Wife Was Not a “Secured Creditor” in Husband’s Bankruptcy, Court Rules

Mark Feigenbaum

In a recent Ontario decision, the court had to determine whether a court order resulted in making the wife a “secured creditor” for the purposes of the husband’s subsequent bankruptcy.

Husband and Wife Obtain Proceeds from Matrimonial Home

The husband and wife separated on May 28, 2017.

On November 28, 2017, the jointly held matrimonial home was sold generating net proceeds of $185,200 (“the proceeds”).

On June 7, 2018, a court order was issued in respect of the proceeds.  Part of the order stated:

The net sale proceeds from the sale of the parties’ jointly owned matrimonial home shall be held in an interest-bearing trust account by the parties’ real estate lawyer as security for the [wife]’s spousal support claims, in view of the [husband]’s dissipation of assets, resistance to a spousal support order and threat of or likelihood of bankruptcy, pending further Court order or the written agreement of the parties. 

Husband Makes an Assignment in Bankruptcy

Subsequently, on June 3, 2019, the husband made an assignment in bankruptcy and a trustee in bankruptcy of his estate was appointed (the “trustee”). On that date, there was approximately $170,000 of the proceeds remaining in the real estate lawyer’s trust account. 

Following the original court order, on July 31, 2019, the wife presented a motion to the court and obtained costs against the husband in the amount of $25,000 (“the costs award”). The costs award was ordered to be paid out of the husband’s 50 percent share of the proceeds.  

However, the trustee had not been served with notice of the motion and the court had not been advised of the bankruptcy prior to making the costs award.  The wife claimed that she was not aware of the husband’s application for bankruptcy until August 22, 2019, by which time the costs award had been paid out of the husband’s share of the proceeds by the real estate lawyer. 

This created an issue because s. 70(1) of the Bankruptcy and Insolvency Act (the “BIA”) provides that bankruptcy takes precedence over all but: 

i)                  fully executed executions, or 

ii)                 the rights of secured creditors. 

The definition of a “Secured Creditor” under the BIA is:

“a person holding a mortgage, hypothec, pledge, charge or lien on or against the property of the debtor or any part of that property as security for a debt due or accruing due to the person from the debtor, or a person whose claim is based on, or secured by, a negotiable instrument held as collateral security and on which the debtor is only indirectly or secondarily liable.”

Additionally, s. 71 of the BIA provides that the property of the bankrupt vests with the trustee upon an assignment being filed. Therefore, by operation of the BIA, the property of the husband had vested in the trustee by virtue of his assignment in bankruptcy on June 3, 2019, unless one of the two exceptions under s. 70(1) applied. 

The wife then sought a declaration that, by virtue of the June 7, 2018 order, her interest in the husband’s 50 percent share of the proceeds was a secured claim having priority over the trustee. Because the wife could not claim to be the recipient of a fully executed judgment on the date of assignment, at issue was whether she was a secured creditor as of the date of the husband’s bankruptcy.

In response, the trustee argued that it was entitled to the husband’s 50 percent share of the proceeds by virtue of the husband’s assignment in bankruptcy and the vesting provisions of the BIA.

Wife Was Not a “Secured Creditor”

Examining the language of the June 7, 2018 court order, the court found that the wife was not a secured creditor on the date of the bankruptcy assignment. It found that the use of the words “security for payment for the [wife]’s spousal support claims” were meant to preserve an asset that would be available to pay her spousal support claims, if proven. The court stated:

“It is clear from the context in which the order was made that the court was concerned that the [husband]’s spending habits might lead to a dissipation of his assets which would serve to frustrate the [wife]’s ability to collect any spousal support ordered. While the spectre of bankruptcy was mentioned, the court did not stipulate (nor was it asked to stipulate) that the [wife] would stand as a secured creditor for the purposes of the BIA.”

Additionally, the court was unable to find that the wife qualified as a secured creditor as defined by the BIA as there was no debt owing or accruing because the wife’s rights to spousal support had yet to be determined. Conversely, the court found that the wife did not even qualify as a “creditor”, since a creditor is defined as “[a] person to whom a debt is owing by another person who is the debtor. One who has a right to require the fulfillment of an obligation or contract.”  

Additionally, the court found that the June 7, 2018 order was meant to preserve funds out of concern that the wife might be unable to collect spousal support; it was not intended to create a security interest of the kind contemplated by the BIAand was not designed to impact third party creditors.

Finally, the court stated:

“Given the history of this matter, one could readily perceive that the [husband] was using the bankruptcy to avoid paying legitimate claims by the [wife]; however, such a perception does not in itself justify the retroactive creation of a remedial trust-like claim, or the strained interpretation of the terms of an existing order, in what would essentially be an indirect attempt to reorder priorities in the bankruptcy.” 

As a result,the court concluded that the wife did not have a security interest in the husband’s 50 percent share of the proceeds and the husband’s share had vested in the trustee upon bankruptcy. Therefore, the costs award was a nullity and the $25,000 paid to the wife was to be remitted to the trustee.

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At Feigenbaum Law, our goal is to help you move forward following the breakdown of a relationship while retaining as much financial stability as possible and ensuring your children are provided for. Mark Feigenbaum is able to counsel his clients on all potential risks that may result from a family law dispute, not just those related strictly to the breakdown of a marriage. Contact Mark online or call him at (416) 777-8433 or toll-free at (877) 275-4792 to book a consultation.