The recent decision of the Alberta Court of Queen’s Bench in Alignvest Private Debt Ltd v Surefire Industries Ltd, 2015 ABQB 148 (“Alignvest”) raises important issues for landlords to consider respecting the provisions in a lease that deal with security deposits. In particular, Alignvest provides guidance on how landlords can protect their rights to a security deposit in the event of a tenant’s insolvency, and illustrates the risk of failing to do so.
The case arose from a sale and lease back transaction between York Realty Ltd., as purchaser-landlord (“York”), and Surefire Industries Ltd., as seller-tenant (“Surefire”) which closed on February 15, 2013. The lease entered into between York and Surefire included a $3,187,500 security deposit, which was held by York as an adjustment to the purchase price for the property.
The relevant term of the lease provided as follows:
Security Deposit/Rent Credit
(a) The Tenant will pay to the Landlord ... a deposit of ... $3,187,500 plus goods and services tax (the “Security Deposit"), which Security Deposit is to be held without interest by the Landlord as security for the performance by the Tenant of its obligations under the Lease ... Subject to the foregoing, the Security Deposit will, provided that the Tenant has paid all amounts due to the Landlord under this Lease and is not otherwise in default ..., be applied during the term as follows:
[applied to monthly rent commencing on the 13th month of the term, and certain following months during the term of the tenancy]
In the event of default under the lease, York was entitled to retain the deposit. York did not register its interest to the deposit in the Personal Property Registry.
The dispute arose when Surefire became insolvent and was placed into receivership by a secured creditor, Alignvest Private Debt Ltd (“Alignvest”), which held a perfected security interest over all of Surefire’s assets. Surefire had defaulted on rent payments under the lease with York in the days prior to the appointment of the receiver, but York did not exercise its option to retain the deposit and the failure to pay rent was remedied.
In an application before the Court, Alignvest took the position that the $3,187,500 deposit in the hands of York was property of Surefire and therefore subject to its security interest. York argued that the deposit was pre-paid rent or a non-refundable deposit, and therefore not the property of Surefire. Accordingly, the Court looked to the terms of the lease to determine which interpretation of the deposit could be substantiated.
Ultimately, the Court determined that the deposit could not be considered pre-paid rent or a non-refundable deposit, and York was ordered to forfeit the deposit to Alignvest. In coming to this conclusion, the Court considered the following factors:
- the provision in the Lease which specified that the deposit was held as “security for the performance by the Tenant of its obligations under the Lease”;
- the fact that the deposit would be credited to rent for certain future months of the tenancy if the tenant was not in default, but did not immediately credit the deposit to future months; and
- there were circumstances in which the deposit would be refundable to the tenant, including a breach of the lease by the landlord, or, as was the present case, a disclaimer of the lease in insolvency proceedings which was confirmed by the Court.
The Court determined that the deposit was properly characterized as security to guarantee the performance of Surefire’s obligations under the lease, and that York therefore held a “security interest” which was required to be registered under the terms of the Personal Property Security Act (PPSA). Since York did not register its security interest, its claim to the deposit was subordinate to Surefire’s perfected interest and ineffective against the bankruptcy trustee that was eventually appointed over Surefire’s assets.
The Court’s decision in Alignvest provides a cautionary tale as well as important guidance to landlords on how to minimize the risks arising from a tenant’s insolvency. In particular, landlords should be careful to consider the implications of language in the lease that may have the effect of bringing the deposit within the parameters of the PPSA. When in doubt, filing a financing statement in the Personal Property Registry is an inexpensive and effective way to protect a deposit from a claim by a bankruptcy trustee.
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