Factoring your Canadian receivables. When dealing with a Canadian client a U.S. based factor must ask themselves what do I need to be concerned about when when buying Canadian receivables?
- Acceptable forms and form type
- Additional licencing needed
Material changes are rarely required when adapting a U.S. Factors documents to purchase Canadian receivables or take security on Canadian collateral.
Some adjustments are desirable to reflect differences in Canadian legislation and procedures, for example; Provisions that deal with the consequences of the seller becoming subject to the Bankruptcy Code should refer to the relevant Canadian bankruptcy and insolvency legislation and, since Canada has not adopted the ACH system, the factor should be given the ability to debit its client’s bank accounts by way of electronic transfers. Clauses should also be added to the factor’s standard forms to take into account the various issues described in the balance of this paper. All in all, neither the factor nor its seller should find that any of these changes raise significant business issues.
It is important to appreciate the difference between – carrying on business in Canada on the one hand and – doing business with Canadians on the other. As long as a U.S. factor finance companies and its employees and agents do not carry on business on Canadian, but instead only deal with Canadian sellers and account debtors on a cross-border basis, through channels like phone and email.
This is of particularly import to U.S. banks since they are prohibited from carrying on business in Canada without complying with the licensing requirements of the Canadian Bank Act.
Canadian regulatory authorities have acknowledged that non-Canadian companies can purchase Canadian receivables, lend to Canadian borrowers and take security over Canadian assets without becoming subject to Canadian licensing requirements – unless they “cross over the state line” and carry out business in Canada.
With respect to licensing, the factor should not negotiate or sign business agreements in Canada. It is also generally important for the factor to avoid engaging Canadian based employees or agents, since their activities will be attributed to the factor. For this reason, if a factor engages a Canadian to provide leads to possible clients, the underlying agreement should reflect that the Canadian is an independent contractor who has no ability to bind or contract for the U.S. factor, and that the parties have neither a principal/agent nor an employer/employee relationship.
Additional flexibility regarding Canadian employees and agents is available to a factor that can take advantage of the Canada-U.S. Tax Treaty.
Canada has almost eliminated withholding tax on most cross-border payments of interest between unrelated parties that act at arm’s length. U.S. factors can therefore purchase most interest and finance charge components of Canadian receivables.
PERFECTION, PRIORITY & ENFORCEMENT:
Other than Quebec, every province and territory of Canada has personal property security legislation that is modeled by Article 9 of the U.S. Uniform Commercial Code. The rules relating to perfection, priority and enforcement of purchases and security interests are therefore very similar to those found in the United States. While the rules are not perfectly identical – such as the need in Canada to search and file based on the location of the collateral or of the seller’s/debtor’s chief executive office, rather on the nature of the seller/debtor entity – these differences generally do not raise practical problems. And even the differences that do exist are starting to fade as various Canadian jurisdictions adopt additional aspects of the Article 9 regime.
The Canadian Federal government has a super-priority lien over the entirety of a tax payer’s property for – certain amounts the taxpayer withholds from its employees’ income but fails to remit to taxing authorities and certain types of unremitting sales tax. This lien type is not required to be registered. Factors should monitor compliance with these tax obligations – either with the client or the tax authorities – since the lien will generally rank ahead of a factor’s security interest on its client’s assets. Fortunately, this lien should not defeat the factor’s interest in receivables it purchases by way of a “true sale” without notice of the lien.
It is generally easier in Canada to obtain an enforceable guarantee from an obligatory corporate affiliate – the guarantor’s incorporating statute and articles should be reviewed but will rarely raise an issue. With respect to individual guarantors who reside in Alberta, their guarantees will be valid only if they complete a statutory form in the presence of a lawyer.
WHAT ABOUT QUEBEC:
Quebec’s laws are modeled on by Civil Code of France, and differ significantly from those of the U.S. and the rest of Canada. Perhaps the four most important distinctions for a U.S. factor are: (1) the purchase of a single receivable is perfected by giving notice to the account debtor (rather than by registration), (2) security over the seller’s other assets is created by “a mortgage or security held by a creditor on the property of a debtor without possession of it” under special language that should be added to the factoring agreement, (3) a standard form agreement with a Quebec counter party must be in French unless it contains a provision (which should be in both languages) in which the parties agree that the agreement must be in English only and (4) contracts with Quebec account debtors should be reviewed for provisions that prohibit their assignment, since Quebec legislation does not override anti-assignment clauses.
Canada’s federal usury legislation is set at the relatively high rate of 60 percent – calculated in accordance with generally accepted actuarial practices and principles. In determining whether a contract rate is usurious, all related charges and expenses relating to an extension of credit will be taken into account, including interest, penalties, fees, commissions, costs and various administrative payments. A properly drafted agreement should provide that any contravention is unintended and that excess payments will be reimbursed or applied to other outstanding obligations.
Canadian legislation requires interest to be at an “annual” rate (i.e., 12-percent yearly rather than 1-percent per month). If the provisions of a factoring agreement calculates interest on different basis – such as using a 360 day / year – a formula is commonly added to permit calculation of the equivalent annual rate.
U.S. factors purchasing Canadian receivables should consider how to manage currency risk inherent in using U.S. dollars to acquire the Canadian funds needed to purchase ‘Canadian dollar receivables’ – since it’s likely that the exchange rate prevailing when the factor obtains the Canadian funds will change by the time it receives Canadian dollars from the account debtor.
TIPS – Among the options factors use: (1) entering into a currency hedge, (2) passing exchange risk to the seller through a clause in the factoring agreement and (3) funding a Canadian dollar bank account in a Canadian or U.S. bank, then using the account to purchase receivables and receive payments (so that exchange losses and gains don’t arise every time a receivable is collected on – but instead only when funds are eventually converted to U.S. currency)
Canadian courts must render and award judgments in Canadian dollar. This may result in a currency exchange loss if a factor sues for amounts owing in another currency, such as U.S. dollars, the factor obtains a judgment for the equivalent Canadian dollar amount and/or the Canadian dollar weakens between the date of the judgment and the time of payment. The factoring agreement should therefore contain a provision that requires the seller to indemnify the factor for such losses.
A U.S. factor is able to bring legal proceedings in Canada. It will find Canadian courts relatively creditor-friendly for a number of reasons: (1) court costs are determined on the English “loser-pay” model, under which the unsuccessful party pays a portion of the prevailing party’s legal costs, (2) commercial matters are almost always decided by a judge without a jury (with or without a jury waiver in the factoring agreement), (3) punitive damages are unusual, and in any event generally much lower than in the U.S. (4) U.S. judgments are generally enforceable in a Canadian court so long as the defendant received proper notice of the action and an opportunity to defend.