Alberta Court of Queen’s Bench reaffirms validity of “priority flip” upon bankruptcy‎

In MNP Ltd. v. Canada Revenue Agency (MNP v CRA), the Alberta Court of Queen’s Bench (“ABQB”) clarified the effect of bankruptcy on a writ of enforcement’s “binding interest” acquired on registration against a debtor’s land, ultimately holding that whatever priority a writ’s binding interest has before bankruptcy, it is undercut by the debtor’s bankruptcy. In so doing, the ABQB reaffirmed the validity of a “priority flip” between secured creditors and unsecured judgment creditors upon a debtor’s bankruptcy.

Background

Various writs of enforcement were registered against a bankrupt debtor’s (the “Debtor”) lands, including writs in favour of the Canada Revenue Agency (“CRA”). The CRA’s writs were registered against titles to the Debtor’s lands subsequent to the majority of writs held by unsecured judgment creditors.

A chartered bank (the “Bank”) held security over the whole of the Debtor’s personal property pursuant to a general security agreement, but had not secured any of its debts by way of mortgages.

Upon the Bankruptcy, the CRA became a secured creditor of the Debtor due to the combined effect of section 223(11.1) of the Income Tax Act and sections 86 and 87 Bankruptcy and Insolvency Act (“BIA”).

Following the debtor’s assignment into bankruptcy, funds were brought into the Debtor’s bankruptcy estate from the sale of the Debtor’s real property by mortgage enforcement proceedings and in transactions initiated by the Debtor’s trustee in bankruptcy (the “Trustee”).

Significance of a writ’s binding interest

The Trustee took the position that the binding interest of the judgment creditors’ writs enabled them to maintain a priority position vis-à-vis CRA and the Bank following the Debtor’s bankruptcy. As the AQBQ framed it, the crux of this case was “what significance, if any, a writ's binding interest has after the debtor becomes bankrupt i.e. when the possibility of writ-enforcement sales by the judgment creditor in question or other judgment creditors effectively evaporates?”

The Trustee argued that the “binding interest for writs” on the real property of the Debtor had a continuous nature that subsisted after the Debtor’s bankruptcy. As was acknowledged by all parties and  was accepted by the Court, per the operation of sections 33 and 35 of Alberta’s Civil Enforcement Act (the “CEA”), writs of enforcement grant the writ holder a binding interest against the exigible property of a judgment debtor. The effect of such binding interest is that, prior to bankruptcy, an unsecured writ holder maintains a priority to the equity in a debtor’s property over the subordinate registered interest of a secured creditor. 

However, the Court stated that the Trustee, by looking to maintain that priority in bankruptcy,  was effectively asking for the non-CRA writ holders to gain secured creditor status in the bankruptcy. This argument was rejected.

The secured creditor-writ holder priority flip is reaffirmed in Alberta

Unlike judgment creditors, the rights of secured creditors are explicitly protected by the scheme of the BIA. Secured creditors are not stayed from commencing or continuing enforcement actions upon bankruptcy and are granted a priority interest in funds brought into the bankruptcy estate pursuant to BIA section 136. The upshot of the differential treatment amongst judgment creditors and secured creditors is the reversal of the pre-bankruptcy priority interest between a judgment creditor who has registered an interest against a debtor’s property and a secured creditor who has perfected its interest by registration subsequent to the registration of the judgment creditor’s interest. In bankruptcy, the interest of the secured creditor in the proceeds realized from the disposition of the debtor’s property moves ahead of the interest of the judgment creditor, who is left to share only in the residual proceeds on a pro-rata basis with other unsecured creditors This phenomena has been described in jurisprudence and scholarship as the “priority flip.”

In MNP v CRA, the ABQB ultimately determined that the CRA and the Bank, by virtue of their status as secured creditors of the Debtor, maintained a priority entitlement to the surplus proceeds from sale of the Debtor’s lands over the writ holders according to the ranking scheme set out in BIA. In determining that the binding interest of writ holders in Alberta is of no significance in bankruptcy, the ABQB thus reaffirmed the validity of the priority flip as between secured creditors and writ holders in Alberta.

Takeaway

The binding interests stemming from writ registration do not continue in bankruptcy in Alberta. The ABQB has decisively interpreted the BIA’s scheme to provide that judgment creditors with registered writs are on the same footing as all other unsecured creditors. Secured creditors take priority to unsecured creditors, regardless of their relative positions before bankruptcy.

Unsecured judgment creditors should expeditiously pursue judgment enforcement proceedings against a judgment debtor’s property or endeavour to obtain a grant of security from a judgment creditor. Secured creditors bearing interests subordinate to registered judgment creditors may wish to consider petitioning a debtor into bankruptcy so as to avail themselves of the priority status resulting from the priority flip in bankruptcy. 

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