The New Duty Of Good Faith In Canadian Insolvency Proceedings

Canada's two main insolvency and restructuring statutes, the Bankruptcy and Insolvency Act (BIA) and the Companies' Creditors Arrangement Act (CCAA) were recently amended to include a new duty of good faith on the part of all "interested persons" involved in an insolvency proceeding. The amendments do not define "good faith" or "interested persons". Although requiring all participants in an insolvency proceeding to act in good faith may be a laudable objective, the statutory amendments are problematic. The amendments do not define what the duty of good faith actually entails while at the same time allow any interested person to complain to the court that the duty has been breached by another interested person. If the court finds that this undefined duty of good faith has been breached, the court is given very broad powers to make any order it considers appropriate in the circumstances. In addition, not defining "interested persons" could be problematic. To date, Canadian courts have been generous in allowing those claiming an "interest" in proceedings, including "social stakeholders"—a constituency with no economic interest in the debtor's estate—to participate in insolvency and restructuring proceedings.1 This article discusses the new duty of good faith under the BIA and CCAA and considers how the duty might be interpreted, using the U.S. principle of equitable subordination for comparison.

The new duty of good faith has been enacted under sections 4.2 of the BIA and 18.6 of the CCAA, as follows:

Good faith

1. Any interested person in any proceedings under this Act shall act in good faith with respect to those proceedings

   Good faith—powers of court

2. If the court is satisfied that an interested person fails to act in good faith, on application by any interested person, the court may make any order that it considers appropriate in the circumstances.

   A duty of good faith in insolvency and restructuring proceedings is not a new concept under Canadian law. Prior to the above-noted amendments, the statutes already mandated a good faith duty for trustees in bankruptcy, receivers and monitors, and the debtor company.2 Moreover, the Supreme Court of Canada has previously recbeforeognized good faith as a "baseline consideration"3 in restructuring proceedings and as a "general organizing principle of the common law of contract".4 However, an express statutory duty on the part of all participants (including creditors) in an insolvency proceeding is new. In circumstances where restructuring and insolvency proceedings in Canada are already supervised by a court and court-appointed officers (monitors, receivers and trustees) to ensure that the proceedings are conducted in accordance with the law and that restructuring plans are fair and reasonable, it is not clear what benefit is derived from the addition of an undefined duty of good faith on the part of all interested parties to an insolvency proceeding.

   A creditor in an insolvency proceeding can be expected to act in its economic self-interest to maximize returns in accordance with its legal rights and priorities, often in competition with other creditors and stakeholders. Combining an undefined statutory duty with a very broad power for a court to "make any order that it considers appropriate in the circumstances" may lead to an increase in disputes between creditors, the debtor(s), and other participants in insolvency proceedings, since an application impugning an interested person's good faith can be brought by any other interested person in the proceedings. Insolvency is often a zero-sum game, where one participant's gain is another participant's loss. Applications alleging bad faith could conceivably be launched out of self-interest by participants clamoring for...