Vendor take-backs when the buyer becomes insolvent

When you sell your business and take back a note, you stop being only a seller. You become a lender to the buyer, and if the buyer later cannot pay its debts, your position is set by federal insolvency law as well as by your note. The Bankruptcy and Insolvency Act (BIA) governs that process across Canada. This guide walks through the pieces that matter to a seller-lender: whether you are secured, what happens to your remedies when the buyer files, the notice before enforcing, receivers, and how a subordination agreement fits in. It explains the rules; it does not tell you what to do.

Secured or unsecured: the first question

The Office of the Superintendent of Bankruptcy (OSB) defines a secured creditor as one who takes collateral for the credit, and an unsecured creditor as one who gives credit without any security for the debt. A vendor take-back lender can be either, depending on the paperwork. A note with no security agreement or mortgage behind it leaves you unsecured. A note backed by a registered security interest may put you in the secured group. Look at what was actually signed and registered, not at what was discussed at closing.

When the buyer files a notice of intention or a proposal

An insolvent person can file a notice of intention to make a proposal to its creditors. The BIA says that, subject to subsections 69(2) and (3) and sections 69.4, 69.5 and 69.6, no creditor then has any remedy against that person or its property, or may start or continue a proceeding for the recovery of a claim provable in bankruptcy (s.69(1)). Section 69.1 applies a similar stay, subject to its own exceptions, once a proposal is filed. Section 69(2) carves out some secured creditors, including one who took possession of secured assets for the purpose of realization before the notice was filed. Section 69.4 lets a creditor apply for a declaration that the stay no longer operates.

The OSB says a proposal made to unsecured creditors must be accepted by the voting thresholds the Act sets, counted both by number of creditors and by value of proven claims. A proposal can also be put to secured creditors by class. Creditors who want to vote file a proof of claim with the licensed insolvency trustee beforehand.

When the buyer goes bankrupt

On a bankruptcy, and subject to the exceptions in the Act, no creditor has a remedy against the debtor or its property for a claim provable in bankruptcy (s.69.3(1)). Subsection 69.3(2) says that, subject to sections 79 and 127 to 135 and subsection 248(1), the bankruptcy does not prevent a secured creditor from realizing or otherwise dealing with its security, unless the court orders otherwise. The OSB adds that an unsecured creditor must file a proof of claim to share in dividends and vote at the first meeting of creditors (if one is held), while a secured creditor does not need to unless the trustee asks, or it wants to vote and claim a dividend on the unsecured portion. The OSB says creditors who are not secured and have no priority under section 136 of the BIA are paid on a pro rata basis.

The notice before you enforce security

Before enforcing, a secured creditor has its own step. Under s.244(1), a secured creditor who intends to enforce security on all or substantially all of the inventory, the accounts receivable or the other property of an insolvent person, acquired for, or used in relation to, a business it carries on, must send that person a notice in the prescribed form and manner. Under s.244(2), the creditor may not enforce until ten days after sending the notice, unless the insolvent person consents to earlier enforcement. Section 244(2.1) says that consent cannot be obtained before the notice is sent. Section 244(3) and (4) list exceptions: the section does not apply, or ceases to apply, to a secured creditor protected by s.69.1(5) or (6) or whose stay was lifted under s.69.4, or where there is a receiver. Read the section against your facts.

Receivers

A secured creditor may also ask the court for a receiver. Under s.243(1), on a secured creditor’s application, a court may appoint a receiver, if it considers it just or convenient, to do any or all of the following: take possession of all or substantially all of the inventory, accounts receivable or other property of an insolvent person or bankrupt acquired for or used in relation to a business; exercise any control over that property and the business that the court considers advisable; or take any other action the court considers advisable. Where a notice is to be sent under s.244(1), s.243(1.1) bars an appointment before ten days after the creditor sends it, unless the insolvent person consents or the court considers it appropriate. Section 243(4) says only a trustee may be appointed as receiver under s.243(1). Our answer on what to do if the buyer defaults on the note covers remedies outside insolvency.

Who is paid first, and where CCAA fits

If a bank lent to the buyer as well, ask your lawyer how any subordination agreement and each lender’s security affect who is paid first; this guide cannot answer that. Ask for the agreement and read what it says about enforcement, payment blocks and standstill periods; see the glossary entry on subordinated debt. Separately, the OSB describes the Companies’ Creditors Arrangement Act as the federal law that lets certain insolvent corporations restructure. Whether it could reach a particular buyer is a question for a lawyer.

• Ask a lawyer whether your note is secured, what was registered, and whether it was registered correctly.
• Ask a licensed insolvency trustee how a notice of intention, a proposal or a bankruptcy would affect your remedies.
• Ask whether the s.244 notice applies to the property you would enforce against.
• Ask for the subordination agreement and the bank’s security, and confirm who ranks first.
• Ask how and by when to file a proof of claim if you want to vote or share in a dividend.