On 26 June 2009 the Supreme Court of Canada released its decision in Caisse populaire Desjardins de l'Est de Drummond v Canada, 2009 SCC 29. The decision is significant for any creditor, and particularly a lender, that seeks to avail itself of the benefit of set-off against amounts owing by the debtor to the creditor.

In this case the debtor owed Can$277,000 to Caisse populaire de l'Est de Drummond (lender) for loans made to it. At the start of the lending relationship, the lender required that the debtor place on deposit with the lender the sum of Can$200,000 (deposit). Under the agreement between the lender and the debtor, the debtor could not withdraw the deposit during the currency of the loan. To better protect the lender's rights the parties entered into a "security given through savings" agreement allowing the lender to retain the deposit for the duration of debtor's indebtedness to the lender. The agreement also provided that, if the debtor defaulted, the lender could use the deposit as compensation (set-off) in respect of its claim under the credit agreement.

The debtor defaulted on the loan and later made an assignment in bankruptcy. The lender applied the deposit in reduction of the debt.

At the same time the debtor was indebted to the Federal Crown on account of employee source deductions under the Income Tax Act (Canada) and the Employment Insurance Act (Canada). Those statutes create a "deemed trust" in favour of the Crown over a tax debtor's property. That deemed trust has priority over a security interest.

The majority in the Supreme Court of Canada concluded that the agreement between the debtor and the lender gave rise to a security interest in the deposit, primarily through the use of charging language in the "security given through savings" agreement and that, since the Crown had priority over security interests, the Crown was entitled to payment out of the deposit in priority to the lender. The minority in the Supreme Court of Canada concluded that the defence of set-off or the right of compensation did not constitute a security interest for the purposes of the federal legislation in issue and that Crown's priority was subject to the application of set-off.

It is relatively typical for a lender in Canada to require that funds be held on deposit so that set-off rights are available. It is also relatively typical for a lender to take a pledge or other charging interest in those amounts as additional security. The Supreme Court of Canada's decision in this case makes clear that while the grant of a charge may be beneficial in some circumstances, in others it can reduce or eliminate a lender's power to exercise its set-off rights.