Indalex Two Years Later: Underfunded Pension Liabilities In The Financing Context

It's been almost two years since the Supreme Court of Canada (SCC) decision in Indalex Ltd., Re.1 Currently, Canada's lower courts are being challenged to interpret the decision in a variety of different contexts. The purpose of this article is to review the Indalex decision within the broader context of pre- and post-Indalex case law and to briefly comment on its impact in the lending marketplace.

1. Regular payments vs. special payments

   Under typical pension benefits legislation, an employer with a defined benefit pension plan will ordinarily be required to make regular payments of the following amounts into the plan: (i) pension amounts deducted from employee wages, and (ii) normal cost contributions, i.e., the cost of plan benefits that accrue during the current plan year.2 If the plan experiences an underfunding of some sort, special payments may also be required.3 Special payments can include additional amounts payable as a result of a plan wind-up.4

2. Deemed trusts under provincial pension benefits legislation

   Under Ontario's pension benefits legislation, the Pension Benefits Act (Ontario) (the "PBA"), an employer is deemed to hold in trust for its employees, pension monies deducted from employee wages until such monies are paid by the employer into the plan.5 The employer is likewise deemed to hold in trust for plan beneficiaries, an amount equal to those employer contributions due but not yet paid into the plan. Such contributions include those contributions accrued to the date of a plan wind-up which are not yet due under the plan.6 As security for the employer's obligations, the pension plan administrator is given a lien and charge over all of the employer's assets in an amount equal to the amounts deemed to be held in trust.7 Finally, by virtue of Section 30(7) of the Personal Property Security Act (Ontario) (the "PPSA"), any security interest created in the employer's accounts or inventory is subordinated to the interest of a person who is a beneficiary of a PBA deemed trust. This combination of deemed trusts, administrator lien and PPSA priority is intended to provide some assurance that employers will fulfil their pension obligations.

   Prior to the SCC decision in Indalex, there had been some doubt as to whether the PBA's deemed trust provisions covered an employer's special payment obligations in relation to a terminated plan. In a narrow 4-3 decision, the SCC settled the issue, holding that the PBA's deemed trust provisions do in fact cover special payment obligations relating to a wind-up deficiency in respect of a terminated pension plan. On the other hand, the provisions do not cover special payment obligations associated with a plan deficiency where termination of the pension plan has not yet occurred.8 The expansion of the PBA deemed trust to include wind-up deficiencies associated with terminated pension plans significantly expanded the potential priority accorded to plan beneficiaries under Section 30(7) of the PPSA, ultimately casting a pall on many subsequent attempts to refinance employers with potentially large wind-up deficiencies.

3. The application of federal laws on debtor insolvency

   The mere existence of a deemed trust under provincial law is by no means fully determinative of the priority issues that may arise between plan beneficiaries, on the one hand, and the employer's secured lenders, on the other. Since most priority disputes arise in the context of an employer's insolvency, federal insolvency laws must also be taken into account. The key federal laws to be considered, of course, are the Bankruptcy and Insolvency Act (Canada) (the "BIA"), which applies on the employer's bankruptcy, and the Companies' Creditors Arrangement Act (Canada) (the "CCAA"), which is invoked prior to bankruptcy to reorganize the employer's affairs.

   Generally speaking, in any dispute involving a conflict between a valid federal law and a valid provincial law which otherwise occupies the same legislative field, the federal law will be given precedence by virtue of the doctrine of federal paramountcy.9 Specifically in the field of bankruptcy, since the BIA creates a complete code of priority which otherwise occupies the legislative field, its priority provisions (namely those contained in Section 136 and various related provisions) typically trump any direct or indirect attempt under provincial legislation to alter this priority. That being so, provincial deemed trusts, unregistered provincial liens and other provincial claims which purport to confer a priority inconsistent with the priority provisions of the BIA are usually considered attempts to alter the BIA's priority scheme and will be rendered inoperative on the employer's bankruptcy.10 This result has now been codified in the BIA for deemed trusts and other claims, at least insofar as those granted in favour of the federal or provincial Crown are concerned.11

   By contrast, the CCAA does not establish a complete code of priority between creditors or otherwise provide for a scheme of distribution.12 This is a vital distinction in terms of the legal analysis, as the Indalex decision serves to illustrate. While, as a result, the paramountcy doctrine plays a less prominent role under the CCAA, the doctrine nevertheless remains relevant, again as the Indalex case serves to illustrate.

4. Super-priority charge to secure regular payments in bankruptcy

   On the bankruptcy of an employer, section 81.5 of the BIA creates a super-priority charge over the employer's assets to secure the payment of the employer's regular payment obligations, i.e., unremitted employee pension deductions and unpaid normal cost contributions. Importantly, this charge does not cover special payments. Just as importantly, this charge prevails over pre-existing security given by the bankrupt employer to its secured lenders.

5. The relegation of deemed trust claims and certain statutory liens on bankruptcy

   Because most deemed trusts and unregistered statutory liens in favour of the Crown will effectively be disregarded under the BIA13 and most provincial deemed trusts and unregistered statutory liens in favour of non-Crown third parties will typically be considered inoperative on bankruptcy by virtue of the paramountcy doctrine, the underlying claims of creditors reliant on such claims will typically be considered unsecured claims in the context of an employer's bankruptcy. In the same way, the deemed trust claims of pension plan beneficiaries (and the supporting lien claims of plan administrators) for unremitted or unpaid pension amounts will effectively be relegated to unsecured status on the employer's bankruptcy, subject to Section 81.5 of the BIA.14 A corollary of this of course is that secured lenders can avoid the security aspects of such Crown and non-Crown deemed trust and other claims simply by petitioning the insolvent employer into bankruptcy. Indeed, prior to the SCC decision in Indalex, Canadian courts routinely permitted secured lenders to petition an employer into bankruptcy in order to relegate such claims to unsecured status on bankruptcy.15 Notably, nothing in the SCC decision in Indalex appears to have explicitly altered this pre-Indalex case law.

   Of course, ongoing CCAA proceedings impose a stay on a secured lender's ability to petition an insolvent employer into bankruptcy. Nevertheless, at the appropriate time ̶ for example, if all hope for a plan of compromise or arrangement vanishes or if...