Paragon Capital Corporation Ltd. v., 2012 ABQB 541

Court of Queen ’ s Bench of Alberta Citation: Paragon Capital Corporation Ltd. v. 1257072 Alberta Ltd., 2012 ABQB 541 Date: 20120830 Docket: 0901 14610 Registry: Calgary Between: Paragon Capital Corporation Ltd. Plaintiff - and - 1257072 Alberta Ltd., Jade Land Holdings Ltd., Spaeth Holdings ULC and Herbert Spaeth Defendants _______________________________________________________ Reasons for Judgment of the Honourable Madam Justice C.A. Kent _______________________________________________________ [ 1 ] Paragon Capital Corporation Ltd. (Paragon) loaned $2 million to 1257072 Alberta Ltd. (125).

The loan was secured by a mortgage against lands owned by 125 and by guarantees given by Herbert Spaeth, Jade Land Holdings Ltd. and Spaeth Holdings ULC (the guarantors). 125 defaulted on the loan and this action was commenced. The Guarantors consented to a judgment of about $2 million on October 26, 2009. By May 1, 2011, the guarantors had paid Paragon $1.015 million on the judgment. The lands were sold in foreclosure proceedings. On December 9, 2010, an order nisi/order for sale was granted. As of that date the amount owing by 125 was $2,121,690.37.

On December 21, 2010, the lands were sold and Paragon netted $932,023.09. [ 2 ] There are three ways of applying the funds paid by the guarantees on the consent judgment and the foreclosure proceedings:

- If the foreclosure proceeds and the amounts paid by the guarantors are applied to the 125 debt, the balance owing by 125 is$751,353.64. - By applying the amounts paid by the guarantors but not applying the foreclosure proceeds to the consent judgment on the guarantees,the amount owing by the guarantors under the judgment is $918,797.51. - If the foreclosure proceeds and the amounts paid by the guarantors are applied to the consent judgment owing by the guarantors, theoutstanding balance on the judgment is nil. [3] This is an appeal from a decision of the Master which held that the guarantors were entitled to have the foreclosure proceedsapplied to the judgment on the guarantee.

Paragon argues that the correct result is to apply the foreclosure proceeds and the paymentsmade by the guarantors to the 125 debt, so that the guarantors would be responsible for the $751,353.64, the amount left owing on the125 debt. [4] The reason for the difference is that once the consent judgment was granted, the interest on the judgment was at a lower ratepursuant to the Judgment Interest Act, RSA 2000, J-1 than the interest which continued to accrue on the mortgage. [5] The Master found that once judgment was granted against the guarantors, the rights that Paragon held against the guarantorsmerged into the judgment.

He relied upon Bank of Montreal v. Turner (1920)17 O.W.N. [6] The standard of review on an appeal from the Master is correctness: Bahcheli v. Yorkton Securities Inc., 2012 ABCA 166, [2012] A.J.

No. 540. [7] Paragon relies upon the wording of the guarantee, specifically: -paragraph 1 which provides that Paragon may apply all monies received from 125 at any time as Paragon sees fit, and may change thatapplication from time to time as it sees fit; -Paragraph 5 which reads in part that “All indebtedness and liability, present and future, of the Borrower to the undersigned or any ofthem are hereby assigned to the Lender and postponed to the liabilities,...”; -paragraph 7 which provides that proceeds from the security “shall be regarded for all purposes as payments in gross without any right onthe part of the undersigned to claim in reduction of the liability under this guarantee the benefit of any such dividends, compositions,proceeds or payments or any securities held by the Lender or proceeds thereof, and the undersigned shall have no right to be subrogatedin any rights of the Lender until the Lender shall have received payment in full of the liabilities.” [8] Paragon says that paragraph 7 is a complete answer to the guarantors’ position that the proceeds of the foreclosure beapplied against their judgment.

In addition, Paragon relies on cases which deal with principals which support its position that theforeclosure proceedings need not be applied to the consent judgment. There is first the general proposition that the right to appropriatepayment from a principal debtor belongs solely to the creditor and does not require the creditor to apply it to the guaranteed portion ofthe debt: Atlas Acceptance Corp. v. Lamm, 1991 CarswellMan 23. [9] Second, it is not the law of Alberta that the terms of the guarantee merge into the judgment: TD Bank v. Prairie GoldOilfield Services [1991] A.J. No. 589.

In that case, D. was a guarantor of Prairie Gold. TD had obtained judgment against D. D. arguedthat TD was negligent in realizing on the security given by Prairie Gold and that the value of the security would have been sufficient toretire the debt in full. Based upon the wording of the guarantee, the Master found that D. had contracted out of the ability to complainabout how TD dealt with the security. D. had argued that the guarantee had merged in the judgment. The Master rejected that argument,saying that what had merged in the judgment was TD’s cause of action.

He cited Dunlop, Creditor-Debtor Law in Canada, (Carswell:Toronto) 1981 at p. 50 and following. The decision was affirmed on appeal by the Court of Appeal in a short memorandum, stating thatthe issues raised were appropriately dealt with in the courts below ([1992] A.J. No. 437). [10] Third, a guarantor cannot owe more than what is owed by the principal debtor. However, the obligations of the guarantor andthe principal debtor of separate obligations: Canada Permanent Trust Co. v. King Art Development Ltd., [1984] A.J. No. 2591 (Alta.

C.A.) . [ 11 ] Fourth, the guarantors cannot claim the proceeds of the foreclosure to apply on the judgment because the underlying debt has not been paid in full: Wimpey (George) Canada Ltd. v. Northland Bank , [1985] A.J.No.563 (ABQB) . There, the guarantor had signed a guarantee limited to $1.2 million. The principal debtor borrowed $3.5 million secured by a mortgage. The guarantor paid the maximum amount of the guarantee and then sought a declaration that it was entitled to a proportionate share of the mortgage.

The court rejected that argument, finding that a guarantor could only claim a right to an assignment of a security upon payment of the entire underlying debt. [ 12 ] Finally, Paragon argues that Turner does not apply because the issue there dealt with further advances made by the creditor to the primary debtor after obtaining judgment against the guarantor on the first debt.

As well, the wording of the guarantee at issue is not contained in the decision so we cannot know whether the wording is the same as here. [ 13 ] Paragon acknowledges that a surety has a subrogated right to stand in the shoes of the creditor when the surety pays off the underlying debt and the creditor must account for any amounts realized on the security to the surety who has paid off the debt. Even though this equitable right exists, Paragon says that if the court decides that the guarantors are entitled to have the foreclosure proceeds applied to the judgment, they ought not to have full credit.

If the underlying debt had been paid in full, equity would require the creditor to account in full. However, here the full debt has not been repaid. Thus, the guarantor ought to receive something less than the full amount. [ 14 ] To illustrate how much that equitable amount would be, Paragon sets out the various ways of accounting for the payments on the judgment and the growing difference between the judgment amount and the debt amount. 1. The guarantors’ position is that the original amount owing on the judgment was $2,080,407.13.

Subtracting payments made by the guarantors, calculating interest at the JIA amount and subtracting the foreclosure proceeds, they owe nothing. 2. Paragon’s contractual position is that the original amount owing on the judgment was $2,080,407.13. Subtracting payments made by the guarantors and calculating interest at the JIA amount, the guarantors owe $918,797.51.

However, because the current amount owing on the mortgage, calculating interest at the mortgage rate and subtracting the foreclosure proceeds and payments made by the guarantors is only $751,353.64, Paragon acknowledges that it is limited to $751,353.64. 3. If you apply the equitable argument, the original amount again is $2,080,407.13. You then take the amounts owing on the day the foreclosure proceeds are received. Using round numbers for simplicity, on that day, the guarantors owed $1.5 million. The mortgage was at $2.1 million.

Subtracting the mortgage proceeds of $1 million from the amount owing under the mortgage results in a balance owing of $1.1 million. If you then subtract that amount ($1.1 million), from the amount owing by the guarantors ($1.5 million), the amount still owing on the guarantors’ judgment is $400,000. The result is that the guarantors receive some, but not all of the benefit of the foreclosure proceeds. [ 15 ] The guarantors likewise rely on a number of principles to support their position.

First, they say that generally there is an obligation on a creditor to credit to the surety all sums paid by the principal debtor on account of the judgment against the surety and also credit to that judgment the proceeds of all securities held by the creditor: The Law of Guarantee , (Toronto: Carswell, 1986 at para 6.30). In the context of that general principal, they say that while they acknowledge the contents of the guarantees, once judgment was obtained against the guarantors, Paragon could no longer rely on those terms.

The guarantors say that Lamm is distinguishable because in that case, the principal debtor had multiple debts and in that context, the court said that the creditor could apply the proceeds as he saw fit. Here there is only the one debt. As well, at the time that the creditor in Lamm received the payment, it had not obtained judgment against the guarantor. [ 16 ] The guarantors also distinguish TD Bank. There TD sought to rely on a release/discharge term in the guarantee to defend a claim by the guarantor that the bank had been negligent in selling some securities.

TD was using the guarantee as a shield whereas in this case, Paragon seeks to use the guarantee as a sword to circumvent the provisions of the JIA . The guarantors also note that in Turner , the Master relied upon Dunlop but his reasons did not capture all of the author’s comments. As stated above, the Master had said that what merged in the judgment against the guarantor was the plaintiff’s cause of action, not the judgment, and in making that statement, he relied on Dunlop .

The full quote from Dunlop at pp 52-53 is: It is submitted, however, that the better view is that the cause of action does not vanish entirely but instead survived the judgment, at

It is submitted, however, that the better view is that the cause of action does not vanish entirely but instead survived the judgment, at least for certain purposes. This result may be expressed by saying that the effect of obtaining judgment is to force the judgment creditor to employ the remedies appropriate to the judgment, i.e., execution, receivership and so on, rather than the remedy appropriate to a bare cause of action, namely, the commencement of a lawsuit.

In other words, what merges in the judgment is not the cause of action itself, but the remedy which accompanies it. [ 17 ] The guarantors say that Turner governs these facts.

The principals that can be gleaned from Turner at para 14-16 are: - once judgment was obtained against the surety, the contract of surety came to an end; - there was a crystallization of the rights of the parties by the judgment: “the moment the bank ended the original contractual relation, new rights and new obligations arose; and one right that Turner had was that the proceeds of all then existing securities should be applied upon the debt as it then existed”. [ 18 ] The guarantors rely on two other cases for their position. The first is Courtenay Savings Credit Union v. Harle

(1987) B.C.L.R. (2d) 357 (BCCA), a case involving a judgment on a personal covenant on a mortgage. Seaton, J.A. sets out the problem that is created when personal judgment is obtained, which is what has occurred here. He says: If the mortgage interest rate is other than 5 percent the moment personal judgment is granted, the amount payable on that judgment and the amount payable on the mortgage begin to diverge. The judgment is attracting interest at 5 percent and the mortgage at the mortgage rate. When the redemption period has expired there will be two quite different balances.

The mortgagors can pay the amount of the personal judgment against them with interest at 5 percent and they are no longer liable. That does not pay out the mortgage. The sum necessary to redeem the mortgage includes interest at the mortgage rate. There must be two accounts kept. Proceeds of sales must be credited to each of those accounts to determine the new balance in each account. When those two accounts are considered in this case it appears that the personal judgments have been paid, but the mortgage debt has not been paid.

It follows that the mortgagee can take no further steps on the personal judgments but can proceed on the mortgage. (para 21-22) [ 19 ] The guarantors say that this case provides two principles that are applicable here: two accounts must be kept and it is possible that the personal judgment be entirely paid out while there is a balance owing on the mortgage. [ 20 ] The second case is Barber Engineering & Supply Ltd. v. Rey-Nol Holdings Ltd. , 1986 CarswellAlta 183 , a decision of a master of this court.

The facts are similar to this case in that the mortgage was attracting interest at a higher rate than the in personam judgment. The defendants applied to have the net proceeds applied to the judgment. Most of the judgment deals with the issue of what interest rate applies to a mortgage once a mortgage is redeemed. Relying on some B.C. cases, the Master held that the Canada Interest Act rate applied, and then ordered that the net proceeds be applied to the in personam judgment. [ 21 ] The guarantors say that that the last sentence is key in understanding the difference between the facts in TD and the facts here.

In TD , the release/discharge term would not be captured either if you say that the cause of action merged or the remedy within the cause of action merged. Here, the remedy which Paragon seeks, namely, the ability to apply the foreclosure proceeds as it sees fit in accordance with the words of the guarantee, would be a remedy that accompanies the cause of action. That has merged with the judgment against the guarantors. [ 22 ] Both parties agree that this issue has importance beyond this case. The guarantee at issue contains standard wording.

It is not unusual for the pace at which the enforcement of the guarantee moves is different than the pace of enforcement on the underlying debt and realization on the security. [ 23 ] There are two principles which clarify the status of the parties, but do not provide a full answer to the case. First, once judgment is obtained on the guarantees, two separate accounts must be kept; one for the judgment and one for the underlying debt. Second, once judgment is obtained on the guarantees, the guarantors’ status changes.

I agree with Professor Dunlop’s description of what happens: the remedies available to the creditor merge into the judgment. The provisions of the guarantee cease to have any applicability. The creditor is limited to the usual remedies available against a judgment debtor.

[ 24 ] However, that does not answer the question of which account the foreclosure proceeds are to be applied to. TD is of no assistance. I agree that the Master in TD appears not to have considered the full analysis provided by Professor Dunlop. The problem with Turner is that while the court makes the statement “ ... the moment the bank ended the original contractual relation, new rights and obligations arose; and one right that Turner had was the proceeds of all then existing securities should be applied upon the debt as it then existed”, the court does not explain why.

It is the ‘why’ that needs to be explored to determine the correct result. [ 25 ] There is no dispute that if the debt is fully paid by the guarantor, the guarantor stands in the shoes of the creditor in relation to the security. If the creditor realizes on the security in that situation, the creditor must account to the guarantor. If, in this case, the guarantors had paid off the underlying debt, sometime before foreclosure, legally they would have been entitled to the security and practically, the amount of the underlying debt would have been less.

The reason the debt is the amount that it is is because interest continued to accrue at the mortgage rate until foreclosure. [ 26 ] The question is whether the guarantors take the benefit of the foreclosure proceedings completely, leaving the creditor to suffer a loss because it does not receive payment of the interest the debtor had agreed to pay. [ 27 ] The subrogated right of the guarantors is an equitable right. The guarantors are entitled to have the foreclosure proceeds accounted for but they should not obtain full relief, leaving the creditor to suffer all the loss.

For that reason, the position advanced by Paragon, namely, that set out as #3 of paragraph 14 is the appropriate way of dealing with the issue. The appeal of Paragon is allowed. The foreclosure proceeds will be deducted from the balance owing under the mortgage, then the balance of the mortgage will be applied against the debt owing by the guarantors. [ 28 ] In the result the appeal is allowed and the matter is determined in the manner set out above. Heard on the 8 th day of August, 2012. Dated at the City of Calgary, Alberta this 30 th day of August, 2012. C.A. Kent J.C.Q.B.A. Appearances: Andrew K.

Maciag Cory H. D. Ryan Borden Ladner Gervais for the Plaintiff Michael J. Whiting

Carscallen LLP for the Respondent