Ontario’s Construction Act includes a remedial protection for contractors when denied their statutory 10 per cent holdback for services or materials supplied under their contract or subcontract.
However, when a project goes bankrupt and there is more than one mortgage holder, can a 10 per cent claim be made against each one?
A court decision from April this year sheds some light.
Three contractors were working on a condominium in Toronto. The project became insolvent, went into receivership and was subsequently sold under court order. There were six separate mortgages on the project at that time, two of which were building mortgages.
As Gowling WLG partner Sahil Shoor and articling student Michael Piaseczny explain, the three contractors filed liens against both building mortgage holders, claiming the project owner had not withheld any of the statutory 10 per cent holdback. Their motion to the court sought “interpretative clarity on section 78(2) of the act regarding a determination of priority payment from the proceeds of the sale of the condominium project property to the extent of the deficiency in the project owner’s holdback.”
The act is clear about the priority of liens over other claims.
“Where a mortgagee takes a mortgage with the intention to secure the financing of an improvement, the liens arising from the improvement have priority over that mortgage.”
However, the claimants appear to have wanted more than one piece of pie, write Shoor and Piaseczny.
“The lien claimants submitted that ‘a mortgage’ as referenced under section 78(2) shall be interpreted to mean that they be entitled to a 10 per cent priority payment over each building mortgage. This would mean that the lien claimants be entitled to a 20 per cent priority payment resulting from the two building mortgages.”
The court ruled against the claimants. Shoor and Piaseczny explain the reasoning behind the decision.
“The lien claimants took priority over the first registered mortgage on the construction property, and as such, the holdback deficiency was resolved once the priority took effect over the first registered mortgage.”
After all, they write, “the purpose of the act is to protect the contractors’ rights to their fair 10 per cent holdback, not to create a ‘contest’ between each lien claimant and each building mortgagee, as the lien claimants had submitted.”
“The Construction Act is predicated on the premise of protecting those lower in the ‘pyramid’ hierarchy on a construction project,” Shoor told the Daily Commercial News.
Its purpose is not to be expanded in order to help contractors recover any further amounts owning.
“This 10 per cent holdback creates priority status for lien claimants. In other words, it makes such claimants secured creditors.”
Beyond that, they must wait in line with other unsecured creditors for any other amounts remaining.
Karen Groulx, Dragana Bukejlovic, and CeCe Li of Dentons LLP also note that Justice Penny pointed out that the act is not meant to favour lien claimants.
“Rather, it provides a way for contractors and subcontractors to receive payment for the labour and material supplied to a property, while balancing competing interests (of owners, contractors, subcontractors and mortgagees). The lien claimant’s proposed interpretation detached their priority holdback claim amount from the amount required to be retained by the owner under s. 22 and introduced an element of arbitrariness and unfairness into the ‘cascade of mortgage priorities.’”
Multiple mortgage lenders on a single project are not uncommon today, making holdback priority claims complex, write Shoor and Piaseczny.
Consequently, the court’s decision “is a reminder to lien claimants that their statutory priority over building mortgages is capped at 10 per cent of the services or materials they specifically contribute to the construction project. When a construction project owner is in receivership, lien claimants are limited in priority to all building mortgages congruently, and not to each building mortgage separately.”
Groulx, Bukejlovic and Li also caution that lenders should ensure owners are maintaining holdback amounts in accordance with the act.
John Bleasby is a Coldwater, Ont.-based freelance writer. Send comments and Legal Notes column ideas to firstname.lastname@example.org.