Canada: Inadvertently Discharged PPSA Financing Statement Saved By Equity (But Caution, This Will Not Always Occur)

A recent Supreme Court of British Columbia decision in KBA Canada v. 3S Printers Inc. held that where a BC PPSA financing statement has been inadvertently discharged and there is no prejudice to subordinate creditors, the court can make an order giving priority to the discharged creditor. This should provide comfort to lenders that a court will impose equity where doing so is consistent with the BC PPSA, but given the limits of equitable intervention and that financing statements can be discharged without confirmation of authority, lenders should consider periodically checking the status of their registrations in conjunction with appropriate credit events.

In this case1 heard before Justice Kelleher of the Supreme Court of British Columbia, the BC Personal Property Security Act ("BC PPSA") financing statement on which a creditor relied to provide it with a purchase money security interest ("PMSI") in certain equipment was inadvertently discharged. A dispute arose with other creditors regarding whether the priority of the security interests held by those other creditors was enhanced as a result of the discharge or, given that the discharge was innocent and the other creditors were not prejudiced, the priorities would remain as if the financing statement had not been discharged. The court held that because the discharge was innocent and the other creditors were not prejudiced, the priorities remained as if there had been no discharge.

Facts

Wells Fargo Equipment Financial Corporation ("WF") leased certain equipment to 3S Printers Inc. ("3S"). WF had purchased the equipment from KBA Canada Inc. ("KBA"). KBA agreed with WF that if 3S defaulted under the lease, KBA would repurchase the equipment. 3S granted WF a security agreement collateral to the lease and WF registered a financing statement in the BC Personal Property Registry in respect of the security agreement.

CIT Financial Ltd. ("CIT") and Supreme Graphics Ltd. ("Supreme Graphics") had each previously provided credit to 3S and secured the indebtedness owed to them by obtaining general security agreements, which charged all of 3S's present and after‑acquired property. Each of CIT and Supreme Graphics registered a financing statement in respect of its general security agreement. There was no dispute at this point that the WF security interest had priority over the security interests of CIT and Supreme Graphics by way of a PMSI.

Subsequently, 3S defaulted in its lease payments to WF and WF exercised its right to require KBA to repurchase the equipment. WF transferred the equipment, and all rights under the lease, the security agreement and the financing statement, to KBA. Although KBA was substituted for WF as secured party on the financing statement, WF, in error, and without the knowledge or approval of KBA, discharged the financing statement.

A discretionary procedure was in place under the BC PPSA whereby the BC Registry Services sends notices of the discharge of financing statements to the secured party being discharged, but in this case, KBA did not learn of the discharge until more than two months after it occurred. At that point, WF registered a new financing statement and attempted to obtain waivers of priority from CIT and Supreme Graphics, without success. KBA then seized and sold the equipment, placing the proceeds of sale in trust pending the outcome of the case.

Plaintiff's Argument

KBA argued that section 70 of the BC PPSA permits the court to correct the error made by WF. Section 70 provides that:

On application of an interested person, a court may

  1. make an order determining questions of priority or entitlement to collateral, or
  2. direct an action to be brought or an issue to be tried.

Section 35(7) of the BC PPSA permits the error to be corrected as of right within 30 days.2 Section 35(7) provides that:

If registration of a security interest lapses as a result of failure to renew the registration or if a registration has been discharged without authorization or in error, and the secured party re‑registers the security interest not later than 30 days after the lapse or discharge, the lapse or discharge does not affect the priority status of the security interest in relation to a competing perfected security interest that immediately before the lapse or discharge had a subordinate priority position, except to the extent that the competing security interest secures advances made or contracted for after the lapse or discharge and before the re‑registration.

If the error is not corrected within 30 days (as here), KBA asserted, on application to the court, the error can be corrected pursuant to section 70 (quoted above) and on the basis of the rules of equity as provided in section 68, which states:

The principles of the common law, equity and the law merchant, except insofar as they are inconsistent with the provisions of this Act, supplement this Act and continue to apply.

KBA argued that if the court exercised its jurisdiction to correct the error, KBA would be protected from an innocent mistake and CIT and Supreme Graphics would not be prejudiced. KBA noted that no further advances were made by CIT or Supreme Graphics after the discharge. KBA also argued that it should succeed on the basis of unjust enrichment: if KBA did not maintain priority, CIT and Supreme Graphics would be enriched, KBA would suffer a deprivation, and there would be no juristic reason for it.

Defendants' Argument

CIT and Supreme Graphics (joined by the Minister of National Revenue) argued that the BC PPSA contains a complete and comprehensive code governing the creation, perfection and enforcement of security interests. The BC PPSA supplants all previous statutory and common law rules relating to such matters.

The defendants said there is only one provision for the revival of discharged registrations in the BC PPSA, section 35(7). Once 30 days has passed, KBA lost the priority it had by virtue of the discharged financing statement. The defendants said that any equitable jurisdiction exercisable by the court pursuant to section 68(1) is limited by Section 35(7). The court could not invoke section 68(1) in this case as to do so would be inconsistent with section 35(7).

The Court's Decision

The court determined that KBA was entitled to the priority of its security interest in the equipment on the basis of (a) an order under sections 68 and 70 of the BC PPSA and (b) unjust enrichment.

The court cited cases which support the view that interfering with the perfection system by resort to equitable principles would defeat the certainty and predictability intended by the BC PPSA. The court recognized this as a sound principle, but felt the BC PPSA cannot completely oust the court's equitable jurisdiction. This was an appropriate case to invoke its equitable jurisdiction, ie, where the discharge of the financing statement was due to an innocent mistake and there was no prejudice to other creditors. The court was bolstered in its view as there was no mandatory requirement under the BC PPSA to provide notice to the creditor whose financing statement is discharged. From a statutory perspective, the court held that section 35(7) does not address the consequences of failing to re‑register within 30 days, nor does section 70 indicate that the discretion provided by that provision is subject to other priority provisions. As the court said, "[s]uch an approach does not offend the Act's policy by imposing fairness over certainty and predictability. Certainty and predictability are furthered by an order based on equity that prevents a creditor from losing its priority position due to an innocent mistake where there is no prejudice to other creditors."

The court indicated that a claim in unjust enrichment involves three elements: (a) an enrichment (here, the defendants' enhanced priority), (b) a corresponding deprivation (here, KBA's loss of priority) and (c) the absence of any juristic reason for the enrichment. Quoting prior case‑law, the court found that, "...in an appropriate case a court may give effect to the principle of unjust enrichment despite the terms of a statute." In this case, CIT and Supreme Graphics always knew their security interests were subordinate to that of KBA and neither suffered any prejudice. Accordingly, the court found no juristic reason for CIT and Supreme Graphic's enrichment.

Discussion and Recommendation

Lenders can take some comfort from this case. It provides support for a court, in appropriate circumstances, to correct innocent errors relating to the Personal Property Security Act in Canadian jurisdictions where there is no prejudice to other parties.

However, the converse is also true: where there is prejudice to other parties – such as if another creditor made an advance on the basis of the error – absent other factors, presumably the court would not intervene. Given that in almost all Canadian jurisdictions no proof of authorization is required to discharge financing statements, it may therefore be prudent for lenders, in addition to diarizing critical dates, to periodically check the status of their Personal Property Security Act registrations. Clearly this would be appropriate in situations where a borrower has defaulted or the lender is contemplating enforcement action, but among other circumstances, it may also be prudent to do so when a credit facility is being amended or amended and restated.

Footnotes

1 2012 BCSC 1078

2 All other Canadian PPSA's include a provision substantially the same as BC PPSA section 35(7), except the Ontario PPSA. Section 30(6) of the Ontario PPSA, as follows, does not contain any time period within which the new registration must be made: "Where a security interest that is perfected by registration becomes unperfected and is again perfected by registration, the security interest shall be deemed to have been continuously perfected from the time of first perfection except that if a person acquired rights in all or part of the collateral during the period when the security interest was unperfected, the registration shall not be effective as against the person who acquired the rights during such period." Accordingly, had the case occurred in Ontario, the same issues would not have arisen.

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