Creditors seeking enforcement of claims to a Mareva defendant must come with clean hands

Supported By:

Net Patrol International Inc.  Data Investigation and Forensic Services
Bankruptcy and Insolvency Trustees

Mareva orders, also known as freezing orders, may be granted when there is a risk that a defendant might move its assets out of reach of the court’s jurisdiction. Mareva can orders freeze assets owned directly or indirectly by the defendants. Oftentimes a defendant subject to a freezing order has other creditors seeking repayment. Can a creditor enforce its claim against the frozen assets? Yes, but the creditor must come to the court with clean hands and should not make loans to the defendant if it has notice of the order.

In Buduchnist Credit Union Limited v 2321197 Ontario Inc2024 ONCA 57, the Ontario Court of Appeal restated the general principles underpinning Mareva orders and elaborated on the court’s jurisdiction to craft appropriate remedies in light of a creditor’s breach of a court order.

Facts and procedural history

Trade Capital Finance Corp. alleged that it was a victim of an elaborate fraud. Among the alleged fraudsters were Carlo De Maria and the corporations under his control (collectively, “De Maria“). Trade Capital commenced a fraud action and obtained a Mareva Order over the assets held by De Maria and others.

De Maria and his corporations were significant clients of Buduchnist Credit Union Limited (“BCU“). BCU loaned substantial sums to De Maria and held mortgages over several of De Maria’s properties, with advances under the loans paid out in various tranches over several years. BCU was given notice of the Mareva Order but continued to make advances to De Maria in violation of the Order. When De Maria defaulted on the mortgages, BCU obtained a consent judgment to recover advances made both before and after receiving notice of the Mareva Order.

BCU applied to the court for a distribution order claiming an entitlement to payment before a decision in Trade Capital’s fraud claim. Such a distribution would deplete De Maria’s asset pool from which Trade Capital might eventually collect if it was to prevail at trial. Trade Capital contested the motion. Trade Capital agreed that BCU was entitled to distribution and reimbursement of advances made before the Mareva Order, but challenged the enforcement of BCU’s claims for advances made after the Mareva Order.

The court held that BCU breached the Mareva Order by making advances after receiving notice. Therefore, BCU could not claim priority payment as a secured creditor for the post-Mareva advances. Despite this, the court held that BCU was entitled to enforce its judgment against De Maria. The motion judge held that he did not have the jurisdiction to order that the funds be held “as security” for Trade Capital’s yet unproven claims. The motion judge allowed assets to be distributed to De Maria’s creditors – at the time only BCU.

Trade Capital appealed.

Appellate decision

The Ontario Court of Appeal confirmed that BCU breached the freezing order and was not a secured creditor in respect of the post-Mareva Order advances.

However, the Court of Appeal held that the motion judge unnecessarily limited the court’s jurisdiction to address BCU’s distribution request in the face of its breach. It was within the motion judge’s jurisdiction to order the proceeds of sale of the De Maria properties be held by a court-appointed Receiver until the conclusion of Trade Capital’s fraud action against De Maria.

The appellate court explained that Mareva orders are not meant to put a plaintiff in the position of a secured creditor, prevent legitimate creditors from enforcing debts or impede a defendant from meeting legitimate debt payments accruing in the ordinary course.

Rather, Mareva orders are exceptional equitable remedies granted only where there is a genuine risk of the disappearance of assets. These orders maintain the integrity of the court process and prevent the frustration of the course of justice by preventing defendants from moving assets out of reach and flouting the court’s process. Given their equitable function, Mareva orders can be fashioned to appropriately address the concerns and issues at play.

The Court of Appeal cited section 140(5) of the Courts Justice Act, which grants express power to stay or dismiss a proceeding as an abuse of process. If courts can stay or dismiss proceedings to protect their own processes their jurisdiction is certainly broad enough to postpone enforcement of a creditor’s claim arising solely from its breach of a court order. A party cannot take advantage of the state of affairs produced by its own wrong — it must come to the court with clean hands.

BCU did not come to the court with clean hands. If BCU had not breached the Mareva Order, then it would not have any debt arising after the Mareva Order. Permitting BCU’s claim would cause tremendous unfairness to Trade Capital, which was the alleged victim of fraud and had expended substantial resources in obtaining the Mareva Order.

The Court of Appeal ordered that the distribution of BCU’s post-Mareva advances be delayed until after Trade Capital’s claim is resolved. If Trade Capital is successful in the fraud action, Trade Capital and BCU are to collect on their judgments on equal footing (pari passu).

Key Takeaways

  • Mareva orders are not meant to put a plaintiff in the position of a secured creditor, prevent legitimate creditors from enforcing debts or impede a defendant from meeting legitimate debt payments accruing in the ordinary course.
  • Creditors seeking to enforce a claim against a debtor who is subject to a Mareva order must come to the court with clean hands—seeking to recover funds loaned in breach of a Mareva order is an example of coming to the court with unclean hands.
  • The creditor’s actual knowledge of the Mareva order will be critical in determining its culpability and whether its security will survive.
  • Creditors should conduct appropriate due diligence before making advances to a debtor in circumstances where their might be an asset freezing order.

This article was originally sourced from www.lexology.com