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28 Feb

Family members liable for knowing receipt of trust funds

Monday, February 28, 2022James R.G. CookLitigationFraud, Fraudulent Conveyances Act

People who receive funds from someone whom they know, or reasonably ought to have known, obtained the funds through a breach of trust may be liable to return the funds based on the doctrines of knowing assistance or knowing receipt. Turning a blind eye or otherwise failing to question the source of the funds will not absolve the recipients from liability.

In Quantum Dealer Financial Corporation v. Toronto Fine Cars and Leasing Inc., 2022 ONSC 1132 (CanLII), the plaintiff corporations were in the business of financing used car inventories for motor vehicle dealers in Ontario. One of the plaintiffs’ customers, Toronto Fine Cars and Leasing (TFC), was a used car motor vehicle dealership in Mississauga. TFC was owned by an individual (Diego), who was the sole director, officer and controlling shareholder.

In October 2016, the plaintiffs attended at the TFC dealership and found that Diego was not present, nor was anyone else from TFC. The premises appeared to be abandoned but for some vehicles which they had not financed. The plaintiffs later determined that the cars had been sold in the United States. The plaintiffs were unable to recover the proceeds of sale of the vehicles. Cheques from TFC were returned NSF.

The plaintiffs commenced an action alleging that Diego and TFC had fraudulently sold off the vehicles that they had financed without paying for them. The action named several other defendants who appeared to have participated in or received funds from the fraudulent scheme, including Diego’s wife, who was part of the management team at TFC, her sister, a numbered company (for which the sister was the sole officer, director and shareholder), and the sister’s spouse.

The plaintiffs brought a motion for summary judgment, arguing that Diego sold off practically the entire car lot overnight and dissipated the proceeds through overseas and non-arm’s length transfers including to the other defendants. To conceal his fraud and to defeat creditors, Diego acquired the numbered company, using his sister-in-law as the putative owner and operator, while he called the shots. Diego then used the numbered company to launder funds and to flow through cash to the family member defendants.

As an example, in the two years following the sale of TFC inventory, the numbered company paid $182,233 to Diego’s wife, while also paying their children's private school tuitions. The plaintiffs also alleged that Diego’s sister-in-law received $175,000 from Diego’s wife, ostensibly her share of the proceeds of the sale of the matrimonial home, which was then spent on a series of questionable transfers, such as sending $67,000 to a woman in Argentina for a completely undocumented business venture.

By the time of the motion, Diego’s whereabouts were unknown and he was noted in default. The remaining defendants denied any wrongdoing and argued that there was no evidence that they ever received money from the plaintiffs, and that there was credible evidence that Diego’s sister-in-law legitimately operated the numbered company. Diego’s wife and sister-in-law claimed not to have seen Diego since October 2019 and suggested that he was now living in South America.

In February 2022, the Ontario Superior Court of Justice granted summary judgment to the plaintiffs: 2022 ONSC 1132 (CanLII).

The court reviewed the extensive evidentiary record and found that the defendants had not provided a sufficient response to the plaintiffs’ allegations regarding the receipt of the funds, notwithstanding interim court orders that had mandated full particulars of various transactions.

The defendants claimed that Diego’s marital infidelity led to the breakdown of his marriage which, in turn, led to the sale of the matrimonial home. Diego’s wife claimed that she was suspicious that he was having an affair with a receptionist at work. She claimed that she left the TFC dealership because she did not feel safe. However, she did not file evidence from anyone else who had worked at TFC to corroborate her story.

Supposedly, Diego and his wife then agreed to settle their matrimonial affairs with her accepting half of the proceeds of the home in exchange for forgoing her right to commence any family law claims against him.

The court noted that Diego’s wife would also have almost certainly been entitled to child support, spousal support, and a net family property equalization payment that would take into account the proceeds of sale of the matrimonial home, and his other assets including TFC. The court reasoned that it was highly improbable that Diego’s wife would have simply agreed to walk away from such claims only to get a reduced payment of something that was already owed to her.

In the court’s view, “[m]any things are possible, but only a few things are probable.” The defendants’ narrative was so far-fetched, internally inconsistent, and poorly documented, that their version of events was very unlikely to be true.

Conversely, the explanation put forth by the plaintiffs as to the defendants working together to perpetrate a fraudulent scheme by flowing trust funds through the family members was more straightforward and accorded with the available evidence and common sense.

The plaintiffs argued that the case had all the “badges of fraud” under the Fraudulent Conveyances Act and that the defendants were liable under the legal doctrines of “knowing assistance in breach of trust” and “knowing receipt of funds in breach of trust” as outlined in Boal v. International Capital Management Inc., 2021 ONSC 651 (CanLII).

The court determined that the plaintiffs were the beneficiaries of a trust or fiduciary relationship and that Diego and TFC fraudulently and dishonestly breached their equitable duties to them. The defendants knew about the fiduciary relationship between the plaintiffs, Diego and TFC.

For liability under “knowing assistance,” the plaintiff must show that a defendant has actively assisted the fiduciary in their fraudulent or dishonest misconduct. Actual knowledge includes wilful blindness or recklessness.

Conversely, “knowing receipt” is not fault-based. A plaintiff must show that the defendant has received property from the fiduciary in their personal capacity and has actual or constructive knowledge that the property was transferred to them in breach of trust or fiduciary duty. Knowing receipt is based an objective state of knowledge and notions of unjust enrichment, where regardless of fault, it is unjust that the defendant receive and keep an enrichment. Thus, the remedy for knowing receipt is measured by the defendant’s ill-gotten gain.

In the circumstances of the case, the defendants were liable under either doctrine. The court found that Diego’s wife concocted the story about his affair and that she had actual knowledge of Diego’s plans, particularly since she had banking authority at TFC and assisted with other suspicious transactions. Her sister had signing authority for the numbered company and they were the beneficiaries of tens of thousands of dollars a month that were filtered through the numbered company’s accounts to their families. The evidence was that the numbered company could not have sustained such financial outlays based on its purported revenue.

The court determined that a reasonable person would have inquired into and determined that Diego and TFC had engaged in wrongdoing and that the plaintiffs’ trust property was being misapplied and diverted to the families. The defendants’ lack of inquiry rendered their enrichment unjust.

In the result, the defendants were held liable to the plaintiffs for the amounts traced back to the fraudulent sales of the vehicle inventory of more than $1.2 million and punitive damages of $250,000. The plaintiffs were awarded legal costs of more than $232,000.

James Cook

For more information please contact: James Cook at 416.865.6628 or jcook@grllp.com

(This blog is provided for educational purposes only, and does not necessarily reflect the views of Gardiner Roberts LLP)

 

 

 

 

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