Superior Court looks at a spouse’s interest the other’s asset following bankruptcy

The wording and the context of a court order can impact what will happen later during bankruptcy, Feldstein Family Law Group P.C. said recently in a blog post.

The post analyzed Johnston v. Johnston, 2020 ONSC 6515, which the Ontario-based family law firm said explored “a niche issue of what happens to a party’s interest over an asset of another party when the latter party declares bankruptcy.”

In Johnston, the parties, who jointly owned a matrimonial home, separated in May 2017. In November 2017, they sold the matrimonial home and generated net proceeds of around $185,000. In June 2018, Justice John McCarthy of the Ontario Superior Court of Justice ordered that, given the possibility of the dissipation of the respondent’s assets and of the likelihood of a declaration of the respondent’s bankruptcy, the net sale proceeds should be held in an interest-bearing trust account of the parties’ real estate lawyer as security for the spousal support claims of the applicant.

On June 3, 2019, with about $170,000 of the net proceeds remaining in the trust account, the respondent made an assignment in bankruptcy and appointed BDO Canada Limited as trustee in bankruptcy of his estate. In July 2019, Justice McCarthy, who was not advised of the bankruptcy, awarded the applicant costs of $25,000 to be paid out of the respondent’s 50 per cent share of the proceeds. The parties’ real estate lawyer therefore paid the applicant this amount.

In the present case, the applicant was asking the court to declare that her interest, pursuant to the June 2018 order, in the respondent’s share of the proceeds was a secured claim that had a priority over the respondent’s trustee in bankruptcy.

Under s. 71 of the Bankruptcy and Insolvency Act, R.S.C. 1985, c. B-3, the respondent’s property, including his share of the proceeds, vested in the trustee by virtue of his assignment in bankruptcy, as of June 3, 2019. Under s. 70(1) of the Act, this assignment in bankruptcy would take precedence except against completely executed judgments or the rights of secured creditors. The issue in this case was whether the applicant was considered a secured creditor as defined by s. 2 of the Act.

Justice McCarthy, writing on behalf of the Ontario Superior Court of Justice, ruled that the applicant was not a secured creditor, as the June 2018 order did not create a security interest in her favour. The respondent’s share of the proceeds vested in the trustee on June 3, 2019, so McCarthy set aside the portion of the July 2019 order which directed that costs of $25,000 be paid to the applicant out of the respondent’s share of the proceeds, and ordered that the trustee would be entitled to $85,000 plus any accrued interest since June 3, 2019, to be paid out of the proceeds held in trust.

McCarthy said that the intention of the court in including the words “security for payment for the Applicant’s spousal support claims” in the June 2018 order was to preserve a pool of money which would be available to assist in satisfying the applicant’s proven spousal support claims. The court did not intend to consider the applicant a secured creditor or to create an exception to the vesting of the property in the trustee.

“It is clear from the context in which the order was made that the court was concerned that the Respondent’s spending habits might lead to a dissipation of his assets which would serve to frustrate the Applicant’s ability to collect any spousal support ordered,” wrote McCarthy. “While the spectre of bankruptcy was mentioned, the court did not stipulate (nor was it asked to stipulate) that the Applicant would stand as a secured creditor for the purposes of the BIA.”

McCarthy added that the applicant could not be considered a secured creditor under the Bankruptcy and Insolvency Act because there was no debt owing or accruing to her, given that her rights to spousal support had not yet been determined. The applicant likewise did not qualify as a creditor as defined in Black’s Law Dictionary.