The Financial System Review Act (FSRA) passed third reading in the Senate on December 16, 2011 and is currently awaiting first reading in the House of Commons. The FSRA contains amendments to the Bank Act that expressly grant section 427 Bank Act security priority over prior unperfected Personal Property Security Act (PPSA) security interests in the same collateral. These amendments effectively overrule the 2010 Supreme Court of Canada (SCC) decisions in the companion cases of Bank of Montreal v. Innovation Credit Union (Innovation) and Royal Bank of Canada v. Radius Credit Union Ltd. (Radius).
Both Innovation and Radius involved a priority dispute between the credit union's prior unregistered security interest taken under the provincial PPSA and the bank's subsequent security interest taken and registered under the federal Bank Act. After analyzing the nature of the relationship between the Bank Act security regime, which is property-based, and the PPSA security regime, which is based on a statutory scheme of registration, the SCC held that the credit union's first-in-time unperfected PPSA security interest took priority over the bank's subsequently registered Bank Act security interest.
The SCC's decision generated heated calls for legislative reform, since it exposed banks to unreasonable commercial risk: It left Bank Act security vulnerable to undisclosed and unregistered PPSA security interests whose existence the banks had no way of discovering. Parliament heeded these calls, and the amendments to the Bank Act contained in the FSRA expressly add a priority rule that subordinates a prior unperfected PPSA interest to a subsequent section 427 Bank Act interest. An exception is provided where the bank acquires its security with "knowledge" of the PPSA security interest.
While the proposed amendments are a welcome relief from the untenable situation created by the SCC decisions, they are problematic for two reasons. First, while the amendments clarify the narrow issue at question in Innovation and Radius, they do not address larger questions about the optimal relationship between the Bank Act and PPSA security regimes. Second, the amendments do not define the term "knowledge." This means that banks may unwittingly obtain information that may be construed as "knowledge" of a prior unperfected security interest and inadvertently lose their priority. To prevent this risk, banks would be well-advised to continue taking PPSA security in Ontario in addition to section 427 Bank Act security.
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