Section 347 of the Criminal Code makes it a criminal offence for someone to enter into an agreement or arrangement to receive interest at a “criminal rate” or to receive a payment or partial payment of interest at that rate. In turn, a “criminal rate” is “an effective annual rate of interest calculated in accordance with generally accepted actuarial practices and principles that exceeds sixty per cent on the credit advanced under an agreement or arrangement.” Thus, when a creditor makes a loan to a debtor under which it would receive an annual interest rate exceeding 60 per cent, that arrangement may violate section 347. The question then becomes what effect, if any, such a violation has on the agreement itself.
In Garland v. Consumers’ Gas Co., the Supreme Court of Canada confirmed that the “ostensible purpose” of section 347 “was to aid in the prosecution of loan sharks.” However, as the Court noted, the actual language of the section confirms it was “designed to have a much wider reach,” well beyond “traditional loan-sharking arrangements.”
At common law, “interest” is generally regarded as “a charge for the use or retention of money which accrues day by day.” Historically, penalties did not fall within that common law definition. However, section 347 defines “interest” as an “extremely comprehensive” term. It means “the aggregate of all charges and expenses, in any form, that are paid or payable for advancing credit under an agreement or arrangement” (see Garland). The definition excludes six specific items, including insurance and overdraft charges; however, the term is otherwise very broad. As the Court confirmed in Garland, the intention of the section was presumably “to prevent creditors from avoiding the statute simply by manipulating the form of payment exacted from their debtors.”
In other words, whether or not a particular charge or expense falls within the definition of “interest” in section 347 is to be determined by examining the substance of the charge or expense rather than its form.
In DeWolf v. Bell ExpressVu Inc., the Court of Appeal said,
“Where the relationship between the parties is exclusively one of lending money, any additional charges or fees are inherently connected to the lending of money or the advancing of credit, regardless of their label. Generally speaking, such fees are likely to fall within the definition of interest in s. 347.”
Further, as the Supreme Court of Canada indicated in Garland, section 347 “applies to a very broad range of commercial and consumer transactions involving the advancement of credit, including secured and unsecured loans, mortgages and commercial financing agreements.”
The leading case on the impact on a contract of an obligation to pay a “criminal rate” of interest is Transport North American Express Inc. v. New Solutions Financial Corp. The case concerned a commitment letter signed between parties that provided for various payments, including interest at four per cent per month calculated daily, a monthly monitoring fee, a one percent standby fee, royalty payments, payment of legal and other fees and a commitment fee. Lower courts confirmed that all of those payments constituted “interest” under section 347 of the Criminal Code, and actuarial evidence led to a finding that the effective interest rate on loan if repaid within two years, was more than ninety percent per annum. At issue was the effect a violation of section 347 had on the agreement itself.
The Supreme Court of Canada discussed the common law approach to “contractual illegality.” It noted that, historically, illegal contracts under statutes were “void ab initio,” meaning they were deemed to have had no legal effect. However, the Court observed that this position had evolved with time to be more flexible. It specifically noted that in cases involving a violation of section 347 of the Criminal Code, there is a “spectrum of available remedies,” ranging from finding the “whole agreement unenforceable” to severing the provision that provides for a “criminal rate” of interest. Ultimately, the choice of remedy is at a court’s discretion.
As the Court indicated in Transport North America, the decision as to which remedy to apply should be based on the following four factors:
Deeming an entire agreement unenforceable will be appropriate where it is necessary to denounce what appears to be a “usurious” practice or the transaction resembles a “loan sharking arrangement.” Conversely, severance will likely be more appropriate where the loan is like a “good faith commercial transaction.”
In applying the above four factors to the facts, the Court in Transport North America concluded that the transaction in question had been a “commercial transaction engaged in by experienced and independently advised commercial parties” for “ordinary commercial purposes.” Accordingly, the Court found that the principal should be repaid with the “highest amount of interest legally allowable,” namely sixty percent, which was the most that the creditor could “legally receive” by virtue of section 347.
Further clarification on the law can be found in the recent case of 2257573 Ontario Inc. v. Furney et al, appeal dismissed at 2022 ONCA 505. In that case, the Superior Court of Justice commented that severance, “when adjudged to be appropriate, should only be used to bring the agreement within legal boundaries with the minimal possible alteration of the parties’ bargain,” unless “intentional misconduct” on the part of the creditor has been established.
In short, courts, therefore, appear reluctant to render agreements completely unenforceable simply because they impose on a borrower an obligation to pay a “criminal rate” of interest; however, lenders would be wise all the same to ensure that the rate of interest payable under a contract does not exceed the “criminal rate,” that the transaction itself is undertaken in good faith and that borrowers facing the prospect of paying such a rate are properly advised of it in advance.
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