Canada: Cost Recovery When Litigating Dishonesty

A relatively recent decision from the BC Court of Appeal will shield defendants from potential exposure to special costs orders, even if they end up losing the litigation.  The decision creates an uneven playing field, where in certain types of litigation, successful defendants will recover special costs but successful plaintiffs will not.  Plaintiffs' counsel will need to be mindful of this decision in pleading, preparing and arguing their case so as to position their clients for a higher level of indemnification following success at trial.

A few years ago, Peter Roberts wrote an excellent summary titled The Thorny issue of Costs and Special Costs, that contrasted the two types of costs the courts will order: "party and party costs" and "special costs".  As a rule of thumb, party and party costs are only about 25% of your actual legal fees, whereas special costs provide a much higher recovery of closer to 80-100% of your actual legal fees (assuming they are otherwise reasonable).

Peter's previous post was prompted by a recent decision from the Court of Appeal (Gichuru v. Smith, 2014 BCCA 414) in which the Court rejected a summary way to quantify "special costs".  As a result, he noted that the process to quantify the amount of special costs ordered was itself going to be lengthy and expensive.  Further, he noted that this process would necessarily need to be delayed to the "very end" as it would result in a waiver of the client's solicitor-client privilege over its accounts.  All of those observations remain valid. 

Another recent decision has placed a further roadblock for plaintiffs to recover special costs in litigation originating from the dishonesty of defendants.  In Smithies Holdings Inc. v. RCV Holdings Ltd., 2017 BCCA 177 ("Smithies"), the Court introduced a bright line rule whereby the Court, in considering whether to order special costs, can no longer consider "bad behavior" that pre-dates the litigation.  Going forward, special costs will only be awarded to punish a party for conduct in the litigation that the court regards as "reprehensible", where reprehensible means "scandalous or outrageous conduct as well as milder forms of misconduct deserving of rebuke".  

For claims involving fraud and dishonesty, this bright line rule now creates an uneven playing field.  Prior to this bright line being drawn, both plaintiff and defendant in these types of claims could recover special costs if successful, based solely on the underlying claim and the outcome at trial.  This bright line now precludes the plaintiff from seeking special costs based upon the events giving rise to the cause of action.  The successful defendant is, however, unaffected by this bright line rule as special costs will still be available where such serious allegations are made but not proven. 

In Smithies, the Court restricted plaintiffs, who are the victims of dishonest conduct, to frame their claim for additional indemnification as a claim for punitive damages.  The challenge with this framework is that punitive damages already have an established body of law as to when they can be awarded and more importantly, established upper limits for the amount that can be awarded in certain circumstances.  The established limits presently do not take into account the gap between a party's actual legal fees and the party and party costs that would be payable.  Special cost awards following lengthy trials can easily eclipse the present upper limits for punitive damages.  Until the caselaw develops to consider the gap between actual legal fees and party and party costs as a factor in setting the amount of these damage awards, the cost and risk of litigating these types of claims will be a disincentive to potential plaintiffs. 

There is some indication that the Court will be open to considering legal fees and indemnification principles generally as a basis to increase awards of punitive damages.  In Godwin v. Desjardin Financial Security Investment Inc., 2018 BCSC 690, the Court referred to the new bright line rule in Smithies and the justification that those successful plaintiffs should instead pursue claims for punitive damages rather than special costs, and then made the following observation:

¶24        While it is of course correct to say that the purpose of a special costs award is to deter and punish, the effect of a special costs award, by its very nature, is to provide a litigant with a greater degree of indemnity against its actual legal expenses.  I infer from these quoted passages that in the view of the Court, the quantum of any punitive damages award intended to rebuke reprehensible conduct should account for the need to indemnify a litigant who succeeds in obtaining such damages, thus fulfilling the purpose of a special costs award.  That is entirely logical.  The disparity between actual legal costs, and those awarded under the current tariff as ordinary costs is so great – and the quantum of a punitive damages award may be so modest - that the cost of trial can serve as a disincentive to litigate punitive damages liability on its own.  If the amount of its punitive damages exposure does not fully account for the assured's cost of litigating the punitive damages claim, an insurer at risk of a finding of bad faith may have little incentive to pay a claim at an early date, and may instead elect simply to test the assured's resolve by waiting until the eve of trial to pay the claim – as, in fact, the defendant did in the present case – trusting that the cost of proceeding to trial would lead the assured to abandon the punitive damages claim.

Going forward, plaintiffs in claims based upon some element of dishonesty should seek punitive damages and directly raise the issue of indemnification as a factor that the court ought to consider in increasing the present upper bound of such damages. 

Finally, although Smithies narrows the purpose of special costs to punish bad behavior in the course of litigation, the Court noted that the decision was not intended to affect those cases where special costs are awarded in circumstances where there is no wrongdoing (i.e. where indemnification rather than punishment is the primary purpose).  Specifically, this bright line rule does not apply where special costs are authorized by statute, by contract, or where the litigation involves estates (including bankruptcy estates) where indemnification principles remain paramount.  Counsel will need to ensure this decision is not extended into those areas of law that the decision expressly sought not to affect.

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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