Lenders are not Law Enforcement Officers – the British Columbia Supreme Court determines the scope of reasonable care under section 20(4)(b) of CDSA 

publication 

January 2014

Litigation Bulletin
Jamieson D. Virgin, Scott Kuehn, Student at Law
British Columbia's (in)famous reputation for its marijuana industry continues to generate interesting legal precedent. The recent case of R v Nguyen1 illustrates potential pitfalls for mortgage lenders who fail to take steps to ensure properties subject to their mortgage interest are not used in connection with unlawful activity.

The CDSA

The Controlled Drug and Substances Act2 contains forfeiture provisions that can have significant implications for mortgage lenders. Section 16 of the CDSA gives a court the authority to order forfeiture of offence-related property to the Federal Crown in circumstances where the property has been used in the commission of a designated substance offence. Offence-related property includes real property used to illegally grow marijuana or any other controlled substance.

A lender holding a mortgage over property that a court has ordered forfeited to the Federal Crown is at risk of losing its interest in the property unless, within 30 days of the forfeiture order, the lender applies for relief under section 20 of the CDSA. Section 20 of the CDSA provides a mechanism whereby persons who claim an interest in forfeited property may apply for a declaration that their interest is unaffected by the forfeiture order. To be entitled to relief under section 20, applicants must show that: (a) they are innocent of any complicity in the offence or of collusion with the convicted offender; and (b) that they have "exercised all reasonable care to be satisfied that the property was not likely to have been used in connection with the commission of an unlawful act".3

The Facts

The facts in Nguyen were not in dispute. In December 2002, the offender, Mr. Kien Tam Nguyen, entered into a contract to purchase a home in Surrey (the "Property"). To finance this purchase, Mr. Nguyen had applied for a mortgage loan from Maple Trust Company (the "Lender"). The Lender, like many other residential mortgage lenders at that time, offered a "non-income qualified" ("NIQ") loan program designed for applicants (often self-employed) who could not verify their income through the usual means.

The Lender had five requirements for approval of an NIQ loan:

  • a minimum 25% down-payment from the borrower's own funds;
  • a good credit history;
  • a statutory declaration that the borrower would live in the property;
  • a full appraisal, including an inspection of the interior of the premises; and
  • a readily marketable property.

Mr. Nguyen met all of these requirements. The Lender approved the mortgage and advanced funds in late February 2003. Nine months later, the police executed a search warrant and uncovered a marijuana grow operation in the basement of the Property. Mr. Nguyen and his wife were convicted of production and possession of marijuana for the purposes of trafficking in 2005, and the Crown obtained an order for forfeiture of the Property under section 16 of the CDSA in early 2006 (the "Forfeiture Order"). Mr. Nguyen appealed the Forfeiture Order to the British Columbia Court of Appeal, which dismissed the appeal, and to the Supreme Court of Canada, which in turn dismissed the appeal on May 29, 2009. The Lender then applied for a declaration that its interest in the Property was not affected by the Forfeiture Order.

The Issues

There were two issues that the Court was required to consider on the application. The first was the correct interpretation of section 20(4)(b) of the CDSA: did the standard of reasonable care require the lender to satisfy itself that the property had not been used in connection with an offence under the CDSA, or that the property had not been and will not be used in connection with a CDSA offence?

The second issue for the Court's consideration was, regardless of the interpretation of section 20(4)(b), whether the Lender met the requisite standard of care in the circumstances such that it was entitled to relief from forfeiture.

The Decision

In the result, the Court held that section 20(4)(b) of the CDSA requires lenders to satisfy themselves that the property has not been and will not be used for the commission of an illegal act. In other words, a lender must consider the use of the property before the lender obtains an interest in the property and the likelihood that the property will be used in connection with an illegal activity going forward. On the facts of the case, the Court found that the Lender had taken reasonable steps to satisfy its obligation under section 20(4)(b), based on the standard of a reasonable mortgage lender in 2002.

Ambiguity in the CDSA

In its decision, the Court noted that the wording of section 20(4)(b) of the CDSA is far from "a model of clarity." To resolve the ambiguity, the Court outlined three different factual scenarios that could occur in relation to applications under section 20 of the CDSA:

  1. the applicant gave possession of his property to a person, who then used the property in connection with the commission of an unlawful act;

  2. the applicant obtained possession of property from a person who had used the property in connection with the commission of an unlawful act; and

  3. the applicant is a person who loaned money to a person by way of a mortgage or with the security of a lien over a property owned by a person who used the property in connection with the commission of an unlawful act.

In all three scenarios, an applicant for relief from forfeiture must show they exercised "all reasonable care to be satisfied that the property was not likely to have been used in connection with the commission of an unlawful act".4 However, the Court determined the time frame for consideration is different for each. In the first situation, the person requesting relief must consider events after they give possession of the property to the would-be offender. In the second, the person requesting relief need only satisfy themselves of events in the past. In the last, the Court found that a lender must satisfy itself both that the property had not been used, nor is likely in the future to be used in connection with an unlawful act.

The Court grounded this reasoning in the apparent legislative intent of section 20(4)(b), which is to ensure that the applicant is not only innocent of complicity in the impugned activity, but also that the applicant "exercised reasonable care to ensure that it was not unwittingly used as an instrument to aid in the proliferation of such illegal uses of property."5 The Court found that this function of the CDSA would not be met if the lender was not required to take any steps to satisfy itself that the property will not likely be used in the future for an illegal purpose.

Reasonableness in the Circumstance

Despite finding that a lender's duty to exercise reasonable care extends to both past and future uses of the property, the Court held that on the facts of the case the Lender had done everything required by section 20(4)(b). In doing so, the Court held the standard of care was that of "a reasonable mortgage lender for the acquisition of residential property in 2002."6 In reaching this conclusion, the Court relied on expert testimony regarding industry practices, on the testimony of two former employees of the Lender, and the mortgage broker – all of whom testified that in 2002 they did not know grow-ops were a significant problem in British Columbia. Also weighing heavily in the Court's reasoning was the fact that the Lender had found nothing in Mr. Nguyen's application that triggered suspicion. Given that the lender had followed industry practices at the time, and grow-ops were not widely recognized in 2002 when the lender approved the mortgage, the Court reasoned that the Lender had taken sufficient steps to comply with section 20(4)(b). These steps included verifying that Mr. Nguyen was making a significant down-payment from his own funds, obtaining a statutory declaration from Mr. Nguyen stating that he would live in the Property, and obtaining a full appraisal, including an inspection of the Property. The court found that those steps "tend to minimize the risk that the Property was likely to be used for an unlawful purpose."7 Indeed, the court expressly disagreed that lenders are to "be held to the standard of an enforcement officer whose function it was to combat the potential for setting up a marihuana grow operation in a home in respect of which there is no reason to suspect that the borrower was likely to use his own home, which he swore he was going to live in, as a marihuana grow operation."8

Takeaways

The Nguyen decision turned on its specific facts, primarily that there was no evidence that residential marijuana production was widely recognized as a problem in the Lower Mainland in 2002. Despite the successful outcome for the Lender in this case, mortgage lenders may want to consider whether their current underwriting practices would pass muster today. The Nguyen decision interprets the CDSA as requiring mortgage lenders to consider not only whether a property has been used in the past in connection with an unlawful act, but also whether a property will likely be used in the future in connection with an unlawful act. That said, the Nguyen decision also strongly indicates that the standard of reasonableness the court will apply when interpreting section 20(4)(b) of the CDSA is one of commercial reasonableness. To determine this standard, a court is likely to rely in part on the commercial practices at the time the lender approved a mortgage. Therefore, lenders who follow industry best practices in making their lending decisions are more likely to be provided relief from forfeiture by the courts in these types of situations. 

by Jennifer Cockbill, David Dahlgren and Jamieson Virgin

1 2014 BCSC 55 [Nguyen]. 
2 SC 1996, c 19 [CDSA]. 
3 Ibid, s 20(4)(a)(b).
4 Ibid.
5 Nguyen, supra note 1 at ¶ 70.
6 Ibid, ¶ 95. 
7 Ibid.
8 Ibid, ¶ 101.

a cautionary note

The foregoing provides only an overview and does not constitute legal advice. Readers are cautioned against making any decisions based on this material alone. Rather, specific legal advice should be obtained.

© McMillan LLP 2014