Challenges of Cross-Border Insolvencies

A talk presented to the 16th Commonwealth Law Conference in Hong Kong.

The UNCITRAL Model Law on Cross-Border Insolvency, Hong Kong and the Commonwealth

Background

The United Nations Commission on International Trade Law (UNCITRAL) initiated the Model Law against the backdrop of increasing incidence of cross-border insolvencies. National insolvency laws were considered ill-equipped to deal with cases of a cross-border nature, resulting in inadequate and inharmonious legal approaches. This in effect hampers the rescue of finally troubled businesses, impedes the protection of the assets of the insolvent debtor against dissipation and hinders maximisation of the value of those assets. Moreover, the absence of predictability in the handling of cross-border insolvency cases impedes capital flow and is a disincentive to cross-border investment.

Purpose

UNCITRAL adopted the Model Law in 1997 with the aim of providing an interface between the insolvency laws of different countries, focusing on the four key areas of access, recognition, assistance and cooperation. This is to assist countries to manage cross-border insolvency cases in an efficient, fair and cost-effective manner.

Scope of Application

The Model Law may be applied in a number of cross-border insolvency situations (Article 1(1)), including the following:

  1. the case of an inward-bound request for recognition of a foreign proceeding;
  2. an outward-bound request from a court or administrator in the enacting state for recognition of an insolvency proceeding commenced under the laws of the enacting state;
  3. coordination of concurrent proceedings in two or more states; and
  4. participation of foreign creditors in insolvency proceedings taking place in the enacting state.

While in principle the Model Law applies to insolvency proceedings in relation to all types of debtor, Article 1(2) contemplates the possibility of excluding from the scope of application of the Model Law certain types of entities, such as banks and insurance companies. These entities are usually subject to special local insolvency regimes.

Key Provisions

Access of foreign representatives to local courts

The Model Law gives a foreign representative the right to direct access to the courts of the enacting state. This avoids the need to rely on cumbersome and time-consuming forms of diplomatic or consular communications that might otherwise have to be used. This facilitates a cooperative approach to cross-border insolvency and makes speedy action possible (Article 9).

A foreign representative is entitled to commence a proceeding under the local insolvency laws if the conditions for commencing such a proceeding are otherwise met. A foreign representative has this right without the need of prior recognition of the foreign proceeding because the commencement of an insolvency proceeding might be crucial in cases of urgent need for preserving the assets of the debtor (Article 11).

The Model Law provides that the foreign representative has procedural standing for participating in an insolvency proceeding in the enacting state. This includes making petitions, requests or submissions concerning issues such as protection, realisation or distribution of assets of the debtor or cooperation with the foreign proceeding (Article 12)

A foreign representative is given the right to intervene in proceedings concerning individual actions in the enacting state affecting the debtor or its assets (Article 24).

Access of foreign creditors to local courts

The Model Law embodies the concept of equal treatment of creditors. Foreign creditors have the same rights as local creditors when they apply to commence an insolvency proceeding in the enacting state. This does not affect the manner in which their claims will be ranked. Foreign creditors, at a minimum, must receive the treatment given to general unsecured creditors (Article 13).

Recognition of foreign proceedings

The basic idea of the Model Law is that the application for recognition should be dealt with and decided upon at the earliest time possible and with as little formality as possible. Articles 15 and 16 of the Model Law set out the paperwork that should accompany a foreign representative’s application for recognition and the presumption of authenticity of the application papers.

Article 17 mandates that a foreign proceeding shall be recognised as a foreign main proceeding or a foreign non-main proceeding. The local court is obliged to determine the recognition application promptly.

A foreign main proceeding is a foreign proceeding taking place in the state where the debtor has its centre of main interests. A foreign non-main proceeding is a foreign proceeding, other than the foreign main proceeding, taking place in a state where the debtor has an establishment, that is, any place of operations where the debtor carries out a non-transitory economic activity with human means and goods or services.

Interim relief

Upon application for recognition of foreign proceedings, the Model Law allows the court, at the foreign representative’s request, to grant interim relief which is urgently needed to protect the debtor’s assets or the creditor’s interests. This includes staying execution against the debtor’s assets and entrusting the administration or realisation of all or part of the debtor’s assets to the foreign representative or another person designated by the court (Article 19).

Automatic relief

Upon recognition of a foreign main proceeding, certain automatic relief ensues, including:

  • a stay of actions of individual creditors against the debtor;
  • a stay of execution against the debtor’s assets; and
  • suspension of the debtor’s right to transfer or encumber its assets (Article 20).

There is no automatic stay when a recognition order is made in relation to foreign non-main proceedings.

Discretionary relief

In addition to the mandatory stay and suspension, the Model Law authorises the court to grant discretionary relief for the benefit of any foreign proceeding, whether it is a main proceeding or not (Article 21). The scope of the discretionary relief includes matters already covered by the interim relief under Article 19 and automatic relief under Article 20.

Protection of creditors and other interested persons

The Model Law contains provisions requiring the court to be satisfied that the interests of the creditors and other interested persons are adequately protected when granting or denying relief. The court may subject the relief granted to conditions it considers appropriate, and may modify or terminate such relief if requested by any person affected (Article 22).

Communication and cooperation

Local courts and insolvency representatives are authorised to communicate directly with foreign courts and foreign representatives. Although the Model Law restricts its recognition regime to foreign proceedings opened in a state where the debtor has its centre of main interests or an establishment, the cooperation provisions extend to foreign proceedings opened on the sole basis of the presence of assets within the foreign state. Nor is the court’s ability to cooperate conditional on a prior recognition of the foreign proceeding (Articles 25-27).

Concurrent proceedings

The Model Law deals with the possibility of concurrent local and foreign insolvency proceedings.

The Model Law provides for the commencement of a local insolvency proceeding subsequent to the recognition of a foreign main proceeding. Such a commencement is possible only if the debtor has assets in the state. The effect of the local proceeding will be limited to the local assets.

The Model Law deals with coordination between a local proceeding and a foreign proceeding concerning the same debtor (Article 29) and facilitates coordination between two or more foreign proceedings concerning the same debtor (Article 30).

When the local insolvency proceeding is already under way at the time that recognition of a foreign proceeding is requested, the Model Law requires that any relief granted for the benefit of the foreign proceeding must be consistent with the local proceeding.

When the local proceeding begins subsequent to recognition or application for recognition of the foreign proceeding, the relief that has been granted for the benefit of the foreign proceeding must be reviewed and modified or terminated if inconsistent with the local proceeding.

Another rule designed to enhance coordination of concurrent proceedings is the one on rate of payment of creditors (Article 32). It provides that a creditor, by claiming in more than one proceeding, does not receive more than the proportion of payment that is obtained by other creditors of the same class.

Status

Legislation based on the Model Law has been adopted in:

  • Eritrea (1998);
  • Japan (2000);
  • Mexico (2000);
  • South Africa (2000)*;
  • Montenegro (2002);
  • Poland (2003);
  • Romania (2003);
  • Serbia (2004);
  • British Virgin Islands; overseas territory of the United Kingdom of Great Britain and Northern Ireland (2005)*;
  • United States of America (2005)
  • Colombia (2006);
  • Great Britain (2006)*;
  • New Zealand (2006)*;
  • Republic of Korea (2006); and
  • Australia (2008)*.

(* Commonwealth member states)

Great Britain

The UK Parliament enacted section 14 of the Insolvency Act 2000 to enable the Secretary of State to implement the Model Law by secondary legislation. Accordingly, pursuant to the powers conferred by section 14, the Secretary of State made the Cross-Border Insolvency Regulations 2006, which came into force on 4 April 2006.

Warner v Verfides and another [2008] EWHC 2609 (Ch); [2008] All ER (D) 93 (Nov):

The applicant was the trustee in bankruptcy of the estate of the deceased bankrupt, who was Australian. After his death, the Australian Taxation Office made a claim on his estate for more than AU$30m in unpaid taxes. A bankruptcy order was made in respect of the deceased’s estate by the Federal Magistrates Court in Sydney, on 7 November 2006.

The deceased bankrupt was thought to have been involved as shareholder, director or other officer of L Ltd, and through which he might have held assets in the UK. On 18 May 2007, an order was made by the High Court of England and Wales recognising the Australian bankruptcy proceedings as foreign main proceedings for the purposes of the Model Law, to which EC Regulation 1346/2000 (on Insolvency Proceedings), and the Cross-Border Insolvency Regulations 2006, SI 2006/1030, gave effect.

On 17 August 2007, the trustee applied, under Article 21 (1)(d) of the Model Law for an order that the respondent company provide copies of documents relating to dealings between the deceased bankrupt and L Ltd.

On 31 October 2007, a successful application was made by the intervener, a Swiss legal firm, seeking to be joined to the application. The intervener claimed to be an “interested person” within the meaning of Article 22 of the Model Law, by virtue of the fact that they had had dealings with the respondent on behalf of some 60 clients since 1992, and feared that the making of the order sought by the trustee might be in breach of their confidence or that of their former and/or existing clients, and might be an unjustified infringement of their rights, and those of their former and/or existing clients.

The trustee disputed that the intervener’s rights had been engaged as the documents in issue had ceased to constitute “correspondence” once they had been received by their intended recipient. Subsequently, the respondent company delivered up to the court the documents which it then considered fell within the scope of the trustee’s disclosure application.

Towards the end of June 2008, the intervener inspected those documents and came to the conclusion that they objected to the production of seven pages, one of which they wanted removed altogether and the rest redacted.

The court concluded that the seven pages contained information that clearly fell outside the terms of the order sought by the trustee, and that the material should be excluded from the disclosure.

C Brooks Thurmond, III v Rajapakse and Rajapakse [2008] BPIR 283:

The applicant was the US trustee in bankruptcy of Mr and Mrs Rajapakse, both of whom had entered into joint bankruptcy under Chapter 7, Title 11 of the US Federal Bankruptcy Code. An application for recognition was made to the English courts for assistance with the recovery of property located in England.

The trustee applied under the Cross-Border Insolvency Regulations 2006, seeking an income payments order under section 310 of the Insolvency Act 1986, in respect of certain monies that had been ascertained and proved to exist within a UK bank account of the State Bank of India in the name of Mr and Mrs Rajapakse. It was discovered that (1) £13,463 was the proceeds of Mr Rajapakse’s UK state pension entitlement; (2) £6,286 was the proceeds of Mrs Rajapakse’s UK state pension entitlement; (3) £19,295 was the proceeds of Mr Rajapakse’s occupational pension; and (4) £23,481 was a lump sum pursuant to Mrs Rajapakse’s personal pension plan.

The trustee sought the remission of the monies to him in the US, to hold as funds in the US bankruptcy. Mr and Mrs Rajapakse opposed the application by letter asserting (1) personal foreign estate assets or foreign property held by them outside the jurisdiction of the US courts were not assets of the bankruptcy and US law prohibited the bringing of action against personal property that was owned outside the US, such as in the UK and (2) the funds held in the State Bank of India were funds that were intended to support their disabled son, who was a British citizen.

It was held that the court would make an order for the payment of £41,978.71 of the funds to the trustee as Article 21 relief, being a sum that would have been available to an English insolvency practitioner within an English bankruptcy. For the purposes of Article 22, the court was satisfied that the payment was made for the purpose of protecting the interest of creditors.

South Africa

On 8 December 2000 the South African Parliament assented to the Cross-Border Insolvency Act, which took effect on 28 November 2003.

Despite the enactment of the Cross-Border Insolvency Act, the act provides that it applies in South Africa in relation to states designated by the Minister of Justice. To date, no countries have been designated yet, leaving the act without practical application.

British Virgin Islands

The Insolvency Act 2003 followed by the Insolvency Rules 2005 incorporated the Model Law. Although Part XVIII of the Insolvency Act includes the provision of the Model Law, this part has not been brought into force and there is no BVI case law on the application of the Model Law.

Hong Kong

Hong Kong has not adopted by domestic legislation the Model Law. There is therefore no provision empowering a Hong Kong court to render assistance to a foreign court in an insolvency matter and, in doing so, to apply either Hong Kong law (whether substantive or procedural) or the law of the requesting court.

However, the approach taken by the Courts to cross-border insolvency issues has been fairly pragmatic and the Courts will recognise foreign liquidations and have regard to foreign restructuring arrangements which have been approved overseas when considering what steps should be taken in Hong Kong.

The Hong Kong Courts have a broad jurisdiction to wind up companies in Hong Kong. This extends not only to companies which are incorporated in Hong Kong but also to overseas companies registered in Hong Kong and unregistered companies providing certain requirements are met.

The three core requirements are that the company has a sufficient connection to Hong Kong, there is a reasonable possibility that the winding-up order will be of some benefit to the petitioner and that the Hong Kong Courts will be able to exercise jurisdiction over one or more persons who have an interest in distribution of the assets.

It is generally accepted that although the Court retains discretion, it will recognise a judicially sanctioned foreign corporate debt-restructuring scheme in order to prevent a creditor from gaining an unfair advantage over other creditors who observe such a scheme.

Where there are a number of liquidators in different countries, the Courts encourage them to agree a cross-border protocol for dealing with assets of the company and claims by creditors.

In the Consultation Paper on the Winding-Up Provisions of the Companies Ordinance published in 1998, the Sub-Committee on Insolvency briefly discussed the Model Law and referred to the draft from May 1997. The Sub-Committee noted that the Model Law was being actively considered by both the United States and Australia but noted that “it would be premature for Hong Kong, China to adopt what is still only a draft, as legislation”. However, the Sub-Committee did recommend in the Report that followed in 1999 that in redrafting the provisions on cross-border insolvency in the Companies Ordinance the “law Draftsman might consider the extensive definitions that have been developed in the draft guide”.

Overall, the Sub-Committee welcomed an initiative that encourages harmonising the laws of insolvency internationally but considered that there is no benefit in being the first to adopt the Model Law. The Sub-Committee was exercising caution and a watch-and-wait approach.