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SECTION 10 OF THE INTEREST ACT
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Common Sense, Common Practice
As a fanner's daughter having been brought up
in the sweet rolling hills of Southwestem Ontmio,
and always drawn to real estate, I took pmticulm'
notice to Section 10 of the Interest Act when I
first struted practicing law more thml 30 yem's ago.
Section 10 of the Interest Act, for those who m'e
not familim' with the same, was enacted in the
1880s to give relief to fmmers who were locked
into long telm mortgages at exorbitant rates by
money lenders who were "eating up the vitals of
yeomalllY of the counhy" (House of Common
Debates, Mm'ch 31, 1880).
BY VERNA E. CUTHBERT
LAWVER
FASKEN MARTINEAU DUMOULIN s,e,n.c.r.i., s.r.1.
there would not be any prepayment right? The
n essence, Section 10(1) of the Interest
fact is that due to the complexity of the Income
Act limits the time that a borrower may
be prevented from repaying a real
Tax Act, a large number oftoday's lending transactions are conducted through non-corporate
estate mortgage loan by allowing borentities such as partnerships or trusts. REITs
rowers to prepay a mortgage loan at any
time after 5 years from the date of the
(real estate investment trusts), income trusts
loan, by tendering 3 months interest
and limited partnerships are "the players" of
the present real estate industry, particularly
payment plus the outstanding principal
and interest on the loan. This
favourable with foreign investors who
Section was seen as a remedy
wish their real estate investments to be
for farmers who were caught
tax efficient. From a tax point of view,
with 20 or 30 year mortgages
these non-corporate vehicles are no
at exorbitant rates. Some 10 years
doubt advantageous but from a Section
later after the enactment of Section
10(2) point of view they create a dilem10(1), namely in 1890, Section 10(2)
ma as trusts and partnerships under the
was added to limit the class of borrowCivil Code of Quebec, and in many of
ers that may rely on the prepayment
the common law Provinces, are not
VERNA E. CUTHBERT
rights of Section 10(1). This was
considered to be legal entities "persondeemed an economic necessity at the time as
ne morale" and hence do not fall within the prolenders had become reluctant to provide long
tective lending ambit set out in Section 10(2).
term financing to railway companies in the face
This in effect inhibits these vehicles from beneof the mandatory right of borrowers to prepay
fiting from all time low interest rates now availtheir loans. Section 10(2) denies the right of a
able for long term loans. Consequently, as
corporation or a joint stock company, which
ridiculous as it may be, we legal counsel ,
has given a mortgage or a hypothec on real
whether acting for lender or borrower, may be
property or has issued a debenture secured by
required to design a series of structures in order
a mortgage or a hypothec on real property, to
to ensure that borrowers and lenders obtain
prepay the loan under Section 10(1).
what they bargained for, namely a long term
Fast-forwarding to today, you may ask why is
loan having a term greater than 5 years.
the impact of Section 10 of particular signifiTo many on the outside these various struccance in today's financing markets? Are not
tures may seem to be simply a "lawyer's game"
most commercial lending transactions consince, as indicated above, with interest rates at
ducted through corporate vehicles and hence
historical lows surely the likelihood of prepay-
ment would be slim. However, if you consider
the increasing value of real estate and the lack
of quality product for resale, it is not difficult to
imagine that borrowers may be tempted to
refinance their properties or to have an unencumbered title available for sale.
The various structures chosen by counsel to
protect lenders against the unintended impact
of Section 10(1) may be as simple as having the
property held in the name of a nominee corporation acting for the trust or partnership or may
be much more complex. Some involve issuing
a debenture by a corporation under the provisions of a universal hypothec, delivering the
debenture to the lender and having the payment of the debenture guaranteed by a
hypothec on real property given by a non-corporate entity (such as a trust or a partnership)
property owner. Others may involve multi levels of transfers.
Needeless to say, these structures can be
complex and costly and the most frustrating
aspect of these mechanisms is that without a
final and binding court decision there is no certainty that any of them work. Take for example
the relatively simple structure of a nominee
corporation referred to above. It may be argued, and has been argued, that this simple
structure does not work since a loan made to a
nominee is really a form of mandate under
Quebec law and therefore it is really the principal through its agent that has hypothecated
the property. Consequently, if the principal is a
non-corporate entity the nominee is incapable
of contracting for a loan for greater than 5 years.
The courts have addressed on numerous
occasions Section 10 of the Interest Act.
However, neither the Supreme Court of
Canada nor the various appellate courts of
L'ARTICLE 10 DE LA LOI SUR L'INTERET
Larticle 10 de Ia Loi slIr l'illteret a ete adopte dans Ies atlnees 1880 afin de
soulager les fermiers etouifes fin ancierement par eI(,S prNs h)pothecaires a
long tenne it des taux d'interet exorbitants, En effd, I'aliicle 10(1) permet a
nil emprunteur de remhourser un pret hypotlH$caire illll110hilier en tout
kmps, 5 ans apres la date d1l prN, Ce droit de rem boursement avant
echeance et apres une periode de ,5 ans est cq1('ndant nil" am: societes par
actions ou persollnes morales, Oll en SOllll\leS-I\ O IlS e ll 2007 ? La realite d'aujourd'hui est que les transactions de fillancement se concluent par Ie biais
cl'entites sans pe rsonnalite morale, comllle les societes ou les tJducies, qui,
selon Ie Code civil dll Quebec, ne constituent pas des personnes morales,
Par consequent, ces entites jUridiques peuvent difficil ement contracter des
emprunts de plus de 5 <Ins et sou\'ent Ill' ppU\"ent pas beneficier de tallx
d'interet peu eleves offelis pour les prHs it long term t', Ainsi, pour satisfaire
les besoins des prNe urs et des elllprllnteurs et afi n d'eviter Ies repercussions
de l'article 10(1) de la Lai sur "interet, les joueurs n'ont autre choix que
d'etablir des stlllctures de tlnan ~e lll ent am: mecan ismes complexes qui
s'averent coGtetLx et incertains . A ce jour, Ies tribll naux n'ont pas pH resoudre
Ies d ifficultes soule\'ees par eet article, L"auteure sou met qu'i! est grand
te mps que Ie gou\'ernement federal re~isite la Loi Stir "illten~t qui est
de\'enue une loi arcliaique face allx \'ehieules legallx llloclernes, et qu'il
reconnaisse les realites du monde des prNs commerciaux, notamment Ie
fai t que les societes en commandi te, Ies fldllcies et autres entites sans
personnalite jUli cliqlle n'ont pas besoin de la protection d'une Ioi cow;'lIe
un ique ment pour proteger Ie conS01l1l11ateur,
48 Premieres en affaires AUTOMNE 2007
AUTOMNE 2007
Premieres en affaires 49
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It is time to bring cel1ainty to our lending transactions
so that both borrowers and lenders can be assured that
they obtain what they bargained for.
numerous provinces have been able to resolve
completely the Section's difficulties through
their respective interpretations. Hence, for
more than 20 years, we have been dealing on a
very real day-to-day basis with the implications
of Section 10 of the Interest Act.
Today, a borrower's counsel and a lender's
counsel need to address a myriad of thorny
issues. For example,
• does the fact that th~ lender is aware that the
loan is really being made to a non-corporate
entity render any structure useless when faced
with legislation that is of public order?
• does the contemporaneous giving of an "offtitle" hypothec or mortgage by the non-registered owner or the intervention of an unregistered owner in the hypothec or mortgage
"taint" the transaction?
• would a structure, where there is a subsequent almost contemporaneous transfer of the
property to and the assumption ofthe loan by a
non-corporate entity, lead the court to look
through the transaction as a loan being made
to a non-corporate entity?
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There are no absolute answers to these myriad
of questions but, as legal counsel to many
financial institutions over the years, I can assure
you that we legal counsel have well reasoned
and thoroughly researched opinions on these
matters.
So where does that leave us? I suggest it is
time for the federal government to clarify
Section 10 of the Interest Act. It is time to recognize the realities of the commercial lending world, namely that limited partnerships, trusts and other non-corporate tax
designed vehicles have no need of consumer
protection legislation. It is consumers (and of
course our farmers) who arguably require such
protection (although even for them given the
low interest rate environment, it may be
questionable as to whether it is in their
interest to deny access to long term rates). It is
time to bring certainty to our lending transactions so that both borrowers and lenders
can be assured that they obtain what they
bargained for. It is time to make common sense
common practice! 0
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