Lister v Dunlop REDUX – will COVID-19 affect a lender’s ability to demand payment?
Banking and Finance Bulletin
By Robert Betteridge and Leslie-Anne Bowyer (Student-at-Law)
The Supreme Court of Canada's decision in Lister v Dunlop is a seminal case in the Canadian world of debt finance. It speaks to a lender's requirement to provide the debtor party with a 'reasonable time to pay' on any demand prior to trying to enforce on security. This requirement applies regardless of if a debtor requests time or not and "regardless of the wording of the security document." What constitutes a reasonable time to pay will depend on the circumstances of each case. Seven criteria arising out of the decision in Mister Broadloom, which were impliedly approved in Dunlop, are applied when determining what constitutes a reasonable time to pay.
In a normal world, the timeframe determined by the seven criteria is "measured in days, not weeks" and would not encompass "anything approaching 30 days." However, a notice period of less than a day is prima facie unreasonable. More precisely, the 'non-COVID standard' is often considered to be 10 days. This period is consistent with the 1992 amendments to the Bankruptcy and Insolvency Act, in which s. 244 codified a 10-day notice period that must be observed with respect to realizing on broad security in an insolvency context. Despite this statutory period, the Dunlop rules continue to apply and the s. 244 rules appear to provide a minimum starting place for effective notice in most contexts. With COVID, and in a post-Bhasin v Hrynew world—a Supreme Court decision that created an implied term of good faith in all contracts—what's a lender to do to avoid nasty adverse consequences?
In these unique times it's anybody's guess, but the prudent path is to err on the side of caution.
If s. 244 of the BIA codified the 10-day notice period, why are we still concerned with the common law criteria?
Section 244 provides for the following specific application:
244 (1) A secured creditor who intends to enforce a security on all or substantially all of
(a) the inventory,
(b) the accounts receivable, or
(c) the other property
of an insolvent person that was acquired for, or is used in relation to, a business carried on by the insolvent person shall send to that insolvent person, in the prescribed form and manner, a notice of that intention.
Period of notice
(2) Where a notice is required to be sent under subsection (1), the secured creditor shall not enforce the security in respect of which the notice is required until the expiry of ten days after sending that notice, unless the insolvent person consents to an earlier enforcement of the security.
No advance consent
(2.1) For the purposes of subsection (2), consent to earlier enforcement of a security may not be obtained by a secured creditor prior to the sending of the notice referred to in subsection (1).
(3) This section does not apply, or ceases to apply, in respect of a secured creditor
(a) whose right to realize or otherwise deal with his security is protected by subsection 69.1(5) or (6); or
(b) in respect of whom a stay under sections 69 to 69.2 has been lifted pursuant to section 69.4.
(4) This section does not apply where there is a receiver in respect of the insolvent person.
Note, in particular, the requirements that the debtor be insolvent and that the realization on security is to be against "all or substantially all" of the debtor's assets. Although this statutory requirement was intended to displace the common law rule and to provide insolvent debtors with time to remedy a default before steps to enforce security are taken, s. 244 has been interpreted by courts as being a statutory minimum period of reasonable time to pay. See for example:
- Prudential Assurance, in which the creditor gave the debtor 41 days' notice to pay on a matured mortgage loan; and
- Pritchard, in which the debtor was given two-weeks' notice prior to the bank giving a 10-day notice of intention to enforce security.
While it's certainly true that since s. 244's inception, there has been little litigation with respect to creditors failing to provide proper notice, it seems that this concept is ripe for resurrection. Given the specific application of s. 244, there are many situations in which creditors try to enforce a security and the statutory minimum does not apply—this results in gaps that the common law, and specifically the Dunlop principles—help to fill. Between the gaps resulting from the limited application of the statutory notice period, as well as cases and commentary that have left open the possibility of the 10-day rule of s. 244 being expanded, a proper analysis and consideration of Dunlop in our current context is warranted.
The seven common law criteria
Below provides an overview of the seven criteria that are applied to determine what constitutes a reasonable time to pay at common law, as well as other factors that may be considered and examples of what factors support shorter versus longer times to pay. It should be noted at the outset that the criteria are not to be applied disjunctively—all of the circumstances must be viewed as a whole in determining the reasonableness of the notice. The criteria are as follows:
- The amount of the loan: generally, longer periods should be given for larger loans, as such sums are less readily available.
- The risk to the creditor losing his money or the security: for example, where a business has been losing money for some time, the security is equal to or less than the debt, the company has ceased business activities, and there is evidence that money is being diverted into other accounts (as opposed to being paid to the bank), a court may find that there is a serious risk and the bank may be in a position to enforce sooner.
- The length of the relationship between the debtor and the creditor: where there is a "long and satisfactory" relationship between the parties, a longer time period should be given.
- The character and reputation of the debtor: if there is a "justifiable apprehension of dishonesty on the part of the debtor," the reasonable time period may be shorter.
- The potential ability to raise the money required in a short period: if a debtor does not have the means to satisfy a demand, and therefore giving more time would serve no purpose, a shorter time period may be found.
- The circumstances surrounding the demand for payment; and 7. Any other relevant factor: these additional factors are addressed below.
Other factors that courts have considered include:
- The viability of the business: less time may be given to businesses that are not viable.
- If the debtor was in default of any obligations to its creditor at the time of the demand: if a debtor is not in default, reasonable time is to "be measured in weeks, rather than days."
- Prevailing local lending conditions: what constitutes reasonable time in an urban area may be different than in a rural area, and what constitutes reasonable time in a metropolitan area in which lending institutions have their head offices may be different from metropolitan areas that do not house senior decision makers.
- Prior notice given by the creditor that it no longer wishes to deal with the debtor: if a creditor has given a debtor prior indications that it intends to terminate the relationship, or that it may wish to terminate the relationship, the reasonable time period may be shorter.
- Past conduct: if a creditor has ignored past breaches of obligations by a debtor, such that it accepts the debtor's breaches as the status quo of the contractual relations, "greater scrutiny of the creditor's stated reasons for limiting the period of reasonable time would be justified."
- Good faith, or a lack of good faith, prior to the demand: while failure to act in good faith does not directly result in general damages, it may give rise to punitive damages and it "must be taken into account in determining the period of reasonable notice." "A creditor's absence of good faith in either its administration or call of a debtor's loan" would be highly relevant, and would be a factor carrying considerable weight in the determination of a reasonable time period.
In Murano, the bank demanded immediate repayment of loans by the debtor and appointed a receiver without notice. The receiver took possession of the debtor's stores two hours after the written demands were delivered. No effort was made to immediately contact the debtor, the bank instead notified the debtor through registered letters addressed to the debtor's home. The debtor's companies were not insolvent, nor were the companies in default under any loan obligation. In finding that the bank did not give the debtor reasonable notice, the Court reviewed the factors from Mister Broadloom and noted that to act without notice, exceptional circumstances must exist and that the bank would have "had to be at least reasonably certain" that the debtor was absconding.
The Court found that the debtor was not absconding and that the bank could not have reasonably concluded otherwise. Further, the business was the bank's patron for over five years, it had been profitable for over a year, the debtor was not intending to defeat the bank's security interest by moving the store in question and the debtor was willing to enter into a new security agreement with the bank. The Court's view was that the debtor could have repaid the funds had reasonable notice been given, as the debtor was a "tenacious entrepreneur" and the outstanding loans were not particularly large relative to the debtor's net worth and the funds available to the debtor. The Court concluded that the debtor was entitled, to at least the equivalent notice required by s. 244 of the BIA. The Court also noted that had the debtor been given a full month, the debtor would have been able to meet the bank's demands.
In Remarkable Energy Inc., in which the debtor was not provided reasonable time to repay the loan, the debtor had pledged a feed-in tariff (FIT) contract as security for a loan. The creditor foreclosed on its security and claimed that it owned the debtor's interest in the FIT contract. The notice provided that, in accordance with the PPSA (Ont), the debtor had 15 days to object.
Relying on Dunlop, the Court found that the creditor's "forthwith" demand for payment did not constitute reasonable notice. In particularly because: the creditor had failed to provide the debtor with proper details of the amount owning with the demand for payment, the amount demanded was overstated, the debtor had tried to raise funds to repay the loan but the creditor attempted to prevent the debtor form doing so, and lastly, the loan was not in danger of being unpaid, as the loan was fully secured by the FIT contract and the loan was personally guaranteed. The Court found that the debtor was entitled to relief from forfeiture and that the time to repay the loan was 60 days from whatever date the creditor provided the debtor with proper details and documentation.
In Schmidt, the bank gave the debtor 16 days notice before enforcing its security documents. This was considered more than reasonable time. While the Court did not determine what exact length of time would have been required given the circumstances, the Court noted that the following factors pointed to a short delay time: the company was in an "utterly hopeless financial" state, if the creditor realized on the security it would put the company out of business, the personal guarantees were essentially worthless, and finally because although the length of the relationship between the parties was long, since the debtor had been "far less than forthright with the bank" in regards to the debtor's financial situation, 16 days notice was found to be more than reasonable.
How might COVID impact the reasonable notice period analysis?
Many of the factors that are considered when determining a reasonable time seem to be rooted in the same question: Does the borrower have a reasonable chance to arrange refinancing to pay its creditors?
How might this play out in a world that is essentially on lockdown due to COVID? With debtors having limited access to remedies or replacement finance due to commerce having ground to a halt, as well as access to the court system being heavily limited, it seems difficult to imagine that the current situation would be ignored by courts under the broad reasonable time to pay criteria. Additionally, good faith by the creditor will likely come into play here. Previous case law has stated that a lack of good faith will be heavily weighed when determining what constitutes a reasonable time to pay. Moreover, the recent Supreme Court decision in Bhasin has infused contracts with an implied term of good faith.
What impact does Bhasin have on the reasonable time to pay analysis? Is the line of good faith moved due to COVID? How might this concept impact a lender trying to enforce its rights? At minimum, it seems likely that good faith will continue to be an emphasized factor in the analysis. Creditors should be cautious, as an absence of good faith in the administration or call of a loan will likely result in a longer time period being found and may result in further consequences, such as punitive damages. While we cannot predict for certain how courts will interpret a reasonable time to pay in light of the current pandemic, it seems possible, if not likely, that courts will find reasonable time to pay periods to be longer than the general 10-day standard.
Creditors should be wary of the potential consequences they may face if they fail to give debtors a reasonable time to pay. See for example W. Got & Associates, a Supreme Court case in which the bank was found to have given the debtor unreasonable notice in relation to a demand for payment and the appointment of a receiver, found that banks to liability in both contract and tort, including conversion (a fancy word for 'theft'). Given that the failure to abide by the requirement to give debtors a reasonable time to pay may have substantial adverse consequences for lenders, and given that we don't yet know how courts will interpret a reasonable time to pay in light of the current pandemic, lenders should be cautious to avoid enforcing a security interest without providing the debtor party with a well considered (and contextually generous?) reasonable time to pay.
References can be found in the attached PDF.