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Creditors claim share of property seized by the Crown as proceeds of a crime

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by Daily Commercial News last update:Aug 29, 2011

The judge observed that the goods in question were not paid for with proceeds of crime; they were not paid for at all.

Creditors claim share of property seized by the Crown as proceeds of a crime

By Michael MacKay

R. v. 1431633 Ontario Inc.
R. v. Bacsa
R. v. Morvai

Could three creditors of a convicted drug dealer share in the sale proceeds of his house (the Property) that the Crown had seized under the Criminal Code, as proceeds of crime? The answer is ?yes, if they can demonstrate a claim against the specific property the Crown had seized?.

The potential creditors were:

1.? 1431633 Ontario Inc., a Rona store that had made a construction lien claim for building material, but had not followed the proper procedure;

2.? Antoniu Bacsa, the general contractor, who did not lien the Property, but could have;

3.? Laszlo Morvai, a subcontractor, who also did not lien the Property, but could have.

Background ? Forfeiture to the Crown of Property Obtained by Crime

The Criminal Code allows the government to forfeit ? to seize and sell by judicial order ? property obtained by crime.

The Criminal Code forfeiture provisions were enacted in 1989 because otherwise criminals sent to prison for their crimes would, once released, still have their ill-gotten money. ?Simply put, the purpose of the forfeiture provisions is to ensure that crime does not pay?.

In this case, the Crown arrested Stefan Karpacs in July 2007 for several drug offences. It claimed that he bought the Property, a house at 33 Urquhart Court in Aurora, Ontario, with money from illegal drug deals, and sought forfeiture of the Property.

The Criminal Code sets out a forfeiture process that is fair to all interested parties. In many ways it is similar to the process for determining construction lien claims. For instance, the court does not make a forfeiture order until after the accused has been convicted. It would be unjust to seize and sell the property of innocent people. If property to be forfeited is not tied up before conviction, however, a criminal could easily dispose of it before his conviction. Therefore, the first step in forfeiture is for the Crown, in a manner similar to the registration of a construction lien, to register notice of its claim on title. The Crown does this by obtaining from the court, without prior notice to any other interested party, a Restraint Order for any property where there are reasonable grounds to believe a forfeiture order may ultimately be made.

In this case, the Crown obtained a Restraint Order on October 2, 2007, and registered it on title to the Property the following day. The Restraint Order specifically prohibited anyone from taking any legal action in relation to the Property without first obtaining a court order, on notice to the Crown and all other interested parties.[i]

After the Restraint Order was registered on title to the Property, anyone wishing to lien the Property would have to obtain leave of the court before registering a claim for lien and certificate of action.

In fact, one creditor of Karpacs, Adamson Carpets, did just that. On November 29, 2007 it applied for and obtained an order that nothing in the Restraint Order prevented it from registering a claim for lien or certificate of action against title to the Property.

On October 28, 2009, after Karpacs had been convicted, the court made a Forfeiture Order that declared the Property to be proceeds of crime and ordered it forfeited to the Crown. The Forfeiture Order did not determine the rights of any third parties in the Property. That was the purpose of these three court applications.

Rona?s Lien Claim

In essence, Rona applied for ?relief from forfeiture? under s. 462.42 of the Criminal Code, which states:

Any person who claims an interest in property that is forfeited to [the Crown] under [the Criminal Code forfeiture provisions] may, within thirty days after the forfeiture, apply ? for an order ? declaring that the interest of the applicant is not affected by the forfeiture and declaring the nature and extent of the interest.

[Emphasis added]

If successful, Rona would be entitled to share in the proceeds of sale of the Property in priority to the Crown. Madam Justice Molloy of the Ontario Superior Court of Justice court applied a two-step analysis.

First, the Criminal Code and prior case law on forfeiture required Rona to prove three things, on a balance
of probabilities:

1.? that Rona was an innocent third party: specifically that it was not charged with the crime and was innocent of any complicity in it, and that it did not acquire an interest in the Property for the purpose of avoiding forfeiture;

2.? that Rona has a valid interest in the Property that is not just that of a general creditor [of Karpacs][ii] and to prove the nature and amount of its interest;
?and finally

3.? that it is appropriate in the circumstances for Rona's interest to take priority over the Forfeiture Order.

Even if Rona could prove all three, step two required Justice Molloy to exercise her residual discretion in Rona?s favour.

In terms of the three conditions it had to prove, Rona clearly satisfied the first: it was not complicit in Karpacs? crimes.

The second condition, whether Rona had an interest in the Property itself, required more analysis.

The short answer is that Rona should have had an interest as lien claimant, but failed to preserve it due to a procedural misstep. The question for Justice Molloy was whether that misstep meant that Rona no longer had an interest. Unlike Adamson Carpets, Rona failed to obtain the court?s leave that the Restraint Order required before registering its claim for lien.

Rona asked Justice Molloy to correct its mistake by granting Rona now the leave that it failed to seek earlier, thus validating its lien nunc pro tunc (literally ?now for then?). There was no doubt that the court would have granted leave had Rona applied at the right time, as it did with Adamson Carpets. Moreover, granting leave now would not be prejudicial. Rona had registered a claim for lien on title (it just did not get the court?s permission beforehand) so the Crown had actual notice of Rona?s claim before the Forfeiture Order was made.

Rona was also able to prove the second element of the second condition ? the nature and amount of its interest: on May 1, 2008 it had obtained default judgment against Karpacs for $19,414, including
legal costs.

Finally, the fact that the Crown had actual notice of Rona?s lien claim satisfied the third condition ? that it would be appropriate for Rona?s interest in the Property to take priority over the Crown?s.

Justice Molloy granted Rona the leave it requested, effectively validating its lien.

Rona?s Alternative Claim for
Unjust Enrichment

Because there was little case law considering this issue, and because Rona?s claim was heard together with those of two others who had not registered lien claims, Justice Molloy also considered Rona?s alternative claim that it had an interest in the Property under the equitable principle of unjust enrichment.

According to the Supreme Court of Canada's landmark 1980 decision in Pettkus v. Becker, unjust enrichment requires the proof of three factors:

1.? an enrichment;

2.? a corresponding deprivation; and

3.? the absence of any juristic reason (meaning legal basis) for the enrichment.

Rona easily proved the first two. The Property?s value, and thus the Crown?s potential recovery under the Forfeiture Order, was increased by the incorporation of Rona?s building materials into the renovation. The Crown would be enriched and Rona would be deprived if not paid for its materials.

The third factor required more analysis. Although the Criminal Code forfeiture provisions constituted a legal basis for the Crown?s forfeiture of the Property, Justice Molloy concluded that they did not constitute a juristic reason for the Crown to be enriched at Rona?s expense. The whole point of Criminal Code
s. 462.42, which allows relief from forfeiture, is to ensure that forfeiture of a criminal?s property to
the Crown deprives only the criminal, not innocent third parties.

Justice Molloy observed:

? seizing the proceeds of crime in this case does not
require the Crown to also seize the value of the goods supplied by Rona. Those goods were not paid for with proceeds of crime; they were not paid for at all ...

Rona is in no different position than, for example, Adamson Carpets, who took the proper steps to perfect its lien. There is no question that Adamson has a claim to an interest in the property that is prior to the interest of the Crown and which does not defeat the purpose of the legislation which is to deprive the wrongdoer of his ill-gotten gains. The Crown is getting the benefit of the lumber not paid for, in the same manner as it is getting the benefit of the carpets not paid for. From an equitable perspective, I see no difference ...

? as between the Crown and the unpaid workers and suppliers, the Crown should [not] reap the rewards of the failure of the latter to take the proper legal steps required by the Restraint Order. In my view, that constitutes unjust enrichment, for which there is no juristic reason.

Rona also proved it had an interest in the Property through the equitable principle of unjust enrichment.

Appropriate Circumstances for Exercise
of Discretion

Finally, Justice Molloy had to decide whether, after Rona had made out a prima facie case, there was any reason to deny it relief from the effects of the Crown?s forfeiture of the Property. She concluded there was not:

The purpose of the legislation is to ensure that crime does not pay. It is not the purpose of the legislation, nor is it consistent with that purpose, to punish independent third parties who have contributed to the value of the property without recompense ...

There is no policy basis for the Crown taking priority over third parties with an interest in the property merely because the third party could have been more careful in its dealings with the property or with the debtor ... As between Rona and the Crown, principles of equity favour recognizing Rona's interest and granting relief from forfeiture.

[Emphasis added]

To achieve that result, Justice Molloy declared that Rona had a valid lien against the Property and granted it relief from forfeiture for $19,414 plus five per cent interest from May 1, 2008 until payment, to be paid from the Property?s sale proceeds in the same priority as the other lien claimants.

The Other Claimants

The other claimants whose claims for relief from forfeiture Justice Molloy heard at the same time as Rona?s were the general contractor Antoniu Bacsa
and a subcontractor, Laszlo Morvai, a painter and general labourer.

Bacsa?s Claim

Bacsa claimed $153,793 for work on the Property as general contractor to the owner Karpacs. Unlike Rona, Bacsa did not file a construction lien. He could only succeed if he could prove unjust enrichment.

However, Bacsa could not even prove he had an interest in the Property beyond that of an ordinary creditor. Bacsa?s poor record-keeping meant he could not demonstrate that he would have had a lien claim against the Property.

The evidence showed Bacsa invoiced Karpacs $145,088 and paid $161,412 to subcontractors and material suppliers against receipts of $272,000 from the second mortgagee and $100,000 from Morvai.[iii] The issue was further muddied by payments Bacsa made on Karpacs? behalf that were not related to the construction, including $16,000 to Karpacs' criminal lawyer and $50,000 in personal expenses.

Justice Molloy concluded:

On the evidence before me, I am completely unable to determine what amounts, if any, are owing to Mr. [Bacsa]. The documented amounts received by him are greater than the documented amounts paid by him. That does not mean that I disbelieve him when he says that he paid out more than he received. However, the onus is on Mr. Bacsa to prove, on a balance of probabilities, that he is owed money for goods and services provided in respect of the property. That amount must be proven with a good deal more precision than Mr. Bacsa has been able to demonstrate.

She dismissed Bacsa?s claim.

Morvai?s Claim

Like Bacsa, Morvai did not file a construction lien, so could succeed only if he could prove unjust enrichment.

Morvai could. He was not involved in Karpacs? crimes. His work was lienable. He proved he was owed $31,595 for his work. (He failed to prove that the $100,000 he had loaned the general contractor Bacsa was specific to the Property. There was no evidence that any of the $100,000 was used to finance construction; nor was a mortgage ever registered).

Justice Molloy found that, like Rona, Morvai had an equitable interest in the Property. The Crown, pursuant to the Forfeiture Order, acquired the Property, including the value of Morvai's work, and was enriched by the same amount that Morvai was deprived of. As with Rona, there was no juristic reason for the Crown to be enriched at Morvai?s expense.

However, as between Morvai and other third parties claiming an interest in the Property, Justice Molloy concluded that the equities were different:

? as a matter of public policy, contractors who ignored the requirements of the [Construction Lien Act] should not be entitled to share in the proceeds of sale on an equal footing with those who did comply with [it].

Since the Property?s sale proceeds might not be enough to pay all the mortgages and lien claimants in full, Justice Molloy concluded that Morvai?s failure to take steps to protect his interest under the Construction Lien Act should give him lower priority.

Therefore, she granted Morvai relief from forfeiture for $31,595 plus five per cent interest from July 1, 2008 until payment, payable out of the proceeds of sale, ranking in priority after secured creditors and valid construction lien claimants, but before the Crown.

Ontario Superior Court of Justice

A.M. Molloy J.

January 14, 2010

[i]?????? This term of the Restraint Order is comparable to the standard term in Receivership orders or orders under the Companies? Creditors Arrangement Act, R.S.C. 1985, c. C-36.

[ii]?????? Ordinary creditors of an offender are not granted relief from forfeiture: that would allow the offender to indirectly profit from his crime using the very fruits of his crime to pay his general debts.

[iii]????? Ironically, the application of the legal burden of proof is that Bacsa?s claim is debited $100,000 because he cannot show that the $100,000 WAS NOT used for construction; and Morvai cannot recover the $100,000 loaned to Bacsa because he cannot show that it WAS used for construction.

last update:Aug 29, 2011

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