Netting and set-off
As financing transactions have become more sophisticated over the last decade, it has been common for parties to agree in advance matters relating to:
- the manner in which respective debts and credits will be calculated on the happening of a defined event so that a single payment is to be made from one party to another (netting). In particular, netting provisions play a large part in the standard Master Agreements produced by the International Swap and Derivatives Association (ISDA);
- the order in which parties will have priority in respect of claims against another person (contractual subordination); and
- the circumstances under which one or more parties may take action to have another person declared bankrupt (non-petition). The rating agencies often require debt issuing special purpose vehicles in capital markets transactions to have the protection of non-petition provisions as part of the 'bankruptcy remoteness' analysis.
The Bankruptcy (Netting, Contractual Subordination and Non-Petition Provisions) (Jersey) Law 2005 ensures certainty to parties entering into agreements involving netting, contractual subordination or non-petition provisions.
This update summarises its provisions.
Netting and set-off
Pursuant to Article 2 of the law (notwithstanding any enactment of rule of law to the contrary), any close-out netting provision or set-off provision in an agreement is enforceable in accordance with its terms. This is the case regardless of bankruptcy of any party or any other person or the lack of any mutuality of obligation between a party and any other person. The law provides that such provisions are enforceable against any of the parties, any guarantor or person providing security for a party and any party creditor.
The definition of an 'agreement' is widely drafted to include:
- any agreement between more than two parties;
- a series of inter-related agreements between the same parties (whether pursuant to a master netting agreement or otherwise); or
- an agreement made between parties, whether or not acting through multiple branches and whether operated through a clearing house system or otherwise.
The law defines 'netting' as the conversion, into one net claim or one net obligation, of all claims and obligations arising under the agreement to the effect that only a net claim can be demanded or a net obligation is owed.
A 'close-out netting provision' means so much of an agreement as relates to:
- there ceasing to be any time allowed for payment of an obligation specified in the agreement on the occurrence of an event specified in the agreement, including its automatic termination (eg, as provided in the ISDA Master Agreement);
- an obligation in an agreement to pay a specified amount, but not immediately becoming an obligation to pay an amount determined pursuant to the agreement; or
- any combination of the above, whether through the operation of netting or otherwise.
A 'set-off provision' means so much of any agreement (other than a close-out netting provision) as relates to the netting of amounts due from one party to the agreement to any other party to it.
Pursuant to Article 2 of the law (notwithstanding any enactment of rule of law to the contrary), any contractual subordination provision in an agreement is enforceable in accordance with its terms. As with close-out netting and set-off provisions, this is the case regardless of the bankruptcy of any party.
The law provides that such provisions are enforceable against any of the parties, any guarantor or person providing security for a party and any party creditor.
The law defines 'contractual subordination' as the subordination or deferral of all or any part of a claim of one party against a debtor of that party to the claim of any other creditor of that debtor.
Article 3 of the law provides that any non-petition provision in an agreement is enforceable in accordance with its terms despite bankruptcy of a party or any other person, or the lack of mutuality of obligation between a party and any other person. Article 3 expressly states that the Royal Court must refuse to grant any application which, if granted, would be inconsistent with the non-petition provision in any agreement.
Under Article 4 of the law, any provision which relates to the following shall be enforceable despite the bankruptcy of a party or of any other person, or the lack of mutuality or obligation between a party and any other person:
- a system or mechanism to be used to convert a non-financial obligation to a monetary obligation of an equivalent value;
- a system or mechanism to be used to value a non-financial obligation for netting purposes;
- a rate of exchange or the method to be used to establish the rate of exchange to be applied for netting purposes when the sums to be netted are in different currencies;
- the method to be used to establish the currency in which payment is to be effected; or
how certain transactions or other dealings or a type or class of transaction or dealing carried out pursuant to the agreement are to be treated as a single transaction or dealing for netting purposes.
Article 6 of the law provides that close-out netting provisions, contractual subordination provisions, non-petition provisions and set-off provisions in any agreement are valid and enforceable in Jersey where one of the parties is a subsidiary of a body corporate established outside Jersey, despite any other enactment or rule of law that may be applicable to such body corporate, including the law of the jurisdiction under which it is established.
For further information on this topic please contact Matthew Swan or Chris Byrne at Ogier by telephone (+44 1534 504 000), fax (+44 1534 504 444) or email ([email protected] or [email protected]).