Legal Blog

Common Law Trust

In our November 2015 newsletter, we discussed (i) common law trusts and their effect on bankruptcy and (ii) common law trusts in comparison to statutory trusts, in particular under the Construction Act (CA). This discussion revolved around an Alberta Court of Appeal case and an Ontario Superior Court of Justice case. The issues discussed have been resolved, at least in Ontario, by the 2019 decision of the Ontario Court of Appeal in The Guarantee Company of North America v. Royal Bank of Canada.

Positions

A paving contractor went bust with four contracts on the go, three with one city and one with another. The cities paid the contractor’s receiver an aggregate of $675,000 (the “Funds“), the total of the amounts due to the contractor for the four projects. Pursuant to an order of the bankruptcy judge, the receiver deposited all of the Funds in one bank account and kept sufficient records so that one could tell what proceeds were received for each project.

The priority dispute was between the contractor’s secured creditor (RBC), the contractor’s bonding company (GCNA) who had paid the contractor’s subs and taken an assignment of their claims, and the contractor’s employees represented by their union. The claims of the union and GCNA totalled over $2.3 million. We were not told of the amount of RBC’s claim, but we can safely assume that it was far more than $675,000. Accordingly, regardless of success, nobody was going to be paid in full.

Both RBC and GCNA were secured creditors. RBC argued that the Funds should be distributed in accordance with the provisions of the Bankruptcy and Insolvency Act (BIA) – which meant that RBC and GCNA would share the money proportionate to the amounts of their debts. GCNA and the union claimed that the Funds were trust funds, and not the contractor’s property, and should be distributed under the provisions of the CA – which meant that RBC would receive nothing.

Everybody agreed that the Funds were trust funds under the deemed trust provisions of the CA. The real issue was whether they were classified as common law trusts so that they would be distributed outside of the BIA.

Trusts

A deemed statutory trust is a trust created by legislation that constitutes specified property as trust property and specified individuals as trustees. Section 8 of the CA is an example of that legislation.

Conversely, a common law trust does not rely on legislation for its creation. Three elements are necessary to establish this trust: certainties of intention (i.e. I intended to create the trust), subject matter (i.e. I know exactly the property that is being held in trust), and object (i.e. I know for whom I am holding the property in trust).

Intention

Section 8 of the CA deems a trust to exist for subs below the trustee on the construction ladder and prohibits the conversion of trust money until all subs have been paid. The Court held that it was proper to look at the constating legislation (i.e. the CA) to determine whether certainty of intention existed; it then held that s. 8 of the CA was sufficient to demonstrate that a trust was intended.

RBC argued that, by altering priorities upon bankruptcy, s. 8 is, in substance, bankruptcy legislation, which runs afoul of the BIA and is therefore of no effect (because federal legislation takes precedence over provincial legislation if they conflict).

The Court disagreed. The trust provisions were complementary to the lien provisions of the CA by providing security to subs and suppliers at the bottom of the construction pyramid. Their effect of protecting contract money in the event of bankruptcy was incidental to their real purpose and did not detract from their essence. Accordingly, s. 8 is the proper subject of legislation relating to property and civil rights and is within the province’s constitutional powers.

The BIA and the CA trust provisions have different purposes. The BIA’s purpose is to provide rules for an equitable distribution of a bankrupt’s property. The CA trust provisions’ purpose is to protect suppliers and contractors to ensure money is paid down the construction ladder and not diverted; these sections are aimed at ensuring equity and preventing unjust enrichment of those higher up on the food chain. The Court held that s. 8 does not frustrate the goals of the BIA and that, conversely, if the Court allowed s. 8 trust funds to be distributed to other creditors of a bankrupt contractor, the Court would be providing those creditors with an unexpected and unfair windfall.

Subject Matter

The Court noted that certainty of subject matter means that one has to be able to ascertain the precise property subject to the trust. The extent of that property is ascertained when it is a fixed amount or specific property and it is ascertainable when the method by which the subject matter can be identified is available from the terms of the trust.

The Court held that a debt can be the proper subject matter of a trust and therefore all parties to the dispute knew exactly what was being held in trust (i.e. $675,000). Since the cities owed their debts to the contractor and the ownership of those debts was a form of property, the s. 8 trust came into existence as soon as the receiver received the money.

The Court further held that the commingling of the Funds into one account of the receiver did not deprive the trust property of the required element of certainty. The money had not been converted; it was easy to identify because the receiver kept accurate records noting which money came from which owner.

Object

All parties agreed that there was certainty of object. The object of the trust was the protection of subs and suppliers at the bottom of the construction ladder.

Upshot

The s. 8 trust was held to be a valid common law trust that took effect outside bankruptcy. The funds were not available for distribution under the BIA. RBC received nothing and paid costs of $75,000 for losing the motion and the appeal. The $675,000 was to be divided between the union and GCNA.

Image courtesy of StockSnap.

Written by Jonathan Speigel, the founding partner of Speigel Nichols Fox LLP, leads the litigation and construction practices.