Valente v. Courey, Executor of the Estate of Stephen Fancsy [Indexed as: Valente v. Fancsy Estate]

70 O.R. (3d) 31

[2004] O.J. No. 635

Docket No. C39206

Court of Appeal for Ontario

Laskin, Feldman and Sharpe, JJ.A.

February 19, 2004

Bankruptcy -- Acts of bankruptcy -- Ceasing to meet liabilities generally -- Proof of bankruptcy within six months preceding filing of petition -- Failure to pay judgment or order -- When there are special circumstances, failure to pay single creditor can constitute act of bankruptcy -- However, one outstanding judgment debt does not necessarily constitute special circumstances -- Bankruptcy and Insolvency Act, R.S.C. 1985, c. B-3, ss. 42(1)(j), 43(1).

When there are special circumstances, the failure to pay a single creditor can constitute an act of bankruptcy under s. 42(1)(j) of the Bankruptcy and Insolvency Act. Although an unsatisfied judgment constitutes a continuing demand [page32 ]for payment, one judgment does not necessarily constitute special circumstances. Before the court can be satisfied that the failure to pay one judgment debt constitutes a failure to meet liabilities generally as they become due, all the circumstances must be considered, including: the size of the judgment; how long it has been outstanding; why it has been outstanding; whether there has been a judgment debtor examination; the results of the judgment debtor examination; and what steps the judgment creditor has taken to determine whether there are other creditors and the results of those inquiries.

APPEAL from a judgment granting a petition for a receiving order.

Platt v. Malmstrom (2001), 2001 24037 (ON CA), 198 D.L.R. (4th) 285, 53 O.R. (3d) 502, 24 C.B.R. (4th) 70 (C.A.), expld Other cases referred to Aarvi Construction Co. (Re) (1978), 29 C.B.R. (N.S.) 265, [1978] O.J. No. 2623 (QL) (S.C.); Harrop of Milton Inc. (Re) (1979), 1979 1688 (ON SC), 29 C.B.R. (N.S.) 289, 92 D.L.R. (3d) 535, 22 O.R. (2d) 239 (S.C.); Holmes (Re) (1976), 1975 667 (ON SC), 9 O.R. (2d) 240, 60 D.L.R. (3d) 82 (S.C.); Roy (Re) (1982), 44 C.B.R. (N.S.) 86, [1982] O.J. No. 2422 (QL) (S.C.) Statutes referred to Bankruptcy and Insolvency Act, R.S.C. 1985, c. B-3, ss. 42(1), 43 Authorities referred to Houlden, L.W., and G.B. Morawetz, The 2004 Annotated Bankruptcy and Insolvency Act (Toronto: Carswell, 2003)

David Swift, for appellant. Rodney Godard, for respondent.

The judgment of the court was delivered by

[1] FELDMAN J.A.: -- This appeal concerns a disputed petition for a receiving order. For the following reasons, I would allow the appeal, set aside the receiving order, allow the respondent to amend the petition and send the matter back to the bankruptcy judge.

Facts and Findings

[2] The petitioning creditor is the estate of Stephen Fancsy. Before he died, Mr. Fancsy advanced $900,000 to the debtor, Peter Valente, evidenced by a promissory note dated September 12, 1997. The note provided that interest would be at a rate of ten per cent and that the full amount was payable on September 15, 1998. The parties also entered into a share pledge agreement to secure the debt. The agreement provided that it was the sole recourse of the creditor in the event of default on the promissory note. The debtor held the shares in trust for his son, and represented in the [page33 ]share pledge agreement that he had obtained the authorization of the beneficial owner of the shares to pledge them pursuant to the agreement.

[3] The debtor never paid any moneys under the note. The creditor's estate obtained summary judgment on the note on May 10, 2000, in the amount of $1,139,178.07 plus costs. No amount was ever paid on the judgment. The creditor conducted a judgment debtor examination on November 21, 2000, at which the debtor acknowledged that at that date there was another outstanding judgment against him for $800,000.

[4] The petition for a receiving order relied on the one debt, the judgment on the promissory note, and recited that the creditor held no security on the debtor's property for payment on the debt. In his notice disputing the petition, the debtor denied that he had failed to meet his liabilities generally as they became due, acknowledged the petitioner's debt and that it had not been paid, but stated that following the judgment representatives of the creditor estate had agreed to take steps to realize on the pledged shares but had not attempted to do so.

[5] The two issues for the bankruptcy judge were: (1) whether the one judgment debt over $1,000 constituted the act of bankruptcy defined in s. 42(1)(j) of the Bankruptcy and Insolvency Act, R.S.C. 1985, c. B-3 ("BIA"), ceasing to meet liabilities generally as they become due; and (2) whether the creditor held security for the debt which it did not disclose in the petition.

[6] The bankruptcy judge granted the petition. She held: (1) based on this court's decision in Platt v. Malmstrom (2001), 2001 24037 (ON CA), 53 O.R. (3d) 502, 198 D.L.R. (4th) 285 (C.A.), the judgment automatically qualified as a special circumstance required for a single debt to constitute the act of bankruptcy under s. 42(1)(j); and (2) because the creditor had obtained judgment on the promissory note in the face of the provision in the share pledge agreement that made it the sole recourse for default under the note, the judgment on the note must be taken as a denial of the validity or effectiveness of the share pledge agreement and was res judicata on that issue. Consequently, the petitioning creditor was not a secured creditor and the affidavit to that effect did not constitute non-disclosure.

Issues on Appeal

(1) Did the bankruptcy judge err in holding that the single debt owed to the petitioning creditor qualified under s. 42(1)(j) of the BIA as "ceas[ing] to meet . . . liabilities generally as they become due"? [page34 ]

(2) Did the bankruptcy judge err in finding that the petitioning creditor was not a secured creditor and therefore not obliged to value its security in the petition for the receiving order?

Analysis

Issue one

[7] The relevant sections of the BIAare 43(1) and 42(1)(j). Section 43(1) sets out when a creditor may petition a debtor into bankruptcy. The section provides:

43(1) Subject to this section, one or more creditors may file in court a petition for a receiving order against a debtor if, and if it is alleged in the petition that,

(a) the debt or debts owing to the petitioning creditor or creditors amount to one thousand dollars; and

(b) the debtor has committed an act of bankruptcy within six months next preceding the filing of the petition.

Section 42(1)(j) provides:

A debtor commits an act of bankruptcy . . . if he ceases to meet his liabilities generally as they become due.

[8] It is now well-settled in the case law that the failure to pay a single creditor can constitute an act of bankruptcy under s. 42(1)(j) when there are special circumstances, which have been recognized in three categories: (a) where repeated demands for payment have been made within the six-month period; (b) where the debt is significantly large and there is fraud or suspicious circumstances in the way the debtor has handled its assets which require that the processes of the BIA be set in motion; and (c) prior to the filing of the petition, the debtor has admitted its inability to pay creditors generally without identifying the creditors: Re Holmes (1976), 1975 667 (ON SC), 9 O.R. (2d) 240, 60 D.L.R. (3d) 82 (S.C.); see also Houlden and Morawetz, The 2004 Annotated Bankruptcy and Insolvency Act (Toronto: Carswell, 2003) at 147 D10(3).

[9] The bankruptcy judge held that there was no evidence establishing criteria (b) or (c). In this case, the debt has been pursued to judgment. The petitioning creditor does not state that repeated demands were made for payment of the judgment debt. Rather, the petitioning creditor relied on the case of Platt, supra, for the proposition that a judgment constitutes a continuing demand for payment and the failure to satisfy the judgment is a continuing refusal by the judgment debtor. The bankruptcy judge applied Platt and found that the one judgment satisfied the first test from Holmes and constituted an act of bankruptcy under s. 42(1)(j). [page35 ]

[10] In Platt the issue before the court was whether the act of bankruptcy had occurred within the six months prior to the petition. The concern in Platt was that there was no demand within the six months prior to the petition. The court noted that the theory behind the six-month limit is to ensure that a bankruptcy petitioner does not rely on stale-dated debts; however, it has been accepted that continued demands for payment following the debt and within the six-month period can have the effect of reviving the original debt, thus making the debt once again current: Re Harrop of Milton Inc. (1979), 1979 1688 (ON SC), 22 O.R. (2d) 239, 92 D.L.R. (3d) 535 (S.C.). The court also referred to a line of cases that has recognized that no demand is necessary within the six months if there is evidence of a continuing default. See, e.g. Re Aarvi Construction Co. (1978), 29 C.B.R. (N.S.) 265, [1978] O.J. No. 2623 (QL) (S.C.). The court held that a judgment debt is a continuing demand for payment and in that context, is able to satisfy the statutory time requirement, that is, it can be considered as one of the debts that forms part of an act of bankruptcy within the six- month period prior to the petition. The court stated at para. 18: "It is inappropriate to require a creditor who has proceeded properly through legal channels and become a judgment creditor to make frequent demands for payment to the judgment debtor, only for the purpose of ensuring that the statutory time limitations are complied with" (emphasis added).

[11] The petition in Platt relied on six debts, four of which were taken to judgment. Each of the debts predated the petition by more than six months. The court was satisfied based on the number of debts and the continuing failure to pay them, that an act of bankruptcy had been committed within the six-month limit.

[12] However, that may not be the case where, for example, a single creditor obtains a judgment and either shortly thereafter petitions the debtor into bankruptcy based on the judgment and the implicit demands, or does nothing for an extended period, then petitions on the basis that the judgment constitutes a continuing demand. In neither case would the judgment be evidence of failure to meet obligations generally, as contemplated by the special circumstances doctrine.

[13] Henry J. explained the philosophy behind allowing a single debt to be sufficient evidence of failing to meet liabilities generally as they become due in Re Holmes, supra, at p. 243 O.R.:

Because this Court has in some of the recent decisions referred to, such as Dixie Market [(Nurseries) Ltd. (1971), 14 C.B.R. (N.S.) 281 (Ont. S.C.)], Polyco [Distributors Ltd. (1971), 14 C.B.R. (N.S.) 285 (Ont. S.C.)] and King Petroleum [Ltd., (1973), 1973 540 (ON SC), 2 O.R. (2d) 192 (Ont. S.C.)], made a receiving order [page36 ]on proof of failure to meet a liability to a single creditor, it is not to be taken to have established a new principle that a petitioning creditor need only prove default with respect to the debt owing to him. Those decisions in my judgment do not lay down such a principle; they are as I see it, merely the application to particular facts of the general rule (exemplified by the decision in Re Elkind, [(1966), 9 C.B.R. (N.S.) 274 (Ont. S.C.)]), that when relying on an act of bankruptcy described in s. 24(1)(j) the petitioning creditor must strictly establish that, in the words of the statute, the debtor "ceases to meet his liabilities generally as they become due"; in all of them the Court was influenced either by the existence of other creditors, or of one of the special circumstances I have set out above. In the non-exceptional case, as in the case at bar, that situation cannot be ordinarily proved by having regard to the experience of one creditor only, even though he may be a major creditor. Resort to the statutory machinery of the Bankruptcy Act, rather than to the remedies to enforce a debt or claim in the ordinary Courts, is intended by Parliament to be for the benefit of the creditors of a debtor as a class, and the act of bankruptcy described in s. 24(1)(j) is in my judgment, an act that singles out the conduct of the debtor in relation to the class, rather than to the individual (as is the case under s. 24(1)(e)). It is for this reason that the Court must be satisfied that there is sufficient evidence from which an inference of fact can fairly be drawn that creditors generally are not being paid. This requires as a minimum some evidence that liabilities other than those incurred towards the petitioning creditor, have ceased to be met. The Court ought not to be asked to draw inferences with respect to the class on the basis of one creditor's experience where evidence of the debtor's conduct towards other members of the class could, with reasonable diligence, be discovered and produced. The Court's intuition is no substitute for the diligence of the petitioning creditor.

[14] The question for this court is whether the concept that a judgment constitutes a continuing demand will render every debt that has been pursued to judgment a special circumstance making that one debt evidence of an act of bankruptcy.

[15] Based on Platt, once a debt has been pursued to judgment, because that judgment constitutes a continuing demand for payment, it can form the basis for a finding that it constitutes an act of bankruptcy based on special circumstances. However, one judgment debt will not necessarily constitute special circumstances in every case. Ultimately the issue for the bankruptcy court on a petition for a receiving order is whether the creditor has proved that the debtor committed the act of bankruptcy alleged in the petition. Sections 43(6) and (7) provide:

43(6) At the hearing of the petition, the court shall require proof of the facts alleged in the petition and of the service of the petition, and, if satisfied with the proof, may make a receiving order.

(7) Where the court is not satisfied with the proof of the facts alleged in the petition or of the service of the petition, or is satisfied by the debtor that he is able to pay his debts, or that for other sufficient cause no order ought to be made, it shall dismiss the petition.

[16] Before the court can be satisfied that the failure to pay one judgment debt is tantamount to failing to meet liabilities generally [page37 ]as they become due, the court must examine and consider all of the circumstances including:

-- the size of the judgment -- a small unpaid judgment is less likely to indicate an act of bankruptcy than a very large one;

-- how long the judgment has been outstanding -- there may be reasons why a recently obtained judgment has not been paid as yet, including a potential appeal, the need to arrange for the marshalling of funds, the intent to make arrangements for payment over time or in the case of a default judgment, knowledge of the judgment;

-- if a judgment has been outstanding for a long time, it may be that the debtor believes that the creditor is willing to wait for payment, and is paying his or her other debts as they fall due;

-- whether the judgment creditor has conducted a judgment debtor examination and the results of that examination -- if the judgment creditor can collect without invoking the mechanism of the bankruptcy process, a petition ought not to be granted;

-- what steps the judgment creditor has taken to determine whether the debtor has other creditors and the results of those inquiries.

[17] In this case, the bankruptcy court judge appeared to conclude that the one judgment automatically constituted special circumstances and an act of bankruptcy, without considering whether, in all of the circumstances, the petitioning creditor had proved that the debtor was not meeting his liabilities generally as they fell due.

[18] The creditor had conducted a judgment debtor examination, the main thrust of which appeared to have been directed to the issue of the pledged shares. The record does not disclose whether other assets were pursued or whether the sheriff was sent to attempt to levy execution. (A report that there are no assets upon which to levy, itself constitutes an act of bankruptcy under s. 42(1)(e).)

[19] In this case, the only other potentially relevant evidence is the existence of another large judgment debt of $800,000 in favour of the Canadian Imperial Bank of Commerce which was outstanding at the date of Mr. Valente's judgment debtor examination, [page38 ]November 2000, more than six months before the petition. The petition did not rely on this debt. Nor did the bankruptcy judge consider this evidence an acknowledgement by the debtor that he was failing to meet his liabilities generally as they became due. The petitioning creditor provided no proof that that judgment remained outstanding at the time of the petition. The debtor filed an unsworn Notice of Cause Against the Petition which states that he is able to meet his obligations as they come due and denies committing an act of bankruptcy. Although the debtor could have provided proof that he had paid the Bank of Commerce debt, the onus is on the petitioning creditor to prove the act of bankruptcy: Re Roy (1982), 44 C.B.R. (N.S.) 86, [1982] O.J. No. 2422 (QL) (S.C.). The creditor could have called the bank as a witness on the petition or filed an execution certificate showing the continued existence of the debt.

[20] As the bankruptcy judge treated the judgment as automatically constituting an act of bankruptcy without considering the factors identified at para. 16 of these reasons, I would set aside the receiving order, but remit the matter to the bankruptcy judge for further consideration.

Issue two

[21] It appears from the record that it is not disputed that the creditor does retain the security of the pledged shares, whether or not the terms of the share pledge agreement were ignored in obtaining judgment on the note. It is therefore unnecessary to comment on the issue of res judicata referenced by the bankruptcy judge.

[22] In those circumstances, the creditor may either value the pledged shares for the purpose of the petition, deducting that value from the debt, or disclaim the pledged shares in the context of the bankruptcy: s. 43(2). Once that is done, the bankruptcy court will be in a position to assess whether the single judgment at issue constitutes an act of bankruptcy.

Conclusion

[23] Both at trial and on this appeal the creditor requested as alternative relief that it be allowed to amend the petition to value or disclaim the security under s. 43(2). In my view, in the circumstances it is appropriate that the creditor be allowed to amend its petition as advised (including in respect of other debts, if they exist) and the matter be referred back to the bankruptcy court in Windsor to consider the amended petition and any response by the debtor. [page39 ]

[24] The costs of the appeal are fixed at $3,000 inclusive of GST and disbursements and shall be payable in the cause of the petition.

Order accordingly.