No Port in a Storm: Ensuring DIP Loans Don’t Inadvertently Cross the Criminal Interest Threshold

In Port Capital Development (EV) Inc. (Re)the British Columbia Supreme Court recently refused to provide further reassurance to a debtor-in-possession (DIP) lender in CCAA proceedings by granting a declaration that the interest rate and fees charged in under the loan did not violate the criminal code by charging an annualized interest rate above 60%. DIP lenders in severe distress, particularly those involving short-term loans, should carefully ensure that interest and other charges payable by debtors under their loans do not exceed this statutory threshold to avoid potential consequences. of such occurrence, including, in extreme cases, all interest payable thereunder being invalidated.

Criminal Interest Rates: When “Interest” Isn’t Just Interest

This is an offense under section 347(1) of the criminal code for a lender to enter into an agreement providing for or receive an interest payment in excess of 60% per annum. For the purposes of this article, interest includes not only the interest rate specified in the agreement, but virtually all other elements of the cost of borrowing, regardless of how the parties have characterized them.[1]

Costs that have been included in the interest calculation include but are not limited to Commitment Fee, Arrangement Fee, Loan Advance Fee, Facility Fee, Extension Fee, Finance Fee , premiums, legal and other lender fees, capitalized interest and compensation for lost interest on money advanced on short notice.[2]

In addition to being a criminal offence, courts will generally refuse to enforce an agreement charging interest above the criminal rate as contrary to public order. The courts have the discretion to apply a host of remedies in this situation. At one end of the spectrum, the court may declare the contract as a whole void ab-initio, which is used only in the most egregious and abusive cases. The court can cancel payment of any interest, but still require payment of the principal. At the other end of the spectrum, the court can apply a notional separation (the so-called “blue pencil” test) and strike out provisions of the contract that result in the charging of interest below the criminal rate (such as charges and costs that put an otherwise consistent interest rate on the criminal rate).[3]

Bill C-274, a private member’s bill that received first reading on May 11, 2021, would reduce the criminal interest rate to 30% plus the overnight rate of the Bank of Canada the day the agreement is entered into or renewed (among other changes to the criminal interest provisions). However, the bill has not advanced since first reading.

Port capital: the “expensive” loan

Port Capital owns a real estate development project in downtown Vancouver. In May 2020, Port Capital started Companies’ Creditors Arrangement Act (“CCAA”) proceedings after its construction lender and first mortgage lender (CMLS) ceased financing and demanded payment of its loan. A sale and investment solicitation process was completed, and three liquidation offers were submitted along with a proposal to “refinance” another company that had common ownership with Port Capital (“129”) which included a loan from Domain Mortgage Corp. (“Domain”) and other funding sources that would repay the existing DIP loan and the first CLMS secured loan and provide additional funding to keep Port Capital afloat and continue to seek a replacement construction lender.

In June 2021, the Honorable Madam Justice Fitzpatrick of the Supreme Court of British Columbia denied a request by 129 to approve and implement her proposal and instead approved the best liquidation proposal.[4] This decision was overturned by the British Columbia Court of Appeal in September 2021[5] and the refinancing proposal submitted by 129 was finalized in October 2021. All amounts advanced by Domain were secured by a super priority DIP charge.

Port Capital then filed a request to increase the amount of its loan with Domain, which was approved by Judge Fitzpatrick, despite the “onerous” terms of the financing, as it was the only option available to avoid the liquidation.[6]

Court refuses to declare DIP loan does not cross criminal threshold

Port Capital also requested the following declaratory judgment on the claim:

The terms of the February engagement letter do not violate s. 347 of the Criminal Code, RSC 1985, c. C-46.

The estate loan had an annual interest rate of 24% and various other fees and charges. Domain filed a spreadsheet showing that the “total annualized interest” under Domain’s additional loan would be 52.45% (perhaps too close to 60% for comfort).

Fitzpatrick J. declined to grant the requested declaratory relief on two grounds:

  1. First, since the additional funding was conditional and had not yet been advanced, the declaratory judgment sought related to “what is potentially a moot question or scenario that is speculative.”[7]
  2. Second, it was not appropriate for the Court to “support the legal opinions of corporate actors who intend to act in a certain way in the business world” by endorsing the legal advice Domain had obtained. and the calculations they had undertaken.[8]

Take-out: calculate twice, lend once

The decision emphasizes that lenders in dire distress where the interest and costs of a DIP loan may approach the criminal threshold of 60% should exercise extra diligence to ensure that the total interest does not exceed this threshold at any time, in particular in view of the severe relief that can be pronounced by the courts if the threshold is exceeded. This risk is particularly acute in the case of short-term loans, where credit charges and other charges can rapidly increase the total interest rate given the shorter time horizon.

It appears that DIP lenders will not be able to rely on the court overseeing CCAA or other insolvency proceedings to provide greater comfort in granting a declaration that the threshold is in fact not exceeded. The attorney can help determine whether various fees and other provisions of a DIP loan may constitute “interest” and should be considered by a DIP lender making these crucial calculations.

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