Ontario decision clarifies the method of determining the extent of holdback priority in situations where there are multiple building mortgages.
On April 29, 2022, the Ontario Superior Court of Justice released its decision in BCIMC Construction Fund Corp. et al v 33 Yorkville Residences Inc et al. (BCIM Construction). This case involved three lien claimants who had provided services to an owner of a condominium property, which was now insolvent and in receivership. The property was sold pursuant to a court order, and the only issue in dispute before Justice Penny was the distribution priority pursuant to section 78(2) of the Construction Act (the Act) when there is more than one mortgage taken by the owner to finance the improvement of the property. Simply stated, the question before His Honour was whether the liens have priority, to the extent of deficiency in the holdback required to be retained by the owner, over each separate building mortgage or over all building mortgages combined.
As a matter of statutory interpretation, the Court determined that when a project owner is in receivership, lien claimants are limited to priority over all building mortgages combined, rather than each mortgage separately.[1]
The Construction Act
Pursuant to section 22(1) of the Act, each payer in the construction pyramid is required to retain a holdback equal to 10% of the price of the services or materials supplied until all liens have expired or have been satisfied. Section 78 of the Act provides the rules concerning priorities as between mortgagees and lien claimants. Section 78(1) of the Act delineates a basic rule that, subject to other exceptions, the liens from an improvement have priority over all mortgages.[2] A relevant exception appears in s. 78(2) which provides that, where a mortgagee takes what is often referred to as a building mortgage, the lien claimants will have priority over that mortgage and any mortgage taken out to repay that mortgage, to the extent of any deficiency in the holdback required to be retained by the owner under Part IV (i.e., they will not have priority over the entire mortgage), irrespective of when that mortgage, or the mortgage taken out to repay it, is registered.[3]
It is not uncommon, in particular with high-rise residential projects, that owners will take out several building mortgages to finance the construction of the project. In an insolvency situation, the question of priorities becomes extremely important to all involved, including the lien claimants and receiver.
Although lenders are not technically “payers” under the Act, it is common practice in financing construction projects that the lender will review the progress draws made by the contractor, and in many cases, retain their own consultant to review progress draws and approve payment. Typically, the progress draws will have been reduced by the amount of the holdback and the lender will advance the net amount approved by the payment certifier for a particular progress draw. In such a scenario, the lender will not have advanced funds for the holdback amount.
Analysis
The lien claimants relied on three arguments to support their claim that they have priority over each building mortgage to the extent of the deficiency in the holdback: (1) the words of the Act; (2) the context and purpose of the Act; and (3) that the decision in GM Sernas & Associates Ltd v 846539 Ontario Ltd. did not apply in this circumstances. Overall, Justice Penny rejected these arguments, finding that the lien claimants’ interpretation limited the meaning and effect of key words in s. 78(2), overemphasized the use of singular forms of words in the Act, read in extra language, and that accepting this position would have produced a result that is inconsistent with the Act’s scheme and purpose.[4]
The words
Zoning in on the plain and ordinary meaning of the words of s. 78(2), the lien claimants argued that since no holdback was retained and the full 10% priority of the required holdback was available for each of the two building mortgages, they were entitled to their priority amount twice.[5] In other words, the argument amounted to a result that the lien claimants should be entitled to a priority of 20%. This argument was based on the singular form of “a mortgagee” taking “a mortgage” and the lien holder’s priority being over “that mortgage.”[6]
In rejecting this argument, Justice Penny turned to s. 67 of the Legislation Act which provides that: “words in the singular include the plural and words in the plural include the singular.”[7] Justice Penny emphasized the importance of context: “that mortgage” simply expands the priority to include both mortgages taken with the intention to secure the financing of an improvement, as well as mortgages taken to repay the aforementioned mortgage. Justice Penny aptly noted:
This is not, as the lien claimants would have it, a ‘contest’ between one priority claimant and each building mortgagee. There is one pot of money, one 10% holdback deficiency which is available for the priority payment. The lien claimants’ interpretation unreasonably seeks to expand ‘to the extent of any deficiency’ to a multiple of that number.[8]
Context and purpose
The lien claimants also argued that the context and purpose of the Act is to protect lien claimants.[9] Arguing that in situations where there is a deficiency in the holdback and more than one building mortgage has been taken out to secure the financing of the improvement, the mortgagees’ risks are “diluted” and they receive a “windfall.” Further, the lien claimants argued that subsequent building mortgagees expect to assume more risk than prior mortgagees and accordingly, they should not be insulated from this extra risk by limiting a lien claimant’s priority to one 10% deficiency claim.
In considering this argument, Justice Penny pointed out that the Act is not meant to favour lien claimants.[10] Rather, it provides a way for contractors and subcontractors to receive payment for the labour and material supplied to a property, while balancing competing interests (of owners, contractors, subcontractors, and mortgagees). Further, the scheme of the Act obligates an owner to create and maintain a holdback fund for the benefit of lien claimants.[11] However, the lien claimant’s proposed interpretation detached their priority holdback claim amount from the amount required to be retained by the owner under s. 22, and introduced an element of arbitrariness and unfairness into the “cascade of mortgage priorities”.[12] Namely, it would have resulted in a larger shortfall to the “fulcrum creditor.”
Sernas
Finally, the lien claimants argued against the applicability of Sernas, a case the Receiver relied on.[13] In Sernas, the Ontario Superior Court of Justice held that the maximum priority in a claim for lien over two mortgages is 10%, saying that there is “one holdback figure” (i.e., one pot of gold), with the deficiency being the “full holdback figure.”[14] However, the lien claimants argued that their argument about the use of singular words was not raised in Sernas.[15]
While the exact arguments may not have appeared in Sernas, Justice Penny found the substance of the positions and the statutory language were effectively the same.[16] Thus, there was no issue with the Receiver relying on the case as precedent.
Implications and takeaways
In BCIM Construction, the Court clarified the method of determining the extent of holdback priority in situations where there are multiple building mortgages. It should be noted that the Court in this case was balancing competing interests – that of the lien claimants, the mortgagees, and the fulcrum creditor (a fifth mortgagee whose mortgage secured indemnities for Tarion claims and deposit insurance).[17] The Act clearly is not meant to favour one class of actors in the construction pyramid over another.
As the cost of construction increases, we are poised to see more projects with multiple lenders in different priority positions. Lenders would be wise to ensure that owners are continuing to maintain the holdback amount (or that security has been given for the holdback) in accordance with the Act.
For lien claimants, it is imperative to properly track your lien deadlines and ensure that you preserve your rights by registering a lien – otherwise, there will be no entitlement to share in the 10% holdback where there is an insolvency.
For more information, or if you have any questions concerning the priority scheme under the Act, please reach out to Karen Groulx and Dragana Bukejlovic.
The authors would like to thank Cece Li, summer student in the Toronto office, for her assistance with this blog.
[1] 2022 ONSC 2326 at para 3.
[2] 2022 ONSC 2326 at para 9.
[3] 2022 ONSC 2326 at para 10.
[4] 2022 ONSC 2326 at para 20.
[5] 2022 ONSC 2326 at para 12.
[6] 2022 ONSC 2326 at para 13.
[7] 2022 ONSC 2326 at para 24.
[8] 2022 ONSC 2326 at para 21.
[9] 2022 ONSC 2326 at para 14.
[10] 2022 ONSC 2326 at para 27.
[11] 2022 ONSC 2326 at para 29.
[12] 2022 ONSC 2326 at para 31.
[13] 2022 ONSC 2326 at para 15.
[14] 2022 ONSC 2326 at para 16.
[15] 2022 ONSC 2326 at para 17.
[16] 2022 ONSC 2326 at para 33.
[17] In the decision Justice Penny defined the fulcrum creditor as a creditor, who “as a result of realizations being less than the total outstanding debt, will not recover 100% of what is owed.”
