PART  I   : INTRODUCTION .      

PART II   : SHOULD JOINT AND SEVERAL LIABILITY BE MAINTAINED?        

PART IV   : LIMITED LIABILITY PARTNERSHIPS

APPENDIX A : WITNESSES                             

PART III -- What Type of Liability Regime Should Replace Joint and Several Liability?

Views of Organizations Making Submissions to the Committee

Issues Relevant to Proportionate Liability

1. Fairness

2. Economic Consequences

3. Effect on the Liability Insurance Market

4. Complexity and Practical Problems

Conclusions and Recommendations

1. Modified Proportionate Liability

2. Definition of Unsophisticated Plaintiff

3. Allocating the Risk amongst Plaintiffs and Defendants

4. Scope of the Modified Proportionate Liability Proposal

Federal and Provincial Jurisdiction

 

Views of Organizations Making Submissions to the Committee

The Options Discussion Paper outlined a number of approaches for dealing with professional liability. These included the status quo, various forms of proportionate liability, limiting liability by contract, limiting the scope of professional liability by restricting the persons to whom a duty of care would be owed and creating a cap on liability.

As stated earlier, the witnesses rejected the status quo. In their submissions, the CBA and the CICA outlined their views on a number of the other approaches.

The CBA, for instance, felt that limiting liability by contract would be impractical and inappropriate for the following reasons:

This approach would require amendment to provincial statutes, particularly those governing professional practice, as many provincial statutes prohibit contracting out of liability. Such amendments would not affect liability that more frequently applies to parties outside the contractual relationship. Thus, provincial statutes would require further amendment, to eliminate or limit the right to recovery of parties outside of the contract.(45)

The CICA expressed similar concerns about limiting liability by contract, noting that this would have no effect on third party claimants. In addition, the CICA referred to an implied prohibition against contractual capping by the U.S. Securities and Exchange Commission.(46)

The concerns of the CBA and the CICA with respect to limiting the scope of professional liability by placing restrictions on the duty of care owed by professionals were outlined earlier in the report.

Capping liability was rejected as a remedy for the liability concerns of professional defendants. The CICA characterized capping as arbitrary and unfair while the CBA questioned whether it would be fair and effective.

Capping liability on the basis of a dollar amount is unlikely to be effective. For class actions, the cap would apply on a global basis, which may not provide effective recovery for members of the class as it would then be dependent on the number of members of the class. Nor would it be effective for the professional, if based on the individual numbers in the class, as the number of members in the class could not be controlled. Finally it lacks the perception of fairness which should be coherent in good law, as the cap is unlikely to properly reflect the damage or ability to pay.(47)

Various forms of proportionate liability were outlined in the Options Discussion Paper. These included the following:

Under a system of proportionate liability, the liability of each defendant is limited to the proportion of the loss or damage for which he or she is found to be actually responsible. While joint and several liability makes each defendant the effective cause of the entire loss suffered by a plaintiff, proportionate liability apportions liability according to the degree of fault of each defendant. As a result, a defendant is required to pay only his or her share of the liability as determined by the court.

The CBA contended that full proportionate liability was neither required by the legal or economic environment nor necessary to balance fairly the rights of plaintiffs and co-defendants. It preferred a modified proportionate liability model that would provide a measure of protection for unsophisticated plaintiffs.(48)

The CBA concludes that it is appropriate to consider statutory amendments to provide for modified proportionate liability amongst defendants. The most palatable model … is a "sophisticated plaintiff" test. … The CBA believes any palatable variation, based on a concept of reallocating the risk of a defendant’s failure to pay the plaintiff and the co-defendants, is legally defencible (sic). A method of reallocation proportionate to contribution to the damages, with a threshold such as a means test, could effectively and most appropriately recognize the role of law and the court in the allocation of responsibilities.(49)

The CICA’s preferred option is proportionate liability in respect of all claims involving defective financial information, except for claims brought by individual "unsophisticated plaintiffs." This proposal would cover persons involved in the provision or disclosure of financial information and could include accountants, lawyers, corporate directors and appraisers. Under the CICA proposal, which closely resembles option 2(b) in the Options Discussion Paper, full proportionate liability would apply to claims pertaining to financial information, while joint and several liability would apply to claims brought by individuals who were "unsophisticated plaintiffs." Joint and several liability would also apply in situations involving fraud or dishonesty. This modified proportionate liability proposal put forward by the CICA in 1997 differs from the full proportionate liability model outlined by the CICA a year earlier.

The distinction between unsophisticated and sophisticated plaintiffs is central to the CICA’s modified proportionate liability proposal. The CICA argued that it was fair and appropriate to make this distinction.

…[T]he CICA believes that in most cases involving the use of financial information of a business, the plaintiffs are experienced and knowledgeable creditors, lenders or investors who are well aware of the risks they incur in today’s complex world of business and finance. We question the appropriateness or indeed fairness of the legal concept of keeping the plaintiff whole in situations involving such well-versed users. We believe that sophisticated creditors or investors take the possibility of risk of loss into consideration before making any investment decision. A small, unsophisticated creditor or investor, however, might not necessarily be aware of the risk associated with the world of business or finance. To refer to a sophisticated plaintiff as totally blameless, who expects full compensation for loss, is to deny the realities of modern economic life. Therefore, we believe that in the interest of fairness, a distinction might be made between sophisticated and unsophisticated creditors and investors in designing a liability regime based on fairness.(50)

The CBA observed that the law has moved away from caveat emptor to recognizing that there should be a basic level of protection for those who are less able to help themselves. It went on to note that securities laws and consumer protection laws often use a type of "sophisticated" test to determine who is need of protection and who is not.(51)

The CICA advised the Committee that it had received written endorsement of its original 1996 proposal to replace joint and several liability with full proportionate liability from the following organizations:

Furthermore, the CICA informed the Committee that senior officials of the Consumers Association of Canada would not oppose full proportionate liability for all defendants involved in the issuance of financial information.

The CICA rejected the other forms of proportionate liability set out in the Options Discussion Paper. It felt that the options providing for proportionate liability where the plaintiff is contributorily negligent would have little application to auditors. When third party claimants were involved, the CICA noted it would be difficult to assert that the plaintiff lender or investor had been negligent and had therefore contributed to the loss suffered.(53)

Options that would reallocate an insolvent defendant’s share amongst the remaining co-defendants were also dismissed. The CICA maintains that sophisticated plaintiffs, such as lenders and investors, have an opportunity to obtain their own legal and financial advice. They take risks in the normal course of business and should accept the risks associated with the insolvency of one or more defendants. Reallocating an insolvent defendant’s share among the remaining co-defendants, in the view of the CICA, would be unfair, would not solve the liability problem faced by auditors and would not change the disproportionate burden of responsibility placed on peripheral defendants.(54)

The Certified General Accountants Canada (CGA) outlined its preferred option in correspondence to the Committee.(55) The CGA took the position that the courts should have discretion to apply joint and several liability or proportionate liability depending upon the facts and circumstances of a particular case. In addition, the CGA felt that any amendment to limit the imposition of joint and several liability should apply to all professionals and professional services under the relevant federal statutes.(56)

The CGA does not support either full proportionate liability or the universal application of joint and several liability. It also rejects approaches that would distinguish between sophisticated and unsophisticated investors.

It seems to us totally inappropriate to support a wholesale substitution of full proportionate liability for joint and several liability. It could potentially transfer huge risks from defendants to plaintiffs, without any justification whatsoever.

At the same time, it seems equally arbitrary to apply the doctrine of joint and several liability in all cases. There may be some cases in which several co-defendants all contributed to some extent, but none to the extent of being the single effective cause of a plaintiff’s loss. In these cases, full proportionate liability would make sense.(57)

The Investment Dealers Association of Canada (IDA) advised the Committee that it supports proportionate liability for all defendants in relation to the provision of financial information. The IDA noted that

The specific interest of the Association on this issue is to seek fair and proper protection for investment dealers who enter into an agreement, commitment or understanding with a corporate issuer to act as advisor, agent or underwriter in respect of a private placement or public offering from legal claims arising from use of financial information in offering documents where the dealer was unaware of the defect.(58)

In summary, all organizations making submissions to the Committee favoured the implementation of a proportionate liability regime in certain circumstances. Three, the CICA, FEIC and the CBA, recommended a modified proportionate liability regime that would implement proportionate liability for claims involving economic loss under certain federal statutes. These organizations also supported the retention of joint and several liability for claims made by certain individuals (who would be classified as unsophisticated plaintiffs) and for claims arising out of fraudulent or dishonest conduct. Each of the witnesses suggested that a net worth test should be used to distinguish between unsophisticated and sophisticated plaintiffs. The CICA and the CBA differed somewhat in the application of their modified proportionate liability proposals. The CBA recommended that its proposal should apply to claims pertaining to all professional defendants and professional services provided under the relevant statutes, while the CICA recommended that its proposal should encompass claims arising out of the provision of defective financial information.

Issues Relevant to Proportionate Liability

1. Fairness

Although the principle of fairness was discussed in general terms earlier in the report, the discussion bears repeating, particularly as it relates to proposals for reform based on a modified proportionate liability model. In stating its case in support of modified proportionate liability, the CICA repeatedly stressed what it perceived to be the unfairness of joint and several liability for defendants who may have peripheral responsibility for a plaintiff’s loss. The Institute also emphasized that, in favouring proportionate liability, it is not seeking guarantees against judgments or protection from bankruptcy.

We have always believed that we should pay for our mistakes and if our share of responsibility results in the bankruptcy of an accounting firm, we accept that as fair. A bankruptcy that results from requiring auditors to pay for the mistakes of others, however, is patently unfair. We are therefore simply asking not to be held financially responsible for the mistakes of co-defendants who are unable to pay their proportionate share of the loss. We believe that it is unfair to put the entire onus on the auditors. Auditors should be accountable for their conduct and they should bear responsibility for the consequences of their actions. However, they should not be liable for the shortcomings of others.(59)

Shifting the responsibility for an insolvent co-defendant’s share of a plaintiff’s loss away from the remaining defendants to the plaintiff, as proportionate liability would do, may be a fundamental shift in policy, but it does not necessarily break new ground. A plaintiff whose loss has been caused by a single defendant now bears the entire risk of the insolvency of that defendant. Since the law does not provide redress to a plaintiff in this situation, one can argue that it is not logical for it to do so merely because more than one defendant contributed to the plaintiff’s loss. If a plaintiff has to bear the risk of loss where the only defendant is insolvent, it must be fair for the plaintiff to do so where there is more than one defendant.

A strong case can be made for the application of a proportionate liability regime in certain types of commercial situations. For instance, where a plaintiff who is buying professional services for business purposes has chosen the advisors and is able to evaluate their financial worth, it seems reasonable that the risk of insolvency should be borne by the plaintiff rather than the defendants. Moreover, in situations involving economic loss where a plaintiff is a participant in the capital market and where the risk of loss is weighed against the hope for gain from an investment, it may be illogical and inefficient to require professional advisors to underwrite the full extent of that risk, particularly where the advisor does not share in the profits earned by the business.(60) However, one could argue that none of this should have implications for shifting the risk of insolvency from the defendants to the plaintiff. Regardless of the circumstances, a plaintiff should be entitled to assume that the reports and opinions of professional advisors have been properly prepared.

2. Economic Consequences

The CICA submission addressed the larger economic consequences of joint and several liability on business operations and capital markets. As mentioned earlier, the CICA believes that joint and several liability threatens the ability of accounting firms to continue to provide a high quality audit function to Canadian business. This threat could have serious implications for the financial reporting system and the capital markets.

The Supreme Court of Canada judgment in Hercules Managements Ltd. v. Ernst & Young acknowledged the possible repercussions for auditors and the public if liability for negligently prepared audit reports were to go unchecked. Although the Court was discussing the consequences of expansive auditors’ liability in the context of the duty of care owed by auditors to third parties, the passages cited by Mr. Justice LaForest could easily apply to the issue of joint and several liability.

The higher costs that auditors would face as a result of broad duties of care could have a widespread impact. For example, the supply of accounting services would probably be reduced since some marginal firms would be driven to the wall. Also, because barriers to entry imposed by the profession protect the market for accounting services, the surviving firms would pass [sic] at least some of the increased cost to their clients…

[expansive auditors’ liability] is likely to increase the time expended in the performance of accounting services. This will trigger a predictable negative impact on the timeliness of the financial information generated. It is equally likely to increase the cost of professional liability insurance and reduce its availability, and to increase the cost of accounting services which, as a result, may become less generally available. Additionally, it promotes "free ridership" on the part of reliant third parties and decreases their incentive to exercise greater vigilance and care and, as well, presents an increased risk of fraudulent claims.(61)

Furthermore, the Committee notes that to argue that joint and several liability fairly places any losses on solvent defendants ignores the possibility that professionals may pass some or all of the risk of their liability on to others through higher fees. Thus the cost will ultimately be borne by shareholders and the investing public.

3. Effect on the Liability Insurance Market

Proponents of proportionate liability contend that joint and several liability increases the cost and decreases the availability of liability insurance. They maintain that the prospect of being the only remaining solvent defendant puts enormous pressure on insured or otherwise solvent defendants to settle before trial. Supporters of proportionate liability believe that, over time, proportionate liability will improve the availability and reduce the cost of liability insurance. By ensuring that a defendant will be responsible for paying his or her portion of a judgment and no more, proportionate liability should reduce the amount a defendant would be required to pay and make deep pocket defendants less attractive targets.

The Committee is not, however, aware of any evidence showing a direct correlation between the adoption of proportionate liability and a decrease in insurance premiums or improvement in the levels of deductibles coverage. Moreover, insurance underwriters are not certain that liability insurance would become more readily available or affordable under a proportionate liability regime. They told the Committee that only after a proportionate liability regime had been in place for some time might they be in a position to make liability insurance more readily available to the large accounting firms.(62)

The Options Discussion Paper points out that the impact of proportionate liability on the size of claims is uncertain. Damages awards might still be large and losses might continue to be indeterminate. Auditors could continue to be liable for a substantial portion of losses because they are often the individuals with the "last clear chance" to check that the financial statements fairly represent the financial condition of a business enterprise.(63)

Whether plaintiffs under such a regime would be less inclined to target deep pocket defendants is also unclear. There is no guarantee that proportionate liability will relieve the liability burden faced by many professionals. If available insurance is $50 million, this may be the amount of compensation decided upon during settlement negotiations whether under a joint and several or proportionate liability regime.

The Committee does not believe, however, that uncertainty about the impact of proportionate liability on the size of claims and the cost and availability of liability insurance should be a reason for inaction. Change will not take place overnight. In the meantime, it can be said, at least from anecdotal evidence, that the present system of joint and several liability raises issues in the professional liability insurance market that may ultimately interfere with a professional’s relationship with his or her clients. The potential for proportionate liability to mitigate existing problems in the insurance market should not be downplayed.

4. Complexity and Practical Problems

It has been argued that proportionate liability regimes can be complex and fraught with practical problems in their implementation and operation. For example, it would first be necessary to establish who would be responsible for ensuring that all defendants were before the court. Furthermore, having to apportion liability could then present difficulties for the courts.

The Australian Inquiry into the Law of Joint and Several Liability and the U.K. Feasibility Investigation of Joint and Several Liability discounted the practical difficulties arising from the implementation of proportionate liability. The Australian study put it this way:

It may, however, be suggested that any practical problems in implementing a regime of proportionate liability are more apparent than real. It has already been observed that the Republic of Ireland has had such a regime for more than 30 years, and no evidence has emerged of any practical difficulties. The Province of British Columbia has also had such a regime for more than 10 years, and there is no indication of practical difficulties. Equally, there has been no suggestion from those States in the United States of America which have adopted one of the various forms of proportionate liability that the change in the law has led to difficulties of applying it in practice.(64)

The Committee is of the view that any practical problems associated with incorporating a workable modified proportionate liability regime in the relevant federal statutes can be overcome and do not outweigh the apparent advantages of such a liability regime.

Conclusions and Recommendations

1. Modified Proportionate Liability

The Committee believes that the liability concerns raised by the CICA and the FEIC must be addressed. Joint and several liability results in insured professionals, such as auditors, becoming targets for plaintiffs who seek out deep pocket defendants who will be able to satisfy a judgment and make good any shortfall created by the insolvency of a defendant. There is nothing sinister about this; it is just good litigation practice.

The fact that insured professionals are the defendants of choice can affect the cost and availability of their liability insurance. Being a litigation target may also eventually discourage individuals from entering a profession, result in higher costs for professional services and precipitate the withdrawal of services from businesses that are themselves targets for litigation. The Committee is of the view that that public interest would be served by ensuring that the legal environment does not adversely affect the provision of the best possible professional services to the widest range of persons and at reasonable costs.

Internationally, there appears to be a trend toward limiting professional liability. There is an emerging policy consensus that limitations on joint and several liability are justified since liability may be widely disproportionate to the relative fault of a defendant in cases involving negligence, rather than dishonest or fraudulent conduct. Requiring the courts to take into account the relative fault of defendants when assigning liability would make the civil liability system more consistent with the relative fault of defendants.

The Committee believes that a form of modified proportionate liability will best address the liability concerns raised by the witnesses. Of the various forms of proportionate liability set out in the Options Discussion Paper, the Committee favours a modified proportionate liability approach that would continue joint and several liability for unsophisticated plaintiffs. Under this approach, proportionate liability would apply to claims for economic (financial) loss arising by reason of any error, omission, statement or misstatement in connection with the provision of certain information under the relevant statutes. Joint and several liability, however, would continue to apply to claims where fraud or dishonesty was involved and to claims for financial loss by unsophisticated plaintiffs.

There are a number of reasons why the Committee supports this approach. First, overall, the Committee believes it to be reasonable and fair. It offers a measure of protection to defendants who may be only marginally responsible for a plaintiff’s loss. At the same time, by preserving joint and several liability in relation to claims involving fraud and dishonesty and claims by unsophisticated plaintiffs, this approach aims to provide full compensation to plaintiffs who are victims of dishonesty or least able to absorb a loss. In keeping with the law’s long-time policy of protecting the most vulnerable, this approach would ensure that individuals who could least afford a financial loss, who might not be fully aware of the risks associated with a particular investment or who might not know or have the means to obtain professional advice, would continue to benefit from joint and several liability.

Second, such a modified proportionate liability model would not pre-empt the judicial process; it would permit the courts to continue to apply the law and to determine the relative degrees of fault of the defendants. It is in the public interest that the activities of professionals be reviewed on a case-by-case basis in the litigation system. This model would help to enforce the highest standards of professional conduct.

Third, the approach is in step with the changes that have taken place in the legal and economic environment with respect to the provision of professional services. The basis for imposing tort liability has broadened; the liability of professionals, once based in contract, is now recognized in both contract and tort; contributory negligence is no longer a bar to recovering damages; damage awards have increased and the tendency to litigate has grown in light of greater public awareness of consumer rights. Modified proportionate liability, in the Committee’s view, would serve as a much-needed brake on these developments, which, largely unrestrained, have broadened the basis of professional liability.

Fourth, in order to preserve the efficiency and competitiveness of our capital markets, Canada should not lag behind global developments in the regulation of corporations and financial institutions. To the extent that changes are implemented in Canada, they should be in step with reforms taking place or being considered elsewhere in the United States and the Commonwealth. Modified proportionate liability is in keeping with the trend to limit liability in Canada’s major trading partners. Earlier in the report, the Committee pointed to developments in other jurisdictions, most notably in the United States. Of particular interest is the U.S. Private Securities Litigation Reform Act of 1995 which implements modified proportionate liability in respect of private actions taken under federal securities law.

Fifth, the Committee believes that a proportionate liability regime would continue to be an incentive for professionals to engage in proper professional conduct. Although it has been argued that proportionate liability would adversely affect the risk management behaviour of professionals, no one disputes that damage awards would likely continue to be large under a modified proportionate liability regime.

Sixth, the Committee believes that modified proportionate liability would not be difficult to implement in Canada and that any practical problems associated with such a regime could be overcome. We could draw upon the experience of other jurisdictions that have had modified proportionate liability regimes in place for a number of years.

Finally, the Committee believes that the approach is in the public interest. A key concern for any change in the liability regime is the protection of the public. Clearly, the public interest will not be served if the long-term survival of certain professions is threatened. Exposing auditors, for example, to indeterminate risks affects their professional participation in the economy and the expectations of the investing, lending and purchasing public.(65) At the same time, the public is not protected when the standards of performance of professionals are compromised. If the liability regime is to be changed, the professions that would thereby benefit must ensure that safeguards are in place to maintain and improve their professional standards.

 

Recommendation

The Committee recommends implementation of a modified proportionate liability regime for claims for economic (financial) loss arising by reason of any error, omission, statement or misstatement in financial information issued under the Canada Business Corporations Act, the Bank Act, the Insurance Companies Act, the Trust and Loan Companies Act, the Cooperative Credit Associations Act and the Canada Cooperative Associations Act. Joint and several liability would continue for such claims made by individuals who are unsophisticated plaintiffs and for claims made by all plaintiffs that arise out of fraudulent or dishonest conduct.

2. Definition of Unsophisticated Plaintiff

A key component of the proposed modified proportionate liability regime is the maintenance of joint and several liability for "unsophisticated plaintiffs." The definition of this term is critical to the operation of the regime.

Witnesses noted that the level of sophistication could be decided according to a means test, a type-of-claim test, an individual’s education level or a threshold or a capped amount. The CICA based its proposed definition of an unsophisticated plaintiff on a net worth test. Under the CICA definition, an unsophisticated plaintiff would be an individual whose net worth was less than $100,000. The calculation of net worth would exclude the equity in the individual’s principal residence, home furnishings, automobiles, pension plans and registered retirement savings plans. The FEIC also supported this approach, but did not suggest a monetary amount for the purposes of establishing a threshold between a sophisticated and unsophisticated plaintiff.

A means test was described by the CBA as the simplest and least arbitrary of the various tests. Ms. Alison Manzer felt that a net worth test would be an appropriate determinant of an unsophisticated plaintiff. She suggested that the threshold amount could be $100,000, $150,000 or $200,000 but felt that anything less than $100,000 would be risky. Ms. Manzer also recommended that assets such as registered retirement savings plans, a person’s home and pension should be excluded from the definition of net worth.(66)

The Committee notes that the U.S. Private Securities Litigation Reform Act of 1995 distinguishes between "small" and other types of investors for the purpose of determining whether a plaintiff will be subject to a proportionate or joint and several liability regime. The Act uses a two-part – net worth/percentage claim - test to define a small investor. As mentioned earlier in the report, the Act defines a small investor as a plaintiff whose net financial worth is less than $200,000 and whose recoverable damages are equal to more than 10% of his or her net worth. Net worth is defined as the fair market value of a plaintiff’s assets minus liabilities.

The Committee believes that a test can be developed to support a modified proportionate liability regime that would protect unsophisticated plaintiffs. Furthermore, any difficulty in devising a test should not be used as an excuse for delaying or not proceeding with reform. The Committee notes that there is precedent in Canada for distinguishing between persons who are able to absorb a loss and those for whom a financial loss may be crippling. The Canada Deposit Insurance Corporation plan provides protection based on the size of the deposit. The Ontario Securities Commission uses the sum of $75,000 as a net worth test for an appropriate participant in a commodity pool program. In addition, net worth tests are used in securities laws to determine whether a person is able to analyze an investment, will know when to seek advice, or is able to withstand a loss.

The Committee’s primary concern is that the definition of unsophisticated plaintiff be framed to cover the vast majority of individuals who do not have the wherewithal to make well-reasoned risk assessments or investment decisions or who might suffer unduly from a financial loss. In supporting a definition based on net worth, the Committee recognizes that a net worth test is not perfect; it is, however, simple, flexible and efficient. It can effectively identify the individuals who need protection and has been tried and tested elsewhere in securities laws in Canada and the United States.

Two issues in relation to the development of an appropriate net worth test remain unsettled. They are: (1) the amount of the threshold for determining who would be an unsophisticated plaintiff; and (2) how net worth would be calculated.

The Committee has two models before it. The first, recommended by the CICA, proposes a threshold amount of $100,000. (Any individual having a net worth below $100,000 would be an unsophisticated plaintiff.) Under the CICA model, an individual’s net worth would be based on the value of an individual’s assets minus his or her liabilities. However, the value of RRSPs, pension plans, the principal residence, home furnishings and automobiles would not be included in the calculation of net worth.

The second model, found in the U.S. Private Securities Litigation Reform Act of 1995, sets a threshold of $200,000 U.S. This approach excludes no assets in calculating net worth. The Committee notes that the test used in the U.S. Act also requires a plaintiff’s claim for recoverable damages to be at least 10% of his or her net worth. The Committee does not support the inclusion of such a percentage claim component in connection with its proposed modified proportionate liability regime.

The Committee recognizes that there are advantages and disadvantages to each approach. A threshold based on a straight monetary amount with no exceptions would discourage individuals from engaging in "creative" arrangements designed to exclude assets from the definition of net worth. Moreover, including all assets in the calculation, should make it easier to obtain an accurate picture of a person’s net worth. A net worth model that excluded assets such as a principal residence could undervalue an individual’s net worth by several thousands, and in some cases, millions of dollars.

One of the principal disadvantages of a straight monetary threshold is that, by including all assets in the definition of net worth, it fails to distinguish between liquid and illiquid assets. For instance, assets held in an RRSP or a pension plan, though of considerable value, may be of little relevance to person’s ability to absorb a financial loss. On the other hand, a test that would exclude certain assets from the calculation of net worth could make the determination of net worth simpler and more straightforward since it would obviate the need to value the excluded assets.

The Committee makes no recommendation concerning the nature of the net worth test that could be used to define an unsophisticated plaintiff. It suggests that the monetary threshold should be at least $100,000 if the assets described above are excluded from the calculation of net worth. If all assets are included, the threshold should be higher than $100,000; an amount equivalent to $200,000 U.S. might be a reasonable amount.

Recommendation

The Committee recommends that the federal government undertake consultations with interested individuals and organizations for the purpose of developing an appropriate net worth test to distinguish between unsophisticated and sophisticated plaintiffs for the purposes of the proposed modified proportionate liability regime. The test suggested by the Canadian Institute of Chartered Accountants and the monetary threshold used in the U. S. Private Securities Litigation Reform Act of 1995 should provide the basis for the consultations.

3. Allocating the Risk amongst Plaintiffs and Defendants

A significant aspect of a modified proportionate liability regime is how to allocate the risk of a defendant’s insolvency amongst plaintiffs and the remaining solvent defendants. The model discussed thus far provides that the defendants will continue to bear the full amount of that risk in relation to claims made by unsophisticated plaintiffs. How then should that risk be allocated when "sophisticated plaintiffs" are involved? Under the proposal put forward by the CICA, and favoured by the FEIC and the CBA, sophisticated plaintiffs would bear the entire risk of a defendant’s insolvency. If a defendant were insolvent, such plaintiffs would not be able to recover any portion of that defendant’s share of a judgment.

Other models attempt to strike a balance between the goal of compensating a plaintiff and that of relieving the solvent defendant of the total liability burden by reallocating an insolvent defendant’s uncollected share amongst the remaining co-defendants. The U.S. Private Securities Litigation Act of 1995 reallocates an insolvent defendant’s share amongst the remaining co-defendants in proportion to each of their percentage of fault, capping the reallocation at 50% of their proportionate share.

For example, suppose a sophisticated plaintiff suffers a loss of $100,000 that is apportioned among three defendants as follows: D1 10%, D2 40% and D3 50%. D1 would be allocated $10,000, D2 $40,000 and D3 $50,000. If D3 is insolvent, D3’s share ($50,000) will be reallocated among D1 and D2. D1 will pay one-fifth of D3’s share ($10,000) and D2 will pay four-fifths of D3’s share ($40,000). However, because of the 50% cap on reallocated shares, the additional payment by each would be capped at $5,000 for D1 and $20,000 for D2. The plaintiff would collect $75,000 in total.

Such a reallocation divides the risk of insolvency between the plaintiffs and the defendants and enables plaintiffs to recover more than they would without a reallocation. But, because the amount reallocated to a defendant is based upon that defendant’s percentage of fault, marginal defendants are protected from liability for the total loss.

The U.K. Feasibility Investigation of Joint and Several Liability described the form of modified proportionate liability found in the Private Securities Litigation Reform Act of 1995 as "an elaborate pragmatic package". The investigation report considered such a model to be the "most pragmatic way forward" if there were an overwhelming case in terms of economic efficiency and public interest. Nonetheless, the report dismissed the approach because it did not overcome the objections of principle that had been identified in the report as reasons for rejecting proportionate liability.(67)

The Committee has concerns about adopting a modified proportionate liability regime that would transfer to sophisticated plaintiffs the entire risk associated with the insolvency of one or more defendants. Notwithstanding the objections raised by the CICA to reallocating an insolvent defendant’s share amongst the remaining solvent defendants, the Committee believes it is reasonable to look at establishing a "half-way house" between transferring the entire risk to a sophisticated plaintiff (proportionate liability) and having the solvent defendants bear the entire risk (joint and several liability). The formula outlined in the U.S. Private Securities Litigation Reform Act of 1995 is such a "half-way house".

Accountants have repeatedly argued that joint and several liability is unfair because, as peripheral defendants with responsibility for only a small portion of a plaintiff’s loss, they often have to shoulder the entire burden of compensating a plaintiff when other defendants are insolvent. Reallocating an insolvent defendant’s share amongst the remaining defendants would require peripheral defendants to pay more; however, they would pay much less than primary defendants because the reallocation would be based upon each defendant’s percentage of fault.

Recommendation

The Committee recommends that the federal government undertake consultations with interested individuals and organizations to determine how the risk associated with the insolvency or unavailability of a defendant should be shared between sophisticated plaintiffs and the remaining solvent defendants. The Committee believes that the reallocation formula used in the U.S. Private Securities Litigation Reform Act of 1995 is a reasonable approach and suggests that the government use this formula as the starting point for the consultations.

4. Scope of the Modified Proportionate Liability Proposal

The Committee’s review of professional liability began with submissions from the CICA on the impact of joint and several liability on auditors. The CICA requested that certain federal laws be amended to provide proportionate liability in relation to claims arising from the provision of defective financial information.

The CBA urged the Committee to broaden the scope of its review to include all professionals and professional services under the relevant statutes. Limiting any amendments to the provision of financial information would, in the view of the CBA, be a "band-aid" solution that could lead to poorly crafted law. However, the Committee has not received any explanation of the effect of a broader application of a modified proportionate liability regime. In addition, there is little or no evidence of a liability crisis extending beyond the scope of the provision of financial information.

The Committee sees merit in extending modified proportionate liability to claims involving professionals and professional services under the relevant statutes, but it has not heard sufficient evidence to make a decision on this matter. The Committee is confident that limiting modified proportionate liability to claims arising from the provision of financial information would pass constitutional muster, but remains concerned that expanding the proposed regime to claims involving all professionals and professional services would raise constitutional law concerns.

 

Recommendations

The Committee recommends that, as a first step in dealing with the issue of professional liability, the proposed modified proportionate liability regime apply only to claims for economic (financial) loss arising from any error, omission, statement or misstatement in financial statements issued under the Canada Business Corporations Act, the Bank Act, the Insurance Companies Act, the Trust and Loan Companies Act, the Cooperative Credit Associations Act and the Canada Cooperatives Associations Act. This would encompass claims against persons who may be involved in the preparation of financial statements such as accountants, appraisers, lawyers and corporate directors.

The Committee recognizes the complexity of including within the scope of the proposed modified proportionate liability regime claims for economic (financial) loss arising from the provision of professional services in situations other than those involving the preparation of financial information and recommends that, at a future date, the federal government examine the issue of professional liability under the Canada Business Corporations Act, the Bank Act, the Insurance Companies Act, the Trust and Loan Companies Act, the Cooperative Credit Associations Act and the Canada Cooperatives Associations Act

Federal and Provincial Jurisdiction

Because most aspects of civil responsibility fall within provincial jurisdiction, it is incumbent upon the Committee to consider whether amending selected federal statutes to implement a modified proportionate liability regime could be effective without companion amendments to provincial corporate and securities laws and statutes imposing joint and several liability. Although such corresponding amendments at the provincial level would be desirable, the Committee recognizes that it could be years before the provinces might take action in this regard.

It is the Committee’s view that that law reform can be implemented at the federal level without corresponding provincial amendments. The witnesses supported this view. Although limited in scope, federal amendments would provide an important change to the legal environment. The CBA pointed out that:

Amending a given federal statute to indicate the manner of liability (be it proportionate or otherwise) would effectively limit liability for the defendants, notwithstanding the provisions of provincial statutes or Rules of Civil Procedure which impose joint and several liability on defendants to an action. The limitation on the plaintiff’s right to recovery would be applicable only to the statutory responsibilities created by the federal government, and not to provincial law or common law responsibilities which might also arise in the context of the statute at hand. Further, tort liability outside the statutory provisions would continue to be governed by provincial Negligence Acts.(68)

The Committee strongly believes that the federal government should take a leadership role in amending the CBCA and the other statutes referred to in the report, noting that the federal government did so when it enacted the Canada Business Corporations Act in the 1970s. The CBCA was model legislation that many of the provinces followed when modernizing their corporate law statutes. The Committee believes that federal amendments to implement a modified proportionate liability regime would stand as models that the provinces could follow when changing their liability regimes.

The Committee recognizes that federal action in this area would appear to be piecemeal law reform. However, it would address the largest claims in dollar value and size since most large corporations and financial institutions in Canada are incorporated at the federal level. The Committee also acknowledges that federal action would result in some differences in application of the law, however, it does not believe that these differences would bring the legal system into disrepute. The Committee notes that the federal and provincial regimes are not harmonized at the present time; for example, the Negligence Act of British Columbia imposes proportionate liability in situations where there is contributory negligence by a plaintiff.(69)

The Committee also notes that the implementation of a modified proportionate liability regime at the federal level in the United States was limited to private securities litigation. The fact that the application was statute-specific and limited in scope did not deter legislators in that country from proceeding with reform.

Top of document