COURT OF APPEAL FOR ONTARIO DATE: 20210812 DOCKET: C67520

Juriansz, Huscroft and Jamal JJ.A.

In the Matter of the Bankruptcy of Robert Morris Jr. McEwen and Caroline Elizabeth McEwen, of the Town of Perth, in the County of Lanark, in the Province of Ontario

BETWEEN

Barbara Lynn Carroll by Her Litigation Guardian Shannon Luknowsky, Shannon Luknowsky, Jeffrey Carroll and Shannon Luknowsky as Executor for the Estate of Lorne Carroll

Plaintiffs (Respondents)

and

Robert McEwen and Caroline McEwen

Respondents

and

Traders General Insurance Company, improperly described in Superior Court of Justice Court File Number CV-17-00073740-0000 as Aviva Canada Inc.

Person Affected by an Order

Obtained on Motion Without Notice

(Appellant)

Counsel: Harvey Chaiton and Alan Rachlin, for the appellant Joseph Y. Obagi, for the respondents

Heard: May 14, 2021

On appeal from the order of Justice Stanley J. Kershman of the Superior Court of Justice, dated September 26, 2019, with reasons reported at 2019 ONSC 5593.

Juriansz J.A.:

A. Introduction

[1] This appeal is brought by the defendant to an action assigned to the respondents by a trustee in bankruptcy under s. 38 of the Bankruptcy and Insolvency Act, R.S.C. 1985, c. B-3 (“BIA”). As is often observed, the BIA is a complete code governing the bankruptcy process. Parliament enacted the BIA to provide summary and expeditious procedures to determine the questions that arise in bankruptcy with a minimum of cost. Generally, the defendant to a s. 38 assigned action lacks standing in the bankruptcy process to contest the s. 38 order and resulting assignment and thus avoid defending the assigned action. Where such defendants wish to avoid the risk and expense of responding to assigned lawsuits that they consider meritless, the civil rules of practice provide summary procedures to which they can resort.

[2] In this case, Traders General Insurance Co. (“Traders”) appeals, with leave, from the order of Kershman J. dated September 26, 2019, dismissing its motion to set aside his order dated December 21, 2016, pursuant to s. 38 of the BIA, made in the bankruptcy of Robert McEwen and Caroline McEwen. The s. 38 order authorized the respondents (the “Carrolls”) to commence an action against Traders for alleged bad faith in failing to settle the Carrolls’ personal injury claims against the McEwens within the policy limits. After the s. 38 order was made, the trustee assigned its interest in the action to the Carrolls, as contemplated by s. 38(2).

[3] I conclude that Kershman J. correctly found Traders did not have standing to challenge the s. 38 order, and consequently, I would dismiss the appeal.

B. Facts

(1) The personal injury action

[4] On March 28, 2009, Barbara Carroll was injured by a motor vehicle driven by Robert McEwen and owned by Caroline McEwen. The McEwens were insured by Traders [1] for $1 million. On March 25, 2011, the Carrolls commenced an action against the McEwens and their own insurers, Aviva Canada Inc. and Pilot Insurance Co. Some months later, on September 15, 2011, the McEwens filed for bankruptcy, automatically staying the Carrolls’ personal injury action. The sworn statement of affairs that the McEwens filed in their bankruptcy listed the Carrolls’ personal injury claim as an unsecured claim for $375,000.

[5] On June 18, 2012, the McEwens received their automatic absolute discharge from their bankruptcy, and subsequently, the trustee was discharged.

[6] On October 12, 2012, the Carrolls obtained an order lifting the stay of proceedings pursuant to s. 69.4 of the BIA, and granting leave to the Carrolls “to continue to prosecute their claims against the bankrupts, ROBERT MCEWEN and CAROLINE MCEWEN.”

[7] The Carrolls claim they made an offer to settle the action within policy limits on the eve of the trial that began in September 2015, and that the offer was not accepted by Traders. The trustee wrote to the McEwens’ counsel stating that the insurer, by refusing the offered settlement, had placed its own financial interests in priority to that of its insureds and accordingly was acting in bad faith. The trustee gave notice to Traders “that in the event a Judgment is granted against Robert and Caroline McEwen for any sum greater than the limits of the liability policy, we hold Aviva fully liable for the excess amount.”

[8] After a six-week trial, the jury assessed Barbara Carroll’s pain and suffering in the amount of $300,000 and her future care costs in the amount of $3,600,000. The jury also awarded family law damages in the amount of $43,000. The jury found Barbara Carroll 38 percent contributorily negligent for the accident. With pre-judgment interest included, the trial judge’s formal judgment, dated September 19, 2016, found the McEwens liable to the Carrolls in the amount of $2,610,744.32 plus costs and post-judgment interest. The formal judgment also ordered the Pilot Insurance Company to pay $1 million of the judgment pursuant to the provisions of the OPCF 44R endorsement in the Carrolls’ own automobile insurance policy. The trial judge included a paragraph in the judgment limiting the McEwens’ personal liability. The paragraph provided:

THIS COURT ORDERS AND AJUDGES that the judgment against the Defendants Robert McEwen and Caroline McEwen, personally, is limited to the limits of their insurance policy with the Aviva Insurance Company Canada in the amount of $1,000,000.00.

[9] Finally, the trial judge made a conditional assignment order of Barbara Carroll’s future statutory accident benefits in favour of the insurer if the insurer paid the trial judgment in full, even though it exceeded the limits of coverage. The trial judge fixed costs of the action in the amount of $375,000, a sweeping reduction from the amount claimed of $795,616.09 because of the behaviour of the Carrolls’ counsel relating to a settlement offer made by the insurance companies, the lack of benefit to the Carrolls in pursuing the trial, and the behaviour of the Carrolls’ counsel that extended the trial: Carroll (Litigation guardian of) v. McEwen, 2016 ONSC 2075, 37 C.B.R. (6th) 70. The Carrolls’ appeal of the assignment order and the costs award was unsuccessful: Carroll v. McEwen, 2018 ONCA 902, 143 O.R. (3d) 641.

(2) Proof of claim and s. 38 order

[10] On October 11, 2016, the Carrolls filed a proof of claim in the McEwens’ estate for the amount of $624,349.01, which was the amount awarded by the trial judgment in excess of insurance coverage. The Carrolls also asked the trustee to advance a bad faith claim against Traders for its refusal to settle the action within the policy limits before trial. The trustee, after consulting with the Office of the Superintendent of Bankruptcy regarding the scope of s. 41(10) of the BIA, which provides a discharged trustee may perform duties “as may be incidental to the full administration of the estate”, advised the Carrolls in writing that it would accept the proof of claim as filed, that it would not take any action against the McEwens’ insurers, and that it would consent to a s. 38 BIA order allowing the Carrolls to take the action in their own name.

(a) Section 38

[11] Section 38 of the BIA contemplates that the trustee may refuse or neglect to take a proceeding. Here, the trustee refused to take action with respect to any claim against Traders, stating the estate was without funds. In such situations s. 38 of the BIA allows a creditor to obtain a court order authorizing it to take the proceeding at its own expense and risk. Section 38(1) provides:

Where a creditor requests the trustee to take any proceeding that in his opinion would be for the benefit of the estate of a bankrupt and the trustee refuses or neglects to take the proceeding, the creditor may obtain from the court an order authorizing him to take the proceeding in his own name and at his own expense and risk, on notice being given the other creditors of the contemplated proceeding, and on such other terms and conditions as the court may direct.

[12] Upon such an order being made, s. 38(2) provides that the trustee shall assign and transfer to the creditor all their right, title, and interest in the proceeding including any document in support thereof. Section 38(3) provides that any benefit derived from the proceeding belongs exclusively to the creditor who instituted the proceeding to the extent of their claim, and that any surplus belongs to the bankrupt estate.

(b) The Carrolls’ motion for a s. 38 order

[13] The Carrolls applied for a s. 38 order. The supporting material for their motion included a lawyer’s affidavit alleging that Traders had acted in bad faith leading up to the trial by refusing to settle the personal injury claim within the policy limits. The exhibits to the affidavit included the Master’s order to continue, the Carrolls’ offer to settle the personal injury action, the trial judge’s judgment in the amount of $2,610,744.32, the Carrolls’ proof of claim, a letter from the trustee accepting the proof of claim, and the trustee’s consent to the s. 38 order.

[14] The Carrolls served the motion materials on the trustee and the other creditors of the estate. They did not serve Traders. The motion came before Kershman J., who granted the s. 38 order on December 21, 2016. The next day the trustee assigned the bad faith claim to the Carrolls. On August 25, 2017, the Carrolls issued the statement of claim against Aviva Canada, claiming damages for the breach of a duty of good faith in its dealings with the McEwens’ insurance coverage.

[15] The statement of claim pleads that Aviva Canada provided the McEwens with liability insurance with policy limits of $1 million and that “[t]he rights, interests and liabilities [of the McEwens] … under their policy of insurance” were transferred to their trustee in bankruptcy. It goes on to plead that at the same time as Aviva Canada was defending the action against the McEwens, Aviva Canada (together with Pilot Insurance Company) was also the insurer of Barbara Carroll under her OPCF 44R Family Protection Endorsement with limits of $2 million. The theory of the bad faith action asserted in para. 16 of the statement of claim, is that Aviva Canada “improperly withheld the policy limits of the McEwens in an effort to leverage the settlement position and litigation strategy of Aviva Canada in its capacity as OPCF 44R insurer of Barbara Carroll.”

[16] In the action, the Carrolls claimed damages of $624,349.01, which is the amount of the judgment in excess of the McEwens’ insurance coverage, and punitive and exemplary damages of $1 million.

(c) Traders’ motion to set aside the s. 38 order

[17] Traders moved to set the s. 38 order aside, indicating it was “improperly described” as Aviva Canada Inc. in the Carrolls’ bad faith action. Traders’ motion, brought in the Superior Court of Justice in Bankruptcy and Insolvency, sought an order:

1. reversing the decision of the trustee to allow the proof of claim filed by the Carrolls;
2. setting aside the s. 38 order granting the Carrolls leave to commence proceedings against Traders; and
3. setting aside the trustee’s assignment of the bad faith claim of action to the Carrolls.

[18] The motion relied on ss. 37 and 187(5) of the BIA. Section 37 allows the bankrupt, any creditor, or an “aggrieved” person to apply to the court to confirm, reverse or modify an act or decision of the trustee. Section 187(5) allows the court to “review, rescind or vary” any order made by it under its bankruptcy jurisdiction.

[19] Traders’ motion alleged:

1. the Carrolls’ proof of claim was improper and filed in violation of the trial judge’s reasons and judgment in the personal injury action;
2. the Trustee erred by accepting the Carrolls’ proof of claim;
3. the bad faith claim was not property belonging to the McEwens on the date of bankruptcy and did not devolve on the McEwens before their discharges from bankruptcy;
4. the Trustee had no interest in the bad faith claim and therefore could not consent to the s. 38 order and could not assign the bad faith claim to the Carrolls;
5. the trustee could not consent to the s. 38 order and assign the bad faith claim after it had been discharged;
6. the Carrolls had acted improperly in obtaining the s. 38 order without giving notice to Traders; and
7. that the Carrolls failed to make full disclosure in their s. 38 motion.

[20] The motion was brought before Kershman J. who had granted the s. 38 order.

(3) Kershman J.’s decision

(a) Standing

[21] The motion judge dismissed Traders’ motion on the basis that it lacked standing to attack the trustee’s acceptance of the proof of claim and assignment of the bad faith action, and lacked standing to challenge the s. 38 order.

[22] Kershman J. held that Traders had failed to put forward any basis on which it was an “aggrieved party” under s. 37 of the BIA for the purpose of reviewing the trustee’s decisions to accept the proof of claim and to assign the bad faith claim to the Carrolls. On appeal, Traders does not seek to rely on s. 37.

[23] Kershman J. also held that Traders did not have standing to review the s. 38 order of the court. He recognized that Traders’ motion fell within an exception to the general rule that defendants have no standing to challenge a s. 38 order because Traders had alleged misrepresentations and non-disclosure by the Carrolls. However, he made findings of fact rejecting these allegations. Therefore, Traders fell within the general rule and had no standing to challenge the s. 38 order.

[24] After he concluded Traders’ motion failed for lack of standing, Kershman J. recognized he had no jurisdiction to deal with Traders’ arguments but went on to address them anyway “in consideration of the possibility that this Court is found to have otherwise erred in its standing analysis”. He indicated he would have rejected all of Traders’ arguments and dismissed its motion, even if it had had standing.

C. Issues on Appeal

[25] The relief claimed on appeal is narrower than what was sought before the motion judge. The amended notice of appeal seeks to appeal only from the dismissal of Traders’ motion to set aside the s. 38 order granting leave to the Carrolls to commence the bad faith action against Traders. The amended notice of appeal does not seek to set aside the trustee’s acceptance of the Carrolls’ proof of claim and his assignment of the bad faith claim to the Carrolls. Traders’ factum on appeal is consistent with the amended notice of appeal. The request for relief in the factum requests only an order setting aside the s. 38 order.

[26] On appeal, Traders raises three issues:

1. Did the motion judge err in holding that Traders had no standing to challenge the s. 38 order?
2. Should the s. 38 order be set aside because the Carrolls were not creditors of the McEwens?
3. Should the s. 38 order be set aside because the bad faith claim was not property of the bankrupts and therefore could not be assigned by the trustee?

D. Analysis

(1) Traders had no standing to challenge the s. 38 order

[27] In order for Traders to advance its second and third issues, it must establish that the motion judge erred in holding that it had no standing to challenge the s. 38 order.

(a) The general rule is that a proposed defendant has no standing to challenge a s. 38 order

[28] The established and strict rule, subject to “certain limited exceptions”, is that a defendant to an action assigned under s. 38 has no standing to contest the assignment: Shaw Estate v. Nicol Island Development Incorporated, 2009 ONCA 276, 248 O.A.C. 35, at paras. 44-45. But for the exceptions, the proposed defendant to an intended action has no right to notice of the application for a s. 38 order, no right to be heard at the application, and no right to review or appeal the order if it is made: Coroban Plastics Ltd., Re (1994), 10 B.C.L.R. (3d) 52 (C.A.) (sub nom Formula Atlantic Financial Corp. v. Attorney General of Canada), at para. 8. The motion judge in Formula Atlantic, in explaining the defendant’s lack of standing, noted that a proposed defendant’s rights are not adversely affected by the transfer from trustee to creditor of whatever right of action may exist: “[t]he order … imposes no liability on the [proposed defendant] which did not previously exist, and leaves it free to assert in the action every defence it ever had”: at para. 8.

[29] In Shaw, at paras. 43-45, Cronk J.A. reviewed the jurisprudence that establishes the general rule against standing and the limited exceptions. Cronk J.A. explained that the reason for the limited exceptions is “to ensure that the administration of justice and the integrity of the bankruptcy process had not been undermined”: at para. 48. Thus, the defendant will be granted standing to contest a s. 38 order when there are allegations of “abuse of process, non-disclosure, procedural irregularities, fraud and misrepresentation to the court”: at para. 48. As well, where the s. 38 order imposes obligations on the defendant to the assigned action, directs it to take specific steps in the litigation, or subjects it to costs, it will have standing to move to vary the order: Shaw, at para. 45.

[30] The appropriate practice for a defendant claiming standing under the exceptions is to challenge the s. 38 order by bringing an application for review under s. 187(5) of the Act: Shaw, at para. 46. Section 187(5), however, does not give the defendant standing it does not otherwise have: Formula Atlantic, at para. 11. Unless an exception applies, the defendant to an action assigned under s. 38 cannot resort to s. 187(5) to attempt to review and rescind a s. 38 order authorizing a creditor to proceed with an action against it.

[31] As noted already, in this court Traders does not contest the motion judge’s finding that there was no misrepresentation or lack of disclosure that would allow Traders standing. In this court Traders submits that the Shaw exceptions are not exhaustive. It submits the New Brunswick Court of Appeal recognized a different exception in Isabelle v. Royal Bank of Canada, 2008 NBCA 69, 336 N.B.R. (2d) 332. Traders submits that Isabelle stands for the proposition that a defendant has standing to challenge a s. 38 order on the basis of a “discrete and genuine issue of law that if decided in favour of the potential defendant would avoid the need to defend a lawsuit that never should have been commenced in the first place”: Isabelle, at para. 39.

(b) Isabelle does not change the law

[32] In my view Traders misconstrues what was said in Isabelle. On my reading, the New Brunswick Court of Appeal did not intend to create a new exception to the general rule that a proposed defendant has no standing to challenge a s. 38 order. Isabelle had nothing to do with standing to challenge a s. 38 order that has been issued. Isabelle addressed standing at the s. 38 motion itself. Isabelle established that where a proposed defendant is also a creditor, and thus has notice of another creditor’s s. 38 motion, a motion judge has a narrow discretion to grant that proposed defendant standing on the s. 38 motion if it “raises a discrete and genuine issue of law that if decided in favour of the potential defendant might well avoid the need to defend a lawsuit that should never have been commenced in the first place”: at para. 39. The circumstances of this case are different.

[33] The issue in Isabelle was whether a bank, which was both the proposed defendant to the s. 38 assigned action and a creditor, should have been granted intervener status to oppose another creditor’s s. 38 motion. The proposed defendant had received the notice of motion because it was also a creditor. The court said a proposed defendant that is also a creditor was entitled to participate in the s. 38 proceedings “for the limited purpose of preserving his or her right to share rateably in the spoils of the action”: at para. 33. The court also recognized that a motion judge, when hearing a s. 38 motion, retained a narrow discretion to grant a proposed defendant who is also a creditor standing to raise a determinative discrete and genuine of law: at paras. 5, 39.

[34] In my view, it is a mistake to divorce the court's comments from the context of the case and understand them as generally applicable. The court’s comment in Isabelle applies only to a proposed defendant who happens to be at the s. 38 hearing because it is also a creditor. The court was not suggesting that a party named as a defendant in a s. 38 order could be granted standing to move to set aside the order after it had been made.

[35] It may well be more efficient to allow a defendant, who is participating in the s. 38 motion as a creditor, to raise a decisive discrete and genuine issue of law in opposing the motion, but there is no economy in allowing a defendant to commence a s. 187(5) process to review and rescind the s. 38 order after it has been made rather than raising the alleged decisive issues on a summary judgment motion in the assigned lawsuit itself. Isabelle alluded to the situation in which the proposed defendant had not been given notice of the s. 38 motion and suggested, “then presumably the potential defendant has the right to raise the issue on a preliminary motion once the lawsuit is filed”: at para. 38.

[36] In my view, Isabelle provides no support for the contention that a defendant has the right to standing to review an issued s. 38 order, under s. 187(5), on the basis of a determinative discrete and genuine issue of law.

[37] I conclude that Traders, having abandoned its allegations of misrepresentation and lack of disclosure, does not have standing to challenge the motion judge’s grant of the s. 38 order.

E. Conclusion and Discussion

[38] The conclusion that Traders has no standing to challenge the s. 38 order dictates that the appeal be dismissed, and this court is without jurisdiction to determine the other issues raised. The motion judge went on to address Traders’ other arguments “in consideration of the possibility that this Court is found to have otherwise erred in its standing analysis”. I will follow the same approach.

(1) The s. 38 order should not be set aside on the basis that the Carrolls were not creditors of the McEwens

[39] Traders argues that the Carrolls were not creditors of the bankrupt and therefore a s. 38 order could not be made authorizing them to proceed with the action. The wording of s. 38 makes clear that an order can only be made in favour of a “creditor”.

[40] To support this argument, Traders submits: 1) the stay of proceedings against the McEwens had been lifted solely to enable the Carrolls to access the McEwens' insurance proceeds; 2) the trial judge had specifically limited the judgment against the McEwens to the limits of their insurance policy; and 3) the most the Carrolls could realize of the damages awarded was the amount of their liability and underinsured insurance coverage.

[41] Traders’ submissions presume that whether the Carrolls were creditors was a “discrete and genuine issue of law” that would be determinative. That presumption is incorrect. The question whether the Carrolls were creditors of the bankrupt estate is a question of fact before the s. 38 motion judge. Cronk J.A. in Shaw, at para. 60, said, “For the purpose of a s. 38 motion, the court need only be satisfied on a balance of probabilities that the applicant is a creditor of the bankrupt”: at para. 60. See also DeGroote v. Canadian Imperial Bank of Commerce (1996), 45 C.B.R. (3d) 132 (Ont. Gen. Div.), at para. 7, aff'd , 37 O.R. (3d) 651 (C.A.), leave to appeal to S.C.C. refused, [1998] S.C.C.A. No. 149; Alfano v. KPMG Inc. (1999), 7 C.B.R. (4th) 47 (Ont. Gen. Div.); and Polar Products Inc. v. Hongkong Bank of Canada (1992), 14 C.B.R. (3d) 225 (B.C.S.C.).

[42] On appeal, a s. 38 motion judge’s conclusion that the applicant is a creditor would be reviewed as a finding of fact. For example, in Shaw, Cronk J.A. was satisfied there was “some evidence” the applicant was a creditor: at para. 62. In Shaw, there was an affidavit before the motion judge that the applicant was a creditor, and though the applicant’s proof of claim was not part of the affidavit, the bankrupt’s “sworn statement of creditors and liabilities, in which he acknowledged the [applicant] as one of his unpaid creditors at the date of bankruptcy, was attached as an exhibit to the affidavit”: at para. 61.

[43] In this case, there was evidence before the motion judge that the Carrolls’ claim had been included on the McEwens’ sworn statement of affairs filed on the date of bankruptcy; that the Carrolls had a judgment against the McEwens in the amount of $2,610,744.32; and that their proof of claim for the damages in excess of the limits of the insurance policy had been accepted by the trustee (a determination of the trustee that is not contested on appeal). Based on this evidence, it is my view the motion judge could have been satisfied the Carrolls were creditors for the purpose of s. 38.

(2) The s. 38 order should not be set aside on the basis that the bad faith claim was not property of the bankrupt

[44] The second argument Traders makes is that the bad faith claim is not property of the bankrupts because it did not devolve on them before they were discharged as required by s. 67(1)(c) of the BIA.

[45] Traders relies on this court’s decision in Dundas v. Zürich Canada, 2012 ONCA 181, 109 O.R. (3d) 521. In that case the court held an action against an insurer for breach of its duty of good faith was not a claim “under” the insurance contract; rather, it was an extra-contractual claim that did not arise until the insurer’s liability to indemnify the insured was established. Traders argues that in this case its liability to indemnify the McEwens was not established until more than three years after the McEwens were discharged from bankruptcy in June 2012. Traders’ liability to indemnify the McEwens was established at the earliest when the jury rendered its verdict on October 30, 2015, or more likely when the trial judgment was issued on September 19, 2016. Traders argues that since the bad faith cause of action did not arise until after discharge it could not be property that devolved on the McEwens before their discharge. Thus, Traders submits the bad faith claim did not vest in the trustee and the trustee was unable to assign it.

[46] The issue may raise a question of law that could be determinative, but it is not one that the s. 38 motion judge had to decide. This court has held, where the trustee consents to the s. 38 order, that the merits of the action are irrelevant at the s. 38 motion: Dominion Trustco Corp., Re (1997), 50 C.B.R. (3d) 84 (Ont. C.A.).

[47] The reasons of the court are admittedly brief, but the court made clear it approved of the reasoning of the motion judge in that case. Cameron J. in that case, Dominion Trustco Corp., Re (1997), 45 C.B.R. (3d) 25 (Ont. Gen. Div.), said, at paras. 12-13:

The purpose of s. 38 is to enable the creditors to protect their own interests where the Trustee declines, for economic or other reasons, or neglects to do so. The merits of the action have nothing to do with this purpose.

If this was not a bankruptcy situation, there is nothing to prevent the holder of a right of action assigning it to another without regard to the merits of the right of action. The fact that the assignor is a bankrupt should not give the proposed defendant a right to attack the authorization based on the merits of the cause of action.

[48] He opined, at para. 11, that the merit of the action was an issue for the trial of the action itself:

an issue for the courts of the jurisdiction hearing the action. If this was a condition, the proposed defendant would, by way of appeal from a s. 38 order, have two opportunities to attack the proposed action on the basis that it is without sufficient merit to justify bringing the action. This makes no sense to me in the context of the BIA. It is better left for determination under the laws of the jurisdiction in which the proceedings will be brought.

[49] Cameron J. did recognize that there may be a need for a s. 38 motion judge to inquire into the merits when the trustee opposes the granting of the order: Jolub Construction Limited, Re (1993), 21 C.B.R. (3d) 313 (Ont. Gen. Div.).

[50] In upholding Cameron J.‘s decision this court stated that the registrar who granted the s. 38 order did not have “a duty to be assured that there was substance in a claim which is going forward by consent of the Trustee”: Dominion Trustco, at para. 1.

[51] The Alberta Court of Appeal is the only other court of appeal to consider Dominion Trustco. In Smith v. Pricewaterhousecoopers Inc., 2013 ABCA 288, the Alberta Court of Appeal distinguished Dominion Trustco on the basis that the motion in Dominion Trustco proceeded with the consent of the trustee: at para. 21. In Smith, the trustee had not consented and the court, citing a long line of authority, described establishing a prima facie case or showing the claim is not frivolous or vexatious or “obviously spurious” as a requirement for issuing a s. 38 order: at para. 19.

[52] In Davidson (Re), 2021 ONCA 135, 86 C.B.R. (6th) 1, this court followed Smith without citing Dominion Trustco. However, that was a case in which the s. 38 motion was made without the trustee’s consent.

[53] Houlden and Morawetz, citing Zammit, Re (1998), 3 C.B.R. (4th) 191 (Ont. Gen. Div.), a decision that followed Dominion Trustco, say, “in Ontario, an applicant for a s. 38 order does not have to present a prima facie case”: Lloyd W. Houlden, Geoffrey B. Morawetz & Dr. Janis P. Sarra, Bankruptcy and Insolvency Law of Canada, 4th ed (Toronto: Thomson Reuters Canada, 2009, loose-leaf) Bankruptcy and Insolvency Act, at §86 (WL). That is so, at least in a case in which the trustee consents to the s. 38 order.

[54] The s. 38 order, in this case, was issued with the trustee's consent. Thus, even if Traders had general standing in the bankruptcy process to contest the s. 38 order, its argument that the trustee had no property interest in the bad faith action would fail as it relates to the merits of the proposed action.

[55] Taking the analysis one step further, even if the assessment of the merits of the proposed action was a prerequisite of the issuance of a s. 38 order, the bad faith claim, in this case, meets the “not spurious” standard. Upon the McEwens’ bankruptcy, their liability for the motor vehicle accident was transferred to the trustee and the bankrupt estate became liable for the damages caused by the accident. The McEwens’ contract of insurance was also transferred to the trustee and the bankrupt estate became the insured and entitled to the proceeds of the insurance to satisfy the estate’s liability to the Carrolls: Mercure v. Marquette & Fils Inc., [1977] 1 S.C.R. 547, at p. 553; Perron-Malenfant v. Malenfant (Trustee of), [1999] 3 S.C.R. 375, at para. 14. An insurer generally has the duty to deal with an insured with the utmost good faith and the insured has a right of action for any breach of that duty. As the insured was the bankrupt estate, the trustee could take action to remedy any breach of the alleged duty of good faith.

[56] Any argument that the bad faith claim is not property of the estate would have to be decided conclusively on a summary judgment motion in the action itself. In Holley v. Gifford Smith Ltd, 26 D.L.R. (4th) 230 (Ont. C.A.), this court explained that defendants to actions assigned under s. 38 should generally pursue their efforts to avoid defending against the action in the civil trial court rather than in bankruptcy court. This and other arguments to defeat the action could not constitute a collateral attack on the s. 38 order as long as they leave the order in place.

[57] As was pointed out in Formula Atlantic, at para. 8, the effect of a s. 38 order is “to transfer from trustee to creditor whatever right of action may exist” (Emphasis added). The motion judge, in that case, went on to observe, "The order in this case imposes no liability on the appellant which did not previously exist, and leaves it free to assert in the action every defence it ever had”: at para. 8. The Carrolls, as assignees, stand in the shoes of the trustee: Shaw, at para. 72; Indcondo Building Corp. v. Sloan, 2012 ONCA 502, 91 C.B.R. (5th) 324, at para. 29. If the trustee has no property interest in the bad faith claim, then neither do the Carrolls and their action would be dismissed on a summary judgment motion.

F. Disposition and Costs

[58] I would dismiss the appeal and would fix costs in favour of the respondent in the amount of $22,500 all inclusive as counsel have agreed. I am not persuaded there is any basis for revisiting the costs awarded on the appellant’s applications for leave.

Released: August 12, 2021 R.G. Juriansz J.A. I agree. Grant Huscroft J.A. I agree. M. Jamal J.A.

[1] The statement of the claim in the assigned action, the s. 38 order, and the trustee’s assignment and correspondence all refer to the McEwens’ insurer as Aviva Canada or Aviva Canada Inc. In the style of its motion to set aside the s. 38 order, Traders indicates it was improperly described as Aviva Canada Inc. in the bad faith action. The McEwens’ insurance policy was not included in the record. The cause of the confusion, or the relationship between Aviva Canada and Traders, if any, was not explained at the appeal.