Canada: Amendments To Ontario's Conflict Of Laws Rules Will Require Changes To Documentation And Registration/Search Practices

Secured parties that make loans on the security of receivables and motor vehicles, that purchase receivables under securitization or factoring arrangements or that provide financing pursuant to motor vehicle leases or conditional sale agreements (each, a Secured Party) will need to take proactive action as a result of amendments to the Personal Property Security Act (Ontario), which come into force on December 31, 2015.

On that date, the amendments will introduce new rules for determining where a debtor is deemed to be located when applying the Ontario conflict of laws rule that is most relevant to such Secured Parties. These amendments will require that changes be made to such Secured Parties' registration and search practices and that their documentation be reviewed and, if necessary, revised to ensure that the representations and covenants in their documentation are broad enough to deal with these new rules.

DEBTOR LOCATION CONFLICT OF LAWS RULE

Under each of the Personal Property Security Acts (each, a PPSA) in force across Canada (other than in Quebec), there are different conflict of laws rules that apply to the validity, perfection, priority and enforcement of security interests, depending upon the type of personal property in question. The debtor's location is a key consideration in applying one of those conflict of laws rules — referred to in this bulletin as the Debtor Location Conflict Rule.

The Debtor Location Conflict Rule applies to the following property (collectively, the Relevant Property):

  • A security interest in intangibles. Examples of intangibles include account receivables, contract rights and intellectual property rights.
  • A security interest in goods that are of a type that are normally used in more than one jurisdiction, but only if such goods are equipment or inventory leased or held for lease by a debtor to others. Examples of such "mobile" goods include automobiles, trucks, other types of motor vehicles, trailers, rolling stock, aircraft, laptops, as well as excavators and other "yellow iron" equipment that can be moved to different job sites as need arises.
  • A non-possessory security interest in instruments (e.g., cheques, negotiable bills of exchange and letters of credit), negotiable documents of title (e.g., negotiable bills of lading), money and chattel paper (e.g., leases, conditional sale agreements and chattel mortgages).

The Debtor Location Conflict Rule under the Ontario PPSA provides that the validity, perfection, effect of perfection or non-perfection, and priority of the applicable security interest in the Relevant Property will be governed by the internal laws of the jurisdiction where the debtor is located at the time the security interest attaches. The Debtor Location Conflict Rule under the other PPSAs is similar to the Ontario PPSA, except that their rule (other than in Yukon and, arguably, in Saskatchewan, the Northwest Territories and Nunavut) refers not only to the internal laws of such jurisdiction, but also to the conflict of laws rules of such jurisdiction. The significance of this difference will become more apparent in the fact situation that is discussed later in this bulletin.

The basic tenet of the Debtor Location Conflict Rule (i.e., referring to the law of the debtor's location) is not being altered. What is being changed, however, are the Ontario rules that establish where a debtor is deemed to be located for the purposes of applying the Debtor Location Conflict Rule.

EXISTING DEEMING RULE

Presently, under the Ontario PPSA (as well as under most of the other PPSAs), a debtor is "deemed to be located at the debtor's place of business if there is one, at the debtor's chief executive office if there is more than one place of business, and otherwise at the debtor's principal place of residence." This deeming rule has been considered to be problematic for some time, given the absence of any definition in the Ontario PPSA (or, for that matter, in the other PPSAs) for the term "chief executive office" and the paucity of any helpful Canadian case law as to the meaning of that term. The uncertainty as to where a debtor's chief executive office is located (especially in those situations where a debtor has multiple places of business or is a subsidiary of a foreign parent), as well as the requirement of Secured Parties for certainty that their security interests have been perfected and have the required priority, have led to a market practice of essentially registering and conducting searches in all jurisdictions in which a debtor's chief executive office may possibly be located.

NEW DEEMING RULE

In order to reduce the level of uncertainty of where a debtor is located and in an effort to thereby reduce the need to conduct searches and make registrations in multiple jurisdictions, the amendments to the Ontario PPSA will add a number of deeming rules as to a debtor's location. In some cases (such as for domestic corporations, domestic limited partnerships and U.S. corporations), the deeming rule will be clear and the requisite information will generally be publicly available. In other cases (such as for domestic general partnerships or domestic trusts), the test is relatively straightforward, but the requisite information will not be publicly available.

The new debtor location deeming rules are summarized as follows:

  • For Domestic Corporations, Domestic Limited Partnerships and other Domestic Organizations: If a debtor is a corporation, a limited partnership or an organization and if that debtor is incorporated, continued, amalgamated or otherwise organized under the laws of a province or territory in Canada that requires the incorporation, continuance, amalgamation or organization to be disclosed in a public record, that debtor will be deemed to be located in the jurisdiction where it is incorporated, continued, amalgamated or otherwise organized. If a debtor is a corporation incorporated, continued or amalgamated under the Canada Business Corporations Act or another federal statute of Canada that requires the incorporation, continuance or amalgamation to be disclosed in a public record, that debtor will be deemed to be located in the jurisdiction in which its registered office or head office is located, as set out in the statute or constating documents under which such corporation was incorporated, continued or amalgamated or, failing that, as set out in such corporation's bylaws.
  • Domestic Partnerships: If a debtor is a partnership (other than a limited partnership) and if the partnership agreement governing such partnership states that the agreement is governed by the laws of a province or territory of Canada, that debtor will be deemed to be located in that province or territory.
  • Domestic Trusts: If a debtor is a trust that is acting through one or more trustees and if the trust instrument governing the trust states that the instrument is governed by the laws of a province or territory of Canada, that debtor will be deemed to be located in that province or territory. However, if the trust instrument does not contain a governing law provision or such governing law is a foreign jurisdiction, then the trust's location will be deemed to be located in the jurisdiction where the administration of the trust by the trustees is principally carried out. The amendments do not provide any guidance on how a Secured Party is to determine where the administration of a trust by its trustees is principally carried out.
  • Individuals: If a debtor is an individual or a sole proprietorship, that debtor will be deemed to be located in the jurisdiction where his or her (or, as applicable, the sole proprietor's) principal residence is located.
  • U.S. Organizations: If a debtor is a registered organization under the law of a U.S. state, that debtor will be deemed to be located in that U.S. state. If a debtor is a registered organization under the law of the United States of America, that debtor will be deemed to be located in the U.S. state designated by the law of the United States of America or in the U.S. state that the registered organization designates, if the law of the United States of America authorizes such designation. If none of the foregoing rules applies, the debtor will be deemed to be located in the District of Columbia.
  • Residual Rule: If none of the above deeming rules apply to a debtor, such debtor will be deemed to be located in the jurisdiction in which its "chief executive office" (which term remains undefined) is located. In that scenario, Secured Parties and their counsel will need to refer to applicable U.S. case law (from which this term had originally been imported). Applicable U.S. jurisprudence has held that the determination of a debtor's "chief executive office" is a question of mixed fact and law, is to be based on objective external factors (rather than internal factors) and is generally determined based on the location(s) of the debtor's management or decision-making.

EFFECT OF NEW DEEMING RULES

The introduction of these new debtor location deeming rules will have a material impact on where registrations will need to be made and where searches will need to be conducted. This can be illustrated by the following simple fact situation.

The debtor (D) is a British Columbia corporation and its sole place of business is located in Ontario. D has granted to its lender (SP) a security interest in all of its account receivables. D's customers under such receivables are located in all of the PPSA provinces.

Under the existing Debtor Location Conflict Rule in each PPSA jurisdiction, SP would only need to conduct PPSA searches and make a PPSA registration under the Ontario PPSA, being the province in which D is deemed to be located, because D's sole place of business is located in Ontario. After the new Ontario PPSA debtor location deeming rules come into force, the jurisdiction in which PPSA registrations and searches are required to be completed in the above example will change (with the arguable exception under the Saskatchewan PPSA) from Ontario to British Columbia. In particular, when the new Ontario PPSA deeming rules are applied to the above example, the internal laws of British Columbia become the relevant law under Ontario's Debtor Location Conflict Rule, because British Columbia is the jurisdiction of incorporation of D. Under the Debtor Location Conflict Rule in the other PPSA provinces (other than, arguably, in Saskatchewan), their PPSA deeming rule would point to Ontario law (which, as mentioned above, expressly includes the conflict of laws rules of such jurisdiction) as the relevant law, because Ontario is the jurisdiction of D's sole place of business. However, because such other PPSAs refer to Ontario's conflict of laws rules, Ontario's Debtor Location Conflict Rule will then refer this issue back to British Columbia. In the case of the Saskatchewan PPSA, there is some uncertainty, because section 7(2) of the Saskatchewan PPSA currently provides that its Debtor Location Conflict Rule refers to "the law, including the conflict of law rules". However, an interpretive provision in section 8.1 of the Saskatchewan PPSA provides that "for the purposes of sections 5 to 8 [which includes that province's current Debtor Location Conflict Rule], a reference to the law of a jurisdiction means the internal law of that jurisdiction excluding its conflict of law rules" (emphasis added). Given the uncertainty on how a court would interpret these competing provisions, the most prudent course of action is to register and conduct searches on the assumption that either of these provisions could prevail. On that basis, for the above example if the Saskatchewan PPSA is relevant, a Secured Party would need to register and conduct searches in both British Columbia and Ontario.

It is not difficult to imagine that the conflict of laws analysis will become even more confusing and uncertain where a debtor has potentially more than one location in which its chief executive office is or has been located or where one of those locations is or was in a jurisdiction with a different conflict of laws rule (e.g., Quebec and the United States). In those situations, Secured Parties will have to make registrations and conduct searches in many more jurisdictions.

This state of affairs will improve somewhat when the other PPSA jurisdictions harmonize their respective Debtor Location Conflict Rules. In that regard, we note that each of British Columbia and Saskatchewan has enacted (but has not yet proclaimed in force) amendments to its PPSA that (1) correspond to Ontario's new debtor location deeming rules and (2) change its Debtor Location Conflict Rule so that it no longer refers to the conflict of laws rules of the relevant jurisdiction and only to the internal laws of such relevant jurisdiction.

TRANSITION PROVISIONS

The new deeming rules for determining where a debtor is located are accompanied by "transition" provisions. These transition rules will be extremely helpful to Secured Parties with pre-December 31, 2015 security interests in any Relevant Property (a Prior Security Interest). Some notable features of these transition provisions are as follows:

  • Generally speaking, the transition period for a Prior Security Interest ends on the earlier of (1) the day on which such Prior Security Interest ceases to be perfected under the pre-December 31, 2015 Ontario PPSA and (2) December 31, 2020. Accordingly, Secured Parties will need to review their "tickler" systems to ensure that any Prior Security Interests that have been perfected by registration for a period that ends after December 31, 2020 will be updated to provide notice to "renew" such Prior Security Interests (in accordance with the new debtor location deeming rules) prior to December 31, 2020.
  • If a Secured Party decides to perfect its Prior Security Interest under the new debtor location deeming rules prior to the end of the applicable transition period, then such Prior Security Interest is deemed to be continuously perfected from the day of its perfection under the prior law.
  • If the Prior Security Interest includes an after-acquired property clause covering any subsequently acquired Relevant Property (for example, an after-acquired property clause in a general security agreement), such Prior Security Interest will continue to benefit from the above transition rule, even if such security interest attaches to such Relevant Property on or after December 31, 2015.
  • Subject to the exception that is described in the next bullet, if a security document that contains a Prior Security Interest is amended, renewed or extended on or after December 31, 2015 (a Post-Dec. 30th Amendment), such Prior Security Interest will continue to benefit from the above transition rule.
  • If a Post-Dec. 30th Amendment includes additional collateral that was not previously described in the pre-December 31, 2015 security document, then the new deeming rule will apply to such additional collateral. Accordingly, if on or after December 31, 2015, a lender, motor vehicle lessor or a purchaser of receivables or chattel paper enters into a supplement or schedule to a pre-December 31, 2015 master loan agreement, master lease agreement or master purchase agreement that provides for additional collateral, leased property or purchased receivables/chattel paper, as applicable, the new deeming rules will apply to the perfection and priority of a security interest in such additional collateral, leased property or purchased receivables/chattel paper, as applicable.
  • If a Prior Security Interest is not perfected by registration before December 31, 2015, then under Ontario law such Prior Security Interest must be perfected by registration in accordance with the new deeming rules.

GOING FORWARD

The new Ontario debtor location deeming rules will have an immediate impact on personal property security registration and search practices and the credit, leasing and purchase/securitization documentation under which the applicable financing is provided. Secured Parties should review their existing registrations and their documentation to determine whether any new and/or supplemental registrations are required. As well, registration and search practices in the context of new financings should be adjusted to reflect the new deeming rules. On the documentation side, and until harmonization among the various Canadian PPSA jurisdictions has been achieved, the practice of including representations and covenants regarding a debtor's chief executive office and locations at which assets are located should be supplemented by representations and covenants regarding the jurisdiction of organization of the debtor (or, where applicable, the jurisdiction of the governing law of the debtor's organizational documents).

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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