Amendments To The Ontario Construction Lien Act Have Been Given First Reading (Part 1)

On May 31, 2017, the Ontario Legislature gave first reading to Bill 142, which will enact the Construction Lien Amendment Act, 2017. By this legislation, substantial amendments are proposed to the Ontario Construction Lien Act, including the change of the name of the Act to the Construction Act.

The text of Bill 142 may be found by googling Bill 142, Construction Lien Amendment Act, 2017.

This proposed legislation (the Proposed Act) follows a lengthy Report: Striking the Balance: Expert Review of Ontario’s Construction Lien Act, delivered April 30, 2016 (the Report). The Report recommended the changes to Ontario’s Construction Lien Act (the Existing Act) that are now contained in the Proposed Act, so the contents of the Report should be consulted in interpreting and understanding the Proposed Act. The Report is reviewed in my article dated May 1, 2017. The text of the Report may be found by googling Amendments to the Construction Lien Act/Striking the Balance-Expert Review of Ontario’s Construction Lien Act.

The proposed changes to the Existing Act are so numerous that they will be dealt with me in two articles. This is the first article. These articles do not address all the proposed changes to the Existing Act, only those that I consider to be interesting or important.

The changes will be dealt with largely in the order in which they appear in the Proposed Act. I will offer my Comments and Questions about the various sections in the Proposed Act.

Joint Ventures 

The definition of “contractor” in subsection 2(1) is amended to include a “joint venture entered into for the purpose of an improvement or improvements”.

Written Notice of Lien

The definition of “written notice of lien” in subsection 2(1) is changed to read “a claim for lien or a written notice of a lien in the prescribed form, given by a person having a lien.”

New subsection 87(1.1) provides that “a written notice of lien shall be served in a manner permitted under the rules of court for service of an originating process.”

Comments and Questions

These amendments are important. They do away with the prior informality of the form and the manner of service of a notice of lien. Now, the notice of lien must be in a prescribed form and must be served in the same manner as an originating proceeding in court.

Improvements involving “repairs” limited to capital repairs

The definition of “improvement” in subsection 1(1) is amended to include the word “capital” before the word “repairs”. In the result, only capital, and not operating, repairs are included within the word “improvement”.

This point is emphasized in new subsection 1(1.1), which further defines the word “improvement” as follows:

            “Capital repair”

(1.1) For the purposes of clause (a) of the definition of “improvement” in subsection (1), a capital repair to land is any repair intended to extend the normal economic life of the land or of any building, structure or works on the land, or to improve the value or productivity of the land, building, structure or works, but does not include maintenance work performed in order to prevent the normal deterioration of the land, building, structure or works or to maintain the land, building, structure or works in a normal, functional state.” (underlining added)

Comments and Questions

The new legislation clearly re-draws the line around “repairs” to only include “capital” repairs. The debate will continue, however, but it will now be a debate about what is included in the definition of “capital repairs”, and whether the material or services fall within the words “extend the normal economic life” or “improve the value or productivity” on the one hand, or the words “prevent normal deterioration” or to “maintain” the building etc. in a “normal, functional state”, on the other hand.

The Report states that its approach to “capital” repairs and “maintenance” reflects the approach taken in the Income Tax Act. Accordingly, income tax cases may be of some assistance in interpreting this portion of the Proposed Act.

Price, Delay, Direct and Indirect Costs

In the definitions in subsection 1(1), the definition of the word “price” is amended in two respects:

First, if the parties have not agreed upon the price, then the price is to be set by the “market value” of the services and materials. Formerly, the price in this circumstance was to be set by the “value”, rendering it uncertain what scale or system of value was to be used.

Second, a new sub-paragraph (b) is added to state that if the contract is extended (that is, if there are delays) then only direct costs qualify as being part of the “price”. The amended definition reads as follows:

“ “price” means,

(a)  the contract or subcontract price,

(i)  agreed on between the parties, or

(ii)  if no specific price has been agreed on between them, the actual market value of the services or materials that have been supplied to the improvement under the contract or subcontract, and

(b)  any direct costs incurred as a result of an extension of the duration of the supply of services or materials to the improvement for which the contractor or subcontractor, as the case may be, is not responsible;” (underlining added)

The latter point about direct costs is further dealt with in subsection 1(1.2) to define what direct costs means, to define some of the possible ingredients of direct costs, and to specifically remove indirect damages from “price”. Subsection 1(1.2) reads as follows:

“Direct costs”

(1.2) For the purposes of clause (b) of the definition of “price” in subsection (1), the direct costs incurred are the reasonable costs of performing the contract or subcontract during the extended period of time, including costs related to the additional supply of services or materials (including equipment rentals), insurance and surety bond premiums, and costs resulting from seasonal conditions, that, but for the extension, would not have been incurred, but do not include indirect damages suffered as a result, such as loss of profit, productivity or opportunity, or any head office overhead costs.” (underlining added)

Comments and Questions

Although “indirect damages” do not now qualify as part of the price for lien purposes, indirect damages may qualify as recoverable damages, if they otherwise so qualify under the general law of contract and damages.

Do these new definitions mean that there can no longer be a debate about whether some of these items are direct or indirect costs for lien purposes?

Thus, in the first group – which is prefaced by the word “including” – is the additional supply of services or materials deemed to be a direct cost, even if the particular supply might, under contract law or accounting, be considered to be indirect? Does the word “including” have that effect?

So far as the second group – prefaced by the words “such as”, are loss of productivity or head office overhead now deemed to be indirect costs, or can it be shown that they are, in fact, law or accounting, direct costs in the particular circumstance? Does the word “such as” mean “for example”, and is that the same as “including”?

In sorting out what is included within or excluded from “direct costs”, the recommendation of the Report may be relevant. In its 5th recommendation, the Report stated that the “definition of “price” should be amended to include direct out-of-pocket costs of extended duration and exclude damages for delay.” (underlining added).

Crown and Municipal Ownership

Alternative Financing and Procurement arrangements

New subsection 1.1 may be summarized as follows:

When, as owner, the Crown, municipality or a “broader sector organization” [which is defined in the Proposed Act to have the same meaning as in the Broader Public Sector Accountability Act, 2010] enters into an agreement to undertake an improvement on behalf of the Crown, municipality or broader sector organization” with a “special purposes entity” then that entity is deemed to be the owner of the premises in place of the Crown, municipality or broader sector organization, and the contract between the entity and the contractor is deemed to be the contract, for the purposes of Part I.1 (prompt payment), Part II.1 (interim dispute resolution), Section 32 (certification and substantial performance), Section 39 (right to information) and any other portion or provision that may be prescribed. (underlining added)

With these exceptions, “the Crown, municipality or broader public sector organization continues to be the owner of the premises for the purposes of this Act,” and:

  “For the purposes of section 22, holdbacks shall be determined in reference to the agreement between the contractor and the special purpose entity.”

  For the purposes of section 85.1 (surety bonds), “the agreement between the contractor and the special purpose entity is deemed to be a public contract.” (underlining added)

Comments and Questions

These provisions relating to special purposes entities are somewhat duplicative, complicated and inter-dependent. The summary above is what I understand the provisions to mean. Exactly how they will work out will depend upon the final wording of the Proposed Act, and future experience and case law.

Definition of municipality

The definition of “municipality” in subsection 2(1) now includes a municipality or local board within the meaning of the Municipal Act, 2001, or a conservation authority established by or under the Conservation Authorities Act or a predecessor of that Act.

Crown and Municipal Land

Section 16 is amended to state that the land of the Crown or a municipality cannot be the subject of a lien. However, a lien may attach to the interest of any other person in the premises.

Under new subsection 16(3), the lien is a charge upon the holdback under section 21 even if the owner of the land is the Crown, a municipality or the land is a railway right-of-way.

Under new subsection 34(3.1), if the land is owned by a municipality, the claim for lien may be served by being given to its clerk.

            Comments and Questions

These amendments contain important clarifications or amendments of the existing law. Now, the prohibition against liening municipal land applies to all municipal land, not just a public street or highway owned by a municipality – as provided for in the Existing Act, subsection 16(3)(c). Now, it is clear that the lien may be a charge upon the holdback even if it is not a lien against Crown or municipal land or a railway right-of-way.

Sureties For Public Contracts

As will be noted in further detail in the second part of this article, if a public contract (defined to be a contract between a contractor and the Crown, a municipality or broader public sector organization) exceeds the prescribed amount, then new section 85.1 requires the contractor to provide the owner with a labour and materials payment bond and a performance bond in the prescribed forms and written by a licensed insurer and in each case providing coverage of at least 50 percent of the contract price.

Holdback, Substantial Performance and General Liens

Section 2 of the Existing Act defines when a contract is substantially performed for the purpose of the Act. It does so by stipulating that, when the cost of completion or correction are not more than certain amounts or percentages, then the contract is substantially performed.

Section 2 is amended by the Proposed Act to change the cost of completion or correction amounts in subsection 2(1) from $500,000 to $1 million, and the deemed completion amount in subsection 2(3) from $1,000 to $5,000 (or 1 percent of the contract price, whichever is the lesser).

In section 2(2), the non-completion of the improvement due to factors beyond the control of the contractor is removed as a reason for deducting the cost of completion from the contract price to determine substantial performance.

Subsection 2(4) of the Act is added to provide that separate improvements on separate lands may, if the contract so provides, be deemed to be made under separate contracts.

Comments and Questions

Does the new subsection 2(4) have any impact on the general lien, which is provided for in section 20? It seems to mean that, if the contract provides as now stated in subsection 2(4), then a general lien cannot arise on both or all improvements on “separate” lands.

Subsection 20(2) of the Present Act states that a general lien does not arise “under or in respect of a contract that provides in writing that liens shall arise and expire on a lot-by-lot basis.” Recommendation 20 of the Report was that “Section 20(2) should be removed from the Act and liens should not be required to be preserved on a lot-by-lot basis.” Apparently, this recommendation will not be implemented as there is nothing in the Proposed Act deleting subsection 20(2).

Indeed, reading the new subsection 2(4) with the existing and remaining subsection 20(2), it seems that the present general lien regime continues to apply but with expanded rights to contract out of that regime, both under the existing right to contract out of it through a contract complying with subsection 20(2), and also under the new subsection 2(4) allowing for the contract to provide that there are separate contracts for “separate improvements” on “separate lands”.

Prompt Payment

New Part I.1 and sections 6.1 to 6.8 implement a “prompt payment” regime. The regime is detailed, so a careful review of it must be undertaken by all construction law practitioners. The following is a basic outline of the regime as I understand it:

  • Section 6.1 mandates the form of a “proper invoice”. Under subsection 6.2(1), unless the contract otherwise provides, a proper invoice must be given by the contractor to the owner each month. Under subsections 6.2(2) and (3), the contract cannot provide that the giving of a proper invoice is conditional on a prior certification of a payment certifier or the owner’s prior approval, but such a certification or approval after the proper invoice is delivered is not affected.
  • Under section 6.3, the owner must pay the proper invoice within 28 days, unless it disputes that invoice and gives a notice of non-payment within 14 days after receiving the invoice. The notice of non-payment must specify the amount of the proper invoice that is not being paid and must detail “all of the reasons for non-payment.” The owner must pay within the 28 days any amount not so disputed.
  • Under section 6.4, subject to giving a notice of non-payment to a subcontractor, the contractor must, within 7 days of receiving the amounts from the owner, pay the subcontractors whose materials or services were included in the contractor’s proper invoice to the owner. If the contractor has received partial payment from the owner, the contractor must pay any subcontractors for whose work the owner has paid the contractor. Otherwise the subcontractors are to be paid on a rateable basis.
  • If the contractor does not give notice of non-payment to a subcontract, then even if it has not been paid by the owner, it must pay any remaining amounts due to the subcontractors within 35 day of sending its proper invoice to the owner.

Under subsections 6.4(5) and (6), the contractor can give a notice of non-payment to a subcontractor:

  1. either due to the fact that it has not been paid by the owner, in which case the notice of non-payment must be made within 7 days of the notice of non-payment by the owner, and the contractor must agree to have the “matter” adjudicated; or
  2. due to the fact that it disputes the subcontractor’s claim in which case the notice must specify the amount not being paid and detail “all of the reasons for non-payment”, and must be given with the said 35 day period.
  • Under section 6.5, similar cascading regimes of payment, non-payment notices, etc. apply to subcontractors with slightly different time periods for notices and payment.
  • This prompt payment regime does not apply to wages.
  • Interest is payable on amounts due under these provisions at the greater of the prejudgment interest rate under the Courts of Justice Act, or the interest rate specified in the contract.

Comments and Questions

Contracting out/Pay-when Paid regimes. The first issue relating to this new prompt payment regime is whether the parties can contract out of it. In particular, does the new prompt payment regime replace and nullify, or enforce by statute, a “pay-when-paid” clause in a subcontract?

As to the first question, subsection 6.2(1) of the new statutory “prompt payment” regime states that proper invoices shall be given to the owner on a monthly basis “unless the contract otherwise provides otherwise.” Do those words apply to the whole regime? Or does that reference in this subsection to the parties’ entitlement to contract out mean that the parties cannot contract out of the other parts of these sections?

And does the “no waiver of rights” provision in section 4 of the Act nullify other conflicting contractual regimes?

As to the second question relating to pay-when paid clauses, two issues arise.

First, does the new prompt payment regime allow pay-when-paid clauses in subcontracts? There is nothing in the prompt payment regime that expressly mentions or nullifies pay-when-paid clauses.

In addition, the further question may be whether the new regime mandates a pay-when-paid regime whether or not the subcontract provides for such a regime. Thus, subsection 6.4(5)(a)(ii) states that the contractor is not obliged to pay the subcontractor under subsection 6.4(4) if it delivers a notice of non-payment to the subcontractor stating that the amount payable to the subcontractor is not being paid due to non-payment by the owner to the contractor. Does this subsection create a right to not pay the subcontractor if the owner has not paid the contractor, even if there is no pay-when-paid clause in the subcontract? Contractors may argue that it does, and that the statute has created a regime which must be followed.

In the United Kingdom under section 113(1) of the Housing Grants, Construction and Regeneration Act 1996 (U.K.), pay-when paid clauses are rendered ineffective unless the third party payor (such as the owner who has not paid the contractor) is insolvent.  This statute is the same one in which, in section 108, the adjudication regime is established. The two subjects – prompt payment and adjudication – are dealt with in the same payment regime, a regime in which pay-when paid clauses are banned except in the case of insolvency.

In the absence of such a prohibition of pay-when-paid clauses in the Ontario statute, does the proposed Ontario prompt payment regime effectively create a pay-when-paid regime which statutes in the U.K. (and in some states in the U.S.A.) have abolished? Where does the Ontario prompt payment regime provide a basis for the adjudicator (or arbitrator or judge) to require payment, either contrary to a pay-when-paid clause or contrary to a notice of non-payment under section 6.4 of the Proposed Act?

Second, if there are reasons why the pay-when-paid or other similar contractual regime could not presently be enforced by the contractor (for instance, if the contractor was the cause of the owner’s non-payment) can those reasons still be advanced by the subcontractor? While there is no provision in the Proposed Act to this effect, subcontractors will likely expect that they can do so. They may utilize the adjudication regime to require payment even though the contractor has served a non-payment notice on the subcontractor, alleging that the owner’s non-payment is due, among other reasons, to the fault of the contractor.

Is the non-payment regime arising from a disputed invoice or subcontractor’s invoice subject to the arbitration or other dispute resolution provisions of the respective contract?   Presumably yes, but there does not appear to be any link between the prompt payment regime and the either the court or arbitral dispute resolution systems. As noted below, this may mean that there are at least four dispute resolution regimes applicable to construction lien disputes.

Similarly, the link to, or impact of the prompt payment regime on, the certification or approval regimes is not entirely clear. Subsections 6.2(3) and (4) provide that a prior certification or approval regime cannot nullify a proper invoice, but it is unclear what the effect is of a certification or approval process after a proper invoice is delivered. Could such a process interrupt the contractor’s entitlement? What is the relationship between an owner’s notice of non-payment and a subsequent certificate denying payment or an owner’s non-approval? Could such a certificate or non-approval be the basis, by itself, of an owner’s notice of non-payment?

Thomas G. Heintzman O.C., Q.C., LL.D. (Hon.)                               September 10, 2017

www.heintzmanadr.com

www.constructionlawcanada.com

CRA Entitled To Priority Over Subcontractors To Trust Funds In Owner’s Hands

The Manitoba Court of Queen’s Bench recently held that the Canadian Revenue Agency (CRA) has priority over subcontractors and the bonding company in respect of holdback funds held by the owner in trust for the contractor. The decision in Manitoba Housing and Renewal Corp. v. Able Eavestroughing Ltd., once again underlines the impact of federal legislation on the holdback and trust fund sections of construction and builders’ lien legislation.

This decision raises questions about the scope of the subrogation rights of a bonding company under a labour and materials payment bond, and public policy issues about lien statutes being used for the purpose of collecting taxes.

Background

The Manitoba Housing and Renewal Corporation (MHRC) was the owner on a project In Brandon, Manitoba and Falcon Creek was the general contractor. The bonding company issued performance and labour and materials payment bonds in respect of Falcon Creek’s obligations under the general contract and the subcontracts. MHRC held back 7.5% of the amounts payable to Falcon Creek as mandated by the Manitoba Builders’ Lien Act (BLA). Unpaid subcontractors, and the bonding company which had paid over $600,000 to other lien claimants/subcontractors under the payment bond, asserted that they were entitled to the holdback funds under the payment bond and the BLA.

The Canadian Revenue Agency (CRA) asserted that it was entitled to the funds under s. 224(1.2) of the Income Tax Act of Canada (ITA). That section effectively provides that, once the section is triggered by the CRA, monies owing to a person who is liable to pay an assessment under the ITA (in this case, Falcon Creek) become the property of the CRA in priority to any other interest.

The bonding company and subcontractors asserted that MHRC had the legal right or privilege to pay the trust funds to the subcontractors holding liens, rather than to Falcon Creek. The bonding company asserted that, pursuant to the payment bond and the subrogation principles of the law of guarantee, it entitled to be recompensed out of the holdback funds for the monies it had paid to subcontractors. They argued that MHRC was not obliged to pay Falcon Creek and was entitled to pay the holdback funds to the subcontractors. Accordingly, MHRC was not “liable” to the contractor, Falcon Creek, in respect of those funds and therefore section 224(1.2) of the ITA did not apply.

Decision of the Manitoba Court of Queen’s Bench

The judge of the Manitoba Court of Queen’s Bench held that nothing in the arrangements between the owner, general contractor and bonding company could or did displace the effect of section 224 of the ITA. The court held:

“I am satisfied that the conclusion that the contract and Bond do not create an obligation on the part of MHRC to pay subcontractors is applicable to the case before me. That is, the private arrangements between MHRC, Falcon Creek and Guarantee Company cannot affect the rights of the Crown under s. 224(1.2). The Crown acquired those rights by operation of law and the issuance of a Requirement to Pay; its rights too cannot be displaced by private arrangements….. There are important policy considerations involved in the collection of withholding tax and source deductions. The Income Tax Act entrusts employers with the duty of deducting income tax from the wages of employees and remitting it on their behalf. Employers’ withholding tax or source deductions is at the heart of the collection procedures for personal income taxation in Canada…. Private arrangements between MHRC, Falcon Creek and Guarantee Company cannot interfere with this. (underlining added)

So far as the submissions of the bonding company and subcontractors relating to subrogation and assignment, the Manitoba court held that, while MHRC may have had the right or privilege to pay subcontractors, MHRC had no obligation to do so, and therefore the bonding company or subcontractors did not obtain, by subrogation or assignment, any rights of MHRC to pay the subcontractors. Accordingly, the bonding company and the subcontractors could not interfere with MJRC’s entitlement to pay the monies in it hands to the CRA.   In this respect, the Manitoba court appears to have differentiated between a performance bond, in which a subrogation right might arise compelling the owner to pay the subcontractors and bonding company, and a payment bond, in which case the court says no such subrogation rights arise.

The Manitoba court also rejected the argument that the subcontractors had a right to sue on the general contract as third party beneficiaries of that contract. There was no evidence that MHRC intended to extend the ability to sue on the contract to unpaid subcontractors. In addition, the third-party beneficiary exception to privity of contract is only a shield and not a sword.

In arriving at these conclusion the Manitoba court relied upon the decision of the Alberta Court of Appeal in Iona Contractors Ltd. (Receiver of) v. Guarantee Co. of North America, 2015 ABCA 240, 19 Alta. L.R. (6th) 87 (Alta. C.A.), leave denied (2016), [2015] S.C.C.A. No. 404 (S.C.C.)). In that case, the contest was between a bonding company and the contractor’s trustee in bankruptcy pursuant to the Bankruptcy and Insolvency Act.

Discussion

At one level, this decision raises an important issue about subrogation. The court has held that while the bonding company may be subrogated to the position of the owner under a payment bond, it does not acquire any rights to compel payment of the holdback to the subcontractors rather than the contractor. In this respect, the court appears to differentiate between a performance bond – which might permit the bonding company to compel such payment – and a payment bond – which apparently does not. The court also appears to differentiate between the exercise of subrogation rights in relation to a contractual obligation – in this case payment to the contractor – and the exercise of subrogation rights in relation to a contractual or statutory right or privilege – in this case, the owner’s right to pay the subcontractors.

The right of the owner to pay a liening subcontractor directly is so important that it is enshrined in section 30 of the Manitoba Act, as it is in other provincial lien statutes. Courts have previously recognized that a right – such as the right to settle a claim, or to complete the building – falls within the ambit of subrogation. Indeed, the failure by the obligee to properly exercise its rights and privileges may discharge the bonding company from its obligations under the bond. Yet, in this case, the court seems to say that the subrogation rights of the bonding company under a payment bond do not include the right to be subrogated to the right or privilege of the owner to pay the subcontractors.

It is to be hoped that this issue is addressed by an appellate court. There seems to be no dispute in the decision that, generally speaking, a bonding company is subrogated to the obligee’s right’s (that is, the owner MHRC’s rights) under the building contract (with Falcon Creek in this case). That seems to be black letter law. The Manitoba court did not provide a good rationale as to why those subrogation rights would not include all the rights of the owner, including the right to pay the subcontractors directly, and why subrogation should not apply to that right under a payment bond as well as a performance bond. If the efficacy of the holdback system under the builders’ and construction lien statutes is to be maintained, if the statutory right of the owner to pay subcontractors is to be fully recognized, and if bonding companies are to be encouraged to issue bonds on the basis that they are fully subrogated to the rights of the obligee, then there seem to be good arguments in favour of a bonding company being allowed to exercise the owner’s right to pay the subcontractors, or the bonding company itself if it has paid subcontractors.

At a second level, this decision raises issues of fairness about the purposes of the respective statutes, and in particular the purpose behind builders’ and construction lien statutes.

The purpose behind the holdback and trust fund provisions of those statues is to require the owner (and others down the pyramid scheme) to withhold monies for the purpose of having them paid to the subcontractors and suppliers who are not paid by the contractor. Without those holdback and trust fund provisions of the lien statutes, the owner (and others down the payment chain) would go ahead and pay the contractor. In effect, this case means that the whole scheme of the builders’ and construction lien statues can be used as a tax collection scheme. The tax authorities can wait until the end of the project and scoop up the holdback, a holdback which would not have been there except for the builders’ and construction lien regime.

While the Manitoba judge emphasized the public purpose behind tax statutes, it is arguable that the purpose behind the builders’ and construction lien statutes deserves at least as high a recognition. The taking of the holdback moneys for tax purposes removes those moneys from the payment chain that produced them in the first place through the construction of the building, and takes them from the payment chain that caused them to be preserved. It is only because the builders’ and construction lien statute mandates the holdback that those monies are there in the first place. The taking of those monies for tax purposes impairs the very structure of the lien statutes. Compared to the tax department, contractors and suppliers have few, if any, means to protect themselves from the failure of contractors to pay their taxes. Should the subcontractors suffer when a contractor doesn’t pay its taxes? And will bonding companies provide bonds to the construction industry at the same cost if those bonds can be undermined by the tax authorities? Some might argue that this example of the government preferring itself over the ”little guy” shows why there is angst among some citizens across the western world, who see governments as more the problem than the solution for small businesses.

This decision did not consider the succession-of trust-funds and “no leak” principles in the BLA. The Manitoba Act, like the lien statues in Saskatchewan, Ontario and Nova Scotia starts the trust fund obligation at the owner’s level, and the beneficiary of the trust fund at that level is the contractor which has contracted with the owner. In other provinces, the trust fund starts at the contractor level. In all these provinces, the trust fund provisions apply at the contractor level and below. So in Manitoba, the owner holds the funds payable to the contractor in trust for the contractor, and once the contractor receives the funds, the contractor then holds those monies in trust for the unpaid subcontractors. What is the purpose of the trust fund at the owner’s level? Surely, to ensure that those funds are passed down to the trust fund at the next lower lever, the contractor level. There is no other reason for the trust fund provision at the owner level. It is not to allow the contractor or another person or authority to come in and scoop the funds. The holdback and trust fund provisions do not envision any leakage in the payment scheme.

In the present case and those which it followed, the courts do not apply the second part of the “no-leak” principle, namely, that the monies paid by the owner to the contractor are held in trust by the contractor for the subcontractors.

In this circumstance, the wording in section 224. (1.2) of the ITA may require some re-visiting. That section applies if the recipient of the CRA’s notice is “liable to make a payment …(a) to another person…” In the present case, the Manitoba judge held that MHRC was liable to make a payment to Falcon Creek, so the section applied. But if “another person”, like Falcon Creek, is obliged to hold those funds in trust for others, the subcontractors, can the ITA interfere with the application of trust principles, and has it done so clearly? The Manitoba court has effectively answered Yes to this question, but it deserves consideration at the appellate level.

The drafters of the provincial lien statutes may wish to consider amendments that will address this situation. One way may be to provide that the subcontractors and other person improving the lands are beneficiaries of the trust at the owner level, and similarly at the contractor level, that sub-subcontractors and other persons improving the lands are beneficiaries of the trust at that level. This is what the New Brunswick statute states at the contractor level and below. However, most provinces have amended their lien statues to limit the trust fund obligation to the next lowest level (that is, to the contractor in the case of trust funds held by the owner) and may be unwilling to re-open the scope of the trust fund obligation.

Lastly, while the Manitoba court did appear to hold that the ITA applies no matter what the bonding contract says, the judge did go on to consider the contractual environment, as did the Alberta courts in the Iona case. That being so, it may be that creative drafters of guarantee bonds will go back to the drafting table. If the contracts can change this result, there appear to be several elements to be addressed.

First, the bonding company may have to ensure that the owner is party to the bond, which will normally be the case for a payment or performance bond at the contractor level.

Second, the bond may have to expressly state that the bonding company is subrogated to the owner’s rights and privileges, including the right to pay subcontractors and suppliers (or the bonding company after it pays the subcontractors or suppliers) , and that those rights of the bonding company become effective at some point before the CRA delivers its notice to the owner, perhaps at the time that the first lien arises although not exercisable until, and to the extent that, the bonding company pays the subcontractors or suppliers.

Third, the bond may have to ensure that the holdback monies are beneficially owned by the bonding company once, and to the extent that, it pays subcontractors and suppliers.

Whether provisions such as these could properly be included in a bond and would be effective against the ITA or in light of the builder’s or construction lien statutes, time, future case law and creative drafting may tell.

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

Manitoba Housing and Renewal Corp. v. Able Eavestroughing Ltd., 2017 CarswellMan 56, 2017 MBQB 27

Builders’ and construction liens – holdback – trust fund – bonds- income tax

Thomas G. Heintzman O.C., Q.C., LLD (Hon.), FCIArb                 February 19, 2017

www.heintzmanadr.com

www.constructionlawcanada.caom

This article contains Mr. Heintzman’s personal views and does not constitute legal advice. For legal advice, legal counsel should be consulted.

 

 

Trust Fund Set Off Rights Are Not Available If No Trust Fund Is Maintained and No Lien Claim Is Made: Ontario Court Of Appeal

The Ontario Court of Appeal recently considered the scope of the right of set-off under the trust fund sections of the Ontario Construction Lien Act (the Act) and under equitable set-off under a contract claim.

In Architectural Millwork & Door Installations Inc. v. Provincial Store Fixtures Ltd., the Court of Appeal held that the owner could not rely on the trust fund set off provisions contained in section 12 of the Act because neither party was relying upon the Act, nor had they proven that trust funds were in existence. The defendant contractor could not assert an equitable set-off because the claims allegedly resulting in the set off arose on other projects and did not qualify as equitable set-offs.

Effectively, the Court of Appeal proceeded on the basis that the right of set-off under the trust fund sections of the Act is broader than the equitable right of set-off. If so, this raises important issues about the nature of setoff in both situations.

Background

Provincial Store hired Architectural Millwork to install millwork manufactured by Provincial Store at an OLG Casino construction project. Provincial Store did not raise any complaint about Architectural Millwork’s work on the OLG Casino Project and admitted that the monies claimed by Architectural Millwork on that project were owed. However, Provincial Store claimed a right of set-off arising from claims on another unrelated construction project.

The motion judge rejected the Provincial Store’s claim for set-off and Provincial Store appealed that decision to the Court of Appeal. The Court of Appeal dismissed the appeal.

Court Of Appeal’s Decision

As it had before the motion judge, Provincial Store asserted that it could rely on the set-off provision in section 12 of the Act. That section reads as follows:

“Subject to Part IV, a trustee may, without being in breach of trust, retain from trust funds an amount that, as between the trustee and the person the trustee is liable to pay under a contract or subcontract related to the improvement, is equal to the balance in the trustee’s favour of all outstanding debts, claims or damages, whether or not related to the improvement. (underlining added)

While the word “set-off” is not contained in section 12, the title to the section is Set-off by trustee. The section does create a sort of set-off in favour of a trustee – be it the owner, contractor, or other person down the contractual chain in a construction project – in respect of monies payable by that person under a contract to the next person down the chain – the contractor, subcontractor or supplier.

Provincial Store was saying in its argument that the monies it had not paid to Architectural Millwork on the OLG Casino project were trust monies and that, by virtue of section 12, it could set off against those monies all outstanding debts, claims or damages, including its claim against Architectural Millwork on another project. The problem was that it had not asserted that position in its pleading nor proven it with facts, and neither had Architectural Millwork. Neither had relied on or referred to the Act in their pleadings or led substantial evidence on this point. In these circumstances, the Court of Appeal held that Provincial Store could not rely upon section 12.

The Court Said:

“The availability of the right of set-off under s. 12 of the CLA requires the party seeking to exercise it to prove the existence of specific circumstances and particular considerations, including the existence of trust funds against which set-off can be applied. If no trust funds are retained or all the monies are spent, the purpose of the trust provisions is defeated and any right of set-off is extinguished. In the present case, neither party pleaded the existence or breach of a trust fund. The respondent did not assert any claim to trust funds. The appellant did not allege there was a trust fund under the CLA or at all. Rather, the appellant pleaded that it had not been paid by the owner for the work performed by the respondent and therefore had no obligation to pay the respondent’s invoices, negating the existence of a trust fund….While there was evidence from the appellant’s representative, Regina Dee, that the appellant had received monies from the owner, there was no evidence that those monies were held in trust or retained at all. In a subsequent answer to undertakings, the appellant admitted that it did not maintain a separate bank account for the OLG Brantford Casino Project….As a result, the appellant has no right under s. 12 of the CLA to set-off against the monies that it admits are owed…” (underlining added)

The Court of Appeal also affirmed the motion judge’s decision that Provincial Store could not assert an equitable right of set-off “because payment on one project was not tied to the other, funds were segregated, and the projects were undertaken at different times, in different cities and for different owners.”

Discussion

This decision underlines how broad the right of set-off is under trust fund sections of the lien statutes. The Court of Appeal effectively acknowledged that the statutory set-off right could be asserted in circumstances in which an equitable right of set-off – itself a very broad form of set-off – could not be asserted. There is no apparent limit on the right of setoff contained in the trust fund section, although the Court of Appeal did say that it does not allow the trustee “to put some or all of the trust funds retained to general use.” Apparently, Provincial Store did not argue that the set-off in section 12 should be limited to a set-off otherwise recognized in law or equity, and Court of Appeal did not place that limit the ambit to the section.

The decision also underlines the fact that if a party relies on the trust fund section, then it must make a pleading to that effect and prove the facts that establish that a trust fund exists. The Court of Appeal may have been somewhat skeptical about a contractor asserting that it owed a trust fund obligation, and then asserting rights in its favour because of that obligation. Be that as it may, the next time that a party seeks to use the trust fund right in this reverse fashion, that party would be best to allege and prove that a trust fund has actually been retained and exists.

One may wonder why a set off against statutory trust funds should be wider than the set-off allowed either at law or in equity. One would have thought that trust funds mandated to be retained by the Construction Lien Act should be more vigilantly protected than other funds, and that any right of setoff under that Act should be no wider than what the law and equity otherwise provide. But, in section 12, the legislature has said “all outstanding debts, claims or damages” whether or not they arise under the project in question, and “all” does seem to mean “all”, at least apparently under this decision. The rationale may be that, having imposed a trust fund obligation on a party to a construction project when one otherwise would not exist, the legislature felt that the trustee should be entitled to take into account any other possible countervailing obligation that the beneficiary may owe.

This decision will likely be relevant to other set-off section contained in the Act, sub-section 17(3). That section permits a set-off against the value of the lien, subject again to Part IV, being the holdback. Sub-section 17(3) uses the same words that appear in section 12, namely, “all outstanding debts, claims or damages, whether or not related to the improvement.” So it appears that the same broad effect will be given to sub-section 17(3) as the Court of Appeal has given to section 12.

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

Architectural Millwork & Door Installations Inc. v. Provincial Store Fixtures Ltd., 2016 CarswellOnt 6796, 2016 ONCA 320

Construction liens – trust fund obligation – set-off against trust fund obligation – equitable set-off

Thomas G. Heintzman O.C., Q.C., FCIArb                               August 7, 2016

www.heintzmanadr.com

www.constructionlawcanada.com

This article contains Mr. Heintzman’s personal views and does not constitute legal advice. For legal advice , legal counsel should be consulted.

Ontario Divisional Court clarifies the Trust Fund Obligation Under The Construction Lien Act

In Robert Nicholson Construction Co. v. Edgecon Construction Inc., 2016 CarswellOnt 8345, 2016 ONSC 3107, the Ontario Divisional Court decided two matters of importance under the trust fund sections (sections 7-13) of the Ontario Construction Lien Act.

First, the court held that a subcontractor cannot assert a trust fund claim against the owner under the Ontario lien statute. That is because the trust fund obligation is only owed to a person in a contractual relationship with the person alleged to have that obligation. Thus, the owner owes the trust fund obligation to the contractor, and the contractor to the subcontractor. But the owner in this case did not owe such a duty to the subcontractor who was asserting the claim. As the court said:

“In other words, the Respondent concedes that the motion judge erred in law when he found that a subcontractor could be a beneficiary of the statutory trust fund created under s. 7(1) of the Act, as the wording of that section is clear; the owner’s trust fund exists “for the benefit of the contractor”. Under s. 8 of the Act, a separate and distinct trust obligation is imposed on contractors and subcontractors, the beneficiaries of which are other subcontractors (Colautti Construction Ltd. V. Ashcroft Developments Inc. et al, 2011 ONCA 359 (C.A.) at para. 73).

Since this decision was based upon a concession of the subcontractor, it may not have great weight, but it does apply the Ontario Court of Appeal’s decision in the Calautti case. In the latter case, the claim was by the owner against the contractor based upon the trust fund section, which seems like a non-starter from the beginning.

Most but not all of the provincial lien statutes provide that the beneficiaries of the trust fund obligation are the persons contracting at the next lowest level in the payment pyramid with the person owing a trust fund obligation. Under the New Brunswick lien statute, however, the beneficiaries are not limited to those persons who have a contract with the person owing a trust fund obligation, and include any persons providing services and materials to the improvement.

Second, the court addressed the subcontractor’s argument that the owner controlled the contractor because it paid the contractor. Section 13 of the Ontario Act says that any person who “has effective control of a corporation or its relevant activities” is also liable for a breach of the trust fund obligation by that corporation. As the court said, the subcontractor alleged that because the owner “had control over sending the general contractors the money they were entitled to, the [owner] had effective control of one of the general contractors’ “relevant activities”. As put by the [subcontractor], since the [owner] “held the purse strings”, they had “effective control”.”

The Divisional Court dismissed this argument as follows:

To allow this argument to succeed would mean that every owner is potentially liable under this section. Furthermore, in construction projects that are financed by lending institutions, the payments to general contractors can come directly from those lending institutions. According to the Respondent’s argument, those lending institutions could also be exposed to liability under s. 13…..It would be an absurd reading of the Act to find that someone who makes payments to a corporation has control over one of the payee corporation’s “relevant activities”, for the purpose of meeting the first precondition for liability under s. 13.

See Heintzman and Goldsmith on Canadian Building Contracts, 5th ed., chapter 16, parts 6(i) and (v)

Robert Nicholson Construction Co. v. Edgecon Construction Inc., 2016 CarswellOnt 8345, 2016 ONSC 3107

Construction Liens – Trust Fund obligation –beneficiaries of trust fund – effective control of contractor

Thomas G. Heintzman O.C., Q.C., FCIArb                            June 29, 2016

www.heintzmanadr.com

www.constructionlawcanada.com

This article contains Mr. Heintzman’s personal views and does not constitute legal advice. For legal advice, legal counsel should be consulted.

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

 

Supplier May Recover Against The General Contractor Based Upon A Promise Not To Register A Construction Lien

The Alberta Court of Appeal has recently decided an interesting issue relating to the right of a supplier to a subcontractor to enforce payment against the general contractor. The supplier alleged that the contractor had promised to pay it in exchange for the supplier’s agreement not to register a construction or builder’s lien. In Sherwood Steel Ltd. v. Odyssey Construction Inc., the Court of Appeal held that such a claim is enforceable and is not barred by res judicata, merger or abuse of process.

Background

Sherwood was a supplier to the subcontractor, Edmonton Concrete. It obtained judgement against Edmonton Concrete and was not paid. Sherwood then sued the contractor, Odyssey, alleging that Odyssey had promised to pay Sherwood if Sherwood did not register a builder’s lien. Odyssey moved for summary judgment on the basis that any such claim was barred by the fact that Sherwood had already obtained judgment against Edmonton Concrete and that its cause of action “merged” in that judgment and could no longer be asserted. The motion judgment agreed and dismissed the action.

Alberta Court of Appeal’s decision

The Alberta Court of Appeal allowed the appeal on three grounds.

First, since Odyssey was not a party to the first action against Edmonton Concrete, and was not privy to Edmonton Concrete, the basic principles of res judicata did not apply.

Second, the claim by Sherwood against Odyssey was not based on the same cause of action. Sherwood’s claim against Edmonton Concrete was based upon a contract between that company and Sherwood. Sherwood’s claim against Odyssey was based upon an entirely different contract between Odyssey and Sherwood.

Third, Sherwood’s claim was not barred as an abuse of process.   Odyssey argued that Sherwood’s claim against it would lead to double recovery. The Court of Appeal said that this would depend upon the proper interpretation of the contract between Sherwood and Odyssey. If the contract was to pay the indebtedness only to the extent that Edmonton Concrete did not pay, then no double recovery would arise.

The Court of Appeal held that, even if Sherwood’s claim against Odyssey was a separate cause of action not affected by recovery against Edmonton Concrete, this would not support the dismissal of Sherwood’s claim as an abuse of process. It said:

“It is not the law that parties are precluded from obtaining two separate judgments for the same loss. For example, the general rule is that there is no bar to a creditor bringing separate actions against both the debtor and guarantors….This is a particularly apt analogy here, given Edmonton Concrete’s financial difficulties which left Sherwood Steel looking to file a builder’s lien against title to the project lands. Just as it is no abuse of process for a creditor to obtain judgment on the debt and then sue on the guarantee, it is no abuse of process for Sherwood Steel to obtain judgment against Edmonton Concrete and then, not having received satisfaction, sue Odyssey on its alleged promise to pay. While their obligations may (again, depending on the interpretation of the contract between Sherwood Steel and Odyssey) be co-extensive, they are each separate and distinct, and as such may be asserted in different actions.”

The Court of Appeal also held that the fact that the damages were identical in each claim was not a bar to the second action. It said that “Our civil procedure permits multiple suits for the same damage” and continued:

“Contractors, architects and engineers who caused the same damage through separate breaches of separate contracts can be sued separately. Owners of motor vehicles can be sued separately from the operator for the same damage. Where all potential defendants are known from the outset (which would not have been the case on the facts alleged here, since Odyssey’s breach is said to have occurred only after Sherwood Steel obtained judgment against Edmonton Concrete), separate actions for the same loss are obviously an inefficient use of litigants’ and court resources. But that can be addressed under rule 3.72 of the Rules of Court (“Consolidation or Separation of Claims and Actions”). The point is that the mere fact of multiple potential judgments for the same loss does not denote an abuse of process, or even a potential abuse of process.”

The Court of Appeal went on to hold that the trial court had ample procedural mechanism to avoid double recovery, in particular by crafting the final judgment to ensure that that did not occur. However, it warned against the court being too cautious about fully awarding judgments to Sherwood. Rather, double recovery could be dealt with during the judgment enforcement process or by the judgment debtors dealing with the problem between themselves:

“I see no impediment in contract law to dividing liability between two parties who have breached two different contracts, causing the same damages to a plaintiff. Indeed, those avenues of recourse for Odyssey make it preferable that a specific, unconditional judgment for the full amount of the award be stated on the order. In other words, civil enforcement, whether by way of contribution between judgment debtors or set-off as between a judgment debtor and its judgment creditor, is a better route for avoiding over-compensation than adding contingent language to an order.”

Discussion

Lawsuits arising from construction projects can be numerous and complicated. They may run into various rules or doctrines designed to avoid multiplicity of proceedings. But ultimately the court must look through the whole process and do what’s fair and not allow the doctrines to get in the way.

When suppliers and subcontractors are unpaid, then there must be very good reason before court procedural rules bar their claims. In this case, the Alberta Court of Appeal was not prepared to allow those rules to stand in the way of a trial of the merits of the claim.

Interestingly, the Court of Appeal had no concern about Sherwood giving up its claim for a builder’s lien in entering into the contract with the contractor. The supplier agreed not to exercise a statutory right, and one which was against the owner. Yet, the court considered that agreement to be good consideration for the contract with the contractor. That result seems appropriate since the filing of a lien would likely have had a negative effect on the contractor in the form of additional holdbacks by the owner.

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

Sherwood Steel Ltd. v. Odyssey Construction Inc., 2014 CarswellAlta 1750, 2014 ABCA 320

Construction and Builder’s liens  –  Merger  –  Res judicata  –  Abuse of process

Thomas G. Heintzman O.C., Q.C., FCIArb                                               February 18, 2015

www.heintzmanadr.com

www.constructionlawcanada.com

 

 

 

 

 

Can A CCAA Order Affect The Priority Of Lienholders?

In Mission Creek Mortgage Ltd. v. New Recreations Ltd., the British Columbia Court of Appeal recently held that a lienholder whose liens had been discharged by an order made under the Companies’ Creditors Arrangement Act (CCAA) upon payment of security for their claims did not have any priority over or entitlement to that security.  This decision depended upon the wording of the Order by which the liens were discharged. Accordingly, this decision may alert owners, lienholders and mortgagees to the importance of the wording of orders discharging their liens and the submissions that are made when those orders are made, and may give rise to disputes over those orders in the future.

Background  

New Recreations was the owner and developer of property and obtained mortgage financing from Mission Creek Mortgage.   New Recreation contracted with construction companies for the construction of the project and the construction company registered liens when they were unpaid.  The project was delayed due to municipal bylaw issues. New Recreations ran into financial difficulties and brought an application for creditor protection under the CCAA.

During the CCAA proceedings, Mission Creek Mortgage advanced Debtor-in-Possession (“DIP”) funds to New Recreations. The funds were to be used, in part to satisfy the claims of lienholders which at that time amounted to about $750,000. The liens were discharged pursuant to a court order which provided that a security fund in the amount of $722,162.37 was to be held in trust pending the determination of the validity of the lien claims.

The order stated that:

4. The cancellation of the Liens against the Property pursuant to the provisions of the Builders Lien Act shall not deprive New Recreations, the respondents, or any other interested party, including secured or unsecured lenders, of the benefits of the provisions of the Builders Lien Act applicable to the Liens, the Security being in substitution for the Property;

5. The Order shall not affect the right of any person to claim that the Liens are improper or defective, or that the filing of the Liens has been improper or defective, nor shall the Order affect any right of any person under the Builders Lien Act;

6. Payment of the Security and the discharge of the Liens shall in no way change the relative priority of all creditors of New Recreations to the Security or the Property, the Security being substitution for the Property. For greater certainty, the secured creditors ….shall maintain any and all rights of priority that may exist to the Security, the Security merely standing in substitution for the Property.”

At the time of the making of this order, counsel for Mission Creek Mortgage said to the motion judge:

“[I]nclusion of paragraph 6 in the notice of application which maintains the priorities in the same manner as they are against the land such that if at the end of the day recovery was not sufficient from the land to pay out my client in full, my client would be in first priority on these funds. Hopefully that won’t be the case, but that’s what I understand paragraph 6 to be doing and on that basis we don’t have an issue with the application.”

Counsel for the lienholders on the motion advised the court they had no position to take on the application and the funds being held in a solicitor’s trust account.

The subsequent development was unsuccessful due to the bylaw problem. Mission Creek Mortgage caused the property to be sold.  The amount due under the mortgage financing was about $19 million and the amount advanced under the DIP financing was about $3.1 million. The amount realized on the sale was about $17.9 million or about $4 million less than the amount owing under the mortgage and DIP financing. The DIP financing was paid back out of the proceeds of sale. The lienholders asserted that their claims to the moneys being held in the security fund took priority over the mortgage and DIP financing.

The motion judge held that the mortgage and DIP financing had priority over the liens.  The motion judge said, in part:

“To interpret the Security Order as now suggested by the Lien Claimants would wholly re-order existing priorities when the clear intention of New Recreations Ltd. and the petitioner as made known by their counsel to the court was directly opposite the position now advanced by the Lien Claimants….I am not prepared to conclude in the face of the Lien Claimants’ silence at the time the Security Order was made, that Sigurdson J. intended the ordering of priorities they now assert.”

The British Columbia Court of Appeal upheld that decision.

The Decision

The lienholders relied upon a number of appellate decisions in Canada to the effect that, when liens are discharged by the provision of security, then the lienholders have an inviolate entitlement to first priority over that security, and that the mortgagee’s priority with respect to interests in the land did not apply to the security fund put in place when the liens were discharged.  The lienholders submitted that “the funds ordered to be held in a solicitor’s trust account are impressed with a first charge in favour of the lienholder appellants in priority to any claim that can be asserted by the mortgagee respondent.”

The Court of Appeal disagreed with the lienholders on this fundamental point. The court held that the order discharging the liens did give the lienholders a priority which they did not have at that time and that the mortgagee had an existing priority which applied to the security.  This conclusion appears to have rested on two points.

First, at the time the order discharging the liens was made, the mortgagee had priority to the liens, the land was worth less than the amount due under the mortgages and therefore there was no value in the land for the lienholders. In that circumstance, the order could not be interpreted to put the lienholders into a priority they did not then have. The court said:

“It must be remembered what the situation was at the time that the initial order of October 28, 2010 was made in the CCAA proceedings. An appraisal of the property expressed an opinion that a sale of the lands would realize less than the amount of the Mission Creek mortgages, but if the development could continue successfully, the property value should suffice to cover all outstanding indebtedness including the liens and another outstanding mortgage. Therefore, at that point in time and also at the point in time when the order of December 6, 2010 vacating the liens upon payment of security was made, there was no prospect of lienholders realizing anything on a present sale of the land…. In order to continue with marketing of the lands, it was necessary that the liens be vacated, hence the proceeding of December 6, 2010 to achieve this. It was the wish of all concerned, the landowner, the mortgagee and the lienholders that the development proceed to fruition so that all outstanding debts could be paid. ….. All parties who were before Sigurdson J. on December 6, 2010 were of a mind to have the development project continue in the hope and expectation that the successful completion of the project would accrue to the financial benefit of all concerned. If, for instance, the mortgagee respondent or any of the lienholders had sought a realization of security at that point in time, financial loss was a near certainty. In these circumstances, the inclusion of the crucial paragraph 6 of the order set forth in para. 9, supra, is entirely explicable.”

Second, the Court of Appeal expressed the view that the order discharging the liens was based upon the particular circumstances and understandings that could be gleaned from the events at that time – including the statements and silence of counsel – and importantly, that the order discharging the liens had been made in the CCAA proceeding. The court said the following:

“If this were a normal builders’ lien situation, the submissions made on behalf of the lienholders would have great force. However, this was far from the normal situation. The order of December 6, 2010 was made in course of the CCAA proceedings and purported to be made under the provisions of that Act and the Builders Lien Act.  Sigurdson J. was the judge dealing with the CCAA proceedings…. I think it is abundantly clear from paragraph 6 of the order made by Sigurdson J., which provided for the removal of the liens and the substitution of a fund as security for the lienholders, that the then extant priorities between the respondent mortgagee and the appellant lienholders would be unaffected by the posting of security to vacate the liens from title to the property. That term of the order is entirely in accord with the expressed wishes of all counsel before the judge. Those counsel included counsel for the lienholders.”

The Court of Appeal was also of the view that upholding the submissions of the lienholders could lead to “mischief and uncertainty in future CCAA proceedings” as the court would be “hobbled in the exercise of discretion to make necessary orders fostering the continuance of the enterprise.”

Accordingly, the Court of Appeal upheld the mortgagee’s priority to the security fund.

Discussion

The impact of this decision depends upon what is the true basis for it.

One view of this decision is that it is a one-off example of how the submissions of counsel at the time of the granting of the original order influenced the proper interpretation of the order. If that is the case, then counsel for lienholders may want to insist at the time of the making of the order that the order DOES entitle the lienholders to priority over the monies placed in trust when their liens are removed.  Normally, this should not be necessary and the effect of the order should be based entirely upon what it says, not the submissions (or silence) of counsel.

Another view would be that this decision is an example of the “super-priority” that can be given to DIP financing during a CCAA proceeding. However, if DIP financing could be given priority over pre-existing lien rights that had actual value at the time of the CCAA order removing the liens, that would cause a severe confrontation between the CCAA and the lien regimes and directly contradict the priority scheme set forth in the builders’ and construction lien legislation.

The third and better view appears to be that this decision is based upon the liens having no economic value due to the priority of the mortgages. Both the motion judge and the Court of Appeal proceeded on the basis that the advances under the mortgages having full priority over the liens.  In effect, the mortgage and DIP financing was given priority equivalent to the prior advances under the mortgage financing, even though the DIP financing was advanced after the work was done and the liens were registered and the liens would normally take priority over that financing under section 32(2) of the British Columbia Builders Lien Act.  The priority accorded to the DIP financing was due to two factors –

-the existence of the CCAA legislation empowering the court to keep the company alive while further business is conducted (in this case, the construction and sale of the project and land) with protection given to the lender who funds that business;

-and the liens having no economic value unless that further construction and sale occurred.

The result in the present case may be entirely due to the existing mortgages having priority over the liens, quite apart from the DIP financing. If, however, the decision is based upon the DIP financing gaining priority over the liens in respect of the security funds, then  the CCAA order was effectively held to be akin to an order under sub-sections 32(5) and (6) of the B.C. Builders Lien Act.  Under those subsections, the court may order that further advances made under a mortgage take priority over lien rights if the court is satisfied that the advances will be applied to complete the improvements and will increase the value of the lands.  However, sub-sections 32(5) and (6) require the court to be so satisfied before the order is granted and the order will expressly state that the further advances are accorded priority over the existing liens. Those requirements were not apparently met in the case of the CCAA order granted in the present case, and the order seems to have said to the contrary namely, that it did not affect the priorities between lienholders and the advances under the mortgages.

The result in this case may not be the same in other circumstances and other provinces. What if the lien rights did have value at the time of the CCAA order vacating the liens? Could that order still give the DIP financing priority over those liens, especially in the absence of the judge considering the factors and stating the priority of the DIP financing in accordance with subsections 32(5) and (6) of the B.C. Builders Lien Act before making the order?   And would the result be the same in Saskatchewan, New Brunswick and Prince Edward Island where the lien legislation states that when a lienholder’s lien is discharged by payment into court, the lienholder has a first charge upon those monies?  This issue was considered in my article dated March 13, 2012.

See Heintzman and Goldsmith on Canadian Building Contracts, 4th ed., chapter 11, part 4(l) and (m)

Mission Creek Mortgage Ltd. v. New Recreations Ltd. 2014 CarswellBC 760

Construction and builders liens   –  priority -liens and mortgages-order discharging liens  – Companies’ Creditors Arrangement Act

Thomas G. Heintzman O.C., Q.C., FCIArb                                                                June 10, 2014

www.heintzmanadr.com

www.constructionlawcanada.com

Can A Payment Bond Impose Double Payments On A Contractor?

Payment bonds come in various shapes and sizes and it is important to read them carefully before concluding what they bond. They may not just bond the payment obligation of the party obtaining the bond. They may also bond the payment obligations of all persons on the project.  If they do the latter, then the bond may expose the party which obtained the bond to more than one payment obligation.  That was the conclusion in Nova Scotia Court of Appeal in the recent case of APM Construction Services Inc. v. Caribou Island Electric Ltd.

 Background

ACS was an unpaid sub-sub-contractor on a building project of the province of Nova Scotia.  It sought payment under a bond obtained by the general contractor, APM, from Travelers Insurance. The bond stated as follows:

 NOW, THEREFORE, THE CONDITION OF THIS OBLIGATION is such that if the Principal shall at all times promptly make payment to all Claimants for all work, materials or services used or reasonably required for use in performance of the Contract, or as the same be changed, altered or varied, to the satisfaction of the Obligee, then this obligation shall be void.

. . .

IN THIS BOND where there is a reference to Claimant it shall mean any person, firm or corporation doing or performing any work or service or placing or furnishing any materials, or both, for any purpose related to the performance of the Contract:  work, service and materials being constructed to include all water, gas, power, light, heat, oil, gasoline, service or rental equipment which is supplied or used for or in connection with the performance of the Contract.   (underlining by the court)

APM’s subcontractor was Caribou Island Electric which had in turn subcontractred work to ACS, but had not paid ACS in full. Caribou owed taxes to the Canadian Revenue Agency and CRA made demand on APM for payment in full of the amounts owed by APM to Caribou.  The obligation of APM to pay CRA was undisputed, and the issue was whether, upon payment of those monies, Travelers had any fuher obligation to ACS and the other contractors or suppliers on the project.

ACS acknowledged that the payment by APM to CRA discharged APM’s payment obligation to Caribou under the subcontract and discharged the lien registered by ACS. Indeed, ACS acknowledged that this payment also discharged APM’s trust fund obligation, and in light of that admission the Court of Appeal said that the present case did not decide that issue.

However, ACS asserted that, even though APM’s contractual and lien obligations may have been discharged, the bond was not discharged.  It asserted that the bond was a separate and self-standing obligation which remained in effect, and Travelers was obliged to pay it under the bond.

APM and Travelers asserted that this interpretation of the bond was absurd, and that if Travelers was obliged to pay ACS’s claim, then APM would be obliged to recompense Travelers under the bond.  Effectively, APM would be obliged to pay monies twice, once to CRA and again to ACS. APM and Travelers said that that could not be the proper interpretation of the bond.

The Decision

 The Nova Scotia Court of Appeal helpfully stated the following principles applicable to the interpretation of a bond:

 

1. The bond is a freestanding contract and its terms ultimately govern the interpretation exercise. The wording of the bond’s terms must be given its ordinary and literal meaning. The words cannot be interpreted in isolation but must be looked at in the context of the bond as a whole.

2. The court will look to the intentions of the parties and, in so doing, will try to give commercial efficacy to the agreement. However, the court will not replace the parties’ agreement with its own. Thus, if the wording of the agreement is clear and unambiguous, parties will be held to their agreement, even where the results appear to be draconian or absurd….

3. Where the disputed contract is part of a series of contracts, the court will look to the surrounding contracts as well. However, in the context of surety bonds, the terms of the bond ultimately govern; while the underlying contract may be considered, it will only be determinative if the specific obligations contained within it are incorporated by reference into the bond.

4. Contra proferentemis available but only where there is an ambiguity that cannot be resolved through other principles of contractual interpretation.”

The Court then considered the form of other bonds. The standard form CCDC bond says:

  “…A Claimant for the purpose of this Bond is defined as one having a direct contract with the Principal for labour, material, or both, used or reasonably required for use in the performance of the Contract….”  (underlining added)

 The bond required by the federal government says:

 “For the purpose of this Bond, a Claimant is defined as one having a direct contract with the Principal or any Sub-Contractor of the Principal for labour, material, or both, used or reasonably required for use in the performance of the Contract …”  (underlining added)

 The Court noted that in the CCDC form, only subcontractors were protected by the bond, while in the federal form, contractors and subcontractors are protected.  The bond in the present case protected any person providing work or materials to the project.

Discussion

If a payment bond taken out by the contractor is premised on payment, not just of subcontractors by the contractor, but payment of any person performing work or service or placing or furnishing any materials, or for any purpose related to the performance of the main contract, then the bond will not be discharged by payment by the contractor to the subcontractor nor by the discharge of the contractor’s obligations under construction or builders lien legislation.

Rather, if so expressed, then the bond is a self-standing independent obligation to pay all persons performing work on the project which, if not fulfilled, may be called upon by any of those persons. Accordingly, if the contractor is obliged to pay a taxation authority which claims unpaid taxes against the subcontractor and therefore has a claim to the monies due by the contractor to the subcontractor, that payment may discharge the contractor’s liability under the subcontract with the subcontractor and under construction and builders lien legislation, but it will not discharge the bond, and the contractor may be liable a second time to recompense the bonding company.

Construction liens  –  bonds  –  priorities  –  subcontractors  –  interpretation

APM Construction Services Inc. v. Caribou Island Electric Ltd.,  2013 CarswellNS 291, 2013 NSCA 62, 21 C.L.R. (4th) 106

Thomas G. Heintzman O.C., Q.C., FCIArb                                                                                                        September 9, 2013

 www.heintzmanadr.com

www.constructionlawcanada.com

Does A Construction Lien Bond Satisfy A Trust Fund Claim?

There are several different remedies provided in construction and builders lien legislation that do not necessarily fit together well. Two remedies available to a subcontractor are the lien claim against the land and the trust fund claim against funds received or receivable by a contractor.

In the case of a lien claim, the payment of money into court or the provision of a bond discharges the lien against the land. But does it discharge the trust fund claim?  If it doesn’t, does that mean that a subcontractor can pursue a trust fund claim, so that it gets paid through that remedy while at the same time the monies remain in court or the lien bond remains in place? And if the subcontractor can do that, how does that affect the contractor’s counterclaim and set off for delay? Through its trust fund claim can the subcontractor force the owner to pay the full amount of the subcontractor’s claim before the trial of the contractor’s delay claim?

These were the issues addressed in the recent decision of the Manitoba Court of Queen’s Bench in Stuart Olson Dominion Construction Ltd. v. Structal Heavy Steel.

The Background

In December 2010 Stuart Olson entered into a contract with the owner BB Stadium Inc. for the construction of a new stadium in Winnipeg.  In April 2011, Stuart Olson entered into a subcontract with Structal for the structural steel and other facilities.  The deadlines in the subcontract were not met and the opening of the stadium was delayed for a year.

Claims and counterclaims were asserted between Stuart Olson and Structal.  Structal claimed over $8 million due to work scope changes and other factors. Stuart Olson asserted a delay claim against Structal in an amount over $9 million.

In September 2012, Structal demanded payment from Stuart Olson for its outstanding invoices in the amount of about $4.2 million.  Structal also asserted that the monies due to Stuart Olson from the owner were impressed with a trust fund claim in Stuructal’s favour and that Stuart Olson must use those monies to pay subcontractors and not itself.  Structal also filed a  lien against the land in the amount of about $15 million.

In October, 2012, Stuart Olson obtained a lien bond, approved by Structal, for the full amount of the lien on payment of a premium of $159,003.07 per year, and Structal discharged its lien against the land.

Structal continued to demand that Stuart Olson pay its outstanding invoices and claimed that the monies receivable by Stuart Olson from the owner were impressed with a trust in Structal’s favour.  Stuart Olson continued to maintain that it had a set-off against any claim asserted by Structal and maintained that Structal’s claim, whether in a trust fund form or otherwise, was fully secured by the lien bond that had been filed.

Structal then asked the owner to withhold funds from Stuart Olson failing which it would sue the owner under the trust provisions of the Manitoba Builders’ Liens Act. (the “Act”).   In response, Stuart Olson commenced an application to determine the legal position.

In the meantime, Stuart Olson commenced an action against Structal asserting its delay claim.

A certificate of substantial completion had been issued relating to the subcontract with Structal.  There were no lien or trust fund claimants other than Structal. There are no deficiencies in the work done by Structal and the owner was ready to make the remaining payment to Stuart Olson which had not paid because of Structal’s threat.  The real and remaining issue was the delay claim by Stuart Olson against Structal which would be dealt with in the separate action.

The Decision

The application judge held that the posting of the lien bond exhausted the contractor’s trust fund obligations in the particular circumstances of this case.

First, the judge held that prior judicial authority in Manitoba supported the principle that the filing of a lien bond discharges any trust fund obligations of the contractor.

Second, he held that prior judicial authority also supported the proposition that a set-off could apply to, and reduce, a trust fund claim.

Third, he held that it would be unfair to determine, at this stage, whether Stuart Olsson had or didn’t have a right of set-off. So the present issue could not be decided on the basis that Stuart Olson had no rights of set-off. It would not be fair to order payment of the trust funds to Sturctal in the presence of the delay claim by Stuart Olson.

In all the circumstances, the judge held that the filing of the lien bond by Stuart Olson satisfied its trust fund obligations and that upon receipt of the progress payments from the owner, Stuart Olson could disburse those funds without being in breach of the trust fund obligations under the Act.

Discussion

Assuming that the contractor, Stuart Olson, was financially capable of paying the future lien bond premiums, this decision makes eminent business sense. But it does raise some practical concerns. What if Stuart Olson could not or did not pay the future premiums? Would the bond have remained in place? What protection for the subcontractor would there have been in this eventuality?

What if other subcontractors had liens or trust fund claims? In some provinces, a lienholder must share with other lienholders the amount of a lien bond posted to satisfy its lien.  In these circumstances, a lien bond may be an uncertain source of funds for a trust fund claim.  And why shouldn’t the remaining payments by the owner be paid into court, with the amount of the lien bond being reduced accordingly? Wouldn’t that be a better way of resolving the conflict between the purpose of a lien and the purpose of a trust fund claim?  Since the contractor had no other subcontractors or suppliers to pay, the real question was: whose litigation claim should be financed through the lien bond: the contractor’s delay claim or the subcontractor’s claim to payment under the subcontract? An argument could be made that the purpose of the Act is to give priority to the subcontractor’s claim for payment. If that is so, then that result could be achieved by paying the remaining monies due by the owner into court and reducing the amount of the lien bond.

The present decision highlights the different wording in the different provincial lien statutes. In Manitoba, sub-section 5(3) allows the owner to retain trust funds if “provision for the payment of other affected beneficiaries of the trust fund has been made.” The words “provision for payment” also appears in sub-sections 4(3) and 4(4) with respect to the trust fund obligations of contractors and subcontractors.  These words seem to contemplate a lien bond and may envisage that if a lien bond is in place then the owner, contractor or subcontractor can make payments from trust funds. In contrast, sub-sections 7(4), 8(2) and 9(2) of the Ontario Act state that the trust is in place until the contractors or subcontractors “are paid.”  In the Ontario Act, specific provision is made in section 12 for set-off by a trustee such as an owner, but not in respect of the amount of holdback.   No specific provision for setoff is made in the trust fund sections of the Manitoba Act. The judge did not comment on the presence or absence of these provisions in the Manitoba Act. It certainly seems odd that the trust fund sections of the provincial Acts do not specifically deal with the impact of lien bonds and other forms of security for the lien upon trust fund claims.

See Heintzman and Goldsmith on Canadian Building Contracts, 4th ed., chapter 11, parts 2(g) and 3.

 Stuart Olson Dominion Construction Ltd. v. Structal Heavy Steel, 2013 MBQB 48

Construction and builders liens   –   trust funds   –   discharging liens   –   lien bonds

Thomas G. Heintzman O.C., Q.C., FCIArb                                              August 26, 2013

www.heintzmanadr.com

www.constructionlawcanada.com

 

Does A “Pay When Paid” Clause Prevail Over The Construction Lien Act?

A pay when paid clause is one of the more contentious contractual provisions in the construction industry. That clause typically says that the subcontractor is not entitled to be paid until the contractor receives payment from the owner. Because of its perceived unfairness, the clause has been outlawed, or its effect has been substantially limited, in the United Kingdom and in many states of the United States.

In Canada, there is conflicting appellate authority about the effect of a “pay when paid” clause.  Aside from that controversy, another important issue is: What effect does a “pay when paid” clause have on construction or builders liens? Can the clause eliminate the subcontractor’s entitlement to a construction or builders lien on the ground that, since the owner owes nothing to the contractor, then the contractor owes nothing to the subcontractor and so the subcontractor has no lien?  That was the issue in the recent decision of the Ontario Superior Court in Bradhill Masonry Inc. v. Simcoe County District School Board.

Background

B.W.K was the general contractor on a project to renovate the Bradford District High School and Bradhill was the brick work subcontractor.  A claim for lien was registered by Bradhill and was vacated on the provision of security by B.W.K. The subcontract between B.W.K. and Bradhill appears to have been largely prepared or approved by the owner with little or no input from Bradhill. In the payment portion of the subcontract, that contract stated as follows:

“and the balance of the amount of said requisition, as approved by BWK and the Architects and Engineers, shall be due to the subcontractor  on or about the thirtieth day of the following month, and upon receipt by BWK of monthly payment by the owners.” (emphasis in the original)

The owner asserted that, based on this clause and the decision of the Ontario Court of Appeal in Timbro Developments Ltd. v. Grimsby Diesel Motors Inc. [1988] O.J. No. 448, there were no monies due to the subcontractor when the subcontractor’s lien was registered because the owner had not paid B.W.K. for any work which was the subject of the lien. For this reason B.W.K. asked for the lien claim to be dismissed.

The Decision

The court rejected B.W.K.’s argument in rather forceful language, calling it “antithetical to the law in the Construction Lien Act” and “a clever shell game.” The court noted that, while the owner had not paid B.W.K. when the subcontractor’s lien was filed, the owner later made full payment to B.W.K. when, as the court said, “BWK finally decided to put in its final invoice which it delayed.”

The court noted that, if accepted, B.W.K.’s argument would be devastating for lien claimants:

“The defendant’s argument would mean that if the general contractor’s lawyer is sharp enough in drafting the contract, the Act’s remedy for subcontractors who have not been paid for the fair value of their work would be rendered worthless as the owner and/or general contractor would become entitled to the costs of the lien action and could cut off all future payments to the plaintiff to reimburse itself when a lien claim was made. And if a sub-trade filed a claim for lien at the wrong time, its lien is worthless because money was not due and payable at that particular time even though the tradesperson has not been fully paid for their work and materials supplied to the job.”

The court held that the subcontract could not eliminate the subcontractor’s lien because section 5 of the Construction Lien Act states that the Act is incorporated into every contract in a project covered by the Act and every such contract is deemed to be amended to be in conformity with the Act.

Moreover, the court noted that section 14(1) of the Act provides that a person who supplies services or materials to an improvement for an owner, contractor or subcontractor, has a lien upon the interest of the owner in the premises improved for the price of those services or materials, and that under section 15(1) a lien arises when the person first supplies those services or materials.

The court concluded on this issue as follows:

“…as to the argument of the defendant that there was no lienable amount owing unless and until an amount became due and payable under the contract’s accounting terms in the contract, I reject it. Contrary to the defendant’s submission, this contract, like all building contracts, is subject to The Construction Lien Act.  It is not the reverse, . . . . . . , that the Act be subject to the contract between the general contractor and the masonry sub-contractor Bradhill. When a sub-trade is owed money due to work that has improved the site, its claim is for the “price of those services or materials”, the value of the work and material supplied, not what is due and payable at any given time according to the contract. And money owed the contractor or received by BWK was trust money held for the sub-trades until they are paid. It is not for BWK to fail to pay money due the sub-trade just because that sub-trade filed a lien claim. This is a reading of the contract and the Act which would make the contract the superior instrument whereas, as I have shown, it is the law in Ontario that the contract is to conform to the Act. I reject the argument on behalf of BWK that would hold otherwise.

Discussion

The controversy about “pay when paid” clauses is heightened in Canada not just by the public policy debate about whether these clauses should be allowed. As mentioned above, in other countries these clauses have been eliminated by statute or severely restricted in their application. In Canada, there is further controversy about these clauses because there are contrary appellate decisions concerning the effect of a “pay when paid” clause.

On one approach, the clause bars any claim, even at the end of the job, if the contractor has not been paid by the owner. That was the conclusion of the majority of the Ontario Court of Appeal in the Timbro decision.

The other approach says that the clause is a timing mechanism only, that the clause provides for payment by the contractor to the subcontractor when the contractor is paid by the owner, but does not operate as a complete bar to the subcontractor’s claim at the end of the job. That was the approach taken by the Nova Scotia Court of Appeal in Arnoldin Construction & forms Ltd. v. Alta Surety Co. (1995), 19 C.L.R. (2d) 1. In that case, a bonding company relied upon the “pay when paid” clause to argue that it owed no monies on the bond since the contractor did not owe monies to the subcontractor due to that clause. The Nova Scotia Court of Appeal held that the clause, properly interpreted, only related to the timing of payment during the project and did not entirely bar the claim. The Court may have thought that it made no sense for the “pay when paid” clause to be interpreted as a bar to payment to the subcontractor when there was a bond in place, presumably to be called upon in the very circumstance of the owner not paying the contractor.

Smack in the middle of the heightened controversy about these clauses is the issue about whether they over-rule the construction and builders lien legislation. If they do, then the controversy would move to an even higher level. Those familiar with the “pay when paid” debate have been waiting for a decision to address this issue, and here it is in the Bradhill decision.

In Bradhill, the court held that the “pay when paid” clause did not over-rule the Construction Lien Act, for two reasons.

The first reason was that, by virtue of the Ontario Act, that Act was incorporated into the subcontract contract and the parties could not contract out of the Act.  That reasoning will not apply in all provinces. In some provinces, the construction or builders lien legislation effectively says that third parties and workers are not affected by any contract purporting to eliminate rights under the lien legislation, but does not prohibit other parties from entering into such contracts.  So if the decision in Bradhill depends on the wording of the Ontario Act, then in other provinces the “pay when paid” clause could still potentially over-rule the construction and builders lien regime.

The other reason given by the court in the Bradhill decision is based on the fundamental nature of a construction or builders lien.  The lien is not based upon the contract between the contractor and the subcontractor, or the contract between owner and the contractor. Rather, the lien is based on two ingredients: the price of the materials or services, and the supply of those services or materials to the improvement of the land.  The price or supply may be influenced by the contracts, but it is the price and supply which create the lien. The court in Bradhill effectively concluded that, based on those elements of a lien claim, the status of the accounts between the owner and the contractor are irrelevant, or could not impair the validity of the subcontractor’s lien.

This second line of reasoning should be applicable in all provinces. If adopted by other courts, this reasoning will ensure that, whatever may be the other impacts of “pay when paid” clauses, they will not over-ride the protections contained in construction and builders lien legislation.

See Heintzman and Goldsmith on Canadian Building Contracts, 4th ed., at Chapter 4 , part 2

Bradhill Masonry Inc. v. Simcoe County District School Board, 2013 ONSC 4708.

Construction Liens  –   Pay when Paid Clauses

Thomas G. Heintzman O.C., Q.C., FCIArb                                                                           August 15, 2013

www.heintzmanadr.com

www.constructionlawcanada.com