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TORONTO (Reuters) - General Motors Corp is facing a lawsuit in Canada from unsecured bondholders after the auto giant paid dividends from a small Canadian unit even as it teetered near insolvency.
According to GM filings and sources close to the legal proceedings, the lawsuit was filed in Nova Scotia courts last month.
Sources with direct knowledge of the suit told Reuters on Monday that the dividend payouts meant there was a risk that holders of debt issued by the unit, General Motors Nova Scotia Finance Co, would not be paid.
"This is a violation of Canadian and U.S. laws," said one source close to the lawsuit who asked not to be identified. "Creditors have been left with nothing."
GM is trying to keep itself in business and is eyeing a plan for a bankruptcy filing that could split it into a "good" company comprised of its most successful units and an "bad" company of unprofitable units.
Bondholders are worried that a bankruptcy filing would force them to accept hefty losses on their investments.
The Canadian complaint was led by investment funds including Aurelius Capital Partners LP, a New York-based firm, according to a form 10-K filed with the U.S. Securities and Exchange Commission by General Motors Corp on March 5.
The Wall Street Journal said investment funds Drawbridge DSO Securities LLC and Appaloosa Investment Ltd were also listed on the complaint.
The newspaper said the funds held more than 60 percent of some $1 billion in notes issued by General Motors Nova Scotia Finance Co in 2003.
General Motors could not be reached for comment. But the March 5 SEC filing noted that bondholders assert that certain transactions violated sections of the Canadian Business Corporations Act. The disputed transactions include two returns of capital in May 2008 and an amendment to a credit agreement.
"Plaintiffs seek a declaration that each of these transactions is 'oppressive, unfairly prejudicial and unfairly disregarded the interests of creditors'," GM said in the SEC filing.
"Because this action was very recently filed and has not been investigated or analyzed, no views regarding the likely outcome can be expressed at this time," the company said.
General Motors, a household name for car buyers around the world, is already operating under $13.4 billion of emergency U.S. government loans. Its stock slumped on Monday as fears about a bankruptcy filing grew.
Reporting by Pav Jordan and John McCrank; editing by Janet Guttsman and Rob Wilson