Tuesday, July 19, 2011

Schreyer v. Schreyer: Canada's Divorce-Bankruptcy Loophole

In a unanimous decision in Schreyer v. Schreyer, released Thursday, June 14, 2011, the Supreme Court of Canada ruled that that a bankrupt Manitoba man is not required to pay his former wife an equalization payment for her share of the family farm they operated together.

The couple filed for divorce in 2000 after a nineteen year cohabitation. Under their divorce agreement, the husband was to continue to live on the family farm, which he solely owned, and their assets were to be valued. At the end of the valuation, the husband was to make an equalization payment to the wife, equal to the value of the farm. Before the valuation was complete, however, the husband filed for bankruptcy. It was determined the the husband owed the wife an equalization payment of $41,063.48 after the valuation was complete.

The wife was considered to be a creditor of the husband's estate in bankruptcy. Under Manitoba law the farm was exempt from creditors by way of seizure and sale, and while the husband was allowed to keep the farm, the wife's claims against him for equalization were extinguished by his bankruptcy.

When the husband was discharged from bankruptcy he was cleared from his debts and thus could keep the farm. The wife, however, was out of luck - her entitlement to an equalization payment did not survive the bankruptcy.

In dismissing the wife's appeal, Supreme Court of Canada Justice Louis Lebel noted that at root, the entitlement to an equalization payment is not an entitlement with respect the actual property of a spouse:

[16] The Manitoba scheme is one of equalization. It is based on a principle of equal division of the value of the family assets after a process of accounting and valuation (ss. 13 and 14 FPA). The accounting process results in a value that is divided between the spouses, and any amount payable must be paid to the creditor spouse. A debtor spouse retains the property he or she owns, but must pay a sum of money, the equalization payment, if the spouses did not own assets of equal value (s. 15 FPA). The court retains a discretion to alter the equal division of the value of the assets where “the court is satisfied that equalization would be grossly unfair or unconscionable” (s. 14(1) FPA). No provision of the FPA vests title in one spouse to the other spouse’s property (s. 6(1) FPA) in the course of the accounting and valuation. At the end of the equalization process, a monetary debt is owed...

[18] Under the FPA, an equalization claim is a debt owed by one spouse to the other. The Court of Appeal did not err in treating the appellant’s claim as a debt. The characterization of the equalization claim is particularly important here — in the context of the application of the BIA — for the purpose of determining whether the appellant’s claim survived her husband’s discharge from bankruptcy.

[17] Proprietary interests are not granted until the stage of payment of the equalization claim, at which point they may be granted as a form of execution, to ensure that the payment is actually made. Section 17 FPA provides that the amount established in the accounting may be paid by means of a money payment, a transfer of assets, or both.

The Court held that bankruptcy extinguished the husband's equalization-related debt to the wife. Under Manitoba's family law regime, she had no interest in his actual property.

Unfair Loophole?

Recognizing the gross unfairness of this outcome for the wife, Justice Lebel noted that law reform on this issue has long been recommended and is urgently required:
[25] I do not doubt that an outcome like the one in this appeal looks unfair, given that the appellant’s equalization claim was based primarily on the value of an asset — the farm property — which was exempt from bankruptcy and therefore not accessible to other creditors. None of the policies underlying the BIA require that the appellant emerge from the marriage with no substantial assets. Parliament could amend the BIA in respect of the effect of a bankrupt’s discharge on equalization claims and exempt assets. But the absence of such an amendment makes the outcome of this case unavoidable. The only way Ms. Schreyer could have avoided it would have been to obtain an order from the bankruptcy court lifting the stay of proceedings imposed by operation of s. 69.3 BIA so that she could seek a proprietary remedy under s. 17 FPA. As will be discussed below, however, the circumstances were such that Ms. Schreyer did not pursue these recourses.

... [39] Before 1997, claims for support or alimony were not expressly provable under the BIA, potentially giving spouses no access to the bankrupt’s estate. After the 1997 amendments (S.C. 1997, c. 12), s. 121(4) BIA was added to specifically provide that these claims were provable. They remained unaffected by a discharge pursuant to ss. 178(1)(b) and (c) BIA. Parliament has also shown a willingness to give spouses limited priority over unsecured creditors for support payments that accrued before the bankruptcy (s. 136(d.1) BIA). Further amendments to address the issue of the division of matrimonial property have also been considered by the Standing Senate Committee on Banking, Trade and Commerce. In its report released in November 2003 (Debtors and Creditors Sharing the Burden: A Review of the Bankruptcy and Insolvency Act and the Companies’ Creditors Arrangement Act), the Committee took the view that inequities like the one perceived to exist in the case at bar required “prompt resolution” (p. 85). To this end, it recommended that the BIA be amended to provide that “bankruptcy does not stay or release any claim for equalization or division against exempt assets under provincial/territorial legislation regarding equalization and/or the division of marital property” (p. 86).

[40] More than seven years have elapsed since the Committee issued its report. It seems to me that this matter is ripe for legislative attention so as to ensure that the principles of bankruptcy law and family law are compatible rather than being at cross-purposes.

[41] However, until such legislative changes are made, creditor spouses should be alive not only to the pitfalls of the BIA, but also to the importance of the remedies available under it in such situations. In the case at bar, however, given the nature and the state of the proceedings now before this Court, I am of the view that the Court of Appeal made no errors and that the specific remedies sought by the appellant may not be granted.

Justice Lebel's comments on bankruptcy law reform make plain sense. Instead of permitting bankruptcy legislation to override the intent and effect of provincial family property equalization laws, there ought to be permitted exceptions to ensure that spouses are not excluded from their rightful entitlements by spousal bankruptcy two-steps.

The "Schreyer loophole" ought to be closed.
- Garry J. Wise and Alim Ramji, Toronto

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