Canada: Fully Secured @ Gowlings: December 19, 2013 - Volume 4, Number 4

Last Updated: January 3 2014

Edited by Richard Dusome

P2P Lending: A New Source of Consumer and Small Business Credit?

By: Jim Shanks (Toronto)

The internet is famous for transforming unique new businesses into giant behemoths, seemingly overnight.  Names like Amazon and Facebook are just two examples.  While the recent internet phenomenon of Peer-to-Peer (P2P) lending, now starting to accelerate in the US, may not experience nearly as much success, it certainly bears watching as a potential new source of consumer and small business credit. 

Briefly, in P2P lending, a website is established to connect potential borrowers seeking consumer or small business loans to a myriad of largely unsophisticated lenders looking for investment opportunities.  Typical borrowers desire loans of up to $35,000 at interest rates potentially lower than what banks, or finance and credit card companies might otherwise offer them.  Lenders in turn seek returns above those available from deposit-taking institutions or from current bond yields. 

In order to obtain credit, a potential borrower registers with the P2P website, describes the loan he (or she) is requesting, and makes certain financial disclosures, including as to his (or her) current income, debt-to-income ratio, credit score, employment status, home ownership, occupation, existing indebtedness and delinquencies, etc.  The web operator then uses this information to assign a proprietary risk rating and interest rate to the loan.  The risk rating, interest rate and supplied financial information, along with a fictitious borrower screen name, are then posted by the web operator to a webpage where potential lenders can subscribe for a portion of the loan requested, notably in principal amounts as small as $25.  The borrower's identity is not disclosed to potential lenders, but is kept confidential by the P2P operator. 

Potential lenders, whose identities are similarly not divulged, also register with the website.  Once a sufficient number of lenders has subscribed for the requested loan amount, the loan is funded, often within a few days.  All P2P loans are unsecured, have terms of one, three or five years, and are repayable in equal monthly installments over the life of the loan.  Full and partial prepayments are permitted without penalty, an important feature that may not be available from financial institutions offering comparable loans.  Lenders diversify their individual borrower risk by subscribing for small amounts from amongst a number of different borrowers across a range of asset classes. Assets classes include auto and RV loans, credit consolidation loans, home improvement loans and small personal loans, even wedding loans.

P2P operators take a percentage of the principal loan amount advanced as a closing fee, charge borrowers for late or failed payments, and charge additional fees to lenders for services rendered during the life of the loan, for example a one percent servicing fee on the principal of loans outstanding.  A collection agency recovery fee is charged if defaulted loans are assigned to a debt collection agency.  A financial institution assists the P2P operator with the administration of ongoing payments and collections. 

One current P2P operator in the US advertises two million members and more than $670 million in loans advanced to-date1, while its main competitor recently reported a total loan volume over $1 billion as of 2012.2  P2P operators are even attracting high profile individuals to serve as directors on their company boards.3  More notably, sophisticated lenders have begun participating in the new marketplace, with at least one report suggesting that hedge funds and smaller US banks are now lending at P2P websites as a means to earn returns ranging from 6 to 35%.4  To top it off, Google recently announced an investment of $125 million in one of the two main P2P web operators in the US, adding a measure of increased credibility.5  So far in Canada, at least one P2P lending foray has been attempted.6

Not surprisingly, there are a number of legal issues involved in setting up a P2P lending business, including under applicable securities laws, licensing laws, and laws governing personal privacy, information collection, electronic commerce, consumer protection, interest rate disclosure and usury to name but a few.  Over the shorter term, these regulatory constraints will likely serve as high barriers to entry, especially in Canada where the P2P marketplace is likely to be much smaller than in the US.  Nevertheless, over the longer run, regulators on both sides of the border may be inclined to ease some of the more onerous regulatory impediments in order to facilitate even greater access to limited amounts of consumer and small business credit at reduced cost, especially if the initial US experience continues to remain positive.  

Beyond the imposing regulatory issues, there are also practical hurdles as well.  First and foremost is the fact that the internet is seemingly infested with scams and scammers.  P2P operators attempt to weed out the fraudsters by verifying the identity of the borrowers and by attempting to verify certain of the personal financial information supplied by borrowers, including by operator requests for backup documentation.  Still, it may not be possible to accurately verify all the financial information posted by potential borrowers.  Furthermore, as the principal loan amounts involved are small, formal enforcement mechanisms such as by court action may not be practical in most cases.  Instead, debt collection agencies will likely be the preferred enforcement mechanism for P2P operators.  And finally, even though default rates are apparently declining in the US, and additional sites now exist that assist lenders in predicting the creditworthiness of their P2P portfolios7, default rates may still vary widely, from less than one percent to as high as six percent, depending on the borrower, his (or her) financial status, and the asset class.8 

What impact will this new and unique internet business have on more traditional forms of consumer and small business lending if it ever crosses the border for good into Canada?  For now, it seems hard to say given the relative size difference between the US and Canadian credit markets.  Whatever the expectation, it would probably be prudent for Canadian industry participants to watch the evolving US experience closely as this potential new source of consumer and small business credit continues to grow.9

1. See Prosper Market Place,, data current to 10/18/2013.  A detailed report of the recent upsurge in loan origination at Prosper can be found here:
2. See Lending Club,, and specifically
3. See note 2.
4. "P2P Lending Pulls in Big Investors – Should you bite?", Feldman, A. and Pinsker, B., Reuters Money, 08/27/2013;
5. "Need a Small Business Loan? Google hopes so", Scarrow, K., The Globe and Mail, 05/09/13;
6. But CommunityLend appears to have suspended its operations in Canada as of  February, 2012 (Press Release:
7. See Nickel Steamroller:
8. See note 4 above.
9. See generally Lend Academy, a website dedicated to advising potential lenders on various aspects of P2P lending,

A Banker Asked Us: Determining the Amount of a Québec Hypothec

By: Marie-France Beland (Montréal) and Ingrid Anton (Montréal)


The bank's cross-country security package includes a moveable hypothec registered in Québec charging the Québec assets. Our borrower wants to know why the amount of the hypothec is larger than the aggregate amount of the credit facilities. How is the amount of the hypothec determined, and is it intended to be limited to the value of assets located in Québec?


Québec hypothecs differ from common law security in that the amount guaranteed by the security must always be stated and such amount must be in Canadian currency in order for the hypothec to be valid.

Being an essential stipulation, the amount of the hypothec cannot be changed by an amending agreement and this is the reason why the amount of the hypothec must be sufficient to secure the obligations described therein. The amount of a hypothec is largely theoretical because a hypothec is an accessory: when exercising its rights under a hypothec, a lender can only obtain the amount that is actually owed to it, regardless of the amount of the hypothec, insofar as the amount is large enough to cover such secured obligations. For this reason, it is better to err on the side of caution and stipulate a larger amount than necessary. The benefits of this practice are twofold: they protect the lender's rights by ensuring that all obligations are guaranteed by the hypothec, but they also save borrowers the cost of having to prepare and grant a new hypothec every time credit facilities are increased. Therefore it is preferable for the lender to take a single hypothec in an amount large enough and containing a description of guaranteed obligations broad enough to allow some flexibility in this respect.

For these reasons, the practice has developed in Québec to add what is referred to as an "additional hypothec" to the principal amount of each hypothec. As a result, the amount of a hypothec in Québec usually corresponds to the total amount of the credit facilities granted by the lender (regardless of the value of assets located in Québec), plus the additional hypothec, which is meant to secure the payment of interest and other costs, expenses and amounts payable to the lender, which are not otherwise secured by the principal hypothec. It must be noted, however, that Article 2667 of the Civil Code of Québec specifically excludes extra-judicial professional fees from the obligations than can be secured by a hypothec. Therefore, any legal fees incurred by the lender for the recovery of principal and interest or for conserving the charged property cannot be included as part of the "costs" secured by the additional hypothec.

Such additional hypothec is generally granted in an amount ranging from 15% to 30% of the amount of the principal hypothec, but the most common practice is to add an additional hypothec of 20%. As a result, the amount of a hypothec will usually range from 115% to 130% of the total credit facilities. The additional hypothec can be presented textually in two ways: it is either included in the overall amount of the hypothec in a single clause stipulating the total amount, or the amount of the hypothec is initially stipulated in a principal hypothec clause as an amount equal to the total amount of the credit facilities, with the additional hypothec stipulated in a separate clause known as the "additional hypothec clause".

Finally, it should be noted that the amount of a hypothec must always be stated in Canadian dollars. For that reason, in cases where the credit facilities are stipulated in foreign currency, the amount of the hypothec is adjusted in consequence. For example, where credit facilities are stipulated in U.S. dollars, the general practice is to obtain a hypothec in a principal amount of 150% (in Canadian dollars) of the total credit facilities (in U.S. dollars) in order to allow for currency fluctuations. In the same way, where credit facilities are stipulated in Euros, for example, an even higher principal amount would be stipulated.

Alberta Court Clarifies Threshold for CCAA Filing

By: Jeffrey Oliver (Calgary) and Danielle Marechal (Student-at-Law) (Calgary)

A recent decision of the Alberta Court of Queen's Bench in Tallgrass 10 clarifies the threshold that a company must meet when it seeks relief pursuant to the CCAA 11, particularly when such an application is met with a competing application by a secured lender for the appointment of a receiver. 

In this case, the Court was considering such competing applications, as Alberta Treasury Branches ("ATB"), the Debtor's senior secured creditor, applied for the appointment of a receiver with the support of the second in priority secured creditor Toscana Capital Corporation ("Toscana").

The historical attempts by the Debtor to find alternate sources of financing were critical to the Court's ultimate analysis in this case.  The Debtor was extended two secured loans: a credit facility from ATB and a bridge loan credit facility from Toscana (collectively the "Secured Lenders").  Upon the maturity of the bridge loan facility, the Debtor began to look for traditional financing to replace the bridge financing.  As no conventional financing was available, the Debtor began to explore the availability of non-conventional financing.

Toscana agreed to forbear from enforcement of the bridge loan for a certain period to provide the Debtor with additional time to finalize financing alternatives.  Following the expiry of this period, the Secured Lenders issued demands against the Debtor.  Upon the issuance of the demands by the Secured Lenders, a financial advisor (the "Advisor") was retained to provide reports to the Secured Lenders.  The Secured Lenders granted further forbearance until the receipt of these reports.  Once the reports were received, the Secured Lenders advised the Debtor that they were no longer prepared to forbear and that they intended to bring an application to appoint a receiver.  In response, the Debtor sought an initial order under the CCAA.

The Alberta Court of Queen's Bench dismissed the Debtor's application for an initial order under the CCAA and approved the Secured Lenders' application for a receivership order.

In the Court's Reasons for Judgment, Madam Justice Romaine highlighted that an order under s. 11 of the CCAA is discretionary.  Notwithstanding the fact that an applicant may meet the technical requirement for an initial order under the CCAA, an applicant must also satisfy the court that circumstances exist that make the order appropriate.  In that regard, a key issue addressed by Madam Justice Romaine was whether the Debtor could establish that there was any reasonable possibility that the Debtor would be able to restructure its affairs.  For a Debtor to establish that it has a reasonable possibility of restructuring its affairs, Justice Romaine stated the Debtor does not need to show a fully developed plan.  Rather, the Debtor must show evidence of a "germ of a reasonable and realistic plan", particularly where there is opposition from the major stakeholders most at risk in the proposed restructuring.

The Court, in considering the restructuring options proposed by the Debtor, found that although the proposed options were sufficiently detailed, they were not realistic or commercially reasonable.  Specifically, the Court noted that the Debtor had exhausted any chance of finding conventional funding and that the Debtor had been unable to secure any firm commitments for non-conventional funding.

Due to the lack of realistic or commercially reasonable restructuring options, the Court found that if an initial order were granted, it would likely result in a liquidating CCAA. Although a liquidating CCAA is not itself precluded, the Secured Lenders in this case objected to the Debtor's management controlling the liquidation process as the Secured Lenders had lost faith in the management of the Debtor.  The Court went on to note that this was not a case where the Secured Lenders had acted impulsively, as the Debtor had more than adequate opportunity to canvass the market for refinancing and restructuring options and had been unable to do so. The Court further stated that because the Debtor and Secured Lenders were in an adversarial mode, this would not bode well for an inexpensive CCAA restructuring.

Finally, the Court noted that the fundamental purpose of an initial order under the CCAA is to permit a company to carry on business and, where possible, to avoid the social and economic costs of liquidating its assets.  However, in this case, the Debtor was a company with very few employees, a handful of independent contractors, and relatively minor unsecured debt.  In other words, the Debtor did not carry on a business that had broader community or social implications that may require greater flexibility from creditors.  In the case of the Debtor, the major stakeholders were the Secured Lenders, who opposed the CCAA application.

In light of these findings, the Court was not satisfied that a CCAA order would be appropriate in the circumstances.  As such, the Court dismissed the Debtor's application and approved the Secured Lenders' application to appoint a receiver.

This case serves as a reminder that an application for a CCAA initial order must be accompanied by a realistic and commercially reasonable "germ" of a plan, and the court will critically examine such proposed plans.  Further, it also illustrates that the more a debtor lacks the hallmarks of the most large and difficult CCAA restructurings (such as groups of broad and diverse stakeholder groups), the more the debtor must ensure that its proposed plan is reasonable and realistic.

10. Alberta Treasury Branches v. Tallgrass Energy Corp. 2013 ABQB 432 [Tallgrass].
11. Companies' Creditors Arrangement Act, RSC 1985, c C-36, as amended [CCAA]

Some Benefits of Independent Legal Advice

By: Kelby Carter (Toronto)

It is well established that having a personal guarantor obtain independent legal advice before signing a guarantee is not an essential element to the enforceability of a guarantee by a lender.  However, a recent decision of the Ontario Superior Court of Justice serves as a helpful reminder of some of the benefits of obtaining independent legal advice to support a guarantee.

In 2240094 Ontario 12, a motion for summary judgment was brought by the bank against the loan guarantors.  The loan guarantors had previously signed a guarantee under which they agreed to be jointly and severally liable for a corporation's indebtedness.  When the corporation defaulted on its loan from the bank, the guarantors did not make payment.

In reaching his decision, Justice Perell revisited earlier case law13 confirming that (i) a bank is under no obligation to ensure that a guarantor obtains independent legal advice, and (ii) a bank has no obligation to advise the guarantor of the legal risks associated with the particular transaction.14

Justice Perell specifically referred to the Featherstone case,15 where the court stated that the primary purpose for a bank requesting a certificate of independent legal advice is to avoid, if possible, the guarantor later raising defences such as non est factum, unconscionability, fraud, misrepresentation or undue influence.  Further, as the burden of proving each of these defences rests on the guarantor, requiring independent legal advice can serve to significantly restrict the availability of those defences.16

Upon a review of the evidentiary record, Justice Perell determined that the guarantors in 2240094 Ontario would not be able to establish non est factum, however, there was enough evidence to require a trial for misrepresentation.  The bank's motion for summary judgment was dismissed, however, this was not a dismissal of the bank's claim against the guarantors.

What is interesting about this case is that the guarantors were both very young (19 and 21 years old) and guaranteed a small loan of $29,325.  Additionally, the guarantors were the sons of the principal owner of the borrower.  While they apparently appreciated the liability that they were taking on, there is question as to whether they understood the full extent of that liability and the nature of the legal risk that they were assuming.  In assuming this liability, the guarantors solely relied upon the information that they had received from the bank's representative.

Justice Perell stated that, in his opinion, had the guarantors received independent legal advice, it is arguable that they would have been advised to refuse to sign the guarantee and this case would not have been before him.17  In his view,  a competent lawyer would have warned them about the danger of relying on any advice or assurances from the bank alone.  Based on his comments, it appears that Justice Perell was motivated to help the guarantors because of their young age and lack of sophistication.  The fact that the guarantors were in a potentially vulnerable family position (signing guarantees for a loan to their father's business) may have also played a role.

Although the final outcome of this case is currently unknown (as it awaits trial), what is apparent is that, while not mandatory, independent legal advice is a useful litigation avoidance tool.  There will of course be cases where the dollar value of the loans guaranteed does not justify the costs involved in having a guarantor obtain independent legal advice.  However, where loan values warrant it or the guarantor appears to be a vulnerable relationship with the borrower or its principals, requiring that a guarantor receive independent legal advice is recommended.

12. Royal Bank of Canada v. 2240094 Ontario Inc., 2013 ONSC 2947. [2240094 Ontario]
13. Bank of Montreal v. Featherstone (1989), 68 OR (2d) 541 (Ont CA); Royal Bank v. Poisson (1977), 26 OR (2d) 717 (Ont HC); Bertolo v. Bank of Montreal (1986), 57 OR (2d) 577 (Ont CA); Royal Bank v. Hussain (1997), 37 OR (3d) 85 (Ont Gen Div); Royal Bank v. 966566 Ontario Inc., [2000] OJ No 606 (Ont SCJ).
14. 2240094 Ontario at para. 15.
15. Bank of Montreal v. Featherstone (1989), 68 OR (2d) 541 (Ont CA) [Featherstone]
16. 2240094 Ontario at para. 16.
17. 2240094 Ontario at para. 25.

Guarantor's Application for Leave to Appeal in the Samson Case Dismissed by the Supreme Court of Canada

By: Lisa MacDonnell (Toronto)

In a recent edition of Fully Secured (June 26, 2013 – Volume 4, No. 2), we reported on the  Ontario Court of Appeal's decision inin Samson18 and its impact on the enforceability of standard form guarantees. In Samson, the Court of Appeal overturned the earlier decision of the Ontario Superior Court of Justice which held that a continuing guarantee of a borrower's present and future debt was unenforceable on the basis that the guarantor had not consented to material changes to the underlying loan agreement.  In summarizing its conclusions, the Court of Appeal determined that while the increased loan advances made by the lender to the borrower were material alterations to the principal loan agreement, they were also contemplated by the parties, permitted by the clear language of the guarantee, and inherent in a continuing all accounts guarantee that contemplates increases in the size of the underlying indebtedness.

The Guarantor applied for leave to appeal the Court of Appeal's decision, and that application was dismissed by the Supreme Court of Canada on November 14, 2013. Lenders can take comfort that the clear language of a standard form guarantee continues to be enforceable in accordance with its specific terms in circumstances similar to those present in Samson. 

18. Royal Bank of Canada v. Samson Management & Solutions Ltd., 2013 ONCA 313 [Samson].

Sophisticated Guarantors Held to the Terms of Their Deal

By: Richard Dusome (Toronto)

If Peter Morton and Cinitel Corp. had their way, every lender would have a distinct duty to a guarantor to permit the sale of a defaulting borrower's assets as a going concern.  In their view, a lender should be required to maximize its recovery from the borrower and to minimize any claim made on a guarantee.  Fulfilling that duty would also obligate a lender to keep funding a borrower while that asset sale was negotiated and completed.  It is enough to make any lender cringe.

Fortunately, the Ontario Court of Appeal disagreed with Morton and Cinitel's view of the lending world.

In O'Brien19, the Court faced a fairly typical fact situation where Fifth Third Bank provided certain credit facilities to MPI Packaging Inc., the indebtedness under which was guaranteed by Morton and Cinitel, both of whom were related to the Borrower20.  The Borrower defaulted on its loans, and a court-appointed receiver sold the Borrower's assets.  The Bank sued Cinitel and Morton on their guarantees to recover the multi-million dollar shortfall following realization, and upon a motion obtained summary judgment against the guarantors.

In advancing their appeal, the guarantors specifically argued that (1) the Bank failed to act in a commercially reasonable manner in realizing upon its security by failing to allow the sale of the Borrower's assets as a going concern, and (2) the Bank and the Borrower made material alterations and variations in the terms of the Borrower's loan facilities without the consent of Cinitel and Morton21.

Surprisingly, Morton and Cinitel did not allege that the price obtained by the receiver for the assets was commercially unreasonable, but rather that the decision of the Bank to appoint a receiver and pursue a liquidation sale rather than a sale as a going concern was unreasonable.  The Bank had a separate and distinct obligation to the guarantors to protect and preserve the Borrower's assets which had not been fulfilled in their view.  

The Court of Appeal disagreed with the guarantors and unanimously concluded that the Bank's conduct in realizing upon its security was not commercially unreasonable in the circumstances22. It held that (1) the concept of commercial reasonableness should not be extended beyond collateral realization, and (2) the Bank's reliance upon its strict legal rights in the context of a commercial lending transaction between sophisticated parties who have been represented by counsel could not be regarded as commercially unreasonable.  The Court noted that the Bank had not entered into a formal forbearance agreement whereby the Bank had agreed to continue to fund the Borrower while efforts were undertaken to dispose of the Borrower as a going concern.  Consequently, there was no requirement in their view for the Bank to continue to extend credit to the Borrower and thereby increase its exposure when its loan agreements had expired.23

Morton and Cinitel's allegation that material variations had been made to the Borrower's credit facilities without their consent was also dismissed by the Court of Appeal, which found that all of the changes were authorized by the principal loan agreements and the guarantees.  The guarantors had been intimately involved throughout the efforts to resuscitate and sell the Borrower's business, and were fully aware of the Bank's contractual arrangements with the Borrower and the terms of their guarantees.24

It is encouraging to see that the Court of Appeal in O'Brien held these sophisticated guarantors to the terms of the business deal they had bargained for. The Court firmly rejected the imposition of new duties upon lenders in making decisions about extending credit or continuing to extend credit, and about realization remedies to pursue.  This decision should help to close the door on inventive guarantor defences, at least for a few minutes anyways.

19. Fifth Third Bank v. O'Brien, 2013 ONCA 5 [O'Brien]
20. The Court of Appeal's judgment does not specify the specific relationship between Cinitel and the Borrower, and between Morton and the Borrower.  The Court simply describes them as being intimately involved in the Borrower's contractual arrangements.  The decision of the motion judge does not appear to have been commercially reported.  Thus it is not clear if Cinitel was a subsidiary or affiliate of the Borrower, or if Morton was an officer or director of the Borrower.
21. O'Brien, at para. 3.
22. O'Brien, at para. 9.
23. O'Brien, at paras 12 and 13.  The Court also noted that there had been no agreement or representation by the Bank that it would continue to support the Borrower financially while sale efforts were undertaken (paragraph 16).  The judgment suggests that there was some discussion of forbearance, but that those discussions were not completed and formalized into a signed agreement.
24. O'Brien, at paras 17 and 18.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

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