Understanding Exemptions From Bankruptcy Discharge: The Supreme Court Of Canada Clarifies Requirements For Debts Linked To Fraudulent Misrepresentation

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In its recent decision, Poonian v. British Columbia (Securities Commission), the Supreme Court of Canada has provided important clarifications about the discharge of debts under section 178(1)...
Canada British Columbia Litigation, Mediation & Arbitration

In its recent decision, Poonian v. British Columbia (Securities Commission)1, the Supreme Court of Canada has provided important clarifications about the discharge of debts under section 178(1) of the Bankruptcy and Insolvency Act (the "BIA").

The Court held that 178(1)(a) applies only to penalties imposed by a court, excluding those imposed by a regulatory authority such as a securities commission and subsequently registered with a court. In contrast, section 178(1)(e) allows a broad range of creditors to continue pursuing their claims and prevent discharge when the debts arise from the bankrupt's fraudulent misrepresentation.

Crucially, the Court clarified that section 178(1)(e) prevents discharge even if the fraudulent misrepresentation was made to a third party, and not the creditor. This is an important consideration that commercial creditors ought to keep in mind.

Facts

In August 2014, the British Columbia Securities Commission (the "Commission") investigated the appellants, Thalbinder Singh Poonian and Shailu Poonian and found that they had engaged in market manipulation, contrary to the British Columbia Securities Act. The Commission imposed administrative penalties of approximately $13.5 million and ordered the Poonians to disgorge the profits of approximately $5.5 million that they had obtained from the market manipulation scheme. The Commission registered all sanctions with the Supreme Court of British Columbia.

In April 2018, the Poonians made a voluntary assignment in bankruptcy. The Poonians then applied in February 2020 to discharge their bankruptcy, which the Commission opposed. The Commission sought a court order that the amounts the Poonians owed them from the 2014 sanctions would not be released by any potential discharge.

Lower Court Decisions

The application judge allowed the Commission's application, finding that both the administrative penalties and the disgorgement orders would survive any discharge under either section 178(1)(a) or section 178(1)(e) of the BIA. Those sections read as follows:

178 (1) An order of discharge does not release the bankrupt from

(a) any fine, penalty, restitution order or other order similar in nature to a fine, penalty or restitution order, imposed by a court in respect of an offence, or any debt arising out of a recognizance or bail;

[...]

(e) any debt or liability resulting from obtaining property or services by false pretences or fraudulent misrepresentation, other than a debt or liability that arises from an equity claim.

The application judge concluded that section 178(1)(a) applied to monetary orders imposed by a regulatory authority and subsequently registered with a court.

The British Columbia Court of Appeal partially upheld the application decision, confirming that the administrative penalties and the disgorgement orders were exempt from discharge under section 178(1)(e) of the BIA, given that the Poonian's debts arose from fraudulent activities. However, the Court of Appeal held that the orders were not exempt under 178(1)(a), as merely registering an order with a court did not render the order "imposed" by the court.

The Poonians appealed the Court of Appeal's decision to the Supreme Court of Canada, which granted leave.

The Supreme Court of Canada Decision

Writing for the majority, Justice Côté allowed the appeal in part, upholding the Court of Appeal's finding that administrative penalties and the disgorgement orders were not captured by section 178(1)(a) of the BIA.

For a debt to survive bankruptcy under section 178(1)(a), the creditor bears the onus to prove three elements:

  • a fine, penalty, restitution order or other order similar in nature;
  • imposed by a court; and
  • imposed in respect of an offence.

Although the term "offence" in the provision encompasses regulatory offences, the majority concluded that the administrative penalties and the disgorgement orders were imposed by the Commission, not by a court. The orders in this case were merely registered with the court, and accordingly, were not exempt from discharge under section 178(1)(a) of the BIA.

To rely on the section 178(1)(e) exemption, the creditor bears the onus to establish three elements:

  • false pretences or fraudulent misrepresentation;
  • a passing of property or provision of services; and
  • a causal link between the debt or liability and the fraud.

The focus is not simply on deceitful conduct that is morally blameworthy, but on deceitful conduct that gives rise to debt.

The majority held that the elements of fraudulent misrepresentation and false pretences are substantively the same and the difference is immaterial. The key question is whether a false statement was knowingly made and resulted in detrimental reliance. For a creditor to rely on this provision, a court must review the facts and determine whether the bankrupt committed fraud.

Regarding the second element, the majority found that section 178(1)(e) does not require the bankrupt to receive the property of which a person was deprived. It only requires that the fraudulent misrepresentation induced a person to pass the property to another, who may be the bankrupt or someone associated with the bankrupt.

For the third element, the majority adopted a narrow interpretation, which requires a direct and causal link between the debt and the fraud. A material connection is not sufficient. The quantum of the non-dischargeable debt or liability is limited to the value of the property or services obtained by the bankrupt. While the link must be direct, the provision does not impose a direct victim requirement. If there is a direct link between the debt or liability and the bankrupt's fraudulent misrepresentation, a creditor may pursue their claim under section 178(1)(e) even if the fraudulent misrepresentation was made to a third party.

The majority found that the first and second elements of this test were met, as the Poonians had clearly obtained property by knowingly making false statements intended to mislead the public and exploit investors. However, the majority concluded that not all amounts imposed by the Commission satisfied the third element of the test, being a causal link. The administrative penalties resulted from the Commission's choice to sanction the Poonians for their deceit, rather than being the direct result of that deceit. Consequently, the administrative penalties did not satisfy the causal link requirement and cannot survive the discharge from bankruptcy. In contrast, the disgorgement orders imposed by the Commission represented the value that the Poonians obtained as a result of their market manipulation, where a causal link between the amount and the fraud has been established. Therefore, the disgorgement orders were captured by section 178(1)(e) of BIA and would not be released by any order of discharge.

Implications

The Court used this decision to elucidate the principle that 178(1)(e) of BIA aims to make fraud victims whole and prevent debtors from profiting from their wrongdoing. This provision ensures that creditors who are affected by a bankrupt's fraud—whether directly or indirectly—can pursue their claims despite an order of discharge. The Court specifically clarified that section 178(1)(e) does not require the property to be transferred to the bankrupt, if the bankrupt's fraudulent misrepresentation induced the creditor to pass the property.

The Court clarified the "no direct victim" requirement that was evidenced in the 2003 Ontario case, Woolf v. Harrop.2 In that case, the mortgagor knowingly provided a false statutory declaration to a third party, which the bank relied on detrimentally. The Court explained that the bank was entitled to relief under section 178(1)(e), even if the fraudulent misrepresentation was not made directly to the bank.

For commercial creditors who have been deceived by debtors—whether directly or indirectly—this decision confirms that section 178(1)(e) provides crucial protection to ensure that fraudulent debts are not released by an order of discharge.

Footnotes

1. Poonian v. British Columbia (Securities Commission), 2024 SCC 28.

2. Woolf v. Harrop, 2003 CanLII 19823 (Ont. S.C.J.)

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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