How Do Creditors Collect Debt?
In this article we consider the various remedies that a creditor has to recover monies owed or to collect on its debt to answer the question “How Do Creditors Collect Debt?”
The action a creditor can take to recover the monies owed to him or her for goods or services supplied or for the default on a loan will depend on the security the creditor has and the creditor’s classification.
How Do Creditors Collect Debt? Secured Creditors
A creditor with security has the strongest position of any creditor because he or she has the right to realize on that security, that is, seize the assets covered by the security to repay the debt.
There are a number of different types of assets that can be held as security.
How Do Creditors Collect Debt? Mortgage
If a debtor defaults on a mortgage payment, the mortgage holder or lender can foreclose on the property.
During a foreclosure, the lender will repossess and sell the property in order to recover the amount owed.
A current valuation or an appraisal of the property is made to establish the value.
Depending on the equity in the property or the anticipated shortfall, the mortgage holder will seek an appropriate redemption period from the court.
If there is a significant anticipated shortfall, the mortgage holder may argue for no redemption period (i.e., to allow the mortgage holder to take control of the property immediately).
If there is anticipated equity in the property, then the owner of the property will ask the court for a longer redemption period so the property can be sold in an orderly manner and not as a “fire sale.”
This allows the owner to sell for as high a price as possible and not suffer a loss.
Typically, the courts will grant a six-month redemption period.
Conduct of sale is also a key issue.
Where an order is made directing property to be sold, the court may allow any person having the conduct of the sale to sell the property in the manner the person thinks just, or as the court directs.
The court can grant conduct of sale to the owner or the mortgage holder, usually dependent on the length of the redemption period.
When a satisfactory offer has been received for the property, the lawyer for the mortgage holder will take the offer to court so the court can approve the sale.
If there is a shortfall, the mortgage holder will look to the owner to make up the shortfall.
Security Over All The Assets of a Business
The creditor who has this type of security should consult with a lawyer to ensure that the correct steps are followed when realizing on the assets.
For example, the Bankruptcy and Insolvency Act states that 10 days’ notice for repayment must be given before an agent or receiver can be appointed to realize on the security.
In exceptional circumstances and with the approval of the court, this notice period can be shortened.
This period can also be shortened if the debtor waives the ten-day notice period.
Security in Conjunction With the Sale of Inventory
This security is also known as Purchase Money Security Interest (PMSI; pronounced “pimzee”).
This type of security is covered under provincial personal property security acts.
It is security that a person takes in property, such as inventory, that secures payment regarding those assets of all or part of the purchase price.
This type of security can be realized on, but again, you should consult with a lawyer to ensure the proper realization steps have been taken.
Security Taken Over Personal Property
A creditor may have security in personal property belonging to an individual, such as a vehicle or furniture.
This type of security is usually realized by using a bailiff to seize the assets.
You should use care when collecting this kind of security, and consult a lawyer to ensure the proper steps have been followed.
For example, in British Columbia, a “seize or sue” clause is in effect when seizing a vehicle that is personal property.
This means that the creditor can either seize or sue, but not do both.
Therefore, if a vehicle is seized and there is a shortfall when it is sold, the creditor cannot pursue the debtor to make up the shortfall.
Bank Act Security
The Bank Act has a provision that allows banks to take inventory as security.
This security also gives the bank the right to collect receivables that arose because of the sale of that inventory.
Assignment of Book Accounts
This type of security is usually taken by banks and is security covering the business’s accounts receivables.
Landlords have special rights granted to them by clauses in the leases they sign with tenants and by the laws of their province.
In BC, for example, the Commercial Tenancy Act gives a landlord the right to seize assets on the premises for payment of rental arrears.
The landlord’s right to seize assets covers all of the assets on the premises except those assets secured by certain creditors.
A lawyer should be consulted to ensure the proper steps are taken to realize on a rent distraint.
Government creditors such as Canada Revenue Agency have special rights, as they are in the enviable position of being able to get specific collection laws enacted with much more ease than other creditors.
They rank before other creditors in the case of commercial debt for arrears of withholding taxes and collection of GST.
Unsecured creditors are creditors whose loan is not secured against any assets.
The remedies available to these creditors range from relatively inexpensive to more difficult and more expense procedures.
Dunning Notices and Telephone Calls
The first step an unsecured creditor may take to collect a debt is to issue a dunning notice or make a telephone call to a debtor.
The tone of the dunning letters becomes more demanding the longer the debtor goes without making a payment or arranging to settle the debt.
It is important to be persistent and consistent in following up so the debtor knows he or she must deal with the issue.
Seeking a Judgement at Court
Seeking a judgement at court, especially small claims court, can be effective in recovering a debt.
Small claims courts deal with small sums of money and are less formal than regular courts.
For example, an Ontario small claims cour can deal with issues involving sums up to $10,000. In BC the limit is $35,000.
Many people deal with issues at small claims court without retaining a lawyer, although a lawyer can be retained if desired.
You can start an action by filing out a form supplied by the court and paying a fee.
The small claims court will send a notice to the debtor advising him or her of the action and asking for a response.
A settlement conference is then set.
The small claims court encourages settlement but a judgement can be issued if necessary.
It is not unusual for default judgements to be granted.
These are judgements on actions that the debtor did not contest.
Realizing on a Judgement
This is the final remedy available to an unsecured creditor, and is exercised by garnisheeing a bank account or seizing assets, usually with the services of a bailiff.
Statutes of Limitations
Both the provincial and federal governments have set limitation acts that set the limit of time in which an unsecured debt will survive.
No action can be taken to collect this debt if a payment has not been made towards this unsecured debt during the period before the limitation time is reached.
Each province has a different time limit in their limitation act.
To learn more about the unsecured debt limitation act in your province you can contact one of the Licensed Insolvency Trustees of Bankruptcy Canada or provide your details to us directly at 1-877-879-4770 to have a trustee contact you to perform a confidential, no obligation evaluation.