Priorities and Distribution

AuthorStephanie Ben-Ishai; Thomas G. W. Telfer
Priorities and Distribution
One of the key purposes of the bankruptcy regime is to ensure the orderly distribution of
the proceeds from the realization of the bankrupt’s assets among its creditors. This chap-
ter examines the scheme of distribution and the various classes of claims established by
the Bankruptcy and Insolvency Act, RSC , c B- (BIA). Part I below discusses the basic
concept of the pari passu ranking of creditors for distribution purposes. Parts II discusses
the priority ranking of creditors established by section  of the BIA and the various types
of postponed claims. Part III discusses certain special claims upon which the BIA confers
superpriority status.
A. Requirement to Pay Dividends; Secured vs Unsecured Creditors
A dividend is a creditor’s share in the proceeds from the realization of the bankrupt’s assets.
Section () provides that the trustee in bankruptcy is required to declare and distribute
dividends among the unsecured creditors “subject to the retention of such sums as may be
necessary for the costs of administration or otherwise.” Notably, this requirement makes no
mention of any requirement to pay dividends in respect of secured claims, because tech-
nically secured creditors stand outside of the bankruptcy process. As discussed in Chapter
, section  provides that assets that are subject to valid security interests do not vest in
the trustee upon bankruptcy and do not form part of the bankruptcy estate. Section .(),
meanwhile, provides that secured creditors are entitled to realize upon their security inter-
ests in the same way as they would outside of bankruptcy, notwithstanding the bankruptcy
stay of proceedings. To the extent that secured creditors are unable to achieve a full recovery
from realizing upon their collateral, they are permitted to prove the balance owing to them
as an unsecured claim in the bankruptcy pursuant to section . The process and rules by
which creditors can prove their claims so that they can participate in the distribution of the
proceeds of the estate are discussed in Chapter .
B. The Pari Passu Principle
Subject to the BIA, the unsecured creditors of the bankrupt rank pari passu for distribution
purposes. That is, they rank equally and each is entitled to receive a rateable (i.e. proportion-
ate) share of the proceeds from the realization of the bankrupt’s assets. This rule is reected
in section , which provides that “[s]ubject to this Act, all claims proved in a bankruptcy
shall be paid rateably.” Crucially, however, the BIA varies this general rule signicantly by
Chapter : Priorities and Distribution 
carving out exceptions and establishing various classes of preferred and special claims. In
the absence of such exceptions, these claims would rank as ordinary unsecured claims. In
practice, therefore, unsecured creditors do not truly rank pari passu. The priority ranking of
claims is discussed in further detail below in Part II.
In addition to the preferred status that section  accords to certain types of claims,
there are circumstances in which courts will permit certain ordinary unsecured creditors to
collect ahead of others. For example, if the bankrupt is a contractor who failed to complete
a job, the party that hired the bankrupt is entitled to perform the work and deduct the costs
of the work from any outstanding amounts that it owes to the bankrupt. Importantly, how-
ever, pre-bankruptcy contractual terms giving a party discretion to pay amounts owing to the
bankrupt directly to creditors of the bankrupt are ineective in bankruptcy, as demonstrated
in the following excerpt from Iona Contractors Ltd v Guarantee Company of North America,
 ABCA :
[] There is nothing objectionable about a provision in a contract allowing the owner
to complete work that was not performed by a bankrupt contractor, and to deduct the
amount from what was otherwise owing to the contractor. Section () of the Bankruptcy
and Insolvency Act allows such set-os. After a bankruptcy, however, no such clause is
eective to the extent that it gives a discretion to the owner to pay creditors of the bank-
rupt contractor otherwise than as authorized in the Bankruptcy and Insolvency Act: AN
Bail Co v Gingras, []  SCR  at pp. –. It is at this stage of the analysis that it
is relevant that the owner has no “obligation” to pay the subcontractors, but only the
“right” or “discretion” under clause ..(d). After bankruptcy, that discretion cannot be
exercised in such a way that it disturbs the priorities in the Bankruptcy and Insolvency Act.
In AN Bail Co v Gingras, []  SCR , Bail, a construction company, had subcontracted
the bankrupt, Maçonnerie Montmorency Inc, to perform masonry work in a construction
project. Upon Montmorency’s bankruptcy, Bail still owed ,. to Montmorency. At the
same time, Montmorency owed money to a third party supplier of construction materials.
Bail therefore paid the supplier the ,. instead of paying Montmorency. The Supreme
Court of Canada, at –, held that Bail was not entitled to pay the supplier and was
obliged to pay Montmorency’s trustee:
The payment made by appellant to Tuyaux Vibrés Inc. remains a payment made on
behalf of the bankrupt company, which as of the date of the bankruptcy can make no
further payments (Bankruptcy Act, s. ()).
From the date of the bankruptcy also, the debt of Maçonnerie Montmorency Inc.
against appellant passed into the hands of the trustee as part of the property of the bank-
rupt company, and only the trustee can obtain payment of it (Bankruptcy Act, ss. , ).
It would be to disregard the Bankruptcy Act and deprive it of all meaning if the debtor
of a bankrupt, instead of paying the trustee, were authorized, by contract or some other
means, to pay one or other of the creditors of the bankrupt as he saw t.
I adopt the conclusion of Montgomery JA, speaking for the Court of Appeal:
The above clause of the general conditions may be perfectly valid and eective where
there is no question of bankruptcy. I cannot, however, agree with Appellant that it can
supplant the provisions of the Bankruptcy Act and entitle one unsecured creditor to be
paid by preference, which would almost necessarily operate to the detriment of the other
unsecured creditors. I regard this as contrary to the policy of the Bankruptcy Act.

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