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Omnibus

Posted on May 1, 2021 | Posted in Construction

Most court decisions will deal with one to four issues of law. Some deal with more, but usually those decisions are very long. In University Plumbing v. Solstice Two Limited, a 2019 decision of the Ontario Superior Court of Justice, the judge dealt with eight discrete issues in a mere 31 paragraphs.

An eight ball on a pool table.

Set Stage

A contractor performed mechanical work for a corporate developer and was not fully paid for its work. Notwithstanding the developer’s numerous promises to pay and a request, with which the contractor had initially complied, that the contractor wait until the developer received anticipated funds from Tarion Warranty Corporation, the developer still did not pay. Finally, the contractor commenced a trust action against the developer and its two directors, who were also officers, for $103,000, which, with accrued interest, had ballooned to $345,000.

#1 Trust Breach

Section 7(1) of the Construction Act establishes a trust for the benefit of contractors when an owner receives funds to finance a construction project. Section 7(3) creates a trust for the contractors’ benefit when substantial performance of a contract has been certified and an owner has or subsequently receives money. Section 9 creates a trust for the benefit of contractors on net proceeds of sale of an owner’s interest in an improvement.

A beneficiary contractor has the initial onus to prove the existence of a trust, but, once it does so, the onus shifts to the trustee to prove that it has complied with the terms of the trust.

In this case, the developer provided no evidence that it used its funds to pay all of the trust beneficiaries and, indeed, evidence established that the developer improperly used trust funds for purposes other than satisfying its trust obligations. The developer had received $177 million – yes, that much – in trust funds.  The developer used those funds, in part, to pay its general overhead and, adding insult to injury, to pay $1 million in management fees to the management company of the two individual directors, funds that then flowed down to the directors.

The developer was held liable for breach of trust.

#2 Personal Liability

Section 13 of the Act makes individual directors, officers, and persons with effective control of a corporation liable for a breach of trust if they acquiesce in conduct that they reasonably ought to know would amount to a breach of trust.

The judge held that the two directors controlled the trust funds and decided which creditors were to be paid. They knowingly engaged in the breaches of trust and failed to account for the payments made from the trust funds. They were held personally liable under s. 13.

Even without s. 13, under common law a person is liable for knowing receipt of trust funds or knowing assistance of a breach of trust. The directors were instrumental in the developer’s breaches of trust and knew that their construction management fees were paid out of the trust funds. Accordingly, they were also liable for knowing assistance of breaches and as knowing recipients of diverted trust funds. This is very important from a bankruptcy perspective, something that we will discuss later.

#3 Limitations (a)

The contractor’s last invoice was delivered August 30, 2012. The contractor commenced its action October 6, 2015, over three years later. The normal limitation period is two years.

However, pursuant to s. 13 of the Limitations Act, 2002, a written acknowledgment of a debt re-sets the start of the limitation period – even if it contains no promise to pay and does not reference the debt’s exact amount.

One of the directors acknowledged the debt by way of email correspondence in 2013 and as late as August 8, 2014. If these emails satisfied s. 13, the defendants had no limitation defence.

#4 Limitations (b)

Section 13(10) requires that an acknowledgment be in writing and signed by the person making it or by that person’s agent. The defendants argued that the emails were not signed by hand and therefore were not  valid acknowledgments. The judge disagreed; he noted that the emails all contained digital signatures. Although the judge did not describe these digital signatures, we suggest that any reference to the person’s name, as the writer, would be sufficient.

#5 Limitation (c)

The directors argued that the emailed acknowledgments were made strictly in their capacities as directors of the developer and not in their personal capacities or on behalf of their management company. The judge noted that s. 13(6) stated that an acknowledgment by one trustee (i.e. the developer) is an acknowledgment by any other person who is, or later becomes, a trustee and that the directors, who knowingly participated in a fraudulent and dishonest breach of trust, were personally liable as constructive trustees.

#6 Limitations (d)

Even had s. 13 not afforded a full defence, limitation periods do not start to run until it is “appropriate” for an aggrieved party to commence an action. The judge held that, given the entreaties of the developer and its directors for the contractor to wait until the developer collected money purportedly due from Tarion, the limitation period did not start to run until one of the directors finally ‘fessed up in June 2015 and informed the contractor that the developer would have no more money.

#7 Bankruptcy

Section 178(1)(d) of the Bankruptcy and Insolvency Act states that a debt arising out of fraud in a fiduciary capacity survives a subsequent bankruptcy. The courts have held that mere personal liability under s. 13 of the Construction Act does not result in a debt that survives under s. 178(1)(d) of the BIA; however, a common law breach of trust will.  Hence the importance of the judge’s finding that the directors were involved in the knowing assistance of the breaches of trust and the knowing receipt of trust money. The judge held that if a director made an assignment into bankruptcy in the future, his discharge from bankruptcy would not extinguish his judgment debt to the contractor. The judge had some prior authority for this declaration, but we suggest that better authority (see January 2015 newsletter) suggests that a declaration should not be made for an event (e.g. bankruptcy) that has not taken place and may never take place. Better practice would dictate a declaration that the debt arises out of fraud in a fiduciary capacity and would leave it at that.

#8 Costs

Normally, the successful plaintiff is awarded partial indemnity costs, typically representing 50%-60% of its actual costs. However, because courts want to show their displeasure of breaches of trust, they often increase the scale of the costs award to substantial indemnity, about 90% of actual costs. In this case, the judge stated: “The Defendants know that they owe the money, used it for non-trust purposes, never did an accounting of trust monies held, and simply tried, unsuccessfully, to run out the clock. Substantial indemnity costs are in order here.”

The judge allowed $145,000 in costs. As to the fact that this amount was about half of the judgment amount, the judge said: “While these figures are significant, especially in proportion to the amount of the debt at issue, they are not beyond what anyone (including the Defendants) should expect. The Construction Lien Act provides effective remedies to creditors in the position of the Plaintiff here, but the cases are not simple matters when it comes to documentation and proof. Counsel for the Plaintiff was put to substantial effort in investigating and prosecuting the action through the pleadings and discovery stage.”

The developer and the individual directors learned, the hard way, that trustees, and the individuals who control them, breach trust obligations at their peril.

 

Image courtesy of SocialButterflyMMG.

Jonathan Speigel

 

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

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