Secured Lenders and Construction Lien Remedies

In situations involving financially-troubled construction projects, a secured lender may want to consider the extraordinary remedies potentially available under Ontario’s Construction Lien Act (CLA).  These remedies can protect the secured lender’s interests while supplanting the need to have a receiver appointed under other legislation such as the federal Bankruptcy and Insolvency Act.

Most mortgage documents already grant the secured lender the right to pursue the remedy of possession and sale.   However, it may be more expedient for the secured lender to take advantage of s. 68 of the CLA, which allows for a lien trustee to be appointed in certain circumstances.  That provision specifically empowers the lien trustee (subject to the court’s direction and supervision) to do any of the following:

This CLA remedy is available to “any person having an interest” in the real property, including an owner, mortgagee, or lien holder, and can be exercised by applying to a court at any stage of the construction project once work has commenced. Although there must be an existing lien in place, it need not be perfected or preserved at the time the trustee-appointment application is filed with the court.

Courts have clarified that a lien trustee can be appointed under s. 68 of the CLA in one of essentially two circumstances: where the project has been mismanaged, or where it has been abandoned altogether. The determination of whether the appointment will be allowed in any given case depends on certain generally-accepted factors, namely whether:

Over and above the fact that the remedy is available in only limited circumstances, courts have further stipulated it should only be granted and used with caution, because it confers broad powers on the appointed lien trustee. It must be remembered that the remedy is primarily designed to protect the interests of the lien holder, but has the corollary effect of protecting other parties’ interests as well.

Nonetheless, where progress on a construction project has been hampered or stalled by the owner’s insolvency or mismanagement, the successful appointment of a lien trustee under the CLA can be a productive next step, not only for lien claimants but for the whole project as well. For example, a lien trustee can take control of the property, refinance the improvement on the lands, and complete certain repairs or construction in furtherance of marketing and selling the property. The lien trustee may also grant mortgages over the property, with the new lender’s interest taking full priority (to the extent of the amount advanced) over every existing lien as of the date of the trustee’s appointment.

A good illustration of how this remedy might be applied in the construction financing context is found in the older case of Avenue Structures Inc. v. Pacific Empire Development Inc. There, a second lender (a bank) took control and became the mortgagee-in-possession pursuant to the mortgage terms, after the borrower became unable to pay the trades people and construction ceased. The bank expended more than $250,000 to preserve and protect the property, including paying the realty taxes, arranging for winter protection of materials, and paying insurance premiums, legal and architectural fees, and city inspection fees.

In these circumstances, the court found that the bank was choosing to resort to self-help measures, despite having an avenue by which to protect itself under the CLA. The bank should have applied for the appointment of a trustee under s. 68(1) of the Act: with the exception of the municipal taxes, each of the expense categories would have taken priority over the mortgage and the liens. Instead, and having failed to take that step under the legislation, the bank was left with only the actual amount of municipal taxes it paid (less penalties, interest and bailiff’s costs) standing in priority to other claims. See Avenue Structures Inc. v. Pacific Empire Development Inc., 2000 (Ont. Master).