June 2003

THE LOAD BROKER IN BANKRUPTCY: WHO GETS THE FREIGHT MONEY?

It's a routine transaction. A shipper of goods retains a load broker to arrange carriage. The broker contracts, for his own account, a third party carrier to perform the carriage. The carrier delivers the shipment and invoices the broker for the freight. The broker obtains payment from the shipper, or at least the promise to pay, but unfortunately, at some point between this and the carrier getting paid, the broker becomes bankrupt.

In the ensuing skirmish with other unpaid creditors [secured or otherwise], what is the priority status of the unpaid carrier to any freight monies on hand with the broker?

The competing interests to this type of dispute anxiously await the outcome of an appeal taken from the decision of Justice Greer in GMAC Commercial Credit Corp.? Canada v. TCT Logistics Inc. [2002] O.J. No. 3244 (Ontario Superior Court of Justice). The decision, rendered on August 23, 2002, has led to a cautious, if not a wait and see approach by trustees in bankruptcy in the administration of the estate of a bankrupt broker, pending the outcome of the appeal now before the Ontario Court of Appeal.

TCT Logistics Inc. ["TCT"] operated a freight brokerage business based in Ontario. TCT would contract a carrier to transport and deliver a shipper's goods. TCT would invoice the shipper, adding a fee to that invoiced by the carrier and the carrier would historically look only to TCT for payment. On January 24, 2002, TCT went into receivership and was petitioned into bankruptcy shortly thereafter. When the receivership occurred, various carriers had not been paid for work done prior to that date. TCT however had collected some carrier freight fees, which had not been handed over to these carriers prior to the receivership taking place. Some of these receivables were collected after that date, and others were not. In an application before the Court on the issue of priority entitlement to the freight monies, a secured creditor having in place a general security agreement with the broker squared off against various unpaid carriers.

There exists in Ontario a regulation governing load brokers which prescribes that:

(1) Every load broker shall hold in trust, for the benefit of the carriers to whom the load broker is liable to pay carriage charges, all the money the load broker receives from consignors and consignees in respect of the carriage of goods by carriers except,

a) money in excess of the carriage charges; and
b) interest on money held by the load broker for less than thirty days

(2) Every load broker shall,

a) maintain an account designated as a trust account in a bank, trust corporation or credit union authorized to carry on business an located in Ontario;
b) keep the money held by the load broker as a trustee under subsection (1) separate from money that belongs to the load broker;
c) deposit the money held by the load broker as a trustee under subsection (1) in the trust account without delay after its receipt; and
d) disburse the money held by the load broker as a trustee under subsection (1) only to persons for whom the money is held in trust and who are entitled to such payment.

The carriers asserted that they were beneficiaries to the freight monies being a trust to defeat the priority claim of the secured creditor, the trust not forming a part of the property of the bankrupt to be distributed under the usual priority rules. Canada's bankruptcy regime is governed by federal legislation which governs the disposition of property of a bankrupt. This provides, in part:

s. 67(1) The property of a bankrupt divisible among his creditors shall not comprise

a) property held by the bankrupt in trust for any other person
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The secured creditor in turn asserted that its interest attached to the freight monies and freight receivables prior to any creation of any trust, and that they had a priority claim to the funds. The secured creditor also challenged whether a valid trust existed at all. Evidence was filed on the application which confirmed that the broker had not set up a conventional trust account for monies to be kept apart from it general account. Freight monies had been ëco-mingledí with other monies belonging to the broker. All parties agreed that a true trust must exist for the carriers to outrank the secured creditors.

The secured creditor asserted that the Load Broker Regulation only creates an obligation by a load broker to create a trust, but that it does not itself impose a trust. It argued that the load broker did not follow the proper procedure under the Regulation to impose a trust on the amounts received. The secured creditor noted in argument that TCT did not honor a trust obligation to the carriers, by failing to segregate the freight payments which therefore fell under its comprehensive security.

The carriers in turn asserted that the Regulation created a statutory trust to defeat the claim of a secured creditor. They differentiated monies paid to TCT as a load broker, [as forming a trust for each carrier for monies paid for each load carried for the broker], from mere accounts receivable covered by the general security agreement.

The Court ruled that a deemed trust [also referred to as a statutory trust] was in fact created that preserves the freight monies paid for the benefit of the carriers. The carriers therefore took priority in claims to the freight monies. The Court emphasized in its reasons that the Regulation was passed by the legislature to protect carriers from this very scenario ? being the receivership or bankruptcy of the load broker. The intent of the legislature to create a statutory trust should be given effect notwithstanding certain arguable defects in the formation of the trust as concerns the usual requirement of the three certainties of intention, object and subject matter.

The Court found that TCT did keep clear records of the amounts owed to particular carriers and that this sufficed for the purposes of the trust requirements of the Load Broker Regulation. It mattered not that the holder of the money failed to hold it in a separate trust account, because the legislation imposes a statutory trust dictating that the money is trust money.

The TCT case is now having an effect in causing a de facto stay in the resolution of similar priority issues in other cases. One recent case serves as one example of things to come pending the outcome of the appeal of the TCT case. It is safe to assume that Trustees in Bankruptcy will, for at least the short term, take the conservative step of applying to the Court for a direction that freight monies owed to a bankrupt broker be paid into Court pending a subsequent adjudication on entitlement. This adjudication will no doubt await the outcome in of the appeal in TCT. In the Norame case the Trustee obtained a Court order, in part:

a) precluding carriers who provided freight services from pursuing shippers for any freight claims that involved the bankrupt broker;

b) ordering that actions or proceedings commenced by any carrier against any shipper for freight claims that involved the bankrupt broker be stayed pending further order of the Court;

c) ordering that all shippers who are indebted to the bankrupt broker for carriage services contracted for by that broker be directed to make payment of all such indebtedness to the Trustee;

d) that, in respect of the monies received by the Trustee, it shall retain in an interest bearing trust account all funds received in connection with the above, and which shall not be distributed absent Court order determining the rights and priorities of the persons concerned

e) no carrier shall have any recourse against a shipper for having made such payments to the trustee and all shippers having made such payments to the trustee are deemed to have satisfied in full any obligations they may have owed to either the broker or any carriers for the carriage services in respect of which such payments have been made to the trustee

This type of arrangement seems reasonable in facilitating various interests and obligations. The Trustee's function includes bringing in the receivables owing to the bankrupt. Shippers are of course nervous on the question of who to pays and the unpaid carrier can be satisfied that monies will be preserved pending determination of the issue.

MGH