Court of Appeal for Ontario

Date: May 18, 2018 Docket: C64126

Judges: Hoy A.C.J.O., Juriansz and Miller JJ.A.

Between

Royal Host GP Inc., in its capacity as the general partner of the Royal Host Limited Partnership

Plaintiff (Appellant)

and

1842259 Ontario Ltd., Mao Hui Zhang, Tian Xing Yang and Dong Jiang

Defendants (Respondents)

Counsel

For the Appellant: Jonathan C. Lisus and Andrew J. Winton

For the Respondents: Dan Rabinowitz and Sean D. McGarry

Heard

March 12, 2018

On Appeal

From the judgment of Justice Marc A. Garson of the Superior Court of Justice dated July 5, 2017, with reasons reported at 2017 ONSC 3982.

Juriansz J.A.:

A. Facts

[1] The appellant owns a multi-story commercial building in which it operates a hotel. The respondents leased a portion of the building in which they operated a restaurant. A fire broke out in the respondents' kitchen causing extensive damage to the building. The appellant was indemnified by its insurer for its losses and its insurer commenced this subrogated action, in the appellant's name, seeking recovery of the damages suffered. The action alleges the fire was caused by the respondents' negligence.

[2] The respondents took the position that even if the fire were caused by their negligence, the terms of the lease prevented the appellant from bringing this action. The respondents brought a motion by way of special case seeking determination of the following question:

Does the lease bar the plaintiff's insurer from bringing this subrogated action for damages in the name of the plaintiff, as against defendants?

B. Decision of the Motion Judge

[3] The motion judge answered the question "Yes" and dismissed the appellant's action. This conclusion was based on the motion judge's construction of s. 7.02 of the lease. Section 7.02 provided the landlord "shall take out and maintain" fire insurance on the building and added the costs of the insurance to the common expenses paid by the tenants. It also stated that the tenant "is not relieved of any liability arising from or contributed to by its acts, faults, negligence or omissions".

[4] The motion judge relied on a trilogy of Supreme Court of Canada decisions: (i) Agnew-Surpass v. Cummer-Yonge, [1976] 2 S.C.R. 221; (ii) Ross Southward Tire v. Pyrotech Products, [1976] 2 S.C.R. 35; and (iii) T. Eaton Co. v. Smith et al., [1978] 2 S.C.R. 749. Citing these cases, he said "As a general rule, courts have limited the subrogation rights of an insurer when a landlord covenants to pay for the insurance and agrees to look to its own insurer for any loss."

[5] The Supreme Court set out two principles in the trilogy. The first is that a landlord's covenant in a lease to insure the premises is a contractual benefit for the tenant, and the tenant would receive no benefit if the landlord could sue the tenant for the damages due to its negligence. The rationale for the principle is that since the landlord is free to insure the premises, the inclusion of a covenant to insure must be for the benefit of the tenant. If the landlord's insurer were allowed to bring subrogated claims against the tenant, the covenant "expressly running to the benefit of the tenant…would have no subject matter": T. Eaton Co., at p. 754.

[6] The second principle is that where the tenant pays for the insurance coverage, it should get the benefit of the insurance coverage. The logic is that the tenant having paid for the insurance should get the benefit of the insurance. As Laskin C.J. put it in Pyrotech Products, at p. 41, the tenant "has paid for an expected benefit, as between itself and its landlord which any standard fire policy would reflect in providing indemnity to the landlord".

[7] The motion judge, following the logic of the Supreme Court in the trilogy, reasoned at paragraph 27, that the clause must be construed to benefit the tenant. He remarked, at paragraph 35, that "[i]t would defeat the purpose of the covenant to permit the insurer to look to the tenant for recovery after the lease clearly required the landlord to seek recovery from the insurer and not [the tenant]". He concluded "The language of the lease does not clearly and expressly reflect the parties' joint intention of permitting the landlord's insurer to recover damages from the defendants in the event of a fire loss caused by the defendants."

[8] The limiting language of s. 7.02, according to the motion judge, meant that the tenant was not relieved of any liability to third parties for its negligence. The tenant's obligation in s. 7.04 to acquire commercial general liability insurance did not shift liability for damage by fire from the landlord to the tenant because the tenant's insurance is intended to indemnify the landlord for joint and several liability from third-party claims.

[9] The motion judge noted that the lease, elsewhere, specifically addressed the issue of subrogation but s. 7.02 did not. Section 7.04, which required the tenant to take out commercial general liability insurance, expressly excluded any subrogated claim by the tenant's insurer against the landlord. He reasoned that if the parties had intended to depart from the general rule, they could have used similar language in s. 7.02 and expressly addressed and permitted the landlord's insurer a right to subrogate against the tenant.

[10] The motion judge also referred to s. 7.04's requirement that the tenant acquire insurance coverage for $5 million. He considered that, if the tenant were liable for damage from its negligence, it did not make commercial sense for the lease to require the landlord to take out insurance of at least $10 million, and yet require the tenant to acquire insurance only in the amount of $5 million.

[11] The motion judge concluded that the language in s. 7.02 referring to the tenant's negligence did not create a right of subrogation for the landlord's insurer and so dismissed the action.

C. Analysis

[12] The parties agree that the standard of review in this appeal is correctness. In a case that similarly involved the application of the trilogy in the interpretation of a lease, this court decided the standard of review was correctness: Deslaurier Custom Cabinets Inc. v. 1728106 Ontario Inc., 2016 ONCA 246, [2016] O.J. No. 1705. Justice Cronk, writing for the court, pointed out, at para. 26, the general standard stated in Creston Moly Corp. v. Sattva Capital Corp., 2014 SCC 53, [2014] 2 S.C.R. 633 was not absolute and:

…the correctness standard may apply to questions of contractual interpretation where it is "possible to identify an extricable question of law from within what was initially characterized as a question of mixed fact and law" (citation omitted). "Extricable questions of law" in this context include legal errors involving "the application of an incorrect principle, the failure to consider a required element of a legal test, or the failure to consider a relevant factor" (citation omitted).

[13] In this case, there was an agreed statement of facts and the motion judge's reasoning was restricted to the interpretation of the wording of the lease in light of the legal principles enunciated in the trilogy.

[14] The motion judge's analysis erred in principle by proceeding as if the Supreme Court, in the trilogy, pronounced a rule of general application. The motion judge repeatedly referred to "the general rule". The starting point for the analysis is that in the trilogy the Supreme Court did not enunciate freestanding principles. The principles drawn from the trilogy are contractual in nature. They are conclusions that flow from and reflect the particular provisions of the leases that were in issue in those cases.

[15] In the trilogy, the Supreme Court determined that it is the terms of the lease that establish the rights and obligations between landlord and tenant, and not the insurance policy. In Agnew-Surpass, Laskin C.J. stated, at p. 230, that "the question of the scope of the indemnity as it arises in this case is not dependent on the policy but, rather, so far as the lessor and lessee are concerned, on the terms of the lease." In Pyrotech Products, Laskin C.J. said at p. 41 "…the relations between landlord and tenant in respect of the tenant's liability to the landlord for damage from fire caused by negligence must be determined on the basis of the lease and not by reference to insurance policy considerations."

[16] The trilogy has not affected the fundamental tenet of contractual interpretation that it is necessary to discern the intentions of the parties in accordance with the language they have agreed to in the contract. The motion judge recognized that his task was to interpret the lease in accordance with the intentions of the parties, but he allowed the principles of the trilogy to override the plain language of the lease.

[17] The appeal turns on the proper construction of s. 7.02. The entire clause reads:

Section 7.02 Landlord's Insurance – Mandatory

The Landlord shall take out and maintain, to the full replacement value, fire and other hazard insurance, as the Landlord in its sole discretion may deem advisable, on the Building, excluding any property thereon with respect to which the Tenant or other tenants are obliged to insure, and its own general liability insurance, including general liability insurance in respect of the Common Areas in an amount no less than $10,000,000.00 in respect of any injury to or death of one or more persons and loss or damage to the property of others, the costs of which shall be included in Common Expenses.

Notwithstanding the Landlord's covenant contained in this Section 7.02, and notwithstanding any contribution by the Tenant to the cost of any policies of insurance carried by the Landlord, the Tenant expressly acknowledges and agrees that

(i) the Tenant is not relieved of any liability arising from or contributed to by its acts, fault, negligence or omissions, and

(ii) no insurance interest is conferred upon the Tenant, under any policies of insurance carried by the Landlord, and

(iii) the Tenant has no right to receive any proceeds of any policies of insurance carried by the Landlord.

[18] The first part of s. 7.02 of the lease in this case both obligates the landlord to purchase and maintain fire insurance on the building and requires the tenant to pay its proportionate share of the cost of such insurance. This, if it were all, would be a sufficient basis for the application of both conclusions the Supreme Court arrived at in the trilogy.

[19] However, s. 7.02 continues with a "notwithstanding" provision. The word "notwithstanding" appears twice. The first "notwithstanding" indicates the clause applies despite the landlord's covenant contained in s. 7.02 to purchase and maintain fire insurance. This seems to relate to the first principle of the trilogy. The second "notwithstanding" indicates the clause applies despite the tenant's contribution to the cost of the fire insurance policy carried by the landlord. This seems to relate to the second principle of the trilogy.

[20] The two "notwithstanding" phrases focus directly on the two features that when found in leases give rise to the principles of the trilogy. The ordinary grammatical meaning of the two "notwithstanding" phrases is that the stipulations that follow apply despite the existence of these two features.

[21] The plain meaning of s. 7.02 of the lease considered in isolation is that the tenant remains liable for its own negligence notwithstanding the landlord's covenant to purchase insurance and the tenant's contribution for the cost of that insurance. It remains to consider whether reading the lease as a whole dictates a different result.

[22] The respondents submit that s. 7.04 of the lease supports the motion judge's interpretation of s. 7.02 as referring to the tenant's liability to third parties. Section 7.04 obligates the tenant to take out insurance in the amount of $5 million for third-party liability. Section 7.04(ii) provides that the tenant's "insurance shall exclude the exercise of any claim by the tenant's Insurer against the Landlord by subrogation". The respondents argue, and the motion judge reasoned, that this shows that the parties contemplated the concept of subrogation and chose not to include language providing that the landlord's insurer would have the right to subrogate against the tenant in s. 7.02.

[23] I do not agree with this reasoning. This feature of the lease could be viewed to favour the appellant's construction. Employing the logic of the trilogy, s. 7.04 must be construed to be for the benefit of the landlord as, absent any contractual obligation, the tenant can purchase whatever insurance it thinks advisable. The landlord would lose the benefit of the tenant's covenant in s. 7.04 if the tenant's insurer could subrogate against the landlord. This was the reasoning of this court in Deslaurier Custom Cabinets Inc. On this analysis, the purpose for including, in s. 7.04, the stipulation that the tenant's insurer cannot subrogate against the landlord is to establish a distinction with clause 7.02, where the equivalent stipulation, i.e. that the landlord's insurer cannot subrogate against the tenant, is not included.

[24] The respondents also argue, if the parties' intent was to make the tenant ultimately responsible for all damages, it does not make sense for the lease to require the tenant to maintain only $5 million in insurance, while requiring the landlord to maintain $10 million in insurance. This is especially so, they say, considering the tenant occupies only a small portion of the building. They go on to submit it is not commercially reasonable to require a small tenant to insure the entire building and the landlord's associated damages.

[25] I do not find these arguments persuasive. The interpretation advocated by the appellant does not require the tenant to insure the entire building, but only to insure for damages due to its own negligence. It would not be commercially unreasonable for the parties to regard it as unlikely that the negligence of a small tenant would destroy the entire building. According to the appellant's statement of claim, the actual damage to the building in this case was in the order of $4 million. I see no basis to conclude that the lease's allocation of $10 million of risk to the landlord and $5 million to the tenant is commercially unreasonable.

[26] The appellant points to a number of clauses that support its interpretation of s. 7.02. For example, several provisions impose on the tenant the contractual obligation to repair damage to the building resulting from the tenant's negligence. The respondents submit these provisions should be read to address only the tenant's liability to third parties.

[27] There are, however, no words in the lease that support such a construction. The lease must be interpreted in accordance with the language the parties have used. In law, a tenant is liable for damage caused by its negligence. The question is whether the parties to a lease have contracted that the ordinary principles of negligence law will not apply and the tenant will not be liable to the landlord for damages caused by its negligence. In my view, the parties to this lease have not done so.

[28] According plain meaning to the language of s. 7.02 does not make the clause inconsistent with the lease as a whole. The lease provides in clear, express and unambiguous language that the tenant has the benefit of the insurance the landlord has covenanted to purchase in all circumstances except where the damage is caused by its own negligence. The motion judge erred in not giving effect to this language.

D. Conclusion

[29] I would allow the appeal, set aside the motion judge's order and replace it with an order answering the question posed on the stated case "No".

[30] Reflecting the agreement of counsel, I would fix the appellant's costs of the appeal in the amount of $10,000, and the appellant's costs of the motion in the amount of $10,000, both amounts inclusive of disbursements and HST.

Released: May 18, 2018

"R.G. Juriansz J.A."

"I agree. Alexandra Hoy A.C.J.O."

"I agree. B.W. Miller J.A."