C H A P T E R 1 1

FOLLOWING AND
TR ACING INTO NEW
FORMS OF COLLATER AL

A. OVERVIEW

1) Following and Tracing

A secured party may assert a personal or proprietary claim based upon
the secured party’s security interest in the collateral.1 Before being in a
position to do so, the secured party must demonstrate that the property
in question was indeed subject to the security interest. There are two
distinct processes that may precede the assertion of a claim by a secured
party. The irst involves following the collateral. The second involves
tracing into the proceeds of the collateral.
The objective of following is to locate and identify the collateral.
To enforce a security interest against an asset, the secured party must
show that the asset is the same asset that was given to the secured
party as collateral. Tracing does not seek to identify the original collat-
eral. Instead, it looks to new property that was obtained as a result of
a dealing with the original collateral. This new property is viewed as a
substitute for the original collateral, and the secured party is thereby
permitted to claim a security interest in it.
It may be necessary to conduct an exercise in both tracing and fol-
lowing. This is illustrated in the following scenario.

1 See Chapter 12, Section A(1).

609
610 PERSONAL PROPERTY SECURITY LAW

SP holds a security interest in D’s boat. D sells the boat and takes a motorcycle
as part of the price. D then sells the motorcycle to B.
SP may claim a security interest in the motorcycle as proceeds arising
out of the dealing with the original collateral. This step involves tracing.
Having done so, SP may then attempt to demonstrate that the motor-
cycle in the hands of B is the same one that earlier had been received by
D. This step involves following. If the tracing and following exercises
are successful, SP may assert a security interest in the motorcycle in the
hands of B. This does not mean that SP will necessarily succeed against
B. This will be determined by the priority rules of the PPSA. But if SP
cannot show a basis for claiming a security interest in the motorcycle
in B’s possession, SP will not even get out of the starting gate.
The PPSA expressly recognizes the distinction between following
collateral and tracing proceeds. It provides that where collateral is dealt
with so as to give rise to proceeds, the security interest continues in the
collateral and also extends to the proceeds.2 In order to assert a security
interest in the property that has been transferred to a third party, it is
necessary for the secured party to demonstrate that this property was
subject to the security interest. This is an exercise in following collat-
eral. If the transaction results in the receipt of assets by way of exchange,
the security interest will continue in the proceeds. This is an exercise
in tracing proceeds.

2) Following Collateral into New Products

A property right is a right in relation to a thing. If the subject matter of
the property right is destroyed, the property right comes to an end. A
security interest is a kind of property interest, and therefore physical
destruction of the collateral will result in a loss of the security interest.
However, matters are not always so clear-cut. The collateral may have
been transformed in some fundamental way, and the question will arise
whether its identity as a separate thing can still be said to exist. This
may occur where goods are processed or manufactured into a new prod-
uct, or where goods are attached to other goods or to land so as to lose
their separate identity.
Under the common law, an interest in property can be lost by speci-
ication (the transformation of the goods into a new thing), by accession
(becoming attached to other goods), or by becoming a ixture (becom-
ing attached to land). A property interest is not lost upon the goods
being mixed with other goods of the same description. In this case, the

2 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 28(1); (NL, NS) s 29(1); O s 25(1); Y s 26(1).
 Following and Tracing into New Forms of Collateral 611

owner obtained an interest in the mixture that is proportionate to the

owner’s contribution to the mixture.3
A security interest under the PPSA provides the secured party with a
more robust right than is available under the common law. The security
interest is not as easily lost upon a transformation of the goods.4 If the
goods become an accession or a ixture, the secured party will typically
have the right to remove it. In the case of a loss of identity due to the
goods being manufactured or processed, the security interest is not lost
but instead continues in the inished product. Because the secured party
has a greater ability to assert the security interest in the ixture, acces-
sion, or new product, it becomes necessary to provide an expanded set
of priority rules in the PPSA to determine the outcome of the priority
disputes that will inevitably arise.

3) Tracing Value into New Assets

Tracing permits “one asset to stand in place of another for certain legal
purposes.”5 In the context of a secured transaction, a secured party
may seek to claim that assets that were obtained by a debtor upon the
disposition of the secured party’s collateral are subject to the security
interest. Before the PPSA, there was considerable uncertainty concern-
ing the ability of a secured party to claim a security interest in proceeds.6
The PPSA eliminates any doubt on this matter by expressly providing
that a security interest in original collateral extends to any proceeds of
disposition.

3 There is uncertainty as to whether this interest involves co-ownership of the bulk

or if it involves recognition of a continuing ownership in the contribution. See
P Birks, “Mixtures” in N Palmer & E McKendrick, eds, Interests in Goods, 2d ed
(London: LLP Reference Publishing, 1998) at 461 (advocating co-ownership);
L Smith, The Law of Tracing (Oxford: Clarendon Press, 1997) at 75–77 (advocating
continuing ownership). The rules difer if one of the contributors is a wrongdoer.
4 The PPSA provisions might equally be conceptualized as involving the creation
of a new property right in the transformed asset rather than as a continuation of
the original right. However, as the PPSA provides a set of rules that govern prior-
ity competitions over the transformed asset, it is unnecessary to determine if the
property right is conceptually a new right or a continuation of the original right.
5 Smith, above note 3 at 17.
6 A secured party’s claim to proceeds was recognized in respect of a Bank Act sec-
urity by the Supreme Court of Canada in Flintoft v Royal Bank of Canada, [1964]
SCR 631. Although there was uncertainty over whether the claim depended upon
the existence of an express trusts proceeds clause in the security agreement, or if
it arose because the Bank Act is said to efectively vest “ownership” of the goods
in the bank, the Saskatchewan Court of Appeal in Royal Bank of Canada v United
Grain Growers Ltd, 2001 SKCA 42 has since adopted the ownership approach.
612 PERSONAL PROPERTY SECURITY LAW

In some cases, the process can be quite simple. The debtor sells a
truck and receives a cheque and an automobile in exchange. So long
as the debtor is still in possession of the cheque and the automobile,
tracing is simple and uncontroversial. Matters become more compli-
cated if the cheque is deposited in an active bank account and mixed
with other funds. It is no longer factually possible to show how much
of the funds in the account are proceeds. Here, the tracing exercise
operates through the application of a number of legal presumptions
that tell us the extent to which the proceeds of the original collateral
remain in the account.
The tracing claim is diferent from a claim based on following the
original asset. Tracing is premised on the idea of an exchange or sub-
stitution, whereas following is not. In the case of a manufacturing pro-
cess, it might be thought that this involves a dealing with the original
collateral (the raw product) and that this gives rise to proceeds (the
inished product). This fails to properly distinguish between following
and tracing, and results in an unjustiied overlap between the PPSA
provisions that deal with proceeds and those that deal with commin-
gled and processed goods. The secured party must demonstrate that
the collateral, rather than some other property, was used to form the
mixture or the new product. This requires the secured party to follow
the original asset to show that it was so used. This is conceptually dif-
ferent from tracing, which involves an exchange of one asset for another.

4) Tracing and Identifying Proceeds

When an asset is dealt with by a debtor, the debtor sometimes obtains
a straight substitution or swap of one asset for another. This is some-
times referred to as a clean substitution. In other cases, the asset may be
mixed with property or value belonging to another person. The classic
example of this concerns money that is deposited into an active bank
account into which funds of others have been deposited. This is some-
times referred to as a mixed substitution. In such a case, it is often
necessary to apply a legal presumption to determine how much of a
person’s value survives in the mixture, because it is no longer possible
to factually identify the substituted asset. Under the common law and
equity, a claim to the substituted asset, whether or not there is a mixture
involved, is referred to as a tracing claim.
The PPSA adopts diferent terminology to distinguish between clean
substitutions and mixed substitutions. The Act draws a distinction
between identiiable and traceable proceeds. Identiiable proceeds are pro-
ceeds in which it is possible to factually identify the proceeds. Traceable
 Following and Tracing into New Forms of Collateral 613

proceeds are those involving a mixture where it is necessary to apply one

of the presumptive rules to determine how much of the secured party’s
value remains in the mixture of assets. A claim to the substituted asset
(the proceeds), whether or not there is a mixture involved, is referred to
as a proceeds claim. This PPSA terminology and usage is employed in the
balance of this chapter and the other chapters of this book.

B. PROCEEDS

1) Extension of the Security Interest to Proceeds

a) The Statutory Right to Proceeds
The PPSA provides that where collateral gives rise to proceeds, the sec-
urity interest extends to the proceeds.7 The right to a security interest
in proceeds therefore arises by operation of law and does not depend
upon the presence of a trust proceeds clause in the security agreement.
Despite this, the Ontario Court of Appeal in General Motors Acceptance
Corp of Canada Ltd v Bank of Nova Scotia8 indicated that a trust proceeds
clause is needed in order for a secured party to obtain the strongest
claim to proceeds. The court held that the debtor must owe a iduciary
obligation to the secured party to entitle the secured party to invoke
the equitable tracing rules that would permit tracing into a mixed fund.
There are two serious diiculties with this position. First, the view
that a iduciary obligation is needed in order to invoke the equitable
tracing principles,9 or indeed that there is any diference between the
tracing principles of equity and those of the common law, has been
challenged.10 Second, even if it were accepted that a iduciary obligation
is required in order to invoke the equitable tracing principles, there is
no reason to think that this requirement has been incorporated into the
PPSA. The Act provides that a secured party’s security interest continues

7 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 28(1); (NL, NS) s 29(1); O s 25(1); Y s 26(1).
8 (1986), 55 OR (2d) 438 (CA).
9 See Smith, above note 3 at 120–32; R Calnan, Proprietary Rights and Insolvency
(Oxford: Oxford University Press, 2010) at 314. This suggestion is even more
surprising given the fact that Canadian courts have rejected the idea that it is
necessary to establish a iduciary obligation as a precondition for tracing in
equity. See P Maddaugh & J McCamus, The Law of Restitution, 2d ed (Aurora:
Canada Law Book, 2004) at 181–87.
10 FC Jones & Sons v Jones, [1996] 4 All ER 721 (CA). And see Smith, above note 3
at 162–74; P Birks, “The Necessity of a Unitary Law of Tracing” in R Cranston,
ed, Making Commercial Law (Oxford: Clarendon Press, 1997). See also Grant v
Ste Marie Estate, 2005 ABQB 35.
614 PERSONAL PROPERTY SECURITY LAW

in any identiiable or traceable personal property that arises out of a

dealing with the original collateral. The reference to traceable personal
property was simply intended to bring into operation the rules and prin-
ciples that permit a claim to be made when property or funds are mixed.
The Saskatchewan Court of Appeal has held that this creates a statu-
tory right to claim proceeds and that this right is not subject to any of
the limitations or preconditions that might have been imposed by the
common law or equity.11 This position has since been codiied. All the
Acts, other than the Ontario and Yukon Acts, provide that proceeds are
traceable whether or not there is a iduciary relationship between the
secured party and the debtor.12
There are signs that the Ontario Court of Appeal may reconsider its
position. The Ontario Act was amended after the General Motors Accept-
ance Corp decision by the removal of the words “identiiable or traceable”
from the substantive provisions and their insertion into the deinition
of proceeds. In Toronto-Dominion Bank v Co-Pac Ltd,13 the court raised
the possibility that “this change signals a legislative attempt to ensure
that full tracing rights including those based on equitable principles are
not preconditioned on the existence of a iduciary relationship between
creditor and debtor.”14 Although it is highly doubtful that the amend-
ment was intended to achieve this result, it gives rise to some hope that
the court will revisit its decision.15
The parties to a security agreement may by contract limit or elim-
inate the right to proceeds that a secured party would otherwise enjoy.
In Credit Suisse Canada v 1133 Yonge Street Holdings Ltd,16 a security
interest was given in all existing and future leases and rents arising in
connection with commercial premises that had been inanced by the
secured party. The agreement provided that until notiied to the con-
trary, the debtor “shall be entitled to” all rents and other amounts due
under the leases. The court interpreted this contractual language as
giving the debtor the right to treat the rental payments as the debtor’s

11 Transamerica Commercial Finance Corp, Canada v Royal Bank of Canada (1990),

70 DLR (4th) 627 (Sask CA) [Transamerica Commercial]. See also Indian Head
Credit Union v Andrew, [1993] 1 WWR 673 (Sask CA); Flexi-Coil Ltd v Kindersley
District Credit Union Ltd (1993), 107 DLR (4th) 129 (Sask CA) [Flexi-Coil].
12 PPSA A s 1(6); (BC, NWT, Nu) s 1(4); (M, NB, PEI) s 2(3); (NL, NS) s 3(3); S s 2(4).
13 (1999), 178 DLR (4th) 149 (Ont CA).
14 Ibid at para 25.
15 See also Credit Suisse Canada v 1133 Yonge Street Holdings (1996), 28 OR (3d)
670 (Gen Div), var’d on other grounds (1998), 41 OR (3d) 632 (CA) in which
Day J expressed the view that the position of the Saskatchewan Court of Appeal
was to be preferred.
16 Ibid, cited to CA.
 Following and Tracing into New Forms of Collateral 615

own property until notiied to the contrary. In efect, the secured party
had contracted out of the right to the proceeds prior to notice.
A distinction must be drawn between cases where the secured party
contracts out of the right to proceeds and instances where a secured
party has merely authorized the debtor to deal with the proceeds. In
the latter case, the secured party will have a security interest in the
proceeds but will take subject to any transaction that the secured party
authorized. Thus, a secured party who has inanced the new vehicle
inventory of a car dealership will have a security interest in any trade-in
vehicles but will generally authorize the debtor to sell the trade-in vehi-
cles. The secured party will therefore be able to claim a security interest
in the trade-in vehicles that are on the lot but will not have any claim to
the vehicles sold by the debtor to customers. The same analysis should
apply in principle where the proceeds take the form of funds in a bank
account. If the secured party permits the debtor to deposit proceeds in
the debtor’s operating account and authorizes the debtor to use the funds
to pay operating expenses, the secured party has the right to claim the
remaining funds as proceeds (to the extent that they can be traced) but
has no claim against any party who obtained payment from this fund.17

b) Advantages of a Proceeds Claim

There are two primary reasons why a secured party may seek to claim
proceeds under the PPSA. The irst concerns the extension of the sec-
urity interest to assets that were not taken as collateral pursuant to
the terms of the security agreement. Suppose that a secured party
takes a security interest in the debtor’s backhoe and in no other col-
lateral. The debtor later exchanges the backhoe for a bulldozer. The
secured party may assert a security interest in respect of the bulldozer
as proceeds, despite the fact that the security agreement did not give
the secured party a security interest in it as original collateral. If the
secured party had taken a security interest in all the debtor’s present
and after-acquired personal property, the secured party would not need
to go to the bother of showing that the bulldozer was proceeds that
arose from a disposition of the backhoe. The secured party can claim
a security interest in the bulldozer as original collateral in the form of
after-acquired personal property.

17 The parties who acquire an interest in the proceeds may, of course, have an
additional basis for claiming priority. The buyers of trade-ins will likely be able
to claim the beneit of the ordinary course buyer rule. Creditors who are paid
by cash or cheque will be able to rely on priority rules that protect holders of
negotiable property. See Chapter 7.
616 PERSONAL PROPERTY SECURITY LAW

The second reason a secured party may seek to claim proceeds is

that the claim may permit the secured party to assert a special status in
respect of the proceeds. This is most commonly observed in respect of
a secured party who has been given a purchase money security interest
in the collateral. The PPSA provides that a holder of a purchase money
security interest in collateral or its proceeds has priority over any other
security interest given by the same debtor.18 A secured party may there-
fore assert a claim to proceeds in order to obtain an enhanced priority
status in relation to them. In such a case, the secured party may want
to assert a proceeds claim even though the security agreement gives the
secured party a security interest in that property as original collateral.
Suppose that a secured party has a purchase money security interest in
a backhoe, and an ordinary security interest in “all present and after-
acquired construction equipment.” Although the security agreement
gives the secured party a security interest in the bulldozer, this does
not allow the secured party to claim priority over a competing secured
party who registered irst. In order to succeed, the secured party must
show that the purchase money security interest status extends to the
bulldozer. The secured party does so by demonstrating that the bull-
dozer is proceeds, that is, by showing that the bulldozer was obtained
by the debtor as a result of a dealing with the backhoe.
The PPSA makes it clear that the superpriority of a purchase money
security interest in original collateral extends as well to any proceeds.19
Other statutes that deal with security interests may be less clear on this
point. For example, provincial legislation may provide that a landlord’s
right of distress or an employee’s claim for unpaid wages has priority over
a security interest other than a purchase money security interest. The
statute therefore may not make it clear whether the priority of the pur-
chase money security interest also extends to the proceeds.20 Although
the outcome in each particular case will depend on the construction
of the individual statute, the courts have been inclined to construe the
priority status awarded by these statutes as applying to proceeds as well.21
18 See, for example, PPSA (A, M, NWT, Nu, S) s 34(2); (BC, NB, PEI) s 34(1);
(NL, NS) s 35(1); O s 33(2); Y s 33(1).
19 PPSA (A, M, NWT, Nu, S) ss 34(2)–(3); (BC, NB, PEI) ss 34(1)–(2); (NL, NS)
ss 35(1)–(2); (O, Y) ss 33(1)–(2).
20 Compare Employment Standards Code, RSA 2000, c E-9, s 109(4) (priority statu-
tory security interest in favour of unpaid employees does not apply to a pur-
chase money security interest, but no mention of the status of proceeds) with
Civil Enforcement Act, RSA 2000, c C-15, s 104(c)(iii) (right of distress subordin-
ate to a purchase money security interest in original collateral or its proceeds).
21 See, for example, Agricultural Credit Corp of Saskatchewan v Pettyjohn (1991), 79
DLR (4th) 22 (Sask CA) [Pettyjohn]. Saskatchewan farm protection legislation
provides that farm assets are exempt against a security interest other than a
 Following and Tracing into New Forms of Collateral 617

c) Enforcement Against Both the Original Collateral and the

Proceeds
The PPSA provides that a security interest continues in the original
collateral and also extends to any proceeds that arise as a result of a
dealing with the original collateral.22 This permits a secured party to
claim a security interest in both the original collateral and proceeds.
This represents a departure from the general approach of the common
law, which typically requires a claimant to make an election between
a claim to the original property and a claim to the proceeds.23 In many
instances, the secured party will have authorized the debtor to deal
with the original collateral. Where this occurs, the buyer will take free
of the security interest and the secured party will only be able to claim
a security interest in the proceeds. The ability to go against both the
proceeds and the original collateral is only available where the debtor
has acted wrongfully in disposing of the original collateral.
Unlike the Ontario and Yukon Acts, the Acts of the other jurisdic-
tions impose a limitation on the ability of a secured party to claim a
security interest in both the original collateral and the proceeds. Where
a secured party enforces a security interest against both the original
collateral and the proceeds, the amount secured by the security interest
is limited to the market value of the collateral at the date of the dealing.24
The operation of this provision is illustrated in the following scenario.
SP is given a security interest in D’s crane to secure a loan. D sells the crane
to B for $50,000 under circumstances such that SP’s security interest in the
crane is not lost. B pays for the crane by giving D a cheque for $20,000 and a
bulldozer in trade. Three years later, the debtor defaults. The crane presently
has a value of $35,000 while the bulldozer has a value of $25,000.
SP may claim a security interest in both the crane and the bulldozer.
However, SP may not recover more than $50,000 (the market value of
the crane at the time of the sale by D to B).

purchase money security interest. The court held that the exception to the
exemption extended also to proceeds of a purchase money security interest.
And see Canadian Imperial Bank of Commerce v Marathon Realty Co Ltd, [1987]
5 WWR 236 (Sask CA) in which the court assumed without speciically so stat-
ing that the priority aforded by The Landlord and Tenant Act, RSS 1978, c L-6,
s 25 to a purchase money security interest over a landlord’s right of distress
extended to a claim to the proceeds.
22 This change in the law was clearly intended. The language used is substantially
the same as that of the Uniform Commercial Code. The Oicial Comment to 1978
UCC § 9-306 (Comment 3) indicates that “the secured party may claim both
proceeds and collateral, but may of course have only one satisfaction.”
23 See Smith, above note 3 at 380–83.
24 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 28(1); (NL, NS) s 29(1); O s 25(1); Y s 26(1).
618 PERSONAL PROPERTY SECURITY LAW

The Ontario and Yukon Acts do not contain a similar limitation.

Despite this absence, the Ontario Superior Court of Justice in Bank of
Nova Scotia v IPS Invoice Payment System Corporations25 was prepared to
read a similar limitation into the Ontario Act. This seems correct in prin-
ciple. Although a secured party has the right to claim both the original
collateral and the proceeds where there has been a wrongful dealing by
the debtor,26 this was intended to protect the secured party against a post-
disposition deterioration in the value of the original collateral or the pro-
ceeds and was not intended to give an unexpected windfall to the secured
party at the expense of the debtor or the unsecured creditors of the debtor.
The court in IPS Invoice applied the limitation on recovery to a case
in which the debtor voluntarily paid the proceeds to the secured party
in reduction of the secured obligation. The authors are of the view that
this conclusion cannot be supported by the language of the provision or
its underlying objective. The provision imposes a limitation on recovery
when a secured party enforces the security interest against both the
original collateral and its proceeds. Enforcement is widely understood
to mean the initiation of a default remedy by the secured party. The pro-
vision can therefore have no application to a voluntary payment by the
debtor. To extend the limitation to such voluntary payments places the
secured party in an untenable position, as it becomes very diicult for
the secured party to know if the security interest can be enforced against
the full value of the original collateral upon a default by the debtor.27

2) The Deinition of Proceeds

Proceeds are deined in the PPSA to mean identiiable or traceable per-
sonal property28 derived directly or indirectly from any dealing with
collateral or proceeds of collateral.29 The Acts of all jurisdictions
except Ontario and Yukon include an additional requirement that the
debtor must acquire an interest in the proceeds. All the Acts provide

25 2010 ONSC 2101 [IPS Invoice]. See also Toronto-Dominion Bank v Kerwin Capital
Corp, 2013 SKQB 376.
26 If the secured party has authorized the dealing, the secured party will no longer
be able to assert a security interest in the original collateral.
27 See RJ Wood, “Accounts, Proceeds and Conversion: Bank of Nova Scotia v IPS
Invoice Payment System Corporations” (2011) 26 BFLR 359.
28 The deinition of proceeds therefore does not cover real property — whether a
secured party has a right to proceeds that take the form of real property there-
fore depends on other law. The registration requirements of real estate law
would defeat a proceeds right as against third parties, but not necessarily as
against the debtor.
29 PPSA (A, BC, NWT, Nu, O, Y) s 1(1); (M, NB, PEI) s 1; (NL, NS) s 2; S s 2(1).
 Following and Tracing into New Forms of Collateral 619

that the deinition of proceeds also includes a payment as indemnity

or compensation for loss or damage to the collateral or proceeds. They
also provide that proceeds include a payment made in total or partial
discharge or redemption of an intangible, chattel paper, an instrument,
or investment property and rights arising out of, or property collected
on, or distributed on account of, collateral that is investment property.
Although the deinition may appear to be relatively simple and straight-
forward, it contains within it several important messages that directly
afect the nature and scope of a secured party’s claim to proceeds.

a) Application to Later-Generation Proceeds

Proceeds are deined as personal property derived directly or indirectly
from any dealing with collateral or the proceeds of the collateral. The
deinition therefore covers second-generation and later-generation pro-
ceeds.30 This is illustrated in the following scenario.
SP takes a security interest in D’s truck. D sells the truck to B and takes an
automobile in trade. D later sells the automobile to C and takes a snowmobile
in trade.
The original collateral is the truck. It was sold to B, giving rise to pro-
ceeds in the form of an automobile (irst-generation proceeds). When
these proceeds are sold to C, the transaction gives rise to further pro-
ceeds in the form of a snowmobile (second-generation proceeds).

b) The Debtor’s Interest Requirement

The deinition of proceeds in the PPSA, except for the Ontario and
Yukon Acts, contains a further limitation. It provides that property that
would otherwise qualify as proceeds does not fall within the deinition
of proceeds unless the debtor acquires an interest in the property.31 The
operation of this limitation is illustrated in the following scenario.
SP takes a security interest in a drill press. D sells the drill press to B1. B1 is
unable to assert any of the buyer-priority rules, so that SP has the right to

30 See Flexi-Coil, above note 11.

31 For a good example of the operation of this limitation, see Cooper v Bar XH Sales
Inc, 2011 ABQB 235 in which insurance monies arising from the crash of an
aircraft fell outside the deinition of proceeds upon the funds being deposited
into the bank account of a person who was not the debtor. Although the secured
party is unable to claim a security interest in the bank account, the secured
party will be able to recover the value received in a personal action against the
third party unless the third party can show that the funds were obtained free
of the secured party’s security interest. Unfortunately, this aspect was not con-
sidered by the court. See Chapter 12, Section M(3).
620 PERSONAL PROPERTY SECURITY LAW

enforce the security interest against B1. B1 later sells the drill press to B2 and
receives a router in trade.
SP does not have a security interest in the router in the hands of B1.
Although the router was derived from a dealing with the original collat-
eral, the router does not fall within the deinition of proceeds because
D never acquired an interest in it.
There are two reasons for this limitation. The irst is the risk of the
geometric multiplication of proceeds claims that could otherwise arise.
Suppose that a debtor sells an asset that is subject to a security interest
to B1. B1 sells it to B2, who in turn sells it to B3, who then sells it to B4.
In addition to a claim to the original collateral, the secured party, in the
absence of this limitation, would be entitled to claim the proceeds in the
hands of D, B1, B2, and B3. The picture is complicated further because D,
B1, B2, and B3 may have dealt with these proceeds, giving rise to further
proceeds. Since the secured party is not required to make an election
between the original collateral and the proceeds, the security interest
could easily continue into an astonishing collection of assets.
The second reason has to do with the relative strength of the secured
party’s claim to the proceeds.32 A claimant who is seeking to assert equit-
able property rights through tracing is subject to a serious limitation. The
tracing claim will be defeated by a bona ide purchaser who acquires the
legal title to the asset without notice. The same does not hold true in
respect of a secured party who asserts a security interest in proceeds. The
claim to proceeds enjoys much the same priority status as that pertaining
to the original collateral. The PPSA identiies certain circumstances
under which buyers of goods or purchasers of negotiable assets obtain
priority over a secured party. But these rules are vastly more limited
than equity’s bona ide purchaser rule. Moreover, the registry system will
generally not provide a means through which the purchaser can discover
the existence of the proceeds claim that is asserted against a person other
than the debtor. In the scenario above, B2 would conduct a search of the
registry using B1’s name as the search criteria. This would not disclose
SP’s security interest, since this was registered against D’s name.
A similar limitation on the deinition of proceeds is not found in
the Ontario or Yukon Acts. In the past, the other Acts also did not con-
tain this limitation. The Saskatchewan Court of Appeal in Flexi-Coil
Ltd v Kindersley District Credit Union Ltd 33 read it into the deinition
of proceeds in the former Saskatchewan Act. Although some Ontario

32 See L Smith, “Tracing the Proceeds of Collateral under the PPSA: Flexi-Coil Ltd
v Kindersley District Credit Union Ltd” (1995) 25 Can Bus LJ 460 at 469–72.
33 Above note 11.
 Following and Tracing into New Forms of Collateral 621

commentators have argued that a similar limitation should not be read

into the Ontario Act,34 the authors are of the opinion that the geometric
multiplication of proceeds claims and the enhanced priority status of a
secured party’s claim to proceeds are convincing reasons for adopting
a uniform approach to this problem across all the PPSA jurisdictions.
The Ontario decision in IPS Invoice35 involved a dispute between a
bank that had been granted a security interest in accounts and a sub-
sequent absolute transfer of accounts to a factor. The court held that
the deinition of proceeds in the Ontario Act covered both the funds
paid by the factor to the debtor and the amounts obtained by the factor
upon collection of the accounts.36 The court appeared to think that a
characterization of the funds collected by the factor as proceeds was
necessary in order to aford a remedy to the secured party. In fact, this
step is wholly unnecessary. The factor wrongfully collected accounts
in respect of which the secured party had a higher-ranking claim, and
the secured party had a personal action against the factor for the value
of the accounts.37

c) The Requirement of a Dealing

In order to fall within the deinition of proceeds, the personal property
in which a proceeds security interest is claimed must arise directly or
indirectly from a dealing with the collateral. This clearly encompasses
property that is obtained as a result of an exchange. If collateral is sold
and a trade-in and a cheque are received by way of payment, the trade-in
and the cheque fall within the deinition. There are other cases where
the property does not arise out of an exchange, and it will become
necessary to determine if this property also can be considered to result
from a dealing.
One might begin by iltering out the more extreme examples. Con-
sider the case of a secured party who has been granted a security inter-
est in a truck that the debtor uses to generate revenue through the
transportation of goods. It might be argued that the use of the truck to
generate income should be considered to be a “dealing,” with the result

34 JS Ziegel & DL Denomme, The Ontario Personal Property Security Act: Commen-
tary and Analysis, 2d ed (Aurora: Canada Law Book, 1994) at 198. But see JS
Ziegel, DL Denomme & A Duggan, The Ontario Personal Property Security Act:
Commentary and Analysis, 3d ed (Toronto: LexisNexis, 2020) at 228–29.
35 IPS Invoice, above note 25.
36 Only the former would fall within the deinition of proceeds in the jurisdictions
that impose a requirement that the debtor acquires an interest in the proceeds.
37 See Chapter 12, Section M(3). And see RJ Wood, “Accounts, Proceeds and Con-
version: Bank of Nova Scotia v IPS Invoice Payment System Corporations,” above
note 27.
622 PERSONAL PROPERTY SECURITY LAW

that the income produced will be considered to be proceeds. This argu-

ment should be rejected. Courts in Canada have held that the proceeds
must be derived from a sale or other disposition of the collateral. The
Prince Edward Island Court of Appeal in McCain Produce Inc v PEI Lend-
ing Agency38 held that a Canadian Agricultural Stabilization Program
(CAIS) payment, which provides protection to farmers from income
luctuations due to external risks, cannot be considered proceeds in
relation to a security interest in crops as the payments are not derived
from a sale, exchange, or other disposition of the crops.
The Ontario Court of Appeal in General Motors Acceptance Corp of
Canada Ltd v Cardinali39 also recognized that in order to fall within the
deinition there must be an exchange, although the exchange does not
necessarily have to result from a voluntary or consensual transaction.
In that case, a secured party reserved a security interest in a boat sold to
the debtor, but the debtor refused to accept it because of defects in the
boat. The seller then tendered a diferent boat to the debtor. The trans-
action did not involve an exchange, since the buyer never acquired an
interest in the original collateral. The situation would have been difer-
ent if the buyer had acquired the boat and later exchanged it for another.
The same analysis should hold true for fruits and products gen-
erated by the original collateral or its proceeds. This would include
such things as the young of animals, wool taken from sheep, or apples
harvested from trees. These should not be regarded as proceeds as they
do not involve an exchange.40 Nonetheless, the Saskatchewan Court of
Appeal concluded that the ofspring of animals could fall within the
deinition of proceeds.41 The deinition of proceeds in the Saskatch-
ewan legislation was subsequently amended to provide that it “does not
include animals merely because they are ofspring of animals that are
collateral.”42 Even in the absence of this amendment, the authors are of
the view that the fruit and products of the original collateral or its pro-
ceeds should not fall within the deinition of proceeds except in respect
of the wider conception of proceeds used in relation to investment prop-
erty. A subsequent Saskatchewan decision endorsed this view and held

38 2010 PECA 4.
39 (2000), 185 DLR (4th) 141 (Ont CA), referring to Ziegel & Denomme, above
note 34 at 179.
40 McCollum v Thompson, [2016] NZHC 28 at para 46 held that proceeds relates to
property “produced by the process of sale or disposal rather than natural repro-
duction.” See also Waller v New Zealand Bloodstock Ltd, [2005] 3 NZLR 269, in
which the New Zealand Court of Appeal held that stud fees were derived from a
dealing with a stallion so as to fall within the deinition of proceeds.
41 Weiller & Williams Ltd v Ager (1992), 4 PPSAC (2d) 19 (Sask QB).
42 The legislation of the other jurisdictions does not contain a similar provision.
 Following and Tracing into New Forms of Collateral 623

that a security interest in fertilizers that are applied to a crop does not
extend to the crop as proceeds because of the absence of an exchange.43

d) The Identiiable or Traceable Requirement

In order to fall within the deinition of proceeds, the personal property
must be identiied or traceable. The Ontario Court of Appeal in General
Motors Acceptance Corp of Canada Ltd v Bank of Nova Scotia44 described
the diference between these two concepts as follows: “Proceeds are
identiiable when they continue to exist in their original form. They
are traceable if they are converted into a substituted form which can be
located and determined to be the substitution for the original proceeds.”
This passage is ambiguous. On one reading it seems to suggest that
a distinction is to be drawn between irst-generation proceeds (that is,
identiiable proceeds in their original form) and subsequent generations
of proceeds (traceable proceeds). Alternatively, the court may have been
intending to draw a distinction between a transaction that involves a
simple swap of one asset for another and a transaction in which the pro-
ceeds have changed form or are mixed with other assets such that the
tracing rules must be invoked. The deinition of proceeds in the PPSA
makes it clear that both irst-generation proceeds and second (or later)
generation proceeds can be either identiiable or traceable. This inter-
pretation has been embraced by the Saskatchewan Court of Appeal,45
which concluded that “identiiable” refers to the ability to point to the
particular property obtained by the debtor as a result of the dealing
with the collateral (or proceeds), while “traceable” refers to the situation
where the collateral is commingled with other property so that its iden-
tity is lost. Identiication of proceeds simply involves a factual inquiry.
All that is needed is that the secured party can point to particular assets
that were obtained as a result of the dealing. An automobile that is sub-
ject to a security interest might be sold in exchange for a trade-in and
a cheque. Both are irst-generation proceeds and both are identiiable.
The cheque might then be deposited in a bank account. At this point
a further issue of identiiability arises. If there were no other funds in
the bank account other than the cheque that was deposited, the bank
account would also be considered identiiable proceeds. But if the funds
from the deposited cheque became mixed with other funds in an active
account, it is no longer possible to identify the proceeds. Instead, one
must turn to the rules of tracing in order to determine how much of the
funds in the account should be considered to be proceeds.

43 Helgason v Prosoils Inc, 2021 SKQB 27.

44 Above note 8 at 442.
45 Transamerica Commercial, above note 11 at 85.
624 PERSONAL PROPERTY SECURITY LAW

3) The Tracing Rules

a) Are PPSA Tracing Rules Diferent from Conventional Tracing
Rules?
At one time it seems to have been generally accepted that there were
two diferent sets of tracing rules that had been developed by the courts:
common law tracing rules and equitable tracing rules. It was also gener-
ally accepted that the common law tracing rules were in many respects
inferior to the equitable tracing rules.46 More recently, there has been
a growing acceptance of the idea that this view was mistaken and that
there exists a unitary set of tracing rules.47 These judicially created
tracing rules will be referred to as the conventional tracing rules. Several
courts have commented that although the PPSA tracing rules incorpor-
ate many of the key features of the conventional tracing rules, this does
not mean that all their features must be incorporated into the context of
the PPSA.48 In Flexi-Coil Ltd v Kindersley District Credit Union Ltd,49 the
Saskatchewan Court of Appeal indicated that it would “use the common
law and equitable rules as their base, but, as far as possible, seek to found
solutions on the statute and its underlying policy.” It is therefore neces-
sary to determine how one goes about deciding which aspects of the
conventional tracing rules are appropriately included and which are not.
Part of the problem is terminological. Courts often have failed to dis-
tinguish the process of tracing from the process of claiming.50 Tracing
is about identifying a new asset that is acquired following a dealing
with the original asset. It is neither a right nor a remedy, but rather a
process. Claiming is diferent from tracing. It involves the assertion of
some legal right to the substituted asset. Once this diference is appreci-
ated, it becomes possible to quickly dispose of a number of troublesome
arguments. For example, it has been argued that the incorporation of
the tracing rules into the PPSA brings with it the equitable priority rules
that limit the ability of the claimant to assert a right in respect of the
traceable assets in the hands of a bona ide purchaser for value without
knowledge.51 This argument fails to understand the diference between
tracing and claiming. The tracing rules are used to identify property

46 The problem with the common law tracing rules was that it was thought that
the common law could not trace through a mixed fund. See, for example,
Banque Belge pour l’Étranger v Hambrouck, [1921] 1 KB 321 (CA).
47 Above note 10. See also Foskett v McKeon, [2001] 1 AC 102; UBG Builders Inc
(Re), 2014 ABQB 55.
48 Pettyjohn, above note 21.
49 Above note 11.
50 See Smith, above note 3 at 10–14.
51 See CFI Trust v Royal Bank of Canada, 2013 BCSC 1715 at para 275.
 Following and Tracing into New Forms of Collateral 625

in which there is so close and substantial a connection that it should

be viewed as a substitute for the original asset. Once this is done, it is
necessary to determine who has the better claim to the asset. In order to
make this determination, one looks to the priority rules of the PPSA and
not to the common law and equitable priority rules of property law.52
Problems may also be encountered as a result of confusion between
the process of tracing and an event that creates a property right. A trustee
who withdraws money in breach of trust may later deposit funds with
the intention of replacing the trust funds that were wrongfully with-
drawn. If this occurs, the funds so deposited will be impressed with a
trust.53 This has nothing at all to do with the law of tracing. The beneici-
ary’s funds are gone, and the substitute asset is in no way connected to
it. Rather, the beneiciary acquires an interest in the replacement funds
by virtue of a new express trust.54 As this is not a tracing rule, it is of no
relevance to the tracing of proceeds under the PPSA.
Once one is able to cut through these terminological diiculties, it
is apparent that the PPSA tracing rules are much closer to the conven-
tional tracing rules than was previously thought to be the case.

b) The Lowest Intermediate Balance Rule

The identiication or tracing of proceeds involves the search for trans-
actional links between the original collateral and the proceeds. Some-
times this process simply involves a substitution. In this case, the
inquiry is purely factual. It simply involves the identiication of the
proceeds that were obtained by the debtor. The process becomes more
complex when the transaction does not involve a simple substitution
of one asset for another, but instead involves a mixture of an asset with
other assets. This often occurs where the proceeds are deposited in an
account and mixed with funds that belong to the debtor. If the debtor
sells the collateral and deposits the proceeds in a bank account so that
they are “mixed” with the debtor’s own funds, the secured party will
have a security interest in the bank account that secures the value of the
proceeds that were deposited in the account. The problem arises when
there are subsequent withdrawals from the account. It then becomes
necessary to decide whose contribution to the mixture was withdrawn.
The common law provides a rule for the allocation of payments. A
debtor who owes more than one debt to a creditor might make a pay-
ment to a creditor. There needs to be some rule to determine which
debt is being paid. If neither the debtor nor the creditor speciies the

52 Flexi-Coil, above note 11.

53 James Roscoe (Bolton) Ltd v Winder, [1915] 1 Ch 62.
54 J Penner, The Law of Trusts, 2d ed (London: Butterworths, 2000) at 372.
626 PERSONAL PROPERTY SECURITY LAW

debt against which the payment is to be allocated, a “irst-in, irst-out”

rule is applied. A bank account is regarded as a series of debts that
arise each time the customer deposits money into the account. When
the customer withdraws money, a irst-in, irst-out rule is also applied.
Each withdrawal of funds is presumed to extinguish the earliest debts.
This is known as the rule in Clayton’s Case.55
Although this rule is used to allocate payments as between the bank
and the customer, the rule is not applied where the customer’s funds are
mixed with those belonging to another. Instead, the debtor is presumed
to spend the debtor’s own funds irst.56 This rule is said to be justiied
on the theory that the debtor should be subject to a presumption of
honesty.57 This justiication does not necessarily apply in the case of a
secured transaction. The secured party may have authorized the sale of
the original collateral and permitted the debtor to deposit the proceeds
into the debtor’s bank account. Unlike a trustee who mixes trust prop-
erty with the trustee’s own property in breach of trust, the debtor may
have been acting lawfully and with the authorization of the secured
party. Nevertheless, the presumption that a person withdraws their own
share irst is appropriately applied in cases where the mixture has been
authorized.58 It is therefore appropriate to apply this presumption to a
secured transaction whether or not the secured party has authorized
the sale or permitted the mixing of the funds.
If a withdrawal exceeds the value of the debtor’s funds in the
account, the excess must necessarily come out of the traceable proceeds
remaining in the account. The debtor’s funds in the bank account will
have been exhausted, and all remaining amounts will be attributable
to the proceeds of the security interest. A subsequent deposit of funds
belonging to the debtor will not have the efect of resurrecting the pre-
vious proceeds balance. This is known as the lowest intermediate bal-
ance rule. This rule has been applied in a number of cases in the United
States where proceeds arising out of a dealing with collateral are mixed
in a bank account with funds belonging to the debtor.59
The following scenario illustrates the application of the lowest inter-
mediate balance rule.
55 Devaynes v Noble; Clayton’s Case (1816), 1 Mer 572, 35 ER 781.
56 Re Hallett’s Estate (1880), 13 Ch D 696 (CA) [Re Hallett’s Estate].
57 Ibid. Jessel MR stated at 727, “where a man does an act which may be rightfully
performed, he cannot say that the act was intentionally and in fact done wrongly.”
58 Smith, above note 3 at 208–12.
59 See, for example, Universal CIT Credit Corp v Farmers Bank of Portageville, 358
F Supp 317 (ED Mo 1973); General Motors Acceptance Corp v Norstar Bank, NA,
532 NYS 2d 685 (NY Sup 1988); Michigan National Bank v Flowers Mobile Home
Sale, Inc, 217 SE 2d 108 (NC App 1975).
 Following and Tracing into New Forms of Collateral 627

A debtor sells collateral and deposits the proceeds in the sum of $500 into
a bank account. The bank account already contains $500 belonging to the
debtor. The debtor withdraws $750. This leaves $250 in proceeds in the bank
account. The debtor next deposits $500 into the account. The balance in the
account is $750, of which $250 is proceeds.
If the proceeds that were withdrawn from the account were used to
acquire an asset, the proceeds security interest could be traced into
this new asset, but this does not afect the operation of the lowest inter-
mediate balance rule in respect of the funds remaining in the account.60

c) Tracing and Multiple Claimants

The proceeds from a disposition of collateral might be mixed with
other funds in a bank account that do not belong to the debtor.61 If the
debtor later withdraws funds from the account, the presumption that
the debtor spends the debtor’s own money irst cannot be used since
the other funds do not belong to the debtor. Some other principle must
be applied in order to decide whose contribution to the fund has been
spent. In England, it would appear that the rule in Clayton’s Case is
applied.62 This approach has been rejected in Canada. In Ontario (Secur-
ities Commission) v Greymac Credit Corp,63 the loss was allocated pro rata
among the innocent contributors.
The pro rata depletion rule is illustrated in the following scenario.
D gives SP1 a security interest in an automobile and gives SP2 a security inter-
est in a truck. The automobile is sold and the proceeds are deposited in a
bank account on 10 June. On 15 June, the truck is sold and the proceeds are
deposited in the account. D then withdraws money from the account.
If the account contains any funds belonging to D, then these will be
presumed to be withdrawn irst. But if D does not have any funds in

60 For example, if the $750 that was withdrawn from the account (made up of
$500 of the debtor’s money and $250 representing proceeds of the original col-
lateral) is used to buy a computer, the secured party would be able to claim a
security interest in the computer to the extent of $250.
61 The scenarios that are used to illustrate the tracing rules consider a case where
proceeds claimed by one secured party are mixed in a bank account with pro-
ceeds claimed by another secured party. However, the analysis would apply
equally if the proceeds were mixed with funds held in trust by the debtor or
were otherwise traceable by the other claimant.
62 Barlow Clowes International Ltd v Vaughan, [1992] 4 All ER 22 (CA). The rule
in Clayton’s Case operates merely as a rebuttable presumption. In Russell-Cooke
Trust Co v Prentis, [2003] 2 All ER 478 at para 55, Lindsay J stated that “the rule
can be displaced by even a slight counterweight.”
63 (1986), 30 DLR (4th) 1 (Ont CA), af’d [1988] 2 SCR 172 [Greymac].
628 PERSONAL PROPERTY SECURITY LAW

the account or if D’s funds are exhausted, it is then necessary to deplete

the proceeds funds of secured parties. An application of the rule in
Clayton’s Case would result in the depletion of SP1’s proceeds. Once SP1’s
proceeds are all gone, any further depletion would come out of SP2’s
proceeds. Under the pro rata depletion rule, SP1 and SP2 would share
the loss rateably. Suppose SP1’s proceeds amounted to $100 and SP2’s
proceeds amounted to $300. D then withdrew $200 from the account.
Of the $200 remaining in the account, SP1 would be able to claim $50
as proceeds and SP2 would be able to claim $150.
The pro rata depletion rule does not, in principle, afect the oper-
ation of the intermediate balance rule. In applying the pro rata depletion
rule, the calculation is based on the amount of proceeds in existence
at the time of the mixing, and not upon the original amount contrib-
uted to the fund. If the proceeds of one of the contributors have been
depleted, the addition of proceeds from another contributor does not
cause the depletion to be reversed. This is illustrated in a continuation
of the last scenario.
There is $200 in the bank account. Both the claims of SP1 and SP2 have
been depleted on a pro rata basis; $200 of proceeds belonging to SP3 is then
deposited into the account.
SP1 and SP2 are only allowed to recover the value of their depleted
claims ($50 for SP1 and $150 for SP2). If there are no further with-
drawals, SP3 will be able to claim all of the $200 contributed into the
fund as proceeds. If D makes further withdrawals from the account, the
pro rata depletion rule will again operate. Thus, if D later withdraws
$200 from the account, the pro rata depletion rule will operate on SP1’s
and SP2’s depleted proceeds balance. Therefore, the $200 remaining in
the account will be attributed in the following manner: $25 to SP1, $75
to SP2, and $100 to SP3.
The Ontario Court of Appeal in Law Society of Upper Canada v
Toronto-Dominion Bank64 generated some uncertainty over the applic-
ability of the intermediate balance rule in these circumstances. Instead
of applying this approach, it applied what it called the pari passu ex post
facto approach. Under this approach, the court determines the original
contribution made to the fund as a percentage of the total contributions
of all those with claims against the fund. The claimant’s pro rata share
of the assets is determined by multiplying this factor by the total assets
available for distribution. If this approach were applied to the last scen-
ario, their respective percentage claims would be: SP1, 16.7 percent; SP2,

64 (1998), 169 DLR (4th) 353 (Ont CA). See also Re Elliott, 2002 ABQB 1122.
 Following and Tracing into New Forms of Collateral 629

50 percent; and SP3, 33.3 percent. As a result, the allocation of proceeds

would be: $33 to SP1, $100 to SP2, and $67 to SP3.
In reaching its decision, the court held that it was open to it to
choose between the lowest intermediate balance rule and the pari passu
ex post facto approach depending on which was more just, convenient,
and equitable under the circumstances.65 The case has been sharply
criticized on the ground that it overlooks binding Canadian authority
and that it rejects the central underlying idea of tracing, which requires
the inding of a transactional link between one asset and another.66
Uncertainty over the circumstances that will permit a departure
from the lowest intermediate balance rule in favour of the pari passu ex
post facto approach was subsequently resolved in Boughner v Greyhawk
Equity Partners Limited Partnership (Millenium).67 The lowest intermedi-
ate rule is the general rule that is to be applied unless it is practically
impossible to do so. If the lowest intermediate rule cannot be applied
because of lack of evidence or any other reason, then a court may use
the pari passu ex post facto approach.68

d) The Relevance of Wrongdoing

The application of conventional tracing rules is afected by wrongdoing
on the part of one of the parties. The issue typically arises in connection
with a wrongful mixture of funds. Suppose that A wrongfully mixes
funds belonging to B with A’s own funds. A then makes a withdrawal
from the mixed fund. Where a person is responsible for causing an
evidential diiculty, all reasonable inferences will be drawn against the
person who caused it. Thus, if A withdraws funds from the mixture and
spends it, the law will presume that the wrongdoer’s money was spent
irst. The balance in the account that is attributed to B’s contribution
is diminished only after all of A’s money has been exhausted. This out-
come is chosen because it is the more favourable to the innocent party.
There are situations where the assumption that the wrongdoer’s own
money is spent irst does not beneit the innocent party. Suppose that A

65 The court preferred the pari passu ex post facto approach in the circumstances
of the case before it, because the large number of claimants and transactions
would make the calculation diicult or perhaps impossible.
66 L Smith, “Tracing in Bank Accounts: The Lowest Intermediate Balance Rule on
Trial” (2000) 33 Can Bus LJ 75 argues that the pari passu ex post facto approach
was directly rejected in the Greymac decision (above note 63), which upheld the
intermediate balance rule and is binding Canadian authority.
67 2012 ONSC 3185, af’d 2013 ONCA 26.
68 See Anthony Duggan, “The Death and Resurrection of the Lowest Intermediate
Balance Rule” (2017) 80 Sask L Rev 209. See also Easy Loan Corporation v Wise-
man, 2017 ABCA 58 at paras 66−67.
630 PERSONAL PROPERTY SECURITY LAW

wrongfully mixes $100 of B’s money together with $100 belonging to A

in a bank account. A withdraws $50 from the account and uses it to buy
a clock. Later, A withdraws the remainder of the funds and spends it in
a restaurant. In this case, B is permitted to trace the funds into the clock.
Again, the outcome is justiied because the wrongdoing of A gives B the
right to have any evidential uncertainty resolved against A. Following
a withdrawal from a mixed fund, the innocent party is therefore given
the option to assert that their own contribution remains in the account
or alternatively that it is traceable into the new asset acquired with the
withdrawn funds. The outcome will be diferent if A can demonstrate
that B’s funds could not have been used to acquire the asset. Suppose
that A can show that the entire bank account was emptied and used
to pay taxes and that later A’s own funds were deposited into the bank
account. In this case, the addition of A’s money into the fund will not
permit B to trace into the fund. Because the diiculty was caused by A’s
wrongful mixing of the monies, the onus will be on A to demonstrate
that a speciic portion of the fund is traceable to A’s contribution.69
The issue that will need to be decided is whether the same approach
to wrongdoing should be adopted in connection with the PPSA tracing
rules. This can be illustrated in the following scenario. Suppose that SP
is given a security interest in D’s bike. Without authorization, D sells the
bike for $100 and deposits the money in a bank account that contains
$200 belonging to D. D withdraws $100 and uses it to buy a television.
D then withdraws the remaining funds and uses it to buy a meal at
a restaurant. Can SP resort to the wrongdoer principle and assert a
security interest in the television? Or are the PPSA tracing rules more
mechanical in nature such that it should be presumed that the debtor
withdraws their own money irst, regardless of their wrongdoing?
If the wrongdoer principle can be invoked by a secured party, two
consequences will follow. First, the onus will be on the debtor to estab-
lish that funds are attributable to the contribution of the debtor rather
than the secured party.70 Second, the secured party will have the option
to assert that money withdrawn from the mixture is proceeds if that is
more favourable to the secured party than applying the presumption
that the debtor spends the debtor’s own money irst.71 This will hold
true against the debtor’s trustee in bankruptcy as well as against the
debtor. The mere fact that the transaction involved a security agreement
would not, of course, be suicient to invoke the wrongdoer principle. It
would only come into operation where the debtor wrongfully disposed

69 Re Hallett’s Estate, above note 56.

70 Ibid; Re Saskatchewan General Trusts Corp, [1938] 3 DLR 544 (Sask CA).
71 Re Oatway, [1903] 2 Ch 356.
 Following and Tracing into New Forms of Collateral 631

of the collateral and deposited the proceeds into a bank account. If the
secured party had authorized the sale and had permitted the debtor to
deposit the proceeds into the debtor’s bank account, the secured party
would have consented to the debtor’s conduct and there would be no
basis for applying the wrongdoer principle.
There are two potential diiculties in applying the wrongdoer
principle in the context of a secured transaction. The irst concerns
the distributional impact of the rule. In most cases where the issue
arises, the competition is not between a secured party and the debtor.
Rather, the dispute is between the secured party and the unsecured
creditors or trustee in bankruptcy of the debtor. Although the wrong-
doer principle purports to achieve a just result between the secured
party and the debtor, in most cases the issue is not misconduct on the
part of the debtor but whether assets of the debtor should be treated as
being subject to the security interest of the secured party or available to
the unsecured creditors of an insolvent debtor. The principle punishes
unsecured creditors who have not engaged in wrongdoing. A counter-
argument to this is that this also holds true in the context of the con-
ventional tracing rules. To the extent that there is a concern about the
distributional impact on unsecured creditors, the approach should be
the same for both the conventional and PPSA tracing rules.
The second problem concerns the contractual language that is found
in security agreements. Frequently, security agreements contain provi-
sions that obligate the debtor to segregate and account for the proceeds.
It is equally common to ind that these provisions are routinely ignored
by the debtor with the knowledge and acquiescence of the secured party.
There are two possible responses to this problem. One response is to
reject the wrongdoer principle outright and apply the presumption that
the debtor withdraws their own money irst whether or not they were
authorized to mix the funds.72 Another approach would be for courts
to adopt a less formalistic interpretation of contractual language and
to show a greater willingness to recognize a variation of the written
contractual provisions through implied conduct and acquiescence. A
problem with this approach is that it will often entail factual complexity,
leading to uncertainty of outcomes and increased costs of litigation.
In Agricultural Credit Corp of Saskatchewan v Pettyjohn,73 the Sas-
katchewan Court of Appeal considered the case of an unauthorized sale
of collateral followed by the deposit of the proceeds into the debtor’s

72 See R Cuming, “Protecting Security Interests in Proceeds: Equity and Canadian

Personal Property Acts” in J Waters, ed, Equity, Fiduciaries and Trusts, 1993
(Toronto: Carswell, 1993) 423 at 433–35.
73 Above note 21.
632 PERSONAL PROPERTY SECURITY LAW

bank account. It was possible to trace these proceeds of sale into the
acquisition of a replacement herd. Approximately half of the original
cattle were subject to a purchase money security interest, while the other
half were not. Under Saskatchewan farm security law, the debtor was
able to claim an exemption in respect of the cattle unless they were sub-
ject to a purchase money security interest. The majority opinion took
the view that the tracing principles should be the same whether they
arise in cases involving disputes between a secured party and a debtor
or whether they involve competitions between a secured party and a
competing third-party claimant. As a result, the majority held that the
debtor could claim the exemption in respect of half of the cattle, not-
withstanding the wrongful sale of the cattle. The dissenting opinion took
the contrary view and was prepared to presume that any diminishment
in the herd was to be taken out of the debtor’s unencumbered cattle.

e) Tracing Through Payment of a Debt

There is considerable uncertainty about whether it is possible to trace
value into property acquired on credit where traceable proceeds are
used to repay this debt. Suppose that the debtor has a bank account
into which proceeds from the sale of collateral have been deposited.
Suppose also that after applying the intermediate balance rule, it is
determined that all the funds in the account are proceeds. The debtor
then buys a car for $10,000 but does not immediately pay for it. Finally,
the debtor withdraws $10,000 from the account and uses it to pay the
debt incurred as a result of the purchase of the automobile.
The issue is whether the security interest in the funds in the bank
account can be traced into the automobile. Some argue that it should
not be capable of being traced. They point out that the debtor was the
owner of the automobile at the time the money was withdrawn from
the account, and therefore it is not possible to show that the money was
used to acquire the automobile.74 Others argue that it should be possible
to trace through the payment of a debt75 — a process that is sometimes
referred to as “backwards tracing.”

74 Bishopsgate Investment Management Ltd (In Liquidation) v Homan, [1995] Ch 211

(CA), Leggatt LJ; Re Registered Securities, [1991] 1 NZLR 545 at 554 (CA). See
also Calnan, above note 9 at 322, who argues that backwards tracing “cannot
get around the problem that the substituted asset has ceased to exist.” And see
M Conaglen, “Diiculties with Backwards Tracing” (2011) 127 Law Q Rev 432,
which argues that the caselaw support for it is weaker than suggested, and that
there are policy concerns that militate against it.
75 Smith, above note 3 at 146–52; Penner, above note 54 at 341–44.
 Following and Tracing into New Forms of Collateral 633

The Saskatchewan Court of Appeal in Agricultural Credit Corp of

Saskatchewan v Pettyjohn76 considered the possibility of tracing through
payment of a debt in the context of the PPSA. There were two difer-
ent dealings in which the backwards tracing analysis could have been
applied in Pettyjohn. The irst concerned the acquisition of the original
collateral. A lender made a binding commitment to extend credit to
the debtor to enable the debtor to acquire cattle. On the basis of this
undertaking, the debtor obtained bridge inancing and used it to acquire
the cattle. When the loan funds were advanced by the lender, the debtor
used these funds to pay out the bridge inancer. The second involved the
sale of the original cattle and the acquisition of a specialty breed. The
speciality breed were acquired by the debtor before the original collat-
eral were sold. The debtor paid for the specialty breed by drawing on the
line of credit. When the original cattle were sold, the proceeds were paid
into the debtor’s account, thereby reducing the line of credit. However,
the matter was complicated by the fact that the debtor had deposited
funds from other sources and had made withdrawals for other purposes.
This made it diicult to match the debts that were incurred to acquire
the speciality breed with the funds produced by the sale of the original
cattle. The court did not attempt to apply backwards tracing77 in con-
nection with the second dealing as it adopted the functional equivalence
rule, which is examined in the next section below in this chapter.
Although the court did not refer to tracing principles in respect
of the irst dealing, other courts have accepted that this involved the
application of backwards tracing. The Privy Council in Federal Republic
of Brazil v Durant International Corporation78 recognized the availabil-
ity of backwards tracing in situations where the two transactions are
part of a coordinated scheme. In doing so, it expressly endorsed the
approach adopted in Pettyjohn in respect of the irst dealing. The impli-
cation seems to be that backwards tracing is not permissible where the
transactions are not suiciently coordinated, although this proposition
is not beyond controversy.
It is very likely that future cases will explore more precisely the link-
ages that are needed to satisfy a court that there is suicient coordina-
tion between the transactions.79 Although further development of the
principle is inevitable, there is no reason, in principle, why the statutory

76 Above note 21.

77 The court referred to backwards tracing as “tracing by subrogation” at paras 63
and 66.
78 [2015] UKPC 35.
79 See James Penner, “‘Sort of’ Backwards Tracing” in P Davies & J Penner, eds,
Equity, Trusts and Commerce (Oxford: Hart Publishing, 2017) 123.
634 PERSONAL PROPERTY SECURITY LAW

tracing under the PPSA should difer from conventional tracing rules
on this question.

f) The Functional Equivalence Rule

The Saskatchewan Court of Appeal in Agricultural Credit Corp of Sas-
katchewan v Pettyjohn80 adopted a new tracing principle that has no
counterpart in the conventional tracing rules. The secured party had a
purchase money security interest in a herd of cattle. The herd was sold
and the proceeds were deposited into the debtor’s overdrawn account.
Although it may have been possible to show that the deposit of funds
from the sale of the original herd was used to extinguish debts that
had been incurred by the debtor in purchasing a replacement herd, the
court instead articulated a new tracing principle, which it expressed as
follows:
The appropriate principle of tracing in such a case is that where a set
of chattels is replaced by another of like function in the afairs of the
debtor, it shall be open to the Court to ind that the proceeds from
the irst were used to acquire the second, whatever the formalities of
the transactions in question.81
The court stated that in order to trace value from one item of prop-
erty into another, “it is necessary to establish a close and substantial
connection between the two pieces of property, so that it is appropri-
ate to allow the rights in the original property to low through to the
new property.”82 The court commented that the connection established
through the application of the conventional tracing rules is an arbitrary
one that focuses on form rather than substance. The court thought that
a close and substantial connection could also be established by looking
at the substance of the transaction and recognizing that one set of assets
had replaced another of the same kind. The court concluded that the
requisite close connection was established by the nature and function
of the property, regardless of the sequence of transactions.
The functional equivalence approach was also applied in Re River
Industries Ltd.83 The court held that a security interest in inventory that
was sold could be traced into replacement inventory that had been
acquired by the debtor. There was no evidence as to the sequence of
events, but the inancial statements indicated that 77 to 79 percent of
the debtor’s gross revenues had been used to acquire new inventory

80 Above note 21.

81 Ibid at para 70.
82 Ibid at para 55.
83 [1992] 6 WWR 257 (BCSC).
 Following and Tracing into New Forms of Collateral 635

during the relevant period. The court held that the security interest of
the supplier in the original inventory could be traced into the replace-
ment inventory in proportion to the ratio that the inventory provided
by the supplier bore to the total inventory.
The diiculty with the functional equivalence rule is that it appears
to violate a fundamental principle of tracing. Tracing is about inding
transactional links between one asset and another. If it was impossible
for the value to have been used to acquire the substitute asset, it is
not possible to trace into it. In Pettyjohn, the replacement cattle were
purchased before most of the original cattle were sold. Under conven-
tional tracing principles, the secured party would need to show that the
proceeds from the sale of the original collateral were used to pay down
the debt that was incurred in connection with the acquisition of the
replacement herd.84 The court concluded that although some of the pro-
ceeds from the sale of the original herd had been used to repay the bank
money that had been loaned to permit the acquisition of the replace-
ment herd, a portion of the proceeds had not been used for this purpose.
It also would have been necessary for the secured party to demonstrate
that the amounts deposited into the account resulted from a sale of the
original cattle, a matter that was not conceded by the defendant. By
applying the functional equivalence rule, the court circumvented these
two problems, which would have greatly limited the secured party’s
ability to trace into the replacement herd.
There are two diiculties inherent in the functional equivalence
rule. The irst is that it may be diicult in many cases to determine if
the proceeds should be considered functionally equivalent. Would the
rule apply if the farmer sold the cattle and purchased turkeys? Would it
apply if the farmer decided to try grain farming and used the money to
buy a combine? This is quite contrary to the usual approach to tracing
that looks to the transactional links rather than to the character of the
substituted asset.
The second diiculty with the functional equivalence rule is illus-
trated by the following variation on the facts of the Pettyjohn case.
Suppose that $10,000 resulting from the sale of cattle subject to a sec-
urity interest is deposited in the debtor’s bank account and mixed with
$10,000 of the debtor’s own funds. The entire $20,000 in the account is
then used to pay taxes that were owing by the debtor. The debtor then
deposits $20,000 of the debtor’s own funds, which the debtor obtains
from another source. Finally, the debtor withdraws the $20,000 and
uses it to buy a replacement herd. Although the replacement herd in
84 The court in Pettyjohn was apparently willing to permit backwards tracing. See
Section B(3)(e), above in this chapter.
636 PERSONAL PROPERTY SECURITY LAW

this scenario is functionally equivalent to the original collateral, the

transaction through which it was acquired cannot be linked to the ori-
ginal herd.
It might be possible to explain the functional equivalence principle
adopted in Pettyjohn on the basis that it really involves only a shift in the
onus of proof. Normally, it is the secured party who must establish the
transactional links through which the security interest in the original
collateral can be connected with the proceeds collateral. The Pettyjohn
case might be interpreted to mean simply that in cases where there is
evidential uncertainty, the court will be prepared to presume that the
proceeds of the original collateral were used to acquire property that is
functionally equivalent to it unless the other party can show that the
funds were actually used for another purpose. But is there really any
compelling reason to do so? No similar rule is available to a beneiciary
where there has been a mixing of funds by a trustee acting in breach
of trust. While the courts have indicated that they may depart from
the tracing principles of the common law and equity in order to ind
solutions based on the underlying principles of the PPSA, there are no
underlying principles of the PPSA that suggest why a secured party
should obtain the advantage of this presumption when it is denied to
other claimants who seek to trace their value.85

4) Perfection and Priorities

a) The Ontario and Manitoba Perfection Provisions
There is a fundamental division among the Acts on the treatment of
perfection of proceeds. Under the Ontario Act, a security interest in
proceeds is automatically perfected so long as the security interest in
the original collateral is perfected by registration at the time the interest
in the proceeds arose.86 This is so, even though the proceeds do not fall
within the description of the original collateral. As a result, searching
parties are expected to know that the secured party has a potential
claim to any of the debtor’s assets that arose as a result of a dealing with
the collateral described in the inancing statement. This applies only if
the registration in relation to the original collateral was in efect at the
time the proceeds arose. If this condition is not satisied, the secured

85 In CO Funk & Son, Inc v Sullivan Equipment, Inc, 92 Ill App 3d 659 (Ill App 1981),
af’d 431 NE 2d 370 (Ill 1982) the court rejected a “large asset picture” theory of
tracing that would presume that proceeds of inventory were used to purchase
replacement inventory in favour of the intermediate balance rule. The court fur-
ther held that the burden of proof to establish the claim lay on the secured party.
86 OPPSA s 25(2).
 Following and Tracing into New Forms of Collateral 637

party will need to ensure that the description in the inancing statement
covers the proceeds collateral.
Although registration of a security interest in the original collateral
perfects a security interest in any proceeds, this form of perfection is
an inferior method of perfection where the proceeds take the form of a
motor vehicle classed as consumer goods. The Ontario Act provides that
a good faith buyer takes free of the security interest in such proceeds
unless the secured party has registered a inancing change statement
that sets out the vehicle identiication number.87 This ensures that con-
sumer buyers of motor vehicles will be able to rely on a serial number
search of the registry system. The provision is anomalous in that it
does not require that the buyer acquire the goods without knowledge,
but only requires that the buyer act in good faith. This suggests that
a buyer can take advantage of this provision so long as they were not
acting fraudulently.
Automatic perfection of a proceeds security interest under the
Ontario Act does not occur if the security interest in the original col-
lateral is perfected otherwise than by registration.88 In this case, the
secured party is given a ten-day grace period after the proceeds arise
to perfect the proceeds security interest by some other means. This can
be accomplished by registering a inancing statement or by the secured
party taking possession of the proceeds.
The Manitoba Act provides that perfection of a security interest
by registration perfects a security interest in the proceeds without any
need for a proceeds description in the inancing statement. It does not
provide a temporary perfection period if the security interest was per-
fected otherwise than by registration. Nor does it provide any protection
for consumer buyers of serial numbered goods.89

b) The Perfection Provisions of the Other Jurisdictions

The Acts of jurisdictions other than Ontario and Manitoba adopt an
entirely diferent approach. For the most part, they require a description
of the proceeds in the inancing statement in order to perfect a security
interest in them.90 The underlying philosophy behind this approach
is that parties who search the registry should be able to rely on the

87 OPPSA s 25(5).
88 OPPSA s 25(4).
89 MPPSA s 28(2). Sections 30(6) and (7) of the MPPSA would give a buyer without
knowledge priority over the secured party if the secured party did not register
the proceeds by serial number in respect of serial number goods held as equip-
ment. However, there is no similar rule that would protect consumer buyers.
90 PPSA (A, BC, NWT, Nu, S) s 28(2); (NB, PEI) s 28(3); (NL, NS) s 29(3); Y s 26(2).
638 PERSONAL PROPERTY SECURITY LAW

information contained in the search result. It is therefore incumbent

on the secured party to describe the proceeds in order to assert a claim
to them against competing third parties. The one exception is where
the proceeds take the form of money, cheques, or deposit accounts in
a inancial institution. In this case, the proceeds are automatically and
continuously perfected from the time of registration of the inancing
statement covering the original collateral. The underlying assumption
here is that parties who acquire interests in these types of assets ought
to realize that they may have arisen as a result of a disposition of the
collateral described in the inancing statement, and that, in the case of
cheques and money, it is safe to relax the perfection rules as its nego-
tiable character ensures that there is little risk of prejudice to third
parties.
If the original collateral description covers the proceeds, then noth-
ing further need be done. Suppose that SP takes a security interest in the
debtor’s bulldozer held as inventory and describes the collateral as “con-
struction equipment” in the inancing statement. The bulldozer is sold
and the sale proceeds are used by the debtor to purchase an excavator.
The security interest in the excavator will be continuously perfected
since it falls within the original collateral description.
In many instances, the proceeds collateral will not fall within the
same description as the original collateral. In this case, the secured
party may include a description of the proceeds in the inancing state-
ment. If this is done, the security interest in the proceeds is continu-
ously perfected. Of course, if the proceeds are serial numbered goods
that are held as consumer goods or as equipment, it is almost impossible
for the secured party to provide a serial number description of the col-
lateral at the time of registration.
The foregoing perfection rules should be read as subject to the con-
tinuity of perfection principle, which requires that there be no inter-
mediate period during which the security interest is unperfected.91 This
is illustrated in the following scenario.
D gives SP1 a security interest in a computer and registers a inancing state-
ment that describes the collateral as “computer.” D then gives SP2 a security
interest in all present and after-acquired personal property, which SP2 per-
fects by registration. D sells the computer and receives a photocopier in trade.
SP1’s inancing statement does not cover the photocopier, and SP2 therefore
has priority over SP1. Six months later, D sells the photocopier and receives a
diferent computer and a cheque in payment.

91 PPSA (A, BC, NB, NWT, Nu, PEI, S) s 23(1); (NL, NS) s 24(1); Y s 21(1).
 Following and Tracing into New Forms of Collateral 639

The Act provides that the security interest in the computer and the
cheque is continuously perfected if the security interest in the original
collateral is perfected by registration. Although this condition is satis-
ied, the rule must be read subject to the continuity of perfection prin-
ciple. SP1’s proceeds security interest in the cheque and the computer
should not be considered to be continuously perfected, since SP1’s sec-
urity interest in the photocopier was not perfected.
If a security interest in proceeds has not been perfected by any of
these methods, the secured party may nevertheless take advantage of
a temporary perfection period.92 So long as the security interest in the
original collateral is perfected, the security interest in the proceeds
will be temporarily perfected for ifteen days after the proceeds arise. If
the security interest in the proceeds is perfected during this temporary
perfection period, it will be continuously perfected from the date of
perfection of the original collateral. The temporary perfection period
is absolute and not conditional in that it is conferred on the secured
party whether or not the secured party perfects the security interest in
the proceeds during the ifteen-day period. For example, if the secured
party fails to perfect the security interest in the proceeds through regis-
tration or possession and a bankruptcy occurs within ifteen days after
the bankruptcy arises, the secured party can take advantage of the tem-
porary perfection period and claim priority over the trustee in bank-
ruptcy in respect of the proceeds.93 If the bankruptcy occurs after the
expiration of the temporary perfection period, the secured party will be
subordinate to the trustee in bankruptcy. As with all other temporary
perfection periods, this form of perfection will not be efective in pro-
tecting the security interest against a buyer or lessee who acquires the
goods without knowledge of the security interest.94

c) Priority of Security Interests in Proceeds

A security interest in proceeds is generally aforded the same priority as
the security interest in the original collateral. For the purposes of the
residual priority rules, the time of registration, possession, or perfection
of the security interest in original collateral is also the time of registra-
tion, possession, or perfection of the security interest in proceeds.95 The

92 PPSA (A, BC, NB, NWT, Nu, PEI, S) s 28(3); (NL, NS) s 29(3); Y s 26(3).
93 Central Refrigeration & Restaurant Services Inc (Trustee of) v Canadian Imperial
Bank of Commerce (1986), 47 Sask R 124 (CA).
94 PPSA (A, BC, NB, NWT, Nu, PEI, S) s 30(5); (NL, NS) s 31(5); Y s 29(5).
95 PPSA (A, BC, M, NB, NWT, Nu, S) s 35(3); (NL, NS) s 36(3); O s 30(5); Y no
equivalent provision. Section 30(5) of the OPPSA only refers to registration or
perfection, and not to possession. This relects a diference in policy in that the
640 PERSONAL PROPERTY SECURITY LAW

PPSA also makes it clear that the enhanced priority of a purchase money
security interest extends to any proceeds,96 although there are a number
of exceptions to this rule. Several jurisdictions provide that a purchase
money security interest in proceeds of inventory does not have priority
over a prior registered security interest in accounts.97 All jurisdictions
except Ontario provide a priority rule to govern priority competitions
between a purchase money security interest taken in an asset as original
collateral and a competing proceeds purchase money security interest
in the same asset.98 All the Acts provide that a purchase money security
interest in proceeds of inventory does not have priority over a purchaser
of chattel paper, even if the purchaser knew of the security interest.99
The idea that a security interest in proceeds will generally attract the
same priority as that associated with the security interest in the original
collateral does not apply when dealing with non-temporal priority rules
(i.e., those that give priority to a secured party who was not the irst to
register or perfect). This is illustrated in the following scenario:
SP1 takes and registers a security interest in all present and after-acquired
personal property. SP2 takes a security interest in investment property and
perfects through control. SP2 also registers in respect of proceeds. The invest-
ment property is disposed of and the debtor acquires proceeds collateral.
SP1 has priority to the proceeds despite the fact that SP2 had priority to
the original collateral. The operative provision of the PPSA states that
the time of registration, possession, or perfection of the original security
interest is also the time of registration, possession, or perfection of the
proceeds security interest.100 SP1 registered before SP2 perfected, there-
fore SP1 wins. The non-temporal priority rules therefore aford a priority
in respect of the original collateral, but not in respect of the proceeds if
the security interest was not the irst to be registered or perfected.

residual priority rules in the other provinces use the date of possession for the
purposes of the rule, even though the security interest has not attached, with
the result that it is not yet perfected. See Chapter 8, Section B(1).
96 PPSA (A, M, NWT, Nu, S) ss 34(2)–(3); (BC, NB, PEI) ss 34(1)–(2); (NL, NS)
ss 35(1)–(2); (O, Y) ss 33(1)–(2).
97 PPSA (A, M, NB, NWT, Nu) s 34(7); BC s 34(6); (NB, PEI) s 34(5); (NL, NS)
s 35(5); S s 34(8); Y s 33(6). See the discussion in Chapter 8, Section C(6).
98 PPSA (A, M, NWT, Nu, S) ss 34(7) and 34(8); BC s 34(6); Y s 33(6). See the dis-
cussion in Chapter 8, Section C(7).
99 PPSA (A, BC, NB, NWT, Nu, PEI) s 31(6); (M, S) s 31(7); (NL, NS) s 32(6); O s
30(3); Y s 30(5). See the discussion in Chapter 7, Section F(2).
100 PPSA (A, BC, M, NB, NWT, Nu, S) s 35(3); (NL, NS) s 36(3); O s 30(5); Y no
equivalent provision.
 Following and Tracing into New Forms of Collateral 641

C. RETURNED OR REPOSSESSED GOODS

The PPSA provides a set of rules that govern the situation where the
debtor has sold or leased goods that are later returned as a result of a
consensual transaction or repossessed as a consequence of a default on
the part of the buyer or lessee. This situation will almost always arise
in respect of a return or repossession of goods held as inventory by the
debtor. The provisions attempt to do two diferent things. First, they
provide for the creation of a security interest in circumstances in which
a security interest might not otherwise be created. Second, they provide
for the resolution of priority competitions where more than one person
asserts a claim to the returned or repossessed goods. For convenience,
the discussion will consider the case of a sale, but the same analysis
applies where the transaction is in the form of a lease.
When a seller sells an item of inventory to a customer, the buyer
will usually take free of any security interest in the inventory that had
been given by the seller to a secured party. There are two reasons why
this is the case. The secured party will have usually authorized the
sale. The sale will also often occur in the ordinary course of business
of the seller so as to attract the ordinary course buyer priority rule. If
the seller agrees to defer payment, an account will be created. If the
seller agrees to defer payment but also takes a security interest in the
goods that were sold, chattel paper will be generated. If only part of the
unpaid price is secured by the security interest, both an account and
chattel paper will be created. Any account or chattel paper thus created
may in turn have been transferred to another party either absolutely
or by way of security.
Diiculties arise when the goods are then returned or repossessed.
This may occur because the customer is dissatisied with the goods, or
it may be that they were traded back to the seller in payment of the
purchase price of other goods. Alternatively, the goods may have been
repossessed as a result of a default by the customer. The Act provides for
the reattachment of the security interest of the inventory inancer that
had been lost upon the sale of the goods to the customer. It also pro-
vides for the continuation of the security interest of an account inancer
and of a chattel paper inancer. Since it is possible that the inventory
inancer, the account inancer, and the chattel paper inancer will all
end up with a security interest in the returned or repossessed goods, it
is necessary to provide a priority rule that resolves the resulting priority
competition.
642 PERSONAL PROPERTY SECURITY LAW

1) Reattachment of the Inventory Financer’s Security

Interest
An inventory inancer will normally expect the debtor to repay the loan
or credit secured by the inventory from the proceeds of sale that the
debtor received from the sale of the goods. This expectation is obviously
frustrated when the goods are returned or repossessed. When this
occurs, the PPSA provides that the inventory inancer’s security interest
reattaches to the returned or repossessed goods if the obligation secured
has not been performed.101 Although inventory inancing agreements
typically provide that the security interest covers any returned or repos-
sessed goods, this provision ensures this result where the agreement is
silent on the point. It also ensures that the reattached security interest is
aforded the same priority status that it had prior to detachment. If the
inventory inancer had a purchase money security interest in the inven-
tory, the reattached security interest will also be aforded this status.
There is a variation between the language used in the Ontario Act
and that contained in the Acts of the other jurisdictions. The Ontario
Act provides for reattachment where the goods are returned to the debtor
(that is, the seller). The other Acts are wider in that they provide for
reattachment even if the goods were seized by a chattel paper inancer.
If the inventory inancer’s registration is still in efect, nothing fur-
ther needs to be done in order to perfect the reattached security interest.
The Act provides that the perfection and the time of registration of the
reattached security interest are to be determined as if the goods had
not been sold.102 If the inancing statement has lapsed or has been dis-
charged, new perfecting steps will need to be taken in order to perfect
the reattached security interest.
The reattachment of the inventory inancer’s security interest does
not afect a security interest that was created by the buyer after the
sale but before the goods were returned or repossessed. So long as this
security interest is properly perfected, it will have priority over the
reattached security interest of the inventory inancer. The non-Ontario
Acts103 contain an express provision to this efect, and it is likely that
courts would arrive at the same conclusion in Ontario.

101 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 29(1); (NL, NS) s 30(1); O s 27(1);
Y s 28(1).
102 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 29(2); (NL, NS) s 30(2); O s 27(2);
Y s 28(2).
103 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 29(7); (NL, NS) s 30(7); Y s 28(3).
 Following and Tracing into New Forms of Collateral 643

2) The Chattel Paper Financer’s Interest

Often, a commercial seller of durable goods will sell the goods pursuant
to a secured instalment credit agreement under which the seller takes
a security interest in the goods to secure the unpaid purchase price.
The seller will frequently transfer the rights the seller enjoys under this
agreement to a transferee. Less commonly, the seller may give a security
interest in these rights in order to secure a loan. Both of these trans-
actions are brought within the scope of the PPSA. The Act regards the
rights held by the seller as a separate category of collateral called chattel
paper. This represents a fundamental departure from prior law, which
regarded the transaction as involving two separate kinds of property:
a chose in action in the form of the buyer’s promise to pay, and title to
the goods. The chattel paper transferee will usually notify the buyer of
the transfer and direct that payments be made to the transferee rather
than the seller. If the debtor defaults, the chattel paper transferee will
have the right to enforce the security interest against the buyer through
seizure of the goods.
In the event that the goods are returned to or repossessed by the
seller, the chattel paper inancer no longer has an interest in the chattel
paper. In its place, the Act gives the chattel paper inancer a security
interest in the goods.104 Since the security interest that is created is in a
diferent category of collateral, the chattel paper inancer must perfect
the security interest in the goods. Usually a chattel paper inancer will
perfect the security interest in the chattel paper by possession. This
represents a superior method of perfection since it will prevent sub-
ordination of the interest to a purchaser for value without knowledge.
But this method of perfection will not be suicient to perfect a security
interest in the returned or repossessed goods. The chattel paper inancer
may have taken the precaution of registering a inancing statement that
describes the goods. If this is so, nothing else need be done in order to
perfect the security interest in the returned or repossessed goods. But
if no registration has been efected, the chattel paper inancer will need
to perfect with respect to the goods. This will also be required where
electronic chattel paper is perfected by control in jurisdictions, such
as Ontario and Saskatchewan, that have amended their Acts so as to
recognize electronic chattel paper.
The Act gives the secured party a period of temporary perfection —
ten days in Ontario and ifteen days in the other jurisdictions — within
which to perfect the security interest in the returned or repossessed

104 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 29(3); (NL, NS) s 30(3); O s 27(3);
Y s 28(4).
644 PERSONAL PROPERTY SECURITY LAW

goods. This step is not necessary if the chattel paper inancer has taken
the precaution of registering in advance a inancing statement that con-
tains a description of the goods. Nor is it necessary if it is the chattel
paper inancer rather than the seller who has repossessed the goods.105
If, however, the goods are repossessed by the seller rather than by the
chattel paper inancer, then the chattel paper inancer must perfect the
security interest in the goods by registration. This holds true even if
the transfer to the chattel paper inancer was by way of a sale and the
seller was acting wrongfully in taking possession of the goods without
the consent of the chattel paper inancer.
The continuation of the security interest in the returned or repos-
sessed goods will not give the chattel paper inancer priority over all
competing parties. Ordinary course buyers will take free of the security
interest.106

3) The Account Financer’s Interest

The Act also creates a security interest in returned or repossessed goods
in favour of a secured party who had been given a security interest in
accounts of the seller.107 One might well question the wisdom of this
legislative policy, since most account inancers would not really expect to
be able to resort to the goods under these circumstances. As with trans-
fers of chattel paper, the accounts inancer must ensure that the security
interest in the returned or repossessed goods is perfected. If the accounts
inancer has not taken the precaution of registering in advance a inan-
cing statement that contains a description of the goods, the Act gives a
temporary perfection period within which to efect the registration.

4) The Resolution of Priority Competitions

It is possible that an inventory inancer, a chattel paper inancer, and
an accounts inancer may each be able to claim a security interest in
returned or repossessed goods. The Acts contain a special set of priority
rules that govern such competitions. There is, however, a signiicant

105 This represents a departure from the rule in most of the non-Ontario Acts that
possession by way of seizure or repossession does not qualify as a perfection
step. See Chapter 5, Section E(2).
106 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 30(2); (NL, NS) s 31(2); O s 28(1);
Y s 29(1).
107 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 29(3); (NL, NS) s 30(3); O s 27(3);
Y s 28(4).
 Following and Tracing into New Forms of Collateral 645

diference between the Ontario and Yukon Acts and the Acts in the other
jurisdictions as to how such priority competitions are to be resolved.

a) The Situation Outside of Ontario and Yukon

Except for Ontario and Yukon, the PPSA jurisdictions have adopted a
common solution to the priority problem. The accounts inancer is given
the lowest priority ranking. The security interest of the accounts inancer
will be subordinate to the reattached security interest of an inventory
inancer and to the security interest of a chattel paper inancer in the
returned or repossessed goods.108 The chattel paper inancer is given the
highest priority, and the inventory inancer therefore comes second in
the ranking of priorities.109 The inventory inancer is not permitted to
circumvent this second ranking by asserting a security interest in the
goods as new collateral rather than on the basis of the reattached security
interest. The chattel paper inancer is given priority over the inventory
inancer’s reattached security interest, and is also given priority over any
security interest in the goods as after-acquired property.
The Act provides temporary perfection periods in respect of the
continued security interests of chattel paper inancers and accounts
inancers. These secured parties must register or otherwise perfect their
security interests within this period in order to maintain priority over
the trustee in bankruptcy and other competing claimants such as subse-
quent transferees and secured parties. What is not made clear is whether
this requirement for perfection of the continued security interest also
applies to the special priority rule that governs competitions between a
reattached security interest of an inventory inancer and the continued
security interests of a chattel paper inancer and an accounts inancer.
In other words, can a chattel paper inancer who fails to register within
the temporary perfection period nevertheless claim priority over the
reattached security interest of an inventory inancer? The PPSA priority
rule that governs such disputes does not expressly provide that this
priority is dependent on continued perfection of the security interest.
However, there is good reason to read this provision as subject to a
perfection requirement. In the absence of such a requirement, circular
priority problems can easily arise. In the event of the debtor’s bank-
ruptcy, the chattel paper inancer would have priority over an inventory
inancer but would be subordinate to the trustee in bankruptcy. The
inventory inancer would have priority over the trustee in bankruptcy
but would be subordinate to the chattel paper inancer. This problem
is eliminated if the special priority rule is only available in cases where
108 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 29(5); (NL, NS) s 30(5).
109 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 29(6); (NL, NS) s 30(6).
646 PERSONAL PROPERTY SECURITY LAW

the continued security interest of the chattel paper inancer is continu-

ously perfected.

b) The Ontario Provision

The Ontario Act provides three basic rules for resolving a priority com-
petition in respect of returned or repossessed goods. As between a chat-
tel paper inancer and an inventory inancer, the party who has priority
with respect to the chattel paper will also have priority with respect
to the returned or repossessed goods.110 So long as the chattel paper
inancer purchases the chattel paper in the ordinary course of business
and for value, the chattel paper inancer will be entitled to priority.111 In
respect of other priority competitions, the chattel paper inancer’s sec-
urity interest in the goods is deemed to have been perfected at the time
the security interest in the chattel paper was perfected.112 Finally, an
account inancer’s security interest in the returned or repossessed goods
is deemed to have been perfected at the time that the security interest
in the accounts was perfected.113 All of these rules are applicable only if
the security interest of the chattel paper inancer or account inancer in
the returned or repossessed goods was continuously perfected.
Under this scheme, the account inancer’s security interest in the
returned or repossessed goods is not necessarily subordinated to the
security interest of the chattel paper inancer or the inventory inancer.
The accounts inancer will have priority over the inventory inancer if
the accounts inancer perfected with respect to the accounts before the
inventory inancer perfected with respect to the inventory. If, however,
the inventory inancer has taken a purchase money security interest, the
inventory inancer will be able to claim priority over the accounts inan-
cer. The accounts inancer will also have priority over the chattel paper
inancer if the accounts inancer perfected with respect to the accounts
before the chattel paper inancer perfected with respect to the chattel
paper. The chattel paper inancer is given priority over the inventory
inancer so long as the chattel paper inancer had priority with respect
to the chattel paper, and this is so even if the chattel paper inancer was
not the irst to perfect.
The Ontario provision can produce odd results. An accounts inan-
cer who registers irst will have priority over a chattel paper inancer.

110 OPPSA s 27(6)(a).

111 OPPSA s 28(3)(b). The provision does not require the purchaser to be without
knowledge against a secured party who claims the chattel paper as proceeds of
inventory.
112 OPPSA s 27(6)(b).
113 OPPSA s 27(5).
 Following and Tracing into New Forms of Collateral 647

The chattel paper inancer will have priority over an inventory inancer
but will be subordinate to the accounts inancer. The accounts inancer
will, however, be subordinate to the inventory inancer who has taken
a purchase money security interest in the inventory. This produces a
circular priority problem. There is also an interpretive problem. Unlike
the Acts in the other jurisdictions, the Ontario Act only subordinates
the reattached security interest of the inventory inancer. The inventory
inancer may therefore attempt to assert priority over the chattel paper
inancer by claiming priority on the basis of an after-acquired property
clause rather than on the basis of the reattached security interest that
is given by statute.

c) The Yukon Provision

The Yukon Act takes a somewhat diferent approach than the Ontario
Act and the other Acts. It contains two priority rules. The chattel paper
inancer is given priority over the inventory inancer if the chattel
paper inancer takes possession of the chattel paper in the ordinary
course of business.114 The inventory inancer is given priority over an
accounts inancer.115 The provisions do not provide a special priority
rule where there is a competition between an accounts inancer and a
chattel paper inancer.

D. FIXTURES AND CROPS

Under the common law, goods lose their separate identity upon being
attached to land so as to become ixtures.116 The common law developed
a number of tests to determine what degree of attachment was needed in
order for this to happen. This posed a signiicant risk to a secured party
who had inanced the acquisition of the goods. Although the secured
party could include a contractual stipulation that permitted the secured
party to remove the ixtures from the land, this provision only operated
as against the debtor and gave the secured party no right of removal
against a buyer or mortgagee of the land.117
The PPSA sets out a comprehensive legal regime governing ix-
tures. The Act gives the secured party a right to remove ixtures and it

114 YPPSA s 28(4).

115 YPPSA s 28(5).
116 This was expressed in the Latin maxim: quicquid plantatur solo, solo cedit (what-
ever is ixed in the ground, becomes part of the ground). See Gough v Wood &
Co, [1894] 1 QB 713.
117 Hobson v Gorringe, [1897] 1 Ch 182 (CA).
648 PERSONAL PROPERTY SECURITY LAW

regulates the manner by which this right of removal may be exercised.

The Act also governs priority disputes that may arise between a secured
party who exercises the right of removal and a party with an interest in
the real property who claims the ixtures as part of the land. The Act
adopts a similar set of rules to govern crops growing on land.

1) The Deinition of Fixtures

The PPSA provides a deinition of ixtures, but it is not comprehensive.
The deinition merely provides that the ixtures do not include building
materials.118 The Ontario Act does not deine building materials. The
other Acts provide an extensive deinition of this term. The term “ix-
tures” as it is used in the PPSA therefore refers to goods that are con-
sidered to be ixtures according to the common law tests for ixtures,
other than goods that are classiied as building materials.
From these deinitions, a threefold scheme of categorization can be
derived. The irst encompasses goods that have become permanently
incorporated into the land,119 as well as goods categorized as building
materials. These goods will not fall within the deinition of ixtures
and the secured party will not have a right to remove the goods from
the land. The second category encompasses goods that are so slightly
attached to the land that they do not satisfy the common law test for
becoming ixtures. These goods will not have lost their separate iden-
tity. The ixtures provisions will not apply and no priority competition
will arise in relation to real property claimants since the goods do not
form part of the land. The third category encompasses goods that fall
within the deinition of ixtures. The secured party will enjoy a right of
removal in respect of these goods, and priority competitions with real
property claimants will be resolved by the priority rules of the PPSA
governing ixtures.
The common law tests for ixtures focus on two elements: (1) the
extent to which the goods have been physically attached to the land and
the permanence of this condition (the degree of annexation); and (2) the
purpose of the attachment, that is, whether it was intended to enhance
the use or value of the land (the object of annexation).120 Courts have
applied these common law tests in determining if the goods have been

118 PPSA (A, BC, NWT, Nu, O, Y) s 1(1); (M, NB, PEI) s 1; (NL, NS) s 2; S s 2(1).
119 Examples would include topsoil that is spread to create a lawn and trees that
are planted on the land.
120 Holland v Hodgson (1872), LR 7 CP 328. The most frequently cited Canadian
case is Stack v Eaton Co, [1902] 4 OLR 335 at 338 (Div Ct). See also Royal Bank
of Canada v Maple Ridge Farmers Market Ltd (1995), 34 CBR (3d) 270 (BCSC);
 Following and Tracing into New Forms of Collateral 649

suiciently attached to the land so as to become ixtures, for the pur-

poses of determining whether the PPSA ixtures rules apply.121
The PPSA in jurisdictions other than Ontario contains a deinition
of building materials. The deinition provides that it includes goods that
are attached to a building122 such that their removal would necessarily
involve the dislocation or destruction of some part of the building or
would weaken the structure or expose it to the elements. The deinition
excludes heating, air conditioning, and conveyancing devices, as well as
machinery for carrying out an activity in the building. The deinition
recognizes technological advances in building construction. Traditional
techniques usually involved a high degree of permanence in the incor-
poration of the goods into the structure (for example, bricks and mortar).
Modern building materials and construction techniques are often mod-
ularized so that components such as windows and walls can be easily
removed. The PPSA deinition of building materials therefore does not
look at the degree of annexation but adopts instead a pragmatic approach
that asks whether the component is essential to the integrity of the build-
ing.123 Although items such as furnaces and elevators would normally
qualify as building materials, they are excluded because they are com-
monly used as independent goods collateral in commercial practice.
In interpreting the Ontario Act, which does not contain a dein-
ition of building materials, one Ontario court has held that the term
is not restricted to components such as lumber, brick, and mortar that
become incorporated into the structure, but includes materials that
are “so closely interlinked and identiied with other materials generally
described as building material, that they must for all practical purposes

Ontario Wilderness Outposts Inc v Nishnawbe Aski Development Fund (2006), 9

PPSAC (3d) 222 (Ont SCJ).
121 See, for example, CMIC Mortgage Investment Corp v Rodriguez, 2010 BCSC 308
(a portable synthetic tent-like structure stretched over metal arches and resting
by its own weight on the land was not considered to be a ixture). For a more
extensive discussion of the caselaw, see RCC Cuming, “The Law of Fixtures:
The Need for a Diferent Approach” (2018) 61 Can Bus LJ 1; M Burke, “Fixture
Financing under the PPSA: The Ongoing Conlict between Realty and Fix-
ture-Secured Interests” (1986) 24 Osgoode Hall LJ 547.
122 The term “building” is deined as a structure, erection, mine, or work in the
non- Ontario Acts. See PPSA (A, BC, NWT, Nu, Y) s 1(1); (M, NB, PEI) s 1; (NL,
NS) s 2; S s 2(1).
123 This is also the case under the Ontario Act, which does not contain a deinition
of building material. See Pezzack v Irving Bank Canada (1989), 69 OR (2d) 536
(HCJ) [Pezzack] (furnace, ceiling-suspended gas heaters, electric baseboard
heaters, air-conditioning and infrared portable ceiling heaters not considered to
be building materials).
650 PERSONAL PROPERTY SECURITY LAW

be considered as building materials.”124 Applying this test, the court

concluded that an electric weigh scale that was bolted to concrete foot-
ings belonged in the category of building materials, where both the con-
crete deck and the scale would be destroyed by the removal process.125

2) The Priority of a Security Interest in Fixtures

The priority provisions of the PPSA governing ixtures cover two dif-
ferent situations. The irst is where a security interest is taken in goods
before they are aixed to land. The second is where the debtor gives a
security interest in an existing ixture.
Where a security interest is taken in goods before they are aixed
to land, the secured party will have priority over a person who has an
interest in the land.126 This is illustrated in the following scenario.
D owns the land upon which a factory is located. D mortgages the land to M.
A ixtures inancer (SP) takes a security interest in manufacturing equipment
that is later installed in the factory in such a manner as to be considered
ixtures.
SP will have priority over M. SP does not need to ile a notice in the land
registration system in order to claim this priority.127 When M advances
funds pursuant to the real property mortgage, M does not do so on the
expectation that the value of the land will be enhanced by the pres-
ence of the ixture and therefore M is not prejudiced by the exercise
of SP’s right of removal. Nor does it matter if SP’s security interest was
unperfected. Lack of perfection will subordinate SP1’s security interest
to competing security interests in the goods, but it will be of no signii-
cance where the competition is with a person who holds an interest in

124 Charles A Hare Ltd v Payn (1982), 18 BLR 209 at 214 (Ont HCJ), quoting from
Alexander v McGillivray (1932), 41 OWN 406 (HCJ).
125 The scale would likely not be classiied as building materials in the other juris-
dictions that deine the term. However, courts in those jurisdictions would
probably arrive at the same result by concluding that the goods became perma-
nently incorporated into the land and therefore did not qualify as ixtures.
126 PPSA (BC, M, NWT, Nu, S) s 36(3); (A, NB, PEI) s 36(2); (NL, NS) s 37(2);
O s 34(1); Y s 35(1).
127 Canadian Imperial Bank of Commerce v Nelson & Nelson Holdings Inc (1988), 68
Sask R 278 (QB). A prior real property mortgagee who also holds a security
interest in the debtor’s goods is not precluded from asserting the PPSA security
interest against the ixture inancer. Priorities in this case will be determined by
the ordinary priority rules of the PPSA. See Surrey Metro Savings Credit Union v
Chestnut Hill Homes Inc (1997), 30 BCLR (3d) 92 (SC).
 Following and Tracing into New Forms of Collateral 651

the land in view of the absence of any reliance on the PPSA registry by
the person with the interest in the land.
A secured party may take a security interest in a ixture that has
already been aixed to the land when the security agreement is entered
into. In this case, the security interest in the ixture will be subordin-
ate to existing real property interests unless the holders of such inter-
ests consent to the security interest or disclaim their interest in the
ixtures.128
Once the goods are aixed to the land, third parties who thereafter
acquire interests in the land will operate under the expectation that
they are acquiring the land including the ixture. In order to prevent
prejudice to these parties, the secured party must ile a ixtures notice in
the land registration system to alert such parties that the secured party
has the right to remove the ixture from the land. A secured party who
fails to register this notice will lose priority against a subsequent real
property interest holder who acquires the interest for value.129 The sec-
urity interest will also be subordinate to a prior mortgagee who makes
a subsequent advance after the goods are aixed unless a ixtures notice
is registered before the advance is made. The subordination is not for
the entire mortgage debt, but only for the future advance that was made.
The Ontario Act requires that the subsequent real property interest
holder must have been without knowledge of the security interest in the
ixtures.130 In the other jurisdictions, it is enough that the real property
interest holder acted without fraud.131
Outside of Ontario, a failure to register a ixtures notice will result
in subordination of the ixtures security interest in two other cases. The
security interest will be subordinate to a judgment enforcement creditor
who causes a writ or judgment to be registered in the land titles sys-
tem.132 If the secured party has a purchase money security interest in

128 PPSA (A, BC, NWT, Nu) s 36(5); (M, S) s 36(6); (NB, PEI) s 36(7); (NL, NS)
s 37(7); O s 34(1); Y s 35(1).
129 PPSA (A, BC, NWT, Nu) s 36(5); (M, S) s 36(6); (NB, PEI) s 36(7); (NL, NS)
s 37(7); O s 34(1); Y s 35(1). The Ontario Act refers to a “subsequent purchaser.”
The deinition of purchaser in s 1 includes a mortgagee. The Yukon Act operates
in the same fashion as the Ontario Act. The other Acts make it clear that the
protected purchasers include a person who obtains an assignment of a prior real
property interest. The Ontario and Yukon Acts do not indicate if the provision
covers an assignment from the real property interest holder or if it is restricted
to a transfer from the debtor.
130 OPPSA s 34(2).
131 PPSA (BC, M, NB, NWT, Nu, PEI, S) s 36(4); A s 36(3); (NL, NS) s 37(4); Y s 35(2).
132 PPSA (A, BC, NWT, Nu) s 36(6); (M, S) s 36(7); (NB, PEI) s 36(9); (NL, NS) s 37(9);
Y s 35(3).
652 PERSONAL PROPERTY SECURITY LAW

the goods, the secured party is given a ifteen-day grace period within
which to register the ixtures notice.133 The security interest will also
be defeated by a prior mortgagee who obtains an order for sale or fore-
closure of the land before the ixtures notice is registered.134
The common law recognizes a special class of ixtures known as
tenant’s ixtures. Fixtures that are installed by a tenant can be removed
from the land. This distinction is of no relevance under the PPSA. Goods
that become aixed to the land are subject to the Act whether or not
they qualify as tenant’s ixtures under the common law.135 However, the
concept may still be of some utility in identifying situations where the
owner of land should be considered as having implicitly consented to
the removal of the goods.136 In such cases, the secured party’s right to
remove the goods will take priority over the interest of the real property
interest holder.137 Although the PPSA does not provide a similar priority
rule in respect of real property interests that are created after the goods
are aixed to the land, the situation will be governed by general prin-
ciples of the common law pertaining to consent and waiver with the
result that a real property interest holder who consents to the removal
of the goods or who disclaims an interest in the ixtures will not be able
to assert a claim to the ixtures.

3) The Role of Real Property Priority Rules

The PPSA ixtures provisions are designed to reverse the common law
rule that what is ixed to the ground becomes part of the ground. This
is accomplished by giving the secured party a right to remove the ix-
tures. In order to assert the right of removal against subsequent real
property interest holders, it is necessary to register a ixtures notice.
Where a secured party has not registered a ixtures notice, the security
interest in the ixtures may come into competition with both a prior
real property interest as well as a subsequent real property interest. It

133 PPSA (A, BC, NWT, Nu) s 36(7); (M, S) s 36(8); (NB, PEI) s 36(10); (NL, NS)
s 37(10); Y s 35(4).
134 PPSA (BC, M, NB, NWT, Nu, PEI, S) s 36(4); A s 36(3); (NL, NS) s 37(4); Y no
equivalent provision.
135 Cormier v Federal Business Development Bank (1983), 3 PPSAC 161 (Ont Co Ct);
Pezzack, above note 123; 859587 Ontario Ltd v Starmark Property Management
Ltd (1997), 12 PPSAC (2d) 281 (Ont Ct Gen Div), af’d (1998), 14 PPSAC (2d) 20
(Ont CA).
136 See Sawridge Manor Ltd v Selkirk Springs International Corp (1995), 10 PPSAC
(2d) 124 (BCCA).
137 PPSA (A, BC, NWT, Nu) s 36(5); (M, S) s 36(6); (NB, PEI) s 36(7); (NL, NS)
s. 37(7); O s 4(1); Y s 35(1).
 Following and Tracing into New Forms of Collateral 653

is then necessary to understand the interplay between the real property

priority rules and the PPSA ixtures priority rules.
This issue was examined by the Ontario Court of Appeal in GMS
Securities & Appraisals Ltd v Rich-Wood Kitchens Ltd.138 National Trust
(NT) had taken and registered a mortgage of land. NT then made several
advances pursuant to the mortgage. Rich-Wood Kitchens Ltd (RW) sold
a cabinet to the debtor under a secured instalment purchase agreement.
The cabinet was then aixed to the land. RW did not register a ixtures
notice in the land registry system. GMS Securities & Appraisals Ltd
(GMS) then took a second mortgage. The debtor later defaulted on all
the obligations owing to all parties. All but one of NT’s advances was
made before the goods were aixed to the land. The land was sold
pursuant to NT’s power of sale, but the proceeds were not suicient to
satisfy all of the outstanding claims. NT clearly had priority over both
RW and GMS in respect of the one advance that NT made after the
goods became ixtures. The controversy concerned the other advances
that were made before the goods were attached to the land. If the matter
involved only NT and RW, it would have been resolved in RW’s favour
since registration of a ixtures notice is only necessary as against subse-
quent real property interests. However, RW’s failure to register the ix-
tures notice resulted in the loss of RW’s right of removal as against GMS.
The Court of Appeal viewed the issue as raising a circular priority
problem. RW had priority over NT (because the PPSA gives a security
interest in ixtures priority over a prior real property interest). GMS had
priority over RW (because the PPSA gives a subsequent real property
interest priority over a security interest in ixtures where no ixtures
notice is registered). But NT had priority over GMS (because of the
irst to register priority rule of the real property registry system). The
court placed the loss on NT. It reasoned that by exercising the power
of sale, NT converted RW’s security interest in the ixture. NT was
therefore required to compensate RW for this loss. NT was entitled to
be subrogated to any right that RW had against GMS. However, since
RW did not register a ixtures notice, RW had no claim against GMS and
therefore this right of subrogation was of no value to NT.
The reasoning of the court is inadequate in two respects. First, it
assumes that RW had the right to remove the ixtures from the land.
This ignores the fact that RW lost the right to remove the ixture as
against GMS by failing to register the ixtures notice. If the court had
taken into account the PPSA ixtures priority rule that applied between
RW and GMS, it would have concluded that RW’s right to remove the

138 (1995), 121 DLR (4th) 278 (Ont CA).

654 PERSONAL PROPERTY SECURITY LAW

ixture had been terminated under the PPSA. Second, the reasoning
used by the court will result in diferent outcomes depending upon
which party realizes on the collateral. If RW had removed the cabinets
from the land and sold them, the analysis would be as follows. GMS
would claim that RW’s removal of the cabinets interfered with GMS’s
right to retain them as part of the land. RW would therefore be bound to
compensate GMS. RW would be subrogated to any right that GMS had
against NT. But because NT was the irst to register, GMS had no claim
against NT and therefore this right of subrogation was of no value. The
loss would therefore fall on RW.
The circular priority problem would have been avoided if the court
had applied the PPSA priority regime and the real property priority
regime only to priority contests within their respective purviews. Apply-
ing the PPSA priority rule, RW’s right to remove the ixture was lost
because of RW’s failure to register the ixtures notice. The competition
between NT and GMS would then be resolved by applying the usual irst-
to-register real property priority rule. This approach has the advantage of
placing the loss on the party (RW) who failed to take the steps necessary
to protect that party’s claim. The PPSA in efect in Saskatchewan and the
Atlantic provinces includes a provision designed to produce this result.
The Acts of these jurisdictions provide that the priority that is given to
a subsequent real property interest-holder is not afected by the priority
rules of the real property registration system.139
An alternative approach, in jurisdictions that have not enacted an
express rule to resolve this issue, is to apply the general solution to
resolving circular priority systems.140 This would give GMS the right
to be subrogated to RW’s priority on the basis that since RW’s failure
to register a ixtures notice created the circular priority, RW should be
required to turn over the value of RW’s claim to GMS. Both approaches
would, in the irst instance, place the loss on the party that failed to
take the steps required to protect that party’s interest. The diference is
that the irst approach treats the failure as cutting-of the interest of the
ixture inancer whereas the latter approach views it as a true circular
priority problem.141

139 PPSA (NB, PEI) s 36(6); (NL, NS) s 37(6); S s 36(18). And see Law Commission
of Saskatchewan, Proposals for a New Personal Property Security Act (Saskatoon:
Law Commission of Saskatchewan, 1992) at 58–59.
140 See Chapter 8, Section J. And see RJ Wood, “Circular Priorities in Secured
Transactions Law” (2010) 47 Alta L Rev 823 at 847–48.
141 The former approach gives NT priority over GMS. The latter approach gives
GMS priority over NT up to the value of RW’s claim.
 Following and Tracing into New Forms of Collateral 655

4) Enforcing Security Interests in Fixtures

The PPSA contains a set of rules that lay out the procedural steps that
must be undertaken by a secured party who wishes to exercise the right
to remove ixtures from the land. The rules attempt to achieve a fair
balance between the interest of the secured party who has a security
interest in the ixture, and the interests of persons who have an interest
in the land, other than the debtor, who will be afected by the removal
of the ixture. The underlying assumption, of course, is that the secured
party has priority over the real property interest holders and therefore
has the right to remove the ixtures from the land.142
In most cases, the removal of the ixture will result in some inci-
dental damage to the land. A secured party who removes ixtures must
exercise the right of removal in a manner that causes no greater damage
or injury to the land or to other property on it and puts the occupier of
the land at no greater inconvenience than is necessarily incidental to the
removal of the goods.143 The person with an interest in the land, other
than the debtor, has the right to be reimbursed for any damage caused
to the land, other than the diminishment of value to the land caused by
the absence of the ixture.144 The person entitled to this reimbursement
may refuse permission to remove the goods until the secured party
gives adequate security.145 The secured party must give a notice of inten-
tion to remove the goods to parties who have registered their interests
in the land under the real property registry system.146 The notice must

142 This is expressly provided in s 34(5) of the OPPSA.

143 PPSA (A, BC, NWT, Nu) s 36(8); (M, S) s 36(6); (NB, PEI) s 36(11); (NL, NS) s
37(11); Y s 35(13). The OPPSA does not contain a comparable provision, but it is
likely that a court would interpret the Act as mandating a similar obligation.
144 PPSA (A, BC, NWT, Nu) s 36(9); (M, S) s 36(10); (NB, PEI) s 36(12); (NL, NS)
s 37(12); O s 34(3); Y s 35(8). The security that can be demanded by the person
with an interest in land is only in respect of damages caused by the removal.
The claimant cannot demand that the ixtures inancer pay unpaid property
taxes or rent. See Gari Holdings Ltd v Langham Credit Union Ltd, 2005 SKCA 97
[Gari Holdings].
145 PPSA (A, BC, NWT, Nu) s 36(10); (M, S) s 36(11); (NB, PEI) s 36(13); (NL, NS)
s 37(13); O s 34(4); Y s 35(9). Outside of Ontario, the Acts also provide that a
secured party may apply to court for an order identifying the person entitled
to the reimbursement, an order determining the adequacy of the security, or
an order authorizing the removal without provision for reimbursement. See
PPSA (A, BC, NWT, Nu) s 36(11); (M, S) s 36(12); (NB, PEI) s 36(14); (NL, NS) s
37(14); Y s 35(10). The real property interest-holder may also apply for an order
postponing removal. See PPSA (A, BC, NWT, Nu) s 36(16); (M, S) s 36(17); (NB,
PEI) s 36(19); (NL, NS) s 37(19); Y s 35(11).
146 The notice period is ten days in Ontario and ifteen days in the other jurisdic-
tions. A failure by the ixture inancer to remove the goods within a reasonable
656 PERSONAL PROPERTY SECURITY LAW

describe the collateral and state the value of the obligation secured by
the security interest in the ixture. A real property interest-holder may
retain the ixtures by paying out the secured party. The Acts outside
of Ontario make it clear that the amount that is to be paid is the lesser
of the obligation secured or the market value of the ixtures.147 The
Ontario Act provides for payment of the amount required to satisfy the
obligation secured by the security interest, which may be greater than
the value of the ixtures.148

5) Security Interests in Crops

Growing crops have a hybrid nature at common law. They can be sold
or mortgaged separately from the land, but they can also pass to a buyer
or mortgagee as part of the land. This raises the possibility of a priority
competition between a person who takes a PPSA security interest in the
crops and a person who acquires an interest in the crops as part of the
land. Jurisdictions other than Ontario and Yukon have included provi-
sions in the PPSA to regulate the priority and enforcement of security
interests in crops.149 These provisions contain priority rules that are
substantially similar in structure to the PPSA ixtures priority provi-
sions. The rules governing the procedure for enforcement of a security
interest against ixtures are incorporated by reference. Thus, the provi-
sions governing reimbursement for loss, security, notice, and redemp-
tion apply to growing crops.
A secured party who takes a security interest in growing crops has
priority over a person who had an interest in the land before the crops
became growing crops. The crop inancer must register a notice in the
real property registration system in order to claim priority over a sub-
sequent transferee of the land, a prior mortgagee who makes future
advances, or a prior mortgagee who obtains title to the land through
enforcement of land mortgage remedies.150 Registration is also needed
to protect the security interest in crops against a writ or judgment that
is subsequently registered against the land.151

time after giving the notice may give the real property interest holder a right to
recover any loss sufered as a result of the delay. See Gari Holdings, above note 144.
147 PPSA (A, BC, NWT, Nu) s 36(12); (M, S) s 36(13); (NB, PEI) s 36(15); (NL, NS)
s 37(15); Y s 35(12).
148 OPPSA s 34(7).
149 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 37; (NL, NS) s 38.
150 PPSA (BC, M, NB, NWT, Nu, PEI, S) s 37(4); A s 37(3); (NL, NS) s 38(4).
151 PPSA (BC, M, NB, NWT, Nu, PEI, S) s 37(5); A s 37(4); (NL, NS) s 38(5). As in
the case of ixtures, the secured party is given a ifteen-day grace period from
 Following and Tracing into New Forms of Collateral 657

The PPSA crop priority provisions only apply to crops that are grow-
ing crops. If the crops have been severed from the land prior to the cre-
ation of the subsequent real property interest, the crops will be treated
purely as personal property and a competition with a real property
interest will not arise. The crop priority rules will also not apply where
the contest is between two competing security interests in the growing
crops. Priorities will be determined by applying the ordinary priority
rules of the PPSA, and registration of the security interest in the real
property registry system will be of no relevance.

E. ACCESSIONS

Diiculties can arise when a secured party has taken a security inter-
est in goods and those goods are then attached to or installed in other
goods. For example, tires may be installed on a truck or spare parts in
an engine. The secured party will wish to assert the right to remove
the accessory goods and sell them upon a default under the security
agreement. Other third parties may resist the removal. The goods that
constitute the whole (that is, the combined goods) may have been sold
to a third party who did not know of the security interest, or the debtor
may have granted a security interest in the whole to another secured
party. The PPSA provides a set of rules that governs the priority of
security interests in accessions and also provides a procedure for the
removal of the accessory goods from the whole. These rules are similar
in structure to the rules that govern ixtures.

1) The Deinition of Accessions

At common law, accession occurs when one item is joined to another
with the result that the separate identity of one of the items is lost in
the other. It is necessary to identify one of the items as the dominant
or principal goods that maintains its identity, and the other item as the
subordinate or accession goods that loses its separate identity. If both
items are signiicantly changed in the process, then speciication rather
than accession occurs and both items lose their separate identity. The
common law doctrine of accession does not apply to all cases where
one item is attached to another. A number of diferent tests have been

the time that the security interest in the crops attaches if a purchase money sec-
urity interest is involved.
658 PERSONAL PROPERTY SECURITY LAW

devised to determine when accession occurs.152 One of the principal

tests is whether the accessory goods can be removed from the whole
without destroying or seriously damaging it.153 A second test is whether
the accessory goods have lost their separate identity. A third test asks if
the removal would destroy their commercial identity. A fourth looks to
the intentions of the parties and the purpose of the attachment.154 The
problem with the common law tests is that the meaning of the term
accession tends to shift depending on the relationship between the par-
ties, a problem exacerbated by the multiplicity and essential vagueness
of the tests.155 Thus, under pre-PPSA law, where the contest involved a
conditional seller who sold tires that were installed on a truck, it was
generally thought that the goods did not lose their separate identity
through the law of accession against a prior conditional seller of the
truck. But courts were more inclined to ind there would be an acces-
sion if the truck, together with the tires, were sold to an innocent buyer.
The deinition of accessions contained in the PPSA represents a sig-
niicant break from the common law.156 Because the PPSA provides a
right to remove the accession and contains a set of priority rules that
take into account the diferent position of the competing claimants, it is
possible to replace the common law tests for accession with a much sim-
pler test. The PPSA deines accession simply as goods that are installed
in or aixed to other goods.157 This deinition encompasses many situa-
tions that would not have been regarded as involving an accession under
the common law. Tires attached to a truck will now unquestionably be
treated as an accession under the PPSA. There no longer is a require-
ment that the items must be irreversibly united. It will still be necessary
to exclude situations where the joining of the items is so slight and tem-
porary that neither item falls within the deinition of an accession. For
example, a television linked to a DVD player by a cable would not fall
within the deinition of an accession since it cannot be said that either
item is aixed to or installed in the other.
The deinition of accession is limited to goods that are capable of
being removed from the whole. The provisions governing accessions are

152 See AG Guest, “Accession and Confusion in the Law of Hire Purchase” (1964)
27 Mod L Rev 505.
153 Industrial Acceptance Corp Ltd v Firestone Tire & Rubber Co of Canada Ltd (1970),
[1971] SCR 357, rev’g (1969), 8 DLR (3d) 770 (Alta CA) [Industrial Acceptance].
154 The various tests are set out in Industrial Acceptance, ibid (Alta CA).
155 This was acknowledged by Laskin J in Industrial Acceptance, above note 153 (SCC).
156 See Kulchyski v Shuswap Ventures Corp (1994), 7 PPSAC (2d) 216 (BCSC); Third
Eye Capital Corporation v Ranch Energy Corporation, 2019 ABQB 780 [Third Eye
Capital].
157 PPSA (A, BC, NWT, Nu, O, Y) s 1(1); (M, NB, PEI) s 1; (NL, NS) s 2; S s 2(1).
 Following and Tracing into New Forms of Collateral 659

premised on the idea that a secured party who has been given a security
interest in the accessory goods has a right to remove them. If the goods
are not removable at all, then the situation will likely be governed by
the PPSA provisions that govern processed or commingled goods.158
Situations that at common law were regarded as involving accession
will often now be governed by these provisions rather than by the PPSA
accession rules.

2) The Priority of a Security Interest in Accessions

The accession provisions of the PPSA contain a set of priority rules.
These rules are designed to ensure that a person who acquires an inter-
est in goods is forewarned of the existence of a security interest in
accessory goods. This is important because the secured party will be
entitled to remove the accessory goods from the whole. If the secured
party fails to take the necessary steps to protect the security interest,
the secured party’s right to remove the accessions will be subordinate
to the interest of any person who has acquired an interest in the whole.
The Act draws a distinction between two situations. The irst is where
a security interest is taken in the goods and the goods are then aixed
to the whole. The second is where the debtor gives a security interest in
accessory goods after they have been aixed to or installed in the whole.
Where a security interest is taken in the goods before they are
attached to the whole, the secured party has priority over a person who
has an interest in the whole.159 Suppose that SP1 takes a security interest
in an automobile. SP2 takes a security interest in an air conditioner. The
air conditioner is then installed in the automobile. SP2 will have prior-
ity over SP1. This priority does not depend upon registration of SP2’s
security interest. The rationale for this approach is the same as for the
equivalent rule in the context of ixtures. SP1 did not operate under an
expectation that the automobile had an air conditioner, and therefore
SP2 is permitted to exercise the right to remove the air conditioner free
from SP1’s claim to it.
A secured party may take a security interest in accessory goods after
they have already been aixed to the whole.160 In this case, the security
interest in the accessory goods will be subordinate to any person who
had an interest in the whole at the time of accession unless that person

158 See Third Eye Capital, above note 156 at paras 27−29.
159 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 38(2); (NL, NS) s 39(2); O s 35(1);
Y s 36(1).
160 PPSA (A, BC, M, NWT, Nu, S) s 38(4); (NB, PEI) s 38(5); (NL, NS) s 38(5);
O s 35(1); Y s 36(2).
660 PERSONAL PROPERTY SECURITY LAW

consents to the security interest or disclaims an interest in the acces-

sory goods.
Once the goods are aixed, the secured party with a security inter-
est in the accessory goods must register in the personal property regis-
try in order to ensure priority over third parties who thereafter acquire
interests in the whole for value and without knowledge.161 The Ontario
Act only protects subsequent buyers.162 The other Acts go further and
protect a person who acquires an interest in the whole, including an
assignee.163 Prior secured parties are also protected to the extent that
they make advances after the accession occurs. The non-Ontario Acts
also protect a prior secured party who exercises the right to retain the
accessory goods in satisfaction of the obligation secured. Registration
is also needed to maintain priority over subsequent judgment enforce-
ment creditors.164 A short grace period is provided if the security inter-
est in the accessory goods is a purchase money security interest.165

3) Enforcing Security Interests in Accessions

The accession provisions contain a set of rules governing the enforce-
ment of a security interest in accessions. They are very similar in struc-
ture to the enforcement rules in respect of ixtures. A secured party who
has a security interest in the accessory goods must exercise the right
of removal in a manner that causes no greater damage or injury to the
whole and puts the other person at no greater inconvenience than is

161 As to what constitutes knowledge, see Third Eye Capital, above note 156 at paras
29−39.
162 OPPSA s 35(2).
163 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 38(3); (NL, NS) s 39(3); Y s 36(2). In
Pratt & Whitney Leasing Inc v Ellis Air Inc (2002), 6 PPSAC (3d) 84 (BCSC), the
court held that this did not extend to a court order that lifted a stay of proceed-
ings and permitted a lessor to repossess the leased goods.
164 In Atlantic Canada, the enforcement creditor will win if a notice of judgment is
registered in the personal property registry before the security interest in the
accessory goods is registered. See NBPPSA s 38(7); NS s 39(7); PEI s 38(6.1). In
other jurisdictions, the enforcement creditor will have priority if the enforce-
ment creditor seizes or otherwise takes control of the property through the
exercise of one of the judgment enforcement remedies. See PPSA (BC, M, NWT,
Nu, S) s 38(5); O s 35(2); Y s 36(3); A no equivalent provision. However, s 35(2)
of the Civil Enforcement Act, RSA 2000, c C-15, am SA 2002, c 17, s 1 gives prior-
ity to an enforcement creditor if the security interest is not registered or per-
fected at the time the writ is registered.
165 PPSA (BC, M, NWT, Nu, S) s 38(6); NB s 38(8); NS s 39(8); O s35(3); PEI s
38(6.2); Y s 36(4) (ifteen-day grace period).
 Following and Tracing into New Forms of Collateral 661

necessarily incidental to the removal of the accessory goods.166 A person

with an interest in the whole, other than the debtor, has the right to be
reimbursed for any damage caused to the whole, other than the dimin-
ishment of value to the whole caused by the absence of the accession.167
The person entitled to reimbursement may refuse permission to remove
the accessory goods until the secured party gives adequate security.168
The secured party must give notice of intention to remove the accessory
goods to parties who are known to have an interest in the whole or who
have registered a inancing statement against the whole in the personal
property registry.169 The notice must describe the accessory goods and
state the value of the obligation secured by the security interest in the
accessory goods. A person with an interest in the whole may retain the
accessory goods by paying out the secured party. The Acts outside of
Ontario make it clear that the amount that is to be paid is the lesser of
the obligation secured or the market value of the accessory goods.170 The
Ontario Act provides for payment of the amount required to satisfy the
obligation secured by the security interest, which may be greater than
the value of the accessory goods.171

F. MANUFACTURED AND COMMINGLED

GOODS

The PPSA contains a set of rules that govern where the collateral is
manufactured into a diferent product. These rules also govern where
a security interest is taken in fungible goods that are then mixed with
other fungibles.172 These rules have two functions. First, they provide

166 PPSA (BC, M, NWT, Nu, PEI, S) s 38(7); A s 38(5); NB s 38(9); NL s 39(7); NS s
39(9). The Ontario and Yukon Acts do not contain a comparable provision, but it
is likely that a court would interpret the Acts as mandating a similar obligation.
167 PPSA (BC, M, NWT, Nu, PEI, S) s 38(8); A s 38(6); NB s 38(10); NL s 39(8); NS s
39(10); O s 35(4); Y s 36(8).
168 PPSA (BC, M, NWT, Nu, PEI, S) s 38(9); A s 38(7); NB s 38(11); NL s 39(9); NS s
39(11); O s 35(5); Y s 36(9).
169 PPSA (A, BC, M, NWT, Nu, PEI, S) ss 38(12)–(14); NB ss 38(14)–(15); NL ss
39(12)–(14); NS ss 39(14)–(16); O ss 35(6)–(7). The notice period is ten days in
Ontario and ifteen days in the other jurisdictions.
170 PPSA (BC, M, NWT, Nu, PEI, S) s 38(11); A s 38(9); NB s 38(13); NL s 39(11);
NS s 39(13); O s 35(8); Y s 36(12).
171 OPPSA s 35(8).
172 The New Zealand decision in New Zealand Associated Refrigerated Food Dis-
tributors Ltd v Simpson, [2008] NZHC 951 indicated that the provision only
applies when two goods are combined to form a diferent kind of product. This
662 PERSONAL PROPERTY SECURITY LAW

that the security interest in the component goods continues in the

inished product or the mixture. Second, they provide rules for the
resolution of priority competitions. The Ontario Act is much less com-
plete and contains only a single provision. The other Acts have worked
out a more detailed set of rules. Courts in Ontario may therefore ind it
useful to examine the other Acts to ill in the gaps in the Ontario Act.

1) Continuation of the Security Interest in the Product or

Mass
At common law, an interest in goods is lost when the goods are manufac-
tured or otherwise transformed into a new thing. This occurs when the
nature of the goods is so altered that their original identity is lost. The
common law refers to this principle as speciication. Thus, prior to PPSA
reform, a seller who retained title in resin to secure the unpaid purchase
price could not claim any interest in the chipboard into which the resin
was manufactured or in the proceeds of sale of the chipboard.173 The
common law takes a diferent approach in respect of fungible goods that
are mixed. The mixing does not result in a loss of the interest. Rather,
the contributor is able to claim a proportionate share of the mixture.174
The PPSA provides that a security interest in goods that are manu-
factured, processed, assembled, or commingled continues in the prod-
uct or mass.175 The common law rules governing speciication and
mixtures are thereby displaced. The manufacturing or processing of
the goods into a new product will no longer result in the destruction
of the security interest. Under the PPSA, the secured party is able to
assert a security interest in the new product. The section will therefore
apply where blank paper is manufactured into a book or pamphlet176 (or
resin into chipboard, to revert to the earlier example). The PPSA pro-
vision also applies when the separate identity of goods is lost through
commingling. It therefore will cover cases where fungibles, such as two

interpretation is not supported by the language of the provision, which clearly

indicates that it applies where fungible goods are commingled into a common
mass; see G Gilmore, Security Interests in Personal Property, vol 2 (Boston: Little,
Brown, 1965) at 841 and 847. The non-application of the provision in the deci-
sion might better be rationalized on the basis that there was not a mixing or
commingling of the goods resulting in a loss of identity. See also Massey Fer-
guson Industries Ltd v Melfort Credit Union Ltd (1987), 8 PPSAC 1 (Sask CA).
173 Borden (UK) Ltd v Scottish Timber Products Ltd, [1981] Ch 25 (CA).
174 See Birks, above note 3.
175 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 39(1); (NL, NS) s 40(1); O s 37; Y s 37(1).
176 Unisource Canada Inc v Hongkong Bank of Canada Inc (1998), 14 PPSAC (2d) 112
(Ont Ct Gen Div) [Unisource Canada].
 Following and Tracing into New Forms of Collateral 663

quantities of wheat, are mixed to form a single mass. This rule only
applies if the security interest is perfected. As a consequence, a secured
party who is given a security interest in component parts cannot assert
it against the product or mass if the secured party has failed to perfect
that security interest.177
The situation that is covered by the PPSA provisions on commingled
and processed goods should be distinguished from a number of other
situations. The provisions will not apply where the goods are acces-
sions. Accessions are governed by a diferent set of PPSA provisions.
There should be no overlap between the two sets of rules. The rules
governing accessions only apply where the accessory goods are attached
to the whole, but do not lose their separate identity (for example, tires
installed on a truck). If identiication of the goods becomes impossible
or if the goods are no longer removable (for example, gold plate applied
to jewellery), then the provisions governing commingled and processed
goods apply.
The provisions only apply if the goods have been manufactured,
processed, assembled, or commingled. The goods may have been con-
sumed in ways that do not fall within the ambit of the provisions. For
example, a security interest that is taken in food or drugs that are fed
to cattle does not result in a continuation of the security interest in the
cattle.178 Nor will the provisions apply to a security interest in fuel that
ires a furnace used to manufacture pottery.
The provisions should also be contrasted with situations that involve
a disposition of the original collateral in a manner that gives rise to a
proceeds security interest under the PPSA. Proceeds arise when there is
a dealing with the collateral. This should not be interpreted as covering
a transformation in goods that results from the processing or commin-
gling of the goods. Proceeds will arise only where there has been some
kind of exchange under which the collateral is disposed of and substi-
tute property is acquired in its place.179 Accordingly, there should be no
overlap between the two sets of provisions.

2) Perfection of the Security Interest in the Product

The PPSA provides that a security interest in goods that are later com-
mingled or processed continues in the inished product. However, it
is also necessary to determine if this security interest in the inished

177 In this respect it operates as an exception to the usual rule that lack of perfec-
tion is only relevant in respect of competitions with third parties.
178 See First National Bank of Brush v Bostron, 564 P 2d 964 (Colo App 1977).
179 See Section B(2)(c), above in this chapter.
664 PERSONAL PROPERTY SECURITY LAW

product has been perfected. The collateral description in the inancing

statement may describe the component but fail to describe the inished
product. For example, a inancing statement may describe the collateral
as resin. If the resin is processed into chipboard, the collateral descrip-
tion will not cover the inished product. The issue here concerns the
efect that this will have on the perfected status of the resin inancer’s
security interest in the inished product.
All of the Acts provide that a perfected security interest in compon-
ent goods continues in the product or mass. Searching parties there-
fore should not limit their examination of search results to collateral
descriptions describing the inished product. They must also look for
registrations that contain descriptions of component goods used to pro-
duce the product.

3) Competing Security Interests in the Separate

Components
More than one perfected security interest in components may be con-
tinued in the product. In such a case, it will be necessary to resolve a
priority competition between two or more secured parties who have
perfected security interests in separate components, since each will be
able to claim a security interest in the product. Grant Gilmore, one of
the chief architects of Article 9 of the Uniform Commercial Code, uses
the now-classic example of candy that is made from sugar and chocolate.
Suppose that SP1 has a perfected security interest in the sugar and SP2
has a perfected security interest in the chocolate. The two components
are then manufactured into candy. The Ontario Act provides that “the
security interests rank equally according to the ratio that the cost of
the goods to which each interest originally attached bears to the cost of
the total product or mass.”180 Unfortunately, this wording was imported
without modiication from an older version of the Uniform Commercial
Code,181 despite the fact that Gilmore had provided a detailed analysis
of its laws.182 The problem with the wording is that it refers to the total
cost of the candy, and the total cost is not limited to the costs of the two
components but may also include labour and overhead costs. Suppose
that the cost of the sugar is $3,000, the cost of the chocolate is $5,000,
and the cost of labour and overhead is $2,000. The OPPSA formulae

180 OPPSA s 37.

181 UCC § 9-315. The problem has been rectiied in the most recent revision. See
1999 Rev UCC § 9-336.
182 See Gilmore, above note 172 at 851–54.
 Following and Tracing into New Forms of Collateral 665

would give SP1 a claim to 30 percent of the value of the candy, SP2 a
claim to 50 percent of its value, and the trustee in bankruptcy would
be entitled to the remaining 20 percent. The result is that the trustee
in bankruptcy may be entitled to claim part of the value of the inished
product even though neither of the claims of the secured parties has
been fully satisied.183
This problem in wording is rectiied in the Acts of the other PPSA
jurisdictions. They provide that the holders of the security interests in
the components “are entitled to share in the product or mass in the ratio
that the obligation secured by each security interest bears to the sum
of the obligations secured by all security interests.”184 Under this rule,
SP1 would receive 3/8 or 37.5 percent of the value of the candy, while SP2
would receive 5/8 or 62.5 percent. These Acts also provide that, for the
purposes of this provision, the obligation secured cannot be greater than
the market value of the component at the time the component becomes
part of the product or mass.185 If the market value of the sugar was $1,000
but the obligation secured by SP1’s security interest in the sugar was
$3,000, the obligation secured would be capped at the market value of
the component ($1,000). If the obligation secured was $1,000, but the
market value of the component was $3,000, the $1,000 igure repre-
senting the obligation secured would be used for the purposes of the
calculation.
The Ontario Act does not provide a priority rule to cover the situa-
tion where the security interest in one of the components is a purchase
money security interest while the security interest in another of the
components is not.186 The other Acts provide that the proportional shar-
ing rule is displaced in this case and priority is given to the purchase
money security interest.187 This priority is limited to the value of the
component goods on the day that they became part of the product.188

183 For example, if the candy is sold for $5,000, SP1 will receive $1,500, SP2 $2,500,
and the trustee $1,000.
184 PPSA (BC, M, NB, NWT, Nu, PEI, S) s 39(2); A s 39(4); (NL, NS) s 40(2); Y s 37(2).
185 PPSA (BC, M, NB, NWT, Nu, PEI, S) s 39(4); A s 39(5); (NL, NS) s 40(4); (O, Y)
no equivalent provision.
186 Unisource Canada, above note 176, involved a competition between a purchase
money security interest in component goods and a general security interest in
all of the debtor’s present and after-acquired personal property (i.e., all the com-
ponent goods and the inished product as well). The court held that the propor-
tionate sharing rule could not be applied in this situation.
187 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 39(6); (NL, NS) s 40(6); (O, Y) no
equivalent provision.
188 PPSA (BC, M, NB, NWT, Nu, PEI, S) s 39(5); A s 39(3); (NL, NS) s 40(5); (O, Y)
no equivalent provision.
666 PERSONAL PROPERTY SECURITY LAW

4) Competing Security Interests in a Component and a

Product
The proportional sharing rule does not apply where the competition is
between a secured party who has a security interest in a component that
continues in the product and another secured party who has a security
interest in the product as original collateral. If the security interest in
the component was not a purchase money security interest, the compe-
tition will be resolved by applying the residual priority rule that governs
competitions between secured parties. If the security interest in the
product was registered before the security interest in the component
was registered, the security interest in the product or mass will have
priority. This is illustrated in the following scenario.
SP1 is given a security interest in boots produced by a manufacturer, and SP1
registers irst in time. SP2 is later given a security interest in leather, which SP2
registers second in time. The leather is then processed into boots.
SP2’s security interest continues into the boots, but the priority compe-
tition will be resolved by applying the irst-to-register rule of priority.189
SP1 will therefore have priority over SP2 in respect of the boots.
The Ontario Act does not provide a priority rule where the compe-
tition is between a purchase money security interest in a component
and a security interest in the product. In Unisource Canada Inc v Hong-
kong Bank of Canada Inc,190 the court held that a perfected purchase
money security interest in component goods has priority over a security
interest in the product. The Acts in the other jurisdictions provide an
express set of priority rules to govern such competitions. A purchase
money security interest in goods other than inventory that continues
in the product has priority over a competing security interest in the
product.191 When inventory is involved, the priority rules parallel the
priority rules that govern purchase money security interests in inven-
tory. When the component is inventory, the secured party who holds
the purchase money security interest in the component must notify a
secured party who has a prior registration covering the product of the
intention to take a purchase money security interest in the inventory.192

189 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 39(6); (NL, NS) s 40(6); (O, Y) no
equivalent provision.
190 Above note 176.
191 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 39(6); (NL, NS) s 40(6); (O, Y) no
equivalent provision.
192 PPSA (A, BC, M, NB, NWT, Nu, PEI, S) s 39(6); (NB, PEI) s 39(7); (NL, NS)
s 40(7); PEI s 39(7); (O, Y) no equivalent provision.
 Following and Tracing into New Forms of Collateral 667

The notice must be given before the components are incorporated into
the product.

5) Valuation Limits on Continued Security Interests

The PPSA permits a security interest in a component to continue into
the product. What happens when the obligation that is secured by the
component is greater than the value of the component? This is illus-
trated in the following scenario. Assume that SP1’s security interest
in component goods (potatoes) has priority over SP’s security interest
in the product (frozen french fries). This may occur where SP1 regis-
ters before SP2. Or it may occur if SP1 has a purchase money security
interest in the component goods and takes the required steps needed
to obtain priority. The obligation secured by SP1’s security interest is
$10,000, but the value of the potatoes is only $3,000. The Ontario Act
does not place an express limit on the value of SP1’s claim to the french
fries. The Acts in the other jurisdictions limit SP1’s claim to the value
of the component goods at the time they became part of the product.
Therefore, SP1’s priority over SP2 in respect of the frozen french fries is
limited to $3,000.193
The valuation limits in some of the Acts apply only in respect of a
competition with another security interest. This might be taken to sug-
gest that a secured party can assert a security interest in the product to
secure the full secured obligation ($10,000 in the preceding example)
when the competition is with a buyer or trustee in bankruptcy or when
enforcing the claim against the debtor. This argument should be rejected.
The purpose behind the processing and commingling provisions is to
allow the security interest in the component to continue into the prod-
uct. It is not intended to give the secured party a windfall. This is most
easily demonstrated where a mixture, rather than a processing of the
goods, is involved. Suppose that a secured party has a security interest
in 100 kilograms of nails. The nails are worth $1,000. The obligation
secured by the security interest is $3,000. The nails are then mixed with
100 kilograms of similar nails belonging to the debtor. The mass is now
valued at $2,000. The mixing of the nails provides no justiication for
giving the secured party a security interest in any more than the value
of the nails that were added to the mixture. The Ontario Act and the
other Acts, to the extent that the competition does not involve another
secured party, should be read as subject to a value limitation.

193 PPSA (BC, M, NB, NWT, Nu, PEI, S) s 39(5); A s 39(3); (NL, NS) s 40(5); (O, Y)
no equivalent provision.
668 PERSONAL PROPERTY SECURITY LAW

The Acts in Atlantic Canada are worded more broadly so as to

remove the possibility of arguing that the value limitation only applies
to a competition with another secured party. Instead, the value limita-
tion applies whenever a security interest in a component continues in
a product.194

FURTHER READINGS

Burke, M. “Fixture Financing under the PPSA: The Ongoing Conlict

Between Realty and Fixture-Secured Interests” (1986) 24 Osgoode
Hall Law Journal 547.
Calnan, R. Proprietary Rights and Insolvency (Oxford: Oxford Univer-
sity Press, 2010).
Conaglen, M. “Diiculties with Backwards Tracing” (2011) 127 Law
Quarterly Review 432.
Cuming, RCC. “Protecting Security Interests in Proceeds: Equity
and Canadian Personal Property Acts” in DWM Waters, ed,
Equity, Fiduciaries and Trusts, 1993 (Agincourt, ON: Carswell,
1993) at 423.
———. “The Law of Fixtures: The Need for a Diferent Approach”
(2018) 61 Canadian Business Law Journal 1.
Duggan, A. “The Death and Resurrection of the Lowest Intermediate
Balance Rule” (2017) 80 Saskatchewan Law Review 209.
Smith, L. The Law of Tracing (Oxford: Clarendon Press, 1997).
———. “Tracing the Proceeds of Collateral under the PPSA: Flexi-Coil
Ltd v Kindersley District Credit Union Ltd” (1995) 25 Canadian
Business Law Journal 460.
Wood, RJ. “Accounts, Proceeds and Conversion: Bank of Nova Scotia v
IPS Invoice Payment System Corporations” (2011) 26 Banking and
Finance Law Review 359.

194 PPSA (NB, PEI) s 39(5); (NL, NS) s 40(5).