by Ronald C.C. Cuming

I. THE CONSTITUTIONAL AND LEGISLATIVE CONTEXT

The law dealing with the regulation of secured financing in Canada, like most other features of the Canadian legal and constitutional structures, is complex. Legislative jurisdiction over secured financing transactions is divided between the federal Parliament and the provincial legislatures. Bank financing may fall under provincial or federal regulation depending upon the type of transaction involved. All other secured financing is subject to provincial law except to the very limited extent that bankruptcy law is involved.

Six out of the ten provinces as well as the two territories have enacted Personal Property Security Acts based roughly on Article 9 of the Uniform Commercial Code of the United States. It is expected that the remaining common law jurisdictions will follow in the near future. In addition, the Civil Code of Quebec has recently been revised so as to provide a system of general application for taking security interests in moveable property, thus bringing that province's system closer to the mainstream of North American developments in this area of the law.

II. THE PROCESS OF PROVINCIAL LAW REFORM

While Canadian provincial Personal Property Security Acts contain many of the concepts of Article 9 of the Uniform Commercial Code, the process of law reform leading up to their enactment was quite different from that which produced Article 9.

The law replaced by the Personal Property Security Acts was much more accommodating to business financing than was the law in most states prior to the adoption of Article 9. For instance, the availability of floating charges and equitable mortgages in common law provinces allowed most aspects of secured inventory financing to be carried out with comparative ease and a reasonable level of legal certainty. Moreover, central registries were established in the 1950s in many provinces. As a result, most provinces had legal frameworks and registry systems within which the traditional secured financing devices could function. The principal deficiency of prior secured financing law in the common law provinces was that it embodied no systematic or conceptually consistent approach. Its concepts were drawn from the common law, equity and statutes. Superimposed on these concepts were elaborate, disparate and overlapping registry requirements. Priority structures were an anomalous mixture of legal doctrine and statutory rules. Article 9 of the Uniform Commercial Code was attractive to Canadian law reformers because it swept away established legal doctrine and replaced it with a single conceptual basis for all personal property secured transactions. Once freed from the constraints of doctrine, the drafters could devise rules to regulate inter partes rights and priority disputes in a way that embodies public policies and responds to the needs of those affected by the law.

Modern substantive law reform in the area of secured financing law occurred in the United States in the early 1950s before computer technology was generally available. This was not the case in Canada where parallel reforms started in the late 1970s and have continued to the present. The creation of computer-based registry systems has therefore been an important aspect of the modernization of Canadian secured financing law. Circumstances in Canada permitted the rapid development and refinement of these systems to the point that they are currently the most advanced of their kind in the world.

III. A "TYPICAL" CANADIAN PROVINCIAL PPSA SYSTEM

Numerous disparities exist among the Canadian provincial Personal Property Security Acts. Consequently, one cannot make accurate generalizations applicable to all of the Acts. However, six of the existing Acts--those of Alberta, British Columbia, Saskatchewan, Manitoba, New Brunswick and the Northwest Territories- -contain very similar features. Set out below is a general description of an Act which would be typical of the majority of existing Personal Property Security Acts.

(a) Scope

The Act applies to all transactions that have the effect of providing an in rem interest in personal property to secure an obligation. In addition, the private international law provisions governing perfection and priority (but not inter partes enforcement) apply to "chattel leases for a term of more than one year" and to "commercial consignments."

The Act applies to security interests in fixtures; as a result, it is possible to take and preserve a security interest in goods that are attached to land.

(b) Security Agreements

The Act gives explicit recognition to agreements providing for a security interest in all of a debtor's present and after-acquired personal property, or in all of a debtor's present and after-acquired personal property other than specified items or kinds of collateral.

(c) Perfection (e.g., protection against third party claims)

The Act provides for perfection by possession (but not seizure) of tangible collateral. It provides for perfection by registration of security interests in all types of collateral, including money and negotiable securities. (For a description of the operation of the registry system, see, infra.)

(d) Enforcement

The Act prescribes an elaborate code of rules regulating the procedures to be followed when enforcing a security interest. However, a court is given broad discretionary power to provide relief from compliance, give directions and issue orders affecting the rights of secured parties and debtors. Debtors are given extensive rights of redemption and reinstatement in order to avoid the effect of acceleration clauses.

Non-compliance by the secured party does not result in an automatic loss of the right to a deficiency. It can, however, result in deemed damages and the shifting of the burden to the secured party to prove that the non-compliance did not result in the full realization of the value of the collateral, or that it did not interfere with the debtor's right to redeem the collateral or to reinstate the security agreement.

The Act provides that the parties may include in the security agreement the power to appoint a receiver or a receiver-manager in the event of default. Generally, a receiver has the power to take control of the business (a receivership is used principally in cases where the secured party has a broadly-based security interest) and, in the case of a receiver-manager, to run the enterprise, or to liquidate it either as a "going concern" or on a piece-meal basis. All aspects of a receiver's activities are subject to scrutiny by the court. This oversight can be invoked in a summary manner (e.g., a simple court proceeding), by the debtor or by other persons who have interests in the collateral.

IV. CHARACTERISTICS OF A REMOTE ACCESS REGISTRY SYSTEM

All of the Canadian personal property registry systems are computerized. All registrations are effected at a single central registry within each province. Most of the registries are accessible, both for registering financing statements and searching for registrations, through remote computer terminals. Remote access means that simple PC equipment and a modem can be located in any government office (e.g., a court house or a county office) regardless of its distance from the central registry, or in the office of a financial institution or any other business premises.

(a) Remote Access

Registrations and searches can be effected by remote computer access from any place in the world where long distance telephone communication is available. (Currently large Toronto law firms conduct searches of and register financing statements in the British Columbia registry, 3000 km. away.) However, users of remote communication facilities must make prior arrangements for the payment of registration and search fees. At regional government offices, casual users of the system can obtain direct access to the registry upon payment of the applicable fees. Since remote computer searches do not require any human involvement, week-end and after-hours computer access to the registry are possible. In addition, registrations and searches can be made by telephone or facsimile thereby further increasing registry accessibility.

(b) Registration of Financing Statements

All acts provide for the registration of "financing statements." A financing statement is not a security agreement; it is a statutorily prescribed form (in the case of electronic registration, a prescribed computer screen) on which basic information regarding the relationship between a secured party and a debtor is recorded (and then entered into the database of the registry). It contains the name and address of the secured party and the debtor, as well as a description of the collateral. However, it does not contain the terms of the security agreement or the signature of the debtor.

A financing statement (whether written or electronic) may be registered before a security agreement is executed, and it may relate to any number of separate security agreements between the parties. A financing statement is not signed by the debtor; however, the Act contains an elaborate system which protects against unauthorized registrations or the over-description of collateral. (See further description of this system, infra.)

One of the important benefits of computerized registration is the elimination of the need for statutory limits on the duration of registrations. Because paper records are replaced by the electronic storage of financing statements, there is little need to periodically cleanse the system. Accordingly, a registering party may choose a period of registration anywhere from 1 to 25 years. Or, a registering party may select "infinity registration." The registration fees vary from province to province but are approximately five dollars per year plus a five-dollar administration fee, or $400 plus a five-dollar administration fee in the case of infinity registration.

(c) Searches

On-line, telephone or facsimile searches may be made using the debtor's name, or in appropriate cases, a serial number. Search fees are seven dollars or ten dollars depending upon whether the search is on-line or it involves registry staff. The registry guarantees the accuracy of a printed search result up to a prescribed damages limit.

(d) Control of Potential Abuse

The ability to select a long registration period and to register a financing statement without the debtor's signature and before a security agreement exists, provides opportunities for abuse. For example, a registering party could effect or maintain a registration when there is no justification for doing so (e.g., the debtor has not granted the registering party a security interest in any of the debtor's assets). All of the Canadian Acts contain a system designed to address these potential abuses. It also deals with situations in which the secured party may have over-described the collateral. For example, a secured party may register a financing statement which lists certain collateral in which the secured party has no interest according to the security agreement. In addition, this system solves problems created when a secured obligation has been discharged but a registration against the name or property of the debtor remains in the registry.

Under this system, a secured party must give the debtor a copy of the financing statement (if it is in written form) or a copy of the verification statement issued by the registry upon an electronic registration of the financing statement. A debtor (or the person named as debtor in a registration) or a person with an interest in the property described as collateral in the financing statement, may demand that the secured party amend or discharge the registration, as is appropriate under the circumstances, within 15 days from the date the demand is delivered. If the secured party fails to respond to the demand, upon proof to the registrar that the demand was delivered, the demanding party may register a financing change statement amending or discharging the registration as the case may be. (Experience in the province of Saskatchewan, where this system has been in place for 12 years, has demonstrated that secured parties very rarely fail to respond to demands.) If a secured party has a right to have the registration maintained, he or she must apply to the court for an order maintaining the registration. Failure to respond to the demand, when legally required to do so, results in a deemed damages penalty in the amount of $200 payable to the demanding party. Making an unjustified demand likewise results in a deemed damages penalty of $200 and is payable to the secured party.

(e) Description of Collateral on Financing Statements

Collateral must be described generically or by item on a financing statement. The regulations permit collateral to be described as "all present and after-acquired personal property" or "all present and after-acquired personal property other than . . ." However, a collateral description confined to "consumer goods" or "equipment" is inadequate because these terms are not "kind" descriptors, but rather are "use" descriptors.

Where the collateral is a motor vehicle (broadly defined), a boat, aircraft, trailer, farm tractor or farm combine held as consumer goods, the collateral must be described by serial number (and in the case of boats and aircraft, by the Ministry of Transport designation). When these types of collateral are held as equipment, a secured party may use a generic description but this provides protection against only a trustee in bankruptcy and execution creditors. For full protection, the serial number must be provided in the registration. Serial-number registration is designed to address situations in which the person who is searching the registry does not know the debtor's name. For example, the searching party may be dealing with someone who had purchased the goods from the debtor, or some other person whose interest in the goods was derived from the debtor, and that person may fail to disclose the debtor's existence or identity to the searching party. By conducting a search using the serial number of the goods, a searching party can nevertheless locate all registrations affecting those goods. This system, while applicable to goods other than motor vehicles, is particularly important in Canada because, unlike the United States, no province has a certificate of title system for motor vehicles which would otherwise serve to protect buyers of used motor vehicles.

(f) Verification

When a registration is effected, the computer automatically prints out a verification statement containing the information that has been entered into the data base relating to that registration. This statement is immediately sent to the registering party. A verification statement has two principal functions. First, it provides a fail-safe measure by permitting a registering party to verify the accuracy of the information contained in the registry data base relating to his or her registration. In this way, errors on the part of the registering party can be immediately identified and corrected. Second, a verification statement encourages the early discharge of unnecessary registrations. The statement includes, on the second page, a discharge verification form containing the registered information. Should a secured party wish to discharge a registration, he or she simply sends the discharge verification form to the registry where it is processed at no charge.

(g) Discharges

Inadvertent, fraudulently discharged or lapsed registrations may be reinstated within 30 days of discharge or lapse without loss of priority status vis-á-vis anyone other than the holder of an intervening interest.

(h) Errors in Registered Information

There are important differences between computerized and manually operated registries of which users must be aware. A primary source of these differences arises from the fact that the actual searching in a computerized registry is done electronically; as a result, the ad hoc application of human discretion and judgment is not possible. It is a fundamental rule of computer technology that close is not good enough. In other words, as a general rule, the registration criteria must be the same as the search criteria. For example, if the debtor's name is registered as John P. Smith, but his correct name which is used by a third party as a search criterion, is John P. Smyth, the registration and search criteria do not match and, unless special features are built into the registry's computer program, the registration will not be disclosed. When this occurs, the legal sufficiency of the registration is put into question. A simplistic approach would be to conclude that, since the debtor's name was not correctly registered, the registration must be invalid. However, this approach is commercially and politically unacceptable. The consequences of invalid registrations can be very significant in commercial terms. As a practical matter, errors in recording debtors' names or serial numbers of collateral cannot be eliminated. A refusal or failure to accommodate these realities would result in the public's rejection of computerized registries.

The drafters of the Canadian Personal Property Security Acts and the designers of the computer program for the Canadian personal property registries were quite aware of these realities. As a result, they attempted to design systems that, given the profile of the users, would accommodate a level of human error that could reasonably be expected. There is no complete uniformity in the approaches taken; some systems are more "user friendly" than others.

The Acts provide that the validity of a registration is not affected by a defect, omission or error unless that defect, omission or error causes the registration to be "seriously misleading." Clearly, strict compliance with registration requirements is not a pre-requisite to a valid registration. The test of validity contained in the Act is necessarily an objective one. Its application involves the determination of whether a reasonable person who obtains a search result using the debtor's correct name, or the correct serial number of the collateral, would be misled by an error on the part of the registering party in recording the debtor's name or the serial number of the collateral on the financing statement. Of course, if the registry's computer program were to demand perfect compliance on the part of a registering party, a reasonable person would be misled because the registration would not be disclosed when the debtor's correct name or the correct serial number of the collateral is used as the search criterion. However, if a search reveals registrations that are "close similar matches" to the search criterion used, whether a reasonable person who obtains the registration as a close similar match would be seriously misled by the differences between the information in the disclosed registration and the search criterion used by the searcher would be a matter to determine on a case-by-case basis.

It is clear that under this type of system, legal issues concerning the validity of a registration can be resolved only when factors other than the disparity between a debtor's actual name and the name appearing in the registration are taken into consideration. Of primary importance is the number of close similar matches revealed by a search using the debtor's correct name. If a large number of registrations are disclosed as being similar to the search criterion used, a reasonable person could not be expected to follow up on each of these matches to determine whether one of them might be the person with whom he or she is dealing. However, if only a few similar matches are disclosed, and some of them include additional information, such as the debtor's address, the searching party would be put on notice that an error may have been made in recording the debtor's name. Should this situation occur, the registration would be valid even though the debtor's name is not correctly recorded.

A similar approach is taken in the context of serial number registrations. The computer program is designed to accommodate errors commonly made when recording serial numbers. It does this by employing a coding routine which converts alphabetic characters into numeric characters having similar physical appearances. This program causes a search using, for example, the correct serial number of a motor vehicle will to reveal, as a close similar match, a registration containing errors in the recording of certain alphanumeric characters of a serial number.

The structure of names of artificial legal persons (generally corporations) is different from that of natural persons. Therefore, the same coding system used for searching the registry records for the names of debtors who are natural persons cannot be used for searches of debtors who are artificial legal persons. However, a special coding system applicable to debtors who are artificial persons has been designed to ensure that registrations are disclosed even though they contain some minor differences between the name registered and the name used as the search criterion. For example, all frequently-encountered, non-descriptive words and abbreviations, such as Co., Company, Corp., Corporation, Div., Division, Inc., Incorporated, Ltd., Limited, Holdings, Brothers, Canada, Distributors, Manufacturing, East, West, etc., are excluded from the code that is used to search the data base.

V. ASSESSMENT

The Canadian systems have been well received by users and are enthusiastically supported by provincial governments. They provide inexpensive and immediate access to information that is critical to modern secured financing in Canada. At the same time, they provide significant revenues for government treasuries.