In law school, a professor would give us some facts in the context of the legal concepts we were discussing. A student would opine on the likely result. The professor would then change the facts – ever so slightly. The unfortunate student would defend his original position and would often, to his discomfort, be led through a series of questions that demonstrated he was wrong.
Two 2008 decisions in the Ontario Superior Court of Justice, 2105673 Ontario Inc. v. Chorny and Bank of Nova Scotia v. Williamson, illustrate the effect of a slight change in facts on an analysis.
The corporate plaintiff loaned money to a corporate debtor; the promissory note evidencing the loan, which was guaranteed by an individual guarantor, came due in a month. The debtor did not pay and, one year later, the plaintiff sued the debtor and the guarantor.
The problem, for the plaintiff, was that it did not exist. Two years before it loaned the money, it had been dissolved under the Business Corporations Act, probably for not filing its provincial income tax return or for not paying its taxes. A corporation that does not exist has no more right to sue than a non-existent person. However, the non-existent corporation has an advantage over a non-existent person. It can apply to be revived, by rectifying the problems that caused it to be dissolved. Upon revival, it is deemed to have existed retroactively except for any rights that anybody has acquired during the period of dissolution.
The new solicitors of the plaintiff ensured that it was revived approximately 25 months after the note became due. Was that good enough? The Limitations Act, 2002 allows but two years to commence an action before the cause of action is gone. If the limitation period expired before the plaintiff was revived, then the debtor and the guarantor acquired rights to which the plaintiff was subject regardless of its revival.
There did not seem to be much of an issue as between the plaintiff and the debtor. The plaintiff’s cause of action arose immediately upon the debt becoming due. Two years later, the plaintiff still did not exist and its cause of action was terminated, regardless of its subsequent revival. The real fight related to the plaintiff’s action against the guarantor.
The plaintiff argued that the cause of action against the guarantor did not commence until the plaintiff issued a demand for payment against the guarantor and that it did not make demand until a year after the note became due and within 2 years of the revival date of the plaintiff.
The judge held that the guarantee was no longer valid because, once a principal debt is void, a guarantee of it is void. Accordingly, once the plaintiff lost its right to sue the debtor for the debt, it lost its right to sue on the guarantee.
The judge dismissed the plaintiff’s action against both the debtor and the guarantor.
A bank loaned money to a corporate debtor; the corporation’s principal guaranteed the loan. The bank demanded payment from the debtor in October 2004. At the same time, it sent a letter to the guarantor stating, “We have demanded payment of the Borrower’s obligations to us. A copy of our demand is enclosed. If payment of our demand is not made as required, we will take steps to recover payment from you.”
The debtor ultimately became bankrupt and its assets were sold to pay down the debt. Once the bank knew the shortfall, it wrote to the guarantor in June 2007 and stated, “We hereby demand payment from you under the said guarantee.”
The bank commenced its action in July 2007. The guarantor argued that the limitation period had passed because, he said, the cause of action against him on the guarantee arose at the same time that the cause of action arose against the debtor.
Cause of Action
The judge agreed that liability under a guarantee is not ordinarily contingent on a demand. Accordingly, without additional facts, the guarantor would have been correct. The cause of action for the guarantee would have commenced when the debt became due.
However, the guarantee itself stated that the guarantor’s liability to make “payment under this guarantee shall arise forthwith after demand for payment has been made…” When a guarantee stipulates the necessity for a demand, the cause of action does not arise until demand is made. Accordingly, the demand was made in 2007 and the action, commenced in 2007, was commenced well within the two-year limitation period.
The Act stipulates that a claim is discovered when the claimant knows that an injury, loss, or damage occurred. The judge held that the bank’s injury did not occur until demand.
The Act also states that a claim is discovered when a reasonable person ought to have known of the injury. The guarantor argued that the bank ought to have known of its injury once the debtor became bankrupt. The judge dismissed this argument because it asked the wrong question. The right question was, “When should the bank have known that the guarantor would not honour its obligations?” Of course, the bank would not know this until after it demanded payment.
Finally, the guarantor argued that if a limitation period does not start to run until demand, then the guarantor would never be able to enjoy a limitation period because the bank could hold off demanding payment on the guarantee indefinitely. The judge’s answer? Too bad, you could have written the guarantee differently and you did not.
The judge granted judgment against the guarantor in favour of the bank.
The judge in Williamson distinguished the decision in Chorny. He noted that, in Chorny:
1. the loan was due on a specified date and, in his case, there was no particular due date;
2. the analysis arose out of the dissolution of the plaintiff; not so, in his case; and
3. it would have been unfair to allow the plaintiff to continue its action against the guarantor when its action was time-barred against the debtor. In his case, it was not unfair for the bank to obtain all it could from the debtor and then look to the guarantor for the shortfall.
We feel that the Williamson judge missed the most important aspect that distinguished the two cases. In Chorny, the guarantee did not state that the plaintiff had to demand payment before the guarantor’s liability to pay arose. Accordingly, its cause of action arose when the debtor’s debt became due. In Williamson, the bank’s cause of action did not arise until it demanded payment. That was the crucial “new fact”.