Many business people are familiar with the basic requirements of an enforceable contract; clear offer and acceptance, some form of value given, and a ‘meeting of the minds’ between the contracting parties. These features are all necessary in the formation of a binding agreement, and the absence of any may provide the basis for one party’s challenge of the contract. What may be surprising to some, however, is the existence of another element, lurking beneath the surface of all contractual arrangements; the principle of unconscionability. A recent Manitoba Queen’s Bench decision – Quick Auto Lease v Jason Hogue et al., 2018 MBQB 126 [Quick Auto] – shed light on the role of unconscionability in the context of lending transactions, and what creditors and debtors should be aware of in entering same.
The
principle of unconscionability applies where an inequality of bargaining power
between parties is used to extract a substantially unfair bargain in favour of
the ‘stronger’ party. Many jurisdictions have addressed issues surrounding
unconscionability through legislation aimed at protecting the ‘weaker’ of the
two parties. Manitoba’s Unconscionable
Transactions Relief Act, CCSM c U20 [Act],
for example, allows a court – after having regard to all surrounding
circumstances, including risk – to relieve all or a portion of a loan that is found
to be excessive, harsh or unconscionable. Lenders and borrowers residing in
Alberta should note that the wording in our own legislation (the Unconscionable Transactions Act, RSA
2000, c U-2) is virtually identical to that of Manitoba.
While
unconscionability is a concept that can play a role in all contracts (as an equitable remedy), it should be noted
that the aforementioned Act applies
specifically to proceedings dealing with the lending of money. Under the Act, unconscionability is available as a
statutory remedy. It is this context
– unconscionability as it relates to lending contracts – that will be the focus
of this particular blog post.
Section 2
of the Act was at center stage in the
Quick Auto case. In Quick Auto, the lessee obtained a 2001
vehicle from the lessor by way of a financing lease with option to purchase. The
acquisition cost ($18,273) differed significantly from the total transaction
cost ($37,912), and the 29.9% interest rate was to be bumped up to 36%,
compounded daily, in the event of default. The lessee did ultimately default,
and subsequently brought an action under section 2 of the Act for relief from the loan.
The Court
reiterated the general test to be applied in circumstances of alleged
unconscionability, which is two-fold. First, the debtor is required to
demonstrate the inequality of the parties and “improvidence” of the bargain. If
the debtor is able to do so, the burden then shifts to the creditor to show the
agreement was freely entered into by the parties and fair and reasonable in the
circumstances. Only where the creditor is unable to satisfy this burden will a
court be able to set aside the agreement as “unconscionable”.
In applying
this test to the facts of Quick Auto, the
Court found various aspects of the particular lease agreement to expose it as
an unconscionable one:
·
Despite the agreement opening with the statement
“We’ve written this Lease Agreement in simple and easy-to-read language because
we want you to understand its terms…”, the agreement was long, complicated, and
contained dense provisions, printed single-spaced, in exceedingly small font;
·
The lessee was not allowed to terminate the
agreement under any circumstances (or set-off its claims for losses against
rental payments due), notwithstanding any potential breach by the creditor;
·
The pre-default interest rate (29.9%) was
significantly higher than prevailing interest rates at the time of the
agreement, and the post-default interest rate (36%) breached section 4 of Canada’s
Interest Act, RSC 1985, c I-15; and
·
The lessee was required to insure the vehicle in
the form of a “Mortgage Endorsement (Broad Form SPE – 23 or Equivalent)”,
though this form was not set out or defined in any way.
The Court
ultimately held that, considering the risk and total circumstances surrounding
the loan, the agreement was clearly unconscionable pursuant to section 2 of the
Act. Accordingly, the lessees were
relieved of any further obligations under the arrangement.
While
cases such as Quick Auto may represent
the ‘extreme’ end of the spectrum, business realities suggest that some inequality of bargaining power
between parties is quite common. This inequality will not always meet the statutory
threshold of being ‘unconscionable’, but it is nonetheless important for those
regularly involved in lending transactions (and entering contracts, more
generally) to inform themselves of these rules. This is because it is not
difficult to imagine a less egregious arrangement that nonetheless meets the
test for unconscionability as laid out in Quick
Auto.
For
creditors – especially those viewed as being sophisticated and experienced in
their particular industry – this means avoiding some of the red flags emphasized
in Quick Auto. Plain and ordinary
language, reasonable terms, and a willingness to assist the debtor in meeting
its procedural obligations should all be standard practice, particularly when entering
in to agreements with potentially vulnerable debtors (such as the elderly or those
with language difficulties). Debtors, meanwhile, can avoid the litigation process
(and associated costs) altogether by seeking independent legal advice to ensure
all contractual terms are understood and complied with, and perhaps taking some
time to ‘shop around’ and get an idea for standard market rates.
McLennan
Ross LLP has years of experience and a strong reputation in a variety of
practice areas, including drafting, reviewing and litigating commercial
contracts. If you or your company have questions regarding unconscionability,
enforcement of contracts, or any other litigation-related issue, please do not
hesitate to contact any member of the McLennan Ross Commercial Litigation
practice group.
