In our June 2011 Corporate Fraud, Investigations and Asset Recovery Update, we discussed the upcoming Europe-wide freezing order regulation. On 25 July 2011, the European Commission released the proposed European Account Preservation Order (EAPO) Regulation, which has been submitted for consideration by the European Parliament and the Council of the EU. Whilst it is likely to be several years before the regulation comes into force, it is likely that the infrastructure which will be required in order to administer the regime within the UK will be set up in the near future.
The regime introduces a new and additional kind of bank freezing order which is intended to be available throughout the European Union. The regime, if it is adopted in the UK, will impose new requirements on the infrastructure of the court system and will materially change the way banks do business in relation to requests to search and freeze accounts. Given that it is intended to be available in the courts of any EU Member State, it is reasonable to expect increased demands on banks in consequence. We set out below a quick reference guide to the regulation, looking at what the draft regulation will mean in practice.
Want to know more?
This bulletin is intended as a brief guide. There is, however, no doubt that the regulation will have important implications for commerce and the financial services industry. We will be discussing the regulation and the problems that will arise in relation to it in our webinar at 12.45pm on Monday 8 August 2011. The webinar will be given by Robert Hunter and Lucy Westwood. Robert served on a panel of experts which was consulted by the European Commission in relation to proposals for an EAPO. Please click here or contact Jane Webber if you wish to log on to the webinar.
EAPO regulation: quick reference guide
What is an EAPO?
An EAPO is a procedural device available to creditors which, when implemented, freezes some or all of the funds within any bank accounts held by a debtor which are located within the EU. "Bank account" is defined to include accounts containing cash or financial instruments, including transferable securities, options, futures, swaps and units in collective investment undertakings. The definition is a wide one although deposit boxes containing high value items would presumably not be covered. A creditor is entitled to freeze funds up to the value of its debt plus interest on the debt and (if it is a judgment creditor) costs. Once the EAPO attaches to a bank account, the bank is not permitted to withdraw or transfer funds from the bank account although if not all of the funds in the account are frozen, the surplus funds remain at the disposal of the debtor. In contrast to an English freezing order, which operates "in personam" and has the effect of restraining a debtor's conduct (and therefore any breach by the debtor constitutes contempt of court), an EAPO operates "in rem" and the obligations attach only to the debtor's property held by the bank. Unlike a freezing order, an EAPO does not give a creditor the right to obtain disclosure from the defendant of information relating to the defendant's assets.
The EAPO regime applies to all pecuniary claims in all cross-border civil and commercial matters excluding arbitration and insolvency. Accordingly, any creditor – from a simple debt recovery matter or child maintenance dispute through to a complex fraud action – can apply for an EAPO provided there is a cross-border element to the dispute.
If the EAPO is sought before the creditor has a judgment against the debtor, before it will grant an EAPO, the court must be satisfied that:
- the claim is "well founded", i.e. there is a reasonably strong prospect that it will succeed; and
- if the EAPO is not made, enforcement of the debt is likely to be impeded or made substantially more difficult, including because there is a real risk that the debtor might remove, dispose of or conceal assets in the bank account. The test goes beyond showing a general risk of dissipation (as is applied in English freezing orders) to a risk of dissipation of the assets within the bank account which the creditor wishes to freeze.
When can a creditor apply for an EAPO?
A creditor can apply for an EAPO prior to or during the commencement of the creditor's recovery action, or post-judgment as part of the enforcement process. In order to preserve the element of surprise (of particular use for victims of fraud), applications are made ex parte unless the creditor requests otherwise. In contrast to the usual position under English law, an ex parte applicant will not owe a duty of full and frank disclosure to ensure the court is aware of all relevant facts, except that the creditor will have to disclose whether another court is seised with an EAPO application or equivalent protective measure against the same defendant in relation to the same claim. In this regard, a creditor is entitled to issue more than one EAPO and seek to freeze several accounts in different Member States. However, if in doing so the creditor freezes more than the debt, it will have to release the "surplus" EAPOs within two days of being notified of any surplus. Under no circumstances will a debtor be able to freeze more than the amount of the debt in question, and the courts have the discretion to freeze a lesser amount.
If an EAPO is obtained prior to the commencement of the main recovery action, the creditor will have up to 30 days after the EAPO is granted to issue proceedings.
Does the creditor need details of the debtor's bank account to obtain an EAPO?
One of the more radical proposals in the draft regulation, at least from the English perspective, is the ability of a creditor to request a "competent authority" in the Member State in which the EAPO will be enforced to obtain the bank details of the debtor. Some Member States already have a central register under which an authorised agent can search all bank accounts within the state. England currently has no such register accessible to parties to civil proceedings. At present, if a freezing order is granted the onus is on the applicant to contact each bank which it believes holds assets of the respondent to the freezing order. It can sometimes be days before the bank is able to conduct a search and confirm whether or not the respondent holds an account with it.
The draft regulation proposes two options in relation to a national register: either enquiries can be made by a competent authority of all banks in the Member State to identify whether the debtor holds an account with them, or such information could be held on a central register which could be interrogated by the authority as and when required. Whichever path is adopted, there will be a significant amount of work required in England and Wales to set up the authority – by both the government and by financial institutions.
How are joint, nominee or trust accounts and innocent third parties affected?
The draft regulation defines "bank account" as including accounts "in the name of a third party on behalf of the defendant". Whilst a creditor is entitled to freeze (i) joint accounts; (ii) accounts held by a third party on behalf of the debtor; or (iii) accounts held by the debtor on behalf of a third party, these accounts can only be frozen to the extent permitted under the national law of the Member State. It is very common for accounts within categories (i) and (ii) to be frozen under an English freezing order, and in view of the recent case of JSC BTA Bank v Kythreotis  EWCA Civ 1436 (as to which see the latest issue of our Corporate Fraud, Investigations and Asset Recovery Update), it is likely that, in limited circumstances, the English courts will be prepared to freeze accounts falling within category (iii).
In the event that a third party is prejudiced by the EAPO - such as the beneficial owner of any assets frozen under category (ii) above - it is entitled to object to the EAPO before the Member State where the EAPO was issued or enforced.
In which state should a creditor apply for an EAPO?
A creditor has two options as to where it applies for an EAPO: either in the same Member State in which it is bringing its recovery action or (if judgment has been granted) it is enforcing the judgment, or where the bank account is located. Given that many aspects of the EAPO will be governed by national law, creditors will almost certainly engage in forum shopping to determine which state will best serve the creditor's objectives. In this regard, whilst the EAPO is aimed at creditors with a genuine debt claim, there will inevitably be a number of claims that are made with a view to exerting commercial pressure on a debtor.
Does the creditor have to provide security?
An applicant for a freezing order is routinely required to provide an undertaking as to damages in respect of any loss which the respondent may suffer as a result of the order. With an EAPO, the court has a discretion to order a creditor to provide a security deposit or equivalent assurance on account of any damage that might be suffered by the debtor. It is likely, at least in English EAPO applications, that some form of security or undertaking will be required in most if not all cases.
How long will it take to obtain and enforce an EAPO?
The European Commission is anxious to ensure that the EAPO process proceeds rapidly. What some Member States will regard as a very tight timetable has been laid down for applications:
- a pre judgment EAPO must be issued within 7 days of the application being filed or (if there is an oral hearing – which itself must take place within 7 days of filing) within 7 days of the hearing. Where the EAPO is sought post judgment, it must be issued within 3 days of filing; and
- the bank must implement the EAPO immediately upon being served and within 3 days it must issue a declaration as to whether the account has been frozen and if so, to what extent the funds have been frozen.
How much will it cost to obtain an EAPO?
The European Commission wishes to make the EAPO application process cost effective for small debts. Depending upon the national law, a creditor is likely to be liable for (i) search fees by the competent authority (if the bank account details are unknown); (ii) bank search or execution fees; and (iii) court fees, which must not be set at a level in any European Union Member State which will discourage creditors from using the procedure.
Can the debtor challenge the order?
There is broad scope for a debtor to challenge an EAPO, either in the Member State where the EAPO was issued, or where the EAPO will be enforced. If the debtor is a consumer, employee or insured, he will also have a right of challenge in his Member State.
Any challenge must be made within 45 days of "the day the defendant was effectively acquainted with the contents of the order and was able to react".
Is the debtor entitled to living expenses?
Depending on the national law of the Member State of enforcement, a creditor will not be entitled to freeze any amount necessary "to ensure the livelihood of the debtor and his family" or, where the debtor is a company, to "ensure the possibility to pursue a normal course of business". In England and Wales, it is within the discretion of the court to allow a respondent to a freezing order to use a specific amount of funds per week for his ordinary living expenses and to deal or dispose with assets in the ordinary and proper course of business but there is usually a strict rein on personal expenditure and in many cases there is an argument as to what a respondent actually requires to pay his ordinary living expenses. It remains to be seen whether the courts will interpret the fairly wide ambit of the draft regulation in a similarly restrictive manner.
Banks and traders: how will this change your business?
Traditionally, the significant cost of applying for a freezing order has effectively operated to limit the number of requests from creditors for banks to freeze accounts and to provide information regarding those accounts. This landscape is set to change radically. The EAPO has been structured with a view to ensuring speedy, simple and cost effective cross border debt recovery by individuals and small businesses. The potential number of EAPOs which financial institutions may face is very significant. The European Commission estimates that one million small businesses face problems in recovering cross-border debts, and there are around 67,000 cross-border child maintenance debt claims in the EU each year.
In terms of the cost to financial institutions, banks will be entitled to payment of their costs of responding to search requests or implementing EAPOs only where they are entitled to be paid under national law in relation to orders of equivalent effect. Whilst the UK government will presumably introduce fixed search and execution fees for banks, it seems unlikely that this revenue stream will completely offset the banks' costs of compliance, particularly given the resources which will be required in order to comply with the 3 day window banks will have to freeze the account and inform the creditor.
Will the UK opt in?
The UK government has until 24 October 2011 to elect whether to opt in. The UK has traditionally opted into all regulations regarding civil justice and absent significant lobbying against the draft regulation, it is likely that the UK will do so here, despite the cost to the government of establishing a central register or search facility of all UK bank accounts. Financial institutions should seize the opportunity to formulate proposals as to how the regulation can be implemented with minimal disruption and least cost to them.