Legal Blog

MORTGAGE

We have long noted (see newsletter of March 1996 – yes we go back that far) that the best way for a contractor to ensure that it is paid is to check the credit worthiness of the person for whom it is to do its work. Reliance on liens can lead to disaster. A case in point is Basic Drywall Inc. v. 1539304 Ontario Inc., a 2012 decision of the Ontario Divisional Court.

Facts

There was a typical construction ladder: mortgagee, owner, general, and sub. The general owed the sub $312,000. The owner owed the general at least $276,000. The work of the general, certified as complete, was $506,000. The sub liened for the amount due and the lien was timely. Ultimately, the mortgagee posted a letter of credit to vacate the lien. But did the sub get paid?

The general was the person primarily liable on contract to pay the sub. We assume that the general did not have the funds.

The owner was the secondary person liable to pay the sub. Its liability arose under the Construction Lien Act. The owner was liable for its basic holdback of 10% of the price of the services the general supplied to the project, in this case $50,600. In addition, the owner was liable as a “payer” for the difference between the amount it actually owed to the general and the basic holdback, in this case $276,000 less the basic $50,600. The owner became liable for the additional amount as soon as it received notice of the sub’s claim for lien.

So did the owner pay $276,000 to the sub? Nope. The owner went bust and the mortgagee sold the project in its unfinished state. The sale proceeds were less than the mortgage amount due and the mortgagee was willing to pay the sub only the basic holdback of $50,600.

Problems

The sub claimed $276,000; it argued that it had a right to the amount of the security the mortgagee posted. After all, the mortgagee vacated the sub’s lien with that security and therefore should pay whatever the owner had to pay. There is a problem with that argument. The purpose of vacating liens is to allow  money to flow down the construction chain; it is not to somehow enhance a lien claimant’s rights that the claimant would not otherwise have had if the lien had not been vacated.

The real question was whether the fact that the owner owed more to the general than the basic 10% holdback changed the outcome of the priority dispute. The court concluded that the section of the Act that makes the owner, as “payer”, liable to the sub for any money that the owner owes to the general does not benefit the sub in its claim against the mortgagee. A mortgagee is not a “payer” under that section and the section therefore does not apply to a mortgagee.

The sub was therefore left with the priority provisions in section 78 of the Act, which allows the mortgagee priority for its mortgage debt over all money other than the basic 10% holdback.

Outcome

The sub was left with only $50,600 of its money due. It had rights against the general and the owner, but no way to collect the money. The sub was pummelled by the perfect storm and, possibly, by its own poor credit policies.