The below is a summary of a lengthier article published by Borden Ladner Gervais. The full article can be found at Borden Ladner Gervais’ website.
One of the primary disruptors of liquidity and the flow of funds on a construction project is the registration of a lien.
The effectiveness of the construction lien is precisely because of its impact on the flow of funds on a construction project.
Normally, under provincial lien legislation, an owner is required to withhold a certain percentage from payments (commonly referred to as holdback) to a contractor.
When a subcontractor registers a lien against a project this dynamic changes and an owner is typically required to withhold, in addition to the legislative holdback, funds sufficient to satisfy the total amount of the claims for lien registered.
Obviously, this results in a disruption in the payments to a contractor and can impact work on a project.
Liquidity and the flow of funds are needed to minimize disruption on a project and ensure contractors and subcontractors performing work are paid for their work.
Fortunately, the provincial lien legislation provides a solution to this problem: the posting of security by a contractor.
The use of lien bonds as security to vacate liens is commonplace on construction projects throughout Canada. Lien bonds have become the de facto security posted by contractors, and for good reason. Lien bonds are essentially credit facilities, issued by surety companies, which are regulated financial institutions, and are payable on demand by the court to the lien claimant.
By using a lien bond, a contractor can receive payment from an owner without tying up its cash in a dispute with a subcontractor that may take years to resolve.
In the recent decision of the Manitoba Court of the Queen’s Bench in Bird Construction Group v. Trotter and Morton Industrial Contracting Inc. 2021 MBQB 233, the court rejected the use of lien bonds on “Crown lands,” and in doing so, threatens to upend the well-established use of lien bonds as effective security to vacate claims for lien.
Respectfully, the decision of the court cannot withstand scrutiny.
The facts of the Bird decision are not particularly unique.
In short, the contractor on the project sought to vacate a claim for lien registered by a subcontractor for a project located on “Crown land.”
The court held that a lien on Crown land was different than a typical lien because the charge was against holdback (i.e. a charge on cash) rather than against property.
The court referred to potential risks in the credit-worthiness of the surety and potential difficulties in enforcing judgment against the lien bond to conclude that the lien bond may be more difficult to enforce against than a charge against cash.
The court also reasoned that, because of the trust rights afforded to subcontractors under the act, the charge against holdback also operated as a “practical restraint” on the use of funds contrary to the trust provisions, which would be diminished by the use of lien bonds. As a result, the court refused to accept the use of a lien bond as sought by the contractor.
Respectfully, the reasoning and conclusion of the court are both problematic for a variety of reasons:
Given the federal and provincial regulation of surety companies in Canada, which require the sureties to demonstrate financial solvency and sufficient ability to respond to claims, the credit-worthiness of the proposed surety should not impact the assessment of the lien bond.
The lien bond is payable on demand, and therefore the risk of “taking steps to enforce the lien bond” posed by the court is, respectfully, unmerited. The lien bond is as good as cash.
The proposed solution by the court, to have Bird pay cash as security, demonstrates a fundamental misunderstanding over the purpose of a lien bond. The lien bond, as mentioned, is a credit instrument. Its purpose is to provide security to the lien claimant without the need for the contractor’s liquidity to be tied up until the claim for lien is resolved, which can often take years. If a contractor were required to pay cash as security, there would simply be no point to vacating the claim for lien. Any funds released by the owner to the contractor once the cash security was paid into court would be offset by the funds paid by the contractor as security, making the prospect a zero-sum game for the contractor.
The court suggests the use of lien bonds may result in a potential breach of trust. This reasoning misconstrues the trust provisions of the act and the impact of lien bonds. A lien bond simply acts as substitute security to the charge on holdback. Any cash posted as security would be the same as the lien bond posted as security. Neither would be trust funds, and any trust rights of a subcontractor would not be impacted by the form of security posted.
Reading the Bird decision in light of the above, it is our respectful view that the court reached the wrong conclusion. It appears as though the contractor has initiated an appeal of the decision, and we will provide further commentary after the conclusion of the appeal.
Richard Yehia and James MacLellan are lawyers with Borden Ladner Gervais. Send Industry Perspectives comments and column ideas to firstname.lastname@example.org.