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Legal Guide


Involuntary and voluntary bankruptcy

Creditors may force a company into bankruptcy by filing a “bankruptcy application” with the court. To be successful, the creditor must be owed CA$1,000 or more, and the debtor must have committed an “act of bankruptcy” within the preceding six months. Once satisfied that the debtor should be adjudged bankrupt, the court may issue a “bankruptcy order”. However, the court retains the discretion not to grant a bankruptcy order if the court finds that the motivation of the applicant creditor is improper.

Alternatively, an insolvent company may “assign” its property to a trustee in bankruptcy for the general benefit of its creditors. The board of directors of the debtor company must resolve to assign the company into bankruptcy, complete the prescribed form and file it along with the directors’ resolutions with the office of the “Official Receiver”, which is part of the federal government.

Administration of the Bankruptcy

Once in bankruptcy, a debtor ceases to have the capacity to dispose of or otherwise deal with its property. Subject to the rights of secured creditors, the property of the debtor vests solely in the trustee in bankruptcy (“Trustee”), who is charged with the administration of the estate.

The primary responsibility of the Trustee is to deal with the property of the bankrupt. The Trustee must immediately take possession of all books, records and other documents of the bankrupt, to create an inventory of property.

At the meeting of creditors, the Trustee advises the creditors on the details of the causes of the bankruptcy, the assets of the bankrupt and the claims of creditors. The creditors who have filed a valid proof of claim with the Trustee prior to the meeting, may vote whether to confirm or replace the Trustee and appoint inspectors of the bankruptcy estate (“Inspectors”), who instruct the Trustee in the administration of the estate on behalf of the general body of creditors.

With few exceptions, all of the property of the bankrupt at the date of the bankruptcy, or that may be acquired before a discharge from bankruptcy, is divisible among its creditors. Generally, the Trustee may sell the property of the bankrupt or, more rarely, lease property. A Trustee is also permitted to carry on the business of the bankrupt, bring legal proceedings, retain a solicitor, borrow money, compromise claims made against the estate, and divide and distribute property to the creditors. However, to do any of these tasks, the Trustee must obtain the permission of the Inspectors or the court.

In order to participate in the administration of the bankruptcy estate and to receive payment of a dividend from the estate, a creditor must file a proof of claim with the Trustee in the form prescribed by the BIA. Subject to appeal to the court, the Trustee may disallow any claim in whole or in part. If the claim is approved, that creditor will share in the recovery from any realization on the property of the bankrupt. A scheme of distribution of funds realized from the disposition of the property of the bankrupt is set out in the BIA.

Scheme of distribution

The BIA allows very little flexibility in the distribution of any proceeds from the sale of assets of the bankrupt. Certain priority claims must first be dealt with in both a bankruptcy and a receivership (as discussed below). Subject to those priority claims, with limited exceptions, secured creditors are unaffected by a bankruptcy and are permitted to enforce their security over the assets of the bankrupt, once the Trustee and its counsel review the security documentation held by the secured creditor to ensure it is valid and enforceable. The BIA provides that some kinds of unsecured creditors are given priority in payment. These preferred creditors include the fees of the Trustee and its counsel, and some claims for rent. After preferred claims are paid in full, all other unsecured claims provable in bankruptcy are paid proportionately to the amount of the indebtedness.

Priority claims

There are a number of claims in both a bankruptcy and a receivership which have priority over all other creditors of a debtor company:

  • •     Governmental claims against the debtor for certain tax liabilities;
  • •     Employee claims for unpaid wages related to services rendered in the six months preceding the bankruptcy/receivership, up to a maximum amount of $2,000 per employee;
  • •     Claims relating to unpaid employee pension plan contributions and the “normal” employer pension contributions; and
  • •     Claims of unpaid suppliers to repossess goods that they have delivered to a debtor within the 30 days prior to the bankruptcy or receivership, which have not fully been paid for.

Unpaid suppliers must give notice in a prescribed form to the Trustee or Receiver within 15 days of the commencement of the bankruptcy or receivership in order to qualify for this remedy. As well, the goods must be in the possession of the Receiver or Trustee, remain identifiable, not sold or subject to a sale agreement with an arm’s length purchaser, and cannot have been altered from the state in which they were shipped.

Proposals

A business debtor may also gain protection from creditors if it appears likely that it may create a viable proposal to deal with the debts. To do so, the company may file with the Official Receiver a “Notice of Intention to Make a Proposal”. Upon filing the notice, the debtor is given a thirty-day stay against all proceedings by unsecured creditors and, in certain circumstances, secured creditors. The court may grant extensions on this stay for periods of up to forty-five days at a time. These extensions, however, cannot exceed a total period of five months following the initial 30-day stay. This allows the debtor to adequately prepare a proposal for its creditors. The notice of intention names a Trustee to monitor the affairs of the debtor, and prepare a projected cash flow statement from which the creditors must ultimately base their decision whether or not to accept the proposal. 

A business debtor may also gain protection from creditors if it appears likely that it may create a viable proposal to deal with the debts. To do so, the company may file with the Official Receiver a “Notice of Intention to Make a Proposal”.” Upon filing the notice, the debtor is given a 30-day stay against all proceedings by unsecured creditors and, in certain circumstances, secured creditors. The court may grant extensions on this stay for periods of up to 45 days at a time. These extensions, however, cannot exceed a total period of five months following the initial 30-day stay. This allows the debtor to adequately prepare a proposal for its creditors. The notice of intention names a Trustee to monitor the affairs of the debtor, and prepare a projected cash flow statement from which the creditors must ultimately base their decision whether or not to accept the proposal.

Within 21 days of filing the proposal, the Trustee must call a meeting of all creditors. At this time, a further stay is imposed on all creditors to whom the proposal is made. A proposal is deemed accepted by creditors if all classes of creditors vote in favor of its acceptance by a majority in numbers holding two-thirds of the indebtedness for such class of creditors. Moreover, one class of creditors voting against the proposal results in a deemed assignment into bankruptcy. Within five days of the creditors voting in favor of a proposal, the Trustee must apply to the court for a hearing of the application. A proposal will not become binding on the creditors in the absence of approval by the court. If a proposal is accepted by the requisite number of creditors and approved by the court, then those creditors affected by it are bound by its terms, whether or not they voted in favor of the proposal.

Reviewable transactions

The BIA gives the Trustee the right to examine certain transactions by a debtor prior to bankruptcy, and to set these transactions aside in certain circumstances. Insolvency legislation in Canada has recently been amended to modify the reviewable transaction remedies and to also make these remedies available in proceedings under the CCAA. 

Any transfer of property or payment of money within three months of the bankruptcy in favor of a creditor by an insolvent person that prefers the payment to one creditor over other creditors, may be deemed void as against the Trustee. Where the transfer or payment is in favor of a creditor who is related to the bankrupt, the review period is extended back a year prior to the date of bankruptcy.

The BIA also provides a Trustee with certain rights to attack transfers of property which were not made for adequate consideration, and seek redress against the recipient of the property or persons “privy” to the transaction.

In circumstances of preferences and fraudulent conveyances, provincial legislation may apply. For example, Ontario has the Assignments and Preferences Act and the Fraudulent Conveyances Act. In some instances, such legislation may provide alternatives to the provisions in the BIA. In other instances, such legislation may be the only available mechanism to effect any recovery. Generally, it is more difficult to set aside a transaction under provincial statutes than under the remedies provided for in the BIA.

The Assignments and Preferences Act applies to set aside transactions made by an insolvent person or a “person in contemplation of insolvency”, with the intent to give an unjust preference to a creditor. As a result, the transaction may be declared void. The Assignments and Preferences Act may also catch transactions that are outside the time periods of the BIA.

The Fraudulent Conveyances Act provides that every conveyance of real or personal property made with intent to defeat, hinder, delay, or defraud creditors or others, can be set aside by the creditor. Insolvency of the party transferring the assets is not a prerequisite to the application of this Act. The Fraudulent Conveyances Act may be available in circumstances where the provisions of the BIA would not apply.

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