New EU Regulation on Cross-Border Preservation of Accounts Potentially Useful Tool to Secure Assets in EU Member States

January 18, 2017, was the effective date of EU Regulation No 655/2014 of May 15, 2014 (the "Regulation"). The main purpose of the Regulation was the establishment of a European Account Preservation Order procedure: a uniform, harmonized procedure that makes it easier for creditors to obtain protective measures within the European Union (the "EU").

The Regulation enables a creditor to obtain a "preservation order" (a "PO") designed to ensure that the creditor can enforce its claims against a debtor or its assets in a cross-border EU context. The Regulation applies only to pecuniary claims asserted in civil and commercial matters in cross-border cases. A cross-border case is defined as a case in which any bank account to be preserved by a PO is maintained by the debtor in an EU member state other than the member state containing the court in which the application for the PO is filed or the member state in which the creditor is domiciled.

A creditor may obtain a PO before suing the debtor in the court of an EU member state upon demonstrating emergent need that its ultimate recovery may be jeopardized, and a likelihood of success on the merits in the litigation, or after obtaining a judgment against the debtor. A debtor may oppose the entry or implementation of a PO or seek its modification or revocation once entered. A debtor also has the right to post security in lieu of entry of a PO and may appeal the PO. Damages for any injury sustained by the debtor due to the entry of a PO may be imposed on the creditor under appropriate circumstances.

A more detailed discussion of the Regulation is available here. The Regulation does not apply in the United Kingdom or Denmark, which did not adopt it.

Amendments to German Insolvency Law Provide Clarity on Status of Netting Agreements

In December 2016, the German legislature amended the German Insolvency Code (the "Insolvency Code") to clarify the status of netting arrangements in financial transactions. Doubts about that status were raised by a June 9, 2016, ruling by the German Federal Court of Justice (Docket No. IX ZR 314/14) invalidating netting provisions used throughout the financial industry (patterned, for example, on the German Master Agreement for Financial Derivatives Transactions and the International Swaps and Derivatives Association Master Agreement) if they deviate from the requirements set forth in section 104 of the Insolvency Code, which are mandatory pursuant to section 119 of the Insolvency Code. Specifically, the court invalidated the contractual calculation method for claims of nonperformance in the case of insolvency by either party. The decision left open whether a contractually agreed-upon early termination right violates section 104.

The amendments were published in the Federal Gazette on December 28, 2016. Among other things, the amendments:

  • Clarify and clearly differentiate between the statutory resolution rules for financial contracts and the scope of permissible contractual departures from the statutory rules;
  • Leave largely intact the existing statutory model for resolving and settling financial contracts in case of insolvency; and
  • Update the list of covered financial transactions to reflect the current status of financial services supervision.

The core of the reform is revised paragraph 4 of section 104. This provides that counterparties may contractually agree on netting provisions which deviate from the statutory provisions governing termination and settlement of regulated contracts as long as the deviations are compatible with the essential principles of section 104, thereby in principle upholding existing standard industry netting arrangements. On the day the June 9 court ruling was rendered, the German Federal Financial Supervisory Authority (Bundesanstalt für Finanzdienstleistungsaufsicht, or the "BaFin") issued a general decree to the effect that closeout netting arrangements of the type which were dealt with in the court ruling would be consummated as agreed upon among the parties concerned. This administrative decree was effective only until December 31, 2016. The statutory amendments to section 104 of the Insolvency Code apply from December 29, 2016, onwards. Thus, due to the rapid response by the BaFin and the German legislature, the impact of the Federal Court of Justice’s decision is limited.

Reforms to German Insolvency Code Avoidance Action Provisions

In February 2017, the German legislature enacted reforms designed to improve procedures governing the avoidance of pre-insolvency transfers and to encourage work-outs between debtors and creditors. Under the Insolvency Code, an insolvency trustee (or the supervisor in a debtor-in-possession proceeding) has the power to avoid and recover: (i) preferential transfers made during the three months prior to the petition date; (ii) transfers made with the intent to defraud creditors during the 10 years prior to the petition date, if the transferee had knowledge of the debtor’s intent or is deemed to have constructive knowledge of fraudulent intent because it was aware of the debtor’s anticipated cash-flow insolvency and the fact that the transfer would harm creditors; (iii) transfers made for no consideration during the four years prior to the petition date; (iv) shareholder loan repayments made during the year prior to the petition date; and (v) certain transfers made subsequent to the petition date but before the formal commencement of insolvency proceedings.

The reform amends, among other things, the fraudulent transfer provisions in the Insolvency Code by reducing to four years the longest-possible avoidance look-back period of 10 years (applicable to "claw-back" of transfers made by a debtor with the intent to harm creditors), provided that such four-year period applies in those instances where the transfer resulted in a fulfillment of the transferee’s claim or the securing of such claim. It also changes the rules governing the circumstances under which a transferee will be deemed to have knowledge of the debtor-transferor’s insolvency, especially in cases where the transferee has agreed to modified payment terms on a loan or extension of credit or with respect to the delivery of goods and services made before an agreement as to the modified payment terms was reached. In addition, the reform amends the Insolvency Code to require that, if a contemporaneous exchange for new value is challenged as a fraudulent transfer, the transferee must have had knowledge at the time of the transfer of the debtor’s "dishonesty" as well as the debtor’s insolvency and its intention to cause harm to creditors.

According to the legislative history, the amendment is intended to obligate the administrator to prove—as was required prior to 2003—that the debtor and the transferee actively colluded to remove assets from the reach of creditors or that the transferee had knowledge of the debtor’s intent to do so.

Finally, section 143 of the Insolvency Code was amended to provide that interest accrues on a monetary avoidance judgment only after the transferee defaults on paying the judgment. Previously, interest began to accrue on the filing date of the avoidance litigation and became payable if the insolvency administrator prevailed in the litigation.