Ontario appeal court decision could change pension landscape in bankruptcy proceedings

A recent decision from the Ontario Court of Appeal could significantly change the landscape for employers and pensioners involved in bankruptcy proceedings that engage pension plan deficits.

The decision, Guarantee Company of North America v. Royal Bank of Canada, released in January, is a construction lien case that makes no mention of pensions. But the court’s reasoning regarding the status accorded in bankruptcy proceedings to the deemed trust created by Ontario’s Construction Lien Act — which has powerful precedential value because the decision was rendered by a unanimous bench of five judges as opposed to the usual three who sit on appeals — could well apply to the similar trust created under the province’s Pension Benefits Act.

Read: Sears, Wabush cases put deemed-trust provision back in spotlight

The Pensions Benefits Act creates a statutory deemed trust in favour of pension plan beneficiaries for any deficit in a plan on windup. Ontario’s Personal Property Security Act gives priority to the deemed trust.

The federal Bankruptcy and Insolvency Act specifically preserves trust assets from distribution to secured and unsecured creditors in bankruptcy proceedings, leaving the trust funds for distribution solely to pensioners. Conventional wisdom had held that this provision applied only to common law trusts. By deciding that statutorily created trusts can also qualify as trusts under the Bankruptcy and Insolvency Act, the Guarantee case turns conventional wisdom on its head.

“The rule we see emerging from this case is that statutory trusts, like common law trusts, are excluded from the general scheme of distribution under the federal Bankruptcy and Insolvency Act, as long as they align with general trust law,” says Andrew Hatnay, a Toronto-based lawyer who represents pensioners and others in his practice at Koskie Minsky LLP. “In our view, the deemed trust in the Pension Benefits Act would qualify as a common law trust.”

Read: Should pensions take priority in bankruptcy situations?

But not everyone agrees.

Andrea Boctor, head of Stikeman Elliott LLP’s pension and benefits group, says the Guarantee decision, which rejected the argument that the trust created in the Construction Lien Act was unconstitutional as an attempt to reorder priorities in bankruptcy, isn’t consistent with rulings from other courts.

“Some Canadian courts have taken a much broader view of the paramountcy of federal legislation over provincial legislation and decided that the provinces cannot create deemed trusts which interfere with federal legislation,” she says.

Boctor also believes the deemed trust under the Pension Benefits Act lacks the “certainty of subject matter” that’s a critical element of a common law trust.

“The court pointed to the precision with which the Construction Lien Act describes the subject of the trust it creates and the fact that it does not purport to create a general priority over all the bankrupt’s assets,” she says. “By contrast, the Pension Benefits Act lacks that precision because it amounts to a floating charge over all the debtor’s assets.”

Read: Lawyer asserts priority claim for Sears retirees in CCAA proceedings

However that may be, a veteran insolvency lawyer, who spoke on condition of anonymity because of their active involvement in these types of cases, says the issue “will come up for battle soon.”

It’s important, however, to distinguish insolvency proceedings under the Bankruptcy and Insolvency Act from restructuring proceedings under the federal Companies’ Creditors Arrangement Act. Most high-profile insolvency proceedings that engaged pension deficits, such as Sears Canada Inc., Nortel Networks Inc. and Wabush Mines Inc., were restructurings.

That’s significant because, unlike the Bankruptcy and Insolvency Act, the CCAA doesn’t lay out a scheme of distribution, nor does it specifically exempt trusts of any kind from distribution to secured and unsecured creditors.

And the jurisprudence on the status of provincial statutory deemed trusts in restructurings, including the Supreme Court of Canada’s seminal decision in 2013 in a case known as Indalex, has recognized that the Pension Benefits Act trust takes priority even over secured creditors with respect to certain assets of a debtor. Interestingly, Indalex made no mention of a requirement that the statutory trust meet common law trust criteria.

Read: Indalex case: protection of underfunded pension entitlements

As if that’s not complicated enough, it isn’t clear whether a deemed trust is effective in “liquidating” CCAA proceedings, those in which the “restructuring” contemplates the sale of all the assets without continuing the debtor’s operations. This was the case in Sears and Wabush.

Finally, the Supreme Court has ruled that the deemed trust disappears if a defined benefit plan is not wound up prior to bankruptcy, which puts a great deal of focus on timing and negotiating tactics.