft v. Royal Bank of Canada, [1964] S.C.R. 631; Saulnier v. Royal Bank of Canada, 2008 SCC 58, [2008] 3 S.C.R. 166; Alberta (Attorney General) v. Moloney, 2015 SCC 51, [2015] 3 S.C.R. 327; St. John Shipping Corp. v. Joseph Rank Ltd., [1957] 1 Q.B. 267; Still v. M.N.R. (C.A.), [1998] 1 F.C. 549; Tercon Contractors Ltd. v. British Columbia (Transportation and Highways), 2010 SCC 4, [2010] 1 S.C.R. 69; Bhasin v. Hrynew, 2014 SCC 71, [2014] 3 S.C.R. 494; In re Estate of Charles Millar, Deceased, [1938] S.C.R. 1; Fender v. St. John‑Mildmay, [1938] A.C. 1; Lomas v. JFB Firth Rixson Inc., [2010] EWHC 3372 (Ch.), [2011] 2 B.C.L.C. 120, aff’d [2012] EWCA Civ. 419, [2012] 2 All E.R. (Comm.) 1076; Watkins v. Olafson, [1989] 2 S.C.R. 750; Peoples Department Stores Inc. (Trustee of) v. Wise, 2004 SCC 68, [2004] 3 S.C.R. 461; Heritage Capital Corp. v. Equitable Trust Co., 2016 SCC 19, [2016] 1 S.C.R. 306; Ledcor Construction Ltd. v. Northbridge Indemnity Insurance Co., 2016 SCC 37, [2016] 2 S.C.R. 23; BG Checo International Ltd. v. British Columbia Hydro and Power Authority, [1993] 1 S.C.R. 12; Douez v. Facebook, Inc., 2017 SCC 33, [2017] 1 S.C.R. 751; Consolidated‑Bathurst Export Ltd. v. Mutual Boiler and Machinery Insurance Co., [1980] 1 S.C.R. 888.
Statutes and Regulations Cited
Bankruptcy Act, R.S.C. 1970, c. B‑3, s. 112.
Bankruptcy and Insolvency Act, R.S.C. 1985, c. B‑3, ss. 65.1 , 66.34 , 71 , 84.2 , 95(1) , 96(1) , 97(1) , (3) , 99(1) , 141 .
Canadian Business Corporations Act, R.S.C. 1985, c. C‑44, s. 241 .
Companies Act, 1948 (U.K.), 11 & 12 Geo. 6, c. 38, s. 302.
Companies’ Creditors Arrangement Act, R.S.C. 1985, c. C‑36 .
Authors Cited
Canada. Senate. Standing Senate Committee on Banking, Trade and Commerce. Debtors and Creditors Sharing the Burden: A Review of the Bankruptcy and Insolvency Act and the Companies’ Creditors Arrangement Act. Ottawa, 2003.
Goode, Roy. “Perpetual Trustee and Flip Clauses in Swap Transactions” (2011), 127 L.Q.R. 1.
Grottenthaler, Margaret, and Elizabeth Pillon. “Financial Products and the Anti‑Forfeiture Principle” (2012), 1 J. Insolvency Inst. Canada 139.
Ho, Adrienne. “The Treatment of Ipso Facto Clauses in Canada” (2015), 61 McGill L.J. 139.
McCamus, John D. The Law of Contracts, 2nd ed. Toronto: Irwin Law, 2012.
Waddams, S. M. The Law of Contracts, 7th ed. Toronto: Thomson Reuters, 2017.
Westeinde, John. “Construction is ‘Risky Business’” (1988), 29 C.L.R. 119.
Wood, Roderick J. Bankruptcy and Insolvency Law, 2nd ed. Toronto: Irwin Law, 2015.
Wood, Roderick J. “Direct Payment Clauses and the Fraud Upon the Bankruptcy Law Principle: Re Horizon Earthworks Ltd. (Bankrupt)” (2014), 52 Alta. L.R. 171.
Worthington, Sarah. “Good Faith, Flawed Assets and the Emasculation of the UK Anti‑Deprivation Rule” (2012), 75 M.L.R. 112.
APPEAL from a judgment of the Alberta Court of Appeal (Rowbotham, Veldhuis and Wakeling JJ.A.), 2019 ABCA 32, 438 D.L.R. (4th) 195, 70 C.B.R. (6th) 1, 91 B.L.R. (5th) 1, [2019] A.J. No. 99 (QL), 2019 CarswellAlta 125 (WL Can.), setting aside a decision of Nielsen J., Alta. Q.B., Edmonton, No. 24‑2169632, March 17, 2017. Appeal dismissed, Côté J. dissenting.
Darren Bieganek, Q.C., and Ryan Quinlan, for the appellant.
Shauna N. Finlay and Victoria Merritt, for the respondent.
Zoe Oxaal, for the intervener the Attorney General of Canada.
Ashley Taylor and Sinziana R. Hennig, for the intervener the Canadian Association of Insolvency and Restructuring Professionals.
Sean F. Collins, Brandon Kain and Cassidy Thomson, for the intervener the Insolvency Institute of Canada.
The judgment of Wagner C.J. and Abella, Moldaver, Karakatsanis, Brown, Rowe, Martin and Kasirer JJ. was delivered by
Rowe J. —
[1] This case concerns a common law rule (the “anti-deprivation rule”) that operates to prevent contracts from frustrating statutory insolvency schemes. Chandos Construction Ltd. (“Chandos”) entered into a construction contract (“Subcontract”) with Capital Steel Inc. (“Capital Steel”). A provision of the Subcontract would award Chandos a sum of money in the event of Capital Steel’s bankruptcy, which later occurred. This case deals with whether that provision was invalid by virtue of the anti-deprivation rule.
[2] I conclude that it is, essentially for the reasons of the majority of the Court of Appeal of Alberta. Accordingly, the appeal is dismissed.
I. Facts
[3] Chandos, a general construction contractor, entered into the Subcontract with Capital Steel, a subcontractor. The value of the Subcontract was $1,373,300.47. The provision at issue is in clause VII Q, one of the “Conditions” of the subcontract:
Q Subcontractor Ceases Operation
In the event the Subcontractor commits any act of insolvency, bankruptcy, winding up or other distribution of assets, or permits a receiver of the Subcontractor’s business to be appointed, or ceases to carry on business or closes down its operations, then in any of such events:
(a) this Subcontract Agreement shall be suspended but may be reinstated and continued if the Contractor, the liquidator or Trustee of the Subcontractor and the surety, if any, so agree. If no agreement is reached, the Subcontractor shall be considered to be in default and the Contractor may give written notice of default to the Subcontractor and immediately proceed to complete the Work by other means as deemed appropriate by the Contractor, and
(b) any cost to the Contractor arising from the suspension of this Subcontract Agreement or the completion of the Work by the Contractor, plus a reasonable allowance for overhead and profit, will be payable by the Subcontractor and or his sureties, and
(c) the Contractor is entitled to withhold up to 20% of the within Subcontract Agreement price until such time as all warranty and or guarantee periods which are the responsibility of the Subcontractor have expired and,
(d) the Subcontractor shall forfeit 10% of the within Subcontract Agreement price to the Contractor as a fee for the inconvenience of completing the work using alternate means and/or for monitoring the work during the warranty period.
(A. R., at p. 157)
[4] This clause provides four consequences that follow from the insolvency, bankruptcy, or cease of business of Capital Steel. First, clause VII Q(a) provides that the Subcontract will be suspended and can only be continued if the Trustee in bankruptcy and Chandos agree. Second, clause VII Q(b) provides that Capital Steel will pay Chandos “any cost . . . arising from the suspension” of the Subcontract or from Chandos having to complete the work, plus a “reasonable allowance for overhead and profit”. Third, clause VII Q(c) allows Chandos to withhold certain funds from Capital Steel until the warranty and guarantee periods run out. Fourth, clause VII Q(d) provides that Capital Steel will pay Chandos 10 percent of the Subcontract price “as a fee for the inconvenience . . . and/or for monitoring the work”.
[5] When Capital Steel filed an assignment in bankruptcy prior to completing its Subcontract with Chandos, Deloitte Restructuring Inc. was appointed as its Trustee in bankruptcy. At the time, Chandos owed Capital Steel $149,618.39 under the Subcontract. Chandos argued that it was entitled to set off $22,800 ― the costs it had incurred to complete Capital Steel’s work ― such that it would owe Capital Steel only $126,818.39 ($149,618.39 less $22,800). In so arguing, Chandos did not have to rely on clause VII Q as it could rely on the ordinary common law rules relating to damages for breach of contract and the law of set-off, which persists in bankruptcy under s. 97(3) of the Bankruptcy and Insolvency Act, R.S.C 1985, c. B-3 (“BIA ”).
[6] Chandos argued that it was also entitled to set off the amount triggered by the bankruptcy according to clause VII Q(d), under which Capital Steel forfeits 10 percent of the Subcontract price in the event of insolvency. The Subcontract price was $1,373,300.47, so, by its terms, clause VII Q(d) created a debt owed by Capital Steel to Chandos of $137,330.05. If clause VII Q(d) applied, it would mean Chandos had a $10,511.66 claim provable in bankruptcy proceedings rather than a debt to Capital Steel of $126,818.39.
[7] Faced with these arguments, the Trustee applied for advice and directions from the Court of Queen’s Bench as to whether clause VII Q(d) was valid.
II. Judgments Below
[8] The application judge found the provision to be valid (Alta. Q.B., Edmonton, 242169632, 17 March 2017). He concluded that, so long as the provision was not an attempt to avoid the effect of bankruptcy laws, the anti-deprivation rule does not prevent contracting parties from agreeing that upon the insolvency of one party, the other party can make a liquidated damages claim. He found that, in this case, Chandos had not attempted to avoid the effect of bankruptcy laws. He also found that the provision was a (valid) liquidated damages clause, not an (invalid) penalty clause.
[9] On appeal, the majority of the Court of Appeal reversed the decision, finding the provision invalid (2019 ABCA 32, 438 D.L.R. (4th) 195).
[10] As Rowbotham J.A., for the majority, explained, whether a provision is a liquidated damages clause or a penalty clause is a separate and distinct analysis from whether the provision violates the anti-deprivation rule. A provision can be invalid if it violates either the anti-deprivation rule or the penalty clause rule.
[11] Justice Rowbotham’s reasons proceeded in three stages. First, she identified the long history of the anti-deprivation rule in Canadian jurisprudence. Second, she found that the rule has not been eliminated by either subsequent decisions or by statutory amendments. Finally, she determined that the content of the rule should remain as articulated in the Canadian jurisprudence rather than adopt the approach taken by the United Kingdom Supreme Court in Belmont Park Investments Pty. Ltd. v. BNY Corporate Trustee Services Ltd., [2011] UKSC 38, [2012] 1 A.C. 383 (“Belmont Park”, earlier know as “Perpetual Trustee”).
[12] As Rowbotham J.A. explained, the common law has two distinct rules that both invalidate contracts that affect the distribution of proceeds in bankruptcy, although they had earlier been combined under the moniker of a “fraud upon the bankruptcy law”. The rules do not stand on their own, but rather exist to give effect to an implicit prohibition in bankruptcy legislation. First, the pari passu rule forbids contractual provisions that would allow certain creditors to receive more than their fair share. It does not matter whether the provision is triggered by insolvency or bankruptcy, so long as it would alter the scheme of distribution after proceedings begin. Second, the anti-deprivation rule prevents parties from agreeing to remove property from a bankrupt’s estate that would otherwise have vested in the trustee. It invalidates provisions that are “engaged by a debtor’s insolvency and remove value from the debtor’s estate to the prejudice of creditors” (para. 32). Put another way, although both rules concern creditors receiving an appropriately-sized slice of the proverbial pie, the anti-deprivation rule relates to the size of the pie and the pari passu rule relates to the slicing of the pie, whatever size it may be (see R. Goode, “Perpetual Trustee and Flip Clauses in Swap Transactions” (2011), 127 L.Q.R. 1, at p. 4).
[13] Justice Rowbotham concluded that both rules have been applied in Canadian jurisprudence. She cited A.N. Bail Co. v. Gingras, [1982] 2 S.C.R. 475, at para. 23, as an application of the pari passu rule, and the following cases as examples of the application of the anti-deprivation rule: Canadian Imperial Bank of Commerce v. Bramalea Inc. (1995), 33 O.R. (3d) 692 (“Bramalea”); In Re Hoskins and Hawkey, Insolvents (1887), 1 O.A.R. 379; Re Wetmore, [1924] 4 D.L.R. 66 (N.B.S.C. (App. Div.)); Westerman (Bankrupt), Re, 1998 ABQB 946, 234 A.R. 371, rev’d on other grounds 1999 ABQB 708, 275 A.R. 114; Re Knechtel Furniture Ltd. (1985), 56 C.B.R. (N.S.) 258 (Ont. S.C.); Re Frechette (1982), 138 D.L.R. (3d) 61 (Que. Sup. Ct.); Aircell Communications Inc. (Trustee of) v. Bell Mobility Cellular Inc., 2013 ONCA 95, 14 C.B.R. (6th) 276, at paras 10-12; HGC v. IESO, 2019 ONSC 259, at para. 100 (CanLII); 1183882 Alberta Ltd. v. Valin Industrial Mill Installations Ltd., 2012 ABCA 62, 522 A.R. 285 (per McDonald J.A., dissenting).
[14] Justice Rowbotham identified no cases where the anti-deprivation rule had been eliminated. She considered Coopérants, Mutual Life Insurance Society (Liquidator of) v. Dubois, [1996] 1 S.C.R. 900 (“Coopérants”), because, even though it involved a contractual provision triggered by liquidation, this Court did not discuss the anti-deprivation rule. She noted, however, that there was no evidence the provision at issue prejudiced creditors, so the anti-deprivation rule would not have been engaged.
[15] Justice Rowbotham also found that no statutory changes had eliminated the anti-deprivation rule, either explicitly or by negative implication, as when Parliament occupies the field. The only changes that might arguably be relevant were to the BIA . They, however, addressed a different problem than that addressed by the anti-deprivation rule: whereas the anti-deprivation rule protects creditors, the changes in question protect debtors.
[16] One such change came when Parliament enacted ss. 65.1 and 66.34 of the BIA . These sections invalidate contractual provisions triggered by insolvency in both commercial and consumer restructurings. Parliament’s focus was on ensuring that debtors have time necessary to restructure their affairs. There was no suggestion that these sections were meant to affect the anti-deprivation rule, which is aimed at protecting the interest of creditors.
[17] Similarly, when Parliament enacted s. 84.2 of the BIA , it intended to protect consumer debtors from the deleterious consequences of provisions that trigger upon bankruptcy, not to protect one creditor from a debtor’s contract with another creditor.
[18] Justice Rowbotham concluded that in none of these instances did Parliament intend to occupy the field and eliminate the anti-deprivation.
[19] Next, Rowbotham J.A. considered whether to follow the U.K. Supreme Court’s approach to the anti-deprivation rule in Belmont. In Belmont, the U.K. Supreme Court concluded that the anti-deprivation rule does not apply to “bona fide commercial transactions which do not have as their predominant purpose, or one of their main purposes, the deprivation of the property of one of the parties on bankruptcy” (para. 104).
[20] Justice Rowbotham declined to follow Belmont. She noted that this purpose-based test was contrary to the effects-based test applied by Canadian courts, and that this new test had been criticized by British legal scholars as defeating the purpose of the anti-deprivation rule. She further noted that a party who might become insolvent has no incentive to resist a clause that directs property out of its estate upon insolvency, since, upon that event, the insolvent party will no longer have an interest in that property.
[21] Finally, Rowbotham J.A. applied the common law anti-deprivation rule to clause VII Q(d). She determined that this clause triggered upon insolvency and that giving effect to it would remove value from the debtor’s estate to the prejudice of creditors. The clause was therefore invalid.
[22] Justice Wakeling dissented. In his view, the anti-deprivation rule has never existed in Canadian common law or, if it did, it ceased to exist after amendments to the BIA and the Companies’ Creditors Arrangement Act, R.S.C. 1985, c. C-36 , in 2009. Even if it did exist, he would have adopted the purpose-based test from Belmont. These conclusions were advanced by Chandos before this court. Justice Wakeling also would have reformulated the penalty rule. Given my conclusions as to the anti-deprivation rule, I do not address the penalty rule.
III. Issues on appeal
[23] On appeal before us, Chandos alleges the majority at the Court of Appeal made five errors, by:
a) emphasizing bankruptcy law over contract law;
b) failing to abandon the classic penalty rule of contract law;
c) finding an anti-deprivation rule exists at common law;
d) applying an effects-based anti-deprivation rule; and
e) failing to consider the effect of set off.
[24] The first issue is readily dealt with: contract law and bankruptcy law work together, in this instance through the operation of the anti-deprivation rule. The second issue can also be disposed of summarily: if the provision is invalid for one reason (the anti-deprivation rule in bankruptcy law), it does not matter whether it is or is not invalid for another (the penalty rule in contract law). I will discuss the other issues below.
IV. The Existence of the Common Law Anti-Deprivation Rule
[25] As to the existence of the anti-deprivation rule, I see no error in Rowbotham J.A.’s consideration of this issue, in that the rule has existed in Canadian common law and has not been eliminated by either this Court or Parliament.
[26] Justice Rowbotham correctly found that there has been support for the anti-deprivation rule in the decisions to which she referred; I would add Watson v. Mason (1876), 22 Gr. 574 (U.C. Ch.) and Hobbs v. The Ontario Loan and Debenture Company (1890), 18 S.C.R. 483, at p. 502 (per Strong J.), even if Hobbs is from a period in Canadian history where no federal bankruptcy legislation existed (R. J. Wood, Bankruptcy and Insolvency Law (2nd ed. 2015), at pp. 33-35).
[27] No decision of this Court has eliminated the anti-deprivation rule. Coopérants, as Rowbotham J.A. stated, was not an anti-deprivation case as there was no deprivation (Coopérants, at paras. 43-44).
[28] Nor has Parliament eliminated the anti-deprivation rule. As Rowbotham J.A. observed, Parliament did not implement ss. 65.1 , 66.34 , or 84.2 of the BIA so as to eliminate the anti-deprivation rule: the anti-deprivation rule protects third party creditors, whereas Parliament’s changes were directed toward protecting debtors (see Bill C-22: Clause by clause Analysis, cl. 87, s. 65.1 and cl. 89, s. 66.34, reproduced in the Attorney General of Canada’s book of authorities, at Tab 4; Standing Senate Committee on Banking, Trade and Commerce, Debtors and Creditors Sharing the Burden: A Review of the Bankruptcy and Insolvency Act and the Companies’ Creditors Arrangement Act (2003), at pp. 74-75). This goal of protecting the debtor is relevant only where the debtor persists after the proceedings conclude. It is common for the debtor to persist after a restructuring or after the bankruptcy of a natural person. It is uncommon for the debtor to persist after a corporate bankruptcy as, typically, no assets remain for the corporation after all creditors are paid.
[29] Moreover, as the intervenor Attorney General of Canada submitted, Parliament’s actions are better understood as gradually codifying limited parts of the common law rather than seeking to oust all related common law. As this Court has repeatedly observed, Parliament is presumed to intend not to change the existing common law unless it does so clearly and unambiguously (Parry Sound (District) Social Services Administration Board v. O.P.S.E.U., Local 324, 2003 SCC 42, [2003] 2 S.C.R. 157, at para. 39; Heritage Capital Corp. v. Equitable Trust Co., 2016 SCC 19, [2016] 1 S.C.R. 306, at paras. 29-30).
[30] Indeed, the most relevant statutory provision in the BIA is not s. 65 .1, s. 66.34, or s. 84.2, but rather s. 71 . As this Court recognized in Royal Bank of Canada v. North American Life Assurance Co., [1996] 1 S.C.R. 325, s. 71 provides that the property of a bankrupt to “passes to and vests in the trustee” (para. 44). This helps maximize the “global recovery for all creditors” in accordance with the priorities set out in the BIA (Alberta (Attorney General) v. Moloney, 2015 SCC 51, [2015] 3 S.C.R. 327, at para. 33; see also Husky Oil Operations Ltd. v. Minister of National Revenue, [1995] 3 S.C.R. 453, at paras. 7-9). The anti-deprivation rule renders void contractual provisions that would prevent property from passing to the trustee and thus frustrate s. 71 and the scheme of the BIA . This maximizes the assets that are available for the trustee to pass to creditors.
V. The Content of the Anti-Deprivation Rule
[31] As Bramalea described, the anti-deprivation rule renders void contractual provisions that, upon insolvency, remove value that would otherwise have been available to an insolvent person’s creditors from their reach. This test has two parts: first, the relevant clause must be triggered by an event of insolvency or bankruptcy; and second, the effect of the clause must be to remove value from the insolvent’s estate. This has been rightly called an effects-based test.
[32] Chandos submits that this Court should change the anti-deprivation rule to follow Belmont and adopt a purpose-based test. As noted above, Belmont held that the English anti-deprivation rule does not invalidate provisions of “bona fide commercial transactions which do not have as their predominant purpose, or one of their main purposes, the deprivation of the property of one of the parties on bankruptcy”. Chandos says we should follow this reasoning because upholding bona fide commercial agreements would strike the best balance of public policy considerations and contribute to commercial certainty. It also submits that the side-effects of such a rule would not be so deleterious, as unsecured creditors tend to receive little in bankruptcy; as well, courts would be able to tell who had inserted provisions that remove value from the debtor’s estate for bona fide commercial reasons. None of these reasons holds water.
[33] The goal of public policy, in this instance, is not decided by the common law; rather, that policy has been established in the legislation. What is left to the common law is the choice of means that best gives effect to the statutory scheme adopted by Parliament. Thus, once a court ascertains that Parliament intended, by virtue of s. 71 , that all of the bankrupt’s property is to be collected in the trustee, it is not for the court to substitute a competing goal that would give rise to a different result. In this, I agree with Professor Worthington that “[a]ny avoidance, whether intentional or inevitable, is surely a fraud on the statute” (“Good Faith, Flawed Assets and the Emasculation of the UK Anti-Deprivation Rule” (2012), 75 M.L.R. 112, at p. 121).
[34] In addition, I would disagree that adopting a purpose-based test would create commercial certainty. To the contrary, applying such a test would require courts to determine the intention of contracting parties long after the fact and it would detract from the efficient administration of corporate bankruptcies. Parties cannot know at the time of contracting whether a court, possibly years later, will find their contract had been entered into for bona fide commercial reasons. This will give ri