Case Comment - PPSA Registrations Against Corporate Debtors With English/French Names and Application of the PPSA to Assignments of Rents Under Leases of Real Property

HarbourEdge Mortgage Investment Corp. v. Powell Associates Ltd. (2016), 2016 NBQB 178 6 PPSAC (4th) 266, 42 C.B.R. (6th) 149. 

In order for a secured party to perfect its security interest under the Ontario Personal Property Security Act, RSO 1990 c.P.10, as amended (the "Ontario PPSA"), it is essential that the secured party register a financing statement against the proper name of the debtor. According to paragraph 2 of Section 16(4) of the Minister's Order made under the Ontario PPSA (the "Minister's Order"), if the debtor is a corporation, then the incorporated name of the debtor shall be set out in the financing statement.  Section 17 of the Minister's Order goes on to provide that, if the debtor has an English form of name and a French form of name, then:

1. the English form of the name shall be set out on the appropriate line for the name of a business debtor; and
2. the French form of the name shall be set out on another appropriate line for the name of a business debtor.

What is the proper way for a secured party to register a financing statement when a corporate debtor has a combined English form and French form of name? Darrell J. Stephenson J. of the New Brunswick Court of Queen's Bench considered this situation in the recent case of HarbourEdge Mortgage Investment Corp. v. Powell Associates Ltd.   

Although this case was decided on the basis of the New Brunswick Personal Property Security Act, SNB 1993, c.P-7.1 (the "New Brunswick PPSA"), the reasoning of the Court is helpful to secured parties and their legal counsel in the Province of Ontario for determining the proper registration procedures under the Ontario PPSA.

The HarbourEdge case also deals with the application of the New Brunswick PPSA to proceeds arising from rental payments made by tenants under leases of commercial properties owned by a debtor.  The Court in this case had to determine whether the secured party had a valid security interest in these rental proceeds pursuant to a collateral mortgage, assignment of rents, and general security agreement executed by the debtor in favour of the secured party.  The decision of the New Brunswick Court in this case also is helpful for lenders in Ontario in understanding the provisions of the Ontario PPSA relating to assignments of rents under leases of real property.

The Facts

The facts were as follows:

1. Mall Centre-Ville Ltd. Mall Centre-Ville Ltee. (the "Debtor") borrowed money from HarbourEdge Mortgage Investment Corporation ("HarbourEdge") pursuant to a loan agreement dated March 6, 2013.
2. As security for the loan, the Debtor granted security in favour of HarbourEdge against all of its real and personal property by way of a collateral mortgage, assignment of rents, and general security agreement.
3. The Debtor carried on a commercial leasing business utilizing the real properties that were subject to the collateral mortgage and assignment of rents, and the Debtor had no material sources of income apart from commercial rents.
4. The collateral mortgage and assignment of rents were properly registered against the title to the Debtor's properties in the New Brunswick Land Titles Registry and a financing statement was registered against the Debtor under the New Brunswick PPSA (the "Financing Statement").
5. The Financing Statement inadvertently identified the Debtor as "Mall Centre-Ville Ltd. Mall Centreville Ltee.".
6. The Debtor's name as reflected in the records of the New Brunswick Corporate Affairs Registry Data Base and in its Articles of Amendment was "Mall Centre-Ville Ltd. Mall Centre-Ville Ltee.".
7. A search under the New Brunswick Personal Property Registry under the separate names "Mall Centre-Ville Ltd." or "Mall Centre-Ville Ltee." disclosed the existence of the Financing Statement in favour of HarbourEdge, but a search against the name "Mall Centre-Ville Ltd. Mall Centre-Ville Ltee." did not disclose this registration.
8. The Debtor defaulted under its loan agreement and, in July 2015, HarbourEdge demanded payment of its loan and also forwarded demands to the tenants of the Debtor's commercial properties, pursuant to its assignment of rents, directing that the rents be paid to HarbourEdge directly.
9. On August 15, 2015, the Debtor filed a Notice of Intention To Make A Proposal under the Bankruptcy and Insolvency Act (Canada) (the "BIA").
10. Since HarbourEdge had not served a Notice of Intention To Enforce Security under s.244 of the BIA prior to taking its enforcement actions, HarbourEdge ceased its security enforcement.  HarbourEdge advised the tenants of the Debtor that the rental payments should be made to the Debtor and it turned over to the Debtor the rental cheques in its possession at that time.
11. The Debtor made a proposal to its creditors which was rejected at a meeting of creditors held on February 26, 2016, resulting in the Debtor's deemed assignment into bankruptcy on that date as provided by the BIA.
12. HarbourEdge tried to assert a secured claim against the proceeds of the rental cheques and/or the proceeds of commercial rents paid by the Debtor's tenants up to February 26, 2016 (the "Rental Proceeds").
13. HarbourEdge submitted a secured proof of claim in the bankruptcy, which was rejected by the Debtor's trustee-in-bankruptcy on the basis that the Financing Statement contained a seriously misleading error, did not perfect the security interests against the Debtor's personal property, and consequently, such security interests were ineffectual in relation to the Rental Proceeds.
14. HarbourEdge brought a motion seeking an order that the trustee-in-bankruptcy be directed to accept its proof of claim as a secured claim and that the Rental Proceeds held by the trustee-in-bankruptcy be paid over to HarbourEdge.
15. The Court dismissed HarbourEdge's application and denied its claim to the Rental Proceeds.

PPSA Registration against Corporate Debtors with English/French Names

The Court held that the registration of the Financing Statement was invalid pursuant to Section 43(8) of the New Brunswick PPSA which states:

"A registration is invalid if a search of the records of the Registry using the name, as prescribed, of any of the debtors required to be included in the financing statement other than a debtor who does not own or have rights in the collateral does not disclose the registration."

In reaching this decision, the Court referred to Section 21(2) of the General Regulation under the New Brunswick PPSA which requires the entry of "all forms of the name of the debtor that is a body corporate if the name of the debtor is in more than one of the following forms:

1. an English Form;
2. a French Form;
3. a combined English – French form."

The Court noted that there was no hyphen or other punctuation between the English and French component parts of the Debtor's name. Furthermore, there was simply no way to view it as a standalone English name or a standalone French name, without disregarding what appeared plainly in the Database of the New Brunswick Corporate Affairs Branch.  Whether the name of the Debtor was viewed either as a single unitary name or a combined English – French name, Section 21(2) of the General Regulation required that the Financing Statement be registered against either:

1. "Mall Centre-Ville Ltd. Mall Centre-Ville Ltee." alone; or
2. each of "Mall Centre-Ville Ltd. Mall Centre-Ville Ltee.", "Mall Centre-Ville Ltd.", and "Mall Centre-Ville Ltee." separately.  The Court noted that this second method of registration would be the accepted commercial practice in Provinces with PPSA regimes similar to New Brunswick when confronted with this type of corporate debtor name.

Since a search on one of the debtor names required to be included (that is, "Mall Centre-Ville Ltd. Mall Centre-Ville Ltee.") did not disclose HarbourEdge's registration, the Court ruled this registration invalid pursuant to Section 43(8) of the New Brunswick PPSA.  In coming to this conclusion, Stephenson J. stated:

"I acknowledge this is a harsh outcome for the inadvertent admission of a dash in a financing statement.  However, that outcome is mandated by the operation of Section 43(8) of the PPSA . . .   It must be recognized that avoidance of these type of over-sights is the reason why post-registration confirmatory searches are conducted against debtor names as a matter of usual commercial practice, and included in closing books, to confirm that a search against the correct names will turn up the relevant registrations. . . . Bottom line, the desire for efficiency and certainty, in a system where priority generally turns on time of registration, necessitates accuracy and precision, which in turn gives rise to the need for statutory provisions such as Section 43(8) to address the consequences of non-compliance with the prescribed registration requirements."

Application of the PPSA to Assignments of Rents

The second issue before the Court was whether HarbourEdge had a secured claim in the Rental Proceeds that were held by the trustee-in-bankruptcy of the Debtor.

1. The Court noted the following:
2. Section 20(2)(a) of the New Brunswick PPSA states that an unperfected security interest is not effective as against a trustee-in-bankruptcy.
3. Funds in a bank account would normally be categorized as either "money" or "intangibles", each of which is a category of "personal property" subject to the perfection requirements of the New Brunswick PPSA.
4. The New Brunswick PPSA does not apply to real property or certain interests in real property.  According to Sections 4(e) and (f) of the New Brunswick PPSA, the Act does not apply to the creation or transfer of an interest in land including a lease or to the creation or transfer of an interest in a right to payment that arises in connection with an interest in or a lease of land.
5. Section 2.1(3) of the Land Titles Act (New Brunswick) confirms that the real property registry regime governs the registration of mortgages, charges, and security interests falling within the above exceptions.

The Court accepted the argument that no registration was required under the New Brunswick PPSA with respect to HarbourEdge's security against the debtor's commercial real estate or leases, or to enable HarbourEdge to collect rental payments which became due under those leases after the date of the Debtor's bankruptcy.  However, as at the date of bankruptcy, the Rental Proceeds represented intangibles or money, in which the perfection of a security interest would normally be governed by the New Brunswick PPSA.  The Court stated:

". . . at the point in time at which a lease payment moves from a future obligation due in consideration of the occupation of an estate in land into a cheque which can be presented to a financial institution for immediate deposit, the operation of this language takes us from the real property into the personal property regime."

Accordingly, the Court decided that HarbourEdge's claim against the Rental Proceeds was a security interest to which the New Brunswick PPSA applied.  It followed, as a consequence of the Court's earlier ruling regarding the invalidity of the Financing Statement, that HarbourEdge's security interest in the Rental Proceeds was unperfected.  As a result, the trustee-in-bankruptcy of the Debtor took priority over HarbourEdge's unperfected security interest in the Rental Proceeds.

In explaining the rationale for its decision, the Court stated:

"Consider the public policy perspective behind this division between the operation of the real property and the personal property security regimes.  It is logical that a real property mortgagee should be able to demand that rental payments becoming due from tenants of the properties against which it holds security be made to it.  However, consider the position of the same mortgagee claiming a secured entitlement to the borrower's bank account, in priority to the perfected security interest of an operating lender, on the basis that the funds in the account represent rental proceeds.  Were that argument to prevail, the PPSA's status as a comprehensive statutory framework to govern security interests in personal property would be imperiled, as a security interest in an asset which appears to all the world to be clearly personal property would in fact fall to be governed by the real property regime."

Conclusion

The decision in the HarbourEdge case has important implications for lenders who wish to take security over personal property and certain interests in real property.

With respect to security in personal property, this case serves as another warning that the Courts usually follow a "zero tolerance" policy when it comes to mistakes in registering against the name of a debtor under the PPSA.  Although the registration requirements for English/French corporate names under the Ontario PPSA are worded differently than the requirements under the New Brunswick PPSA, the result of the registration mistake in the HarbourEdge case would probably be the same under the Ontario PPSA.  The Ontario Courts also take a strict approach to compliance with the name registration requirements under the Ontario PPSA.  For example, in Armstrong, Thomson & Tubman Leasing Ltd. v. McGill Agency Inc. (Trustee of), (1993) 5 P.P.S.A.C. (2d) 231, 21 C.B.R. (3d) 295 (Ont. Bktcy.), the Court held that the Ontario PPSA required both the French and English versions of the debtor's corporate name to be set out in the financing statement.  It was decided that the omission of the French form of the name invalidated the registration of the security interest and, as a result, the unperfected security interest was subordinate to a trustee-in-bankruptcy.

When a debtor is an incorporated company, the secured party must ensure that its registered financing statement shows the debtor's name as required by the PPSA.  After a secured party has registered its financing statement, it should also search against the debtor's correct name, in order to make sure that its financing statement appears on the search.  In the HarbourEdge case, the secured party's financing statement included the hyphen in the English version of the Debtor's name, but it inadvertently omitted the hyphen in the French version.  If the secured party had done a post-registration search against the Debtor's name with hyphens in both the English and French versions of the name, the search would have failed to disclose their financing statement.  As a result, the secured party would have realized that something was wrong and would have been able to correct this mistake by amending its financing statement to show the proper name with both hyphens.

In the case of a corporation in Ontario with English and French forms of name, the safest course of action is to register and search against the bilingual corporate names as follows:

1. English name;
2. French name;
3. English name/French name; and
4. French name/English name.

Although these registration requirements may seem onerous, it is necessary to follow this procedure, because the Courts insist on accuracy and absolute compliance with the PPSA. While the harsh result of omitting a hyphen in the French version of a debtor's name may seem unfair, it is an example of the judicial preference for commercial certainty over fairness in resolving priority disputes under the PPSA. The Courts take the position that the need for the efficient operation of the PPSA registration system is more important than the loss suffered by a party who makes an inadvertent mistake in registering against the name of the debtor.

With respect to assignments of rents from leased real estate, the HarbourEdge case is an example of the intersection between the security regimes for personal property and real property.  Section 4(1)(e) of the Ontario PPSA provides that the Act does not apply to the creation or assignment of an interest in real property.  This means that the Ontario PPSA does not apply to an assignment of rents by an assignor, where the document assigns the entire interest of the assignor as the owner of the leased real estate and all of the rights thereunder, including the right to receive rental payments.  In this case, the assignee would normally register a notice of assignment of rents on title to the real property in the Land Registry Office.

Section 4(1)(e)(ii) of the Ontario PPSA creates an exception for an assignment of a right to payment under a lease where the assignment does not convey or transfer the assignor's interest in the real property.  This means that the Ontario PPSA applies to an assignment of rents by an assignor pursuant to which there is an assignment of the right to receive rental payments under the lease, but the assignment does not convey or transfer the assignor's interest as the owner of the leased real estate.  This right to receive rental payments under the lease is a "chose in action" which would be classified as an "intangible" under the Ontario PPSA.  In this case, the secured party is required to register a PPSA financing statement against the assignor in order to perfect its security interest in these rental payments and their proceeds.

Section 36 of the Ontario PPSA sets out the priority rules between a notice of assignment of rents registered on title to a leased property and a competing assignment of rents to which the Ontario PPSA applies.  By virtue of this section, the assignment of rents to which the PPSA applies is subordinate to the notice of assignment of rents registered on title to the real estate, if the notice of assignment is registered on title before a notice of the PPSA security interest in the rental payments has been registered on title.  In order for the PPSA security interest in the rental payments to take priority, the secured party needs to register a notice of its security interest in the form required by Section 54(1) of the Ontario PPSA on title to the real property before the realty interest represented by the notice of assignment of rents.

The policy rationale behind this dispute resolution mechanism is to protect the realty interest in real property by using the Land Registry System to resolve priority disputes.  In the HarbourEdge case, HarbourEdge as the assignee had registered its assignment of rents on title to the real property.  However, the Court denied HarbourEdge's claim against the Rental Proceeds that arose prior to the assignor's bankruptcy, because these proceeds constituted personal property under the New Brunswick PPSA and HarbourEdge failed to perfect its security interest in these proceeds. 

It is likely that the same result would occur under the Ontario PPSA.  This means that, in addition to registering a notice of assignment of rents on title to the leased real property in Ontario, an assignee in Ontario should insert language in the assignment of rents creating a security interest in the rental payments and all proceeds thereof and register a financing statement against the assignor under the Ontario PPSA.  It is better to be safe than sorry when taking an assignment of rents as security.

 

About the author

Jeffrey Alpert, Torkin Manes LLP