Case: Easy Loan Corporation v Wiseman, 2017 ABCA 58 (CanLII)
Keywords: Tracing Methodology; Ponzi Scheme; Lowest Intermediate Balance Rule
The Defendants (not parties to the appeal) are alleged to have operated a Ponzi scheme. Following an investigation by the Alberta Securities Commission, a bank account is frozen and a receiver appointed over the assets of “Base Finance Ltd.” The court appointed receiver reports the bulk of investor funds (over $80,000,000) are invested in a U.S. company which filed for bankruptcy protection. (See para. 5).
The Appellant and Respondents are investors in the scheme. Citing Soulos v Korkontzilas, 1997 CanLII 346 (SCC),  2 SCR 217, 146 DLR (4th) 214, the Chambers Judge finds frozen funds in the Defendants’ bank account are “impressed” with a constructive trust. (See para. 9). The funds are ordered to be distributed according to pro rata sharing based on tracing or the lowest intermediate balance rule (“LIBR”).
There is no appeal of the Chambers Judge’s imposition of the constructive trust. The sole ground of appeal relates to the methodology used to trace the frozen funds; that the Chambers Judge erred in law by holding a pro rata share on the basis of tracing to the lowest intermediate balance rule is the ‘general rule’ unless practically impossible; erred in failing to consider the beneficiaries’ intentions.
The Court of Appeal dismisses the appeal; finds LIBR is the general rule for allocating funds among innocent beneficiaries in circumstances where there is a shortfall in a trust account or in an account that has been impressed with a constructive trust by operation of law. (See para. 57).
This case provides a useful summary of tracing rules and principles, particularly as regards LIBR. For the Court of Appeal, there are just three methods available for tracing “commingled trust assets”:
- the Rule in Clayton’s Case;
- the lowest intermediate balance rule (“LIBR”); and
- the pro rata approach (“Proportionate Distribution”). (See para. 28).
The Rule in Clayton’s Case, also known as the “first in, first out” rule, deems that the first funds deposited into a commingled account are also the first funds withdrawn from that account. In this case, the Court of Appeal proceeds on the basis the rule had no application, determined equitable principles, and the parties’ agreement ruled it out. (See paras. 32-34).
The Proportionate Distribution model divides the final balance in the commingled bank account in proportion to each claimant’s original contribution to the fund. The Court concluded “…this is not the tracing method to use in these circumstances”. (See para. 35).
By way of comparison, LIBR provides each beneficiary loses the ability to trace its contribution to a commingled account once funds in the account drop below the beneficiary’s contribution:
A simple example: if X deposits $100 to a commingled account and the balance in the account later drops to $5, the most X can claim is $5, the lowest balance in the account; the ability to trace to anything more than $5 is lost because anything more comes from a funding source other than X. “Intermediate” refers to the period between X’s contribution and when X makes the claim against the account. Once the lowest intermediate balance is determined for each beneficiary, each beneficiary is entitled to claim only the lowest balance’s proportional share of the final balance of the account. (See para. 38).
According to the Court of Appeal, there is “little doubt” the LIBR model is the fairest rule but also the most difficult to apply because of the detailed calculations it requires. (See para. 45). Notwithstanding potential challenges associated with the rule, and contrary to the Appellant’s submission, the Court of Appeal found LIBR to be the general rule for allocating funds. That being said, the Court noted two exceptions:
- where LIBR is unworkable; and
- where the beneficiaries “expressly or impliedly intended another method of distribution”. (See para. 57).
The LIBR method of tracing is not workable or practical in the following circumstances:
- where the account has many contributors;
- where supporting records are unavailable or incomplete;
- where the timeframe in question is lengthy. (See para. 40).
In this case, the “unworkable” exception did not apply. As the Court of Appeal wrote, “the proof is in the pudding” – counsel for one of the Respondents calculated the lowest intermediate balance for each beneficiary (and the proportion each balance comprised) to the satisfaction of the Chambers Judge who signed the Order. (See para. 41).
With respect to the intentions of the parties, the Court of Appeal determined “…nothing in the evidence suggests that the investors intended there be any particular distribution method…” (See para. 60). For the Court of Appeal, where parties or any applicable agreement is silent as to intention, then the presumed intention, as a general rule, will be that the parties intended to divide the funds held in constructive trust according to LIBR. (See para. 59).
Counsel for the Appellant: C.M.A. Souster & Patrick Higgerty, Q.C. (Higgerty Law, Calgary)
Counsel for the Respondent BDO Canada LTD: Richard Billington (Billington Barristers, Calgary)
Counsel for the Respondent Larry Revitt and others: Patrick Mahoney (Lawson Glod Mahoney, Calgary)
Counsel for the Respondent Thomas Wiseman and others: Dean Hutchison & Megan Kheong (MLT Aikins, Calgary)