Proprietary Claims of Third Parties

• Author: Roderick J. Wood
• Pages: 129-164

129

CHAPTER 5

PROPRIETARY CLAIMS

OF THIRD PARTIES

This chapter is the f‌lip side of the previous chapter. Upon bankruptcy,

the assets of the bankrupt vest in the trustee. However, the occurrence

of bankruptcy does not permit the trustee to conf‌iscate assets belong-

ing to persons other than the bankrupt. A third party who success-

fully claims an interest in an asset is per mitted to withdraw it from the

bankrupt’s estate. Where the claimant establishes absolute ownership

in the property, the asset is entirely removed from t he bankrupt’s estate.

The third party’s proprietary right in the asset may be of a more lim-

ited nature such that the asset or its value is not completely removed

from the estate. For example, a person who owns land jointly with the

bankrupt does not have the right to take the land entirely out of the

bankrupt’s estate. Bankruptcy severs the joint tenancy and converts

it into a tenancy in common. The trustee may bring proceedings for

partition and sale of the interest, or may sell the bankrupt’s interest to

a purchaser who will enjoy a similar ability to do so.1

An astonishing variety of property interests can be created. Many

arise through consensual dealings, but they can also arise through the

operation of law in response to other events such as wrongdoing or

unjust enrichment.2 It is beyond the scope of this work to catalogue all

the different kinds of property rights. This chapter will limit itself to a

consideration of the bankruptcy procedure that is used to determine t he

1 See Chapter 4, Sect ion B(1).

2 See Chapter 3, Sect ion C(1).

BANKRUPTCY AND INSOLVENC Y LAW130

legitimacy of the th ird party’s claim to the property and to an ex amina-

tion of some of the proprietary claims that are commonly asserted by

third parties in the context of bankruptcy proceedings.

As a general rule, proprietary rights that are in existence at the

date of the bankruptcy are effective against the trustee in bankruptcy.

Conversely, personal rights are converted into a right to prove a claim

for a dividend and do not give the claimant a proprietary right in any

asset of the debtor. This is subject to a number of important exceptions

provided for in the bankruptcy statute. Certain types of proprietary

rights, such as deemed trusts, are extinguished upon the occurrence

of a bankruptcy. As well, upon bankruptcy a proprietary right is con-

ferred upon certain types of claimants, such as unpaid suppliers of

goods, who have only a personal right outside of bankruptcy. These

provisions will be examined in detail in this chapter.

A. ASSERTING PROPRIETARY CLAIMS

AGAINST THE TRUSTEE

The BIA provides a procedural mechanism for the resolution of propri-

etary claims made by third parties in respect of assets that are under

the control of the trustee. The procedure is a complete code and it is not

open for a claimant to pursue an alternative avenue to have the claim

recognized.3 Although the procedure is of general application, claims

of secured creditors and sellers claiming thirty-day goods are resolved

through a different procedure.4

A person who claims a proprietary right in an asset in the posses-

sion of the trustee must f‌ile a proof of claim verif‌ied by an aff‌idavit

that sets out the basis for the claim and suff‌icient particulars to enable

the property to be identif‌ied.5 The trustee must either admit the claim

and deliver possession of the property to the claimant or give notice

that the claim is disputed and provide reasons.6 The onus of proof is

on the claimant to establish the claim.7 This determination must be

made within f‌ifteen days from the f‌iling of the proof of claim or f‌ifteen

days after the f‌irst meeting of creditors, whichever is later. If the claim-

3 BIA, s 81(5). And see Bank of Montreal v XED Se rvices Ltd (1992), 15 CBR (3d)

112 (BCSC); Re Bothwell (2000), 22 CBR (4th) 56 (Ont SCJ).

4 See Sections B(2) and C, below in t his chapter.

5 BIA, s 81(1).

6 Ibid, s 81(2).

7 Ibid, s 81( 3).

Proprietar y Claims of Third Part ies131

ant does not appeal the trustee’s decision to dispute the claim within

f‌ifteen days of the sending of the notice, the claimant is deemed to

have abandoned all right and interest in the property. A court has the

discretion to extend the time for the appeal even after expiry of the

f‌ifteen-day period.8

B. SECURED CREDITORS

Creditors who have taken the precaution of obtaining a security inter-

est are able to assert a proprietary claim to some or all of the bank-

rupt’s property. The pervasive use of secured credit in modern times

has meant that these claims arise routinely. Indeed, it has occurred to

such a degree that some commentators have expressed concern that

it has permitted most of the bankrupt’s assets to be swept out of the

bankrupt’s estate, leaving nothing at all for the unsecured creditors.9

A secured creditor’s enforcement remedies against t he collateral are

not regulated by the bank ruptcy system and continue to be governed by

non-bankruptcy law principles. Personal property security law gener-

ally governs enforcement proceedings against personal property while

provincial mortgage foreclosure law generally governs proceedings

against land.10 The exercise of these enforcement remedies results in

the removal of the collateral from the bankruptcy estate. The proceeds

from the realizat ion of the collateral are not shared among the cred itors

but are used to satisfy the obligation owed to the secured creditor. If

there is a surplus following an enforcement sale, the trustee is entitled

to claim the proceeds unless there is another party with a higher right

(such as the holder of a subordinate perfected security interest). A se-

cured creditor will typically assert a claim in bankruptcy only if the

value of the collateral is not suff‌icient to satisfy the obligation secured.

1) The Def‌inition of Secured Creditor

The BIA def‌ines a “secured creditor” as “a person holding a mortgage,

hypothec, pledge, charge or lien on or against the property of t he debtor”

8 Ibid, s 187(11). Re St-Pierre (1963), 5 CBR (NS) 61 (Que Sup Ct).

9 R Goode, “Is the L aw Too Favourable to Secured C reditors?” (1984) 8 Canadian

Business Law Jour nal 53.

10Some fede ral statutes create federa l security interest en forcement regimes on

certain t ypes of collateral, suc h as ship mortgages. See R Cuming, C Walsh , &

R Wood, Personal Property Sec urity Law, 2d ed(Toronto: Irwin Law, 2012) at

709–14.