SCC Clarifies Bankruptcy Discharge Provisions

In Poonian v. British Columbia (Securities Commission), the Supreme Court of Canada clarified that disgorgement orders, but not administrative fines, could survive discharge under provisions of the Bankruptcy and Insolvency Act.

In Poonian v. British Columbia (Securities Commission) 2024 SCC 28 [Poonian], the Supreme Court of Canada (“SCC”) clarified the interpretation of s.178(1) of the Bankruptcy and Insolvency Act, RSC 1985, c B-3, [Act]. While the majority’s clarification of s.178(1)’s application to debts arising from administrative penalties and disgorgement orders promotes fairness to debtors across the country, the decision risks undermining the effectiveness of Canadian securities regulators.

Facts

Between 2007 and 2009, the appellants engaged in market manipulation resulting in heavy losses to investors. The British Columbia Securities Commission (“BCSC”) found that the appellants had engaged in serious misconduct, involving multiple layers of deception (Poonian, paras 7–9). The BCSC concluded that the appellants had contravened s.57(a) of the Act, and levied administrative penalties totalling $13.5 million against the appellants alongside orders to disgorge profits obtained through their actions (Poonian, para 4).

Following the BCSC’s decision, the appellants filed for bankruptcy and applied for discharge from bankruptcy (Poonian, para 10). The BCSC and Canada Revenue Agency challenged the appellants’ application, seeking to have the administrative fines and disgorgement orders levied by the BCSC survive bankruptcy under s.178(1)(a) or (e) of the Act. 

Issues

Under the Act, debts of the bankrupt are presumptively discharged. However, s.178(1) sets out a specific list of debts that are not released by an order of discharge and therefore survive bankruptcy. This provision seeks to balance the goals of allowing relief to “honest, but unfortunate” debtors with the equitable distribution of a debtor’s assets among creditors (Poonian, para 1). The primary issues were whether administrative penalties and disgorgement orders could survive bankruptcy under s.178(1)(a) as a penalty or fine imposed by a court, or alternatively, under s.178(1)(e) as debts resulting from the acquisition of property .

Decision

The SCC unanimously held that section 178(1)(a) did not apply to orders imposed by regulatory bodies, even if upheld or enforced through the courts (Poonian, para 51).  While the provision is not exclusively constrained to penalties imposed against criminal or quasi-criminal conduct, the Court concluded that it is limited to penalties imposed by courts themselves. (Poonian, paras 42, 50).

On the issue of interpreting s.178(1)(e), appellate courts in British Columbia and Alberta had previously diverged. The Alberta Court of Appeal in Alberta Securities Commission v. Hennig, 2021 ABCA 411 [Hennig] held that s.178(1)(e) required that the bankrupt make fraudulent misrepresentations directly to the creditor – in this case, the BCSC (Hennig, para 78). Meanwhile, the British Columbia Court of Appeal interpreted the provision broadly, holding that the debts need merely to arise from the appellants misrepresentation (Poonian, para 19). 

On the issue of s.178(1)(e)’s interpretation, the SCC was divided. 

The Majority Decision

Côté J, writing for the majority, held that the BCSC’s disgorgement orders, but not its administrative penalties, could survive discharge under s.178(1)(e). The majority affirmed the four-step test from Montréal (City) v. Deloitte Restructuring Inc. 2021 SCC 53 to determine if a creditor can prevent a debt from being discharged under s.178(1)(e), and opined on the three elements of s.178(1)(e) reflected in the test (Poonian, paras 59-60). 

First, the creditor must show that the bankrupt made fraudulent misrepresentations or acted under false pretences (Poonian, paras 61– 63). This requires evidence that the bankrupt knowingly made false representations, and in some instances, that the creditor relied on those statements (Poonian, para 64). A finding of misrepresentation or false pretences must be based on the court’s own findings, and cannot rely exclusively on the findings of administrative bodies or other courts (Poonian, paras 68-69). 

Second, the creditor must show that there was a loss from passing of property or provision of services, and a corresponding debt or liability from that loss (Poonian, para 70). The majority affirmed that this stage does not require that property or services were passed directly to the bankrupt, nor does it require a direct victim (Poonian, para 72). 

Third, the creditor must establish a causal link between the bankrupt’s fraudulent misrepresentation or false pretences and the debts or liabilities arising from the passing of property or provision of services (Poonian, para 74). The majority rejected lower standards of causation such as a “but for” test or “material connection” test. Rather, s.178(1)(e) requires a direct link between the bankrupt’s conduct and the liabilities sought to be upheld (Poonian, para 78). 

Applying the test, the majority concluded that the administrative penalties imposed by the BCSC were not causally linked. Rather, the penalties flowed from the BCSC’s decision to sanction the appellants, and not directly from their fraudulent acts (Poonian, para 103). However, the majority concluded that a direct link existed between the appellant’s conduct and the liability to disgorge the profits received from their conduct. The majority noted that the amounts of the disgorgement orders coincided with, and represented, the profits the appellants obtained through their fraudulent conduct as support for their conclusion (Poonian, paras 56, 112).

Karakatsanis J’s Dissent

Writing for the dissent, Karakatsanis J agreed with many aspects of Côté J’s analysis, including the first two steps of the s.178(1)(e) test. However, the dissent diverged in its conclusion on the applicable causal standard in the s.178(1)(e) inquiry. 

While in agreement that a direct link is required between the bankrupt’s conduct and the liability, and that causation on a “but for” basis is insufficient for the purposes of s.178(1)(e), Karakatsanis J rejected the requirement of proportionality between the quantum of the liability and that of the property or services obtained from the bankrupt’s fraudulent conduct (Poonian, para 126). Karakatsanis J notes that neither the text of section 178(1)(e) nor its broader purpose support consideration of the proportionality of debts or liabilities resulting from fraudulent actions (Poonian, para 136).

Karakatsanis J concluded that the purpose of the BCSC’s hearing and subsequent fines and disgorgement orders created a liability resulting from the appellants’ fraudulent conduct (Poonian, para 134). Further, characterizing s.178(1)(e) as a provision animated by a desire to uphold “moral sanctions” (Poonian, para 138), the dissent would conclude that neither the BCSC’s fines and their disgorgement orders should be discharged. 

Analysis

Karakatsanis J’s dissent highlights a critical gap in the majority’s reasoning. In denying that administrative penalties are included under s.178(1)(e), the majority placed emphasis on the fact that administrative penalties arose from the BCSC’s decision to impose fines. However, this distinction was absent from the majority’s discussion of disgorgement orders, despite disgorgement orders also being levied at the discretion of securities regulators (Poonian, para 109). As such, the main differentiating factor between the liabilities appears to be the proportionality of the liabilities and the property or services attained, a consideration which Karakatsanis J points out is wholly absent from the wording of s.178(1)(e), and is unsupported by past appellate decisions on the provision’s interpretation (Poonian, para 126). The majority’s reliance on the concept of proportionality leaves open the question of whether administrative penalties proportional to a bankrupt’s gain would be discharged under s.178(1)(e). Had parliament intended such a narrow meaning of the provision, it is my view that they would have chosen specific language alluding to this. Such language is found in s.178(1)(a), which limits its application to fines, penalties, and restitution orders. 

Further, the majority’s decision appears inconsistent with the broader purpose of discharge from bankruptcy. Per Côté J, financial rehabilitation under the Act is premised on “permit[ting] an honest but unfortunate debtor to be freed from the burdens of indebtedness and to reintegrate into economic life.” (Poonian, para 1, emphasis added). Côté J rightfully points out that debtors who fail to meet the criteria of “honest but unfortunate” will be refused discharge (Poonian, para 57). Further, Karakatsanis J notes that the Act allows for partial discharge where some debts, but not others, meet the “honest but unfortunate” criteria (Poonian, paras 130-131). In light of this purpose, it is difficult to envision how debts resulting from sanction for intentionally wrongful action can be characterized as “honest but unfortunate”. While the majority suggests a narrower purpose of s.178(1)(e), I agree with Karakatsanis J’s view that the provisions of s.178(1) collectively target debts which result from undesirable conduct (Poonian, para 137).

Finally, the majority’s decision potentially raises broad public policy issues. By allowing the administrative penalties imposed by securities commissions to be discharged, the majority’s decision could significantly undermine security commissioners’ ability to effectivley sanction and deter fraudulent and deceitful conduct. In light of the decreased likelihood of administrative penalties surviving bankruptcy, future wrongdoers may be more willing to engage in deceitful or fraudulent conduct, safe in the knowledge that any sanctions can be discharged. Beyond the deterrent effect of administrative penalties, the sanctioning effect of administrative penalties serve as a means to represent the large-scale harm to investor’s confidence in the financial system. To assess the impact of the majority’s decision, a closer analysis of post-Hennig caselaw in Alberta may help to predict the impact on securities regulators across Canada. 

Despite these criticisms, the majority’s decision achieves the venerable goal of promoting fairness and certainty for debtors across the country. The decision clarifies a long-standing disagreement over the provision’s interpretation, and may serve as a guide for future clarifications of the act. 

This article was edited by David Lia