Ontario changed its bankruptcy laws, and it may affect your client’s home

Ontario has changed the law governing what bankrupt clients may keep, and what creditors may seize, to settle debts. While upping protection for certain types of assets, the changes introduce uncertainties into the law — and whether clients can keep their homes, cars and wedding rings is in the balance.

The significant changes the provincial government made to the Execution Act came into effect December 1, 2015. The act sets limits on the things your clients own that may be seized by creditors or sold in a bankruptcy filing. Conversely, it sets limits on what your clients may try to seize if they are suing someone else.

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Execution creditors rank in priority behind secured creditors. A Writ of Execution or a Writ of Seizure does not give a creditor a specific right to an asset. Instead it gives the creditor a right to the net proceeds from the sale of the asset, if the asset may be seized and sold.

The Ontario government’s changes affect what and how much property is exempt from seizure. Some changes may need interpretation and raise questions for creditors, licensed insolvency trustees and debtors.

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Principal residence protection: a $10,000 home equity protection was introduced in the updated legislation. The most significant change to the act, it has caused a great deal of discussion and confusion.

Prior to these changes, there was no exemption or protection for equity in Ontario. Other provinces, including Alberta, have had this type of protection for a number of years. When the changes were announced in Ontario, everyone assumed it meant that the first $10,000 of equity in your principal residence was protected, similar to a motor vehicle. On further analysis of the language of the law, it appears that the $10,000 is a restriction, not a protection.

What’s the difference? A restriction means that unless an execution creditor (or a licensed insolvency trustee) can demonstrate that the net equity in a principal residence exceeds $10,000, they cannot force the sale of the property. If there is more than $10,000 in net equity, then the property can be seized and sold and the net proceeds will be paid to the execution creditors (or the trustee).

Here are a few examples:

• David and Susan own a home worth $275,000. It has a first mortgage of $266,000. If an execution creditor tried to bring a motion to seize and sell this home, the request would likely be denied simply because the projected net equity in the home is less than $10,000.
• David and Susan’s home is still worth $275,000, but the first mortgage is only $260,000. Here the law is much less clear. If equity is calculated as value less mortgage, then the home is not protected ($275,000 – $260,000 = $15,000). However, if you factor in regular closing costs (let’s say $14,000 for real estate and $2,000 for legal), the calculation becomes value less the mortgage less closing costs ($275,000 – $260,000 – $14,000 – $2,000 = $NIL). The problem is, the equity calculation is not defined in the act.
• Larry and Betty own a home worth $300,000, with a mortgage balance of $282,000. Larry has been sued and has a judgment against him for $20,000. The creditor wants to seize and sell the house. Can they? Ignoring the issue of closing costs for the moment, the net equity appears to be $18,000 and Larry’s share is therefore $9,000. Larry believes the house is protected. Unfortunately, Larry is wrong. The $10,000 restriction applies to the entire net equity, not Larry’s share. The execution creditor could argue that the home should be sold to try and recover their debt. The creditor is only entitled to Larry’s share of the net equity, but they could apply to the Court to try and force the sale of the home. In a bankruptcy, Larry would be required to pay an amount equal to his share of the equity into his bankruptcy, or his trustee could apply to the court to force the sale of the home as well.

Presumably, all of this will be tested and resolved in court. The current standard is that closing costs are not automatically deducted when determining net equity in a home. Rather, the amount of equity is determined in negotiation between the bankrupt person (who will argue for the inclusion of closing costs) and the trustee (who will argue against the inclusion).

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Necessary clothing and ordinary apparel: the phrase “ordinary apparel” has been dropped and the limit on necessary clothing is now unlimited (it used to be $5,650). At first glance, this seems to be increasing protection for individuals under the law – clothing is now effectively excluded from any sort of seizure. Unfortunately, by removing the clause referring to ordinary apparel, my firm is of the opinion that things like jewellery (such as a wedding band) may no longer be exempt.

Furnishings, appliances, utensils, equipment, food and fuel: the limit has been increased from $11,300 to $13,150. The phrasing has been changed to simply “household furnishings and appliances” and it is no longer clear whether things like children’s toys or sports equipment is protected.

From a practical standpoint, it is unlikely the average person has much to worry about with these two changes – we don’t believe it is likely that execution creditors will start seizing wedding rings and teddy bears. However, it does complicate personal bankruptcy filings. A licensed insolvency trustee is required by law to try and convert all of a bankrupt individual’s non-exempt property for the benefit of their unsecured creditors. An argument can be made that a trustee should consider the value of wedding bands and other personal possessions when determining how much a person has to pay to their creditors in a bankruptcy.

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Motor vehicle: the exemption has been increased from $5,650 to $6,600. The Execution Act now provides specific instructions for the distribution of monies received from the sale of a seized asset.

Some examples:

• John owns a car worth $2,500 with no liens or charges registered against it. This vehicle is exempt from seizure by an execution creditor or by a licensed insolvency trustee. Should it be seized and sold, 100% of the net proceeds, up to $6,600, would have to be paid to John. In other words, if the car were seized, no money would accrue to the creditor (or the trustee).
• Jane owns a car worth $15,000 with an outstanding loan of $10,500 to a finance company. As long as Jane continues to pay the finance company, this vehicle is exempt from seizure. If it were seized and sold, first the loan would be repaid in full and then the net proceeds up to $6,600 would be paid to Jane. Similar to the first example, no money would be paid to the creditor.
• Bob owns a car worth $35,000 with an outstanding loan of $20,000. If this car were seized and sold and the loan would be repaid in full for $20,000. Then, the next $6,600 would be paid to Bob as his protected portion and the remaining $8,400 would be paid to the execution creditors in the order that their writs were registered.

Note that the motor vehicle protection is limited to one vehicle per person. If in the first example, John owned a second car worth $1,500 it may be seized and sold, and John would not be entitled to any of the proceeds.

Tools of the trade: no changes have been made to the exemption limit of $11,300. This protection is designed to provide a person with the means of earning an income. It only applies to things that are actively used to generate income. For example, a courier will be able to claim a motor vehicle as a tool of the trade, but someone that works at the local manufacturing plant and simply drives back and forth to work, cannot claim her car as a tool.

Whether your client is in financial difficulties, or trying to collect on a loan, our best advice at this time is to consult your client’s lawyer or a licensed insolvency trustee before making any decisions.

Ted Michalos , B.A., CPA, is a Licensed Insolvency Trustee and co-founder of Hoyes, Michalos & Associates Inc. in Ontario, Canada.

Ted Michalos

Tax & Estate

Ted Michalos , B.A., CPA, is a Licensed Insolvency Trustee and co-founder of Hoyes, Michalos & Associates Inc. in Ontario, Canada.