Criminal Interest Revisited: Apparent Immunity For Equity Kickers

OVERVIEW

Most commercial lenders don't have the risk of fine or imprisonment on their minds when they extend credit to their borrowers and might be surprised to learn that it can be a criminal offence to receive or contract for too high a rate of return. And yet, there is, even in commercial loan transactions, a risk of contravening section 347 of the Criminal Code. 1

Crafted as a deterrent to loan-sharking, section 347 makes it an offence to receive interest, or enter into an agreement to receive interest, at a criminal rate, which is defined to mean an effective annual rate of interest exceeding 60% per year. While it would be unusual for a commercial loan agreement to expressly provide for a nominal interest rate higher than 60% per annum, the potential trap for the unwary lies in the broad definition of "interest".

Interest is defined to encompass the aggregate of all charges and expenses, of any nature or kind regardless of the form, paid or payable for the advancing of credit under an agreement or arrangement. This expansive formulation potentially sweeps into the "interest" calculus a wide range of charges, including upfront loan fees, royalties, commitment and facility fees, capitalized interest, legal expenses and even possibly equity incentives such as the issuance of shares.

However, as seen in the recent decision of Bimman v. Neiman, 2 Ontario courts appear to have drawn the line at equity incentives such as the issuance of shares, warrants or convertible debentures which are a typical feature of subordinated and mezzanine debt offerings, LBOs, equity recapitalizations and similar financings at the riskier end of the credit spectrum.

2. BACKGROUND

The definition of "interest" in the Criminal Code is, on its face, very broad. While courts have also interpreted the definition of "interest" broadly, there is *622 very little case law addressing whether the issuance of shares to a lender ought to be characterized as interest.

Section 347 of the Criminal Code states that:

347. (1) Despite any other Act of Parliament, every one who enters into an agreement or arrangement to receive interest at a criminal rate, or receives a payment or partial payment of interest at a criminal rate, is

guilty of an indictable offence and liable to imprisonment for a term not exceeding five years; or guilty of an offence punishable on summary conviction and liable to a fine not exceeding $25,000 or to imprisonment for a term not exceeding six months or to both. (2) In this section,

"interest" means the aggregate of all charges and expenses, whether in the form of a fee, fine, penalty, commission or other similar charge or expense or in any other form, paid or payable for the advancing of credit under an agreement or arrangement, by or on behalf of the person to whom the credit is...