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Supreme Court of Canada Weighs in on Plan Deficits and the Fiduciary Duty of Pension Plan Administrators in an Insolvency: Sun Indalex Finance, LLC v. United Steelworkers
Date: February 4, 2013
INTRODUCTION
On February 1, 2013, the Supreme Court of Canada issued its highly anticipated decision in Sun Indalex Finance, LLC v. United Steelworkers, largely overturning the 2011 Ontario Court of Appeal decision. The Supreme Court upheld an expansive definition of the deemed trust under the Ontario Pension Benefits Act (“PBA”) and struck down a constructive trust while providing guidance for companies who are both pension plan sponsors and administrators on the scope of their fiduciary duty to plan beneficiaries and on resolving conflicts that can arise between those fiduciary duties and corporate interests in an insolvency situation. Finally, the Court provided some additional guidance on the payment of litigation costs out of a pension fund.
BACKGROUND
Indalex Limited (“Indalex”) filed for creditor protection under the Companies’ Creditors Arrangement Act (“CCAA”) on April 3, 2009. FTI Consulting Canada ULC was appointed as monitor (“Monitor”). Indalex’s parent company (“Indalex U.S.”) sought bankruptcy protection in the United States a few days prior.
On April 8, 2009, the Ontario Superior Court of Justice authorized Indalex to borrow funds pursuant to a debtor-in-possession credit agreement among Indalex, Indalex U.S. and a syndicate of lenders (“DIP lenders”). The Court order contained a “super-priority charge” provision which gave the DIP lenders a super-priority over all other creditors. It specifically granted that the DIP lenders’ charge “shall rank in priority to all other security interests, trusts, liens, charges and encumbrances, statutory or otherwise”, other than certain CCAA charges that are not relevant to the decision.
Indalex was the sponsor and administrator of two registered defined benefit pension plans: The Retirement Plan for Salaried Employees of Indalex Limited and the Associated Companies (the “Salaried Plan”), which had been wound up prior to the CCAA filing, and the Retirement Plan for Executive Employees of Indalex Limited and Associated Companies (the “Executive Plan”), which was ongoing (collectively, the “Plans”). Both Plans were underfunded. As of December 31, 2008, the wind up deficiency of the Salaried Plan was approximately $1.8 million and the Executive Plan had an estimated wind up deficiency of approximately $3.2 million as of July 15, 2009.
In July 2009, Indalex sought Court approval of the sale of its assets and the distribution of the sale proceeds to its DIP lenders. The purchaser in the sale assumed no responsibility for the Plans. The proposed distribution of the sale proceeds would result in no funds to cover the deficiencies in the Plans.
The United Steelworkers (the “USW”) and a group of retired executives (the “Former Executives”), as beneficiaries of the Salaried Plan and Executive Plan, respectively, objected to the proposed distribution of sale proceeds and asserted a deemed trust claim over the sale proceeds to cover the deficiencies in the Plans. They also claimed that Indalex had breached its fiduciary duty to the Plans’ beneficiaries by failing to meet its obligations under the Plans and ignoring its responsibilities as the Plans’ administrator once the CCAA proceedings had commenced.
The Court approved the sale of Indalex’s assets with the sale proceeds going to the Monitor. As a result of the USW and Former Executives’ claims, the Monitor was ordered to retain a reserve fund. When the sale closed at the end of July, the proceeds were insufficient to repay the DIP lenders in full. The Monitor had retained $6.75 million in the reserve fund, representing the approximate value of the Plans’ deficiencies.
The USW and Former Executives brought motions to determine their claims in order to have the reserve funds applied to the Plans’ deficiencies. Indalex filed a motion seeking a voluntary assignment into bankruptcy. The Court held that the full reserve fund was payable to Indalex U.S., as the guarantor under the DIP loan agreement, and not to the Plans. The USW and the Former Executives appealed.
ONTARIO COURT OF APPEAL DECISION
On April 7, 2011, the Ontario Court of Appeal unanimously ordered the Monitor to pay into each of the Salaried Plan and the Executive Plan an amount sufficient to satisfy the deficiencies in each Plan, finding that the deficiencies should be paid in priority over the guarantor of the DIP loan.
The Court of Appeal declined to find that a section 57(4) deemed trust existed in respect of the Executive Plan because that plan was not wound up at the time Indalex entered into CCAA protection. With respect to the Salaried Plan, the Court of Appeal expanded the scope of the deemed trust provision set out at section 57(4) of the PBA to include the entire wind up deficiency under that Plan. This was a clear departure from earlier decisions which limited the deemed trust to current service costs and special payments accrued to the wind up date.
However, the Court held that Indalex had breached its fiduciary obligations as the administrator of the Plans in the CCAA proceedings. The Court held that the remedy for the breach was to impose a constructive trust over a portion of the reserve fund with the result that the pension deficiency in the Executive Plan was also found to rank ahead of the DIP lenders’ super-priority.
The Court of Appeal also issued a costs award and dismissed the USW’s motion seeking to have its costs payable from the Salaried Plan. The Court of Appeal declined to award the USW’s costs from the Salaried Plan as the USW represented only 7 of 169 plan members and the Salaried Plan was underfunded.
A link to our full summary of the Court of Appeal’s April 2011 decision is available here.
THE SUPREME COURT OF CANADA DECISION
The Supreme Court of Canada issued a split decision with written reasons provided by three judges.
First, the Court unanimously found that the super-priority granted to the DIP lenders in the federal CCAA proceedings prevailed over any deemed trust under the provincial PBA on the basis of the legal doctrine that grants paramountcy to federal laws where they conflict with provincial laws.
Second, the Court unanimously found a breach by Indalex of its fiduciary duty to the Plans’ beneficiaries but the majority of the Court rejected and overturned the use of a constructive trust as an appropriate remedy for the breach. This finding ultimately resulted in the defeat of the claims by the USW and the Former Executives to have any of the sale proceeds applied to the deficiencies in the Plans.
Nevertheless, for companies that sponsor Ontario-registered defined benefit pension plans, the Court’s findings on the extent of the deemed trust in section 57(4) of the PBA are striking. In addition, the Court’s findings regarding the acts that constitute a breach of fiduciary duty will be of significant interest to pension plan administrators across Canada.
The Court considered the following issues:
- Does the deemed trust provided for in s. 57(4) of the PBA apply to wind up deficiencies?
- If so, does the deemed trust supersede the DIP charge?
- Did Indalex breach any fiduciary obligations to the Plans’ beneficiaries when making decisions in the context of the insolvency proceedings?
- Did the Court of Appeal properly exercise its discretion in imposing a constructive trust to remedy the breaches of fiduciary duties?
- Did the Court of Appeal err in not granting costs to the USW from the Salaried Plan?
Three different judges of the Supreme Court provided written decisions, from which the majority judgment for each issue is obtained. The chart below sets out briefly the conclusions in each of these judgments, which are described in greater detail below:
| Issue | Deschamps J. (Moldaver J. concurring) (2) | Cromwell J. (McLachlin C.J. and Rothstein J. concurring) (3) | LeBel J. (Abella J. concurring) (2) |
Majority Decision (Justices For/ Against) |
| Deemed Trust applies to wind up deficiency | Yes | No | Yes | Yes (4-3) |
| Deemed Trust supersedes DIP charge | No | No | No | No (7-0) |
| Breach of fiduciary duty to Plan beneficiaries resulting from conflict of interest in making decisions within insolvency proceedings | Yes. In this case, breach occurred at point that the motion to grant DIP lenders super-priority was made without notice. Generally, whether a conflict of interest arises depends on nature of the decision. | Yes. In this case, breach occurred at point that the motion to grant DIP lenders super-priority was made without notice. Generally, a conflict of interest arises where representation of beneficiaries would be materially and adversely affected. | Yes | Yes (7-0) |
| Impose constructive trust on sale proceeds as remedy for breach of fiduciary duty | No | No | Yes
|
No (5-2) |
| Grant USW costs paid from Salaried Plan | No | No | No | No (7-0) |
EXPANDED DEFINITION OF DEEMED TRUST UPHELD
Section 57(4) of the PBA creates a deemed trust over “employer contributions accrued to the date of the wind up but not yet due under the plan or regulations.” At issue before the Court was whether this deemed trust extended to include the entire wind up deficiency of a pension plan.
The majority upheld the Court of Appeal’s expanded interpretation of the deemed trust provisions of the PBA, and found that the deemed trust does apply to the wind up deficiency of a plan upon its wind up. The basis for the decision includes a historical analysis of the deemed trust’s scope and evolution under the PBA.
The Court also unanimously confirmed that the deemed trust in section 57(4) of the PBA did not apply to the estimated wind up liability of the ongoing Executive Plan. Section 57(4) is not invoked until the actual wind up. [1]
This expanded definition of the deemed trust may have significant implications for companies operating in the normal course. Outside of the context of an insolvency order granting a lender priority over the deemed trust under federal legislation, the expanded definition of the deemed trust may affect the availability of credit to companies who sponsor defined benefit pension plans as lenders consider the possible impact of a future plan wind up on the security of any loan.
The practical concerns highlighted above were recognized by Justice Cromwell in his minority judgment on this topic, which refers to the expansion of the deemed trust as “counter-productive in the greater scheme of things”:
The wind-up liability is potentially large and, while the business is ongoing, the extent of the liability is unknown and unknowable for up to five years. Its amount may, as the facts of this case disclose, fluctuate dramatically during this time. … A liability of this nature could make it very difficult to assess the creditworthiness of a borrower and make an appropriate apportionment of payment among creditors extremely difficult.
NEED TO ADDRESS CONFLICTS IN FIDUCIARY DUTY AS PLAN ADMINISTRATOR
The Court unanimously found that Indalex had fiduciary obligations to the beneficiaries of the Plans when making certain decisions in the context of its insolvency proceedings. It also found that the role of the plan administrator extends beyond situations in which the company makes decisions in its capacity as plan administrator. And, as explicitly required by the PBA, a plan administrator must not permit its own interest to conflict with its duties in respect of the pension fund. The Court unanimously found that Indalex did breach its fiduciary duty to the Plans’ beneficiaries, in failing to recognize and appropriately address the conflict it encountered.
Each of the reasons of Justices Deschamps and Cromwell, which form the majority decision on Indalex’s fiduciary duty to plan beneficiaries, contain important findings with respect to the scope of an administrator’s fiduciary duty. Both recognize the ability of a company to act as both plan sponsor and administrator under the PBA. The majority held that no breach occurred when Indalex made the decision to commence its insolvency proceedings or when it failed to advise the Plans’ beneficiaries that it was seeking the initial CCAA protection.
However, the majority held that a breach of the administrator’s fiduciary duty occurred when Indalex failed to address its conflict in seeking the super-priority for the DIP lenders. At that point, Indalex’s interest in seeking the super-priority for the DIP loan conflicted with its obligations to ensure contributions to the Plans were paid under the PBA.
The majority narrowed the scope of the fiduciary duty and the point at which conflict occurred as contrasted with the Ontario Court of Appeal’s decision. Specifically, the majority rejected the Court of Appeal’s suggestion that a conflict will arise whenever there is a “potential to affect beneficiaries rights.” Helpfully, Justice Cromwell states that Indalex was required to be mindful of where there was a substantial chance that Indalex’s representation of the Plans’ beneficiaries as plan administrator would be “materially and adversely affected” by Indalex’s corporate interests.
The majority also found that Indalex’s failure to address the conflict was procedural, and that to resolve the conflict it ought to have ensured that the Plans’ beneficiaries had proper notice of the DIP financing motion. The majority held that this notice would have been sufficient to resolve Indalex’s conflict. Each of Justices Deschamps and Cromwell also suggest additional means by which a company in CCAA proceedings may seek to resolve any conflicts, including but not limited to, notifying the CCAA judge of the existence of the conflict, putting the plan members on notice, finding a replacement administrator, or appointing representative counsel.
In summary, the Court unanimously found a need for companies who are plan sponsors and administrators to be live to potential conflicts and to take steps to resolve these conflicts as they arise, in accordance with the statutory obligations of the PBA.
For the most part, the Supreme Court’s decision is helpful to plan sponsors. The Court recognized that a company can act as both a pension plan sponsor and pension plan administrator, confirming the PBA’s statutory scheme. Outside of insolvency proceedings, companies acting as plan administrators will need to review this decision and bear in mind for purposes of general corporate governance the Court’s findings on the scope of their fiduciary duty and need to resolve conflicts.
Finally and importantly, the majority (both of Justices Deschamps and Cromwell’s judgments) of the Court rejected the Court of Appeals’ application of a constructive trust to rectify the breach of the fiduciary duty. The majority found that the harm suffered by the Plans’ beneficiaries did not result from the failure to provide notice of the DIP financing motion, but from Indalex’s insolvency. Indalex’s breach of its fiduciary duties as plan administrator did not result in the assets that were retained in the reserve fund. To impress a constructive trust over the reserve fund, the Court held that the assets themselves must have resulted from the breach – in this case the majority held that the available assets resulted from the sale, not from the procedural failure to give notice to the Plans’ beneficiaries or otherwise ensure their adequate representation.
THE USW MOTION FOR COSTS
The Court unanimously dismissed a costs appeal by the USW. The USW unsuccessfully sought to have its costs of the proceedings paid from the assets of the Salaried Plan. The USW only represented 7 of the 169 Salaried Plan members.
The Court confirmed that the decision to award costs from a pension fund remains a discretionary matter and rejected the USW’s proposition that a set of factors have been established by the Court which give rise to an entitlement to costs paid from a pension fund. The Court held that it was appropriate for the Court of Appeal to have approved the arrangement under the Executive Plan which did not put at further risk the pension funds available to satisfy the pension entitlements of those who did not support the litigation. However, since the USW’s request did not entail any notice to or agreement among the Salaried Plan’s beneficiaries or any limitation on the risk being confined to the USW members, the Court of Appeal’s order that the USW’s costs could not be paid from the fund was upheld.
CONCLUSION
In light of the Supreme Court’s findings with respect to the breach of fiduciary duty in this case, companies considering insolvency proceedings may be required to take additional steps to ensure representation of pension plan beneficiaries. Outside of insolvency, the Court’s findings on the nature of the fiduciary duty will be instructive for plan sponsors who must remain mindful of and take steps to address any conflicts which may arise.
To discuss how this decision affects your business and your pension plan, please contact any member of the Pension, Benefits and Executive Compensation Practice Group.
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[1] Under the PBA, an employer can wind up a pension plan at any time, subject to employment and labour law considerations. In addition, the Superintendent of Financial Services may order the wind up of a single-employer pension plan under section 69 of the PBA if the following situations arise: (i) employer contributions to the pension fund cease or are suspended; (ii) the employer fails to make contributions to the pension fund as required by the PBA; (iii) the employer is bankrupt within the meaning of the Bankruptcy and Insolvency Act; (iv) all or substantially all of the members of the pension plan cease to be employed by the employer; (v) all or substantially all of the employer’s business or the assets of the business are sold, assigned or otherwise disposed of and the entity acquiring the business or assets does not provide a pension plan; (vi) the liability of the Pension Benefit Guarantee Fund is likely to be substantially increased unless the pension plan is wound up; and (vii) any other prescribed event or prescribed circumstance occurs. Effective July 1, 2012, partial wind ups can no longer be declared or ordered (except with respect to events prior to July 1, 2012), and the conditions set out above apply to the order of a full wind up of a pension plan.
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