PITF Final Report

Personal Insolvency Task Force
Final Report

August 2002

Table of Contents

Acknowledgements

This report is the product of literally thousands of hours spent by the members of the Task Force and various senior personnel in the Office of the Superintendent of Bankruptcy (OSB). The members of the Task Force served pro bono and received no remuneration for their efforts other than reimbursement of travel expenses to attend meetings. Their creative efforts are reflected in the following pages.

Although it is impossible to single out the contribution of specific individuals, for fear of overlooking the contributions of others, special mention must be made of the efforts and contribution of a drafting Committee, which was led by Professor Saul Schwartz and included Task Force members Guylaine Houle and Robert Klotz. With the support of Ellen Henderson and Dave Stewart of the OSB, this committee undertook the difficult editorial task of organizing the recommendations of the Task Force into a coherent and readable document. Vivian Cousineau of the OSB also deserves special mention for providing invaluable administrative assistance.

My heartfelt thanks go to each member of the Task Force and to each of the employees of the Office of the Superintendent who gave unstintingly of their time and efforts to reach the result which has been achieved.

Chapter 1

Introduction and Overview

The Personal Insolvency Task Force (PITF) is an advisory group, created in the fall of 2000 by the Superintendent of Bankruptcy, to suggest ways of reforming the personal insolvency provisions of the Bankruptcy and Insolvency Act (BIA). These provisions, together with a set of directives issued by the Superintendent, govern the operation of the personal bankruptcy system in Canada.

The Task Force members come from most, though not all, of the groups that comprise the insolvency community in Canada. Membership includes judges, lawyers, bankruptcy trustees, creditor representatives, academics and credit counsellors.¹ The Task Force held seven meetings beginning in October, 2000. Early on, Task Force members were divided into smaller working groups, each of which took up issues related to a single theme. In the course of preparing and circulating discussion papers on the issues assigned to them, working group members met frequently, in person, through the Internet and by telephone.

This report presents the final recommendations of the Task Force. Given the different interests gathered around the table, it was inevitable that progress on some issues was more advanced than on others. There are issues that have remained unresolved and others that have been left for further study.

The remainder of this chapter is divided into several sections. The first section briefly summarizes the current operation of the Canadian personal insolvency system and then reviews the recent legislative history of the BIA. After a very short discussion of the trend in the number of bankruptcies, the report analyzes the factors that inspired the current round of legislative reform. The issues actually taken up by the Task Force were somewhat different than those that were initially thought important; the next section of the chapter therefore defines the issues whose consideration led to Task Force recommendations and those that were considered but did not lead to recommendations. The final sections present an overview of the major recommendations of the Task Force, note several limitations of the Task Force, and describe the structure of the report.

I. How the Canadian System Works at Present²

At present, the BIA provides two major alternatives to individuals trying to deal with their insolvency:

• filing for personal bankruptcy;
• filing a proposal, which is an arrangement with creditors to repay all or part of the debtor's liabilities over a specified period of time.³

While other alternatives exist, both within the BIA and in other legislation, bankruptcies and proposals are the most common statutory alternatives chosen by insolvent debtors. The following subsections briefly summarize how bankruptcies and proposals work in the current Canadian insolvency system.

Bankruptcy

Debtors who file for bankruptcy under the BIA give control of their property to a trustee, an act which is called an "assignment in bankruptcy." Bankruptcy trustees work in the private sector but are licensed by the Superintendent of Bankruptcy. The role of the Superintendent and his staff is to supervise the trustees' work and to ensure that all parties comply with the BIA.

Trustees perform several roles ­ advising the debtor, maximizing the returns to creditors from the bankrupt's estate and carrying out their duty to administer the bankruptcy while maintaining the integrity of the BIA. Along the way, they must deal with the potential conflicts of interest that their multiple roles sometimes create. Trustees often advertise widely and generally aim at being easily accessible to the low-income debtor. Unlike the practice in the United States, Canadian lawyers are rarely involved in consumer bankruptcies.

It is relatively easy procedurally, if not psychologically, for individual debtors to go bankrupt in Canada. Debtors must first demonstrate that they are insolvent. Roughly speaking, an "insolvent person" is a person who resides in Canada, whose liabilities to creditors amount to at least $1,000, and who is unable to meet repayment obligations as they become due. Documentation is simple: a one-page form assigning the debtor's property to the trustee, accompanied by a "statement of affairs" and a monthly budget. A trustee must be nominated and the assignment accepted by an "official receiver", an administrative official of the Superintendent of Bankruptcy.

In the statement of affairs, debtors must provide the trustee with accurate information about assets, liabilities, current income and expenses. At the debtors' first interview with the trustee, the trustee must assess their financial position and explain all of the available options, including the making of a proposal and various province-specific alternatives.

If debtors choose bankruptcy, the trustee will sell their non-exempt assets, if any, and distribute the proceeds to creditors according to the provisions of the BIA.⁴ Part or all of the trustee's fee is also taken from the money generated by the sale of the assets. In practice, most consumer bankrupts have few non-exempt assets. Exempt assets are determined by provincial law and vary from province to province both as to types of assets that are exempt and the maximum value that is exempt.

The trustee may require that debtors contribute some of the income that is earned after the date of bankruptcy, but prior to the discharge of their debts, to the estate. The 1997 amendments to the BIA required that the trustee collect a prescribed portion of the debtor's "surplus" income, as defined by the Superintendent of Bankruptcy. Approximately 15% of bankrupts have surplus income.

The 1992 BIA amendments recognized that many debtors had minimal exempt unsecured assets and needed a simple, inexpensive bankruptcy process. Prior to 1992, only debtors with assets less than $500 in value could use the then-existing simple process, called the summary administration process; the 1992 amendments raised this threshold to $5,000, thus widening access to summary administration. The asset threshold is now $10,000 and the summary administration process is used in over 90% of personal bankruptcies.

First-time bankrupts are automatically discharged nine months after the assignment in bankruptcy unless the discharge is opposed by a creditor, the trustee, or the Superintendent. Prior to discharge, a report summarizing the material aspects of the bankruptcy, including the debtor's conduct during the bankruptcy and the factors leading to the assignment, must be filed with the Superintendent by the trustee. In addition, the trustee must also report on whether the debtor has made the required surplus income payments, where applicable, and whether the debtor could have made a viable proposal.

Creditors rarely oppose discharge. Trustees sometimes oppose discharge because of misconduct or because the bankrupt has not contributed sufficient funds to pay administrative costs or trustees' fees.⁵ Where discharge is opposed, a judge or Bankruptcy Registrar holds a hearing. The judge or Registrar may delay or refuse the discharge or make a conditional order requiring future payments by the debtor.

If the unsecured non-exempt assets of the debtor are greater than $10,000, the ordinary administration process applies. The creditors meet and have an opportunity to confirm the appointment of the trustee chosen by the debtor or to substitute a trustee of their own choice. The creditors can vote for the appointment of inspectors to represent them and may give directions to the trustee about the administration of the bankrupt's estate. In practice, it may not be worthwhile for the unsecured creditors to play such an active role in the administration of the bankruptcy.

When bankrupts are discharged, they are relieved from liability for most debts. There are some exceptions, however. Section 178(1) of the BIA lists non-dischargeable debts; most of these exclusions have an identifiable public policy rationale that outweighs any interest in providing a "clean slate" for the debtor. The non-dischargeable debts include fines imposed in respect of an offence, and debt for alimony or child support. In addition, since 1998, debtors cannot be discharged from student loan debt unless the bankruptcy has been filed more than ten years after the debtor left school.

Proposals

Bankruptcy should be a solution of last resort for insolvent debtors. It is not, however, the only solution. There are a number of ways in which financially strapped individuals can deal with their financial troubles. For example, they can obtain a debt consolidation loan from a financial institution. They can seek credit counselling from provincial or other agencies to learn how to handle budgets or make non-statutory voluntary arrangements to pay creditors over an extended period of time.

In Quebec, individuals can make arrangements through the Association coopérative d'économie familiale (ACEF). The Lacombe Law, also known as Voluntary Deposits, also provides a process for Quebec wage earners to pay creditors what would be the seizable portion of their salaries under garnishment provisions. Such payments prevent creditors from enforcing payment of the debts. In some other provinces ­ Alberta, British ColumBIA, Saskatchewan, Nova Scotia and Prince Edward Island ­ debtors may choose to use the Orderly Payment of Debts (OPD) provisions of the BIA. These provisions set out the amounts and schedule of payments to the court, which in turn distributes the payments to creditors. While the timing of payments is altered by both the Lacombe Law and by OPD, full payment is expected.

There are two types of proposals that can be made under the BIA. This first is known as a "consumer proposal". The second is known as a "commercial" or "Division I" proposal.

Consumer Proposals:  Beginning in 1992, the BIA has offered a new statutory alternative for eligible individuals ­ the consumer proposal. The consumer proposal process allows debtors to make arrangements with their creditors to extend the time for payment or to reduce the amounts owed, or both, while potentially retaining more of their assets than in a bankruptcy.

To be eligible to make a consumer proposal, the insolvent individual's debts cannot exceed $75,000 (excluding the mortgage on a principal residence). The debtor must also have sufficient resources to permit the development of a fair and realistic proposal. Consumer proposals are attractive to debtors who wish to avoid bankruptcy while maintaining control of assets that are important to them. They are also attractive to people who, for personal reasons, want to pay their creditors as much as they possibly can. Proposals are not binding on secured creditors, who retain their right to realize on their security if payments are not up-to-date. In many cases, however, the debtor continues to make payments on secured assets, such as a house or car, in order to avoid losing them to foreclosure or repossession. The secured creditor is inclined to cooperate with this approach since the creditor is spared the costs of realizing on the security in order to obtain repayment.

To make a consumer proposal, the insolvent debtor seeks the aid of a private-sector administrator, who is usually a bankruptcy trustee. There are a number of incentives, created by amendments to the BIA in 1997, to encourage debtors to choose proposals rather than bankruptcies. First, the fees paid to proposal administrators were increased.⁶ Second, as discussed above, some debtors considering bankruptcy will be required to make surplus income payments; filing a proposal may allow a debtor more flexibility with payments to creditors than the surplus income provisions. Finally, the trustee is now under an obligation to report, when a discharge from bankruptcy is being considered, whether the debtor was in a position to have made a feasible proposal. If so, the court is likely to impose conditions on a discharge that may be similar to the payment arrangements in a proposal. When faced with the potential of such a situation, debtors may feel that they maintain more control by presenting a proposal designed in cooperation with an administrator.

Where a debtor elects to make a proposal, the administrator files the proposal with the Official Receiver and sends a copy to all the creditors. The creditors have 45 days to consider the proposal and may accept or reject it. The unsecured creditors cannot seize property or garnishee wages while the proposal is pending. If creditors representing a majority of the debt accept the proposal, its terms bind all the creditors and the debtor. If the proposal is rejected, the rights of the unsecured creditors are revived and they regain the right to take legal steps to recover their debts. If and when debtors have fulfilled the terms of their proposal, they are relieved of the debts covered by the proposal. Even a successful proposal, however, will not relieve debtors from non-dischargeable debts, such as student loans or support payments. The proposal is automatically annulled if the debtor defaults by not paying for over three months.

As noted below, debtors are taking advantage of the consumer proposal provisions, with about 14% of filings now taking that form. There was a clear increase in the number of proposals in 1998, an increase almost certainly due to the 1997 amendments. Among proposals filed between May 1, 1998 and December 31, 2000, 31.5% had failed by June of 2002, but almost half had not yet been successfully completed. The ultimate failure rate will thus be higher by an unknown amount. It is too early to be sure what the failure rate is for proposals filed in any given period since 1998.⁷

Commercial proposals:  The BIA, under Division I of Part III, allows proposals to be filed by businesses or individuals regardless of the amount of their indebtedness. "Commercial" may be a misnomer in some cases since debtors filing such proposals need not be engaged in any commercial activities. A major difference between commercial and consumer proposals is that, if a commercial proposal fails, what is known as a "deemed bankruptcy" occurs and the trustee liquidates the assets of the debtors. Apart from that, commercial proposals differ from consumer proposals primarily in the complexity of the required procedures.

II. Recent Legislative History

The laws regulating personal bankruptcy have a long history in Canada, dating back at least to 1843. A number of different kinds of bankruptcy law have held sway in the ensuing years, with a major overhaul occurring in 1949. At that time, personal bankruptcies were relatively few in number, perhaps reflecting the limited amount of consumer credit then available.

In the 1960s, concern over a rising number of personal bankruptcies led to the appointment of the Tassé Committee. The report of the committee emphasized the social dimensions of bankruptcy, the rehabilitation of debtors and the need to help the debtor to make a fresh economic start. Although the principles of that Report were embraced by almost all stakeholders, no legislative amendments were passed. Thus, between 1949 and 1984, all attempts to significantly recast the legislation relating to personal bankruptcy failed. In 1984, a committee of insolvency experts was appointed to study and revise the existing Act. The Colter Committee, as it became known, reported in 1986, and that report paved the way for amendments in 1992 and subsequently in 1997. The legislative history of the past 40 years might be characterized as one that rejected large-scale reform in favour of important, but incremental, change in the insolvency system.⁸

III. Trends in the Numbers of Bankruptcies and Consumer Proposals

In 1976, ten years after the appointment of the Tassé Committee, just over 10,000 consumer bankruptcies were filed. By 1986, the annual number of consumer bankruptcies doubled, rising to 21,765 and by 1991, just five years later, the number had tripled again to 62,277. Despite the growth in the economy after the recession of the early 1990s, the number of consumer bankruptcies continued to increase, peaking at about 85,000 in 1997 before falling off somewhat to about 75,000 per year.

In 1995, three years after the introduction of consumer proposals, only 2,419 proposals were filed. By 2000, however, they had become a significant part of the insolvency regime. In that year, 12,392 consumer proposals were filed, representing just over 14% of the combined number of consumer bankruptcies and consumer proposals. In 2001, 13,383 new consumer proposals were filed.

IV. Who Files for Bankruptcy?

There is no stereotypical bankrupt debtor. All are "insolvent", in the sense that they are not meeting their debt payments as they come due, but they work in all kinds of occupations, vary widely in educational attainment and come from all ages, both genders and all geographic regions. A series of U.S. studies by Sullivan, Warren and Westbrook has established that bankrupts are broadly representative of the American middle class. Similar Canadian studies⁹ suggest that Canadian bankrupts, while also representative of Canadian society, are somewhat more likely to have jobs with relatively low occupational prestige.

There is no consensus on the underlying causes of personal bankruptcy except for the deceptively simple explanation of "too much debt." Since debt is a common characteristic of modern life, the question is why some individuals come to have "too much" debt at a particular point in time. When asked, many bankrupts identify economic misfortune ­ job loss or small business failure ­ as the triggering cause of their bankruptcy. In other cases, bankrupts believe that personal crises such as ill health or marital disruption led to their insolvency. Finally, financial mismanagement is sometimes identified ­ more often by trustees than by bankrupts ­ as the cause of bankruptcy. While there is no agreement on which of the many potential causes is the most important, there is agreement that the causes are diverse and that, while financial mismanagement may play a role in some bankruptcies, the majority do not result only from financial mismanagement.

V. The Factors Driving Reform in the Current Period

The immediate motive for the creation of the PITF was the requirement, imposed by Parliament, that the Superintendent of Bankruptcy report on the effects of the 1997 BIA amendments. In addition, the existence of the Task Force provided the insolvency community with an opportunity to recommend further reforms to the BIA. Apart from these broad considerations, three other developments called for further reform.

The first was a series of court decisions that interpreted the BIA in a way that seemed to threaten the viability of the Canadian bankruptcy system. The second was the perception that the continued growth in the number of Canadians seeking bankruptcy protection called for a more streamlined system, a system better focused on the needs of personal debtors and their creditors. The third development was a perception that some of the provisions of the BIA were inconsistent with broader public policy goals. Each of these developments will be discussed in turn.

One of the functions of bankruptcy law is to define which parts of bankrupts' property are available to be divided among their creditors and which parts will remain under their control. This definition is primarily accomplished in Sections 67 and 68 of the BIA. In recent years, a series of court decisions has cast doubt on traditional interpretations of which parts of the bankrupt's property are available to creditors. The reason that these decisions were thought to threaten the viability of the Canadian bankruptcy system is that a large portion of trustees' fees are drawn from that part of the bankrupt's property which is deemed to be available to creditors. For example, income tax refunds pertaining to the year of the bankrupt's discharge were a traditional source of trustees' fees. Some recent court decisions have held that some of these refunds belong, at least in part, to the bankrupt and are thus unavailable to the trustee or to creditors. At a minimum, these decisions about the definition of property and income revealed ambiguities in the wording of Sections 67 and 68 that the Task Force felt needed to be addressed.

When the BIA was overhauled in 1949, most bankruptcies, though not all, resulted from business activities; consumer credit was not yet widely available. Over time, the volume of consumer credit grew rapidly and, as noted above, the number of Canadians seeking bankruptcy protection also increased. Because of these changes in the nature and extent of consumer debt, the Task Force thought that many of the administrative procedures and requirements could be reformed in order to streamline the system. One possibility considered by the Task Force was the creation of a very simple bankruptcy procedure for debtors whose situation was particularly straight-forward.

Finally, specific provisions of the BIA seemed to conflict, or at least to fit imperfectly, with other goals of public policy. One example involves the public policy goal of encouraging Canadians to save for their retirement years. This policy has been promoted by offering favourable tax treatment of contributions to employer-sponsored pensions and of contributions to Registered Retirement Savings Programs (RRSPs). In bankruptcy, however, employer-sponsored pensions and RRSPs are treated in very different ways. Employer-sponsored pensions are exempt from seizure by the bankruptcy trustee and are thus not available to pay creditors; instead, these pensions remain with bankrupts after their discharge. In general, however, a bankrupt's RRSPs will be cashed in by the bankruptcy trustee and the proceeds distributed among the bankrupt's creditors. A second example is the treatment of student loans. As an instrument of education policy, student loans are encouraged as a way of helping students finance post-secondary education. In the BIA, however, student loans are singled out as one of the few debts whose dischargeability is severely limited. Student loans can be discharged only if bankruptcy is filed more than ten years after debtors have left full- or part-time studies.¹⁰ This virtual non-dischargeability, introduced in 1998, seems to conflict with the policy of encouraging students to borrow in order to go to school.

It is worth noting that, for most Task Force members, the current reforms were not motivated by any deep dissatisfaction with the current operation of the insolvency system. The Terms of Reference for the PITF called for it to "explore alternative models of consumer insolvency processes better geared towards addressing the perceived weaknesses of our Canadian insolvency system." Although the Task Force had before it various models from other legal systems, the first meeting of the Task Force revealed a general, though not unanimous, view that the Canadian insolvency system was basically sound and in need of incremental, rather than fundamental, reform.

A minority felt that the merits of more substantive reform should at least be seriously investigated. One reason for calling for such an investigation was the hypothesis that the rapid expansion of consumer credit was a major cause of the accompanying growth in the number of consumer bankrupts. If so, greater regulation of credit-granting practices might be desirable. Another reason put forward for seriously studying more substantive reform was the hypothesis that the Canadian insolvency system creates an important conflict of interest for its central agents ­ private bankruptcy trustees. Trustees advise and counsel debtors at the same time as they try to maximize the amounts distributed to creditors. If such a conflict of interest was found to exist, and was deemed both important and harmful, more fundamental reform might be justified.

The majority of the Task Force evidently believed either that these two hypotheses were unjustified by the evidence at hand or that serious investigation of the hypotheses was beyond the scope of the Task Force. For that reason, incremental reform became the de facto goal of the Task Force.

VI. The Issues Considered by the Task Force

The Task Force considered the major issues discussed in the last section and has formulated recommendations for each. The scope of Task Force discussions was not, however, limited to those issues.

At the beginning, the Chairman of the Task Force, in conjunction with staff from the Office of the Superintendent of Bankruptcy, defined a wide range of issues that were thought to require consideration by the Task Force. The definition of these issues was informed by a series of round-table discussions, held in 1999 in locations around Canada, among those involved in the insolvency system. In addition, the interests of individual Task Force members raised a large number of other issues. For each of the issues thus identified, the Task Force either developed a recommendation or decided not to recommend any alteration in the prevailing situation.

The issues on which recommendations were formulated

The Task Force spent a good deal of time developing recommendations on the issues discussed in the last section:

• clarifying the definition of the bankrupts' property in Sections 67 and 68 of the BIA;
• creating a more streamlined personal bankruptcy system;
• removing some of the inconsistencies between the BIA and other public policies.

Several of the important additional issues that resulted in Task Force recommendations were as follows.

Who is a "consumer debtor"? The 1992 reforms to the BIA not only introduced the possibility of filing a consumer proposal instead of filing for bankruptcy but also widened the range of debtors who were eligible for summary administration. Nonetheless, not all debtors are eligible to file consumer proposals and not all debtors are eligible for the summary administration process. The Task Force decided to take up the issue of whether the BIA criteria that define a "consumer debtor" needed to be updated to allow more debtors to file proposals or to have their estates handled through summary administration.

Who should decide what kinds of property are exempt from seizure by creditors? Each province exempts certain kinds of property from seizure and the BIA adopts these same exemptions. For example, the trustee is typically not allowed to seize a debtor's clothes or other household furnishings. Because of the wide differences in the type and value of assets that different provinces deem to be exempt from seizure, the Task Force discussed the creation of a federal list of exemptions. It also considered the question of whether the federal list should replace the various provincial lists or whether both lists could exist side-by-side.

Can a debtor "reaffirm" a debt that has been discharged? Experience in both Canada and U.S. suggests that debtors sometimes agree to repay debts that have already been discharged or that can be expected to be discharged. The reasons for such "reaffirmations" are many. Debtors may wish to repay certain debts out of moral obligation, even though their discharge would allow them to ignore their liability. Creditors may offer to provide additional services or credit if the debtor pays back a discharged debt. Most importantly, some creditors have been known to demand that discharged debts be repaid, apparently in the hope that unsophisticated (former) debtors would repay the already-discharged debts. The Task Force was aware of an important U.S. case involving Sears Roebuck and Company and heard anecdotal evidence of reaffirmation in the Canadian context. On that basis, the Task Force decided to take up the issue of introducing BIA provisions that would regulate reaffirmation.

Examples of issues on which recommendations were not formulated

There were a number of cases in which the Task Force decided not to recommend any change. The reasons included: (a) a consensus that the status quo was preferable to any of the available options; (b) the lack of available evidence to inform legislative reform; and (c) the inability of the Task Force to come to a view accepted by a majority of members. The following are examples of issues on which the Task Force has not made recommendations.

Should the counselling requirement be changed? Mandatory counselling, in the form of two counselling sessions, was introduced in the 1992 amendments to the BIA. The efficacy of these sessions has been debated and, after the last meeting of the Task Force, a preliminary government report on counselling was completed and made available to Task Force members.¹¹ Nonetheless, the Task Force did not feel that it could formulate a recommendation on this issue.

Should a different bankruptcy process apply to straightforward bankruptcy cases? Many bankruptcy cases are known, after the fact, to be extremely simple. For example, some debtors accumulate considerable amounts of unsecured debt but, at the point when they file for bankruptcy, they have no non-exempt assets and very little income. The Task Force considered the design of a new bankruptcy process that would be far simpler than the current summary administration process and that would therefore be cheaper to administer. The Task Force consensus, however, was that the safeguards built into the current process, including the various duties of the trustees, might be lost in a greatly simplified system.

Should the fee structure that now applies to trustees be modified? The question of how much trustees should be paid is one that has occupied countless hours of discussion in the insolvency community. Because the level of fees is determined by a regulation within the BIA, and because the Task Force was suggesting changes in the duties of trustees, it was decided that the Task Force would not, and perhaps could not, make a recommendation on the level of trustees' fees. Other issues related to trustees' fees, such as the certainty of payment, were considered.

Should the BIA address credit-granting practices? There is a clear correlation between the amount of consumer credit granted and the number of bankruptcies that occur. On the one hand, this correlation need not mean that more consumer credit causes more bankruptcies nor that there is any flaw in credit-granting practices that requires legislative attention. On the other hand, the credit-granting process could conceivably be playing an important role in the increase in the number of personal bankruptcies. In any event, the BIA could regulate various aspects of the credit-granting process. This issue was raised by Task Force members on several occasions but the clear lack of consensus among Task Force members led the Chairman to recommend that no recommendation be formulated immediately; instead, a separate working group was formed to study the issue and to report back to the Task Force at a later date.

VII. Major Recommendations

This section presents what the majority of the Task Force feels are its most important recommendations. In addition, the Task Force developed a large number of other recommendations concerning the further reform of the BIA. The complete set of recommendations is presented and discussed in later sections of this report.

The definition of the property available to a bankrupt's creditors should be changed

The Task Force recommends that Section 68 of the BIA be amended in light of recent changes in the case law so as to clarify and specify the time periods to which Section 68 applies. Section 68 should apply to income that is earned before or during bankruptcy, and received during or after bankruptcy. For example, income earned before bankruptcy but received during or after bankruptcy ­ examples include lost income awards, pay equity awards, and sales commissions not received until after the date of bankruptcy ­ should be defined as income for the purposes of Section 68. Pre-bankruptcy income entitlements should receive the benefit of a specific presumption that they accrue to the trustee in their entirety for distribution to creditors, but only after a needs test, defined by new Superintendent's standards, has determined that the basic needs of the bankrupt have been met. In addition, the Task Force recommends that tax refunds resulting from tax returns filed in the calendar year of the bankruptcy or any prior year, be vested absolutely in the trustee for distribution to creditors. Finally, the Task Force recommends the creation of a new "freezing" procedure that will allow trustees to stop the payment of a non-periodic income entitlement, such as a lost income award, until a determination has been made ­ by agreement, through mediation or by the court ­ on how the entitlement will be divided among the relevant parties.

The summary administration process should be somewhat streamlined

In a series of recommendations, the Task Force recommends that the procedures required in a summary administration be simplified and that the amount of required paperwork be reduced. The extent of the simplification and paperwork reduction, however, is somewhat limited. Even so, the Task Force expects that the adoption of its recommendations will reduce the time spent on the average summary administration case by trustees, creditors, and government officials.

RRSPs should be partially exempt from seizure

So that RRSPs are treated by the BIA in a fashion analogous to employer-provided pensions, the Task Force recommends that money in RRSPs should not be available to creditors, provided that the bankrupt converts the RRSPs to "locked-in" status promptly after bankruptcy so that they cannot be cashed in prior to retirement. Furthermore, to avoid abuse, RRSP contributions made within three years of the date of bankruptcy should be available to creditors.

Debtors with student loans should be able to have a timely hardship hearing

To avoid exceptional hardship, the Task Force feels that is important that bankrupts with student loans among their debts be able to apply to a court, at any time more than one year after leaving school, to have their student loans discharged. In addition, the Task Force recommends that students loans should be dischargeable in the normal fashion if the bankruptcy is filed more than five years, as opposed to the current ten years, after the debtor left full- or part-time study.

The eligibility threshold for filing a consumer proposal should be increased

The Task Force feels that the current requirement that debtors' liabilities be less than $75,000 before they are eligible to file a consumer proposal is too restrictive and recommends that the threshold be increased. In particular, consumer proposals should be available to debtors who have less than $100,000 in business-related debt and there should be no ceiling at all on the amount of non-business debt.

In a minority of cases, payments to the estate will continue for longer than before

Two of the Task Force recommendations extend the time during which bankrupts are likely to have financial obligations that relate to their bankruptcies. First, debtors with surplus income will be required to make surplus income payments for 21 months after filing for bankruptcy. The current law allows, but does not require, that surplus income payments be made after the typical nine month discharge period. Second, bankrupts may enter into enforceable voluntary agreements with trustees to make payments for administrative costs and trustees' fees after discharge. The maximum amount that could be paid under such voluntary agreements would be stipulated.

VIII. Limitations

The rules governing the Task Force imposed several limitations on the nature and extent of its work. The Task Force had to operate within a fairly tight time constraint, imposed by the expectation that legislative reforms would begin in late 2002. The time constraint meant that not all issues could be discussed as thoroughly as some Task Force members thought necessary.

Partly because of the time constraint, and partly because the Task Force operated with a limited budget, no systematic program of research was designed and implemented. Instead, with the advice and consent of various Task Force members, staff from the Superintendent of Bankruptcy prepared a series of reports intended to inform the deliberations of the Task Force.

One reason for the large size of the Task Force was to try to include a wide cross-section of those involved in the Canadian insolvency system. Nonetheless, former bankrupts and representatives of some credit-granting institutions, such as personal finance companies, were notable by their absence.

IX. Remaining Sections of the Report

The remainder of this report contains the detailed recommendations of the Task Force. In general, the Task Force saw its task as developing substantive recommendations rather than undertaking the detailed drafting of the law. Nonetheless, some recommendations contain fairly precise language intended to be incorporated into the BIA.

The next section of the report presents the detailed recommendations thematically, bringing together recommendations that relate to similar issues, even if they were actually developed by different working groups of the Task Force.

A series of annexes contains a variety of material that is relevant to the workings of the Task Force but that does not bear directly on its recommendations. This material includes the Terms of Reference established for the Task Force, a glossary of terms used in the report, the list of Task Force members and a description of insolvency systems prevailing in other countries.

X. Hopes for the Future

The phenomenon of personal bankruptcy will continue to be a significant feature of the insolvency system in Canada. In this respect, the Canadian experience is no different from that of our neighbours south of the border.

The objectives of any bankruptcy legislation dealing with individuals remain those of achieving a balance between the alleviation of the plight of the honest debtor who has suffered financial difficulties and the rights of creditors to be paid debts which are due to them. That equilibrium is determined by society as a function of conditions which exist at varying times and, therefore, the equilibrium changes from time to time. The Task Force considers that adoption of its recommendations will create a proper equilibrium in Canada for the first part of the 21^st century.

In matters of bankruptcy and insolvency, the amendment process is a journey, not a destination. Circumstances, economics and social needs and values are constantly changing and amendments to the legislation are required to adapt to these changes. The Task Force hopes, and respectfully submits, that the changes suggested by it, when incorporated into the BIA by legislation, will allow the BIA to continue to be the envy of practitioners in most jurisdictions around the world.

¹ A list of the twenty-three Task Force members appears in Annex 1.

² This material draws heavily on Ziegel, Jacob, Comparative Consumer Insolvency Regimes From a Canadian Perspective, A Report for Industry Canada (Ottawa, 2000) and Ziegel, Jacob, "The Philosophy and Design of Contemporary Consumer Bankruptcy Systems: A Canada-United States Comparison" (1999) 37 Osgoode Hall L. J. 205.

³ As in most legal areas, various words have specific and often quite complicated meanings. For that reason, a glossary defining most of these terms is included as Annex 2. Throughout the report, however, the most important terms will also be defined in the text or in footnotes.

⁴ Debtors who file for bankruptcy are allowed to keep some of their assets, including household furnishings, work-related tools and portions of the equity they may have accumulated in homes or vehicles. Such assets are called "exempt assets" and any other assets are "non-exempt." At present, provincial law determines which assets are exempt and which are not. Some debts, and therefore some creditors, are "secured", meaning that the debtor has given the creditor the right to repossess various assets if the debtor fails to meet debt repayment requirements. Debts incurred to buy homes or vehicles are often secured which gives the creditor the right to repossess the home or vehicle in the event of default. Such repossession is called "realizing" or "enforcing" on the security.

⁵ An example of misconduct is when the bankrupt has not completed two mandatory counselling sessions.

⁶ Both before and after the 1997 reforms, the fees received by proposal administrators were lower than the fees received by a bankruptcy trustee, holding the estates' receipts constant. After the 1997 reforms, both fees were increased but the fees received by proposal administrators were also increased relative to the fees received by the bankruptcy trustee. For example, for an estate with $5,000 in receipts handled before the 1997 reforms, the OSB estimates that the administrator's fee for a proposal would be roughly half the trustee's fee for a bankruptcy. After the 1997, for an estate with $5,000 in receipts, the proposal administrator's fee would be about 3/4 the fee received by the bankruptcy trustee. It is this increase in the ratio of administrator fees to trustee fees that may have created an incentive to "steer" clients to proposals. Whether such "steering" actually occurred is unknown.

⁷ There were a total of 27,525 consumer proposals filed during the period May 1, 1998 to Dec 31, 2000 in Canada. As of June 20, 2002, 8,675 (31.5%) of these proposals had failed. Of the remaining 18,850 which had not failed, 5,762 (20.9% of the total filings) were completed and 13,088 (47.5% of the total filings) had not filed a statement of receipts and disbursements. When we limit the analysis of consumer proposals to those filed between May 1, 1998 and April 30, 1999 (8,449 filings), we find that a large number have neither failed nor been completed. In that period, there were 2,886 failures (34.1%); 3,325 completions (39.4%) and 2,238 (26.5%) where there had been no statement of receipts and disbursements filed as of June 20, 2002.

⁸ In the 1970s, the Federal Insolvency Trustee Agency (FITA) was established to allow the Superintendent of Bankruptcy to provide trustee services to those who could not afford private-sector fees. FITA was an attempt, motivated by the report of the Tassé Committee, to improve access to personal bankruptcy and lasted until 1978.

⁹ Ramsay, Iain, "Individual Bankruptcy: Preliminary Findings of a Socio-legal Analysis" (1999) 37 Osgoode Hall L. J. 15 and Schwartz, Saul and Anderson, Leigh, An Empirical Study of Canadians Seeking Personal Bankruptcy Protection, A Report for Industry Canada (Ottawa, 1998).

¹⁰ If debtors file for bankruptcy within ten years of leaving full- or part-time study, their student loan debt is not discharged. When ten years have passed since they left school, debtors can ask that a court discharge the student loan debt on the grounds of hardship.

¹¹ Office of the Superintendent of Bankruptcy, Preliminary Report, Evaluation of the Mandatory Counselling Program (Ottawa: Consulting and Audit Canada, November 2001).

Chapter 2

Recommendations That Overlap with Other Areas of Public Policy

Introduction

The creation and regulation of debt can occur as part of government policies that have little to do with personal insolvency. One clear example is the subsidy of student loans by the federal and provincial governments; these subsidies are intended to help young Canadians finance post-secondary education. Another example is the set of policies dealing with consumer protection; these laws regulate the interaction of lenders and debtors in order to make sure that the rights of both parties are protected.

Policies aimed at one goal often affect, and are affected by, legislation intended to deal with policies aimed at another goal. This chapter presents six Task Force recommendations that bear on other government policies. The six recommendations deal with:

• the treatment of student loans owed by bankrupts;
• the status of RRSPs held by bankrupts;
• the exemption of certain assets from seizure by creditors;
• the regulation of security interests taken by lenders in exempt assets;
• the regulation of agreements between debtors and lenders to repay debts that are likely to be discharged;
• the treatment of discharges obtained in foreign countries.

This division of the Task Force recommendations into one set that deals with issues that affect and are affected by other government policies, and another set that refers to issues of interest only to the insolvency process, is somewhat arbitrary. Nonetheless, the six recommendations discussed in this chapter seem to be ones that are of wider significance.

I. The Discharge of Student Loans

Background

Post-secondary students typically borrow from the federal Canada Student Loans Program (CSLP) and, simultaneously, from provincial student loan programs. By and large, the amount borrowed depends on the needs of the student, after parental income has been taken into account. Loan repayment does not typically begin until the borrower has left school.

Before September 30, 1997, the BIA treated student loans in the same way as it did most other consumer debts when considering the issue of discharge from bankruptcy. If a trustee or creditor suspected that former students were abusing the system, they could oppose their discharge from bankruptcy or the creditors could refuse to accept consumer proposals.

Amendments to the BIA in 1997 changed this situation. If debtors filed for bankruptcy within two years of leaving full- or part-time studies, their student loans were not discharged. For such debtors, Section 178 of the BIA provided that the discharge of student loans could only occur as the result of a special hearing to be held after the two years had passed and only if the hearing resulted in a finding that the debtor had made good faith efforts to repay the student loan debt and that repayment would result in significant hardship. Debtors filing more than two years after leaving school could have their student loans discharged as before.

In recent years, several of those who filed for bankruptcy on or after September 30, 1997, have sought and received hardship hearings but the courts have generally been reluctant to grant the discharge of student loans despite the claimed hardship. In addition, in one such case, the Registrar wrote that she had jurisdiction only to allow the entire student loan debt to be discharged or none of the debt to be discharged. That is, the Registrar believed that the hardship hearing could not result in the discharge of only a portion of the student loan.

On June 18, 1998, Bill C-36, an omnibus bill that incorporated changes mandated as part of the 1998 budget, increased the period during which discharge was not allowed from two years to ten years after the debtor had left full- or part-time study.

In thinking about the options for reform, the Task Force thought about the student loan provisions of the BIA as having two parameters: (1) the length of time, after leaving school, that must pass before discharge is allowed without a special hearing; and (2) the length of time, after leaving school, that must pass before a special hearing might allow discharge, at the discretion of the judge. The situation in 1997 was a 2-2 system because (a) student loans could not be discharged through bankruptcy without a special hearing unless the debtor filed more than two years after leaving full- or part-time studies. In addition, the special hardship hearing could be held only after two years. The current situation is 10-10, because discharge is allowed only if ten years have passed since the debtor left school and no hardship hearing can be held until ten years have passed.

There is no reason, however, why these two periods need be the same. For example, the current system of not allowing discharge, in the normal fashion, until ten years after leaving school could be retained but provision could be made for allowing a hardship hearing at the time when the discharge of non-student loan debts occurred. This latter possibility would be a 10-0 system with the 10 indicating non-dischargeability, through normal channels, within ten years of leaving school and the 0 indicating the possibility of discharge after a special hardship hearing occurring at the point of discharge from bankruptcy.

Discussion

The Task Force considered the arguments for and against allowing the discharge of student loans. The arguments against allowing the discharge of student loan debt are:

1. Former students have the ability to repay their loans because they will have higher-than-average income in the future.
2. In the 1990s, provincial loan programs and the CSLP lent out much greater amounts than in previous decades and allowing discharge through bankruptcy would increase government loan losses.
3. Forms of debt relief other than bankruptcy are available to former students.

The most compelling argument against allowing former students to discharge their student loans through bankruptcy is based on the presumption that some of these debtors are only temporarily insolvent. The presumption is that they have borrowed to increase their future income and are using bankruptcy to avoid repaying their debt while retaining the increased future income. The examples often cited concern professionals ­ perhaps young lawyers, doctors or dentists ­ who file for bankruptcy to rid themselves of six-figure student loan debts shortly before taking up lucrative jobs.

The same argument is often phrased in terms of the acquisition of human capital, defined here as skills and knowledge that increase future income. Students borrow to finance the acquisition of human capital but, unlike physical capital, human capital cannot be used as security for a loan. Because students need have no fear that the asset financed by the loan will be repossessed, they can safely file for bankruptcy.

A second argument against discharge begins with the observation that the volume of student debt increased substantially in the 1990s. Part of this increase was the result of higher tuition fees. Another part was due to the elimination of many provincial student grant programs. Both of these factors increased students' need to borrow. Yet another part of the increase was due to government decisions to increase the amounts that could be borrowed from their loan programs.

The upsurge in student borrowing implied an increase in the loan losses borne by governments since they had guaranteed the loans. Making student loan debt non-dischargeable might reduce the loan losses if former students, denied discharge through bankruptcy, make loan payments they would not otherwise have made.

A third argument in favour of not allowing the discharge of student debt is that other forms of debt relief are available. There are two forms of such relief. First, the federal CSLP has a program called Interest Relief, under which eligible student loan debtors need make no payments on their loans for specified periods (up to 54 months) during which the CSLP pays the interest on the loans. Some provinces have similar Interest Relief programs associated with their provincial student loan programs. Not all borrowers are eligible for Interest Relief; only those who are not delinquent on their loans and who have low income are eligible. Second, some provinces have loan remission programs that forgive part of the value of student loans in cases where borrowing has been quite heavy. A similar CSLP program is just beginning to operate. The argument against discharge is that the relief provided by these programs is enough to make relief through bankruptcy unnecessary.

The arguments in favour of allowing the discharge of student loans are:

• Student loans are no different from other dischargeable personal debts and those seeking to discharge student loans through bankruptcy are no different than other bankrupts.
• Making student loans non-dischargeable is discrimination against young people that is not allowed under the Charter of Rights.
• Some individuals experience special hardship that makes it virtually impossible to repay their student loans.

The first argument is that those seeking bankruptcy protection with student debts among their liabilities are no different than other potential bankrupts. That is, they are not typically young professionals but are rather a cross-section of all those engaged in post-secondary education, including many who never graduated from the program for which they borrowed. If so, there is no reason to make student loans non-dischargeable.

The second argument, which is the basis for an on-going Charter challenge of the rule prohibiting discharge of student loans, is that the prohibition of discharge constitutes age discrimination, since most student loan borrowers are young.

Finally, the Task Force heard several stories from trustees about cases of special hardship. For example, in one case, a medical student amassed more than $100,000 in student loan debt only to suffer a nervous breakdown. As a result, the student could not practice medicine but was still left with the massive student loan debt. While these stories constitute anecdotal evidence only, the possibility of such special hardship is evident.

Since the last round of BIA reforms, two empirical studies of those seeking bankruptcy protection, one by Schwartz and Anderson and the other by Iain Ramsay, have been published.¹² The Schwartz and Anderson study looked at student loans in particular.

That study found that those with student loans among their debts were in a worse economic position than the average debtor seeking bankruptcy protection. They had lower median income, were more likely to have received social assistance and had jobs that were similar to those of other bankrupts. All in all, there was no evidence that those seeking to discharge student loans through bankruptcy were young professionals seeking to discharge student loan debt before going on to lucrative careers. While it might be true that these debtors will have above-average future incomes, the types of jobs they currently held suggested that this possibility was remote.

On the issue of availability of other forms of debt relief, it is certainly true that the federal and provincial interest relief programs and loan remission programs provide debt relief that is not available to other debtors. For example, there is no debt relief or loan remission for credit card debtors. These programs, however, are not a replacement for bankruptcy as a method of providing a "fresh start." The fact that borrowers who are delinquent or in default on their loans are not eligible for Interest Relief from the CSLP creates the paradox that those most in need of Interest Relief ­ those already delinquent or in default ­ are not eligible for it. Provincial loan remission programs also provide a measure of relief, but only for students who borrow large amounts.

In Quebec, the situation is particularly difficult for students. Quebec does not participate in the federal CSLP, instead receiving federal financial support to administer its own system. The 1998 changes to the CSLP that expanded provisions for relief for those encountering difficulty in repayment were not adopted in Quebec. On the contrary, the evidence suggests that the provincial government made matters more difficult for student loan debtors. For example, the sum spent on the programme de remboursement différé (deferred repayment program) has dropped by half in the past five years.

It is certainly true that higher borrowing implies higher losses for lenders. For loans guaranteed by federal and provincial governments, higher borrowing means higher losses for the governments. From 1995-2000, however, federal CSLP loans were not guaranteed by the federal government and loan losses from this period will therefore accrue to the lending institutions, which received a "risk premium", amounting to roughly 5% of the amount borrowed, as compensation for bearing the risk of default. One problem with the argument against the discharge of student loans is that other creditors, including the Canada Customs and Revenue Agency, also face large losses that could be relieved by prohibiting debtors from discharging their debts.¹³ Why should those making student loans receive special treatment?

Recommendation

In light of the arguments for and against the discharge of student loans, and after evaluating the available evidence, the Task Force recommends that the BIA be changed:

• to reduce the length of time before discharge of student loans is allowed from 10 years to 5 years after the end of full- or part-time studies; and
• to allow, on the basis of a court-administered hardship hearing, the discharge of student loans upon application by the bankrupt, at any time more than one year after the end of full- or part-time studies;
• to make it clear that partial discharge of student loans, when judged desirable as the result of a hardship hearing, is allowed. One possible result of a hardship hearing could be a conditional discharge, conditional on payment plans that might include paying a certain percentage of income for a specified number of years.

The recommended changes would apply to consumer proposals as well as to bankruptcy itself.

II. RRSP Exemptions in Bankruptcy

Background

The federal government has made a policy choice favouring retirement savings. The rationale for this policy choice is the importance of encouraging Canadians to plan for their retirement, so as to promote individual financial responsibility and to ensure that senior citizens do not become solely reliant on the public purse. The policy choice is evidenced by the exempt status afforded to Registered Pension Plans (RPPs) available to employed Canadians, through significant tax incentives available both for RPPs and RRSPs, and through the prohibition against lenders taking security against RRSP investments.

While pensions are "inexigible", meaning that they are entirely exempt from creditors' claims, RRSPs vary in the extent to which they are exigible.

• Conventional RRSPs held by banks, brokerages or self-directed funds are fully exigible through execution and in bankruptcy.
• Insurance-type RRSPs, held by provincially-regulated insurers in the form of annuities, are exempt under certain circumstances, primarily where the designated beneficiary is the spouse, parent or child of the holder of the RRSP.
• Locked-in RRSPs, created when ex-employees withdraw from pension plans upon termination of employment after the pension rights have vested, are exempt under pension legislation and cannot be accessed until retirement.¹⁴

Only a very small proportion of bankrupts have RRSPs among their assets at the time of filing.¹⁵ In 1998, about 30% of all Canadians contributed to an RRSP. The percentage of bankrupts holding RRSPs probably understates their importance in insolvency proceedings, however, since any debtors with RRSPs are likely to have cashed them well before filing for bankruptcy.

As a result of the treatment of RRSPs, employees with pension plans can safely accumulate exempt retirement savings but self-employed individuals and non-pensioned employees normally lose their RRSP investments upon bankruptcy, even though their contributions may have been made many years before their insolvency.

The existence of the exempt insurance-type RRSPs has led to several other unsatisfactory aspects of the current bankruptcy treatment of RRSPs. First, only a small proportion of Canadians are aware of the exempt status of insurance-type RRSPs. For that reason, only especially prudent self-employed individuals and non-pensioned employees, or those with good advisors, are able to creditor-proof their retirement funds. Second, those facing the possibility of bankruptcy might be tempted to convert non-exempt RRSPs into exempt insurance-type RRSPs. By virtue of the Supreme Court of Canada's Ramgotra decision, however, only a cumbersome fraud test is available to the trustee, under provincial fraudulent conveyance legislation, to set aside such pre-bankruptcy transactions.¹⁶

Even if the RRSP is exempt, the bankruptcy court hearing the debtor's discharge may require that the bankrupt, in effect, draw down the RRSP by way of a conditional discharge order made in specific contemplation of the RRSP. Not doing so, and leaving the bankrupt with substantial exempt assets, has been held to undermine the integrity of the bankruptcy system.¹⁷ Such views are never advanced in respect of pensions, even if their capitalized value is very high, because pensions are inaccessible until after retirement.¹⁸

In considering reforms to the current treatment of RRSPs under the BIA, the Task Force acknowledged that it would be inappropriate if the bankruptcy system treated RRSPs in exactly the same way as pensions. This is because there are several key differences that call for different treatment.

First, pension contributions are normally mandatory as a condition or benefit of employment, and normally include an employer's contribution. RRSPs are voluntary and normally fully self-funded, perhaps through borrowing. Second, pension contributions are normally regular, periodic and fixed in amount. RRSP contributions are self-determined in amount, often irregular, and are purely a matter of individual planning. Third, pensions cannot normally be accessed until retirement. RRSPs are normally liquid so that they can be cashed or collapsed at any time, subject to a tax penalty. Fourth, RRSPs are often utilized as tax-deferred savings vehicles and are not intended exclusively, or even primarily, for retirement.

Sound public policy ought to support and encourage prudent retirement planning. Existing provincial and federal legislation already exempts pensions and some varieties of RRSPs. It would be consistent with both retirement and bankruptcy policies if bankruptcy legislation afforded exempt status to RRSP savings that have accumulated through prudent retirement savings practices before the period of insolvency. At the same time, the BIA ought not to be available for strategic use by those who intend to shelter their assets from the reach of impending or foreseeable creditors. An overly generous exemption policy would invite abuse.

As well, the integrity of the bankruptcy system would suffer if debtors succeeded in preserving their RRSPs through the bankruptcy process, only to be in a position to access the preserved cash shortly following, or even during, the bankruptcy. This would flout the retirement policy goals for the exemption, and would lead to well-warranted creditor frustration.

The aim of the Task Force has been to devise a mechanism for RRSP exemption that would accommodate these competing concerns in a fair, efficient and principled manner.

Key Recommendations

RRSPs should be eligible for exemption in bankruptcy on the basis of several inter-related elements. The three most important elements of the Task Force recommendation are presented immediately below. A number of other elements are also important and these are set out in the discussion below. All elements of the complete recommendation are then repeated at the end of this section.

1. An RRSP exemption will be available to bankrupts only if they convert the RRSP, shortly following the date of bankruptcy, into a locked-in RRSP or annuity that will be accessible only after their retirement. In effect, the RRSP will be converted into a locked-in RRSP similar to that prescribed by pension legislation when an employee's vested pension rights are terminated due to a loss of employment status.
2. All RRSP contributions (including contributions to a spousal RRSP) made by the debtor within three years of the date of the initial bankruptcy event, will accrue to the trustee as property divisible among creditors. This will be an irrebuttable vesting; that is, it will not be dependent upon any fraud test or judicial determination. Contributions outside the three-year mark will continue to be subject to fraudulent conveyance attack under existing provincial legislation.
3. The income or proceeds from the locked-in RRSP, when it is being paid out following retirement, will be treated as income that is subject to the surplus income standards in Section 68 of the BIA. The trustee will be entitled to enforce the surplus income obligation against such income.

Discussion

Why the mandatory lock-in? The policy rationale underlying an RRSP exemption only applies if the RRSP is truly intended for retirement purposes. This purpose, and hence this policy goal, is guaranteed by the lock-in. Without the conversion to locked-in status, the exemption might merely assist the debtor to preserve tax-deferred savings until shortly after the bankruptcy discharge. There is no policy reason for this. Creditor confidence in the system will be maintained if it is clear that the debtor no longer has access to the exempt capital until retirement; in effect, the RRSP is converted into a pension. The lock-in also accomplishes another indirect benefit: it will discourage the discharge court from diminishing the exemption through a conditional discharge order. The court will be less offended by a debtor whose exempt RRSPs are unavailable until retirement.

Some trustees have commented on the ostensible unfairness of preventing discharged bankrupts in need from accessing their locked-in RRSPs. Current provincial lock-in legislation allows the Superintendent of Pensions to make an exception to the lock-in in cases of financial hardship.¹⁹ This could be maintained or adapted in the legislation creating the locked-in RRSP vehicle.

Ought there be a cap on the dollar value of this exemption? There is no cap on exempt pensions. However the Task Force noted two situations that may necessitate a cap for RRSPs.²⁰ One is that some RRSPs may grow extremely large as a result of shrewd or speculative investments in a self-directed RRSP. A comparable problem arises where the individual has over-contributed to the RRSP, above the tax-free limit. Both of these cases may result in the RRSP having a value far exceeding any comparable pension plan, and exceeding any limit that creditors could comfortably stomach. Any cap must bear some relationship to the present value of comparable pension savings. If the cap is to reflect retirement needs, it must vary with age: a low cap for young debtors, and a large cap for older debtors who will soon need to draw on their retirement vehicles. A fixed cap that is too small would perpetuate the favoured bankruptcy treatment of pensioned employees over self-employed individuals and non-pensioned employees.²¹

The cap proposed by the Task Force will equal the maximum RRSP contribution limit in the year of bankruptcy multiplied by the number of years that the bankrupt's age exceeds 21, to a limit of age 65. For example, using the current $14,500 contribution limit, a forty-one year old bankrupt will have an RRSP cap of $14,500 multiplied by 20, or $290,000. The cap for a fifty-one year old will be $435,000 while that for a sixty-one year old will be $580,000. This works out a rough parity with pension values, although it does not reflect the full accrual of interest and hence it may be substantially lower than the pension value of a high-earning employee.²² Further advantages of this formulation are that there are no actuarial calculations required, so it is simple and inexpensive to administer; the definition does not need to be adjusted with inflation because its key component, the annual contribution limit, is normally itself adjusted by RRSP regulation; and there is no need to analyze or litigate historical contribution patterns.

Why a three year contribution clawback? The Task Force recommendation appropriates for the creditors only those retirement funds that were accumulated in a period when one can reasonably infer ­ not with precision, but as a generality ­ that such contributions could otherwise have gone toward debt repayment. It preserves, for the debtor, retirement funds that were saved and accumulated long before bankruptcy. Under this formulation, debtors who have been contributing for many years will preserve all but a fraction of their RRSPs. On the other hand, debtors who started contributing only shortly before bankruptcy, and who thus have little justification to preserve these recent contributions from creditors, will not be able to preserve their RRSPs. The clawback also discourages strategic behaviour by debtors. For example, if the period were shorter, debtors might be able to make a significant RRSP contribution in anticipation of bankruptcy, perhaps by utilizing unused RRSP eligibility limits. They could then hold creditors off for the requisite short period in order to bullet-proof the RRSP.

The most that a trustee can recover under this clawback is the net amount in the RRSP at the time of bankruptcy. There is no entitlement to a personal judgment against the bankrupt if, prior to bankruptcy, the RRSP has been cashed in, or its value has been reduced below the level of the clawback amount. However, the bankrupt is not entitled to credit, as against the three year clawback amount, for contributions withdrawn from the RRSP during the clawback period. The clawback amount must be based on gross contributions during this period, not net contributions; otherwise the bankrupt could too easily abuse the clawback, by making a tactical withdrawal shortly before bankruptcy and dissipating the proceeds. In effect, the "first in, first out" rule applies: withdrawals by the bankrupt during the clawback period reduce the amount the bankrupt can exempt, not amounts that accrue to the estate. One Task Force member has objected that this will in some cases lead to unfairness. For example, a debtor who has contributed to the RRSP within the clawback period, but then withdrawn an equivalent amount shortly before bankruptcy to make ends meet, will lose those contributions. In the view of the Task Force, the opportunity for strategic conduct requires that the clawback be strong and effective. However, it is acknowledged that this point will require a policy determination.

Why an irrebuttable test? Without an irrebuttable test, the trustee would have to launch a fraudulent conveyance attack in order to acquire the RRSP funds. The cost of such an attack would normally be beyond the amounts justified by most bankruptcy filings. In effect, the cost would be at the trustee's risk. Moreover, fraud allegations invite heavy monetary sanctions in the event that the trustee is unsuccessful, along with the significant risk that costs will be assessed against the trustee personally. In short, the cost and risk of such litigation would hardly ever be justifiable or fundable out of the existing assets in the estate. A cheap and effective anti-avoidance device is needed to ensure creditor confidence. Note that the mandatory clawback must apply to contributions made to a spousal RRSP during the mandatory clawback period; otherwise, the clawback could be flouted by simply making contributions to a spousal RRSP during the clawback period.

Why not require the debtor to make the lock-in election at the time of acquiring the RRSP, or at the time of each contribution? Even if debtors were required to lock in the RRSP at the time of purchase, the problem of poorly advised debtors making short-sighted decisions would remain. In general, people do not plan for insolvency. There is no reason for them, years before, to make a choice that, years later, will determine whether their retirement savings are destroyed by insolvency. Few people will contribute to an RRSP that locks in their money until retirement, and thereby eliminates its use as an emergency fund, in exchange for the peripheral benefit of future creditor-proofing. Few will purchase such an illiquid RRSP unless it offers a significantly higher return. Prudent or well-advised debtors will make the safe choice, but others will not and the current unsatisfactory differentiation will persist. Well-advised debtors, or those with foresight, will purchase exempt RRSPs but most will not and will therefore lose all their retirement savings in the event of bankruptcy.

Insurance-type RRSPs. The Task Force was of the view that the proposed exemption ought to override provincial RRSP exemptions. In other words, the provincial Insurance Act exemption over RRSP-type annuities ought to be inapplicable in bankruptcy. The recommended federal RRSP exemption in the BIA will replace it.

Administrative costs. The proposed RRSP exemption would require little administrative expense by the debtor or the trustee. Debtors will file a new form, that might be called an Election to Convert with the applicable financial institution. The financial institution will then complete a form to be called a Certificate of Conversion and send it to the trustee. The financial institutions will likely make the new forms readily available as part of their service. The conversion must be effected either prior to, or within 90 days of the date of bankruptcy, subject to any court-ordered extension of this time period to cover cases of inadvertent good faith failure to convert. For example, some debtors will not remember where their RRSPs are held. Likewise, the clawback ought to be relatively cheap to administer.

Given that many RRSPs will be small, and the debtor often disorganized, some trustees are concerned about the added administrative costs. The creditors ought not to be forced to fund the trustee's cost of assisting the debtor to access this exemption. Trustees should be free to charge the debtor a fee, payable out of the RRSP, for administering the paperwork. Normally, this fee will be modest. Unless this fee can be collected, administrative costs will reduce the returns to creditors and the trustees may be less willing to assist the debtor to complete the paperwork.

RRSP income after retirement should be included in the calculation of surplus income. To give effect to the availability of the locked-in RRSP as surplus income when it is being paid out following retirement, there must be a change to one aspect of Section 68 of the BIA. While the current Section 68 provides that pension income is included in the surplus income calculation, a Section 68 order can never be enforced against exempt income. That is, under current law, a retired bankrupt who is netting, for example, $50,000 in pension income, can be ordered to pay some portion of this to the estate, but that order cannot be enforced. The bankrupt can flout the order with impunity under current law. This conflicts with the proposed provision that the RRSP, when converted and being paid out, should be included in the calculation of surplus income. The rationale for the current limitation has never been apparent. Section 68 should clearly provide that a surplus income order can be enforced against exempt income.

Strategic behaviour. The tax authorities will be concerned about strategic use of this exemption. In the view of the Task Force, this concern will be largely allayed by the irrebuttable clawback, along with the continued applicability of provincial fraudulent conveyance legislation.

Special rules in the case of family break-up. Special rules may have to be carved out for the following family break-up situations. One special rule might be needed where RRSP investments have been divided before bankruptcy in favour of a spouse or common-law partner by virtue of a separation agreement or matrimonial court order. Another special rule might be needed to ensure that the exemption does not prevent support enforcement measures against the RRSP that are permitted under provincial or federal legislation.

Phase-in period. There should be a sufficient lead time between the passage of the proposed exemption provisions and their in-force date. Many banks and other lenders have advanced credit on the strength of the debtor's asset base which includes non-exempt RRSPs. The reasonable expectations of these creditors would be defeated if the exemption were put in place before they can protect themselves. A two to three year lead time will suffice so that any lenders in this situation can, if they see fit, call the loan, arrange for alternative assurances or other security, or conceivably obtain a judgment against the debtor so as to access the non-exempt RRSPs before the new exemption comes into force.

Legislation outside the BIA. The RRSP recommendation of the Task Force will require legislative reform to statutes outside the BIA. The feasibility of such reform ought to be investigated with the responsible ministries. One can utilize, as a starting point, the provisions in provincial legislation which govern locked-in RRSPs deriving from ex-employees' withdrawal from an RPP plan upon termination of employment after the pension rights have vested. Presumably the BIA could specify the general rules pertaining to the lock-in, and could refer to a regulation which prescribes a set of acceptable locked-in RRSPs.

Non-bankruptcy situations. The Task Force also considered whether its recommendation ought to apply to non-bankruptcy situations. Artificialities will be created if the exemption applies only in bankruptcy and not in the normal debtor-creditor situation. It should be noted that in 1999 the Uniform Law Conference of Canada adopted a Report recommending universal provincial exemption of RRSPs from any enforcement process, save that payments out of the RRSP are to be treated as wages. The Report does not address the problem of abuse. If the provinces adopt a comparable version of RRSP exemption as contemplated by the recommendation, the mandatory clawback might be most effective if it operated for a three year period before the date of commencement of the first lawsuit against the debtor which remains unsatisfied. This date would limit strategic use of the exemption, outside of the bankruptcy context, by discouraging debtors from prolonging lawsuits for the sole purpose of enhancing the RRSP exemption.

Recommendation

Combining all of the above elements, the Task Force makes the following recommendation:

1. An RRSP exemption will be available to bankrupts only if they convert the RRSP, shortly following the date of bankruptcy, into a locked-in RRSP or annuity that will be accessible only after their retirement. In effect, the RRSP will be converted into a locked-in RRSP similar to that prescribed by pension legislation when an employee's vested pension rights are terminated due to a loss of employment status.
2. All RRSP contributions (including contributions to a spousal RRSP) made by the debtor within three years of the date of the initial bankruptcy event, will accrue to the trustee as property divisible among creditors. This will be an irrebuttable vesting; that is, it will not be dependent upon any fraud test or judicial determination. Contributions outside the three-year mark will continue to be subject to fraudulent conveyance attack under existing provincial legislation.
3. The income or proceeds from the locked-in RRSP, when it is being paid out following retirement, will be treated as income that is subject to the surplus income standards in Section 68 of the BIA. The trustee will be entitled to enforce the surplus income obligation against such income.
4. The exemption will be capped. The maximum amount exempted will be equal to the maximum RRSP contribution limit in the year of bankruptcy multiplied by the number of years that the bankrupt's age exceeds 21, to a limit of age 65.
5. The exemption will require the filing of several new forms. An Election to Convert will be filed with the applicable financial institution by the debtor. The financial institution will then complete a Certificate of Conversion and send it to the trustee. The conversion must be effected either prior to, or within 90 days of the date of bankruptcy, subject to any court-ordered extension of this time period to cover cases of inadvertent good faith failure to convert.
6. Trustees should be entitled to charge the debtor a fee, payable out of the RRSP, for administering the conversion paperwork.
7. The provincial Insurance Act exemptions covering RRSP-type annuities ought to be inapplicable in bankruptcy; the proposed federal RRSP exemption in the BIA will replace it.
8. Special consideration is required for the following situations. The first is where RRSP investments have been divided before bankruptcy in favour of a spouse or common-law partner by virtue of a separation agreement or matrimonial court order; the second is that the exemption ought not to prevent support enforcement measures against the RRSP that are permitted under provincial or federal legislation such as claims that fall within Section 178.
9. There should be a two or three year transitional period before the exemption comes into force.

III. Optional Federal Exemptions

Background

Legal systems regulating individual bankruptcies regularly exempt some part of the debtor's property from distribution among the creditors so as to enable the debtor and the debtor's family to meet their essential needs and maintain a minimum level of human dignity and personal comfort. In the BIA, the section serving this function is Section 67(1)(b). What is distinctive about this paragraph is that instead of imposing a uniform set of exemptions for debtors across Canada the exemption is determined by the law of the province in whose territory the property is situated and within which the bankrupt resides. This feature was apparently copied in the Canadian Bankruptcy Act of 1919 from the U.S. Bankruptcy Act of 1898, under which a bankrupt's exemptions depended on the law of the state in which the bankrupt resided at the time of bankruptcy.

Exemptions in the U.S. vary enormously across the states, from the excessively generous to the very parsimonious, and this disparate result has given rise to much criticism because of the abuses to which it leads and the inherent unfairness of such a checkerboard system. Strenuous efforts were made in the U.S. during the passage of the Bankruptcy Code of 1978 to substitute a uniform federal set of exemptions for the state-determined exemptions. However, the Congress could only agree on an optional set of federal exemptions that the debtor would be free to elect if state legislation did not preclude the debtor from doing so. These optional provisions appear in Section 522 of the U.S. Bankruptcy Code.

The Canadian position is similar to the position that prevailed in the U.S. before 1978. There is a wide disparity among the provinces and territories with respect to the types of property that are exempt from seizure by the debtor's creditors, and therefore also exempt from seizure in bankruptcy, and the value of the property that is exempt. For example, some of the Canadian jurisdictions grant no exemptions in respect of the debtor's residence while others fail to include motor vehicles in the list of exempt assets. The value of the debtor's residence that is exempt from seizure in Saskatchewan, Alberta and British ColumBIA is substantially higher than the level of exemptions in most of the other provinces. Also, the exemption provisions in many of the provinces are badly dated and have failed to keep pace with increases in the cost of living and changes in the life styles and needs of ordinary Canadians.

These results conflict with the general theory of Canadian bankruptcy law, which proceeds from the premise that bankrupts and their creditors should be treated alike regardless of the residence or place of business of the debtor or the debtor's creditors. For example, Section 68 of the BIA, adopted in 1997, does not leave it up to the provinces to determine how much of the debtor's income shall be treated as surplus to the debtor's essential requirements. Instead, the Superintendent of Bankruptcy is required to determine the appropriate standards by directive, standards which are adjusted at regular intervals to reflect changes in the relevant consumer price index (CPI).

Ideally, therefore, the status of a debtor's property in bankruptcy should be treated the same way as the debtor's surplus income, and the kinds and levels of exemption should be determined by the BIA and not by delegation to provincial or territorial law. However, after full discussion, the Task Force concluded that a more modest approach is called for at the present time and that individual bankrupts should be able to opt for a list of federally prescribed exemptions in place of the otherwise applicable provincial or territorial exemptions. In this way the BIA will ensure that all bankrupts will have access to what is regarded as a reasonable set of exemptions regardless of the bankrupt's place of residence or weaknesses and gaps in the provincial or territorial legislation.

Recommendation

The recommendations of the Task Force are as follows:

1. There should be a federal exemptions list which the debtor, and only the debtor, can select in preference to the otherwise applicable provincial or territorial exemptions.
2. Debtors will have to make their election promptly following their assignment in bankruptcy or the making of a bankruptcy order. Where there is a joint assignment by related debtors, both parties must elect to be governed in their entirety by the federal or provincial list of exemptions; they cannot "cherry pick" among the different items in each list. If there is a deadlock between the debtors, they will be deemed to have elected the federal exemptions.
3. The specific exemptions and exemption levels recommended by the Task Force are:
   

   1.	Apparel & household furnishings	$7,500
   2.	Medically prescribed aids and appliances and medication for use or consumption by the debtor or the debtor's family	No limit
   3.	One motor vehicle whether used for personal, trade or business purposes	$3,000
   4.	Tools of the trade and professional books but not including motor vehicles used in the trade or business	$10,000
   5.	Debtor's residence, defined to include a house, apartment, mobile home and house boat	$5,000

4. There should be an exemption for real and personal property used by a debtor whose livelihood is derived from farming, fishing, forestry and other activities related to the natural resource sector of the economy. The amount of the exemption should be governed by applicable provincial/territorial law but is to be not less than $10,000 and not more than $20,000.
5. Registered pension plans and tax exempt life insurance annuities, but not Registered Retirement Savings Plans or RRSPs, shall continue to be governed by applicable federal or provincial law.²³
6. The above exemptions (other than exemptions governed by item (e)) shall extend to proceeds from the sale of, or the raising of a mortgage on, the exempt property.
7. Exemption levels are to be adjusted to the CPI as determined by regulation under the BIA or, preferably, by exercise of the Superintendent's Directive powers. The value of property for the purpose of the above exemptions shall be the fair market value of the property at the time of the assignment or the making of the bankruptcy order.
8. The exemptions will not apply in respect of a creditor's claim arising out of a maintenance, alimony and other family related support order governed by federal or provincial law.
9. The federal statutory exemptions, if elected by the debtor, cannot be waived by a debtor before the debtor's bankruptcy in favour of the debtor's unsecured creditors, and cannot be waived in favour of a secured creditor holding an unenforceable lien as described below in the Task Force recommendation concerning non-purchase money security interests.

Discussion

The above sets of recommendations were the subject of intense discussion both within the working group that dealt with exemption issues and the full Task Force, and the actual recommendations were often the result of a pragmatic compromise rather than an ideal solution. The following notes will help to explain some of the particular exemptions.

Tools of the trade. There was disagreement among the working group members as to whether vehicles should be included under tools of trade, thus presumably allowing debtors to claim an exemption for a vehicle as a tool of their trade and a vehicle for personal use. A small majority of the working group was of the view that vehicles should not be included under the exemption for tools of trade and this approach was also endorsed by the Task Force.

Debtor's residence. In view of the ambiguity of the term and the inconsistent provincial terminology, the Task Force has deemed it desirable to spell out the meaning of "residence." The definition adopted makes it clear that residence should be given the broadest meaning so long as the structure constitutes a recognized form of shelter for a person.

Exemption for property of debtors working in the natural resource sector. The Prairie provinces and, to a lesser extent, some of the other provinces have long shown a strong partiality for debtors whose livelihood is derived from agricultural pursuits. The expanded description of the affected activities in this recommendation is based on the perception that many Canadians earn their livelihood from natural resource activities other than farming. The net effect of the expanded description and the exemption level is to put farming property and property used in other natural resource activities in at least as favourable a position as tools of the trade. However, there is this difference in respect of natural resource property. The exemption may go up to $20,000 if the relevant provincial legislation permits it whereas the ceiling on exemptions in respect of tools of the trade remains at $10,000.

Unlike some provincial legislation, the description of farming property in this recommendation does not include the farm residence itself as a mandatory component although debtors will be free to include the residence if they choose to do so. If debtors choose not to claim the residence under this exemption, the debtor will still be free to claim the property under the residence exemption.

Proceeds from sale of exempt property. Debtors will sometimes sell exempt property or place a mortgage on the property before their discharge from bankruptcy. Where this occurs the question arises whether the proceeds will also be exempt or whether they will become part of the estate. The issue has given rise to much litigation in the Prairie provinces in connection with the interpretation of provincial exemption legislation. The Task Force has deemed it desirable to provide clear guidance with respect to the proposed federal standards. The position of the Task Force is that the debtor should be able to retain the proceeds of a sale or mortgage of exempt assets on the assumption that the proceeds will normally be used by the debtor to acquire other exempt assets or to meet other essential needs.

Exceptions to exemptions. Provincial legislation is very uneven in describing the scope of these exceptions. Again therefore the working group felt it desirable to provide some guidance. The working group discussed whether even a defaulting spouse should be entitled to a minimum level of exemptions from claims by the other spouse but, because of time constraints, the working group was unable to reach a firm conclusion. This issue deserves further exploration.

Waiver of exemptions. Existing provincial legislation is unclear on whether a debtor may waive the benefit of the statutory exemptions. The recommendation of the Task Force follows the wording of Section 522(e) of the U.S. Bankruptcy Code. The proposed non-waiver language suggests that a waiver of exemption in respect of secured property will be valid. The working group has therefore added a caveat to make it clear that the distinction between secured and unsecured creditors will not validate a lien on exempt household property and vehicles expressly avoided under the Task Force recommendation concerning non-purchase money security interests.

Wild Card Exemption. The above list of exemptions does not envisage the debtor being able to trade among different categories of exemptions. For example, a bigger vehicle exemption cannot be exchanged for a smaller furnishings exemption. Wild card exemptions are apparently quite common in U.S. exemption legislation, and have won the support of American bankruptcy scholars because they allow much greater play for regional and even local variations, and for the needs of individual debtors. Nevertheless, there was not sufficient support in the Task Force for the wild card concept and the issue was not pressed. It may however be appropriate to reopen it on a future occasion.

IV. Non-Purchase Money Security Interests in Exempt Personal Property

Background

It is very common for consumer loan companies, when making a loan, to take a security interest in borrowers' household goods or vehicles even if: (a) the loan is not related to the purchase of those items and (b) the items are exempt from seizure by the debtor's judgment creditors.²⁴ Such a security interest, or lien, is called a non-purchase money security interest in exempt personal property. This practice is objectionable and has been much criticized in both Canada and the U.S. Such a security interest enables lenders to threaten to repossess household goods or motor vehicles in hopes of obtaining better treatment than the debtors' other creditors. That is, debtors may be intimidated into giving preference to the lien holder. Even if the items have no commercial value, they may be essential to the debtors' welfare and to the welfare of their families.

Under the existing law of many of the provinces and territories, these non-purchase money security interests can be taken by lenders even though the assets in question are exempt from seizure if debtors declare bankruptcy or make consumer proposals. Trustee members of the PITF indicated that the existence of such security interests frequently puts trustees in a difficult position because they may feel themselves under pressure to pay off the loan companies ahead of other creditors so as not to deprive debtors of essential household goods or the use of a vehicle.

Recommendation

The BIA should be amended to avoid non-purchase money security interests in personal property that would otherwise be exempt from seizure:²⁵

1. The avoidance should apply to consumer proposals as well as to bankruptcies.
2. The avoidance should extend to all non-purchase money security interests in exempted property intended for the personal use or consumption of the debtor or the debtor's family, including apparel, household furnishings and motor vehicles.
3. The Task Force has made recommendations concerning the assets that should be exempt from seizure by the trustee and those that should be divided among the debtor's creditors. The avoidance of non-purchase money security interests should apply to any motor vehicle owned by a debtor that is not part of the assets that are to be divided among the debtor's creditors.
4. There may be cases in which the value of creditors' non-purchase money security interests exceeds the value of the BIA exemption. When this is true of apparel and household furnishings, the debtor will be entitled to select the items that are to be exempt from seizure. In the case of a motor vehicle, the lender will be obliged to pay the debtor the exempted amount before the lender can enforce its security interest.

Discussion

The avoidance of non-purchase money security interests in vehicles is emphasized in the recommendation because trustee members of the Task Force indicated that, in practice, most of the problems with such interests arise when the interest is held in motor vehicles.

There is much precedent to support the recommendations. Non-purchase money security interests are avoided under Section 522(f) of the U.S. Bankruptcy Code and in the personal property security acts (PPSAs) in the Atlantic provinces.²⁶ In 1998, the Personal Property Security Legislation Committee of the Ontario Branch of the Canadian Bar Association recommended a similar amendment to the Ontario PPSA but so far the recommendation has not been implemented. It seems likely, therefore, that the non-uniformity in the provincial treatment of this important aspect of exemption legislation will continue in the foreseeable future. This non-uniformity justifies the need for a federal provision to ensure that all bankrupts, and those making consumer proposals, will have a uniform level of protection.

V. Reaffirmation of Discharged Debts

Background

It is a fundamental principle of the Canadian insolvency system, embodied in Section 178(2) of the BIA, that bankrupts should receive a fresh start upon being discharged from bankruptcy. To that end, Section 178(2) releases discharged bankrupts from all liabilities, with the exception of the few described in Section 178(1).

Reaffirmations occur when bankrupts revive, or reaffirm, personal responsibility for liabilities which have been released upon discharge. Hence, reaffirmation is inconsistent with the fresh start principle. There are two kinds of reaffirmation: reaffirmation by conduct and reaffirmation by express agreement.

Reaffirmation by conduct occurs when bankrupts continue to make payments to creditors even though the relevant debts have been discharged. In a line of cases that began with the Moen decision in 1986, the courts have interpreted such conduct as reaffirming, or reestablishing, the bankrupts' promise to make the payments.²⁷

If the law is to be consistent with the fresh start philosophy, bankrupts should be released from such promises ­ also called personal covenants or covenants to pay ­ when they are discharged from bankruptcy. In the Moen line of cases, Canadian courts have instead held that discharged bankrupts must uphold their pre-bankruptcy covenant to pay once they have continued to make payments after their discharge. If the bankrupts later stop making the payments, the courts have granted judgments against them. The Task Force believes that bankrupts did not, in general, intend to reaffirm their pre-bankruptcy promises; instead, they probably continued to make the payments in order to retain possession of the leased or mortgaged asset and did not appreciate that they were reaffirming their covenant to pay.

Reaffirmation by express agreement occurs when bankrupts enter into agreements with creditors to repay debts even if the debts were released upon the discharge from bankruptcy. In the United States, reaffirmation agreements are regulated by the U.S. Bankruptcy Code and are quite common. There are no statistics available in Canada but there is ample anecdotal evidence to demonstrate that creditors are attempting to get discharged bankrupts to sign reaffirmation agreements.

Recommendation

The Task Force recommends that the BIA should deal with reaffirmations. In general terms, it is recommended that:

1. The Moen line of cases should be statutorily overruled so that reaffirmation cannot occur through the continuation of payments or through any other conduct.
2. Reaffirmation agreements in respect of unsecured transactions should be prohibited in all circumstances.
3. Reaffirmation agreements in respect of secured transactions should be prohibited except to the extent described in detail below.
4. Except in the circumstances described below, it should be an offence under the BIA for a creditor who knows about a bankrupt's discharge from bankruptcy to accept payment of any indebtedness released upon the bankrupt's discharge. Any impermissible payments should be recoverable from the creditor.

Discussion

The rationale for each of these recommendations and the specific details of the last two recommendations will now be presented.

Why shouldn't reaffirmation by conduct be allowed? The view of the Task Force is that the Moen line of cases offends against the fresh start principle and against the spirit of Section 178 of the BIA. While reaffirmations should be permitted in certain circumstances, they should not be implied from the possibly uninformed decisions by bankrupts to continue making payments. The Task Force believes that bankrupts should make a conscious and informed decision before becoming again personally liable for indebtedness released when they were discharged from bankruptcy.

Why should reaffirmation of unsecured debt be disallowed? The Task Force recommends that reaffirmation agreements in respect of unsecured transactions be prohibited for three reasons. First, they offend against the fresh start principle. Second, they have the effect of giving one creditor preference over other creditors and such preferences are generally discouraged by the BIA. Third, the discussion between creditors and bankrupts about such reaffirmations will likely occur at a time when the bankrupts are quite vulnerable and subject to pressure. For example, a creditor might offer the continued use of a credit card in exchange for the discharged bankrupt signing a reaffirmation agreement in respect of the pre-bankruptcy credit card indebtedness. The discharged bankrupt may be having difficulty in obtaining credit and may foolishly agree to pay indebtedness which was released upon the discharge of the bankrupt.

Although the Task Force has concluded that reaffirmation agreements in respect of unsecured transactions should not be permitted in any circumstances, it recognizes that there will be situations where discharged bankrupts may legitimately want to repay certain debts. For example, a bankrupt might want to repay a loan from a family member, even if that debt has been legally discharged. Such repayment will be allowed under the conditions, discussed below, of the recommendation dealing with the offence provisions of the BIA.

Should reaffirmation agreements of secured debt be permitted? The Task Force recommends that reaffirmation agreements be permitted in respect of secured transactions subject to a number of conditions. The rationale for this recommendation is that it will allow bankrupts to retain the assets covered by the security agreement and to thus avoid disruption in their lives. The secured creditors will be in the same position as they would have been in if they had to enforce the security and realize upon the asset. Reaffirmation agreements in respect of secured transactions should be subject to the following conditions:

1. When the bankrupt signs the reaffirmation agreement, the asset covered by the applicable security agreement must be in the possession of the bankrupt or a member of the bankrupt's immediate family.
   
   
2. The amount which may be reaffirmed is limited. In no event may it be greater than the balance of the outstanding debt secured by the security agreement at the date of bankruptcy, less any payments made after the date of bankruptcy. The maximum amount which can be reaffirmed is equal to the lesser of the outstanding balance of the debt and the following percentages of the fair market value of the asset at the time of the reaffirmation:
   
   
   • 200% of the asset value for assets having a value up to $5,000;²⁸
   • 150% of the asset value for assets having a value of $5,001 to $20,000;
   • 125% of the asset value for assets having a value of $20,001 to $50,000;
   • 110% of the asset value for assets having a value over $50,000.
     
     
3. Eligible secured transactions include: (a) leases of either real or personal property and (b) transactions involving assets owned by members of the immediate family of the bankrupts if the transaction had been guaranteed by the bankrupts.
   
   
4. The security must be valid as against the trustee in bankruptcy.
   
   
5. The reaffirmation agreement must be in writing and must be entered into within nine months of the date of bankruptcy, with copies being filed with the trustee and the Official Receiver.
   
   
6. Bankrupts have the right to rescind a reaffirmation agreement within 90 days of the date on which it was signed.
   
   
7. Disclosure of reaffirmation agreements entered into by bankrupts must be made in the report made by the trustee under Section 170 of the BIA.²⁹
   
   
8. The secured creditor may claim, as an unsecured debt in the bankruptcy, the difference between the outstanding indebtedness owing under the security agreement and the amount which is reaffirmed.
   
   
9. The agreement of the secured creditor and the bankrupts with respect to the value of the asset shall not prejudice the right of the trustee to establish that there is equity in the asset for the benefit of the creditors. This may occur when the fair market value of the asset exceeds the balance of the outstanding debt owing under the security agreement, thus limiting the amount reaffirmed.
   
   
10. The Official Receiver may: (a) approve a reaffirmation agreement in an amount greater than the percentage figures set out above; (b) approve a reaffirmation agreement that is signed more than nine months after the date of bankruptcy; or (c) determine the fair market value of the asset covered by the security agreement in the event of a disagreement between the secured creditor and the bankrupt.³⁰

What offence provisions should be put in place? The Task Force recommends that it should be an offence under the BIA for creditors who know about the bankrupts' discharge to accept payment on account of any liability released upon the discharge from bankruptcy of the bankrupt.³¹ Acceptance of such payments should be an offence unless:

1. the payment is made under a permitted reaffirmation agreement as described above;
   
   
2. the payment is made under the terms of a security agreement entered into prior to the date of bankruptcy and the asset covered by the security agreement is in the possession of the bankrupt or a member of the bankrupt's immediate family at the time of the payment;
   
   
3. the payment is voluntarily made by the discharged bankrupt to an individual related to the bankrupt by blood or marriage;
   
   
4. the payment is first approved by the Official Receiver as being in the best interests of the bankrupt and not imposing undue hardship on the bankrupt.

The Task Force believes that if receipt of such payments was not an offence, the only recourse for the debtor would be to have the payment returned by the creditor. The prospect of returning the payment is such a slight disincentive that the creditor would have little to lose by attempting to have the bankrupt make impermissible payments. There is considerable evidence in the United States of abuse by creditors in respect of improper reaffirmation agreements.

The first exception simply permits payments under reaffirmation agreements which meet the criteria that the Task Force has set out in this recommendation.

The second exception allows secured creditors, such as those holding the debtor's home mortgage, to accept payments without requiring a reaffirmation agreement.³² The exception will allow discharged bankrupts to retain secured assets, such as homes or cars, simply by continuing to make their payments and allow secured creditors to receive the payments without committing an offence.

The third exception recognizes that a discharged bankrupt may feel a moral obligation to repay family members despite the absence of a legal obligation; the Task Force feels that this should not be discouraged. Such payments can therefore be made without a reaffirmation agreement and received without committing an offence.

The final exception is a fail-safe mechanism to allow the Official Receiver to approve payments which are in the best interests of the bankrupt and do not create an undue hardship.³³ The Task Force concluded that it was preferable to have this fail-safe mechanism allow the Official Receiver to approve particular payments rather than particular reaffirmation agreements which might involve circumstances other than those specifically detailed in the BIA. In this way, a discharged bankrupt may make a payment approved by the Official Receiver but will not be under the legal obligation that might be created by a reaffirmation agreement. With this exception, the Task Force avoids the prospect of creditors pressuring discharged bankrupts to apply for approval of reaffirmation agreements, since the Official Receiver cannot do so. At the same time, the exception provides the flexibility of allowing payment of released indebtedness in unusual circumstances.

VI. International Personal Insolvency

Background

A developing economic and political trend, namely free trade and the increasing mobility of the labour force, has resulted in many Canadians working and living abroad, principally in the U.S. When financial failure strikes, these people utilize the U.S. Bankruptcy Code to obtain relief from their creditors. There are two problems they face in regard to their Canadian creditors. First, they may not be entitled to utilize the Canadian BIA since they do not meet the Canadian jurisdictional requirements for filing here. Second, a U.S. bankruptcy filing alone may not discharge their Canadian debts without a Canadian bankruptcy filing. This results from the jurisprudence which provides that in Canada, only a Canadian bankruptcy filing will discharge a debt or contract which is governed by Canadian law.

The impact of either or both of these problems prejudices Canadians who are resident and working in the U.S. but who have incurred debts in Canada before leaving this country. These debtors cannot file bankruptcies (or make proposals) in Canada, but U.S. filings will not extinguish the Canadian debt. When they return to Canada, their Canadian debts will have survived and only a fresh filing in Canada will extinguish them. The debtors will have to lose their assets twice, and undergo the rehabilitative process twice. Good bankruptcy policy should strive to avoid this result so long as it does not otherwise interfere with the policy goals of the BIA.

Discussion

The current BIA rules, and the case law interpreting those rules, do not adequately address either problem. After demonstrating the inadequacy of the current situation, this section describes two proposed solutions considered by the Task Force. The Task Force rejected one of those possible solutions as unworkable but recommends that the other solution be adopted.

The Task Force considered whether to address the first problem by extending the jurisdictional requirements in the BIA so as to allow non-residents to have access to the remedies in the BIA. Section 2 of the BIA defines "locality of the debtor" to be the principal place where the debtor has carried on business during the year before bankruptcy, or where the debtor has resided during that year, or where the greater portion of the debtor's property is located. There are conflicting decisions at the Registrar level as to whether non-residents can utilize the BIA to declare bankruptcy in Canada. Registrar Ferron said in Re Granatstein³⁴, that non-residents continue to carry on business in Canada so long as they have unpaid trade debts here. But in the most recent case, Re Purnell³⁵, Registrar Waller held that this does not apply to consumer debts such as student loans. If so, non-residents with only Canadian consumer debts, or without a greater portion of their property here in Canada, may well not qualify.

These ambiguities might be overcome if the assignment provisions of the BIA were amended to provide that Canadian citizens who are not Canadian residents may file an assignment or proposal if they have debts or liabilities which are governed by Canadian law and if there is a real and substantial connection to Canada. The "locality of the debtor" could be defined as that place where the debtor last resided for a period exceeding six months, or the debtor's last place of permanent abode in Canada, or the place where the greater part of the debtor's Canadian creditors are located. The Task Force concluded that such an amendment would not really solve the problem. Granting foreign-resident Canadians the right to file for bankruptcy in Canada, in order to extinguish Canadian debts, is a remedy that would rarely be exercised at the same time as a U.S. or foreign bankruptcy filing. Foreign-resident Canadians would not have ready access to Canadian bankruptcy information from abroad, and hence would only learn of this provision upon their return to Canada when the provision has perforce become unnecessary.

The second problem, which the Task Force's recommendation tries to address, involves the question of recognizing the effect of a foreign discharge of debt. On this issue, Part XIII of the BIA, the part that deals with international insolvency, does not assist since, unfortunately for this topic, it is primarily asset-based. The definition of "debtor" is restricted to persons having property in Canada. While some twisting of these provisions might result in recognition of a foreign bankruptcy discharge over Canadian debts, this is not at all clear.

Under the legal rules that apply to foreign bankruptcies, a foreign bankruptcy discharge does not operate in Canada to extinguish debts which are governed by Canadian law. Our courts give effect to the foreign discharge only in connection with debts that are governed by the same law as that of the foreign bankruptcy.³⁶ In the case of a loan, this normally means the country in which the loan was negotiated. A loan negotiated and advanced in Canada will not be extinguished in Canada by another country's bankruptcy discharge. The same rule applies to the recognition of foreign reorganization orders which purport to vary or modify debts or contracts: these are recognized in Canada only if the foreign law under which the order was made corresponds to the law governing the debt or contract.³⁷ Some older instances of this general rule are discussed in the note below.³⁸ The most recent example of the foreign discharge rule arose in an Ontario case where the court held that a foreign discharge does not extinguish a domestic debt and that only a discharge under the law governing the contract can do so.³⁹

It can be argued that under contemporary Supreme Court of Canada authority, Canadian courts might recognize a foreign bankruptcy discharge over Canadian debts so long as the bankrupt person had a "real and substantial connection" to the country in which the bankruptcy took place. This test applies to foreign judgments generally;⁴⁰ but bankruptcy orders are a specialty type of order which address status and invoke multiple public policy issues. It is unclear whether the "real and substantial connection" test applies.⁴¹ A recent Supreme Court of Canada decision indicates that the interests of international comity go only so far toward determining whether a foreign bankruptcy order will be recognized in Canada; other factors noted by the court include juridical advantage, the pre-eminence of order over fairness in international comity, and the interests of the litigants and other affected parties in Canada.⁴² Even if the "real and substantial connection" test is found to apply, legislation would still be necessary to give appropriate guidance on when and under what discretionary principles that recognition is to be granted. Otherwise, a wholly new area of discretion would be left up to the judiciary with no domestic or international precedent to serve as a guide, since there are no common law cases on this issue. This is not a useful way to bring certainty to the law. The result would be piecemeal, conflicting increments to the law over a period of years which would impose costs on bankrupt individuals that they can ill afford.

The Task Force concluded that the BIA ought to recognize, in the case of individual debtors, the discharge or compromise of unsecured debts through a foreign bankruptcy proceeding. The recognition rule ought to have safeguards against abuse and against violations of basic public policy. It ought to apply only where the foreign bankruptcy proceedings were not unfair. It ought to respect the policy-based exemptions from discharge in Section 178 of the BIA. Finally, the Task Force noted that some jurisdictions, including several American states, have adopted exemption policies that may be unacceptable to Canadians. The Task Force would not wish to recognize, for example, a foreign discharge granted to Canadian citizens when the local laws in the foreign jurisdiction permit the debtor to retain a million dollar homestead.

Given the increasing integration of Canadian and U.S. labour markets, the proposed new rule is needed to remedy the problems faced by Canadian non-residents seeking bankruptcy protection. Unfortunately, none of the current international insolvency initiatives appear to address this issue from the perspective of the consumer, or individual, debtor.⁴³ The interests of secured lenders are unlikely to be engaged by this proposal, since its scope is restricted to unsecured debt owed by individuals; and commercial interests are unlikely to be prejudiced in any material way by granting this degree of discretion to the Canadian judiciary.

Recommendation

The Task Force recommends that Part XIII of the BIA be amended to add a provision dealing with individuals. Allow the individuals, and not their trustee, the opportunity to bring proceedings to recognize a discharge or compromise of unsecured debt granted under foreign bankruptcy proceedings. Provide that the discharge or compromise of unsecured debt effected by a foreign bankruptcy proceeding may be recognized, generally or in relation to a particular creditor, and on such terms or conditions as the court may impose, if:

• there is a real and substantial connection with the foreign jurisdiction, or the particular creditor "attorned" to (participated in) the foreign proceeding by filing a claim or otherwise participating therein;
• such recognition will not violate Canadian norms of public policy;
• the foreign procedure was not unfair or prejudicial to any, or this particular, creditor;
• the personal exemptions utilized by the debtor in the foreign proceedings are not substantially dissimilar to those available in Canada.

The amendment should clearly provide that no claim that survives discharge under Section 178 of the BIA would be extinguished by the foreign discharge.

¹² Supra note 9.

¹³ Another problem is the assumption, without evidence, that prohibiting discharge will mean that loan losses will shrink; former students may still be unable to repay their (undischarged) debts.

¹⁴ In this recommendation, a locked-in RRSP will always mean that it will not be available to the holder of the RRSP until retirement.

¹⁵ An OSB study of 900 summary administration bankruptcies filed in 1998 suggests that less than 100 had assets in the form of either life insurance or RRSPs.

¹⁶ Ramgotra (Trustee of) v. North American Life Assurance Co., [1996] 1 S.C.R. 325, 37 C.B.R. (3d) 141, 132 D.L.R. (4^th) 193, also cited as Royal Bank of Canada v. North American Life Assurance Co. (S.C.C.). Provincial fraudulent conveyance legislation governs transactions undertaken to defeat or defraud creditors.

¹⁷ Nelson (Trustee of) v. Nelson (1995), 33 C.B.R. (3d) 292 (Sask. Q.B.). In this case, the bankrupt held exempt RRSPs worth $250,000.

¹⁸ See, for example, Re Bouvier, [1998] A.J. No. 1588 (Alta. Q.B.) holding that exempt assets should be taken into account only where they are capable of liquidation.

¹⁹ For example, see Ontario Pension Benefits Act, Section 67(5)-(7).

²⁰ Any cap would apply after deduction of the clawback amount. In other words, if the RSSP exceeds the cap after the trustee has calculated the clawback amount, the trustee will recover the surplus.

²¹ For example, the 1986 Colter Commission recommended a $50,000 cap on an RRSP bankruptcy exemption.

²² Consultation with one insurance company indicates that the cap amount for a 65 year old man, at current interest rates, would equate to a taxable annual annuity of $49,180.32 if guaranteed for a 25 year payout to age 90, or $59,555.64 if guaranteed for life. At age 55, the cap amount would be equal to a guaranteed-for-life taxable annual annuity of $37,710.48 for a man and $35,510.28 for a woman.

²³ The treatment of RRSPs in the event of the holder's bankruptcy is addressed in an earlier section of this chapter.

²⁴ Roughly speaking, a lender acquires a security interest, also referred to as a lien, when the debtor grants the lender the right to take possession of the asset and to sell it if the debtor does not make payments on the loan in accordance with the contractual agreement. A judgment creditor is a person having a legal right to enforce a judgment for a specific sum of money.

²⁵ The use of the word "avoid" in this context means, roughly speaking, to disallow or to nullify the lien. The provision that nullifies the security interest is called an "avoidance." Under this recommendation, if a debtor files for bankruptcy, after previously granting a lender a security interest in an asset that is exempt from seizure under the provisions of the BIA, the lender will not be able to repossess the asset.

²⁶ Alberta used to have a similar provision but it was omitted in the revision of the Alberta exemption legislation in the early 1990s, apparently at the request of the consumer finance industry. The Province of Quebec does not permit non-purchase money security interests in household property or in motor vehicles used for consumer purposes.

²⁷ The line of cases began with Seaboard Acceptance Corporation v. Moen (1986), 62 C.B.R. (N.S.) 143 (B.C.C.A.) and continued with such decisions as Manulife Bank of Canada v. Planting (1996), 43 C.B.R. (3d) 305 (Ont. Ct. (Gen. Div.)), CIBC Mortgage Corp. v. Stenerson (1998), 4 C.B.R. (4^th) 226 (Alta. Q.B.) and CIBC Mortgage Corp. v. Coleski (1999), 13 C.B.R. (4^th) 17 (N.S.S.C.).

²⁸ The reason for allowing the amount to be greater than the current value of the asset is to take into account such things as sales costs, legal fees and the disruption that bankrupts would undergo if the asset were seized by the secured creditors.

²⁹ Before an individual bankrupt can receive a discharge, the trustee administering the estate must prepare and file a report regarding the bankrupt's application for discharge. This report, called a Section 170 report, is filed with the Superintendent, and is provided to any creditor who had previously requested a copy. The report contains the trustee's assessment of the causes of the bankruptcy, the bankrupt's performance of duties under the BIA, any convictions for offences, or any conduct problems or other facts for which an unconditional discharge could be refused.

³⁰ The Official Receiver may elect to refer the decision to the court.

³¹ One member strongly disagreed with part (d) of the recommendation and has written the following:

I strongly object to Recommendation (d), the criminalization of voluntary post-bankruptcy payments by a discharged debtor. It has always been considered moral to repay one's debts, even if the legal obligation to do so has been extinguished by bankruptcy. By recommending this change, we are moving conduct which has historically been regarded as highly moral, into the criminal sphere. We are doing so despite any evidence that there is a problem in Canada, and without any statistical base. We are targeting all creditors, despite the alleged future abuse apparently coming from only one kind of creditor, the finance or credit industry. In our focus against the credit industry on this point, we have not considered any of the myriad situations outside of that setting where it may be in the debtor's interest to make a voluntary payment as a condition of obtaining future service (ie a dentist, a grocer, the phone company to obtain continued use of a desired telephone number, a professional to preserve a desired professional relationship, a friend to preserve a desired social relationship). There are many other examples. We will be criminalizing all of this conduct. Voluntary, consensual post-bankruptcy conduct will now be under "big brother's" control, through the Official Receiver's office or the court. We will be bringing the BIA into disrepute with this significant departure from generally understood morality by criminalizing voluntary ethically-based conduct between consenting adults. By forcing creditors to reject money that is voluntarily offered to them by a discharged bankrupt, on pain of criminal prosecution, we are imposing an unrealistic standard on Canadians. We have not investigated the less intrusive alternatives (for example, prescribing post-bankruptcy solicitation to repay a discharged debt, as in the U.S.; or implementing specific debtor education or counselling processes regarding reaffirmation). Given that this change is so remarkable and so fundamental, one would expect studies, or at least significant anecdotal evidence. Instead, the anecdotal evidence suggests that the abuse will actually be prevented by other proposals the PITF is putting forward, such as voiding non-purchase money security against exempt assets, eliminating implied reaffirmations, and voiding "ipso facto" clauses that trigger automatic default in consumer security agreements upon bankruptcy. Unlike the reaffirmation proposal, these proposals elsewhere in our report do not force us to reverse the ethical underpinnings of our law, nor to limit the individual autonomy of Canadians. They are both preferable, and sufficient, based on the evidence and good policy. If, as some maintain, Recommendation (d) is required to properly implement the other components of our reaffirmation recommendation, then given the comments above, there is insufficient benefit, evidence, or justification for the recommendation as a whole to warrant regulating voluntary reaffirmations at all.

³² The bankrupt will be able to retain the asset but will not be liable on the related personal covenant, which will have been released upon the discharge from bankruptcy.

³³ The Official Receiver may elect to refer these decisions to the court, as is allowed when the Official Receiver is asked to approve reaffirmation agreements of secured debts that differ from those allowed above. See paragraph 10 of the discussion of reaffirmation agreements involving secured assets.

³⁴ (1997), 49 C.B.R. (3d) 103 (Ont. Ct.).

³⁵ (1998), 5 C.B.R. (4^th) 277 (Alta. Q.B.).

³⁶ International Harvester Company of Canada, Limited v. Zarbok, [1918] 3 W.W.R. 38 (Sask. K.B.); New Zealand Loan & Mercantile Agency Co. v. Morrison, [1898] A.C. 349, 359; Cheshire and North, Private International Law (11th Ed., 1987, London, Butterworths) pp. 920 ­ 22; E. Sykes and M. Pryles, Australian Private International Law (2d Ed., 1987, The Law Book Company Ltd.), p. 740.

³⁷ Bank of Travancore, Ltd. v. Dhrit Ram (1941), 69 L.R. 1 (J.C.P.C., on appeal from India). Note an important exception to this rule: If the Canadian creditor has participated in ("attorned" to) the foreign bankruptcy proceeding, perhaps by submitting a proof of claim, that creditor will be bound, in Canada, by the foreign bankruptcy discharge.

³⁸ Marine Trust Company v. Weinig, [1935] O.W.N. 150, 16 C.B.R. 304 (S.C.): The American bankruptcy of the American defendant was held not to bar an Ontario plaintiff's action against him in Ontario on a promissory note, even though the note was made in New York, payable there, the plaintiff had an office there, the defendant resided there at the time of signing, and the plaintiff had proven its claim in the defendant's American bankruptcy. Gibbs & Sons v. La Société Industrielle et Commerciale des Métaux (1890), 25 Q.B.D. 399 (C.A.): The English Court of Appeal held that a French company could be sued in England in respect of a contract "made and to be performed in England", despite the fact that the defendants had undergone a judicial liquidation in France, the country of incorporation. English common law recognized the French liquidation, but not the effect of a French discharge on an "English" contract.

³⁹ Re Bialek (1994), 18 O.R. (3d) 462, 25 C.B.R. (3d) 271 (Gen. Div.). See also the useful discussion on this topic in A. Bohémier, "International Bankruptcy" (1990), 50 Revue du Barreau 3.

⁴⁰ Morguard Investments Ltd. v. De Savoye, [1990] 3 S.C.R. 1077, 76 D.L.R. (4^th) 256 (S.C.C.).

⁴¹ See, for example, Andrew Grossman, Conflict of laws in the discharge of debts in bankruptcy, INSOL International Insolvency Review, 1996.

⁴² Holt Cargo Systems Inc. v. ABC Containerline N.V. (Trustee of) (2001), 207 D.L.R. (4^th) 577, 30 C.B.R. (4^th) 6 (S.C.C.).

⁴³ The need for reform in this area has been recognized in a recent report issued by Insol International. Its Consumer Debt Report issued in May 2001, incorporates as Recommendation 4: "Ensure that consumer debtor insolvency laws are mutually recognized in other jurisdictions and aim at standardization and uniformity."

Chapter 3

Structural Recommendations for the Insolvency System

This chapter presents the recommendations of the Task Force that relate to the structure of the Canadian insolvency system. Procedural recommendations are presented in Chapters 4 and 5. In the first part of the chapter, important changes to the BIA are discussed. These include, for example, clarifying the distinction between income and assets in the BIA and redefining the criteria for defining a person as a "consumer debtor." The second part of the chapter recommends relatively small, but nonetheless important, wording changes to various provisions of the BIA. Other recommendations update the BIA by recognizing modern practices.

These recommendations deal with situations that arise at the beginning of the insolvency process ­ the selection of the trustee, the voting rights of non-arms' length creditors and the calling of creditors' meeting ­ and with those that arise in connection with the discharge of certain kinds of debts ­ including debts incurred to acquire good or services fraudulently and non-dischargeable debts that might inadvertently be discharged in consumer proposals.

I. The Treatment of Income

Background

In bankruptcy, not all of the financial resources of the bankrupt are treated equally. Section 67 defines the assets that are available to the trustee for distribution among creditors.⁴⁴ Broadly speaking, these assets include all of the bankrupt's non-exempt property that is acquired up to the date of the bankrupt's discharge. Trustees take control of the assets defined by Section 67 and use them to pay administrative costs and to pay creditors.

Section 68, however, requires that some of the assets defined by Section 67 be categorized as income and treated differently than other assets. There are so many kinds of assets that might be considered as income that it is not feasible to set out how each should be classified. Based on previous jurisprudence, however, the Task Force believes that income has three broad and generic characteristics: income is earned through individual activity in the labour market, is generally intended to meet current consumption needs and is generally received on a periodic basis. This characterization of income is similar to the meaning of income in the Income Tax Act. For example, wages and salaries are clearly income. So are lost income awards which derive from wages. Sales commissions and professional earnings are also income, even though they might not be received on a periodic basis. On the other hand, lottery winnings and inheritances do not represent income because they are not the result of labour market activity.

The assets defined in Section 67 are sometimes called the property of the bankrupt; Section 68 then defines some of those assets as income. That is, the income of a bankrupt is a subset of the bankrupt's assets. If an asset falls within Section 68, the trustee must follow a specified set of procedures before taking control of all or part of it for distribution to creditors. The essence of this procedure is to subject the bankrupt's income to a needs analysis before the bankrupt is deprived of any part of it.

The reason for defining a special set of assets as income is that in keeping with the rehabilitative goals of bankruptcy policy, bankrupts must be able to maintain a reasonable standard of living while they are bankrupt. It is for that reason that the BIA requires that trustees consider the "family responsibilities and personal situation of the bankrupt" before claiming any part of income on behalf of creditors. Such a consideration clearly requires an analysis of the needs of the bankrupt. In most cases, this analysis is easily accomplished by applying the Superintendent's surplus income standards. These standards, contained in Directive No. 11R, essentially allow bankrupts to keep all income up to Statistics Canada's Low Income Cut-offs (LICO) and 50% of any amount over the LICO threshold. The amounts that are paid to the trustee for distribution among the creditors are called "payments from surplus income" and are a subset of income itself.

Assets defined as available to the trustee under Section 67 that are not defined as income can be claimed by the trustee in their entirety without the need to consider the debtor's family responsibilities or personal situation. These assets ­ a pre-bankruptcy savings account would be an example ­ "vest absolutely" in the trustee who distributes them to creditors in accordance with the provisions of the BIA.

Prior to 1997, Section 68 defined income as "salary, wages or other remuneration from a person employing the bankrupt." This wording was changed in 1997 so that the income that would be subject to the Section 68 needs test consisted of "all revenues of a bankrupt of whatever nature or source."

Until recently, the generally accepted interpretation of this provision was that it related only to income that was both earned and received during bankruptcy. It was understood that any income that was earned before the date when the debtor filed an assignment in bankruptcy, and received after the date of assignment, vested absolutely in the trustee and was not part of income for the purposes of the Section 68 needs analysis. This understanding was shaken by two Supreme Court of Canada cases which suggested that it is the characterization of an asset as "income", rather than the timing of its acquisition, that determines whether the asset falls within Section 68.⁴⁵ Subsequent jurisprudence, following the Supreme Court's lead, has extended the applicability of the Section 68 needs analysis to income entitlements arising from pre-bankruptcy events. Examples of such income entitlements include personal injury awards for lost income, pay equity settlements and wrongful dismissal damages.⁴⁶ In such cases, the events that gave rise to the income entitlements occurred before the filing of the bankruptcy but the income itself was received after the filing of the bankruptcy or after the discharge of the bankrupt. The effect of this case law is to classify such non-periodic, lump-sum pre-bankruptcy entitlements, received after bankruptcy, as income that falls within Section 68.

The Task Force considered various methods of addressing the problems that have been raised, or exacerbated, by the recent jurisprudence. While the major thrust of this recommendation is to recommend that the definition of income be clarified in the BIA, several other issues are also relevant.

New surplus income standards may be necessary: Income must be divided between bankrupts and creditors so that bankrupts can maintain a reasonable standard of living. If that income takes the form of periodic remuneration, the Superintendent's surplus income standards give a simple method for making the division between bankrupts and creditors. The recent judicial interpretations of Section 68, however, require trustees to decide how to divide lump sum entitlements, such as lost income awards, between bankrupts and their creditors. There are no standards, however, that tell trustees how to allocate such lump sum entitlements and new standards may be necessary.

Invoking Section 68 after the bankrupt's discharge: The case law suggests that Section 68 may be invoked after the bankrupt's discharge, but the trustee's specific rights to do so are not clearly spelled out.

Income preservation orders:  The courts have suggested that interim orders for income preservation may be obtained, but once again this cannot be found in Section 68.

Recommendation

The Task Force recommends the following changes to Section 68:

1. Definition of total income:  Total income should be defined to specifically include revenues earned at any time before the date of discharge (including revenue earned before the date of bankruptcy) that have not been received before the date of bankruptcy.
   
   Under this recommendation, the following are examples of the kinds of income that will fall within Section 68:
   • income earned during bankruptcy, whenever received, even if received after discharge;
   • income earned before bankruptcy if received during bankruptcy or after discharge;
   • lost income awards in which the "lost income" relates to the period up to and including, but not after, the date of discharge.
   
   The following kinds of income are examples of the kinds of income that will not be part of income for the purposes of Section 68:
   
   • income earned and received before bankruptcy;
   • lost income awards in which the "lost income" relates to the period after the date of discharge.
     
     
2. Presumption re pre-bankruptcy income:  Even though pre-bankruptcy income entitlements received after the date of bankruptcy would now fall under the purview of Section 68, the Task Force considers it appropriate that Section 68 incorporate an express presumption dealing with such entitlements. In particular, such income should presumptively accrue in full to the trustee for distribution to creditors, except to the extent that such income is required to meet the current needs of bankrupts and their families. This opinion is in accord with the comments of Registrar Hill in a recent case on this point:⁴⁷
   
   I see no reason why, absent the considerations outlined below, income "earned" prior to bankruptcy but received after that date should not be payable in its entirety to the estate under Section 68. Usually that income will have been earned at a time when the bankrupt was incurring or had existing obligations to his or her creditors. Those obligations would normally have been met from income earned and I see no reason why an intervening assignment in bankruptcy should result in a windfall to a bankrupt at the expense of the bankrupt's creditors ... [T]he bankrupt's personal and family situation should be considered, and the bankrupt should be able to retain a sufficient proportion of the income to bring his or her income during the entire course of the bankruptcy up to the amount the trustee would normally allow the bankrupt to retain if the income was available on a periodic basis ... [T]here may be 'special' considerations which might convince the trustee or the court that a departure from these principles is called for. This will likely be very much the exception rather than the rule and I think it unnecessary here to attempt to elaborate.
   
   The presumption that pre-bankruptcy income entitlements received after the date of bankruptcy go to the trustee, subject to a needs analysis, gives full effect to the policy considerations expressed by the Supreme Court of Canada while ensuring that in the majority of cases where the bankrupt's needs are being met out of current income, the benefit of any pre-bankruptcy windfall will accrue to the trustee for the benefit of creditors.
   
   
3. Revised standards:  The Superintendent's standards should be revised to afford greater guidance and standardization on the allocation, as between the bankrupt and the trustee, of lump sum income entitlements. The revised standard should reflect the presumption noted above in regard to pre-bankruptcy income entitlements, and should also address the allocation of other lump sum income receipts.
   
   
4. Treatment of tax refunds:  The Task Force recommends that a specific exception be made to Section 68 to provide that the trustee will acquire as of right, for distribution among creditors, the bankrupt's tax refunds, if any, referable to the two tax returns filed during the year of the bankruptcy, namely the pre-bankruptcy return and the post-bankruptcy return, as well as any tax refund for any prior year.⁴⁸ This recommendation is made in conjunction with the Task Force recommendations regarding trustees' fees. Such refunds, if any, are normally generated through the work and accounting expertise of the trustee.
   
   
5. "Freezing" lump sum entitlements:  The Task Force recommends a new "freezing" procedure that will allow the trustee to meaningfully, expediently and without undue cost, preserve a lump-sum income entitlement pending negotiation or litigation over the bankrupt's entitlement. This will preserve the estate's potential interest, for example, while a personal injury or wrongful dismissal lawsuit is being prosecuted, or where a lump sum commission may later become payable. It is important that this remedy be inexpensive, since experience prior to 1998 showed that if court orders are needed for the Section 68 remedy, the cost of the remedy will normally exceed its benefit. Experience also shows that the bankrupt will not always disclose the existence of such entitlements to the trustee. The Task Force therefore recommends that where the trustee learns that the bankrupt is or may become entitled to non-periodic income, the trustee may at any time before such monies are paid out to the bankrupt, serve upon the payor a Notice of Income Preservation. Service of this notice will stop payment of the lump sum income to the bankrupt, subject to any consent of the parties, mediated resolution, or court order. This will afford to both the bankrupt and the trustee the flexibility either to defer the Section 68 issue until the bankrupt's rights have been determined as against the payor, or to enter into an early agreement to divide the ultimate income entitlement in a pre-determined and agreed manner. Such agreements will ordinarily require inspector approval in the bankruptcy and, in the event of creditor disapproval, would be subject to both mediation and court scrutiny.
   
   
6. Court orders concerning lump sum entitlements: The bankrupt, the payor served with a notice, the trustee or any other interested person should be entitled to apply to the bankruptcy court for an Order:
   • determining what portion, if any, of monies owing or accruing to the bankrupt, or received by the bankrupt after the date of bankruptcy, represents income. For example, an award of damages may in many cases incorporate not only income falling within Section 68, but also other components not within Section 68 such as compensation for pain and suffering, out-of-pocket costs, future care costs, or lost future income pertaining to the post-discharge period;
   • determining what portion of such income is to be paid to or held by the trustee for distribution to creditors, or released to or retained by the bankrupt or any other interested party so entitled (for example, a support claimant or a wage garnishee);
   • granting any interim order by way of preservation of the parties' rights, or alleviating any undue hardship caused by service of the notice, pending determination of the entitlement issues; or
   • directing payment to the trustee of that portion of the total income that is determined to be payable to the trustee for division among creditors.
     
     
7. Post-discharge availability of Section 68:  The trustee should be entitled to exercise Section 68 remedies after the date of the bankrupt's discharge, in regard to income that has been earned before discharge. In many cases entitlement to the income may not yet have been determined by the time of the bankrupt's discharge, or the income may have been concealed from the trustee. This clarification will permit the trustee to realize upon the estate's entitlement to pre-discharge income, if any, without being forced to seek a deferral of the bankrupt's discharge.
   
   
8. Enforcing surplus income obligations against exempt income:  There is an issue that is unrelated to the definition of income, or to its allocation between bankrupts and creditors, that is nonetheless related to the interaction of Sections 67 and 68. Exempt income, such as that resulting from the receipt of a pension, is considered in determining how much surplus income must be contributed to the estate. As Sections 67 and 68 are now written, however, a Section 68 order may be flouted by a bankrupt whose sole income is substantial exempt income such as income from a pension or exempt annuity. This is because Section 67(1)(b) and Section 68(2)(b), taken together, provide that a surplus income payment obligation is not enforceable against exempt assets; and income from an exempt asset is likewise exempt.⁴⁹ The surplus income obligation should be enforceable against exempt income, other than the basic needs exemption in Section 67(1)(b.1). Since the surplus income obligation is calculated based on all such income, there is no reason to preclude enforcement against it. Accordingly, the reference to Section 67(1)(b) should be deleted from Section 68(2)(b).

II. The Definition of Consumer Debtors

Background

Debtors who wish to file a consumer proposal must meet the criteria, set out in Section 66.11 of the BIA, that define a "consumer debtor." A consumer debtor is defined in Section 66.11 of the BIA as a "natural person who is bankrupt or insolvent and whose aggregate debts, excluding any debts secured by the person's principal residence, do not exceed seventy-five thousand dollars or such other maximum as prescribed." When this definition was written as part of the BIA reforms in 1992, it was anticipated that the administration of proposals by consumer debtors would be relatively straightforward, and would not necessarily warrant the more robust and costly option provided for commercial reorganizations under Part III, Division I of the BIA. There is no restriction in the definition in Section 66.11 regarding the nature of the debts; the liabilities can be business-related or consumer debts.

The Task Force feels that the current definition of consumer debtor in the BIA is too restrictive. The $75,000 liability ceiling drives many self-employed individuals and higher-income debtors into the more costly Division I proposal solution. The Task Force does not believe that the more complex Division I process is justified or necessary for a great many of these debtors. In many cases, Division I proposals by individuals differ from consumer proposals only in the magnitude of the periodic contributions made or in the total liabilities involved; these differences do not warrant a more complicated process. Heavier Division I administration costs reduce the return to creditors. Further, individuals who file a proposal under Division I must anticipate a very different consequence in the event that they are unable to complete the proposal. The failure of Division I proposal automatically results in a bankruptcy, while there is no such deemed bankruptcy when a consumer proposal fails.⁵⁰

In considering how to revise the definition of a consumer debtor in Section 66.11 in order to expand access to consumer proposals, the Task Force was clear that it wanted no ceiling on the amount of the individual's non-business indebtedness. It shouldn't matter whether the person had $2,000 or $20 million in non-business debt. On the other hand, the Task Force felt that if the business-related debts of an individual were sufficiently large, the Division I process should be utilized.

Recommendation

The Task Force recommends the adoption of a new definition of consumer debtor in Section 66.11 of the BIA. This definition will be relevant for debtors considering filing a consumer proposal. A consumer debtor would be defined as:

1. a natural person;
2. bankrupt or insolvent;
3. an individual whose indebtedness might include debts defined by law as liability (including Directors) and/or debts of a guarantor;
4. an individual whose indebtedness, consequent of commercial or self-employed activity, does not exceed $100,000 or such other amount as is prescribed.

In this definition of a consumer debtor, there is no ceiling on the amount of non-business indebtedness and no limit on the debtor's assets.

III. Voluntary Agreements to Make Post-Discharge Payments

Background

Until recently, it had been common practice for debtors and their trustees to enter into agreements, when the bankruptcies were filed, that would see the soon-to-be-bankrupt debtors make payments to their estates. These payments would then be distributed in accordance with the provisions of the BIA. Except in specific circumstances, the first claim under those provisions is for the payment of trustees' fees and other administrative costs. The payments set out in the agreement could extend into the period after the bankrupts' discharge. The 1999 Berthelette decision, however, held that such agreements were not enforceable. This ruling limited the flexibility of payment arrangements between trustees and bankrupts and therefore reduced the certainty that trustees would receive fair and adequate compensation for the services they provide.

In response to the Berthelette decision, and also in response to other decisions that seemed likely to reduce the size of the pool of funds available to both creditors and trustees, the Task Force examined several options for increasing the likelihood that trustees would be adequately paid.

There was some initial support for an across-the-board lengthening of the period before a bankrupt would be eligible for a discharge. The proponents of this view noted that not only would this provide a longer time frame for the bankrupt to contribute to the estate, but that it would also allow a more meaningful rehabilitation of the debtor. However, the Task Force agreed unanimously that the nine-month period currently in place for first-time bankrupts to be eligible for discharge should be retained. There was consensus, as well, that a bankrupt's application for a discharge should not be opposed solely because of a shortfall either in trustee fees or in expenses to cover the administration of the bankruptcy.

The Task Force also considered whether a guarantee of compensation for services would be appropriate and concluded that what it sought was a greater probability of payment, rather than a guarantee of payment.

Recommendation

The Task Force recommends, in light of the above considerations, that the BIA allow trustees to enter into voluntary payment agreements with bankrupts who do not have surplus income. There should be a ceiling on the payments made through these voluntary agreements, a ceiling related to the sum of trustees' fees and other administrative costs of the bankruptcy. If the receipts of the estate exceed this province-specific amount, a dividend to creditors is generated. The Task Force recommends that the ceiling on the amount that can be collected through voluntary agreements between bankrupts and trustees be set at the maximum level of estate receipts possible without generating dividends to creditors.⁵¹ In determining the post-discharge payments, any other assets realized must be taken into account in setting the maximum. For example, if the trustee has been able to realize $1,000, during the bankruptcy, from the bankrupts' assets, the maximum amount that could be collected through the voluntary agreement would be the ceiling minus the $1,000. The bankrupt would receive an automatic discharge at the end of nine months unless the discharge is opposed.

A limit as to the maximum length of time for which additional payments would be required would be set out in the BIA. The Task Force recommends that the legislation provide that voluntary payments occur for no more than 12 months after discharge. There would also be a requirement that any such agreement entered into by trustees and bankrupts should not cause undue hardship to the bankrupts.

In the event that bankrupts choose not to sign a voluntary agreement, trustees would have the option of opposing their discharge, and the appropriate order would be made by the court. Task Force members who were trustees stated that the vast majority of bankrupts want to pay trustees for their services, and that most would honour their agreements even if they had already received a discharge. If discharged bankrupts who have made voluntary agreements with a trustee do not make the specified payments, the trustee would decide whether or not to pursue the bankrupt for the payments, based on the same factors that any creditor would consider.

While there was general consensus on the above approach, one Task Force member did not support the recommendations. The member believes that a fresh start will not be afforded to newly-discharged bankrupts who have agreed to make post-discharge payments.

IV. Mandatory Payments for 21 Months for Those with Surplus Income

Background

Since 1992, Canadian debtors have had the right to choose between filing a consumer proposal and filing for bankruptcy. As a result of the 1997 amendments to the BIA, bankrupts who have "surplus income" during their bankruptcy have been required to contribute a portion of this income to their estate while they are bankrupt. Trustees calculate the amount of surplus income a debtor may have with reference to standards published by the Superintendent of Bankruptcy, taking into account the personal and family situation of the bankrupt. The Superintendent's standards are in turn based on the Low Income Cut Off (LICO) measures produced annually by Statistics Canada.⁵²

In Canada, approximately 15% of bankrupts have what is considered surplus income and are required to make additional payments. There are similar but not identical requirements in many other countries, including Australia and England. In addition, the proposed U.S. bankruptcy reform bill would mandate "means testing" for debtors considering bankruptcy. The proposed U.S. legislation would require that the existence of surplus income be a factor in determining which process ­ Chapter 7 or Chapter 13 ­ debtors use to deal with their financial difficulties. Those deemed to have sufficient income would be prohibited from filing under Chapter 7, and required to make additional payments to their estates. The U.S. proposals concerning means testing are highly controversial, however, and have not yet become law.

Another amendment to the BIA in 1998 gave trustees the power to recommend terms of discharge that require the payment of up to 12 additional monthly contributions for bankrupts who have surplus income. The trustee makes this recommendation in the Section 170 report on the application for discharge and bases the recommendation on whether the bankrupt has fulfilled the surplus income obligations during the bankruptcy, on the total amount paid to the estate in relation to the total liabilities, and on whether the debtor could have made a viable proposal instead of filing for bankruptcy.⁵³

Trustees have not applied this section in a uniform way. Terms of discharge, as of the beginning of 2001, were being set in only about 7% of those estates where surplus income existed. The Task Force believes that the main problem with the current situation is its discretionary nature. The discretion afforded to trustees allows debtors to "shop" for a trustee who will not require any additional payments after nine months. Not surprisingly, bankrupts are more likely to select a trustee who will be lenient with regard to requiring additional surplus income payments to the estate. Trustees who try to increase contributions toward the estate, and therefore toward debt repayment, by setting more demanding terms risk loss of business to other trustees.

The Task Force agreed, in principle, that bankrupts with the financial means to contribute more to their estates should indeed do so, and that additional payments should be made in almost all cases for a standard 12 months. The Task Force debated whether surplus income bankrupts should receive a discharge after nine months despite the obligation to make further payments to the estate, or whether their discharge should be, as is currently the case, conditional upon payment of any trustee-recommended additional payments. Increasing the usual length of time before discharge, from nine months to 21 months, for bankrupts with surplus income would, in effect, emphasize the different level of obligation required of bankrupts with relatively high incomes. The debate within the Task Force centered on whether it was appropriate to hold bankrupts with no surplus income and those with surplus income to different obligations. The majority view was that such a distinction was appropriate.

Because the income of a bankrupt can vary substantially over the course of the bankruptcy, another issue concerned the point in time at which the amount of the extra payments would be determined. One option was to set the amount at the time when the trustee filed the Section 170 report. Another option was to specify that the amount of the additional payments should be the average amount paid from surplus income during the bankruptcy. The Task Force decided to recommend that the amount be based on a surplus income calculation made at the time when the Section 170 report is filed. A concern related to this issue was that bankrupts would not know, at the time when they filed for bankruptcy, if they would be required to make the additional payments.

The Task Force discussed at length whether a trustee should have the discretion to change either the number of additional months required or the amount of the payment. The consensus was that there should be a presumption of 12 additional monthly payments, although there may be exceptional circumstances in which further payments would impose real hardship on the debtor. It was therefore recommended that the determination of number and amount of additional payments be made in accordance with a directive to be developed by the Superintendent, rather than being specified in the BIA itself.

Recommendation

The Task Force proposes that trustees recommend 12 additional months of surplus income payments be made to the estate before bankrupts with surplus income are discharged. This recommendation would affect only the roughly 15% of bankrupts who have surplus income, and would result, in most cases, in a 21 month duration of such bankruptcies. Mediation and, should that fail, court determination could be used to resolve any disputes that might arise.

The criteria used to determine the number and amounts of additional payments will be established by Superintendent's directive. This directive should allow trustees a limited amount of discretion to deal with special cases in which the extra payments would create severe hardship for the bankrupts in question.

The amount of the monthly payment should be fixed at the time when the trustees file the Section 170 report. At the time when surplus income debtors are considering filing for bankruptcy, trustees must explain the probability that 12 extra payments will be required before a discharge is received.

V. Debt Forgiveness by Canada Customs and Revenue Agency (CCRA)

Background

When individuals file bankruptcies, a "year-end date" is established for income tax purposes as the day of the bankruptcy. Any indebtedness to ccra is determined by what is owed on this date. This indebtedness is usually then discharged along with the bankrupt's other dischargeable debts.

When individuals file proposals, however, there is no analogous year-end date. Consequently, ccra takes the position that any debt owed for income tax between the beginning of the calendar year and the date of filing of the proposal is not a pre-proposal debt that can be compromised in the proposal but is a post-proposal debt which the debtor cannot include in the proposal and which must therefore be repaid in full. As a result, for individuals who have income tax debts, it may be more advantageous to file a bankruptcy than a proposal. Logic would dictate that provisions of the Income Tax Act should not encourage bankruptcies over proposals.

Bankruptcies and consumer proposals both provide a form of debt forgiveness. Section 80 of the Income Tax Act provides that where a business debt is forgiven, a portion of the forgiven debt, as determined by formula, will be treated as income and thus will be subject to taxation. These provisions do not apply in the case of bankruptcies but do apply with respect to proposals under the BIA. As a consequence, small business owners may find it more advantageous to file a bankruptcy than a proposal. Once again, the Task Force believes that the provisions of the Income Tax Act should not encourage bankruptcies over proposals.

Recommendation

For consumer proposals, the Task Force recommends that the year-end date for income tax purposes for individuals be the date when the proposal is filed with the Official Receiver. For commercial proposals, filed under Division I of the BIA, the year-end date should be the earlier of (a) the date of filing of the notice of intention to file a proposal and (b) the date of filing of the proposal with the Official Receiver.

Further, the Task Force recommends that the "debt forgiveness" provisions found in section 80 of the Income Tax Act should not be applicable to individuals who file proposals under the BIA.

VI. Credit Reporting

Background

Canada is home to two major credit reporting agencies, Equifax Canada and Trans-Union of Canada. These agencies, also known as credit bureaus or credit scoring agencies, assist credit grantors in assessing the degree of risk undertaken in the granting of credit by providing background reports on credit applicants.

The fact that a debtor goes into bankruptcy is, of course, noted by the credit agencies. Uniformly, bankrupts are assigned the lowest credit rating of r-9, a rating that may prevent them from being granted credit. Even though an r-9 rating seriously affects the possibility of obtaining credit, it is important to note that the decision to grant credit always remains that of the credit grantor. The adverse score remains on the credit applicant's record for a period of six years after the filing of a bankruptcy.⁵⁴

When consumer proposals were first introduced, debtors who made consumer proposals were assigned an r-9 rating for three years after successful completion of the proposal. The hope, at that time, was that the r-9 rating would generally prevail for four years because it was thought that proposals would last for no more than one year. Now, however, proposals very frequently last for more than one year and often last for three years. In such cases, those who make successful proposals and who, accordingly, pay more to their creditors than they would have paid had they simply gone into bankruptcy, are penalized.

For that reason, current credit rating practices yield a result that is directly contrary to the policy choice of Parliament to encourage proposals by personal debtors. The adverse credit scores of individuals who have made proposals will almost invariably remain on their credit records longer, and sometimes substantially longer, than they remain on the records of those who choose bankruptcy.

This anomaly served as the subject of some discussion with one of the major credit rating agencies, but no conclusions were reached.

Recommendation

Formal discussions should be initiated at this time between the Office of the Superintendent of Bankruptcy and the credit scoring agencies (and those who use their services) with a view to establishing a protocol that would ensure that debtors who make successful proposals have adverse credit ratings for a shorter time than debtors who go into bankruptcy.

If such discussions do not result in a consensual arrangement, legislation should provide that a credit scoring agency must limit the maintenance of an adverse credit score of an individual who makes a successful proposal to an aggregate of no more than two-thirds of the time that a bankrupt has an R-9 rating. If the consumer proposal is not performed in accordance with its terms, the adverse credit score would remain in force for as long as it would have been in force had there been a bankruptcy.

VII. Selection of the Bankruptcy Trustee

Background

Section 49(4) of the BIA states that it is the Official Receiver who selects a trustee to administer a bankruptcy, and that, as far as possible, this selection should be made with reference to the wishes of the most interested creditors. Section 49(4) does not, however, reflect current practice. In the vast majority of cases, debtors choose a trustee to administer their bankruptcy. There are occasions where the Official Receiver may determine that a different trustee should be appointed, but these instances are relatively rare.

Recommendation

Section 49(4) of the BIA should be amended to reflect the reality of the current trustee selection process. The Task Force suggests the following wording:

Where the Official Receiver files the assignment made under subsection (1), he shall appoint as trustee either the trustee proposed by the debtor or a licensed trustee whom he shall, as far as possible, select by reference to the wishes of the most interested creditors if ascertainable at the time, and the Official Receiver shall complete the assignment by inserting therein as grantee the name of the trustee.

VIII. Non-Arm's Length Creditor Voting Rights

Background

Section 109(6) of the BIA restricts voting rights of creditors who have been dealing with the debtor at non-arm's length in the year prior to the initial bankruptcy event. Relatives of the debtors are often among the non-arm's length creditors. At the discretion of the court, the rights of non-arm's length creditors may be restored if they represent more than 80% of the value of the total claims. The intent of these provisions is to thwart any collusion between the debtor and a non-arm's length creditor which would frustrate the interests of other creditors or confer an unfair advantage upon a relative or other non-arms length party.

Discussion

Section 109(6) is based on the assumption that non-arm's length parties will be more likely to practice collusion than arms-length creditors. It does not, however, take into account that non-arm's length creditors include relatives of the debtor who, while related to the bankrupt according to the definition in Section 4 of the BIA, are very unlikely to collude with the bankrupt. Such would be the case, for example, when spouses are in litigation, and where the bankruptcy may have been expressly filed to defeat a matrimonial claim. If the couple have not divorced, the non-bankrupt spouse will not be permitted to vote as a creditor if the claim is less than 80% of the total claims. That prohibition applies to ex-spouses for one full year after a divorce is finalized. This may leave non-bankrupt spouses powerless to act even where they are major creditors.

Recommendation

The Task Force recommends two amendments of the BIA:

1. Remove the 80% requirement in Section 109(6) so that with leave of the court, a non-arm's-length party can vote at a creditors' meeting.
2. Amend Section 113(3) to permit non-arms length parties, including related parties, to appoint inspectors with leave of the court.

IX. Automatic Discharge for Second Time Bankrupts

Background

In 1992, the BIA was amended to provide for an automatic discharge for first-time bankrupts. Prior to these changes, all individual bankrupts were required to appear before the court in order to obtain a discharge. The introduction of the automatic discharge resulted in significant relief for bankruptcy courts, which then dealt with the discharges of first-time bankrupts only when an opposition was filed.

Roughly 10% of individuals filing a bankruptcy assignment have been bankrupt on a previous occasion. These individuals must appear before the court in all cases in order to seek a discharge, regardless of whether an opposition has been filed.

Discussion

While introducing automatic discharges for first-time bankrupts provided some respite for overburdened provincial bankruptcy courts, the workload of the courts remains high in many areas. In some areas, lengthy delays for hearing dates are not uncommon. Any future increase in the number of bankruptcies would make it even more difficult for the courts to deal with discharges of bankrupts who are not eligible for an automatic discharge.

These delays should be avoided because they can result in uneven treatment of debtors in terms of the length of time they must wait before they can seek a discharge from their debts before the court. For that reason, the Task Force supports additional relief, in the form of an automatic discharge for second-time bankrupts.

Recommendation

The Task Force recommends that the BIA be amended to provide that second time bankrupts be eligible for an automatic discharge 24 months after filing, subject to an opposition being filed. This will ensure that there is still a discernible and transparent consequence to individuals using the bankruptcy process for a second time. It will provide for greater consistency of sanction for second-time bankrupts where no opposition to discharge is filed. Current rights to oppose a bankrupt's discharge in cases of abuse will be retained, and, when exercised, will prompt a court determination of the matter. In cases of hardship, the bankrupt would have the ability to apply to the court to vary the duration of the bankruptcy. It is further recommended that for third or subsequent bankruptcies, the court be asked to deal with these discharges on a case by case basis.

X. Modernizing Sections 178(1)(d) and 178(1)(e)

Background

Section 178(1)(d) and 178(1)(e) of the BIA deal with debts that are not released by an order of discharge. These debts include "any debt or liability for obtaining property by false pretences or fraudulent misrepresentation." The Task Force addressed three issues related to the modernization of these parts of the BIA.

The first issue involving these sections is that some creditors have attempted to prevent their claims from being discharged in a bankruptcy by taking the position that an allegation of fraud is all that is required to invoke the section. In these cases, there has been no determination in a court of law that a fraud has indeed occurred. A second issue is that Section 178(1)(e) currently applies only to debts for property obtained through false pretences or fraudulent misrepresentation. Case law has excluded from the ambit of this section, debts for services obtained by such improper means.⁵⁵ Finally, theft by a fiduciary is covered by Section 178(1)(d) but theft by a stranger is not.

Discussion

On the first issue, the Task Force believes that an allegation of fraud, as opposed to court determination of fraud, is not enough to bring a debt within the ambit of exceptions to discharge under Section 178.

On the second issue, the Task Force believes that debts for fraudulently obtained services should also be covered by Section 178(1)(e). The current limitation to property is a relic of the 19^th and 20^th century focus on trade in goods. With the growing importance of services in its economy, Canada ought to modernize such outmoded provisions to reflect the changed nature of commerce. Defrauding an internet service provider, or a consultant, ought to be treated equally under the BIA as fraud against a supplier of goods. This change can best be accomplished by deleting the existing restriction to "property" in Section 178(1)(e).

On the third issue, the Task Force felt that there was no policy reason to include only theft by a fiduciary in Section 178(1)(d). All theft should be included. The Task Force then considered the issue of whether other criminal offences should be included in this list of exemptions from discharge. For example, some might argue that arson, or the intentional destruction of property, should be on this list.⁵⁶ Since theft is closely related to fraud, however, the Task Force does not believe that its inclusion implies that all other offences should also be included. The other offences can always be made the subject of a compensation or restitution order.

Recommendation

a) The Task Force recommends that Section 178 of the BIA be amended to clarify that debts referred to in Section 178(1)(d) or (1)(e) require a court finding of fraud in order to survive discharge. This court determination can occur at any time. For example, it may be made post-discharge. The Task Force also recommends that the bankruptcy courts be given jurisdiction via the BIA to make these determinations, although a finding of fraud from another court would be sufficient to determine that a debt is not released.

b) Section 178(1)(e) should be amended to exclude from discharge any debt or liability incurred by means of false pretences, fraudulent misrepresentation or theft. This change in wording addresses both the second and third issues discussed above.

XI. Inadvertent Discharge of Section 178 Claims in Proposals

Background

There is a technical problem with Section 178 in connection with the discharge of support arrears and other Section 178 claims in proposals.⁵⁷ The problem has become more significant with the increasing number of proposals along with the increasing participation, since 1997, of support claimants with provable arrears.

Section 62(2) of the BIA provides that:

A [commercial] proposal accepted by the creditors and approved by the court is binding on creditors in respect of (a) all unsecured claims ... but does not release the insolvent person from the debts and liabilities referred to in Section 178, unless the creditor assents thereto.

This section says that if the proposal is accepted and approved in accordance with the normal statutory requirements, all unsecured provable claims are released, except those referred to in Section 178. However, even Section 178 claims are released by the proposal if "the creditor assents thereto." Thus a support claimant's "assent thereto" will extinguish all of the pre-proposal support arrears other than those paid out through the proposal. A similarly worded provision, Section 66.28(2), applies to consumer proposals.

Consider the following example. Suppose that a spouse holding a provable claim of $25,000 for child support arrears votes in favour of a proposal that will pay 20% of the debts owing and suppose the proposal is subsequently approved. Both Sections 62(2) and 66.28(2) might appear to provide that the balance of her support arrears are released if she "assents" to the proposal. This she has clearly done. Thus, when the support claimant attempts to enforce the $20,000 outstanding balance of the support arrears, after receiving the dividend from the proposal, she will be met with the argument that the balance has been released by her act of assenting to the proposal. The same result applies to a creditor holding a claim for fraud or misrepresentation, or a restitution order, or damages for intentional bodily harm.

What does "assent" mean? One might expect that the courts would interpret this provision to require that for pre-proposal support arrears to be extinguished, the claimant must specifically agree to waive Section 178 protection. But that is not how the courts have historically interpreted the phrase. Moreover, Houlden & Morawetz state: "The debtor is not however, released from the debts and liabilities referred to in Section 178 unless such creditors assent to the proposal."⁵⁸ Under British case law, "assent" means either voting in favour of the proposal, or perhaps participating in its benefits, or perhaps actively procuring its acceptance.⁵⁹ Support creditors who co-operate by doing anything more than merely filing a proof of claim in the proposal proceeding, risk having the unpaid balance of their pre-proposal support arrears extinguished by Sections 62(2) or 66.28(2).

The harm this may cause is substantial when one considers that children are involved. It was definitely not the intention of the 1997 BIA support amendments to prohibit or deter support claimants from participating in bankruptcy proposals. Well-advised support creditors will, out of caution, not vote in favour of otherwise proper proposals, while poorly advised support creditors, or those without representation, may vote in favour of such a proposal and thereby prejudice both themselves and their children. The trustee cannot generally be assumed to know enough about these little-known provisions to warn the unknowing support claimant. This problem will become more acute if consumer proposals become more easily available, because of the normal absence of any creditors meeting.

Because of the important public policy reasons that underlie the Section 178 exceptions to discharge, and particularly those relating to support, it is essential to protect such creditors from unknowing or inadvertent extinction of their claims through otherwise responsible conduct. Spousal support claimants holding arrears claims are often poor and self-represented. They are entitled to the greatest degree of procedural protection. These provisions are a trap for them, and a negligence trap for their legal advisers and any trustee who erroneously encourages such a creditor to approve the proposal. Creditors who have been defrauded, while not as vulnerable a group, also deserve protection against unwitting extinction of their debt, as do victims of assault. Other Section 178 creditors, such as student loan agencies and the Crown, can be presumed to have the sophistication to avoid this trap.

Recommendation

For the above reasons, it is appropriate to revise and clarify these statutory provisions to provide that Section 178 protection is lost in a proposal only if the creditor votes in favour of a proposal which specifically and explicitly provides for the compromise of Section 178 claims. There ought to be no opportunity to accomplish this result through inadvertence or an ambiguously worded proposal. Wording to accomplish this objective might look like this:

62(2) A proposal accepted by the creditors and approved by the court is binding on creditors in respect of (a) all unsecured claims.

62(2.1) Notwithstanding Section 62(2), a proposal accepted by the creditors and approved by the court does not release the insolvent person from any debt or liability referred to in Section 178(1), unless the proposal specifically and explicitly provides for the compromise of claims falling within Section 178(1) and such creditor has voted to approve the proposal.

Alternatively, a notice provision could be inserted which protects only those thought to be vulnerable Section 178 creditors. Notice would be required in any proposal which purports to compromise such claims. Such a provision could look like this:

62(2.1) Notwithstanding Section 62(2), a proposal accepted by the creditors and approved by the court does not release the insolvent person from any debt or liability referred to in Section 178(1)(a.1), (b) or (c), unless such creditor has voted to approve the proposal and the proposal contains the following provision: "This proposal will compromise all provable claims for support, alimony or maintenance [and, as the case may be, all provable claims for intentionally inflicted bodily harm and sexual assault] if the creditor holding such a claim votes in favour of the proposal."

Whichever option is employed, an analogous provision would also be required for consumer proposals as Section 66.28(2.1).

XII. Ipso Facto Clauses and Consumer Bankruptcies

It is common for consumer agreements with some creditors, especially banks and utility companies, to contain a provision entitling the non-consumer party to terminate the agreement immediately if the consumer goes bankrupt, even though the consumer may not be in default of the agreement at the time of bankruptcy.

Such clauses, referred to by lawyers as "ipso facto" clauses, can wreak havoc on the ability of consumers to retain access to essential services and facilities. Consumers remain no less human beings after bankruptcy and still have need for the same access to banking and utility services as before bankruptcy, and should not be deprived of rental property or goods bought on credit simply because they are trying to restructure their financial futures. Nevertheless, Task Force members have found from their own experience that banking services are often terminated, and utility services are sometimes disconnected, as soon as consumers go bankrupt, and that creditors often threaten to repossess goods sold on credit. The recent survey⁶⁰ by ACEF du Nord corroborates these reports.

Section 66.34 of the BIA addresses this problem by nullifying ipso facto clauses with respect to consumer proposals. The section does not, however, affect the non-consumer party's right to terminate the agreement if the agreement is violated after the filing of the consumer proposal. It also entitles the non-consumer party to apply to the bankruptcy court for relief if the debtor's avoidance of the ipso facto clause will cause the applicant undue hardship.

Unfortunately, Section 66.34 does not apply to consumer bankruptcies, unlike its counterpart in Section 365(e) of the U.S. Bankruptcy Code, which applies to all types of insolvency proceedings. The Task Force believes that there are no good reasons why this distinction between consumer proposals and consumer bankruptcies should be maintained in the BIA, and therefore recommend that a provision comparable to Section 66.34 be added in Part III of the BIA. In our view, a suitable location would be in the vicinity of Section 69.3.

⁴⁴ The resources available for distribution among bankrupts' creditors are firstly available to pay for the costs of the administration of the bankruptcy, secondly to make payments to creditors in the bankruptcy according to their priority as set out under Section 136 of the BIA, and then to make payments to all ordinary creditors, on a pro-rata basis.

⁴⁵ Marzetti v. Marzetti, [1994] 2 S.C.R. 765, 5 R.F.L. (4^th) 1, 26 C.B.R. (3d) 161, 169 N.R. 161, 20 Alta. L.R. (3d) 1, [1994] 7 W.W.R. 623 (S.C.C.); Wallace v. United Grain Growers, [1997] 3 S.C.R. 701, 152 D.L.R. (4^th) 1, 3 C.B.R. (4^th) 1, [1999] 4 W.W.R. 86 (S.C.C.).

⁴⁶ BDO Dunwoody Ltd. v. Swanson (1997), 47 C.B.R. (3d) 126 (Ont. Ct. (Gen. Div.)); Re Grier (1998), 7 C.B.R. (4^th) 179 (Man. Q.B.); Re Charron, [2000] J.Q. no 527 (Que. S.C.); Re Weinstein (syndic de), [2000] J.Q. no 2971 (Que. S.C.); Re Hynes (2000), 20 C.B.R. (4^th) 98, 187 N.S.R. (2d) 394 (N.S. S.C.); Re Landry (2000), 21 C.B.R. (4^th) 58, 50 O.R. (3d) 1, 192 D.L.R. (4^th) 728 (C.A.); Re Streeter (2000), 25 C.B.R. (4^th) 117, 267 A.R. 398 (Alta. Q.B.); Re Théberge (Trustee of), [2000] Q.J. No. 3024 (Qué. S.C.); Re Cole (2001), 25 C.B.R. (4^th) 225, 193 N.S.R. (2d) 242 (N.S. S.C.). For further background, see R. Klotz, "Who Gets the Bankrupt's Pre-Bankruptcy Earnings?" (2000) 15 C.B.R. (4^th) 153.

⁴⁷ Re Laybolt (2001), 27 C.B.R. (4^th) 97, 196 N.S.R. (2d) 224 (N.S.S.C.) at para. 14-16.

⁴⁸ Any other subsequent tax refunds pertaining to income earned during bankruptcy will fall within Section 68 under the Task Force recommendation, to be allocated according to the Superintendent's standards.

⁴⁹ Beattie v. Ladouceur (2001), 23 R.F.L. (5^th) 33 (Ont. S.C.J.): If an asset is exempt, income from that asset is likewise exempt. Therefore a Section 68 order is unenforceable against income from an exempt asset such as a pension.

⁵⁰ An exception is that a deemed bankruptcy occurs upon the court annulment of a consumer proposal filed by a bankrupt.

⁵¹ For example, in Nova Scotia the maximum amount that can be received in any summary administration before amounts are distributed to creditors is $1,864.95. Of that amount, $1,286.48 is the actual component of the trustee's fee. The remaining cost components are $170 for counselling, $100 for administrative disbursements, the $75 Official Receiver's fee and the Harmonized Sales Tax. These amounts are applicable to first time bankrupts where there is no court fee charged.

⁵² Prior to 1998, higher income bankrupts were expected to contribute surplus income based on published guidelines, but expectations and results varied widely, and creditors had to oppose the bankrupt's discharge in court to have unpaid surplus payments or further contributions made to the estate.

⁵³ The "Section 170 report" is filed by trustees and reports on a variety of issues relevant to the bankrupt's discharge. See note 29 and Section IV of Chapter 4 of this report.

⁵⁴ Generally, an R-9 rating is changed to R-7, a rating upon which many credit grantors will again approve credit, two years after the end of a successful counselling program. This is working well in provinces such as Alberta where there are independent counselling programs, but apparently the statutory counselling by trustees does not lead to the conversion of an R-9 rating to an R-7 rating.

⁵⁵ Borg-Warner Acceptance Canada Ltd. v. Northern Cycle & Machine Ltd. (1988), 71 C.B.R. (N.S.) 197 (Sask. Q.B.), Grotsky Bissonnette et Fortin v. Léveillé, [2001] J.Q. no 1277 (QL).

⁵⁶ Damages for intentional bodily harm are already exempted in section 178(1)(a.1).

⁵⁷ The discussion in this section refers both to consumer proposals and to commercial proposals for individuals.

⁵⁸ Houlden & Morawetz, Bankruptcy and Insolvency Law of Canada (3d Ed.) at §E18, citing Trade Collection & Mercantile Agency v. Derome (1934), 16 C.B.R. 158 (Que. Cir. Ct.). In a recent case, a creditor's claim for breach of trust was held to be non-dischargeable under ss. 62(2) and 178 despite the creditor having proven its claim in the proposal, successfully appealed the disallowance of the claim, and received a dividend: Skytal Ltd. v. Schiber (1997), 46 C.B.R. (3d) 275 (Ont. Ct. (Gen. Div.)). The reported decision does not reveal whether the creditor voted in favour of the proposal.

⁵⁹ Halsbury's Laws of England (3d Ed.), v. 2, Bankruptcy, 671; Re Sewell, White v. Sewell, [1909] 1 Ch. 806 at 809: "Shortly after approval of the scheme of arrangement ... the creditor proved for and accepted the composition, thereby, in my opinion, assenting to the composition within the meaning of [the section]."; Victor Weston (Fabrics) Ltd. v. Morgensterns, [1937] 3 All E.R. 769 (C.A.), where a creditor was found to have "assented" to a deed of arrangement by responding to the trustee's circular, which announced the deed of arrangement and asked for statements of accounts, by sending in its statement of account [analogous to sending in a proof of claim]; Thorp v. Dakin (1885), 52 L.T. 856 (taking active part in procuring acceptance of composition).

⁶⁰ Association coopérative d'économie familiale du Nord de Montréal, A Study About the Financial Situation and Lifestyles of Canadians Who Have Declared Bankruptcy Between January 1, 1996 and December 31, 1998 (Montreal, Que.: Leger Marketing, January 2002).

Chapter 4

Procedural Changes Relevant to Bankruptcies

Introduction

One set of Task Force recommendations, presented in Chapter 2, has important links to other areas of public policy, such as education, retirement or consumer protection policy. Other recommendations, set out in Chapter 3, have little to do with other public policies and instead deal primarily with how certain situations or events are handled within the BIA. This chapter and the next address a third type of recommendation, one that relates to the administrative procedures that are followed in bankruptcies and consumer proposals. This chapter presents procedural recommendations concerning bankruptcy and the next deals with consumer proposals.

Early on, the Task Force adopted the principle that in order to make personal bankruptcy procedures as efficient as possible, without compromising the integrity of the process, interested parties should be able to govern their own level of involvement on a "by exception rather than by rule" basis. The Task Force has identified a number of points in the process when actions or exchanges of information are only really necessary in certain circumstances, although they may be required 100% of the time under current bankruptcy law.

The application of the "by exception rather than by rule" principle led the Task Force to recommend that a greater amount of information be provided to creditors at the beginning of the bankruptcy process and that several documents be sent to creditors only upon request. A potential problem with these applications of the "by exception rather than by rule" principle is that creditors who have decided not to become closely involved in an estate may not become aware of new information that arises in the course of the bankruptcy. To lessen the chance of that happening, several of the Task Force recommendations increase the flexibility of creditor interventions.

I. Creditor Notification of Bankruptcy

Background

For creditors, the commencement of a bankruptcy is a crucial time in terms of determining the appropriate level of future involvement in an estate. In some cases, when the likelihood of receiving a dividend is remote and there is no reason to believe there has been misconduct on the part of the debtor, creditors will not be inclined to devote much attention to the administration of the estate. In fact, it may be that the creditor's primary interest in these circumstances is to write off the debt as soon as the estate is closed. In cases when there could be a more substantial return or when the debtor is suspected of abuse, creditors will generally monitor the estate much more carefully, and expect the trustee to be particularly diligent in the administration of the file.

Creditors require sufficient information at the commencement of a bankruptcy to make a decision about their future involvement in a file. Currently, this assessment process is made more difficult by several features of the bankruptcy process.

• The Proof of Claim forms that creditors file with trustees are seen as unnecessarily complex.
• Creditors do not currently have a simple way to inform a trustee when they wish to take a more active interest in a particular estate.
• Creditors require more reliable means to confirm when an estate is closed, so that they are able to write the debt off their books. Trustees are not required currently to notify creditors of the date of their discharge.

In cases where creditors do not wish to take an active role in the estate, changes to the notification documents should be made to reduce subsequent flow of documents and notices. While creditors in such cases will not normally want to receive routine documents, they need to know when they can safely close their file on an estate. In addition, sufficient safeguards should remain in place to ensure, if the circumstances of the bankruptcy change, that creditors will be made aware of these changes. In cases where creditors do take an interest in an estate, it must be easier to communicate their interest and expectations to the trustee.

Recommendation

The Task Force recommends the following changes to the initial creditor notification documents:

1. The Proof of Claim form for personal bankruptcies should be simplified.⁶¹
   
   
2. The documents should include a form on which creditors can indicate whether they wish to receive subsequent documents such as the Section 170 Report or the Statement of Receipts and Disbursements. The forms should also allow creditors to make requests for action such as a Meeting of Creditors.
   
   
3. The trustee should supply the creditor with a notional date that can be used for the purposes of considering an estate closed. This date will be a standard number of months (for example, 24 months) after the commencement of the bankruptcy. Creditors must be informed subsequently by the trustee when the closure of the estate will be delayed beyond this estimated date. The trustee should also provide the reason for the delay.⁶²

II. Reasons for Filing for Bankruptcy Rather Than Making a Proposal

Background

In Canada, a debtor is free to choose between filing an assignment in bankruptcy or making a proposal. However, there may be consequences for those debtors who have the wherewithal to make a viable proposal but who choose bankruptcy instead. Section 173 of the BIA, which outlines reasons for which the court may refuse, suspend or order conditions on a bankrupt's discharge, now includes as grounds the fact that the bankrupt could have made a viable proposal to creditors but chose a bankruptcy instead.

Having timely information on the debtor's reasons for filing for bankruptcy will enable creditors to make more informed decisions regarding their involvement in the file. For example, a decision to oppose may be made if the statement of income and expenses on the Statement of Affairs indicates that the bankrupt has surplus income, and yet chose to file an assignment. In a contrasting example, however, a bankrupt may have significant surplus income at the time of filing, and yet not be in a position to file a viable proposal. Such a debtor may know that a job loss is pending, or that there are health reasons that make the proposal option unworkable. If creditors were aware of these facts from the outset, their decisions regarding intended opposition and level of scrutiny required might well be different from what they would be in the absence of this information.

Recommendation

Debtors filing an assignment in bankruptcy should provide their creditors with an explanation for their decision not to file a proposal at the commencement of the bankruptcy. The Statement of Affairs should be amended to require that this disclosure be made at the time of filing.

III. Creditor Requests for Meeting

Background

A first meeting of creditors is required in a summary administration bankruptcy if it is requested by the Official Receiver or by creditors holding at least 25% in value of proven claims. The request must come within thirty days of the date of bankruptcy. Meetings of creditors are requested in less than 2% of summary estates.

The "by exception rather than by rule" principle implies that creditors reduce their administrative requirements, and consequently those of trustees, in files in which they have little or no interest. On the other hand, creditors desire greater flexibility and expect heightened attention and scrutiny by trustees in those estates where they identify issues or specific interests. Given that issues and concerns may come to light at any time during the administration, creditors require the ability to request a meeting of creditors beyond the thirty day limit that now exists in the BIA.

Recommendation

The Task Force recommends that Section 155(d.1) of the BIA be amended to permit creditors with an aggregate of at least 25% of proven claims to request a meeting of creditors at any time during the first six months of the administration. This will provide an enhanced recourse to creditors who uncover issues later in the administration, without causing undue interference or delays close to the time of the debtor's or trustee's discharge.

IV. Section 170 Reports

Background

Before an individual bankrupt can receive a discharge, the trustee administering the estate must prepare and file a report regarding the bankrupt's application for discharge. This report, called a Section 170 report, is filed with the Superintendent, and provided to any creditor who had previously requested a copy. The report contains the trustee's assessment of the causes of the bankruptcy, the bankrupt's performance of duties under the BIA, any convictions for offences, or any conduct problems or other facts for which an unconditional discharge could be refused.

In many cases, there are no issues identified on the report that prompt closer scrutiny or actions, such as oppositions to discharge, on the part of the creditors or the OSB. When the Section 170 report does not contain any issues that would prompt closer scrutiny, the trustee's preparation of the report and its consideration by creditors and the Superintendent, both of whom must locate and review their records on the estate, do not represent an optimal use of resources.

Recommendation

The Task Force has identified cases in which a Section 170 should be filed and other cases when it need not be filed.

The Task Force recommends that there be no requirement that a Section 170 report be prepared and sent to the Superintendent, and to those creditors who have requested a copy, if all of the following conditions are met:

1. when the bankrupt is likely to receive an automatic discharge;
2. when there have been no filed oppositions to the bankrupt's discharge;
3. when the debtor is a first time bankrupt;
4. when there is no surplus income; and
5. when there are no important issues, such as investigations.

The trustee will prepare and send the Section 170 report to all requesting creditors and to the Superintendent in the following cases:

1. when the bankrupt has surplus income;⁶³
2. when an opposition to the bankrupt's discharge has been filed;
3. when the bankrupt has been bankrupt on a previous occasion;
4. when there is any reason, including failure to attend counselling sessions as required, that would require a court hearing of the discharge; or
5. when the trustee, for other reasons, determines that a Section 170 report should be prepared.

V. Creditor Notification of Opposition

Background

A court hearing is held when an opposition has been filed or when the bankrupt has failed to complete such duties as attending counselling sessions. Oppositions may signal allegations of misconduct on the part of the debtor which could be of great interest to other creditors in terms of protecting their interests, and may result in recoveries to the estate where none had been foreseen originally. Section 169(6) of the BIA stipulates that in those cases where a bankrupt's application for discharge is to be considered by the court, the trustee must notify the bankrupt, all proven creditors and the Superintendent of the time and location of the hearing.

While trustees are required to send notices of opposition to all proven creditors, they need not send such notices to unproven creditors, those who have not filed formal proofs of claim.⁶⁴ The Task Force believes that its application of the "by exception rather than by rule" principle may lead some creditors not to file formal proofs of claim. Creditors, upon being given adequate information at the beginning of an administration, may determine that there is little likelihood that dividends will be generated in a specific estate. The effort to complete and file a formal proof of claim in these cases may seem unwarranted, given that there are not likely to be any tangible benefits for the creditor. However, there is a degree of risk in this approach. If the creditor decides not to file a proof of claim, there is no guarantee it will be made aware of subsequent potential dividends, or learn of any abuses on the part of the bankrupt that may be uncovered during the administration.

Recommendation

The Task Force recommends that Section 169(6) be modified to ensure that all creditors, not just proven creditors, receive notification of an opposition to the bankrupt's discharge. In an estate where issues or assets come to light during the administration, such a notice will assist those creditors who had decided not to file a proof of claim immediately. While this recommendation may increase the number of notices that a trustee is required to send in this situation, it is expected that the resource savings to creditors who only wish to file a proof of claim when there is a reasonable expectation of dividend will outweigh the cost of such additional notices.

VI. Costs and Expenses in Oppositions

Background

Section 197(6.1) of the BIA was enacted in 1997. The intention of this section was to compensate creditors who were successful in an opposition to the bankrupt's discharge, so that the estate benefited from additional amounts the bankrupt was ordered by court to pay into the estate. Allowing opposing creditors to recover their actual opposition costs was seen as an incentive to creditors, particularly those involved in small estates, to bring concerns or evidence of wrongdoing to the attention of the court without being financially penalized for their efforts. Without such a mechanism with which to recompense a creditor for intervention costs, there is a risk that founded oppositions will decline and the integrity of the bankruptcy process will suffer.

The current wording of Section 197(6.1) is as follows:

Where a creditor opposes the discharge of a bankrupt, the court may, if it grants the discharge on condition that the bankrupt pay an amount, or consent to a judgment to pay an amount, award costs to the opposing creditor out of the estate in an amount not exceeding the amount realized by the estate under the conditional order, including any amount brought into the estate pursuant to the consent to judgment.

Trustee members of the Task Force reported that in some jurisdictions this section has been interpreted narrowly, with court awards to successful creditors confined to the equivalent of the court administrative fee, which is only about $50. This does not reflect the original intent of the legislation.

A related issue is that of the frivolous opposition to a bankrupt's discharge. The BIA requires that a court hearing be held when an opposition has been filed. Given the fact that insolvency by nature involves parties with opposing interests, it is not surprising that some oppositions to the bankrupt's discharge are either frivolous or vexatious. There is, however, no remedy set out in the BIA to compensate either the estate or the bankrupt for costs relating to the court appearance. For the bankrupt, these costs may be lost wages, transportation costs or other such costs.

Recommendation

Section 197(6.1) should be redrafted to clarify and reaffirm the original intention of the section. Creditors should be able to have their accounts taxed by the court, with awarded costs not to exceed the amount recovered by the estate as a result of a successful opposition. Suggested changes are as follows:

1. Amend Section 197(6.1) to insert the words "pursuant to subsection (2)" after the phrase "out of the estate".
   
   
2. Add a new subsection such as:
   
   "Where the creditor opposes the discharge of a bankrupt, the court may, if it determines the opposition to be frivolous or vexatious, award costs against the creditor pursuant to subsection (2) and order that the creditor compensate the estate or the debtor for reasonable costs and expenses in connection with such opposition."

Given that the Task Force also recommends allowing creditors to file an opposition to a bankrupt's discharge by affidavit, the new subsection proposed above will also ensure that the greater ease of opposition is not accompanied by an increase in frivolous or vexatious oppositions by creditors.

VII. Opposition by Affidavit

Background

The majority of discharge applications involve low asset estates where debtors receive an automatic discharge or an absolute discharge. When a creditor files an opposition to the bankrupt's discharge, the automatic discharge process is negated and the court must hear the matter and grant the appropriate discharge based on the facts at its disposal. These facts are presented to the court in person by the opposing creditor. The creditor is responsible for the $50 fee required to open a court file.

The requirement for an opposing creditor to appear in person at the hearing of the bankrupt's discharge application acts as a disincentive for creditors to bring information regarding the bankrupt's conduct to the attention of the court. This requirement is becoming an even greater deterrent as many major national lenders move to centralize their insolvency or debt collection units. Creditors faced with the expense of a court appearance in cases where the probability of increased dividends is unknown or small may decide not to oppose the bankrupt's discharge even when they have pertinent information regarding the bankrupt's conduct. This has a negative impact upon the integrity of the personal bankruptcy process.

Recommendation

The Task Force recommends that the BIA be amended to explicitly permit a creditor to file an opposition to a bankrupt's discharge supported by affidavit evidence, as opposed to evidence presented in person. The creditor would be required to provide a copy of the opposition to the trustee, the Official Receiver and the bankrupt an appropriate number of days prior to the date scheduled for the court hearing. Payment of the court fee would remain the responsibility of the opposing creditor.

The affidavit should contain the name of the deponent, and in the case of an opposition by a corporation, the position of the person representing the corporation. It should also contain contact information so that the court can contact the deponent in the event that further information is needed, or to facilitate a telephone conference between parties.

The requirement for the creditor to pay the court fee, in tandem with the Task Force recommendation that empowers the court to award costs in the event of a frivolous or vexatious opposition, will guard against a surfeit of trivial creditor oppositions.

VIII. Letters of Comment and Closing of Estate

The Task Force developed a recommendation concerning letters of comment sent by the Superintendent to trustees in response to their filing of the Statement of Receipts and Disbursements. A subsequent recommendation, on the closing of a bankrupt's estate, assumes the adoption of the recommendation on letters of comment. The two recommendations are thus presented together.

Background for the Recommendation on Letters of Comment

Trustees send a copy of the Statement of Receipts and Disbursements to the Superintendent before dividends, if any, are distributed, and the estate closed. The Superintendent may write a letter of comment on the administration of the estate by the trustee, considering aspects such as timeliness and asset realization. In a summary administration, the Superintendent can issue a letter of comment to the trustee stating there is no requirement to appear before a court to have the accounts taxed. If the Superintendent determines, however, that there are problems or issues with the administration, a letter is sent to the trustee requesting that the trustee appear before the court to have the accounts taxed. In ordinary administrations, the trustee appears in court for taxation in all cases.

Letters of comment are issued by the Superintendent's office for every estate. In summary administration cases, the vast majority of these letters do not request that the trustee proceed to a court taxation. In these estates, assuming there is no subsequent objection from creditors, the trustee's accounts are deemed to have been taxed after a specified number of days have elapsed following the creditors' receipt of the Statement of Receipts and Disbursements.⁶⁵ In ordinary administration estates, there is a requirement that the trustee have accounts taxed by the court. The Superintendent may issue a negative letter of comment regarding the trustee's administration of the estate, which must be placed before the taxing officer in court.

The Office of the Superintendent of Bankruptcy has a published service standard of 21 days for issuing a letter of comment once a Statement of Receipts and Disbursements has been received from the trustee. It meets this standard in approximately 90% of estates. In the remaining 10% of estates, either additional information is requested from the trustee, or the Superintendent seeks legal opinions or the case requires further study to determine an appropriate response to an issue and the letters are issued more than 21 days after the receipt of the Statement of Receipts and Disbursements.

Even though the Superintendent of Bankruptcy issues a letter of comment in every bankruptcy, it is only in a small percentage of estates that the letter either prompts a court taxation or brings specific problems to the court's attention. Thus, all letters of comment produced and mailed to trustees satisfy a statutory requirement of the BIA, but only a small percentage of them seek concrete changes in the outcome of the administration. Further, the Task Force feels that the time periods for this final phase of estate administration could be shortened without impinging on the rights of creditors to object to the trustee's discharge.

Recommendation on Letters of Comment

In keeping with the "by exception rather than by rule" principle, the Task Force recommends an amendment to Section 152(4) of the BIA which will permit the Superintendent to issue a letter of comment selectively rather than universally.

The Task Force proposes the following simpler process:

1. The trustee prepares and files the Statement of Receipts and Disbursements with the Superintendent.
   
   
2. The Division office will have a prescribed period, such as 21 days, within which to review the estate documentation and determine if the matter should be heard by the court. If issues or problems are identified before the end of this period, the trustee would either receive a negative letter or a letter requesting a court taxation of accounts, or else a notice that the Superintendent intends to issue such a letter in due course.
   
   
3. If no letter of comment is received by the trustee by the end of the prescribed period, the trustee assumes that the Superintendent is not requesting a taxation of accounts.
   
   
4. In cases where a creditor has previously requested a copy of the Statement of Receipts and Disbursement, the trustee will send it to the creditor at the same time as it is sent to the Superintendent for comment. If creditors wish to file an opposition to the trustee's discharge, they will have the same prescribed time period.

Background for Recommendation on the Closing of the Estate

Pursuant to BIA Rule 64, when the trustee has received a letter of comment that does not request the trustee to proceed to court taxation, the trustee shall within 30 days send a copy of the Statement of Receipts and Disbursements to all proven creditors, along with the dividend sheet. This procedure applies whether or not there will be a dividend to creditors. Creditors are then given 30 days from receipt of these documents to file an objection with the court.

Not all creditors want to receive the Statement of Receipts and Disbursements for every file in which they have a possible claim. In some cases, creditors will have made the determination at the commencement of the file that they are unlikely to have an interest in the file, and will not request that they be sent a copy of the Statement of Receipts and Disbursements. In the case where the estate has not generated any dividends for creditors, there is actually a further cost to creditors to receive subsequent documents, in terms of locating or reviewing the file.

Recommendation on Closing of the Estate

The Task Force recommends that there not be a requirement to mail a copy of the Statement of Receipts and Disbursements and dividend sheet to all proven creditors if:

1. there are no dividends to be distributed to creditors;
2. no letter requesting taxation has been received by the trustee from the OSB; and
3. no objection has been received from a creditor within the 21 day period.

If those three conditions apply, the trustee shall proceed to finalize the estate, and send a copy of the Certificate of Compliance to the Superintendent, the date of which will serve as the date of the trustee's deemed discharge and estate closure.

There should be a requirement that the trustee mail a copy of the Statement of Receipts and Disbursements and the dividend sheet, along with the dividends, to proven creditors, if:

1. there are dividends to be distributed to creditors;
2. a letter requesting taxation has been received by the trustee from the OSB; and
3. an objection has been received from a creditor within the 21 day period.

After the expiration of a further period, perhaps 30 days, the trustee is free to close the estate, unless a creditor has objected. The trustee will send to the Superintendent a copy of the Certificate of Compliance, the date of which will serve as the date of the trustee's deemed discharge and the closure of the estate, as is currently the case.

In the event that the Superintendent issues a negative letter of comment, a letter requesting court taxation of accounts, or a notice that the Superintendent intends to object to the taxation or discharge of the trustee, the procedures will be as they are currently described in the BIA.

IX. Interim Distributions

Background

The Task Force considered a perceived inconsistency between Rule 128 and Section 136(2) of the BIA. Section 136(2) of the BIA stipulates that when there are sufficient funds available, an interim distribution from the estate should be made, subject to the retention of amounts required for administrative costs. Funds are paid in accordance with the scheme of distribution outlined in Section 136(1), which includes payment of trustee fees.

For summary administrations, Rule 128(3) sets out the schedule for withdrawals from the trust account towards fees. It has been the position of the Superintendent of Bankruptcy that the specific nature of Rule 128(3) regarding summary administration draws for fees provided complete instructions for these files, and that Section 136(2) was therefore applicable only in ordinary administrations.

There are situations in which an interim distribution in a summary estate is to the advantage of the creditors. An example would be when certain assets are not going to come into the estate for an extended period of time. Such assets might include payments pursuant to a conditional order or term deposits which come due at a later date. In such cases, it may be in the creditors' interests to distribute available funds at an earlier date. Such a distribution would mean that the trustee takes a draw of fees at the time of the distribution, over and above those draws referred to in Rule 128.

At the same time, such interim distributions should not be utilized simply to justify an accelerated draw of trustee's fees when there is no material advantage to the estate and creditors. Some felt there should be safeguards to ensure that an interim distribution was permissible only where appropriate.

Recommendation

The Task Force recommends that what was perceived as an inconsistency between Rule 128(3) and Section 136(2) be resolved for summary estates, so as to permit interim distributions in certain circumstances. Such interim distributions must not be made during the first nine months of the bankruptcy. The Superintendent should be asked to comment on an interim distribution in a summary estate, as a means to ensure that the distribution was beneficial and that no interested party would be unfairly prejudiced. The intention of these recommendations is not to endorse such interim distributions on a wide scale, but to endorse them in those estates where they would be clearly beneficial.

X. Dividend Pooling

Background

Some creditors, including credit card issuers, utility companies, major retailers, and the Canada Customs and Revenue Agency are involved in personal bankruptcies on a regular basis. Dividends to these frequent creditors can often be for small amounts, in which case the costs of processing the dividend cheques can easily outstrip the value of the dividends. This serves as a disincentive to creditors to take an interest in small estates, and has been a contributing factor to a steady erosion of creditor involvement in personal insolvency over the past decades.

While trustees are encouraged to distribute all available funds to creditors, there is a recognition of the fact that such distribution is not practical for insignificant amounts. Superintendent's Directive No. 8R (Unclaimed Dividends and Undistributed Funds) sets out guidelines to assist trustees in determining when a distribution is warranted. Under the guidelines, for example, when there are five or more proven creditors in an estate, a distribution should be made when average dividends will exceed $10 per creditor.

Recommendation

In order to make the distribution and processing of small dividend amounts more cost effective and efficient for both the creditor and the trustee, the Task Force recommends that the BIA include permissive language that would allow frequent creditors to opt for dividend pooling. This would allow trustees to combine small dividends across several estates that are destined for the same creditor. Such pooled dividends would be distributed on a predetermined and periodic basis. Appropriate thresholds that take into account the cost of processing a dividend cheque would be established in order to define a small dividend.

⁶¹ The Task Force considered the use of a simplified "Acknowledgment of Debt" form to replace the formal Proof of Claim. Such a form was considered for use in those files where no dividend was anticipated. The use of such an acknowledgment form was later rejected, on the basis of the argument that if a dividend was subsequently anticipated, the creditor would be required to file a formal Proof of Claim in any case.

⁶² For the sake of clarity, the official date of estate closure used for public record purposes will remain the date of discharge or deemed discharge of the trustee, as is currently the case.

⁶³ This situation includes cases where the trustee is recommending additional surplus income payments be made as a condition of discharge.

⁶⁴ Section 149 of the BIA provides that a trustee may send a notice to unproven creditors that a final dividend will be paid, requesting that the creditor prove their claim within thirty days in order to take part in the distribution. Such notification is at the discretion of the trustee.

⁶⁵ The remuneration in a summary estate is set by tariff. In cases where there are no concerns relating to the trustee's administration, the calculation of the trustee's fee is therefore straightforward and open to less variation than in an ordinary estate.

Chapter 5

Procedural Changes Relevant to Consumer Proposals

Introduction

The Task Force developed procedural recommendations for consumer proposals as well as for bankruptcies. Many of the bankruptcy recommendations in the last chapter were attempts to apply the "by exception rather than by rule" principle. In the case of consumer proposals, however, the thrust of the work of the Task Force was to implement reforms based on recent experience with this relatively new form of insolvency.

I. Statements of Affairs in Consumer Proposals

Background

To initiate a consumer proposal, a debtor is required to prepare, with the assistance of a proposal administrator, a proposal document which is then filed with the Official Receiver. Within ten days of the filing of the proposal, the administrator is required to file other documentation, including a condensed statement of the debtor's assets, liabilities, income and expenses.

The condensed statement required for a consumer proposal is not a prescribed form, unlike the Statement of Affairs that accompanies an assignment in bankruptcy. Most administrators, the majority of whom are also trustees in bankruptcy, use the Statement of Affairs required for a bankruptcy assignment when filing a consumer proposal. This is a matter of convenience, however, and not a legal requirement. Creditors and researchers have an interest in ensuring information is available, complete and standardized, both for understanding and assessing specific proposals in the case of creditors, and for gaining a broader understanding of this particular segment of the debtor population in the case of researchers.

Recommendation

The Task Force recommends that a prescribed form similar to the current Statement of Affairs for bankruptcy be required for consumer proposals.

II. Voting in Consumer Proposals

Background

When debtors file consumer proposals, meetings of their creditors may be called to discuss matters relating to the proposals. If no requirement has arisen to call a meeting of creditors, however, Section 66.18 of the BIA provides that a consumer proposal will be deemed to be accepted by creditors.

Under Section 66.15(2)(b) of the BIA, a meeting of creditors must be called if, within 45 days of the filing of the proposal, creditors representing at least 25% of the total value of proven claims request such a meeting.

If a proven creditor indicates dissent from the proposal to the administrator prior to the expiration of the 45 day period, that dissent is deemed to be a request for a meeting.

The Task Force believes that this last provision is inappropriate. A decision to request a meeting of creditors and a decision to assent to or dissent from a proposal are separate and distinct decisions. A creditor who dissents from a proposal, and who thereby creates a requirement for a meeting of creditors be held under Section 66.15(2)(b), does not necessarily want to attend a meeting of creditors. Even so, dissenting creditors have no means to dispense with the requirement that a meeting of creditors be called.

The administrator is therefore obligated to send notices to all of the creditors to arrange the time and location of meeting, and to be prepared and available for the meeting. Despite these preparations, it is not uncommon for no creditor to attend.

Recommendation

The Task Force recommends that a dissent from a consumer proposal not be considered to be an automatic request for a meeting of creditors. Dissenting creditors should indicate a request for a meeting of creditors separately. This will reduce unnecessary cost and effort in these cases.

III. Consumer Proposal Default

Background

Section 66.31(1) of the BIA stipulates that a consumer proposal is deemed to be annulled when there is a default to the extent of three months in cases where payments are to be made monthly, or where there is a required payment to be made on a schedule which is less frequent than monthly and that payment is over three months late.⁶⁶

Appointed inspectors can modify these default provisions. Section 66.21 allows the creditors in a consumer proposal to appoint up to three inspectors, and also permits the extension or restriction of the powers inspectors generally have under the Act. This, in practice, has meant that when the creditors agree, inspectors have been appointed in consumer proposals with the enhanced power to waive a default in performance of a proposal. In addition, the inspectors can approve, without requiring a meeting of creditors, an amendment to a proposal where that amendment deals only with the schedule of payments and amount of payments made without altering the total amount payable.

The intent of Section 66.21 is to permit some flexibility without compromising the interests of the creditors or the integrity of the process. There are situations where a debtor under a consumer proposal might face a temporary difficulty in keeping up the payments, especially given the fact that the proposal can extend over several years. In cases where this will not, on balance, negatively affect the agreement between the creditors and the debtor, the proposal can thus be allowed to continue.

In practice, however, inspectors are rarely appointed in consumer proposals. Thus, when a proposal administrator encounters a situation where the debtor is temporarily unable to avoid a default, it is difficult to salvage the proposal even when it may be in the best interests of the creditors and the debtor to do so.

Moreover, the enhanced powers of the inspector are not explicitly described in the BIA, although the prescribed form for a consumer proposal refers to them. Thus, without a more explicit reference to these powers in Section 66.21, there is a risk of misinterpretation.

Recommendation

The Task Force recommends that:

1. Section 66.21 be clarified to refer explicitly to the powers that can be conferred upon inspectors to waive a default and to approve an amendment affecting the schedule of payments under a consumer proposal.
2. The administrator of a proposal be permitted to extend a payment period under a consumer proposal when there is a default. The ability of an administrator to amend terms of a proposal should be restricted to this situation only.

IV. Proofs of Claim in Assignments Following a Failed Consumer Proposal

Background

It is not uncommon for consumer proposals to fail. When this happens, the rights of creditors are restored and debtors may find themselves in the same situation as they were in before they filed their proposal. The debtors may then choose to file an assignment in bankruptcy and may select, as their trustee, the same person who acted as their proposal administrator.

An uncompleted consumer proposal and a subsequent voluntary assignment by the same debtor are treated as separate, independent proceedings under the BIA. The BIA requires the bankruptcy trustee to send notice of the bankruptcy to all creditors, and require new proofs of claim. In those cases where there is little time between the proposal filing date and the subsequent bankruptcy, the claims of creditors may not have altered at all, but the creditor must currently still prepare a new proof of claim.

Recommendation

The Task Force recommends that proofs of claim filed in a failed consumer proposal be acceptable in the subsequent bankruptcy if:

1. the administrator of the consumer proposal is also the trustee of the bankruptcy;
2. the trustee adjusts the proof of claim to account for any dividends paid under the proposal; and
3. the creditor has the ability to file a new proof of claim if new debt was incurred by the debtor between the filing of the consumer proposal and the filing of the bankruptcy.

⁶⁶ This result will occur unless the court has previously ordered otherwise, or the consumer proposal has been previously amended.

Chapter 6

Issues for Which the Status Quo Should Be Maintained

A number of issues were discussed at some length in Task Force meetings but did not result in Task Force recommendations. Instead, the Task Force decided that the way the insolvency system currently handles the issues was better than the available options. This Chapter briefly presents these issues along with the rationale for maintaining the status quo.

I. Automatic Discharge Eligibility at Nine Months for First-Time Bankrupts without Surplus Income

Debtors who have filed for bankruptcy for the first time are automatically eligible for discharge nine months after filing an assignment. The Task Force thoroughly discussed the question of whether this nine month period should be changed. In the end, the majority view was that the nine month time frame was appropriate for bankrupts who had not been insolvent previously, and who had no surplus income, provided that there were no oppositions to discharge.

In the Task Force discussion, one group of Task Force members supported a longer bankruptcy period, which they argued would increase creditor dividends and permit greater debtor rehabilitation. The extent of rehabilitation would be increased, it was argued, because bankrupts would be less likely to resume the same bad habits that created their difficulties in the first place if they spent a longer time in bankruptcy prior to discharge.

A contrasting view was held by another group of Task Force members who felt that Canada should adopt a bankruptcy period shorter than nine months. This group argued that nine months was an arbitrary length of time, and that Canada should look to Australia as a possible model for reform. Since 1992, the Australians have had a consumer bankruptcy process that permits application for discharge after six months in bankruptcy, subject to a number of conditions.⁶⁷

In the Task Force discussion, it was pointed out that when the automatic discharge for first-time bankrupts was adopted in 1992, the nine-month time frame was chosen as a reasonable compromise between the three months stipulated in the BIA as the minimum period that must elapse before a bankrupt could apply for a discharge and the twelve month period within which the trustee was to arrange a discharge hearing.⁶⁸ These three and twelve month time frames were well established in 1992. In fact, they had been set in the BIA for decades before the automatic discharge provisions came into effect. The choice of a nine-month period was therefore not a radical departure from earlier practice.

If Canada is compared to other nations with respect to the length of time its consumer debtors spend in bankruptcy, Canada is situated at the "liberal" end of the spectrum. That is, Canada currently has a shorter bankruptcy period for its individual bankrupts than most other nations.

Only the United States and Australia have shorter periods of bankruptcy and both of these countries have recently proposed amendments that would increase bankruptcy length. Chapter 7 proceedings in the United States will still provide the earliest discharge, but if proposed reforms are accepted, access to Chapter 7 will be limited to those debtors who have low income, as determined by a means test. Others would be required to file a Chapter 13 repayment plan, usually three to five years in duration. If Australia moves ahead with reforms such as those placed before its Parliament in the summer of 2001, it would return to its pre-1992 position of a three-year bankruptcy term for individuals.

On the other hand, in England and Wales, proposed legislation would require shorter periods of bankruptcy in those parts of the United Kingdom, shorter than the current average duration of bankruptcy of three years, provided that no oppositions or further investigations are indicated.⁶⁹

This issue was one of the more thoroughly debated topics taken up by the Task Force. At the last meeting of the Task Force, there was a unanimous decision by those present to maintain the nine month eligibility for first-time bankrupts without surplus income. The Task Force was able to come to this consensus partly because of the related recommendation that bankrupts with surplus income be required to make surplus income payments for 21 months as a condition of their discharge.

II. A Separate Insolvency Process for the "Judgment Proof" Debtor

The Task Force considered the question of whether a separate regime for "judgment proof" debtors ­ those who possess only assets and income that are exempt from seizure by creditors ­ was required. Creditors have no legal ability to enforce repayment of debts from such individuals but often make collection efforts anyway. For that reason, judgment-proof debtors may feel the need to seek relief from collection efforts by filing for bankruptcy.

The proposed new regime would be an alternative to bankruptcy in cases where the only tangible impact of the bankruptcy would be the cessation of collection efforts. For example, the new process could provide for a stay of proceedings to stop creditor pressure on the debtor without involving any discharge of debts. The stay could continue either until the applicable provincial General Limitations Act came into force and effectively erased the debt, or until the debtor acquired assets or generated surplus income. The acquisition of assets or surplus income would then trigger a bankruptcy. Creditors could force a bankruptcy if they become aware of the existence of assets or income. This proposed regime would require supervision by a bankruptcy trustee over the course of the stay period, which could be as long as six years before the debts become "statute barred."⁷⁰ The trustee would be required to monitor the debtor's affairs to ensure the debtor remained without non-exempt assets or surplus income and would be responsible for notifying creditors of the stay of proceedings. There would need to be a public registry of debtors under this regime.

The Task Force considered the proposed new regime and decided it was not a practical alternative to bankruptcy. The supervision of a debtor's affairs over the course of several years would pose difficulties for the trustee, especially given the fact that this population can be very mobile. Moreover, it was not clear how trustees would be remunerated for their supervisory and creditor-notification services, even though the level of effort that would be required to ensure a debtor's financial situation remained the same over the course of several years would be substantial.

III. Assessment Directive

Superintendent's Directive No. 6R requires that trustees meet with bankrupts, at least once, to assess their financial situation. One possibility for administrative reform was that trustees could delegate this obligation to other administrative staff. With regard to this Directive, however, the Task Force upheld the important principle that bankrupts should meet face-to-face with their trustee at least once during the bankruptcy process. The rationale for the recommendation that the status quo be preserved is that the assessment occurs at a point at which the trustee's experience and training can be most beneficially brought to bear upon the process.

IV. Cramdown

Task Force members debated whether Canada should permit "cramdown" in proposals, a practice that exists in the American system. The U.S. courts have the power, in certain situations, to impose a proposal on a creditor, even if the creditor does not want to accept that proposal. In addition, the court is able to reduce the claims of secured creditors, if it decides that a reduced amount better reflects the fair market value of the relevant assets. This practice is permitted in Chapter 13 proceedings in the United States. The Task Force did not endorse the cramdown concept for the Canadian system.

V. Non-Dischargeable Credit Card Purchases

The Task Force considered a submitted suggestion that would render credit card purchases made during the three months prior to bankruptcy non-dischargeable. There was also a suggestion that this would not apply in the event that a debtor chose to file a proposal.

The Task Force did not support the suggestion, and felt that the appropriate time to deal issues concerning debtor conduct, including credit card abuse, is at the time of the debtor's discharge.

VI. Low Income Cut-off Standards (LICO)

Statistics Canada publishes Low Income Cut-off (LICO) Standards annually. The standards are the result of a methodology that identifies those who are substantially "worse off" than the average Canadian. These standards form the basis for determining surplus income contributions in bankruptcies under Directive No. 11R.

One of the working groups of the Task Force discussed alternatives to the LICO standards. It was noted that these standards do not take into account regional differences in costs of living or expenses, and it was suggested that the Superintendent could use a system that includes adjustments for different cities, for rural areas and so on. It was also suggested that the Superintendent could use a formula based on median income levels as reported in Statistics Canada census data. Another suggestion was that trustees be given some latitude in applying standards to account for the particular circumstances of each individual bankrupt. Finally, the Task Force considered a viewpoint, expressed by one member, that surplus income standards should be set out in the BIA itself, rather than set in a Superintendent's Directive where they can be modified without having to receive Parliamentary approval.

The Task Force decided not to recommend any change in the way the Superintendent's surplus income standards were formulated. It felt, however, that the Superintendent should examine any new measures that may be published that would improve upon LICO standards as a basis for determining surplus income. At this time the Task Forces believes that the LICO standards, while imperfect, are the best tool for this purpose and should continue to be used until a more attractive alternative becomes available. In addition, the Task Force did not conclude that the means of determining surplus income should be specified in the BIA. Relying on Parliamentary approval for new standards would result in outmoded standards with no certainty of regular updates.

⁶⁷ The shorter Australian period of bankruptcy was introduced because it was felt that it was "unfair ­ and pointless ­ to keep some bankrupts in that state when their bankruptcy might have been due more to misfortune than misdeed" (from an email dated May 3, 2001, from Don Costello of ITSA, the Insolvency and Trustee Service Australia). However, there have been recent efforts in Australia to restore the bankruptcy period to the three-year period required before 1992.

⁶⁸ See section 168.1(2) of the BIA.

⁶⁹ From "Insolvency ­ A Second Chance" published on the website of the UK's Insolvency Service, para. 1.10 to 1.20.

⁷⁰ A "statute-barred" action is one where the period of time provided by statute within which a plaintiff must commence legal proceedings has lapsed.

Chapter 7

Concluding Remarks

The Personal Insolvency Task Force commenced its studies and deliberations without any preconceived notions as to where the process would lead, other than in adopting terms of reference which were intended to characterize, in a general way, the attributes of an appropriate system of personal insolvency and bankruptcy regulation for Canada in the 21^st century.

Our reflections, coupled with the empirical experience of the participants, indicated that, on the whole, the system is adequately responsive to the needs of individual Canadians and yields an appropriate balance of the inherently conflicting needs of debtors and credit grantors.

Nevertheless, as the deliberations progressed, it became apparent that certain matters of policy and principle had to be more carefully addressed while fine tuning of some provisions was required to better reflect the balancing of the regime's needs and to clarify certain procedural issues and some technical aspects of administration. Other elements of the system did not appear to the Task Force to require any changes.

The previous chapters of this report reflect each of those categories.

None of the recommendations of the Task Force are written in stone; they reflect value judgements and the experience of the participants and, in some cases, the biases (in the neutral sense of that word) of the participants. However, there may be other valid policy choices and there was active dissent within the Task Force with respect to some aspects of some of the recommendations. The Task Force did not strive for unanimity but, rather, sought consensualism. Some strongly held views of some members of the PTIF were not adopted.

For two of the members of the Task Force, both respected academicians, there were philosophical concerns about which they felt sufficiently strongly to warrant a dissent and their dissents have been included in this report.

In addition, some aspects of personal bankruptcy in Canada were not treated in this report because of lack of time or lack of adequate research or, in some cases, both. By way of example, although the Task Force recognized that credit granting practices in Canada should be reviewed and assessed, and although a working group was named to consider credit granting practices, it became clear that no recommendations could be formulated without further research and study. That research and study is continuing. Canada has the good fortune of having a number of highly qualified academicians who spend much of their time doing research and exploring alternatives in the field of personal bankruptcy and insolvency. The Office of the Superintendent of Bankruptcy fosters, encourages and, in some cases, finances statistical research. Other institutions also actively support research.

The contributions made by such research to the literature and to critical thinking with respect to this area of the law continue to serve as a vital instrument to encourage change where change is appropriate and to validate the status quo where such validation is appropriate. Almost 100,000 individual Canadians go into bankruptcy each year, which affects not only them but their families as well. One can therefore assume that hundreds of thousands of Canadians are adversely affected and personally touched by bankruptcies within the family circle, each year. That figure is not likely to diminish in the short run and, depending on economic circumstances, may actually increase. It is therefore vital that the amendment process not be seen as an objective which is to be reached and then abandoned. On the contrary, enhancement and fine tuning of the law should be a continuing process. For so many Canadians, financial difficulties, no matter what may be their cause, constitute grave challenges which are debilitating for them and destabilizing for their families. The Task Force considers that they have the right to have the best system available to them and having the best system requires ongoing active study and a streamlined process to effect change in the legislation where change is appropriate.

The Task Force reviewed, and used as benchmarks, some foreign systems of personal bankruptcy including those of Australia, the United Kingdom and the United States. The members were particularly conscious of the American system, since the United States is Canada's largest trading partner. However, while commercial bankruptcies in Canada frequently have a cross-border component, which is becoming more and more prevalent, and which therefore requires greater alignment between certain aspects of the Canadian and American systems, such alignment is less important for personal bankruptcies since the economic activities of personal bankrupts do not stretch across borders very frequently. Moreover, there are significant philosophical differences, of a policy nature, between the Canadian and American views of personal insolvency. Currently pending amendments to the 1978 Bankruptcy Code of the United States are considered by American experts to be more punitive in nature than the Canadian approach. In recent years, it has generally been accepted in Canada that personal insolvency, with rare exceptions, is more a socio-economic phenomenon, usually giving rise to considerations which are social in nature whereas commercial bankruptcies are, generally, legal and economic in their nature.

So different are the considerations applicable to personal bankruptcies by comparison to commercial bankruptcies that there was significant opinion amongst the members of the Task Force that provisions relating to personal bankruptcies should be grouped together in a chapter or even a statute which would be entirely separate from the provisions relating to commercial bankruptcies. Such separation, in the view of those members, would emphasize the fundamental differences between personal and commercial insolvencies, and highlight the different policy considerations applicable to each. However, technical difficulties in creating a separate chapter without confusing cross-references, coupled with the fact that Canada already has three separate statutes dealing with insolvency and bankruptcy, induced the majority of the members of the Task Force to abandon the attempt to separate personal bankruptcy provisions from commercial bankruptcy provisions.

Certainly, some of the recommendations contained in this report will not enjoy the unanimous support of all stakeholders. This is to be expected, because many suggested changes seek an equilibrium between opposing interests. Other stakeholders will wonder why changes that they would find appropriate are not suggested. Still others may well be of the view that more radical changes are indicated. Depending on one's perspective, one or more or all of these views may be "correct." In the final analysis, however, that is "correct" which strives for the optimum balance between different interests. The Task Force believes that with the adoption of its recommendations, this balance will have been achieved while recognizing that the process must be ongoing.

Annex 1

The Personal Insolvency Task Force: Terms of Reference, Criteria Used in Studying the Issues and List of Members

The Purpose of this Paper

The purpose of this paper is to establish operating terms of reference for the Personal Insolvency Task Force (PITF).

In addition to the five year review planned for 2002, when the Office of the Superintendent of Bankruptcy (OSB) must report to Parliament on the 1997 Reforms, the single most important event giving rise to this task force is the rapid escalation in the number of consumer bankruptcies over the years.

The Fundamental Purpose of Bankruptcy Legislation

The fundamental purpose of bankruptcy legislation is and remains that of protecting and maximizing the realization in an insolvent estate by liquidating the debtor's assets and by distributing its proceeds amongst his/her creditors quickly and efficiently. However, in today's society, where consumer debtors have no, or very little, assets to be liquidated the purpose of bankruptcy legislation takes on a new meaning. Personal insolvency and bankruptcy may be viewed more in socio-economic terms rather than strict legal terms.

Background

A little history­

The Constitution Act of 1867 conferred upon Parliament exclusive jurisdiction to enact laws in relation to "bankruptcy and insolvency". Canada's first insolvency Act, which only applied to traders, was adopted in 1869 and was replaced by a later Act in 1875.

The 1875 Act was widely criticized and repealed in 1880. Between 1880 and 1919, Canada had no general bankruptcy legislation at all. In 1882, the federal government adopted winding up legislation for insolvent trading corporations and other corporate enterprises.¹ The first insolvency Bill was enacted in 1919. The 1919 Act was heavily influenced by the British Bankruptcy Act 1883, and its general conceptual structure. In 1949, the 1919 Act was extensively revised. A number of proposals for new revisions were presented by a federal Study Committee in 1970, yet despite the introduction of several bills between 1975 and 1984, the proposals were never adopted.

What's Been Done Thus Far...

The 1992 Amendments

In 1992 a number of important amendments were made to streamline the process by removing from the judicial process the procedure for the handling of discharges for personal bankrupts by introducing the concept of automatic discharges for first-time bankrupts where no opposition was made by the trustee, the Superintendent or creditors. These amendments further recognized the need for debtor rehabilitation by introducing the concept of counselling. As well, the amendments afforded insolvent debtors an alternative to bankruptcy by introducing a separate regime for the making of consumer proposals.

The 1997 Amendments

The 1997 amendments were primarily focused on making high-income debtors aware of their responsibilities by introducing significant changes to the treatment of consumer bankruptcies. Former section 68 of the BIA was repealed and replaced with new section 68 which requires high-income debtors, between the time of bankruptcy and the time of their discharge, to pay over their surplus income based on standards issued by the Superintendent of Bankruptcy. The concept of compelling high-income debtors to pay over their surplus income to the trustee was intended to provide a way of precluding an automatic discharge of such debtors in cases where they failed to comply with Section 68.

The National Insolvency Forum Report

In May and June 1999, through a series of round table discussions held in six selected cities across Canada, primary stakeholders of the insolvency system were asked to voice their opinions on what works, what doesn't work and how the existing insolvency system could be streamlined to be more efficient and cost-effective. A summary of each round-table discussion was published in the fall of 1999, all of which are available by consulting our Web site at http://OSB-bsf.ic.gc. CA . Some of the suggestions include:

• improve compliance measures by addressing the lack of deterrent mechanisms for trustees who fail to maintain professional obligations (e.g., verifying the debtor`s statement of affairs) and debtors who do not comply with their duties and obligations under the BIA (e.g., declaring all their assets);
• simplify the procedure and requirements for Summary Administration Estates, making them less time-consuming and less expensive to comply with for debtors with few assets and no surplus income;
• incorporate a hardship clause in paragraph 178(1)(j) which refers to student loans.

Where We Are Now...

Despite predictions made by government and economists to the effect that a strong economy would translate into a decrease in personal bankruptcies in the late 1990's, the actual rate of consumer bankruptcies in fact peaked in 1997 and has decreased only slightly since.²

Overall, the number of bankruptcies has been increasing exponentially over the last 35 years. In 1966, business bankruptcies represented the majority of all bankruptcies reported in Canada (i.e., 59.3%), whereas consumer bankruptcies represented 41%. Five years later, in 1971, consumer bankruptcies accounted for 50.5% whereas business bankruptcies accounted for 49.5% of all bankruptcies reported. This trend has continued throughout the 70's, 80's and 90's with consumer bankruptcies reaching an all time high of 87.9% in 1999. Recent statistics reported by the Bank of Canada show that the debt-income-ratio (% total household credit/personal disposable income) was at 99.9% in 1999.

The current profiles of insolvencies reveal that consumer proposals are on the rise, whereas bankruptcies appear to remain stable in spite of the fluctuations in the economy. Statistics show that in 1999, 72,997 Canadians declared bankruptcy; 90% or more of consumer bankrupts declare total assets with less than $10,000, thus qualifying the estate for summary administration; 85% or more have incomes at or below the prescribed low income cost of living at which they are required to make payments to the trustees pursuant to section 68 of the BIA.

PITF's Mandate

PITF has been established to review the provisions of the Bankruptcy and Insolvency Act (BIA) as it pertains to personal bankruptcies. Starting without preconceived notions, PITF will explore alternative models of personal insolvency processes better geared towards addressing the perceived weaknesses of our Canadian insolvency system. In doing so, PITF will also review expectations of both debtors and creditors while factoring in the general public interest.

PITF's Objective

PITF's objective is to formulate recommendations for an alternative insolvency process and/or redress mechanisms to the existing process in order to ensure:

• that Canada's highly privatized bankruptcy system, which was designed for debtors with assets and/or income can nevertheless remain accessible to debtors with no assets and/or income;
• the appropriateness of low-income debtors paying even a modest fee to obtain a fresh start while being subject to the same procedural process as those with high income and/or assets;
• that bench marking is incorporated into the recommendations and that best practices from other countries such as Australia, USA and UK are drawn on to improve the efficiency and effectiveness of Canada's insolvency system.

PITF will also identify the desirable legislative changes to the Canadian insolvency system and recommend appropriate mechanisms to ensure that:

• low-income debtors are discharged in a fair and efficient manner, having regard to the legitimate and frequently competing interest of various stakeholders representing, in turn, various societal interests.
• the issue of post-bankruptcy revenues is clarified and addressed in a cohesive manner in the BIA;
• trustees are afforded appropriate and fair remuneration for their professional services;
• stakeholders and practitioners are afforded electronic means of communications and e-commerce;
• debtors assets are evaluated in a just manner and their realization maximized in an insolvent estate;
• all procedures in consumer bankruptcies are streamlined and reduced without jeopardizing the integrity of the system;
• bankrupts with no surplus income or seizable assets are dealt with as efficiently as possible.

PITF's Criteria

Criteria against which the PITF must prioritize the issues to be examined and serve as the measure against which final recommendations must be gauged are:

Fairness:  is a function of what the system appears to be to on-lookers, whether or not they are familiar with the system.

Accessibility:  going bankrupt in Canada must be seen as a right, not a privilege. Accordingly, access to the system must be simple, inexpensive and readily available throughout the country.

Predictability:  debtors and creditors understand what the result of the process will be ­ consistency.

Efficiency:  the social cost of the system and its economic cost are directly related to its efficiency. This raises questions about whether a trustee needs to be involved in every aspect of a personal insolvency, and, more generally, whether the system as a whole is as efficient as it could or should be.

Responsibility:  the system should encourage social and economic responsibility of both debtors and credit grantors.

Understandability: is the process itself, and are the results of the process, transparent and comprehensible to each of the debtor and the creditors?

Effectiveness:  deals with whether the insolvency system is responsive to the perceived needs of its users and whether it is consistent with the rest of the socio-economic fabric of the country.

The PITF Team

Structure

PITF will be comprised of a broad base constituency of stakeholders with a strong interest in the subject matter; namely creditors and/or creditor representatives, debtor representatives, trustees, a member of the Canadian Insolvency Practitioners Association as well as a number of academic scholars in the field of Bankruptcy Law.

Meetings

A series of four or five meetings will be held over the course of the next year. In addition, five sub-groups have been created. These sub-groups will be called upon to deal with, and make recommendations to the Task Force, in specific subject areas.

Results

A comprehensive Report outlining strong rationale supporting recommendations for changes to the BIA, its Rules and Directives, including other relevant aspects of the insolvency system. In addition, the Report will also serve as a form of bench marking by positioning Canada and comparing the Canadian insolvency system with that of Australia, USA and the UK while respecting the fundamental policy and flavor which characterize the personal insolvency system in Canada. The final Report will be published to elicit further public discussion before final recommendations are made to the Minister.

Method of Payment of Members

Members of the task force will conduct their duties pro bono. Their expenses, however, will be paid by the OSB.

Composition of the Personal Insolvency Task Force

Chairman

Creditors

Consumer Credit Counselling

Trustees

Academics

Judicial /Legal Community

Industry Canada and Office of the Superintendent of Bankruptcy

¹ Houlden & Morawetz, Bankruptcy and Insolvency Law of Canada, Third Edition, Carswell, p.1-1.

² A number of studies conducted in 1998 and 1999 present various explanations and/or rationales for the rapid escalation in the number of consumer bankruptcies ­ see Symposium Consumer Bankruptcies in a Comparative Context, Osgoode Hall Law Journal, Volume 37, Numbers 1 & 2, Spring & Summer 1999.

Annex 2

Glossary of Terms Used in Insolvency

Administrator of consumer proposal:  A trustee or a person appointed or designated by the Superintendent of Bankruptcy to administer consumer proposals.

Assessment interview:  An interview conducted by a trustee or an administrator of a consumer proposal before a bankruptcy or a consumer proposal is made. Its purpose is to evaluate the debtor's financial situation, explain the options available and discuss the merits and the consequences of the debtor's choice.

Assignment: An assignment filed with the official receiver. It is made by insolvent persons who assign all their property for the benefit of their creditors.

Automatic discharge: First-time bankrupts receive an automatic discharge nine months after they became bankrupt unless it is opposed by either a creditor, the trustee or the Superintendent of Bankruptcy.

Bankrupt: A person who has made an assignment or against whom a receiving order has been made or the legal status of that person.

Consumer debtor:  In the context of consumer proposals, a natural person who is bankrupt or insolvent and whose aggregate debts, excluding any debts secured by the person's principal residence, do not exceed seventy-five thousand dollars or such other maximum as is prescribed.

Consumer proposal:  A proposal made by consumer debtors to their creditors, under Division II of Part III of the Act, for a composition, for an extension of time or for a scheme of arrangement.

Counselling services:  The Act requires that counselling be provided to individuals who make a consumer proposal or file for bankruptcy. The Superintendent's Directive states that it shall consist of two stages. The first will provide information to debtors on money management, spending and shopping habits, warning signs of financial difficulties, and obtaining and using credit. The second stage will help debtors to discover and understand the causes of their insolvency or bankruptcy and will assist them in establishing a rehabilitation plan by helping them to develop recommendations and alternatives for a financial plan of action.

Courts:  Generally, refers to the bankruptcy court in which a judge or a registrar will decide on the bankrupt's application for discharge and other insolvency matters.

Credit rating:  Credit reporting agencies collect information about consumers' financial affairs and sell this information to their clients. Credit ratings are set by creditors who pass this information to the reporting agencies. It consists of a nine-point rating scale, for example: r1 indicating that payment was made on time; R2 that payment was made 30 days late, but not more than 60 days; and R9 indicating a bad debt or one that has been placed for collection and it also applies to bankruptcy.

Creditor:  A creditor is a person, institution or business to whom money is owed. Creditors fall into three categories namely: secured, preferred and unsecured.

Date of bankruptcy:  The bankruptcy or putting into bankruptcy of a person occurs at the time or date of

1. the granting of a receiving order against the person;
2. the filing of an assignment by or in respect of the person; or
3. the event that causes an assignment by the person to be deemed.

Debtor:  Includes an insolvent person and any person who, at the time an act of bankruptcy was committed, resided or carried on business in Canada and, where the context requires, includes a bankrupt.

Debts not released by order of discharge:  These are found in subsection 178(1) of the Act. They include: an award for damages in respect of an assault; a claim for alimony, or for support of a spouse or child; a debt arising out of fraud; any court fine; or debts or obligations for student loans when the bankruptcy occurs while the debtor is still a student or within ten years after the bankrupt has ceased to be a student.

Designated area:  This expression is found in Directive No. 6R which deals with the assessment of an individual debtor. "Designated area" means an area as identified from time to time by the Division Assistant Superintendent in which there is no trustee available to conduct assessments in person; and, to which no trustee from another area is willing to travel for the purposes of conducting assessments in person.

Directive:  Subsection 5(4) of the Act empowers the Superintendent to issue directives. Every person to whom a directive is issued must comply with the directive. Directives may be issued concerning: counselling; the administration of the Act; any decision of the Superintendent pursuant to this Act; the carrying out of the purposes and provisions of this Act and General Rules; the criteria to be applied by the Superintendent in determining whether a trustee licence is to be issued to a person and governing the qualifications and activities of trustees; and prescribing the form of any document that is to be prescribed by the Act and the information to be given therein. Subsection 68(1) requires that a directive be issued by the Superintendent to establish the standards for determining the portion of total income of an individual bankrupt that exceeds that which is necessary to enable the bankrupt to maintain a reasonable standard of living.

Discharge of bankrupt:  For bankrupts who do not qualify for the automatic discharge, the trustee is required within one year from the beginning of the bankruptcy to apply to the court for a hearing of the application for a discharge.

The court official has several options from which to choose. At the hearing, the court decides whether to postpone the hearing to a later date, refuse the discharge, or issue any of the following orders:

1. Order of absolute discharge which relieves the bankrupt of the debts incurred before the bankruptcy, except for the exceptions provided in the Act.
2. Order of conditional discharge where certain conditions must be met before an absolute order of discharge is issued.
3. Order of suspended discharge where the court orders a delay before the discharge becomes effective.

Dividend:  This represents the creditors' share of the proceeds, if any, on the realization of the bankrupt's estate which is distributed rateably by the trustee.

Final statement of receipts and disbursements:  This document, prepared by the trustee, must contain a complete account of all moneys received by the trustee out of the property of the bankrupt or otherwise, the amount of interest received by the trustee, all moneys disbursed and expenses incurred and the remuneration claimed by the trustee, together with full particulars, description and value of all property of the bankrupt that has not been sold or realized, setting out the reason why the property has not been sold or realized and the disposition made thereof. Once approved by the inspectors, it is submitted to the Superintendent for comments.

First meeting of creditors: A first meeting of creditors is not mandatory in consumer proposals and in bankruptcies administered under the summary provisions but a meeting must be called if it is requested by the official receiver or by creditors having in the aggregate at least twenty-five per cent in value of the proven claims.

In a bankruptcy, if a meeting is called, its purpose is to consider the affairs of the bankrupt, to confirm the appointment of the trustee or substitute another in place thereof, to appoint inspectors where applicable, and to give such directions to the trustee as the creditors may see fit with reference to the administration of the estate.

In a proposal, if a meeting is called, its purpose will be to discuss and consider the terms of the proposal and vote on the proposal.

Insolvent person: A person who is not bankrupt and who resides, carries on business or has property, in Canada, whose liabilities to creditors provable as claims under this Act amount to one thousand dollars, and

1. who is for any reason unable to meet obligations as they generally become due,
2. who has ceased paying current obligations in the ordinary course of business as they generally become due, or
3. the aggregate of whose property is not, at a fair valuation, sufficient, or, if disposed of at a fairly conducted sale under legal process, would not be sufficient to enable payment of all obligations, due and accruing due.

Joint assignment:  Paragraph 155(f) of the Act, provides that in circumstances specified in directives of the Superintendent, the estates of individuals who, because of their relationship, could be reasonably be dealt with as one estate may be dealt with as one estate.

Letter of comment:  This refers to the letter from the Superintendent commenting on the trustee's statement of receipts and disbursements. When the statement needs to be taxed, this letter must be placed by the trustee before the taxing officer.

LICO (Low-income cutoffs): These are prepared yearly by Statistics Canada. LICOs are income thresholds, determined by analysing family expenditure data, below which families will likely devote a larger share of income to the necessities of food, shelter and clothing than the average family would. LICOs are used by the Office of the Superintendent in the preparation of the surplus income standards.

Locality of debtor:  The principal place

1. where the debtor has carried on business during the year immediately preceding bankruptcy,
2. where the debtor has resided during the year immediately preceding bankruptcy, or
3. in cases not coming within paragraph (a) or (b), where the greater portion of the property of the debtor is situated.

Mediation under the Bankruptcy and Insolvency Act:  Mediation is a process of resolving conflict between two or more individuals. It is speedier and less costly than a formal court decision. It allows people affected by the bankruptcy to be directly involved in deciding how their disagreement will be settled. In bankruptcy, mediation is available to resolve two types of disputes:

1. disagreements over the amount of surplus income the bankrupt will pay during the bankruptcy; and
2. disagreements regarding the conditions that the trustee has recommended for a bankrupt's discharge.

Official Receiver: A federal government employee in the Office of the Superintendent of Bankruptcy and an officer of the court with specific duties under the Act. Some of the statutory duties are: accepting the documents for the filing of proposals and bankruptcies, examining bankrupts under oath and chairing meetings of creditors.

Preferred creditors:  Creditors who do not hold security for their debt but are granted a certain preference under section 136 of the Act. Examples of preferred creditors are: wage claimants and a family support claim for periodic amounts accrued in the year before the date of the bankruptcy that are payable, plus any lump sum amount that is payable.

Proof of claim: A prescribed form that will be sent along with the notice of bankruptcy or notice of proposal. Creditors are required to fill out and return this form to the trustee, or to the administrator of the consumer proposal, in order to prove their claim. If a meeting of creditors is called, those creditors wishing to vote at the meeting must file their proof of claim with the trustee before the time set for the opening of the meeting.

Property: Includes money, goods, things in action, land and every description of property, whether real or personal, legal or equitable, and whether situated in Canada or elsewhere, and includes obligations, easements and every description of estate, interest and profit, present or future, vested or contingent, in, arising out of or incident to property.

Provable claim:  Includes any claim or liability provable in proceedings under this Act by a creditor.

Reaffirmation agreement:  An agreement between a debtor and a creditor whereby a debtor revives a pre-bankruptcy debt, for which the debtor was discharged under section 178 of the Act.

Redemption of security:  Subsection 128(3) of the Act, allows the trustee to redeem a security on payment to the secured creditor of the debt or the value of the security as assessed, in the proof of security, by the secured creditor. Before doing so, the trustee will ensure that there is a benefit for the estate.

Remuneration of trustee:  In estates under summary administration and in consumer proposals the trustee's, or administrator's, fees and expenses are set by the Bankruptcy and Insolvency Rules.

In all other cases, the remuneration of the trustee falls under the provisions of section 39 of the Act. Subsection 39(1) states that the remuneration of the trustee shall be such as is voted to the trustee by ordinary resolution at any meeting of creditors. Where the remuneration is not fixed pursuant to subsection 39(1), subsection 39(2) states that the remuneration shall not exceed seven and one-half per cent of the amount remaining out of the realization of the property of the debtor after the claims of the secured creditors have been paid or satisfied. Subsection 39(5) empowers the court to increase or reduce the remuneration.

Secured creditors:  Creditors who have taken some measure to protect themselves and hold a mortgage, pledge, lien or similar instrument on, or against, the debtor or bankrupt's property. If they are not paid, they can enforce their claims by recovering the assets on which they hold security.

Statement of affairs:  In the initial stages, the debtor is required to file a sworn document called a Statement of Affairs, which lists the debtor's assets and liabilities in prescribed form, showing the property of the debtor, the names and addresses of the creditors and the amounts of their respective claims, and the nature of each debt whether secured, preferred or unsecured. The statement of affairs also provides information relating to the affairs of the debtor and budget information. In accordance with subsection 19(3), the trustee must verify this document.

Stay of proceedings:  Without leave of the court, upon the filing of a proposal, a notice of intention to make a proposal or a bankruptcy, no creditor with a claim provable in bankruptcy shall have any remedy against the debtor or the debtor's property or shall commence or continue any action, execution or other proceedings for the recovery of a claim provable in bankruptcy until:

1. In the case of a consumer proposal, it has been withdrawn, refused, annulled or deemed annulled; or the administrator has been discharged.
2. In the case of a bankruptcy, the trustee has been discharged.

Summary administration: A simplified procedure for small estates where the bankrupt is not a corporation and the realizable assets of the bankrupt will not exceed ten thousand dollars. Generally, in these estates: the official receiver will not require the trustee to deposit a security; there will be no publication of a notice of bankruptcy in a local newspaper; the first meeting of creditors will be called only if requested by the official receiver or creditors holding in aggregate 25% in value of the proven claims; no inspectors are appointed; joint assignments are permitted; under certain circumstances, trustees may use a single trust account; one notice may be used for the bankruptcy and the impending automatic discharge, or application for discharge, of the bankrupt; trustee's accounts are taxed only if requested or objected to; and the trustee may be discharged without a court appearance. The trustee's fees and disbursements are prescribed.

Superintendent of Bankruptcy:  A federally appointed official who oversees the administration of the Bankruptcy and Insolvency Act in Canada. The Superintendent is responsible for: supervising the administration of estates in bankruptcy, commercial reorganizations, consumer proposals and receiverships; maintaining a publicly accessible record of bankruptcy and insolvency proceedings; recording and investigating complaints regarding possible wrong doing by someone involved in the insolvency process; licensing of private sector trustees to administer estates and appointing administrators of consumer proposals; setting and enforcing professional standards for the administration of estates.

The Superintendent's Web site address is: http://osb-bsf.ic.gc.ca

Surplus income:  Payments required, if any, to be made by a bankrupt to the trustee for distribution to creditors. The amount of the payment is fixed by the trustee, at the beginning of the bankruptcy, having regard to the standards established by the Superintendent and to the personal and family situation of the bankrupt. This amount is subject to change if there are material changes in the personal or family situation of the bankrupt, or if the official receiver so recommends.

Total income:  For the purpose of establishing the surplus income, total income includes all revenues of a bankrupt of whatever nature or source whether it is exempt or not.

Trustee in bankruptcy:  A trustee in bankruptcy is a person licensed by the Superintendent of Bankruptcy to administer proposals and bankruptcies. The trustee represents the creditors in the estate and is an officer of the court. The trustee is also responsible to provide information and advice to the debtor about both the proposal and bankruptcy processes and make sure that the rights of both the debtors and the creditors are respected.

Trustee's report on the bankrupt's application for discharge (also known as the 170 report): The trustee must prepare a report in the prescribed form with respect to the affairs of the bankrupt, the causes of the bankruptcy, the manner in which the bankrupt has performed the duties imposed under the Act or obeyed the orders of the court, the conduct of the bankrupt both before and after the date of the initial bankruptcy event, whether the bankrupt has been convicted of any offence under the Act, and any other fact, matter or circumstance that would justify the court in refusing an unconditional order of discharge. This report needs to be approved by the inspectors or provide the reasons why the inspectors did not approve it. The trustee is required to send a copy of this report to the creditors who have requested it.

Unsecured creditors:  Creditors who do not have any security for the debt owing to them.

Vesting of property in trustee:  All property owned by the bankrupt or in which the bankrupt may have a beneficial interest, with certain exceptions, passes on to the trustee in bankruptcy.

Annex 3

Reservations and Dissents

Three members of the Task Force have submitted dissents from the PITF Report. The first of these can be found at footnote 31 and the other two are reproduced below.

Reservations and Dissent: Professor Iain Ramsay, Osgoode Hall Law School, York University, Toronto.

The Report of the Personal Insolvency Task Force contains some valuable recommendations in relation to the personal bankruptcy system in Canada, notwithstanding the constraints of an unrealistic time frame for reporting and the absence of a research budget or plan. Given the nature of these constraints, The Task Force was neither able to analyse some central issues in the current bankruptcy system nor to assess the efficiency and fairness of significant changes to the personal insolvency system brought about by the 1997 reforms of the Bankruptcy and Insolvency Act (BIA).

The amendments to the BIA in 1992 and 1997 formed the background to the creation of the Personal Insolvency Task Force. The central changes in 1992 were the introduction of an automatic discharge for debtors, the requirement of mandatory counselling, and the introduction of a consumer proposal option which was intended to encourage consumers to avoid bankruptcy by making a proposal to their creditors to repay all or a proportion of their debts. The 1997 amendments introduced mandatory payments for debtors with "surplus income"¹ for nine months with the possibility of an extension to twenty one months. This reform was also intended to induce "higher income" debtors to undertake a consumer proposal which would permit them to make repayments over a longer period (usually three years). The Office of Superintendent of Bankruptcy also increased significantly the fees payable to trustees for administering a proposal, thereby creating incentives for trustees to recommend proposals to debtors. Another significant change was the introduction of the two year non-dischargeability period for student loans, a period which was increased to 10 years in the 1998 Budget legislation. The 1997 reforms were driven by a perception that it was "too easy" to declare bankruptcy and that high income debtors were able to take advantage of the system. These arguments were made primarily by creditors. There was no systematic documentary basis for these assertions although attention was drawn to the increasing bankruptcy rate during the 1990s .

There was substantial criticism of the process which led to the 1997 reforms. In particular, during the legislative passage of the 1997 amendments, The Senate Standing Committee on Banking, Trade and Commerce drew attention to the "existing inadequate data" which failed to provide a basis for sound policy debate and it commented that "[w]ith respect to consumer bankruptcy, the database necessary to make sound public policy simply does not exist. Industry Canada is making a modest beginning in gathering the necessary data, but much remains to be done". The Committee criticised also the fact that the proposals seemed to reflect "trade-offs" among insiders who were technical experts and drew attention to the absence of representation of important interests. The Committee hoped that Industry Canada would undertake a comprehensive study of consumer bankruptcy which would permit a sound evaluation of public policy towards consumer bankruptcy and towards student bankruptcies.²

Given this background the creation of the Personal Insolvency Task Force in Fall 2000 seemed opportune. The idea of a Task Force connotes a systematic overview of an area, the collection of research and conceptual analyses of central issues in consumer bankruptcy. The Task Force on the Future of the Canadian Financial Services Sector is a good recent example of this type of undertaking. There had been no systematic review of consumer bankruptcy in Canada since the Tassé Committee in 1970 and there have been major changes in credit granting practices as well as in the social safety net since that time. Some of the issues which a Personal Insolvency Task Force might address include: what is personal bankruptcy for at the beginning of the 21^st century: is it a form of consumer protection, a substitution for social welfare, a creditor's remedy? ­ and what implications does the adoption of particular models have for the structure and detail of the BIA? How does bankruptcy compare with other approaches to the social and economic issue of overindebtedness, such as the role of credit counselling agencies? What is the current role of bankruptcy within the existing system of credit granting, particularly given the development of sophisticated systems of credit scoring which permit institutional creditors to predict with some accuracy the risk from different consumer markets? What is the optimal balance of consumer proposals versus bankruptcies and what has been the impact of the 1997 amendments? Does the operation in practice of consumer proposals suggest that they meet the objectives outlined for them in 1992? Is the consumer bankruptcy delivery system in Canada, which is a publicly regulated system of private service provision efficient? Within this topic would be included issues of access to bankruptcy and whether the unique Canadian system of permitting trustees to represent both creditors and debtors is desirable.

In order to answer the above questions it is necessary to undertake (a) conceptual research which explores some of the central concepts in existing personal insolvency law (b) economic analyses of different models of bankruptcy and service delivery (c) analyses of data on the operation of the existing system including interviews with individuals who have experienced the process (d) collection of data on public perceptions of the bankruptcy process. Systematic comparative analysis would be an integral part of the process.

It might seem from some of the initial material relating to the task force that this would have occurred. At the outset it was stated that the Personal Insolvency Task Force was created "to start without any preconceptions and to explore alternative models of personal insolvency processes better geared towards addressing the perceived weaknesses of our Canadian insolvency system". This was not however what happened. The central constraints on the Task Force were the completely unrealistic time frame for framing a report and the absence of a research budget and plan. It is true that some research was conducted but there was no overall direction to this process nor was there an attempt to work through systematically the implications of this and other existing research for policy recommendations. As a consequence the research did not inform the policy recommendations or provide a framework for analysing the impact of specific recommendations.

An example of the problematic nature of this process concerns the important question of the optimal balance of consumer proposals versus bankruptcies and assessing the impact of the 1997 amendments. One of the consequences of the 1997 amendments has been, according to the Office of Superintendent of Bankruptcy, a sharp increase in the number of consumer proposals, from about 5% to 14% of bankruptcy filings. This phenomenon raises several issues which merit further investigation . First, what accounts for this increase? Is it debtor demand or trustee steering in those cases where there is a realistic choice between a bankruptcy and proposal, given the substantially increased fees for administering proposals? Second, consumer proposals were intended as a voluntary alternative for individuals who wished to avoid bankruptcy but it is possible that they have become mandatory for debtors who are earning more than a certain level of surplus income. This is the effect of the introduction in 1997 of what is in substance a "means test" for the ability to access individual bankruptcy. Third, there is the issue of success or failure of proposals. There are no reliable national data on the failure rate for proposals and the statistics quoted in the Task Force Report must be treated with caution since they do not describe a full set of completed proposals. An important question is why significant numbers of proposals fail. Hypotheses might include poor gatekeeping by trustees, overoptimistic debtors, or the use of proposals for collateral purposes by debtors. Finally, there appears to be a significantly higher level of homeownership among individuals making proposals compared with individuals filing an assignment in bankruptcy. This raises questions concerning the ability of individual debtors to include secured creditors within a proposal, a possibility which exists for businesses in commercial proposals. Unfortunately, none of these issues were analysed systematically by the Task Force.

A second important issue concerns the delivery of bankruptcy services to consumers and the role of the trustee in bankruptcy. One of the significant developments of the past twenty years has been the growth of a consumer bankruptcy industry consisting of trustees in bankruptcy who specialise in the processing of individual bankruptcy files. These firms may process annually large numbers of individual bankrupts and they advertise widely the value of their services to potential consumers. There has been little investigation of whether this industry, which serves individuals who are often in a vulnerable position and without access to legal advice, is the optimal method of delivering bankruptcy services. The Canadian system places the trustee in the position of advising and counselling a debtor and at the same time acting as the representative of creditors. The impression from trustees' advertising is that the trustee is the debtor's friend and yet the trustee is also the impartial representative of creditors. This places the trustee in a clear conflict of interest. Whether the potential dangers of such a system with an inherent conflict of interest are outweighed by the reduction in the transaction costs of processing bankruptcies remains a topic for future analysis. Unfortunately the Task Force avoided discussion or analysis of these issues notwithstanding the existence of research which has raised questions concerning the efficacy of the existing system.

The failure by the Task Force to address this issue relates to a broader theme concerning the impact of the composition of the Task Force on the issues addressed . It has become common in Canada in areas such as this which raise issues of technical expertise to create "stakeholder committees". The assumption is that these committees can combine expertise and politics by bringing together interest groups and experts.

Bankruptcy law appears as a relatively arcane area of law served by a specialised group of professionals which administers personal bankruptcies and a specialised independent agency, the Office of the Superintendent of Bankruptcy (OSB), which oversees the administration of the bankruptcy process. Public awareness of the process of bankruptcy is relatively limited and there is sporadic coverage of personal bankruptcy issues in the media. Elected politicians have shown little general interest in the subject. These characteristics which I have sketched may create a situation where professionals have a significant influence on the development of the law. Bankruptcy policy making in the area of consumer bankruptcy has been generally a politics of "insiders" with trustees, the Office of the Superintendent of Bankruptcy and organised creditors as primary actors in the development of policy in this area.

Stakeholder committees composed largely of professional insiders tend not to question the existing organization of services or to challenge established professional interests. This observation is not to impute any bad faith to the professionals but simply to acknowledge the dynamics of this form of review process. In the case of The Personal Insolvency Task Force the delegation of reform initiatives to the "insolvency community" clearly limited the scope and vision of the Task Force Report.

In conclusion, the Task Force has produced some valuable proposals . However, it would be unfortunate if the Personal Insolvency Task Force Report was viewed as meeting the need for the comprehensive study of consumer bankruptcy and its administration in Canada that was demanded by the Senate Committee in 1997. Perhaps the Law Reform Commission of Canada would be the appropriate body for such an undertaking.

Reservations and Dissenting Views on the Task Force ReportJacob S. Ziegel ¹

I have appreciated being a member of the task force and I have learned much from the experience. I have also greatly appreciated the friendly atmosphere of the task force meetings, the great tact with which Maître Goldstein chaired the meetings, and the very helpful support services provided by Dave Stewart, Assistant Superintendent of Bankruptcy, and the other OSB members in Ottawa. Nevertheless, like Professor Ramsay, I have important reservations about the way the task force discharged its mandate, and I do not share the philosophy which informed some of the task force's basic decisions.

The task force Report records that the majority of its members were basically satisfied with the existing structure of Canada's insolvency system² and that the members felt that the system only required some "tweaking" or incremental reforms to make it work better. In fact, a significant number of the task force recommendations are more than simple refinements of existing provisions, although this is not an argument against them. Quite the contrary. Nor do I disagree with the view that Canada's consumer insolvency system is generally humane and progressive and that it compares favourably with the insolvency system in other Western market-oriented democracies.³ At the same time, I am of the view that the task force Report contains at least one major gap and that some of the recommendations, particularly those affecting the status of private trustees and the financing of their services, are very problematic. It is these features of the Report that I largely wish to address in the balance of this dissent.

1. Implications of the Dramatic Increase in the Number of Consumer Insolvencies

There has been a dramatic increase in the number of consumer insolvencies in Canada over the past 25 years. Canada has the dubious distinction of being second only to the U.S. in having the highest number of consumer insolvencies in the Western world, both in absolute numbers and on a population basis. In 1966, the number of consumer insolvencies in Canada was 1,903⁴ ­ less than the number of business insolvencies. By 1997, the number of consumer insolvencies (straight bankruptcies and consumer proposals) had reached a record 90,034, a fourtyfivefold increase. On a population basis, the Canadian consumer insolvency rate grew from 0.43 per 1,000 population in 1976 to 3.00 in 1997⁵, a 600% increase in 21 years. The number of consumer insolvencies dropped modestly in 1998 and 1999 but started to pick up again in 2000. In 2001, the number of consumer insolvencies amounted to 92,836.⁶ What is significant about the 1990s figures is that prior to 1998 they continued to grow despite the fact that Canada was experiencing a mini-boom.

Important empirical studies conducted in Canada over the past 20 years have also given us a good insight into the demographics of the insolvents, their income and debt structures, and the factors contributing to the consumers' financial downfall. Regularly leading the list are unemployment and too much debt ­ debts owed preponderantly to financial institutions. Consumer credit grew from $2.5 billion in December 1956 to $140 billion in December 1999, an increase of 5,600 per cent. Between 1982 and 1998, there was a nearly 300 per cent increase in the volume of outstanding consumer credit. The growth in credit card debt has been even greater, as has the number of credit cards held by Canadians. It is generally agreed that there is a close correlation between the number of consumer insolvencies in Canada and the amount of outstanding consumer credit.

These readily available statistics should have provoked close scrutiny by the task force, not just to determine how well the Canadian insolvency system serves consumers once they have reached the breaking point but also about what should or could be done to reduce the escalating level of debt and the number of insolvencies, and to impose some accountability on the credit industry for its role in contributing to the current malaise as well as the high cost of consumer credit.

Unhappily, there was no such scrutiny. The item did not even appear on the task force's original agenda and was not included in the agenda until several months later and then only at the request of this writer. When the issue was eventually discussed by the task force⁷ there was only a mild reaction and few expressions of concern, and the only consequence was that the chair established another working group to consider the problems and to report back.⁸ To the best of my knowledge, the working group never reported.⁹

The only reference to this important topic in the task force Report is a grudging admission that, yes, the number of consumer insolvencies has grown greatly, as has the volume of outstanding consumer credit, but there is no expression of concern and there are no recommendations.

The task force's passive position is in striking contrast with the reactions of earlier committees and working groups in the 1990s during consideration of the 1992 and 1997 amendments to the BIA. These entities expressed keen concern about the growing number of consumer bankruptcies but, mistakenly in my view, put the blame on debtors for mismanaging their financial affairs and for abusing the bankruptcy system by resorting to bankruptcy when debtors had surplus income and presumably could have made other arrangements with their creditors.

The 1992 amendments to the BIA led to the introduction of mandatory counselling requirements for individual bankrupts as a condition to their discharge from bankruptcy,¹⁰ the 1997 amendments to the imposition of obligations on bankrupts to surrender part of their surplus income for distribution among creditors.¹¹ Regrettably, the task force Report makes no attempt to assess the impact of either of these initiatives although the data is now available¹² to enable us to draw at least some preliminary conclusions with respect to the 1997 amendments.¹³ It is that about 90 per cent of consumer bankruptcies qualify for summary administration of the estates and therefore have net non-exempt assets of less than $10,000, and that only about 15 per cent of these bankrupts have any surplus income as determined under the Superintendent's directive. Even in those cases, the net payout to creditors from individual bankruptcies initiated in 1998 was only 17.3% of all disbursements, with average receipts by the estates from all sources amounting to $2,460.84 and median receipts to $1,795.13.

I believe the task force's failure to address these issues seriously was due to a number of factors. One was the unrealistic time table imposed on the task force to complete its deliberations ­ little more than a year from start to finish. A second was the unwieldy size of the task force, which made it difficult to mount and sustain a major policy discussion. A third factor was the absence of important constituencies in the task force's composition and the overrepresentation of others. The task force contained no sociologists or behavioral psychologists, and included no registrars of bankruptcy although the registrars have much greater exposure to the day to day problems of consumer bankrupts at the judicial and administrative levels than do the judges in the provincial superior courts.

2. The Role of Private Trustees and the Payment of Trustees' Fees

The Report alleges that recent court decisions and other developments are seriously threatening the viability of Canada's bankruptcy system, and also notes that the task force spent more time discussing this issue than any other. The Report also refers to the concerns expressed by Professor Ramsay and this writer that the existing bankruptcy system puts trustees in a position of conflict, but explains that the other task force members did not see any conflict. Consequently, the Report does not pursue this issue and obviously offers no solutions. The following comments begin with a discussion of the conflict of interest issue since, in my view, it also casts light on the trustees' fee issue.

(a) Conflict of Interest Issue

The office of trustee in bankruptcy was introduced in English bankruptcy legislation in the 19^th century and was subsequently adopted in Canada's Bankruptcy Act of 1919 and carried forward in subsequent revisions and amendments of the Canadian legislation. In England, a trustee is appointed by the debtor's creditors after the debtor has been declared bankrupt, whether voluntarily or involuntarily.¹⁴ In England, if the creditors are disinterested in appointing a private trustee or a private trustee cannot be found to act, the official receiver will act as trustee and administer the estate.

In Canada, the picture became clouded at an early date because a voluntary bankruptcy under the BIA does not involve a court hearing but only an "assignment" by the debtor for the general benefit of the debtor's creditors, which is filed with the official receiver in the debtor's locality.¹⁵ The assignment is not complete until the official receiver has appointed a trustee to administer the estate. The Act requires the official receiver to appoint a trustee having regard to the most interested creditors "if ascertainable at the time".¹⁶ In practice, a trustee is nominated in the debtor's assignment and is almost invariably accepted by the official receiver.¹⁷ The trustee who is thus appointed is also the person who has prepared the assignment and supporting documents, who has discussed the debtor's financial circumstances with the debtor, and who has advised the debtor on the debtor's best course of action.

The picture has become still more complex over the past ten years or more because trustees advertise their services widely, thereby leading debtors to believe that the trustee will be protecting the debtor's best interests if the trustee is consulted, and retained by the debtor. However, it is well established law that, once the bankruptcy has occurred and the trustee has been formally appointed, the trustee's primary obligations are to the creditors and the bankruptcy court, not to the debtor.

This is true when the trustee applies section 68 of the Act to the debtor's circumstances to determine whether the debtor has surplus income, and in what amount, and the payments the debtor is required to make to the trustee. There are provisions for mediation and a right of appeal to the court if the parties cannot reach agreement on the s.68 requirements. The trustee is in an even stronger position of conflict in filing the trustee's s.170 report at the end of the nine months' period following the bankruptcy order. This report requires the trustee to report inter alia on the causes of the bankruptcy, the manner in which the debtor has performed his duties under the Act, the bankrupt's conduct both before and after the initial bankruptcy event, and "any other fact, matter or circumstance that would justify the court in refusing an unconditional order of discharge."¹⁸ The trustee is further obligated under s.170.1 of the Act to include a recommendation as to whether the bankrupt should be discharged subject to conditions, having regard to the bankrupt's conduct and ability to make payments. In my view, a conflict of interest also arises where, as has often been the case in the past,¹⁹ the trustee files an objection to the debtor's discharge because the trustee has not yet received his full fee and disbursements.

The Search for A Solution

There are several possible solutions to the conflict I have described, which I will sketch without attempting to enter into details. One would be to follow the procedure in the U.S., Australia, and England where the person or agency preparing the voluntary bankruptcy petition does not also serve as trustee.²⁰ Another possibility would be to amend the BIA so that the decisions likely to create the greatest conflicts are made by the official receiver and not the trustee. A third, much more problematic, solution would be for the debtor to sign a waiver at the time of the trustee's appointment acknowledging the fact that after his appointment the trustee will no longer be acting for the debtor but will be governed by the BIA provisions. The point of these remarks is not to find the most appropriate solution but to indicate why, in my view, there is a problem that needs to be resolved.

(b) Trustees' Fees

Understandably, trustees expect to be paid for their services and to recover their disbursements. Both are perfectly legitimate objectives. The difficulty is that a high percentage of consumer bankrupts are not in a position to pay cash up front. Under the BIA, the trustee has first claim, among unsecured claims, for the trustee's fees and disbursements²¹ but this will often not be sufficient to guarantee payment of the trustee's claim. As previously noted, about 90 per cent of consumer bankruptcies have non-exempt assets below $10,000. The surplus income provisions in s.68 of the BIA may also be insufficient to bridge any gap since only about 15 per cent of the summary administration bankruptcies have any surplus income.

It is for these reasons that trustees frequently require the debtor to enter into an agreement assuming responsibility for payment of the trustee's fees and disbursements, and frequently oppose the debtor's discharge if part of the fees and disbursements remain unpaid. However, over the past few years, registrars and superior court judges in Alberta, Manitoba, Quebec, and Nova Scotia have denied the enforceability of fee agreements and have also looked askance to trustees objecting to the debtor's discharge, at least where the debtor has no surplus income.²² Presumably it is these decisions the task force Report is alluding to in speaking about a threat to the bankruptcy system's viability.

I believe the basic issue for consideration is whether the courts' objections should be overridden in favour of protecting trustees' entitlement to their fees and disbursements or whether alternative solutions need to be devised for consumer bankrupts at the bottom of the economic ladder. The Report recommends²³ an amendment to the BIA making fee agreements enforceable even after the debtor's discharge and even though the debtor has no surplus income. The Report also indicates that fee agreements should not be permitted in hardship cases and that the fee agreement would only remain enforceable for a prescribed period following the debtor's discharge. In my view, these safeguards are too vague and do not overcome the basic objection, frequently articulated in the recent decisions, that consumer bankrupts should not be required to make fee payments if their income is below the LICO threshold.

Other options to provide bankruptcy services to LICO debtors have been developed in other jurisdictions, notably Australia, and are under consideration in England, but regrettably were not explored by the task force. Similarly, no attempt was made to explore Canada's own experience under the federal insolvency assistance programme in place before 1978. Instead, it was claimed by task force members that Canada had developed a "unique" private trustee system which worked well in all but a small percentage of cases and only required minor adjustments. It is difficult to accept these claims at face value. If they were correct, the Report would not be complaining about the threat posed by the recent decisions and the task force would not have spent so much time discussing solutions to the existing hurdles.

3. Some Concluding Thoughts

Consumer insolvencies are a major phenomenon in Canada and raise very complex social, economic and legal policy issues. It speaks well for the task force that in the short space of about twelve months it was able to produce a report spanning a wide range of issues even if a substantial number of them deal with house keeping matters. I have expressed my concerns about the task force's failure to address the implications of the growing number of consumer insolvencies and have indicated my disagreement over the recommended solution to the trustees' fees imbroglio.

I would not wish to leave the impression however that I agree with all the task force's other recommendations or non-recommendations. The contrary is true.²⁴

My own views however are much less important than the need for a vigorous public debate on all aspects of the Report and for further empirical studies of the effects of Canada's existing insolvency system.

¹ The concept of surplus income is based on Statistics Canada Low Income Cut Offs.

² See Twelfth Report of the Standing Senate Committee on Banking, Trade and Commerce, February 1997 at pp 3-4, 8.

¹ Professor of law emeritus, University of Toronto.

² I use "insolvency" in these remarks as encompassing consumer proposals under the BIA as well as straight consumer bankruptcies. In the American Bankruptcy Code all insolvency proceedings, ch.13 as well as ch.7 proceedings, are designated bankruptcy proceedings and this often leads to confusion in comparing Canadian and American bankruptcy statistics.

³ However, this comparison must not be pushed too hard. Many continental European countries take a much stricter view about the consumption of consumer credit and the payment of debts than is true in Canada, and operate in a social and legal climate that differs significantly from Canada's.

⁴ OSB, International Consumer Insolvency Statistics, June and October 1999, p.2.

⁵ ibid., p.4.

⁶ OSB, Bankruptcy Statistics for Calendar Year 2001, Tables 2 and 4B.

⁷ With the aid of a memorandum from this writer.

⁸ The writer was not a member of the Working Group.

⁹ However, Prof. Iain Ramsay prepared and circulated a working paper on credit cards.

¹⁰ BIA s.157.1.

¹¹ BIA s.68 and Superintendent of Bankruptcy, Directive No. 11R, October 3, 2000.

¹² See e.g., OSB, Study of Receipts and Disbursements[: ] Sample of 900 Summary Administration Estates. Preliminary Results (undated but distributed to the TF members in January 2001. Ironically, the study was requested by the Task Force, which makes it unfortunate that the results of the Study and other Studies very helpfully prepared by the OSB in 2001 are not discussed in the report). The sample 900 estates were opened in 1998 and were closed as of Dec. 8, 2000. The surplus income provisions in the BIA only came into effect on May 1, 1998, and therefore the results of the study may not accurately predict this source of income in post-1998 years.

¹³ The OSB has also commissioned a questionnaire study of consumer bankrupts' evaluation of the counselling sessions mandated under the BIA. I understand that Prof. Schwartz will prepare a report for the OSB analyzing the results.

¹⁴ Ian F. Fletcher, The Law of Insolvency, 2^nd ed., pp.38-39 (Sweet & Maxwell, 1996).

¹⁵ BIA s.49(3).

¹⁶ BIA s.49(4).

¹⁷ So much so that the Report recommends changing s.49(4) so that the Act will conform with the established practice.

¹⁸ BIA s.170(1)(f).

¹⁹ For a forceful exposition of this phenomenon from an Alberta perspective, see Registrar Funduk's judgment in In the Matter of Applications for Discharge by First Time Bankrupts, Alberta Queen's Bench, March 27, 2001.

²⁰ See further J.S. Ziegel, "Financing Consumer Bankruptcies, Re Berthelette, and Public Policy" (2000) 33 Can. Bus. L.J. 294, 304 et seq.

²¹ BIA s.136(1)(b).

²² In addition to Registrar Funduk's judgment, supra n.19, see Re Berthelette (1999), 174 D.L.R. (4^th) 577 (Man. C.A.) and the earlier case law cited there, and Re Threasa Georgina Weatherbee (2001), 25 C.B.R (4^th) 133 (N.S.S.C.) and Re John Alex Macdonald (Reg. Hill, March 27, 2001).

²³ Report, p.51 et seq.

²⁴ To give examples, I have significant doubts about the practicability of the recommendations with respect to the reaffirmation of dischargeable debts and about the need for complex provisions dealing with the recognition of foreign insolvency orders discharging debts governed by Canadian law. I am also concerned about the report's failure to recommend changes in Part III.2 of the Act with respect to the position of secured claims and making the automatic stay in s.69.3 inapplicable to secured claims unless the debtor first obtains an affirmative order from the court. The Report's treatment of these last two issues leaves much to be desired.

Annex 4

Comparison with Systems in Other Countries

The Canadian approach to bankruptcy takes a middle road between the legitimate concerns of creditors who seek monies owed to them (as well as the concern of society that contracts be enforced) and the need of a debtor to move beyond the crushing burden of debt to become a fiscally responsible member of society. The legislation is aimed at helping the "honest but unfortunate" debtor, an individual who has come upon hard times without fault. Other countries take different approaches.

The Canadian bankruptcy regime finds its historical roots in British legislation, but it is most often compared to the American approach because of our close economic relationship with the United States and our shared cultural values. Australian legislation has a strong resemblance to Canada's, most likely because of our shared roots and similar economies. The Continental European approach to bankruptcy is much different, with a greater emphasis on repayment and less concern about rehabilitating debtors.

The various bankruptcy regimes of the United States, Great Britain, Australia and the Continent are important to consider, whether to emulate or to avoid. Only the U.S. has a bankruptcy rate similar to that of Canada, a fact that is most likely based on similar credit-granting practices at the consumer levels. Australia may be fast approaching the Canadian position as credit becomes easier to obtain. Great Britain has a lower personal bankruptcy rate than Canada, which may reflect social attitudes as well as credit practices and the costs of the bankruptcy process. Continental countries have even lower personal bankruptcy rates ­ in some cases, bankruptcy as we know it is not really available to personal debtors. A quick survey of some of the legislative approaches to consumer debt in other countries will inform our recommendations dealing with the Canadian system.

United States

Canada shares the world's longest undefended border with the U.S. and our economies and cultures are intimately intertwined. The elephant will influence the practices and approaches of the mouse in economic matters, including credit practices and consumer spending patterns. The more tightly woven safety net (a relative term) in Canada does affect, however, the causes of bankruptcy and indicates that certain lessons that may be drawn from the American experience should be approached with caution.

The U.S. has been known as the home of the "fresh start" policy since the end of the 19^th Century. It is intended that a debtor should be able to begin again although a personal debtor under the current U.S. Bankruptcy Code is subject to a number of non-dischargeable debts and other restrictions with respect to discharge so that at least one author has referred to bankruptcy as being a "stale start."¹ Moreover, the currently pending amendments are even more restrictive ­ so much so that some commentators view the pending amendments as "punitive" to personal debtors, or a "throwback" to previous centuries. So much is this the case that former President Clinton pocket vetoed the pending bill when it was reintroduced after the 2000 election.

Individuals have basically two choices under the Bankruptcy Code: they may use Chapter 13 for wage earner plans (similar to consumer proposals under the Canadian legislation) or may use Chapter 7 to file for bankruptcy. The U.S. has a separate system of bankruptcy courts staffed with full-time specialist judges. Lawyers play a role in the preparation of documents and the filing of petitions for the debtor. The rough equivalent of the Superintendent and Official Receivers can be found in the U.S. Trustee and the Executive Office for the U.S. Trustee, which is a division of the U.S. Department of Justice. The U.S. Trustee is responsible for appointing private sector "panel trustees" for Chapter 7 bankruptcies and "standing trustees" for Chapter 13 plans.

An American debtor currently may file a voluntary bankruptcy, a "petition," under Chapter 7 without showing a minimum level of debt or proving the status of insolvency, unlike his or her Canadian counterpart. The petition is not required to designate a trustee. The petition triggers an automatic order for relief and the appointment of an interim trustee drawn from the panel trustees in the district. The trustee convenes a meeting of creditors, which the debtor must attend, and advises the debtor on the consequences of bankruptcy.

Property exemptions are governed by state law and can be, by Canadian standards, exceedingly generous. Texas, Florida and Iowa, for example, give virtually unlimited homestead exemptions. This has, critics allege, turned these states into havens for individuals who want to protect large assets from the bankruptcy process. American debtors also receive more protection from secured creditors than their Canadian counterparts. In the U.S., secured creditors are automatically stayed from enforcing their security interest. The bankrupt individual must elect whether to redeem or surrender the collateral or to reaffirm the security agreement by negotiating new terms with the lender.

The list of non-dischargeable debts in U.S. bankruptcies is longer than the Canadian list and significantly longer than that found in other common law countries. In addition to the non-dischargeable debts found in Canadian legislation, the current Bankruptcy Code includes such matters as debt for personal injury caused by the operation of a motor vehicle while intoxicated; debt for malicious or reckless failure to fulfill a commitment to maintain capital of a federal depository institution; and debt for a fee or assessment to a condominium or co-operative housing association. In total, these exceptions have a significant impact on the "fresh start" concept as originally intended for American debtors.

A debtor may initiate proceedings under Chapter 13 by filing a petition. The petition results in an automatic stay of proceedings against the debtor and triggers the appointment of a standing trustee. The Chapter 13 plan must provide for payment of future income to the trustee and provide for full payment of priority claims and equal treatment of all creditors in each class of creditors. A plan can run for three years unless a court orders the plan to be extended (to a maximum of five years). Under Chapter 13, a debtor may stretch out payments, cure a default or reduce a lien to current market value for the purposes of redemption. There is an exception for the modification of claims on the debtor's personal residence: to protect the integrity of the real estate market, secured claims on the residence cannot be modified. The court confirms the plan, unlike the provisions in the BIA requiring a majority of creditors to support a consumer proposal. The U.S. court will likely approve a Chapter 13 plan if the plan was submitted in good faith, unsecured creditors will get at least as much as they would under a Chapter 7 bankruptcy, and the plan deals properly with secured creditors. An approved plan binds all creditors.

If unsecured creditors object to a plan or if the trustee objects, the court cannot approve the plan unless all of the debtor's disposable income, as defined, is committed to the plan for three years. On completion of the plan, the debtor is entitled to discharge from all debts except for liabilities arising after the last plan payment; family support obligations; student loans; liabilities for personal injuries caused by drunk driving; and restitution orders or fines. It should be noted that this is a significantly reduced range of non-dischargeable debts than under Chapter 7 and provides an incentive for a debtor to choose to file under Chapter 13 in some circumstances.

A debtor can seek a discharge without having completed the plan, unlike his or her Canadian counterpart. The court can discharge the debtor if non-completion of the plan is due to unforeseen circumstances for which the debtor cannot be held responsible and the value of the distribution is as great as it would have been under a Chapter 7 bankruptcy. In this case, however, the debtor is subject to the full range of non-dischargeable debts.

The American personal bankruptcy provisions have been subject to much criticism in recent years. Reports have been issued and bills introduced in Congress to tighten the provisions of the Bankruptcy Code that will change the character of the Code from its well-known fresh start approach. In general, the criticisms have been aimed at the perception that bankruptcy is too easy in the United States and that debtors abuse the process to avoid creditors. Bankruptcies had increased from 700,000 in 1990 to 1.2 million in 2000. That this happened in a time of economic growth was additional cause for concern. Repeat bankruptcies also generated concern, as they have in Canada. Intensive lobbying has been aimed at Congress and the public, primarily by granters of consumer credit. According to one report, "credit card companies and even big automakers have been lobbying for reform and contributing to Republican candidates. mbna American Bank, a large issuer of credit cards, was the single largest contributor to Bush's campaign in the last election...."²

On March 1, 2001 a Bill to reform the Bankruptcy Code passed the House of Representatives; a similar Bill passed the Senate on March 15, 2001. President Bush has stated publicly that he will sign the House-Senate compromise bill when it reaches him. The bills provide for means testing and aim to steer debtors to the Chapter 13 process. The new bills will:

• Set out means testing that will determine if a debtor proceeds under Chapter 7 or Chapter 13;
• Make it harder to move to shield assets by moving to Florida or Texas (or another state with a high homestead exemption) and buying an expensive house;
• Force the debtor to pay the full cost of an auto loan or lose the vehicle even if the vehicle is not worth the outstanding balance;
• Require debtors to complete courses in personal financial management;
• Raise the priority for child support and alimony payments;
• Place a $1 million dollar cap on retirement accounts that can be shielded from creditors;
• Protect money placed in education savings plans;
• Require debtors to pay charges placed on credit cards in the three months before filing;
• Make it easier for landlords to evict rent-owing bankrupt tenants;
• Allow creditors to request a court to dissolve a plan if the debtor is late in filing paperwork;
• Require bank regulators to study whether credit card companies are offering credit indiscriminately; and
• Require credit card issuers to disclose how long it will take to pay off a balance if the minimum is paid each month and prohibit the issuers from closing the account when the balance is paid each month and no interest is collected.³

The most controversial provisions appear to be the means testing, which may be excessively expensive to administer in light of the small proportion of Americans using Chapter 7 who appear to have sufficient assets to justify a Chapter 13 plan. The new legislation will, however, represent a major change in the "fresh start" philosophy.

England and Wales

Canadian bankruptcy legislation finds its roots in British legislation, although paths have diverged to some degree in more recent years. Like Canada, Britain has experienced an increase in bankruptcies, but the proportion of the population filing for personal bankruptcy is significantly smaller (0.47% of the population in Britain versus 2.72% in Canada in 1998). These differences may be attributable to a lack of awareness of bankruptcy as an option, the social stigma of bankruptcy, and the high cost of filing. There is also an alternative to bankruptcy: the Administration Order filed in County Courts which provides relief for debtors with less than £5000 of debt.

The analogue to consumer proposals is found in Administration Orders. A debtor may apply to court for an Administration Order if the total amount of debt is under £5000 and at least one debt has been subject to a judgment. The debtor provides information on the debts and income and other assets and living expenses. The court staff assesses the ability to pay the debts, in whole or in part. If a creditor objects, a hearing will be held; otherwise, the order is made as proposed. There is no current limit on the length of orders ­ some were to last seventy years!⁴

For those with higher indebtedness, bankruptcy is initiated by a petition that is considered by a court; the court has discretion as whether to make a bankruptcy order. Where the unsecured debts are less than £20,000 and the value of the estate is more than £2000, the court may appoint an investigator to determine whether the case is suitable for an individual voluntary arrangement under Part VIII of the Insolvency Act. Where a bankruptcy order is made, small estates may be administered through a simplified procedure that was the inspiration for the Canadian summary administration process. Exempt property is essentially what the debtor needs to carry on his work or business and what the debtor and family need to satisfy basic domestic needs. Discretion is vested in the trustee and the court. Surplus income may be turned over to the trustee. Again, a high degree of discretion resides in the trustee and the court regarding this provision this is to be contrasted with the section 68 requirement of the BIA and the pending American bills.

A person who was not bankrupt in the previous fifteen years is entitled to an automatic discharge from bankruptcy in regular cases after three years from the date of the bankruptcy order and two years in summary administration cases. A trustee may apply to the court for an order changing the time period or imposing conditions if the debtor has failed to comply with his or her bankruptcy obligations. An income payment order may run beyond the date of the discharge, but the time is limited to three years. Non-dischargeable debts include liability for fraudulent conduct; fines imposed for offences; family support and maintenance orders, liability for personal injury claims and debts not proved in the bankruptcy. A court can release the debtor from personal injury or family support claims.

Australia

Australia as a country has many similarities to Canada in terms of population, economies, consumption patterns and lifestyles, and systems of government. For both countries, the insolvency laws are based on the British model. Like Canada, Australia has experienced a rapid growth in the number of bankruptcies although the rate of insolvencies is much lower than Canada's.

The Insolvency and Trustee Service Australia (itsa) is the Australian government's bankruptcy regulatory authority. Under the direction of the Inspector-General (equivalent to Canada's Superintendent) itsa administers the Bankruptcy Act (1966). Filing for bankruptcy in Australia is relatively uncomplicated, but not encouraged. The debtor can file a Declaration of Intention to File a Petition which has the effect of staying unsecured creditors for seven days, giving the debtor time to assess his or her situation. A bankruptcy is initiated by filing a petition with an Official Receiver and documents can be filed by mail. While there is no fee charged for an initial bankruptcy filing, there are prescribed fees for a large range of statutory services provided by itsa. Some of these fees are not insignificant, such as the $4,000 remuneration fee imposed on bankruptcies and Part X arrangements. The actual monies recovered will of course depend on the proceeds available in an estate. itsa does not charge a fee for administering proposals under Part IX of the Act.

A debtor need not consult a trustee and often receives advice from credit counselling services or social benefits agencies. As well, the petitioner does not have to have committed an act of bankruptcy or prove insolvency.

Property exemptions include prescribed household property, compensation for personal injuries and property purchased with this protected money; regulated pension funds; and property used in earning income or vehicles up to a prescribed value. Like the BIA, the Australian Bankruptcy Act has provisions for surplus income contributions. Since most bankrupt estates are without meaningful assets, the surplus income will generally be the only source of payment to creditors. The Australian trustee must assess a bankrupt's income for a 12-month contribution period. In practice, only slightly more than four per cent of bankrupts in 1998-99 were required to make a contribution. Debtors may appeal assessments on grounds of hardship.

An Australian bankrupt is entitled to an automatic discharge after three years unless the trustee or Official Receiver objects. Where an objection is made, a discharge can be delayed for up to eight years, depending on the grounds for the objection. There are no conditional discharges. Debtors with few assets (around 60% of the total) can apply for early discharges after six months; about half of those who are eligible do apply. Non-dischargeable debts include child and spousal support; ongoing liability for contributions from income; debts incurred through fraudulent conduct; and liability for a fine.

Part IX of Australia's Bankruptcy Act provides an alternative to bankruptcy for low-income debtors. Both liabilities and income must be under a prescribed amount (roughly $50,000 au and $27,000 au). A trustee verifies eligibility requirements and creditors vote on the proposal by mail or at a creditors' meeting. A majority of creditors representing 75% of the value of the debts must approve the proposal. Proposals do not appear to be popular in Australia, perhaps because of the high proportion of debtors with few or no assets.

On May 11, 2000 the Minister for Justice and Customs announced proposed reforms to the Bankruptcy Act aimed at increasing public confidence in the bankruptcy system. Two bills were tabled by the Attorney-General on June 7, 2001: The Bankruptcy Legislation Amendment Bill and the Bankruptcy (Estate Charges) Bill 2001. These amendments would have: added a new power to reject a debtor's petitions; introduced a mandatory 30-day cooling off period prior to declaring a debtor to be bankrupt, during which the debtor could withdraw his petition; removed the early discharge provision (six months); made objections to discharge easier to uphold; increased the income cutoff level for Part IX debt arrangements; reduced the automatic duration of bankruptcy from three to two years; and streamlined various administrative processes. This reform package did not pass Parliament prior to the calling of a November 2001 election, and will thus require endorsement by the new government and reintroduction in the new session.

Continental Europe

Roughly similar bankruptcy structures are in place in the common law countries referred to previously ­ legislation provides for petitions into bankruptcy, surplus income payments, exempt property, non-dischargeable debts, and alternatives to bankruptcy through some form of arrangement or proposal. Credit counselling may be provided, officially or unofficially. Penalties are in place for bankrupts who abuse the system either through fraud or failure to comply with the duties imposed by legislation upon a bankrupt. On the whole, discharge policies are fairly liberal with emphasis on some form of rehabilitation or fresh start for the debtor. There is emphasis on the importance of being able to re-enter society as a fiscally responsible individual freed from a crippling burden of debt.

In contrast, the insolvency systems of continental European countries place a greater emphasis on repayment and limited access to bankruptcy by individuals. A moral element is still strong. Dr. Niemi-Kiesilainen identifies three basic differences between the European and common law approaches.⁶ First, access is restricted to debtors who are deemed deserving. Second, payment plans lasting from five to seven years are mandatory and there is no provision for automatic discharge. Finally, emphasis is placed on debt counselling to wean debtors away from the use of credit and to teach them to live on the limited budget possible after mandatory income contributions are assessed.

Denmark operates under the Debt Arrangement Act of 1984 (the first of the modern European insolvency statutes). Payment is based on surplus income after basic needs, as defined, are met. The repayment plans may last five years or more. The debtor takes the initiative in proposing a repayment plan and all unsecured creditors are on the same footing. Secured debts are not covered by the plan. Debt adjustment is a separate procedure from debt arrangement. A judge examines the debtor's situation to determine whether an adjustment is warranted; most applications for adjustment are initially turned down. Even seriously indebted individuals whose financial problems are caused by unemployment or other unavoidable difficulties may be turned down.

The 1994 German Insolvency Act has provisions aimed at small debtors, including consumers. The debtor's primary obligation is to negotiate with creditors and the debtor must attach a complete payment proposal to the application. The plan is accepted if the majority of creditors agree or if there is no creditor opposition. Alternatively, bankruptcy is available under selected conditions. Access to the bankruptcy proceedings confers the right to start a payment plan lasting seven years. Payment obligations correspond to garnishment provisions and the debtor is required to live at a basic subsistence level. The debtor is under surveillance by the trustee and creditors during the seven years regarding payment and the obligation to find work and keep working. Discharge may be opposed if the debtor do not lived up to their repayment obligations.

The French Loi Neierz, passed in 1989, provides a framework for rescheduling payment of debts. The Loi is administered by local commissions consisting of representatives of the Banque de France, local banks, consumer groups and local governments. The object is to negotiate and avoid court proceedings. If necessary, however, the commission may propose a plan to the court. The average length of plans is nearly ten years and the court may not reduce the capital of a debt. A discharge is possible after three years for debtors with no capacity to make payments.

¹ William Whitford, "Changing Definitions of Fresh Start in U.S. Bankruptcy Law," (1997) 20 Consumer Policy 178 at 19l, quoted in Ziegel, Osgoode Hall L. J. at 241.

² CNN.com, "Senate marches toward sweeping bankruptcy overhaul," March 15, 2001.

³ "Highlights of the Bankruptcy Reform Bill", Bankrate.com

⁴ Legislation has not been proclaimed that would limit orders to three years. Ziegel, Comparative Consumer Insolvency Regimes at 143.

⁵ This section is based on Rosalind Mason, Consumer Bankruptcies: An Australian Perspective, (1999) 37 OHLJ 451 and Jacob S. Ziegel, Comparative Consumer Insolvency Regimes.

⁶ Johanna Niemi-Kiesilainen, The Role of Consumer Counselling as Part of the Bankruptcy Process in Europe, (1999) 37 OHLJ 409; Johanna Niemi-Kiesilainen, Consumer Bankruptcy in Comparison: Do We Cure a Market Failure or a Social Problem?, (1999) 37 OHLJ 473.

Annex 5

Individuals Making Submissions to the PITF

A number of individuals representing legal, accounting and bankruptcy practitioners made submissions to the Task Force throughout our deliberations. Their interest was greatly appreciated, as were their thoughtful suggestions. Those views were taken into consideration by the various sub-groups as they considered the issues before then. We are grateful to the following people and the organizations they represent for their helpful participation in our review process:

M. Alain Bilodeau
Centre Populaire de Roberval
Roberval, Quebec

Mr. Andy Fisher
Alan Lawson, Fisher Inc.
Trustee in Bankruptcy
Oshawa, Ontario

Mr. Kenneth D. Grant
Legal Services Society of B.C.
Williams Lake, B.C.

Mr. Guy Legault
Certified General Accountants of Canada
Vancouver, B.C.

Mr. Chee-Kong Leong, CA
Trustee in Bankruptcy
Toronto, Ontario

Mr. Joseph A. Okalita
Cameron Okalita Inc.
Trustees in Bankruptcy
Regina, Saskatchewan

Mr. Ken Tessis
Soberman Isenbaum Colomby Tessis Inc.
Receivers and Trustees
Toronto, Ontario

Mr. Douglas Welbanks
Minister of Attorney General
Community Justice Branch
Debtor Assistance Division
Burnaby, B.C.

Mr. David S. Wood
KPMG Inc.
Trustee in Bankruptcy
Vancouver, B.C.

Annex 6

Charts and Graphics

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