When can a bankrupt transfer personal assets to a family member without the transaction being considered a preference?
The Bankrupt, in an effort to prop up a failing business (the “Corporation”), convinced his sister and father to lend the Corporation $98,000 and $53,000, respectively. As ostensible security, the Corporation purported to pledge a 2015 Corvette to the Bankrupt’s sister and a 2011 Mercedes SUV to the Bankrupt’s father. The transactions were memorialized in identically worded loan documents.
The Corporation did not own the vehicles; the Bankrupt personally owned them. Furthermore, there was no registration of any security interests at any time under the Personal Property Security Act (the “PPSA“). The Corporation defaulted on both loans in December 2015, and was dissolved on January 2, 2016. The vehicles were transferred by the Bankrupt to his sister and father in satisfaction of their respective loans. The Bankrupt made an assignment in bankruptcy on December 12, 2016.
The Trustee sought to set aside the vehicle transfers for the benefit of the estate on grounds that they are preferences under s. 95(1) of the Bankruptcy and Insolvency Act (the “BIA“) as non-arm’s length transfers. The Registrar in Bankruptcy refused to set aside the transfers, concluding, instead, that the vehicles would not come into the Debtor’s estate for the benefit of his creditors. (our analysis of that decision can be found HERE) The Trustee appealed from the decision.
The regime governing preferences is set out in s. 95 of the BIA. The Trustee argued that each transfer fell within the meaning of a non-arm’s length transfer occurring within 12 months of bankruptcy and was therefore void against the Trustee. Moreover, the creditors could not shelter under the exception found in s. 95(2.1)(b) because the transfers were not made in connection with “financial collateral and in accordance with the provisions of an eligible financial contract.”
The Court agreed with the Trustee regarding the applicability of the exception. The term “financial collateral” has a specific meaning in the BIA and refers to financial instrument-types of security. A pledge of a motor vehicle to secure a loan would not constitute “financial collateral”. The transfers were not “in accordance with the provisions of an eligible financial contract”, and the loan documents were not “eligible financial contracts”. Otherwise, the exception would become the rule and all secured transactions would fall within the exception. The Court held that the exception in s. 95(2.1)(b) of the BIA did not apply to these transfers.
The creditors argued that perfection of their security interests was achieved by the taking of possession of the respective vehicles on each date of transfer. In so doing, they relied on s. 24(1) of the PPSA. They claimed that, since possession was effected by a voluntary transfer of ownership, and not by seizure or repossession, the concluding words of s. 24(1) did not apply. The Trustee argued that the vehicles were taken by way of realization or enforcement and thus the vehicles were not held as collateral.
The Court agreed with the Trustee in this regard. Holding something as collateral means there is some prospect that the collateral can be redeemed and returned to the debtor once the debt is paid. Here, the transfer of the vehicles was intended as satisfaction for the debt, not as collateral for a future prospect that the debt will be paid. A security interest in collateral is not effective against a Trustee in Bankruptcy if the security interest is not perfected at the date of bankruptcy. The security interest of both creditors in the respective vehicles was not perfected and therefore was not enforceable against the Trustee.
As far as the Trustee was concerned, the Bankrupt simply gave his vehicles to his relatives to satisfy his indebtedness to them, at a time when he was also indebted to Canada Revenue Agency for $2,000,000 and during the period caught by s. 95(1) of the BIA. The Court found and declared the transfers of the vehicles in each instance to be void as against the Trustee as non-arm’s length transfers within the meaning of s 95(1) of the BIA. The Court acknowledged that s. 95(1) of the BIA may be invoked in the right circumstances to overturn a perfected security interest, but that was not the situation in this case.
The Court noted that the creditors’ experience speaks to the need to have proper documentation and registration under the PPSA in order to enhance commercial certainty, even where family members are concerned.
Counsel: Bryan Maruyama of Parlee McLaws for the Appellant Faber Inc., Aminollah Sabzevari of the Department of Justice Canada for Canada Revenue Agency, Shaun Wetmore of McCuaig Desrochers LLP for the Respondent Elza Pereira and Bren Cargill of Witten LLP for the Respondent Domingos Pereira