- with readers working within the Property industries
- with Inhouse Counsel
Ongoing market volatility has underscored the importance for lenders of periodically reassessing the clarity and effectiveness of their contract drafting practices, particularly in complex financing structures. One topic that deserves particular attention is the drafting of intercreditor agreements ("ICAs"). Although ICAs take many forms and may not be titled as such depending on the structure of the financing, they serve a common function: applying subordination clauses to allocate priority and enforcement rights among lenders when a borrower encounters financial distress. When carefully drafted, an ICA allows a lender to contract out of statutory priority rules and create a payment and enforcement framework tailored to its objectives. However, existing case law shows that ambiguities in ICA drafting can significantly undermine intended outcomes.
Lenders should therefore pay close attention to how courts have treated poorly drafted ICAs and consider how clearer, more precise contractual language can help avoid costly mistakes.
Priority Rules Revisited: The Role of Intercreditor Agreements
To understand the risks in ICA drafting, it helps to consider how an ICA operates within the broader legal framework of a financing. Normally, in a financing with more than one lender, the "first in time, first in right" rule applies: the lender that registers its interest will have priority and get paid first. ICAs provide an exception, allowing lenders to reorder priorities and allocate enforcement rights by contract.
The leading case of Hickman Equipment (1985) Ltd., Re, 2004 NLCA 47 ("Hickman") demonstrates how the relationship between priority rules and ICAs plays out in practice. In Hickman, the Court of Appeal for Newfoundland and Labrador enforced a subordination clause that expressly reordered priorities among three lenders. The Court confirmed that a clearly drafted ICA can override statutory priority rules, even when doing so significantly alters the default priority ranking. In short, lenders can achieve their intended priority position, so long as the ICA clearly provides for it.
However, the decision in Hickman does not mean that ICAs always prevail. In Dynamic Technologies Group, 2023 ABKB 172 ("Dynamic"), the Alberta Court of King's Bench declined to enforce the subordination intended by an ICA because it conflicted with the goals of the Companies' Creditors Arrangement Act. Dynamic confirms that the enforcement of even a well‑written ICA may be limited by insolvency laws or public policy concerns.
These cases collectively reinforce that lenders must:
- expect that laws may override some ICA terms,
- draft ICAs with fallback or protective language, and
- ensure that priority arrangements still make sense in a restructuring or insolvency context.
Drafting Pitfalls: How Ambiguity Can Undermine Intent
Lenders must also consider the practical implications of the ICA itself. Courts often focus on three key questions when deciding whether a subordination clause included in an ICA is enforceable:
- Is the subordination clearly expressed?
- Is the collateral (i.e., the assets) clearly described?
- Is the intended beneficiary of the subordination clearly identified?
Despite the simplicity of these considerations, ambiguity in ICAs remains a recurring issue.
For example, in C.I.F. Furniture Ltd., Re, 2011 ONCA 34 ("C.I.F. Furniture"), two creditors, VenGrowth and Kari, executed an ICA, subordinating Kari's interest to VenGrowth. A later financing introduced Comerica, which treated Kari as first-priority while it separately entered into an agreement under which VenGrowth subordinated to Comerica. These arrangements created a circular priority—VenGrowth over Kari, Kari over Comerica, and Comerica over VenGrowth—requiring the Court to reconstruct the parties' intentions. The C.I.F. Furniture case highlights the risk of unclear subordination language and the importance of updating ICAs when new lenders enter the priority structure.
Drafting missteps can also arise from the failure to consider the broader commercial context. In Tidal Health Solutions Ltée et PricewaterhouseCoopers Inc., 2021 QCCS 3547 ("Tidal Health"), the Quebec Superior Court was confronted with competing directions governing the distribution of proceeds received by a borrower, including a court order, an ICA that subordinated a class of lenders, and an investor rights agreement that called for pari passu (equal) distribution amongst all lenders. Despite the unequivocal intention of the ICA to subordinate certain lenders, the Court deferred to the investor rights agreement, finding that it best represented the understood distribution of proceeds in the situation.
The Court's decision in Tidal Health reflects a practical reality: courts may read ICAs alongside related agreements to discern the parties' intentions. Lenders wishing to avoid such results should draft ICAs to:
- expressly define how proceeds are to be distributed in all scenarios, and
- state that the ICA prevails over inconsistent provisions in other agreements.
Finally, lenders must remain attentive to how subsequent agreements or amendments can affect established priorities. Although the case law on whether amendments to financing arrangements preserve priority is not settled, useful practices can be drawn from contrasting the decisions in 2495940 Ontario Inc. v. 263346 Ontario Inc., 2020 ONSC 7937 ("2495940 Ontario Inc.") and Greenpath Capital Partners Inc. v Trilend Inc. et al, 2022 ONSC 7316 ("Greenpath"). In 2495940 Ontario Inc., amendments to a first mortgage preserved its priority, whereas in Greenpath, a forbearance agreement did not preserve the priority of the first mortgage. These divergent outcomes reinforce the importance of drafting ICAs that:
- incorporate all relevant creditors,
- anticipate future amendments, assignments or enforcement steps, and
- make clear how priorities are intended to apply in evolving circumstances.
Otherwise, lenders may lose control and leave the outcome to the courts.
Conclusion
In the current interest‑rate environment, where restructurings, refinancings and enforcement scenarios are increasingly common, ICAs deserve renewed attention from lenders. Precision, clarity, and forward looking drafting remain the most effective safeguards against unintended priority outcomes. By proactively addressing legacy drafting issues and anticipating future developments—whether commercial, structural or statutory—lenders can better ensure that their ICAs deliver predictable and enforceable results.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
