Originally published in Blakes Bulletin on Financial
Services, October 2008
With the recent elimination of Canadian withholding tax, there
are more institutions lending into Canada that do not have a
physical presence in the country. Where their security package
includes shares pledged by a Canadian debtor or shares of a
Canadian issuer, the question arises as to where the certificates
should be held for safekeeping. The answer gets complicated where
the pledge is governed by the laws of a province that has passed a
Securities Transfer Act.
The majority of Canadian provinces have passed a Securities
Transfer Act or equivalent legislation (each, an STA), and it is
anticipated that the outstanding provinces and territories will
soon follow suit. In a nutshell, an STA and the accompanying
amendments to a jurisdiction's Personal Property Security Act
(each, a PPSA) serve to facilitate/modernize the taking of security
over Investment Property and to bring Canadian law into conformity
with Article 8 of the UCC.
Under the new conflicts provisions of a PPSA, the
validity of a security interest in a certificated security
is governed by the law of the jurisdiction where the certificate is
located at the time the security interest attaches (s.
7.1(1)). Such conflicts provisions go on to provide that the
perfection, the effect of perfection or of non-perfection and
the priority of a security interest in a certificated security
shall be governed by the law of the jurisdiction where the
certificate is located at any time (s. 7.1(2)). However,
the law of the jurisdiction in which the debtor is located (i.e.,
its chief executive office), governs the perfection of a
security interest in a certificated security by registration (s.
When taking a security interest in a certificated security in
Canada, it is common practice to both:
(a) register against the debtor in the province where it is
(b) take possession of the share certificate at closing in the
province whose law governs the pledge.
Accordingly, the validity and perfection of such
security interest will always remain a matter of Canadian law.
However, where the share certificates are subsequently delivered to
the secured party in another jurisdiction, the laws of such foreign
jurisdiction will govern the effect of perfection or of
non-perfection and the priority of such security interest.
As a result one must consider whether, under the laws of such
foreign jurisdiction, it is possible for a competing (and, where
contrary to a negative pledge, fraudulent) security interest in
such shares to gain priority over the interest of a possessory
pledgee. Presumably this would have to have to occur through some
sort of public registration or issuer notification. If such steps
cannot defeat a possessory interest, then a secured party should be
comfortable maintaining possession in such foreign jurisdiction. Of
course, where local registration is easy and inexpensive (e.g., in
any U.S. state), a possessory pledgee may wish to take such
additional step out of an abundance of caution.
As a practical matter, any insolvency proceeding with respect to
a Canadian pledgor would likely occur in Canada. Assuming that it
had effected a registration, a Canadian court would recognize a
possessory pledgee as a secured creditor. In determining the
priority of its security interest, however, the Canadian court
would look to the laws of the jurisdiction in which the share
certificates are located, which law would have to be proven before
the court. It would, of course, be possible for a possessory
pledgee to repatriate the share certificates to Canada in an
attempt to reintroduce Canadian law to the priority analysis.
However, it is unclear whether such a step would be effective in
the face of a stay order or where priority is determined as at a
prior point in time.
In summary, the effect of any extra-territorial delivery of
share certificates pledged under the laws of an STA jurisdiction
requires some extra-territorial analysis. While a burdensome
exercise, it should be a familiar one for a secured party that has
taken delivery of share certificates pledged under a laws of a U.S.
state. In the event that a secured party cannot get comfortable
with its local law conclusion, prudence dictates that it retain a
custodian (typically a trust company) to maintain possession of the
share certificates in Canada. Given the additional cost and time
involved, this should be viewed as a measure of last resort.
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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