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Legal Notes: Breach of trust remains a powerful payment dispute weapon

John Bleasby
Legal Notes: Breach of trust remains a powerful payment dispute weapon

With so much attention paid to Ontario’s new prompt payment regime, it’s possible to lose sight of some long-standing payment remedies that still remain. One of the more powerful of these is breach of trust.

The Ontario Construction Act imposes various statutory trusts on money received by an owner contractor, subcontractor or vendor, and designates them to be spent in a certain way. While these trust names vary based on who is receiving the funds, they generally function in the same way.

The construction payment pyramid in its most basic form consists of the owner, general contractor (GC), and subcontractors, explains Jill Snelgrove of Pallett Valo LLP.

“A ‘contractor trust’ is established by the act to ensure that money paid by the owner to the GC flows down the pyramid to the subcontractors. The GC is the trustee of the funds and the subcontractors who are to be paid from those funds are the beneficiaries,” says Snelgrove. “If the GC takes that money and somehow misappropriates it, it has breached that trust.”

“The trust remedy is special because it may pierce the corporate veil. Where the trustee corporation has committed a breach of trust, the act also imposes personal liability on every director or officer, or any employee or agent of the corporation who has effective control of the trustee corporation or its relevant activities, who goes along with conduct that he or she knows or reasonably ought to know amounts to a breach of trust by the corporation,” says Snelgrove.

To be successful, however, the existence of the trust must be proven, i.e. that funds were received by the GC from the owner on account of the project the subcontractor supplied to.

The act mandates that upon request, a “payor” (i.e. an owner in the simplest pyramid model), must provide information with respect to the state of accounts between it and its contracting party (the GC), thereby helping to prove that funds were, in fact, received by the GC from the owner. Proving the second part for the existence of the trust requires proving that the funds were received on account of the project that the claiming party supplied to. Therefore, in the case of a supplier, it is critical to know where your materials end up. 

Once a trust’s existence is established, the onus falls to the trustee (GC) to show that those funds were used for purposes consistent with the trust. For example, the trustee must show that the funds received from an owner were used to pay the appropriate subcontractors, suppliers or others associated with that specific project.

Matters get complicated when the GC comingles funds for various projects into one business bank account.

The law has always permitted the comingling of funds into one bank account, albeit acknowledging that comingling makes it harder for a trustee to trace the funds and therefore defeat a breach of trust claim. Now, in light of the changes to the act, if trust funds from more than one project are deposited together into a single bank account the act specifically requires the trustee to maintain separate records for each trust.  

Furthermore, the act requires trust funds to be deposited into a bank account in the trustees’ name,  those conducting business under various related entities should take note.

The consequence of failing to abide by these duties is not yet known. However, given the language of the act, it could mean an automatic breach of trust. 

The breach of trust remedy has always been, and continues to be, an available legal remedy.

Few may be aware of it, however, says Snelgrove.

It is important for trustee corporations to understand the obligations imposed by act’s trust provisions in order to avoid the personal liability that a breach attracts.

Those further down the construction pyramid should become familiar with the elements of a breach of trust action so that this option is in their tool box should the need ever arise.

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