Legal Blog

Bankrupt

We all know that bankruptcy wipes out all debts. Wrong! Not always. There are exceptions; for example, debts relating to fraud. How does bankruptcy affect an action for breach of trust under the Construction Lien Act? This question is answered in Re Francisco, a 1996 decision of the Ontario Court of Appeal. 

History 

A supplier of material had commenced an action against the director of a roofing contractor for the price of goods supplied to a construction project. The supplier had already obtained a consent judgment against the contractor. Midway through the trial, the director filed an assignment into bankruptcy. This stays (i.e. stops) all court proceedings unless a court grants permission for the action to proceed. The court will not do so unless the outcome of the action will have some relevance. Obviously, if a judgment, arising out of an action, survives bankruptcy, the outcome has relevance.

The supplier moved before the Registrar of the bankruptcy division of the Ontario Court (General Division) to obtain that permission and was refused. The supplier appealed his decision to a judge of the Ontario Court (General Division) and was successful. The director appealed that decision to the Ontario Court of Appeal and was unsuccessful. In a short judgment, the Court of Appeal simply agreed with reasons for decision of the judge of the Ontario Court (General Division) from whom the appeal was taken. The supplier was allowed to continue its action against the director.

Rationale 

A contractor is required by the Construction Lien Act to hold its funds in trust for the parties directly beneath it in the construction chain. Directors and officers of the contractor, who are involved in a breach of the trust, are likewise liable for the breach.

The Bankruptcy and Insolvency Act does not absolve the bankrupt from a debt arising out of a misappropriation or defalcation while acting in a fiduciary capacity. The judge held that “the words ‘misappropriate’ and ‘defalcation’ are not used in a pejorative or accusatory sense and are applicable simply where there has been a failure to properly account for funds.”

A person is a fiduciary when that person must act in the best interests of another, even if this means acting to the fiduciary’s own detriment. The most obvious example of a fiduciary relationship occurs when a trustee is holding monies or property in trust for another. This is exactly the case under the trust fund provisions of the Construction Lien Act. You simply do not play around with trust monies.

In the Francisco case, the supplier was alleging that the director breached the trust fund provisions. If the supplier was successful in its action, the supplier would have a judgment based on a misappropriation while acting in a fiduciary capacity. The judgment debt would survive bankruptcy and the ultimate decision would be relevant. Accordingly, the judge allowed the supplier to continue its action against the director.

Irony 

The director thought he could rid himself of the whole mess by assigning into bankruptcy. He would avoid having to defend himself at an expensive trial and would start afresh. Unfortunately for him, his strategy did not have the desired result. Not only did he have to continue defending himself, he had to pay for the costs of the motion before the Registrar, the appeal to the judge, and the appeal to the Court of Appeal.