KerrLaw Logo JAMES D. L. KERR
CLIENT MEMO
TO:           Clients FROM:   James D.L. Kerr Lawyer
            17 – 151 Merton St.
            Toronto
, Ont., M4S 1A7
            Tel 416 485-4254
            Fax 416 485-8836
           
E-mail: jkerr@kerrlaw.ca
            www.kerrlaw.ca

            Certified Specialist Civil Litigation
DATE:      August 4, 2004
RE:           BANKRUPTCY – GENERAL INFORMATION

“GOING” BANKRUPT:

One often hears that a person or business has gone bankrupt”. “Bankruptcy” is technically a legal proceeding under the Bankruptcy and Insolvency Act (the “BIA”) of Canada. When laymen talk about “going bankrupt” they are not necessarily referring to bankruptcy in its technical sense. “Bankruptcy is often used in a colloquial sense to mean any personal or business financial failure. For example, if a business has borrowed money from a bank, the bank will typically have taken a mortgage of all of the business’ assets; in this context, the mortgage is usually called a “security interest”. If the business defaults on its loan, the bank has the right to enforce its security interest. Typically, the bank enforces its security interests by appointing a private receiver who seizes the assets of the business. When that occurs, the customers and suppliers of the business will often say that the business has “gone bankrupt”. In fact, while the business will have gone “out of business”, no bankruptcy has taken place. A private receivership has terminated the business existence.

The balance of this Memo summarizes, in a very general way, the process of going formally bankrupt under the BIA.

 WAYS OF GOING BANKRUPT:

The BIA is a law of Canada that was enacted to provide a mechanism by which:

 1.        Debtors can rehabilitate themselves by eliminating or reducing their indebtedness; and

 2.        Creditors can collect indebtedness owed by the debtor on a pro rata basis to the extent that the debtor has assets.

 The BIA provides three procedures by which the foregoing ends can be achieved:

 1.   Voluntary Bankruptcy:

 (a)       Assignment: A person or business can voluntarily place themselves in bankruptcy by making an “Assignment for the Benefit of Creditors”; this is what takes place when a person or business “goes bankrupt”. 

 (b)       Proposal: A person or business can make a “Proposal” to creditors under the BIA. A Proposal is, essentially, a global offer made to creditors to repay a percentage of the indebtedness on specified terms and conditions. A meeting is held and the creditors vote on the Proposal. A Proposal is approved by creditors only if a “double majority” votes in favour of the Proposal; that is, a majority of the creditors voting (by counting heads) holding at least 2/3’s of the value of the indebtedness. If the Proposal is approved by the creditors, it must then be further approved by the Bankruptcy Court. Once the Proposal has been approved by both the creditors and the Court, then all of the creditors are bound by the Proposal including those who opposed it. Accordingly, a BIA Proposal is a method of forcing a compromise on uncooperative creditors provided the double majority of creditors are in favour of the compromise. This is analogous to a “Chapter 11” reorganization in the United States. Debtors can also seek to reorganize their financial affairs under the federal Companies Creditors Arrangement Act, but that procedure is more subjective and costly than a Proposal under the BIA.

 2.        Involuntary Bankruptcy: Creditors can force a person or business into bankruptcy by petitioning the Bankruptcy Court for a “Receiving Order”. A creditor can petition a debtor into bankruptcy if the debtor has total debts of at least $1,000.00 and has committed an "act of bankruptcy" within the preceding 6 months. The BIA lists what qualifies as an “act of bankruptcy”; examples are: the creditor has a court judgment against the debtor and has been unable to collect on the judgment; the debtor has exhibited a statement in writing that demonstrates that the debtor has insufficient assets to pay debts; the debtor has ceased to meet obligations generally as those obligations come due.

 CONSEQUENCES OF BANKRUPTCY:

 In the case of a Voluntary Bankruptcy, an Involuntary Bankruptcy or a failed Proposal, a trustee-in-bankruptcy (the Trustee) takes control of all of the debtor’s assets, except certain exempt assets, and liquidates the debtor’s assets. The funds received from the liquidation are used to pay the costs of the bankruptcy and the debtor’s unsecured creditors. Examples of exempt assets include wearing apparel up to $1,000, household goods up to $2,000, trade tools up to $2,000, and Canada Pension Plan and Employment Insurance benefits.

Surplus income earned by the debtor while the debtor is an “undischarged bankrupt” must be paid to the Trustee for the benefit of the creditors. “Surplus income” means the debtor’s earnings beyond a fair and reasonable amount necessary to maintain the debtor and the debtor’s family according to the debtor’s station in life.

Secured creditors (for example, a bank that holds a mortgage on the debtor’s home) are outside of the bankruptcy proceeding and are entitled to enforce their security notwithstanding the bankruptcy.

Unsecured creditors (for example, trade payables, credit card companies, and the like) are divided into two classes: preferred creditors and ordinary creditors. Preferred creditors get paid ahead of the ordinary creditors. Preferred creditors include spousal support, unpaid employee wages (up to $2,000), municipal taxes not secured by a lien on land, landlords (for up to 6 months rent) and employee personal injury claims to the extent of applicable insurance proceeds.

Certain government claims also have priority over creditors and the federal government has a “super-priority” entitlement to be paid unremitted employee source deductions ahead of all other creditors.

Directors and officers of bankrupt corporations can also be personally liable for certain unpaid government claims such as employee source deductions, GST and PST.

And the credit bureau will show the bankruptcy on its computer records within about 2 weeks of the date of the bankruptcy. The credit bureau you will keep the bankruptcy on its records for seven years and this will impact the debtor’s ability to obtain credit even after the debtor’s discharge from bankruptcy (see below).

STAY: 

After a bankruptcy, all claims except the claims of secured creditors to enforce security are “stayed”. Than means that creditors can no longer enforce payment (for example, by commencing or continuing a lawsuit) except for their right to participate in the proceeds of the liquidation of the debtor’s assets by the Trustee.

UNPAID SELLERS:

Unpaid inventory suppliers have a right to repossess the goods they supplied to the debtor by delivering a notice in writing to the Trustee. The right is limited to goods delivered within the 30 days prior to the supplier giving the notice.

MAJOR STEPS IN BANKRUPTCY:

 1.        Bankruptcy: typically, the debtor (call the “Bankrupt”) consults a Trustee who prepares an Assignment for the Benefit of Creditors and files the Assignment with a government official called the Official Receiver.  The bankruptcy is effective on the date when the documents are filed with the Official Receiver. 

 2.        Delivery of Property to Trustee: The Bankrupt must deliver to the Trustee all credit cards, books and records, real estate title papers, insurance policies and income tax records.

 3.        Counselling: Individuals (as opposed to corporations) who go bankrupt must go through credit counselling between 10 and 60 days after the bankruptcy.  A second counselling session must take place not later than 210 days after the bankruptcy.

 4.        Examination by Official Receiver: The Bankrupt must submit to an examination under oath by the Official Receiver with respect to the Bankrupt’s conduct that led to the bankruptcy and the disposition of property by the Bankrupt prior to the bankruptcy. Neither the trustee nor the creditors are entitled to attend the examination. The Bankrupt may, however bring his lawyer, accountant or a translator if necessary.

 5.        Statement of Affairs: The Trustee prepares a Statement of Affairs from information provided by the Bankrupt. The Statement of Affairs lists all of the Bankrupt’s assets and liabilities (including the names and addresses of all creditors and amounts owed) along with certain other information. The Bankrupt must also disclosed to the trustee:

 (a)       All property disposed of by the Bankrupt within the 1 year preceding the bankruptcy as well as details of the disposition; and

(b)       Any gifts made within the 5 years preceding the bankruptcy.

6.         First Meeting of Creditors: Within 5 days after the Trustee’s appointment, the Trustee must send notice of a first meeting of creditors to all creditors.  The notice must be sent at least 10 days before the day appointed for the meeting.  The meeting must be held within 21 days following the date of the Trustee’s appointment.  Normally the meeting is held at the Official Receiver’s office.  The purpose of the first meeting of creditors is to consider the affairs of the Bankrupt, affirm the appointment of the Trustee or substitute another trustee, appoint “Inspectors”, and give such directions to the Trustee as the creditors may see fit with reference to the administration of the bankruptcy.  Creditors are entitled to question the Bankrupt at the meeting. Only creditors who have filed proper “proofs of claim” are entitled to vote at the meeting. “Inspectors” are representatives of the creditors who, essentially, function as a board of directors that oversee the Trustee’s administration of the bankruptcy.

 7.        Trustee’s Report: Eight months after the bankruptcy, the Trustee prepares a report to the Superintendent of Bankruptcy on the bankruptcy application for discharge.  The Bankrupt must supply an affidavit of family earnings and living expenses to accompany this report. 

 8.        Discharge of Bankrupt: If there is no opposition by a creditor, the Trustee, or the Superintendent in Bankruptcy to the Bankrupts release from bankruptcy (called a “discharge”), then first time individual bankrupts are automatically discharged 9 months after going bankrupt; the Trustee issues a certificate of automatic discharge.  If the discharge is opposed, the matter must be decided by the Bankruptcy Court; the Court can issue one of 4 kinds of discharge orders: absolute, subject to certain conditions, suspended or refused.  If the Bankrupt has been bankrupt before, then the automatic discharge rule does not apply and the matter must go to the Court.  Corporations can never obtain a discharge unless all creditors have been paid in full.

 9.        Debts Not Discharged: Certain obligations are not eliminated by bankruptcy; these include court fines and penalties, awards of personal injury damages, including sexual assault, and wrongful death, alimony and spousal and child support, debts or liabilities arising out of fraud, and student loans (for 10 years after ceasing to be a student).

 10.     Discharge of Trustee: Approximately 1.5 to 2 years after the commencement of the bankruptcy, the trustee will finish the administration of the bankruptcy and apply for its own discharge.  The bankruptcy is then completed.


.DISCLAIMER: The foregoing is not intended to be a comprehensive guide to the applicable law. General Client Memoranda and mailings from James D.L. Kerr ● Lawyer are intended to inform clients and acquaintances with respect to current issues that may be of interest to them. Memos are current to the date shown on the Memo. The law is constantly changing, however, and for that reason a Memo may not be completely accurate after it's stated date. Where circumstances warrant, the advice of a lawyer or other qualified professional should be obtained.

2005 James D.L. Kerr