Are “Services” Lienable If They Relate To Something That Is Not An “Improvement”?

Whether something put on land is an “improvement” for the purposes of construction and builders’ liens can be a difficult question of fact and law. Usually the dispute revolves around the degree of attachment of the “thing” to the land and the permanence of the attachment.

Then, add to that dispute the fact that “services” are provided to design the thing, bring it to the land or place it on or attach it to the land. Are the services lienable?

In Grey Owl Engineering Ltd. v. Propak Systems Ltd., the Saskatchewan Court of Appeal appears to have recently held that the services may be lienable even if the “thing” is not an improvement, as long as the services are in relation to a larger project that falls within the lien statute. I say “appears” because the court also seems to have held that the matter was not finally decided. So, while this decision is very important so far as it goes, it may not be the last word on this issue.

In making its decision, the Saskatchewan Court of Appeal over-turned the trial judge’s decision to the contrary: Propak Systems Ltd. v. Grey Owl Engineering Ltd. 2015 CarswellSask 91, 2015 SKQB 43. That lower court decision was reviewed by me in my article of April 28, 2015.

Background

A lessee of land contracted with Propak for engineering, procurement, and fabrication services for an oil extraction system to be provided by Propak for use on the leased land. Propak entered into a subcontract with Advanced Metal for the construction of three storage tanks to be used on the land as part of the extraction facility. In turn, Advanced Metal entered into a sub-subcontract with Grey Owl to provide engineering design services relating to those storage tanks.

The storage tanks were each to be 24 to 38 feet tall and weigh between 34,000 and 43,500 pounds. Each tank was to sit on an engineered gravel pad. Piles would run through the gravel pad and extend about 20 feet into the ground. An anchor chair was to be welded to the base of the tank and then bolted to the piles. The three tanks would then be connected to the entire oil extraction facility through steel and fiberglass piping that would be bolted to the tanks.

Grey Owl materially completed its design services, but Advanced Metal abandoned the project before any of the tanks were built and failed to pay Grey Owl for any of its engineering services. Grey Owl then registered a lien against the leased land pursuant to the Saskatchewan Builders’ Lien Act (the Act).

Propak applied to the Court of Queen’s Bench to vacate Grey Owl’s lien. Propak paid into court the full amount claimed plus an extra 25% as security for costs, and an order was granted vacating the lien.

Propak then applied to the Court of Queen’s Bench for an order releasing the amount held in Court on the ground that Grey Owl was not entitled to register a lien under the Act on the ground that Grey Owl was not entitled to a lien as its engineering services were not provided in relation to an “improvement” as defined in s. 2(1)(h) of the Act.

As noted in my article of April 28, 2015, the judge of first instance decided that Grey Owl did not have a valid lien. The judge held that the storage tanks were capable of being moved, being part of a modular system that could be relocated to another oil field. They were not designed to be moved around the site, but they were capable of being moved beyond that site once the project was finished. Since the tanks were capable of being moved, the judge held that they were not an improvement, and since they were not an improvement, Grey Owl’s claim of lien was not valid. The judge ordered that the money paid by Propak into court be released to Propak.

Decision of the Saskatchewan Court of Appeal

The Court of Appeal allowed the appeal and re-instated Grey Owl’s lien. In doing so, it first engaged in an interpretation of the Act. It noted the definition of “services” and “subcontractor” in the Act:

“(q) “services” means any labour done or service performed on or in respect of an improvement and includes the rental of equipment and the wages of any operator provided with the equipment …

(t) “subcontractor” means a person, not contracting with or employed directly by an owner or his agent, but who provides services or materials to an improvement under an agreement with the contractor or under him with another subcontractor, but does not include a labourer …(Emphasis added)”

The court then stated:

“In short, it is a mistake to begin and end the inquiry with whether the storage tanks are the improvement. The issue is whether Grey Owl provided “services” “on or in respect of an improvement for an owner, contractor or subcontractor” within the meaning of s. 22 and, as part of this analysis, identify the improvement in question.”

The court applied the approach taken in its prior decision in Hansen v. Canadian National Railway (1983), 22 Sask. R. 126 and other Saskatchewan cases which followed Hansen or applied the same logic. The court described this approach as follows:

“This approach, which focuses on the main contract or contracts rather than its individual subcontracts and the work being done under them, has been consistently followed and applied in this jurisdiction…..Courts appear to have taken it as self-evident that the improvement was the work the owner was performing on the land and not the work performed by the various subcontractors and others contracting with them.”

In enunciating the policy reasons behind this broad approach, the court adopted words of the court in Hansen: “the principal object of this Act is to better ensure that those who contribute work and material to the improvement of real estate are paid for doing so”. The court expanded on this approach as follows:

“Two factors dictate the Saskatchewan Legislature’s approach to its builders’ lien legislation. The first factor is that, unlike any other commercial endeavour, the work, services and materials supplied to an improvement are provided on credit in a pyramidal structure, where payment often depends on whether the parties in the pyramid above the lien claimant are paid. The second factor is that the ordinary law of contract does not provide sufficient remedies to ensure that the contract funds flow from the top of the construction pyramid to those entitled to receive them. The statute supplements the law of contract and fosters the provision of credit in a complex piece of legislation designed to assist and facilitate construction….A restrictive reading of s. 22 does not serve the interests of those who provide services and materials on credit. To do so would not be in line with the protective purpose of the Act. Arguably, a restrictive reading of s. 22 does not serve the commercial interests of the owner and financier of an improvement either in that uncertainty as to who is or who is not entitled to a lien can only increase costs, either in the fixing of the contract price or in the litigation that will inevitably arise.”

The court then considered three questions: did Grey Owl provide “services”; were the services provided to a “subcontractor”; and were the services in relation to “an improvement”?

On the first issue, the court had no doubt: “First, it is clear that Grey Owl provided “services.” The definition of “services” includes “any labour done or service performed,” including equipment rental. The definition of “improvement” in s. 2(1)(h)(iii) also demonstrates the clear legislative intent to extend rights to those who provide design services.”

On the second issue, the court also had no doubt: “Second, it is also incontestable that Grey Owl contracted with a “subcontractor,” i.e., Advanced Metal.”

The only issue was whether the services to the subcontractor were in relation to an “improvement.”   On this issue, the court said the following:

“As can be seen from the Stauth affidavit, Grey Owl was retained to provide engineering drawings with respect to storage tanks that were to be used by the contractor or principal subcontractor “as part of their oil extraction system.” In such circumstances, it is an error to ask whether the claimant claims a lien in the storage tanks as an “improvement.” Applying Hansen, the “improvement” with respect to which the legislation is concerned is the project that will lead to the extraction of oil.”

Having arrived at this conclusion, the court did not finally order that Grey Owl’s lien was valid. Rather, it said the following

“When this principle is understood, it is clear that Propak’s application could not be allowed. It is not sufficiently plain and obvious that Grey Owl’s lien is invalid on the basis put forward by Propak: that Grey Owl did not provide services “on or in respect of an improvement for an owner, contractor or subcontractor” in accordance with s. 22…..Having found error in the decision of the Chambers judge, it is necessary to determine the next step. As I have indicated, Grey Owl did not ask this Court to go on to make any other order, if we were to allow the appeal. Grey Owl maintains the position it took in the Court of Queen’s Bench that Propak’s application should be dismissed leaving the parties to pursue the usual remedies under the Act….In the end, the appeal must be allowed. The Chambers judge erred by not dismissing Propak’s application under s. 56(4). The effect of allowing the appeal is that the parties resume the same positions they occupied before the application was made. Grey Owl’s lien continues to be a charge on the funds in court according to s. 56 until further steps are taken by the parties dealing with the funds and until further order of the Court of Queen’s Bench.

Discussion

If this decision finally concluded the issue as to whether the services provided by Grey Owl were lienable services, as it appears to have, then it has stated, or re-stated, an important principle, at least in Saskatchewan. That principle is that, in determining whether the services provided by a sub subcontractor to a subcontractor in relation to something placed on the land by the subcontractor, one looks to the whole work on the site, not (just) the work or material of the subcontractor.

However, the Court of Appeal declined to make an order to that effect, and instead found that it was not plain and obvious that Grey Owl had no lien. Yet, there does not seem to be any further evidence that would be needed to arrive at the final conclusion. It appears that the only reason that the court did not make that finding is that Grey Owl did not ask for it, or that there might be other reasons that Grey Owl’s lien could be challenged so the court was not precluding any such debate.

The principle that the Court of Appeal has apparently adopted seems to leave sub-subcontractors who are instrumental in providing improvements in different positions. If the sub-subcontractor provides the physical improvement itself – in the present case, the tanks – then if those tanks are not attached to the land and are moveable, then the Court of Appeal seems to have assumed that they are not improvements and no lien could be registered by that sub-subcontractor. But if the sub-subcontractor provides services to the subcontractor in relation to the provision of the tanks, then according to the Saskatchewan Court of Appeal, those services are lienable because one looks to the overall project. In that context, the total project amounts to an improvement to the land and so the services to design or install the tanks are lienable because they are part of the overall improvement.

Why should the services in relation to something brought onto the land be lienable when that something itself is not lienable? Certainly the policy behind the statute is well expressed by the Court of Appeal, but why should that policy apply to the services in relation to that thing if the policy does not apply to the thing that is brought onto the land (and the person who brought it there)?

The Saskatchewan legislature has said that the Act (and its policy) do not apply to the thing itself if it is not an “improvement”. Section 2 of the Act includes within the definition of improvement the following words: “except a thing that is not affixed to the land or intended to become part of the land.” That is where the Act has drawn the line. If that is so, can the policy behind the Act draw the line at a different place for the services?

See Heintzman and Goldsmith on Canadian Building Contracts, (5th ed.), chapter 16, parts 4(a)(i))II and 4(a)(ii).

Grey Owl Engineering Ltd. v. Propak Systems Ltd., 2015 SKCA 108, 2015 CarswellSask 612

Construction and Builders’ liens – improvement – services – subcontractors

Thomas G. Heintzman O.C., Q.C., FCIArb                                                                       October 30, 2015

www.heintzmanadr.com

www.constructionlawcanada.com

 

Interpretation Saves Contract From Penalty Doctrine

Contract law contains a fundamental rule: penalty clauses are prohibited and liquidated damage clauses are permitted. But in its recent decision in Ottawa Community Housing Corp. V. Foustanellas, the Ontario Court of Appeal held that there is another way to look at this rule. The clause is valid if, properly interpreted, the clause delays, but does not permanently affect, the exercise of the contractor’s rights. In this case, the clause is not a penalty or liquidated damages clause at all. Parties about to enter into a building contract should examine this decision to see if there are ways to draft the contract to avoid the penalty doctrine but achieve much of the desired result.

Background

Ottawa Community Housing Corp. (OCHC) entered into a contract with Argos Carpets, of which Foustanellas was the principal. OCHC later determined that Argos was overbilling OCHC. OCHC then notified Argos that it was withdrawing the remaining work under the contract and withholding payment of the past amount due under the contract. At trial, Arogos argued that the contractual provision in question amounted to a liquidated damages clause and limited, to the withheld payment, the amount which OCHC could recover against it.

Clause 1.6.1 of the contract entitled OCH, in certain circumstances, to “take the whole operation, or any part of the operation out of the hands of the Contractor.” The owner relied upon that clause to take the remaining work out of Argos’ hands.

Clause 1.6.3 stated that:

     “…where any or all of the work has been taken out of the hands of the Contractor, the Contractor will not be entitled to any further payment, including payments then due and payable but not yet paid. The obligation of the Owner to make payments will cease, and the Contractor will be liable upon demand to pay the Owner an amount equal to all of the losses and damages incurred by the Owner for the non-completion of the work.”

Decision of the Ontario Court of Appeal

The Court of Appeal held that clause 1.6.1 entitled the Owner to terminate the contract on the happening of events which triggered that clause. If that occurred, the courts said, then the owner was entitled to invoke clause 1.6.3.

The Court of Appeal agreed with the trial judge that clause 1.6.3 was neither a penalty clause nor a liquidated damages clause as recognized in established contract case law. Rather, clause 1.6.3 had two effects:

“ First, it relieves the owner (OCHC) from any obligation to make payments to the contractor, including in respect of unpaid receivables, pending determination of the owner’s losses and damages arising from the contractor’s non-compliance with the carpet contract. Second, it establishes the contractor’s (Argos’) liability to the owner (OCHC) for an amount equal to the owner’s losses and damages occasioned by the contractor’s non-completion of the work provided for under the carpet contract.

Thus, properly interpreted, clause 1.6.3 functions as a “stop payment” provision. It is designed to halt the owner’s contractual obligation to make any payments to the contractor pending the determination of the owner’s losses and damages arising from the contractor’s breach of contract.”

The Court of Appeal found that several ingredients of the contract supported its interpretation of clause 1.6.3.

First, the clause did not state a specific amount which was recoverable by the owner, such as one would expect to find in a penalty or liquidated damages clause.

Second, the amount due to the contractor could vary widely from job to job, making the clause a sensible delay of the rights of the contractor on all jobs until the owner’s damages could be assessed.

Third, the fact that the clause gives the owner the right to set off its claims against the contractor’s entitlement to payment for work “does not convert clause 1.6.3 into a penalty or liquidated damages provision.”

Discussion

Clause 1.6.3 might have been held to be an unenforceable penalty clause if its effect was to forfeit the monies due to the contractor when the balance of the contract work was taken out of its hands. Or, if the amount of the forfeiture was a reasonable estimation of the owner’s damages – an apparently unlikely scenario – the clause might have been held to be effective as a liquidated damages clause which set the amount of the owner’s maximum entitlement as the amount owed to the contractor when the work was taken out of its hands, as the contractor argued. Instead of determining the dispute according to the traditional penalty/liquidated damages debate, the trial and appeal court took the debate to an entirely different debate – one about the proper interpretation of the contract.   And they found that all the clause did was defer the contractor’s right to enforce its claim to monies due until the owner’s claim for damages was determined.

This decision is a good example of the rule of contract interpretation known by its Latin name: ut res magis valeat quam pereat: or, that the thing shall have effect rather than perish. In other words, if there is an interpretation that saves the validity of the contractual provision, it should be preferred over one that would cause it to perish. In this case, interpreting the clause to delay the rights of the contractor gave force and effect to the clause which might otherwise have been an ineffective penalty clause.

A party negotiating a building contract should consider this decision when deciding what remedies it really wants in the event of a breach of the contract by the other party. If the party really wants a definitive fixing of the amount due by the wrongful party, then this decision will not help it. In that situation it will have to face up to the penalty/liquidated damages rule and all the perils that the rule involves. If the amount fixed is later considered by the court to be an unrealistic estimation of the damages flowing from the breach, then the clause may be struck down as a penalty clause.

But if the party really wants a means to forestall the other party from collecting monies due under the contract until its own damages are determined, then this decision offers a way to accomplish that result.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed. Chapter 2, part 3(d), Chapter 4, part 3(h) and Chapter 9, part 6(j).

Ottawa Community Housing Corp. V. Foustanellas (2015), 125 O.R. (3d) 539

Building contracts – interpretation – penalty clauses – liquidated damages clauses

Thomas G. Heintzman O.C., Q.C., FCIArb                                                     October 14, 2015

www.heintzmanadr.com

www.constructionlawcanada.com

 

 

Damage To The Rebar And The Deflection Of Floor Slabs Are Covered Under Builders’ Risk Policy: B.C. Court Of Appeal

The extent of coverage under Builders’ Risk policies is a matter of continuing debate in Canada. Insurers try to draft policies which do not cover the poor workmanship of contractors, and contractors continue to insist that they have bought and paid for insurance which covers damage to the work in progress. And so the debate continues to rage with neither party apparently able to draft a policy which is clear to both parties.

The latest chapter in the ongoing saga is the decision of the British Columbia Court of Appeal in

Acciona Infrastructure Canada Inc. v. Allianz Global Risks US Insurance Co.. In this case, the over-deflection of the concrete floor slabs caused damage to reinforcing bar in the floor, cracking of the floor and a sloped floor that had to be sanded down, all involving an expense of $14 million. The insurer argued that this was a clear case of poor workmanship not covered by the policy. The trial judge held that these costs were covered by the policy and his decision was upheld by the Court of Appeal.

Those concerned with insurance coverage in the construction industry are well advised to consider whether this result was due to the peculiar facts, or to the wording of the policy.

Background  

Acciona entered into a contract to design and build a reinforced concrete structure as an addition to the existing hospital and hired Campbell Construction as the principal subcontractor to design and build the concrete framework and slabs.

The slabs were designed with an upward camber or crown of 30 mm in the centre of the slab. The camber was part of the design of the slabs so that, with the curing of the slabs and during their normal life, the slabs would be level. The camber was to be achieved by the particular formwork to be used for making the floors, the wedges inserted into those forms, and plywood sheathing into which the concrete was placed. Re-enforcing bars (“rebars”) were placed in the forms and then concrete poured into the forms.

When the pouring of the concrete was completed, some of the slabs over-deflected, resulting in the rebars being over-stretched and cracking of the slabs. While the testing of the slabs showed that they met applicable design criteria and standards, the uneven floors were unacceptable from a hospital-use standard. The only solution was to grind down the slabs to make them flat. That resulted in isolation of the building, extensive work, and cleaning.

Under its Builders’ Risk policy with Allianz, Acciona claimed $14.9 million including subcontractor costs of $4,050,949, indirect costs of $1.6 million, management fees of $550,000 and a profit margin of $1.6 million.

As the Court of Appeal noted, the crucial finding of the trial judge was that “the over-deflection and cracking of the slabs and bending of the rebar was not caused by defective design, but by defective formwork and re-shoring procedures during construction …. The over-deflection, bending and cracking were caused by the failure of the formwork and re-shoring procedures to account for the thin design” of the slabs.

Decision of the Court of Appeal

  1. Initial Coverage

Clause 3 of the policy insured against ALL RISKS of direct physical loss of or damage to the property insured. The trial judge found that the cracks in the slab and the damage to the rebar due to over-deflections were not merely defects in the slabs themselves, but rather constituted damage. The trial judge found that:

“the slabs were not defective as designed and built but were damaged as a result of inadequate support while they cured. In particular, because of the inadequate shoring procedures, the slabs over-deflected and cracked, and the rebar inside the slabs was damaged irreparably.”

Relying on that finding, the Court of Appeal said:

“The Insurers’ argument – that the over-deflection, bending and cracking was a manifestation of faulty workmanship and therefore not damage to property – is inconsistent with the trial judge’s finding of fact that the defect was a state of affairs (faulty or defective shoring) and the damage was the result of an occurrence (over-deflection).”

The insurers also argued that the slabs could only be “damaged” if they were once in a satisfactory state but no longer, and the slabs were never in an initially satisfactory state. The Court of Appeal rejected that argument, saying:

“To accept that argument would be to deprive the Contractor of any insurance coverage for unfinished work during construction, which cannot be what the parties intended. The Policy, a course of construction policy, was clearly intended to afford coverage for damage to property that was in a partially finished state. In any event, the rebar that was damaged was installed correctly and undamaged before the faulty shoring caused it to become deformed.”

  1. Exclusion

The policy excluded:

“all costs rendered necessary by defects of material workmanship, design, plan, or specification and should damage occur to any portion of the Insured Property containing any of the said defects the cost of replacement or rectification which is hereby excluded is that cost which would have been incurred if replacement or rectification of the Insured Property had been put in hand immediately prior to the said damage.”

The policy also went on to said that “any portion of the Insured Property shall not be regarded as damaged solely by virtue of the existence of any defect of material workmanship, design, plan or specification.”

The insurers argued that this exclusion was very different than the usual exclusion in a Builders’ Risk policy which excludes damage to the insured’s own work but not “resulting damage.” The insurers said that the whole of the work was excluded from coverage because the over-deflection, bending and cracking was a manifestation of a defective design. The contractor argued that the exclusion required a sequential analysis:

first, there must be a finding of damage under the policy;

second, the total cost to repair and rectify the damage must be determined; and then

third, from that recoverable cost, the policy excludes only those costs of repair that would have remedied the defect immediately prior to the occurrence of the damage.

The trial judge agreed with the contractor’s interpretation of the policy. He held that “the excluded costs are those that would have remedied or rectified the defect before the cracking and over deflections occurred i.e. the costs of implementing proper formwork and shoring/reshoring procedures or incorporating additional camber into the formwork.” Since there was no evidence of the cost, he concluded that those costs would have been minimal, and no more than the defective procedures that were in fact implemented.

In the Court of Appeal, the insurers made two attacks on the trial judge’s decision.

First, they said that the trial judge had effectively relied upon the “insured’s own work v. resulting damage” approach contained in other policies, and that the exclusion in this policy was not such an exclusion.

Second, the insurers argued that the trial judge’s interpretation made no commercial sense because it would only exclude minimal amounts of preventative measures, which could not be what the parties intended as it would never address the real and substantial effects of poor workmanship.

The Court of Appeal rejected both arguments of the insurer.

First, the court pointed out that the trial judge had made the “crucial” finding that the defects in the framing and shoring had resulted in the slabs being damaged. On the basis of that fact, the slabs were not a “portion of the insured property containing any of the said defects” within the exclusion.

Second, the trial judge had interpreted and applied the wording in the exclusion, and had not just applied the “resulting damage” analysis.

Third, the fact that the resulting damage falling within the exception in this case was minimal was “coincidental “and in other circumstances the exclusion could result in significant costs being outside the policy.”

  1. Subcontractor costs.

Of the $14.9 million claim, increased subcontractor costs amounted to $4,050,949. The trial judge and the Court of Appeal held that these costs were not direct costs that fell within the coverage of the policy. Neither court explained exactly what the “increased subcontractor costs” were. The overall repairs were described by the Court of Appeal as follows:

“the slabs were ground to make them flat. This grinding created silica dust and certain areas had to be shot blasted. As a result, each wing had to be isolated and sealed using polyurethane and negative air pumps. Once the repair work was completed, extensive cleaning was required in order to meet hospital standards.”

The Court of appeal said that trial judge had disallowed these costs for the following reason:

“He agreed with the Insurers that such costs are of a different nature than the direct costs incurred as a result of physical loss of or damage to the property insured. Increased subcontractor costs arose out of the Contractor’s contractual obligations to the subcontractors and, therefore, fell outside the scope of coverage.”

On this basis, the costs were held not to be direct costs, even though they apparently arose from the rectification of the damaged slabs.

Discussion    

The trial court and Court of Appeal did not find that the finished concrete floors were defective floors due to bad workmanship. Rather, they found that the rebar and concrete slabs were damaged by separate elements – defective formwork and wedging. The exclusion clearly demonstrated that coverage was intended to be provided when one part of the work damaged another part.

The real question in these cases is: when are parts of the work different, and when are they the same and part of the same thing? There does not seem to be any clear way to differentiate between the two parts of the work. As Heintzman and Goldsmith on Canadian Building Contracts says:

“The idea behind this exception is that only the property to which the exception applies is the property that itself was faulty or improper or the subject of faulty workmanship or design or inherent vices of latent defects, and not any other insured property.”

The cases cited in that book show how difficult it is to draw the line. In some cases, the entire building or structure has been held to fall within the exception, and not just the inadequate brace or defective part which led to the damage. In a recent Alberta case, when window cleaners scratched the windows during the final clean-up of the building, the damage to the windows was excluded by the faulty workmanship exclusion: Ledcor Construction Limited v Northbridge Indemnity Insurance Company, 2015 CarswellAlta 511, [2015] 8 W.W.R. 466.

In the present case, however, the court was able to conceptually separate the two elements. In the absence of a definitive line, the ambiguity will likely be interpreted in favour of the insured.

The courts’ interpretation of the exclusion is particularly interesting because, by its differently worded exclusion, the insurer was trying to avoid the “resulting damage” line of cases. On the court’s interpretation, however, the wording that the insurer came up with only excluded the costs arising from another way of doing the same work properly, a result with which the insurer was not happy. One wonders whether the line between the faulty work and the non-faulty work is too difficult to draw and the insurers would be better off to eliminate the exclusion and re-price the insurance.

The courts’ exclusion of the subcontractor’s costs is perplexing. There was no real explanation what these costs were and why they were not covered. If the least expensive way to repair the slab was by the subcontractor doing the repair work, then it is hard to understand why these costs were not the direct costs of the damage. If, in order to qualify the costs as the direct costs of the damage and avoid the exemption, it is necessary to bring in another contractor – even if it is more expensive to do so – that does not seem to be a sensible approach. If the present decision requires that approach to be adopted, then in the future the contractor may have to obtain the insurer’s agreement that the remedial work can be done by the subcontractor, or if not, retain another firm to do the work, even at a greater cost.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed. chapter 14, part 3(b)(ii)

Acciona Infrastructure Canada Inc. v. Allianz Global Risks US Insurance Co., 2015 CarswellBC 2210, 2015 BCCA 347

Thomas G. Heintzman O.C., Q.C., FCIArb                                     October 10, 2015

www.heintzmanadr.com

www.constructionlawcanada.com

 

 

Trust Fund Obligations Continue After A Lien Bond Is Filed: Supreme Court Of Canada

The Supreme Court of Canada recently released its highly anticipated decision in Stuart Olson Dominion Construction Ltd. v. Structal Heavy Steel. The court has held that the trust fund obligations on a construction project did not terminate when the contractor filed a bond in respect of the subcontractor’s lien.

This decision is of fundamental importance to building contracts and construction projects. It means that, even after posting a bond for a subcontractor’s or supplier’s goods and services, an owner and contractor must continue to hold and pay funds due in respect of the construction project to those who are entitled to those funds down the payment chain. They cannot rely upon the bond as discharging that obligation.

Those sympathetic with the contractor’s position may assert that piling the trust fund obligation onto the owner or contractor once a lien bond has been filed is burdensome and unfair. However, the Supreme Court held that enforcing trust fund obligations in addition to the lien rights fortifies and strengthens the whole statutory regime.

Background

Stuart Olson Dominion Construction Ltd. (then known as Dominion Construction, and referred to herein and in the judgment as Dominion) was the general contractor for the construction of a new football stadium for the University of Manitoba. Structal was its structural steel subcontractor. Structal filed a builder’s lien against the property. Dominion filed a lien bond for the amount of Structal’s lien claim. Structal approved the bond and vacated its lien. Dominion continued to receive progress payments from the Owner. Structal asserted that Dominion was still required to comply with the trust provisions of the Act even though a bond had been provided for its lien. Dominion refused to make further payments to Structal and maintained that it had a set-off against the monies claimed by Structal, that there was no breach of trust, and that Structal was fully secured by the lien bond.

Structal notified the owner that it should withhold a $3.5 million payment from Dominion or it would bring a claim against if for violation of the trust provision of the Act. The owner then required Dominion to bring an application in the Manitoba Court of Queen’s Bench seeking a declaration that it had satisfied its trust obligations to Structal. If that order had been granted, then the owner could have used those withheld monies to pay other trust claimants and then other creditors. Structal then filed its own motion requiring full payment of its past-due invoices, without deduction or set-off, upon Dominion receiving the funds from the Owner.

The motion judge held that the filing of the lien bond extinguished the trust obligations of Dominion under the Manitoba Builders’ Liens Act (the Act or BLA). The Court of Appeal reversed this decision, holding that the subcontractor’s right to enforce a statutory trust was entirely separate from its right to file a lien claim, and that the subcontractor was entitled to enforce both rights even though a lien bond had been provided to secure the lien claim.

Decision of the Supreme Court of Canada

The Supreme Court recognized that there were two preoccupations of the construction industry at stake in this case:

First, ensuring payment of contractors and subcontractors; and

Second, encouraging liquidity in the flow of funds during the job.

The question in the present case was whether protecting the first preoccupation, by enforcing the trust claim, would interfere with or jeopardize the second, the flow of funds during the project. The Supreme Court found no such interference or jeopardy. Indeed it found that enforcing the trust fund provisions in this situation would enhance, while not enforcing whose provisions would undermine, the purpose of the statute:

“The purpose of the statutory trust was articulated by the Manitoba Court of Appeal in Provincial Drywall: “The trust provisions are designed to help assure that money payable by owners, contractors and subcontractors flows in a manner which is in accord with the contractual rights of those engaged in a building project and it is not diverted out of the proper pipeline”……Finding that a trust claim is extinguished by filing a lien bond would undermine this purpose. A lien bond merely secures a contractor’s or subcontractor’s lien claim rather than satisfying it through payment and it does not extinguish the owner’s or contractor’s obligations under the statutory trust. The filing of a lien bond has no effect on the existence and application of the trust remedy.” (paras. 40-41)

The court noted that this conclusion is consistent with the word “all” which is used twice in section 4(3) of the Act. That subsection requires that the contractor not divert trust funds for its own use until all subcontractors have been paid all amounts owing to them.

The court noted that in Manitoba, the trust provisions were formerly contained in The Builders and Workers Act, while the lien provisions were found in The Mechanics’ Liens Act. In the statutes of Manitoba 1980-81, the two statues were repealed and incorporated into the Act. But, as the court said, “the legislature did not expressly delineate how the lien and trust provisions were to interact in situations such as this case, where both remedies are pursued at the same time by a contractor or subcontractor.” Accordingly, while Dominion submitted that the trust fund provision was a secondary mechanism designed to protect lien rights and provided no wider protection, the court found no basis for that submissions: “The trust remedy originated in a statute that did not provide a lien mechanism and it was not altered to limit its applicability when both were incorporated into the BLA. Rather, both remedies exist independently.” (para. 35)

The court also noted that the two provisions contain different rights and affect different persons:

“The lien provisions do not impose obligations on contractors or subcontractors with respect to funds received. Trust funds, on the other hand, cannot be appropriated for other purposes until all subcontractors, all persons who have supplied materials or services have been paid (s. 4(3)(a)). Moreover, pursuant to s. 16 no lien can encumber the interest of the Crown, a Crown agency, or a municipality. There is no similar exclusion with respect to the trust provisions of the Act (see s. 3(1)).” (para. 32)

The court accordingly concluded:

“Nothing in the BLA suggests that the lien and trust provisions do not remain as two separate remedies. This is not to deny that a contractor or subcontractor may have both a lien and trust claim and that the funds sought under each remedy may be the same. But this does not change the fact that the claimant has access to both of these remedies.” (para. 38)

The court then addressed Dominion’s submission that the filing of the lien bond terminated the subcontractor’s trust fund rights. It rejected that submission for two reasons.

First, it held that if Dominion’s submission were correct, then if the subcontractor’s lien action failed (because, for instance, it had filed the lien claim late), then the subcontractor would also lose its trust fund rights. That result was clearly not envisaged by the legislation which contemplates that the two remedies may be independently asserted.

Second, the court rejected Dominion’s submission that maintaining the separate enforceability of the trust fund and lien claims would result in double payment of the subcontractor when the owner provides a lien bond and also has trust funds or is receiving trust funds from the owner. It did so by making two points.

First, a lien bond is not payment to the subcontractor, but only a promise of payment by the bonding company if the subcontractor succeeds in its lien action.

Second, the decision to obtain a lien bond, rather than pay the trust monies into court, is one for the contractor or owner to make. While that choice may result in double security, it does not result in double payment:

“There may be circumstances where a contractor will choose to maintain double security where there are lien and trust claims for the same work, services, or materials, by acquiring a lien bond while still holding trust funds. However, a contractor can avoid double security by paying cash into court pursuant to s. 55(2) instead of depositing a lien bond……..So long as the trust funds themselves are deposited with the court, the funds are secure and the trust has not been breached….A lien bond involves only an assurance that the surety will pay the amount of any lien judgment should the lien defendant fail to do so. The bond does not constitute security for the trust claim and does not result in the protection of the actual trust monies at issue. An owner, contractor, or subcontractor who chooses to file a lien bond with the court instead of depositing the funds at issue must maintain the trust fund in addition to the bond.” (paras. 46-47)

The court concluded with the observation that:

“Dominion chose to provide security by way of a lien bond rather than payment of funds into court. It is true that it paid premiums for that bond which are not recoverable, but that is simply the cost of the security which it chose to provide. Structal will not receive double payment.” (para. 49)

Discussion

There are many interesting points to discuss about this decision, but here are a few:

  1. It is important to remember that, assuming that the owner pays the monies on the project in accordance with its statutory obligations, the owner will only be liable for the holdback. In Manitoba, the owner’s holdback is 7.5 percent of the monies due under the main contract, and in Ontario and most other provinces the holdback is 10 percent. So normally, by its lien the subcontractor is seeking to protect its right to that holdback in the owner’s hands. However, the trust provisions apply to any monies due on the project up and down the pipeline of payment. So if the contractor’s position had been upheld, that would have dramatically limited the trust fund rights of subcontractors, sub-subcontractors and suppliers.
  1. In some provinces, such as Alberta and Ontario, the subcontractors all share in the monies paid into court or protected by security such as a lien bond, even if those monies or that security are initially paid or provided to take one particular lien off the title to the property. In Saskatchewan, it is only the lien claimant whose lien is discharged by payment into court or by provision of security who is entitled to the money in court or other security, and in Manitoba, New Brunswick and Prince Edward island the lienholder whose lien is discharged by the payment into court or provision of other security has a first charge on those monies or security. So, the argument that a lien bond is not payment, and far from it, is even stronger in the former provinces than the latter.
  1. The Supreme Court noted that, In Manitoba the lien provision and the trust fund were in different statutes as recently as 1981. In other provinces, such as Ontario, the lien and the trust fund provisions have been in the same lien statute for a long time. The Supreme Court noted that the legislative history in Manitoba supported its conclusion that the lien rights and trust fund rights are entirely separate, and that accordingly the trust fund rights are not eliminated by the provision of a lien bond. However, it seems unlikely that this distinction will make any difference in interpreting these lien statutes. The reasoning of the Supreme Court about the distinction between lien rights and trust fund rights appears to apply to all those provincial statutes.
  1. Trust fund rights start at different levels in different provincial statutes. In some provinces, they start at the owner’s level. Thus, in Manitoba, monies received by the owner that are to be used in the financing of the improvement, or are in the hands of the owner and payable to a contractor on the basis of a certificate of a payment certifier, are trust funds. In Ontario, the trust fund remedy was first introduced at the contractor level in 1942, and expanded to the owner level in 1969. The regime in Nova Scotia and Saskatchewan is similar to the present regime In Manitoba and Ontario. In other provinces, such as Alberta, the trust fund starts at the contractor level, and it is monies received by the contractor after a certificate of substantial completion has been issued that are trust funds for the benefit of persons who have performed work or provided services on the project. This difference may have been very material in the present case. If the trust fund obligation only commenced if and when the monies were paid to the contractor Dominion, then Structal may have had no right to give notice to the owner and demand that the trust fund rights be adhered to at that level. If that is so, then there may be “leakage” in the payment pipeline at the owner’s level in some provinces that this decision will not address. One wonders whether, in those provinces where the trust fund remedy starts at the contractor level, the legislation should be amended to move that remedy to the owner level for the sake of consistency across Canada and to ensure that the payment pipeline applies to all levels of the project.
  1. An underlying but unstated issue in this case was whether the imposition of the subcontractor’s trust fund rights, in addition to its lien rights against the land or the lien bond, would be unfair, or commercially unreasonable by interfering with the flow of funds during the construction project. In the absence of proof of those sort of circumstances, the wording of the statute showed that the subcontractor was entitled to assert both rights. The owner and contractor were not able to show such unfairness or commercial unreasonableness. On the face of the court’s judgment, there is nothing to indicate that they sought to show that the flow of funds would be interfered with or jeopardized; and the court found that the monies due under the main contract could be paid into court so that no double payment would occur. The court was not impressed by any unfairness arising from paying a premium for the lien bond rather than paying the money into court. That was simply a business, cash flow and financing decision for the contractor. In the result, there was no commercial unreasonableness to the subcontractor’s assertion and, in the court’s view, much to support it in terms of keeping the monies due on the project in the payment pipeline.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed. Chapter 16, parts 4(m) and 6.

Stuart Olson Dominion Construction Ltd. v. Structal Heavy Steel, 2015 SCC 43

Construction and builders’ liens – trust fund provisions – lien bonds

Thomas G. Heintzman O.C., Q.C., FCIArb                                   September 28, 2015

www.heintzmanadr.com

www.constructionlawcanada.com

Foreign Judgment Is Enforceable Without Proof Of Connection To Canada: Supreme Court Of Canada

In its recent decision in Chevron Corp. v. Yaiguaje, the Supreme Court of Canada has held that a foreign judgment may be enforced in Canada without the claimant demonstrating that the claim or the judgment debtor has any connection to Canada. Rather, it is the claim’s connection to the jurisdiction where the judgment was rendered that makes its enforcement in Canada conform to the principles of international law.

This decision now settles the law on this point and enables Canadian courts to enforce foreign judgments without worrying about whether the underlying dispute has anything to do with Canada. For those interested in arbitration, the question is whether the principles stated by the Supreme Court in the Chevron decision apply to the enforcement of foreign arbitral awards.

Background

The forty-seven plaintiffs in the Canadian action represent about 30,000 indigenous Ecuadorian villagers who are seeking damages for environmental harm they allege was caused by Texaco’s operations in their region. Texaco later merged with Chevron. The plaintiffs obtained a judgment from an Ecuadorian trial judge, which was affirmed by the Appellate Division of the Provincial Court of Justice of Sucumbíos. Ecuador’s Court of Cassation upheld the judgment except with respect to punitive damages. The total amount owing under the Ecuadorian judgment is US$9.51 billion.

The plaintiffs sued in Ontario for the recognition and enforcement of the Ecuadorian judgment. They served Chevron at its head office in California. They served Chevron Canada, an indirect subsidiary of Chevron, both at an extra‑provincially registered office in British Columbia and at its place of business in Ontario.

Chevron and Chevron Canada brought motions to set aside the service of the claim on the basis that the Ontario court had no jurisdiction to hear the action because the dispute and Chevron had no real and substantial connection to Ontario. The motion judge ruled that the court did have jurisdiction but nevertheless stayed the action on its own initiative under section 106 of the Ontario Courts of Justice Act. He held that: Chevron did not own, had never owned and had no intention of owning assets in Ontario: Chevron did not conduct business in Ontario; there was no basis to assert that Chevron Canada’s assets are Chevron’s assets for the purposes of enforcing the Ecuadorian judgment; and there was no legal basis for piercing Chevron Canada’s corporate veil.  In sum, there was “nothing in Ontario to fight over” and therefore no reason to allow the claim to proceed. In the Court of Appeal and the Supreme Court, Chevron and Chevron Canada made no submissions in support of this self-standing relief.

The Ontario Court of Appeal held that it was not appropriate for the court to impose a discretionary stay under s. 106. Such a stay should only be granted in rare circumstances, and not as a “disguised, unrequested and premature” ruling on a motion which might be made later in the proceedings, or as a forum non conveniens motion imported into a stay motion.

On the jurisdictional issue, the Court of Appeal held that the court in Ecuador had a real and substantial connection with the subject matter of the dispute or with the defendant Texaco (now Chevron). Therefore, an Ontario court has jurisdiction to determine whether the foreign judgment should be recognized and enforced in Ontario against Chevron. Chevron Canada carried on business in Ontario and had a significant relationship with Chevron. Accordingly, the Court of Appeal held that the Ontario court has jurisdiction to adjudicate a recognition and enforcement action against Chevron Canada.

Decision of the Supreme Court of Canada

The Supreme Court of Canada upheld the jurisdictional decision of the Ontario Court of Appeal, and did so on a matter of principle:

“In an action to recognize and enforce a foreign judgment where the foreign court validly assumed jurisdiction, there is no need to prove that a real and substantial connection exists between the enforcing forum and either the judgment debtor or the dispute.  It makes little sense to compel such a connection when, owing to the nature of the action itself, it will frequently be lacking. Nor is it necessary, in order for the action to proceed, that the foreign debtor contemporaneously possess assets in the enforcing forum.  Jurisdiction to recognize and enforce a foreign judgment within Ontario exists by virtue of the debtor being served on the basis of the outstanding debt resulting from the judgment.”

With respect to Chevron Canada, the Supreme Court held that the Ontario court had jurisdiction over that company because it was served at its place of business in Ontario.

The Supreme Court held that its conclusion on the jurisdictional issue was based on three reasons:

“First, this Court has rightly never imposed a requirement to prove a real and substantial connection between the defendant or the dispute and the province in actions to recognize and enforce foreign judgments.  Second, the distinct principles that underlie actions for recognition and enforcement as opposed to actions at first instance support this position.  Third, the experiences of other jurisdictions, convincing academic commentary, and the fact that comparable statutory provisions exist in provincial legislation reinforce this approach.  Finally, practical considerations militate against adopting Chevron’s submission.”

The court then proceeded to explain and expand upon each of those reasons. On the first point, it reviewed its previous decisions in Morguard Investments Ltd. v. De Savoye, Beals v. Saldanha, Club Resorts Ltd. v. Van Breda and Pro Swing Inc. v. Elta Golf Inc. and held that nothing in its decision in Van Breda – which did not deal with the enforcement of judgments – had over-ruled or affected the clear line of authority in its other judgments to the effect that a real and substantial connection must be shown between the dispute and the court granting judgment on the dispute, not between the dispute and a court enforcing that judgment.

On the second point of principle, the court stated two reasons why the real and substantial test should not apply to enforcement:

“First, the crucial difference between an action at first instance and an action for recognition and enforcement is that, in the latter case, the only purpose of the action is to allow a pre-existing obligation to be fulfilled.  Second, the notion of comity, which has consistently underlain actions for recognition and enforcement, militates in favour of generous enforcement rules.”

The court emphasized that a rule that the defendant itself or its assets be in the enforcing jurisdiction would be contrary to order and fairness. The defendant may well be absent from that jurisdiction since the only point of the enforcement exercise is to seize assets in that jurisdiction. And as to assets:

“…assets such as receivables or bank deposits may be in one jurisdiction one day, and in another the next.  If jurisdiction over recognition and enforcement proceedings were dependent upon the presence of assets at the time of the proceedings, this may ultimately prove to only benefit those debtors whose goal is to escape rather than answer for their liabilities, while risking depriving creditors of access to funds that might eventually enter the jurisdiction…..In today’s globalized world and electronic age, to require that a judgment creditor wait until the foreign debtor is present or has assets in the province before a court can find that it has jurisdiction in recognition and enforcement proceedings would be to turn a blind eye to current economic reality.”

The court then noted that its decision was consistent with international comity and order:

“Requiring a real and substantial connection through the presence of assets in the enforcing jurisdiction would serve only to hinder these considerations, which are important for commercial dealings in an increasingly globalized economy……. Facilitating comity and reciprocity, two of the backbones of private international law, calls for assistance, not barriers.  Neither this Court’s jurisprudence nor the principles underlying recognition and enforcement actions requires imposing additional jurisdictional restrictions on the determination of whether a foreign judgment is binding and enforceable in Ontario.”

The court indicated how important the principle was by stating that its ruling would end the debate in Canada:

“…an unambiguous statement by this Court that a real and substantial connection is not necessary will have the benefit of providing a “fixed, clear and predictable” rule, which some say is necessary in this area….Such a rule will clearly be consistent with the dictates of order and fairness; it will also allow parties “to predict with reasonable confidence whether a court will assume jurisdiction in a case with an international or interprovincial aspect”……..Moreover, a clear rule will help to avert needless and wasteful jurisdictional inquiries that merely thwart the proceedings from their eventual resumption.”

It is of interest to those engaged in arbitration that, in coming to its conclusion, the court relied upon the enforcement sections in the statutes relating to international commercial arbitration. It noted that:

“…analogous provisions found in other Ontario statutes do not impose an obligation on the plaintiff to establish that the defendant has assets in the province or some other conceivable connection with the forum.  For example, the Ontario International Commercial Arbitration Act, which permits registration of foreign arbitral awards, does not require that the debtor be present or have assets in Ontario.  Article 35(1) of the Schedule to that Act provides that “[a]n arbitral award . . . shall be recognized as binding and, upon application in writing to the competent court, shall be enforced subject to the provisions of this article and of article 36.”  Article 36(1) lists various grounds for refusing recognition or enforcement of such awards.  None of those grounds is based upon the absence of a real and substantial connection between either the underlying dispute or the defendant and Ontario, or upon an absence of assets….. the Reciprocal Enforcement of Judgments Act, R.S.O. 1990, c. R.5, which supplies an expedited mechanism for registering and enforcing the judgments of the other Canadian provinces and territories, contains no such requirement either……..all the common law provinces and territories have statutes providing for the recognition and enforcement of foreign arbitral awards or of judgments from the United Kingdom.  They also have similar statutes providing for the expedited registration or recognition of judgments from specified jurisdictions.  In Quebec, it is art. 3155 of the Civil Code of Québec that provides for the recognition and enforcement of foreign decisions.”

In concluding its judgment, the court made it clear that it was not ruling on any of the substantive grounds of defence that might be available to the Chevron companies. All it was ruling on was that the court had jurisdiction to deal with the plaintiffs’ claim for enforcement of the Ecuadorian judgment.

Discussion

This decision should not be a surprise. It is consistent with the existing common law and the statutes and Rules of Civil Procedure relating to the enforcement of foreign judgments. Indeed, a ruling that a foreign judgment could only be enforced if the defendant or the original dispute had a real and substantial connection to the enforcing jurisdiction may have placed serious barriers to the enforcement of foreign judgments and impaired the credibility of the international enforcement of judgments.

The more interesting issues are those that arise from this decision in other settings. Thus, the court stated definitively that the test for determining jurisdiction stated in Van Breda should only be applied to tort claims:

“”First, it should be remembered that the specific connecting factors that LeBel J. established in Van Breda were designed for and should be confined to the assumption of jurisdiction in tort actions.  His comments with respect to carrying on business in the jurisdiction, at paras. 85 and 87, were tailored to that context……..The connecting factors that he identified for tort claims did not purport to be an inventory covering all claims known to law, and the appropriate connecting factors can reasonably be expected to vary depending on the cause of action at issue.” (emphasis added)

This pronouncement means that, for other causes of action, for instance contract claims, the Van Breda test does not apply. That conclusion may come as a surprise to some.

Second, a further issue will be whether the test enunciated in the Chevron decision should be applied to arbitration claims, and in particular international arbitration claims. Because of this issue, the Chevron decision is of interest to the law of arbitration. There seem to be no good reasons why the same test should not be applied to the enforcement of international arbitration awards. Indeed in the Chevron decision, the Supreme Court relied on the statues relating to international commercial arbitrations and noted that they did not contain any requirement that there be a real and substantial connection between the enforcing jurisdiction and the claim. Similarly, the British Columbia Court of Appeal has recently held that there is no need to establish that the enforcing jurisdiction is a convenient forum when seeking enforcement of a foreign commercial arbitral award: Sociedade-de-Fomento Industrial Private Ltd. v. Pakistan Steel Mills Corp. (Private) Ltd, 2014 CarswellBC 1499, 2014 BCCA 205 (B.C.C.A.). See my article dated June 29, 2014 about this decision.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed., chapter 11, part 12.

Chevron Corp. v. Yaiguaje, 2015 SCC 42

Enforcement of foreign judgments – real and substantial connection – comity

Thomas G. Heintzman O.C., Q.C. FCIArb                                       September 20, 2015

www.heintzmanadr.com

constructionlawcanada.com

Who Is Entitled To The Holdback Funds: The Contractor’s Trustee In Bankruptcy Or The Payment Bond Surety?

When a contractor goes bankrupt and the bonding company pays the subcontractors, who is entitled to the holdback funds in the owner’s hands: the contractor’s trustee in bankruptcy or the bonding company? In Iona Contractors Ltd. (Receiver of) v. Guarantee Co. of North America, the Alberta Court of Appeal recently held that the bonding company is entitled to the funds.

This decision raises an important issue with respect to the constitutional enforcement of the provincial lien legislation in light of the federal bankruptcy legislation. The majority of the Court of Appeal held that, when the holdback is in the owner’s hands, the trust fund provisions of the Alberta Builders’ Lien Act are enforceable as against the contractor’s trustee in bankruptcy and the holdback funds are payable to the subcontractors, or the bonding company which has paid those subcontractors. The minority judge held that those provisions are not constitutionally enforceable and that the holdback funds are payable to the contractor’s trustee in bankruptcy.

Background

Iona Contractors and the Calgary Airport Authority entered into a contract for the construction of improvements to the airport. Under the contract, Iona was required to deliver a Performance Bond, and a Labour and Material Payment Bond to guarantee payment to the suppliers of materials and labour. Guarantee Company of North America was the surety under both bonds.

When the work under the contract was substantially complete, the contractor went into bankruptcy and some of the subcontractors remained unpaid. The Airport Authority used $182,869 to complete deficiencies in the contract work, which left $997,715.83 still in the Airport Authority’s hands (the “holdback”). Guarantee paid out $1.48 million under the Payment Bond to settle the outstanding accounts of Iona’s subcontractors. It claimed the holdback to recoup these payments. At the same time, the trustee in bankruptcy of the contractor also claimed the holdback.

The Alberta Court of Queen’s Bench held that contractor’s trustee in bankruptcy was entitled the holdback. This decision was reversed by the Alberta Court of Appeal, which held that Guarantee was entitled to those monies.

Decision of the Alberta Court of Appeal

There were two issues in this case:

  1. First, the contract issue. Were there any monies owing by the owner to the contractor at the time the contractor went bankrupt?
  2. Second, the trust fund issue. If there were monies owing to the contractor, were those monies “trust funds” which were being held in trust for the sub-contractors?

Were there monies owning to the contractor when it went bankrupt?

Guarantee argued that, under the terms of the contract between the owner and the contractor and the definition of “Work” in that contract, there was no money owing to the contractor. Guarantee submitted that, because the subcontractors were not paid, the “Work” was not complete. The owner was entitled to take the payment to the subcontractors out of the contractor’s hands, and once this occurred then there was nothing owing to the contractor.

The contractor’s trustee in bankruptcy asserted that, since there was no contractual relationship between the owner and the subcontractors, there was no “obligation” on the owner to pay subcontractors. The Court of Appeal held that the issue at this stage was not whether the owner had an “obligation” to pay the subcontractors but whether it has the “right” to do so under the prime contract with the contractor. The Court of Appeal held that, even if payment by the owner to the subcontractors was permitted under the provisions of that contract, those provisions became inoperative after the contractor’s bankruptcy. The Court of Appeal said:

“There is nothing objectionable about a provision in a contract allowing the owner to complete work that was not performed by a bankrupt contractor, and to deduct the amount from what was otherwise owing to the contractor. Section 97(3) of the Bankruptcy and Insolvency Act allows such set-offs. After a bankruptcy, however, no such clause is effective to the extent that it gives a discretion to the owner to pay creditors of the bankrupt contractor otherwise than as authorized in the Bankruptcy and Insolvency Act…..The appellant argues that when the construction contract and the bond are read together, they disclose an obligation on the part of the Airport Authority to “mitigate” the exposure of the surety, which includes using the holdback funds to pay the subcontractors. Even if the agreements, when read together, disclose some intention to minimize the exposure of the surety, the private arrangements between the owner, the contractor, and the bonding company cannot affect the rights of third parties like the Trustee in bankruptcy and the secured creditor. Whatever rights the appellant may have were not registered at the Personal Property Registry, and cannot displace the rights of the secured party….It follows that the appellant is unable to succeed based on its argument that no money was due to Iona under the contract.”

Were the holdback funds trust funds to which the subcontractors or bonding company were entitled?

The majority of the Alberta Court of Appeal held that the holdback funds were impressed with a trust under the provisions of the Alberta Builders’ Lien Act (the “BLA”) that the subcontractors were entitled to those funds by reason of that trust, and that the bonding company was subrogated to those rights of the subcontractors since it had paid the subcontractors’ claims. The logic of its decision was as follows:

  1. The Alberta BLA creates a “comprehensive, integrated system that provides some assurance to subcontractors that they will get paid for improving land” and the trust fund provisions are part of that system.
  2. These trust provisions apply when a certificate of substantial performance is issued, as had occurred in this case. The Act “effectively uses the mechanism of a trust to avoid the diversion of the holdback funds, after the issue of the certificate of substantial completion, but before the funds actually reach the unpaid subcontractors. If, in this situation, the [holdback] had been paid by the Airport Authority to Iona or the Trustee, under the statute the recipient would have held the funds in trust for the subcontractors.”
  3. While the owner was an airport falling under federal legislative jurisdiction, so that its lands could not be liened, the trust fund provisions applied to the holdback funds.
  4. There is a constitutional issue as to whether the federal The Bankruptcy and Insolvency Act (the “federal bankruptcy Act”) or the provincial BLA On the one hand, the federal bankruptcy Act takes effect in the context of, and subject to, the general provincial law of property, including trust law. On the other hand, the provinces cannot enact legislation to contradict the priority regime in the federal Act. In each case it is a question of which side of the line the provincial legislation falls. The majority of the Alberta Court of Appeal held that the statutory trust created by the Alberta BLA fell on the valid and enforceable side of the line, for the following reasons:
    1. The trust provisions are part of the basic provincial law. They were not designed to frustrate the priorities in the federal bankruptcy Act or to use “form over substance” in that process.
    2. The trust fund provisions satisfied the “three certainties” required for a valid trust: certainty of intention, certainty of objects and certainty of subject matter.
    3. So far as the certainty of subject matter, the statutory trust met the required degree of certainty:

      “…there is certainty of subject matter. Section 22 provides that once a certificate of substantial completion is issued, any “payment by the owner” is subject to the trust. At this stage the owner’s primarily obligation will be to pay out the holdback, and its obligation to do so represents a discrete chose in action. That chose in action is the subject matter of the trust. If, as the Trustee postulates, the Airport Authority had written a cheque for $997,716 to Iona, that bill of exchange and those funds would have been trust assets in Iona’s hands.

    4. There may be an issue as to whether a trust which only comes into existence after bankruptcy can ever be asserted against the priority regime set forth in the federal bankruptcy Act. However, that issue did not have to be decided in this case: “The lien rights arise the minute the work is done, and the funds which are captured by the trust were quantified in the hands of the Airport Authority on the date of bankruptcy…: Nothing in this case about the timing of the formation of the trust or the bankruptcy would render the statutory trust invalid or inoperative.’
    5. Guarantee was subrogated to the rights of the unpaid subcontractors. Once it paid the subcontractors, it became entitled to enforce all of the subcontractors’ rights under the BLA.

The dissenting judge, Justice Paperny, agreed with all of the conclusions of the majority, except for one. She found that there was no certainty of subject matter with respect to the statutory trust created under the provincial Act. Accordingly, that trust did not prevail over the federal bankruptcy Act.

Justice Paperny arrived at this conclusion for the following reasons:

  1. Establishing certainty of subject matter depends upon the facts of each particular case, not upon a rule of law. For certainty of subject matter to exist, there must be a “specific, identifiable res that forms the subject matter of the trust.”
  2. The Alberta BLA is different from some other provincial BLAs. Under the Alberta Act, no trust comes into existence until payment is made to the contractor, whereas under the Saskatchewan BLA, the owner and the contractor are trustees of all funds in the owner’s hands that are payable to the contractor.
  3. On the evidence, there was no sufficient certainty of subject matter:

    “The chambers judge reviewed the evidence and submissions of counsel and concluded that, once the funds in the hands of the Airport were paid to Iona they would be immediately commingled with funds from other sources and any certainty of subject matter lost. That conclusion is supported by the language of s. 22 of the BLA, which does not obligate a contractor who receives payment to segregate the funds….There is no basis to interfere with her conclusion on the point.”

Comment

This decision raises an issue of great importance to construction law, namely, the enforceability of the trusteeship provisions of provincial lien legislation in the face of federal bankruptcy legislation. The majority and minority arrived at opposite conclusions on this issue, leaving uncertainty as to which result will be arrived at by other provincial courts. It is surprising that this constitutional issue is still outstanding having regard to the long history of lien legislation in Canada.

This decision raises the following issues:

  1. The minority decision turns, in part, upon the fact that the Alberta BLA does not expressly create a trust in respect of funds held by the owner, but only over funds once paid to the contractor. The lien Acts in Alberta, British Columbia and New Brunswick are similar in this respect. In Ontario, Nova Scotia, Manitoba and Saskatchewan, the trust starts at the owner’s level. If the constitutional enforceability – or certainty of enforceability – of the trust provision depends upon the legislation starting the trust at the owner’s level, then provinces like Alberta may want to consider amending their lien legislation to start the trust provision at the owner’s level.
  2. It is difficult to see how much more certain the subject matter of the trust –if there then was a trust – could be when the funds were in the owner’s hands. If the funds had been paid into court, it would seem that certainty of subject matter would exist. The mere fact that they could be paid to the contractor and co-mingled with the contractor’s other funds does not seem to alter the conclusion that, in the owner’s hands, the funds are specific and certain. If the funds while in the owner’s hands are not trust funds at that point, then their status at the time they are paid to the contractor – which had not happened – seems irrelevant.
  3. The fact that the contractor might co-mingle the funds received by the owner with other funds seems to be an unsatisfactory basis for finding uncertainty of subject matter. If the contractor in fact receives money from the owner in respect of the particular project, the case law imposes a heavy onus on the contractor to explain what has become of the money and to account for it, and to demonstrate that payments out of those funds were properly made. It seems contrary to the policy behind the trust fund provision to put forth the possible co-mingling of those funds as a ground for holding that the provision is constitutionally unenforceable.
  4. A key ingredient in the analysis is whether the right of the contractor to payment of the holdback funds is subject to trust law. Is that right – or chose in action– the subject matter of a trust claim? The majority appears to have said yes. The minority judge does not focus on that issue, but rather on the holdback funds as funds. There is a considerable appellate law in Canada dealing with whether contract claims can be the subject matter of the trust provisions of the provincial lien statutes. In this appeal, the majority held that this law meant that the contractor’s right to the holdback was subject to the statutory trust in favour of the subcontractors, and the minority held that it did not.

It is to be hoped that this decision will be reviewed by the Supreme Court of Canada so that it may finally determine the constitutionality of the trust fund section of the Alberta lien legislation.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed., chapter 16, part 6.

Iona Contractors Ltd. (Receiver of) v. Guarantee Co. of North America, 2015 CarswellAlta 1286, 2015 ABCA 240

Building contracts – Construction and Builders’ Liens – Trust Fund Provisions – Constitutionality

Thomas G. Heintzman O.C., Q.C., FCIArb                                                                                                August 11, 2015

www.heintzmanadr.com

www.constructionlawcanada.com

 

Review Of Arbitral Awards: Where Is Sattva Taking Us?

The decision of the Supreme Court of Canada in Creston Moly Corp. v. Sattva Capital Corp., 2014 SCC 53 (Sattva) is a seminal decision in the review of arbitral awards. That decision apparently set a wide net of protection around arbitral awards. It did so by ruling that an arbitral award interpreting a contract should usually be considered to be based upon mixed fact and law. Accordingly, such an arbitral decision may not be appealed if the only ground of appeal is an error of law. Moreover, if the decision is otherwise reviewable by the court, then the standard of review is reasonableness, not correctness. However, the Supreme Court said that, if a separate issue of law can be discerned in the arbitral award, then the decision can be reviewed on a standard of correctness. The Sattva decision has been reviewed in my previous article dated August 10, 2014.

The Sattva decision was recently applied by the British Columbia Court of Appeal in Teal Cedar Products Ltd. v. British Columbia. The Teal decision is important because the two decisions in Sattva and Teal both arose from appeals from decisions of the British Columbia Court of Appeal. The Teal case was sent back by the Supreme Court of Canada to the B.C. Court of Appeal to be re-considered in light of the Sattva decision.  

The Background To The Teal Decision

The Teal decision was reviewed by me in an article dated December 1, 2013 relating to an earlier decision of the Supreme Court of Canada relating to the award of compound interest.

Teal had been issued timber licenses by the province of British Columbia under the B.C. Forest Act. By ministerial order, Teal’s allowable annual cut and cut areas were reduced. Teal was entitled to compensation and its claim was submitted by the parties to arbitration. That claim included a claim for interest. In the original decision of the B.C. Court of Appeal, the majority of that court held that the arbitrator had mis-interpreted the statutory provisions applicable to Teal’s substantive claim and the provisions relating to interest. That decision was appealed to the Supreme Court of Canada. In light of its decision in Sattva, the Supreme Court ordered that the appeal in Teal v. B.C. be re-heard by the B.C. Court of Appeal.

Second Teal Decision

The B.C. Court of Appeal noted that Sattva involved an arbitrator’s interpretation of a contract, not a statute. The court said that, according to Sattva, an arbitrator’s decision interpreting a statute should be reviewed on a standard of reasonableness when “the error of law is within the expertise of the arbitral tribunal and is not a question of law of central importance to the legal system as a whole.” Teal argued that the decision of the arbitrator in the present case fell into neither exception and that therefore the arbitrator’s decision should be given deference and only set aside if it was unreasonable.

The B.C. Court of Appeal disagreed. It said:

“None of the criteria that might justify the deference associated with the reasonableness standard of review in respect of statutory interpretation is present here. Specifically, it is not suggested the arbitrator had any specialized expertise in forest legislation or forestry tenures and it certainly could not be said the Act was his “home” statute. Although the parties chose the arbitrator (the Court is not privy to the reasons for his selection), it is significant that arbitration was statutorily required (Act, s. 6(6)). As the Province says, the statutory interpretation question that arose — the meaning of compensation in s. 6(4) — was an issue of importance to compensation statutes generally, and arose for the first time under the Act in this arbitration. We agree with the Province these factors point to a standard of correctness…”

Furthermore, the B.C. Court of Appeal said:

“In any event, Sattva did not explicitly restrict, or provide an exhaustive list of, the exceptional circumstances in which an arbitrator’s award based on a question of law would be reviewable on a standard of correctness. The Court was providing examples that cannot be read as excluding the interpretation of a statute.”

In the result, the court held that the interpretation of the Forestry Act was a question of law to which a correctness standard applied. Since the arbitrator’s interpretation of the Act was not correct, it was properly set aside in the prior decision.

In any event, the court held that the arbitrator’s decision was unreasonable and should be set aside under the unreasonableness test. According to the court, the arbitrator’s decision “provides for a substantial publicly financed windfall, which would serve no purpose”. The arbitrator’s award was based upon “the depreciated replacement value of all of the improvements made to Crown land in the affected areas of each of Teal’s three tenures” while the proper interpretation of the Act only provided compensation for the holder’s “actual financial loss.”

In determining what a “reasonable” decision of an arbitrator is, the B.C. Court of Appeal adopted its prior decision in  British Columbia Hydro and Power Authority v. British Columbia (Workers’ Compensation Board), 2014 BCCA 353, in which it had given the following meaning to the word “reasonable”:

“A reasonable decision must be both factually and legally defensible. Where the legal issue under examination is one of statutory interpretation, the common objective of both administrative decision makers and courts must be to ascertain the intent of the legislature by applying the “modern principle” of statutory interpretation. This requires an examination of the words of the provision under consideration according to their grammatical and ordinary sense, in their entire context, and in harmony with the scheme and object of the Act. The fact that the choice between reasonable interpretations falls to the administrative decision maker does not absolve it from following this cardinal principle…”.

Since the Forestry Act provided for “compensation”, the arbitrator’s award of an amount which was “in no way linked to Teal’s actual financial loss” was not consistent with this principle and was therefore unreasonable.

The B.C. Court of Appeal then turned to the question of whether its prior decision dealing with interest should be upheld in light of the Sattva decision. The arbitrator had allowed interest despite a clause in the arbitration agreement that the Province submitted precluded interest. The Chambers judge had held that the arbitrator’s interpretation of the contract was based upon a consideration of the surrounding circumstances, and therefore amounted to a question of mixed fact and law, not a question of law. Since the arbitration statute in British Columbia only permits an appeal on a question of law, there was no right of appeal.

In its prior decision, the B.C. Court of Appeal had held that the decision of the arbitrator raised a pure question of law. It had held that the arbitrator’s decision had changed the plain meaning of the arbitration agreement, which precluded the award of interest, and that decision therefore amounted to an error law. Accordingly, the court had set aside the arbitrator’s decision.

In its present decision, the B.C. Court of Appeal held that nothing in Sattva required its prior decision to be changed, for three reasons:

  1. In Sattva, the Supreme Court had adopted the B. C Court of Appeal’s approach to identifying a question of law. In the present decision, the B. C. Court of Appeal said:

“It seems clear that what the Court did in Sattva was to largely endorse the approach to ascertaining what constitutes a question of law and of mixed fact and law in contractual interpretation that has in recent years been taken by some courts as reflected in the authority cited which includes the Hayes Forest Services and Otter Bay decisions of this Court. As indicated, that is the authority upon which the reasons given for the majority [in the previous Teal decision] are predicated in determining that the arbitrator’s interpretation of the Settlement Framework Agreement and Addendum #2 raise a question of law.”

In other words, the B.C. Court of Appeal held that the Supreme Court in Sattva endorsed the B.C. Court of Appeal’s approach to identifying a discrete point of law in an arbitrator’s decision, thereby entitling a reviewing court to review the decision based upon an error of law.

  1. In Sattva, the Supreme Court had not suggested or found that an error of law cannot be found in an arbitrator’s decision just because the arbitrator had regard to the surrounding circumstance. The B.C. Court of Appeal said:

“To the contrary, it is because contractual interpretation is an exercise in applying legal principles to the express language of an agreement considered in the circumstances that questions of law can arise.”

Accordingly, the B.C. Court of Appeal held that in its prior decision it had been correct in identifying a question of law even though the arbitrator’s interpretation of the agreement was based upon the surrounding circumstances.

  1. In Sattva, the Supreme Court had reiterated that the extraneous circumstances cannot over-ride the plain meaning of the contract. That is the principle that the B.C. Court of Appeal had applied in its prior decision.

Accordingly, the B.C. Court of Appeal upheld its prior decision setting aside the arbitrator’s award of interest on the ground that that decision was contrary to the plain meaning of the Settlement Framework Agreement.

Discussion

The initial impression of Sattva was that it would substantially reduce the scope of review of arbitral decisions because the Supreme Court held that the interpretation of an agreement is normally a matter of mixed fact and law. Many arbitration statues only permit appeals on a question of law, not mixed fact and law. Accordingly, it was thought that Sattva had substantially eliminated appeals from arbitral decisions interpreting agreements.

This decision of the B.C. Court of Appeal in Teal v. B.C. may lead to the opposite conclusion for numerous reasons:

  1. The B.C. Court of Appeal has confirmed that Sattva has opened wide the evidence that must be considered in interpreting a contract. Now, the surrounding circumstances may and should be considered in interpreting the contract. While those circumstances cannot “overwhelm” the plain meaning, they may be considered, and once considered it is obvious that there is a wider basis for controversy or dispute, and uncertainty, about the real meaning of the contract.
  1. The B.C. Court of Appeal has held that if the arbitrator is considering a statute, then the standard of review is correctness, not reasonableness. So now there are two different standards of review, one for contracts and one for statutes.
  1. The B.C. Court of Appeal has adopted a very strict test of “reasonableness”. The test appears to adopt almost all the ingredients of the correctness test. It is hard to imagine an interpretation of a statute that, under its test, will be found to be an incorrect but reasonable interpretation.
  1. Even though the arbitrator has considered the surrounding facts, that does not preclude the court from finding or identifying an error of law. It is not the arbitrator’s process that is important. It is not a question of whether the arbitrator found or operated upon a principle of law that is incorrect. Rather, it is a question of whether the court can identify in, or distill from, the arbitral decision an error of law. If it can, then that decision may be set aside. Indeed, the B.C. Court of Appeal found that in Sattva, the Supreme Court had approbated its prior approach in identifying errors of law in arbitral decisions.
  1. The B.C. Court of Appeal has said that the decision in Sattva does not provide an “exhaustive list” of those circumstances in which an arbitral award may be reviewed on the basis of correctness. This means that courts may find other grounds for applying the correctness standard.

When all these ingredients are added up, the principles applied by the B.C. Court of Appeal seems to be very much the same as those which courts have historically applied in reviewing arbitral decisions. So perhaps, plus ca change….

Teal Cedar Products Ltd. v. British Columbia, 2015 BCCA 263, 2015 CarswellBC 1550

Arbitration – Appeal and Review of Arbitral Decisions – Standard of Review – Error of Law

Thomas G. Heintzman O.C., Q.C., FCIArb                                   July 7, 2015

www.heintzmanadr.com

www.constructionlawcanada.com

Can A Change To A Construction Contract Be Set Aside For Duress Or Coercion?

Building projects often give rise to heated discussions. When a change order is made in that sort of situation, can one party later say that the change order was made under duress or coercion? The Newfoundland Court of Appeal said Yes in the recent decision in Hickey’s Building Supplies Ltd. v. Sheppard.

Background Facts

This decision was reviewed in the last article June 7, 2015. To refresh our memories the facts were as follows:

Mr. and Mrs. Sheppard hired Hickey’s to build them a retirement home. Mrs. Sheppard suffered from a type of sensory neuropathy that meant that she had no sensation from her elbows to her hands and below her knees, and both feet were amputated. She moves on two prosthetic feet and a wheelchair. Hickey’s understood that the home was being constructed to suit Mrs. Sheppard’s requirements. The construction of the home was more than a year late. When constructed, the flooring was not level and there was a quarter inch difference in height between the ceramic tile flooring in the kitchen and the hardwood flooring in adjacent rooms. The flooring deficiencies were aesthetically objectionable and presented tripping hazards to able-bodied people, but especially to Mrs. Sheppard.

One of the issues in the case was whether the Sheppards had agreed to a change in the height of the ceiling from 9 feet to 8 feet. The contractor said that he had discussed the height of the ceiling with Mr. Sheppard who had agreed to the lower ceiling. The contractor submitted that the Sheppards had waived any requirement of 9-foot ceilings.

Mr. Sheppard said that when he met with the contractor, the meeting degenerated into shouting. Mr. Sheppard said that he agreed to the 8-foot ceilings because he could not countenance any further delays in the project. Mrs. Sheppard said that the contractor was adamant that “we’re not getting nine foot walls.”

Decision of the Court of Appeal

The Court of Appeal adopted the following definition of waiver:

“waiver…arises where one party to a contract, with full knowledge that his obligation under the contract has not become operative by reason of the failure of the other party to comply with a condition of the contract, intentionally relinquishes his right to treat the contract or obligation as at an end but rather treats the contract or obligation as subsisting. It involves knowledge and consent and the acts or conduct of the person alleged to have so elected, and thereby waived that right, must be viewed objectively and must be unequivocal.”

The court then adopted the following test as to whether waiver had occurred:

“…a finding of economic duress is dependent initially on two conditions precedent:

(i) the contractual variation must be extracted by pressure in the form of a demand or threat;

(ii) the exercise of pressure must be such that the coerced party has no practical alternative but to comply with the demand or threat.

If these two conditions are met, the focus shifts to whether the party consented to the contract variation. The factors to be considered are (i) whether the promise was supported by consideration (ii) whether the coerced party protested the variation or executed it on a “without prejudice” basis and (iii) [if not,] whether the coerced party took steps to disavow the variation on a timely basis.”

Based on this test, the court concluded that:

“the evidence regarding the heated discussion between Mr. Sheppard and the Contractor leads to the conclusion that there was a demand amounting to pressure on Mr. Sheppard to agree to the eight-foot rather than nine-foot walls. In the circumstances, the Sheppards had no practical alternative but to accept this change. The change was not supported by any consideration from the Contractor. Finally, the Sheppards vehemently protested the variation.”

The Court of Appeal accordingly upheld the trial judge’s conclusion that the contractual requirement for 9-foot ceilings had not been waived by the owners.

Discussion

Parties to a building contract should remember that the negotiation for changes to some building contracts may be a fragile exercise, at least in some circumstances. One of the parties to the contract may be under a financial, emotional, physical or other handicap or impairment. That party may be the owner, but it also may be a supplier or subcontractor which is in a position of financial vulnerability. If that party has no real option but to acquiesce in the demand for a change in the contract, and if there is no consideration for that change, then the conduct of the party demanding the change may be later seen as over-bearing and coercive. If it is, then that conduct may be set aside and the change order, or waiver of the original contract, may be nullified.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed. chapter 8, section 7(b)(ii)

Hickey’s Building Supplies Ltd. v. Sheppard (2014), 36 C.L.R. (4th) 15, 2014 CarswellNfld 353

Building contracts – change orders – waiver – duress and coercion – rescission

Thomas G. Heintzman O.C., Q.C., FCIArb                                                       June 15, 2015

www.heintzmanadr.com

Can General Damages Be Awarded For The Breach Of A Building Contract?

Generally speaking, damages for a non-financial loss are not awarded for the breach of a business contract. That is because those sorts of damages are not foreseeable. The breach of a business contract may give rise to anxiety and distress, but that result is usually thought of as part of the vicissitudes and rough and tumble of commerce.

But, according to the Supreme Court of Canada’s decision in Fidler v. Sun Life Assurance Co. of Canada [2006] 2 S.C.R. 3, non-financial losses for mental distress can be awarded in certain circumstances. . The court acknowledged that “a breach of contract will leave the wronged party feeling frustrated or angry. The law does not award damages for such incidental frustration.” However, the court said that it “is otherwise….when the parties enter into a contract, an object of which is to secure a particular psychological benefit.” Accordingly, general damages for breach of contract may be awarded if that sort of damage was “in the reasonable contemplation of the parties at the time the contract was made,” and that will be the case if

(1) an object of the breached contract was to secure a psychological benefit that brings mental distress upon breach within the reasonable contemplation of the parties; and

(2) the resulting degree of mental suffering was of a degree sufficient to warrant compensation.

Can a building contract satisfy those conditions and give rise to damages for mental distress? According to the recent majority decision of the Newfoundland Court of Appeal in Hickey’s Building Supplies Ltd. v. Sheppard, the answer to that question is Yes.

Background

Mr. and Mrs. Sheppard lived in Labrador City. They hired Hickey’s to build them a retirement home. Mrs. Sheppard suffered from a type of sensory neuropathy that meant that she had no sensation from her elbows to her hands and below her knees, and both feet were amputated. She moves on two prosthetic feet and a wheelchair. Hickey’s understood that the home was being constructed to suit Mrs. Sheppard’s requirements.

The construction of the home was more than a year late. When constructed, the flooring was not level and did not adhere to the under padding. Most importantly, there was a quarter inch difference in height between the ceramic tile flooring in the kitchen and the hardwood flooring in adjacent rooms. Hickey’s installed transition strips at this juncture but those strips interfered with Mrs. Sheppard’s wheel chair being able to run from one room to the other, causing the wheel chair to “bring up solid” against the transition strips. In addition, the strips cracked and splintered and the floorboards popped up from the floor. The flooring deficiencies were aesthetically objectionable and presented tripping hazards to able-bodied people, but especially to Mrs. Sheppard. The Sheppards counterclaimed against Hickey’s for general damages for mental distress as a result of these deficiencies.

The Courts’ Decisions

The trial judge awarded the Sheppards $15,000 non-pecuniary damages for mental distress. The trial judge held that the Sheppards had met the test in Fidler. The Newfoundland and Labrador Court of Appeal was divided on the issue. The majority agreed with the trial judge and upheld the general damage award. The dissenting judge held that the Fidler test had not been met and would have dismissed the claim for general damages.

The central issue was whether the contract contained a “peace of mind” component. The dissenting judge said No:

“Regardless of the Sheppards’ special circumstances with respect to wheelchair accessibility, the contract to build their house did not engage the “peace of mind” component that would ground the necessary foreseeability criterion related to securing a psychological benefit as referenced in Fidler. It is true that the hardwood flooring was not properly installed and that the Contractor chose to comply with National Building Code standards in using transition strips. However, these deficiencies could be corrected and damages awarded to address the required remediation. This was not a situation in which the house was rendered uninhabitable.

The majority came to the opposite conclusion:

“…Hickey’s concedes in its factum that the contract can fairly be characterized as a “peace of mind” contract, and does not allege that the trial judge made any factual or legal errors relating to foreseeability. Hickey’s “had actual knowledge of the plaintiff’s particular sensibilities”…

It is inherent in a home construction contract that the finished flooring will be hazard-free. The flooring Hickey’s delivered was far from hazard-free. Foreseeable mental distress may ensue for any home purchaser who did not receive this basic contractual promise, but is particularly foreseeable that mental distress would ensue in this case.

Accordingly, it was within the contemplation of the parties that the purpose of the contract was to provide the Sheppards, in a timely fashion, with a safe retirement home accommodating Mrs. Sheppard’s needs. Hickey’s did not deliver what they promised with respect to the flooring and delay in completion. It was therefore foreseeable that these breaches of the contract between the Sheppards and Hickey’s would cause mental distress to the Sheppards. Given the foreseeability of their mental distress, damages for it are recoverable if they are sufficient to warrant compensation.”

The court also concluded that the Shepards’ mental distress was “more than the ordinary annoyance, anxiety and fear arising from a bad building contract. In sum, the mental distress suffered by both Mr. and Mrs. Sheppard is serious, prolonged and far from trifling. It is sufficient to warrant compensation.”

Accordingly, the award of general damages for mental distress was upheld.

Discussion

The upshot of these decisions appears to be that contracts cannot be put into water-tight compartments so far as damages for mental distress are concerned. In each case, the nature of the contract and the circumstances of the parties to it must be examined to determine if mental distress is reasonably foreseeable.

The notion of “peace of mind” may be more suited to some contracts and to the circumstances of some parties to contracts. In some cases, perhaps, the very nature of the contract will tend to make it a “peace of mind” contract; such as a vacation contract, or disability or pension contract. Whether this decision is saying that a building contract for a home is a “peace of mind” contract depends on the way one reads this decision. Some of the language in the majority decision suggests that virtually any home building contract is for the “peace of mind” of the homeowner. The underlined words above suggest that foreseeable mental distress can arise from any improper construction of a home. On the other hand, the dissenting judge was clearly not of this view, and other language in the majority judgement suggests that it was only the particular disabilities of Mrs. Sheppard that made this building contract a “peace of mind” contract. It will be interesting to see which approach other courts in Canada follow.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed., section 6(m)(i)(B).

Hickey’s Building Supplies Ltd. v. Sheppard, (2014), 36 C.L.R. (4th) 15, 2014 CarswellNfld 353,

Building contracts – general damages – damages for mental distress

Thomas G. Heintzman O.C., Q.C., FCIArb                                                                                     June 7, 2015

www.heintzmanadr.com

www.constructionlawcanada.com

 

Quebec Court of Appeal Awards Impact Damages

When a breach of a building contract occurs, the damages can be extensive because the breach can have an impact on the performance of other parts of the contract. For this reason, a unique aspect of construction disputes is the potential award of what are called “impact” costs or damages.

In the recent decision of the Quebec Court of Appeal in Dawcolectric inc. c. Hydro-Québec, the court awarded impact damages against the owner, even though those damages had been suffered by the subcontractor. In the course of its judgment the Court of Appeal also addressed a number of other construction law issues.

Background

Hydro-Quebec contracted with a general contractor Dawco which granted a subcontract to a subcontractor Solimec which did most of the work on the project. Over 400 change orders were issued by the owner and substantial delays were encountered on the project. The general contractor brought a claim for damages against Hydro-Quebec. The trial judge found that the delays were caused 60 percent by Hydro-Quebec and 40 percent by the contractor. The trial judge found that the collective corporate conduct of Hydro-Quebec amounted to a breach of contract. The trial judge dismissed Dawco’s claim for the impact damages suffered by the subcontractor, Solimec.

Hydro-Quebec appealed on the grounds that it could only be liable for acts of its employees, and there was no such thing as a breach of contract by the corporation without a specific act of an employee amounting to a breach. The contractor appealed from the trial judge’s failure to award impact damages.

Decision of the Quebec Court of Appeal

The Court of Appeal upheld the trial judge’s finding that Hydro-Quebec had, by the collective conduct of its employees, breached the contract. It was not necessary to identify a specific breach of contract arising from an individual employee’s conduct for the court to conclude that, in totality, the owner had breached the contract.

The Court of Appeal held that the trial judge erred in failing to award Dawco the amount of impact damages that had been suffered by Solimec and included in Dawco’s claim.

First, while the contract between Dawco and Solimec was styled as an “Entente de rémunération du risqué” (or “risk reward contract”), nevertheless Solimec was a subcontractor of Dawco. Therefore, the general principle applied that the work done by Solimec was work done by Dawco for Hydro-Quebec and recoverable by Dawco under the main contract with Hydro-Quebec.

Second, the fact that the limitation period had expired for Solimec to claim those costs from Dawco was irrelevant and was not a defence for Hydro-Quebec to Dawco’s claim. The limitation period for Dawco’s claim against Hydro-Quebec had not expired when Dawco commenced its action. Therefore, Dawco could assert its claim to those costs against Hydro-Quebec, including any claim arising from the work done by Solimec.

Third, the costs in question were in fact and law “impact costs” and not “indirect costs” as contemplated by the change orders. Indirect costs are costs for items like site administration, bonding costs, water and electricity servicing costs, demobilization, etc. They are sometimes called general or project costs.

The costs in question here were the costs of: extra technical and supervisory personnel and additional equipment, over and above those that had been forecast for the work, which became necessary due to the delays and changes demanded by Hydro-Quebec. According to definitions accepted by the Court of Appeal, these costs fall within the concept of “impact costs,” being additional costs resulting from the impact of change order upon the performance of the contract. The Court of Appeal accepted that impact costs are normally the responsibility of the contractor, but they can become the responsibility of the owner when the owner by its conduct becomes liable for damages in a contractual or non-contractual claim.

When negotiating the change orders, Hydro-Quebec had insisted that the only amounts that could be included were costs directly arising from the modification of the work, and specifically excluded from the negotiations of the change orders any consideration of impact and the retarding of the project. In those circumstances, the Court of Appeal held that those costs were not included within the change orders and the change orders could not bar a claim for impact costs associated with those changes.

Accordingly, the Court of Appeal allowed Dawco’s claim for impact costs and awarded 60% of those costs to Dawco.

The Court of Appeal confirmed the trial judge’s award of 13.76% for overhead and profit. Dawco and Solimec led evidence to establish that their historic overhead and profit during the period 1999 to 2005 amounted to 13.76% of their costs. In addition, the contract itself referred to overhead and profit of 15% in another clause in the contract, which was not applicable to the present case. Hydro-Quebec pointed out that Solimec had only anticipated overhead and profit of 4.95%. Nevertheless, the court held that 13.76% was reasonable in the circumstances.

The Court of Appeal allowed in part the appeal by Hydro-Quebec. It set aside the award of additional financial costs allegedly incurred by Dawco. It held that Dawco was, after all, 40% responsible for the delays, and furthermore Dawco was by its decision receiving substantial compensation for its actual losses. After a lengthy review of the facts, the court held that Hydro-Quebec was not at fault such that Dawco’s additional financial costs should be the responsibility of Hydro-Quebec.

The Court of Appeal also allowed Hydro-Quebec’s appeal with respect to Dawco’s claim for damage to reputation, loss of the opportunity to obtain other business and other inconveniences. It pointed out that the trial judge had dismissed Dawco’s claim for punitive damages on the ground that Hydro-Quebec had not purposefully engaged in wrongful conduct. The court concluded that there was no proof of causation between these alleged losses and any wrongful conduct of Hydro-Quebec that had not already been properly compensated, and that these losses were uncertain and unforeseeable.

Discussion

This decision contains a potpourri of issues which are important for construction law. One of the most interesting is that of impact damages: what are impact damages; what sort of clause can eliminate a claim for impact damages; what sort of conduct and documentation during the issuance of change orders can eliminate a claim for impact damages, or allow it to survive?

In this case, the Court of Appeal of Quebec held that the contractor’s claim for impact damages was not excluded by the contract. Nor was that claim excluded by the change order process because the owner had specifically directed that impact costs were not to be included in the change order process. Accordingly, the claim for impact damage was allowable under the contract because they fell within a recognized category of recoverable damage, and the claim had not been nullified by the change order process.

The parties could have agreed to include impact costs in each change order, although the total impact costs arising from all change orders would have been difficult to assess when negotiating each change order. Hydro-Quebec could have taken the position that no impact costs arose from the change orders. In either case, Hydro-Quebec could have then required Dawco to sign a release for any further impact costs arising from the change order process. In those circumstances, Dawco’s claim for impact damages would not have survived. However, Dawco would presumably not have accepted that arrangement if it wished to preserve a claim for those costs, particularly one arising from the cumulative effect of change orders.

This decision shows the importance of the negotiation process and the wording of change orders to the viability of a later claim by the contractor for impact costs. Since those costs may arise from many change orders and usually cannot be determined from any single change order, the owner and contractor must be alive to the potential existence of those costs and how they are to be determined.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed., chapter, part 6(f)

Dawcolectric inc. c. Hydro-Québec (2014), 32 C.L.R. (4th) 183, 2014 CarswellQue 4600

Building contracts  – Damages  –  Impact Costs – Delays – Change Order Process

Thomas G. Heintzman O.C., Q.C., FCIArb                         June 1, 2015

www.heintzmanadr.com

www.constructionlawcanada.com