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A referendum on whether the UK should leave (Brexit) or remain within the EU will now take place on 23 June 2016. As the ‘leave’ and ‘remain’ campaigns gear up and media coverage hits fever pitch, Victoria Procter and Chris Birch from the Restructuring team at Eversheds LLP, consider how Brexit might complicate cross-border restructuring and insolvency proceedings in the UK and, thereby, damage the UK’s international reputation as a leading restructuring jurisdiction.
Cross-border insolvency and restructuring can be a complex exercise, requiring navigation across multiple insolvency regimes, all with divergent insolvency procedures and rules on jurisdiction and recognition of foreign (insolvency) proceedings. This often gives rise to conflict (even competition) between regimes and ‘forum shopping’ by creditors and debtors in search of the most favourable regime. In that context, the UK is typically viewed as having a well-established, creditor-friendly insolvency regime. It is, therefore, a popular destination for creditors. Others, such as France, are considered more debtor-centric.
While global harmonisation of insolvency procedures is still a long way off (and, some would argue, undesirable if not unfeasible), limited progress has been made in harmonising rules governing jurisdiction to open, and recognition of, insolvency proceedings across different jurisdictions. The most notable examples are Council Regulation (EC) 1346/2000 on insolvency proceedings (EC Regulation) and the United Nations Commission on International Trade Law (UNCITRAL) Model Law on Cross-Border Insolvency (Model Law).
The EC Regulation
The EC Regulation stands out as being a multi-jurisdiction regime, consistently applied. It aims to establish a regime for dealing with the insolvency of companies and individuals with assets and affairs in more than one EU Member State. To that end, it has introduced uniform rules on jurisdiction to open, and recognition of, insolvency proceedings across the EU (except Denmark). The UK (together with all other Member States) benefits from those consistencies, further enhancing its appeal as a destination of choice for creditors of insolvent individuals and corporates. For the reasons explored in this article, the UK might not enjoy the benefits of those consistent rules following a Brexit. The EC Regulation has direct effect (that is, EU Member States do not have to enact further legislation to implement it) in all EU Member States, except Denmark (which has opted out).
The EC Regulation applies, in the UK, to:
It does not extend to administrative or Law of Property Act 1925 (LPA 1925) receiverships, schemes of arrangement or members’ voluntary liquidations (MVLs). Receiverships are not collective regimes and, as such, are not compatible with or, indeed, recognised in other EU Member States, where they do not exist.
The EC Regulation does extend to companies registered outside of the EU, provided their centre of main interest (COMI) falls within an EU Member State.
The UNCITRAL Model Law
The Model Law was published in 1997. It also attempted to implement a regime by which courts could recognise insolvency proceedings opened in other jurisdictions. However, the Model Law has only been adopted by 41 jurisdictions. The Model Law is only of assistance to UK office holders if they are seeking assistance for recovery and realisation of assets in one of those 41 signatory jurisdictions. The UK, Poland, Greece, Romania and Slovenia are the only EU Member States to have signed up. It has been adopted by the US too (in the form of Chapter 15). Furthermore, there is no obligation for the Model Law to be adopted in its original form. It can be adapted by each jurisdiction, which leads to inconsistencies even between those jurisdictions that have implemented it.
It is likely to be at least two years before the UK would actually leave the EU. The Treaty on the European Union (article 50) sets out a mechanism for a Member State to withdraw from the EU. The UK would give notice to leave and a period of negotiation would then follow to agree the terms of its withdrawal. Exit would occur at the earlier of either an exit agreement being signed or two years after notice is given.
This is the great unknown, although there is much speculation in academic, political and business spheres, not to mention the media. In truth, there is no precedent. The most likely scenario is a bespoke agreement, governing countless aspects of the UK’s continuing relationship with the EU. Such an agreement might include arrangements for the continued and mutual recognition of insolvency proceedings as between the UK and EU Member States by means of the EC Regulation continuing to apply to the UK. What we do know is that any post-Brexit relationship agreement would need to be ratified by each Member State, so negotiations would not be straightforward.
In the case of compulsory winding up, CVLs, administrations, CVAs, IVAs and bankruptcies, both jurisdiction and recognition is governed by the EC Regulation.
‘Main’ proceedings can be opened in the UK if the company or individual has its COMI in England and Wales, Scotland or Northern Ireland. ‘Territorial’ or ‘secondary’ proceedings can be opened if the company or individual has an establishment in those countries. As things stand, territorial and secondary proceedings can only be winding up proceedings, but that will be extended to administrations when the EC Regulation is replaced by Regulation (EU) 2015/848 on insolvency proceedings (recast) (Revised EC Regulation). It will come into force on 26 June 2017. Territorial and secondary proceedings are essentially the same (limited) type of proceedings. They will be ‘territorial’ if opened before main proceedings and ‘secondary’ if opened after main proceedings.
Main proceedings opened in the UK are automatically recognised across the EU and, as such, an office holder in UK main proceedings can deal with assets located in other EU Member States. For example, a UK administrator could deal with assets located in the UK, but also in France or Spain without the need for local, secondary proceedings in those countries. Automatic recognition across the EU is an important part of the UK’s reputation for restructuring and insolvency.
The powers of an office holder in territorial and secondary proceedings opened in the UK are limited to assets located in the UK only. As such, while such proceedings will be recognised in other EU Member States, the need for recognition is somewhat limited.
Jurisdiction for, and recognition of, MVLs, schemes of arrangement and receivership is determined by:
The EC Regulation has no bearing on jurisdiction and recognition for these insolvency proceedings.
Given the ‘direct effect’ of the EC Regulation, it will cease to apply in the UK following a Brexit. As such, as part of its negotiations with the EU, the UK will have to review whether it wants to continue to participate in the EC Regulation regime notwithstanding Brexit.
The UK would need to reach an agreement with the EU to continue to participate in the EC Regulation regime. Currently, the EC Regulation only applies to EU Member States. Extending its application to a third party state would be a novel arrangement (although all of the UK’s negotiations with the EU would deal with unchartered territory). There is no guarantee that all EU Member States would agree to it or indeed the UK government would want it.
EU policy has long driven towards harmonisation of insolvency law and proceedings between countries, the removal of perceived advantages of certain (including the UK’s) insolvency regimes and, therefore, the incentives for forum shopping. This was evident in negotiations on the Revised EC Regulation when arguments were made (by France and Italy, for example) for UK schemes of arrangement to be brought within the regime, for non-recognition of insolvency proceedings that are not commenced in court (out of court administration appointments, for example) and for additional measures to prevent forum shopping by corporates. These measures were rejected by the UK in negotiations. However, if the UK ceases to be a member of the EU, it is unlikely to have a meaningful say in future negotiations on the EU cross-border insolvency regime. As a result, the UK can probably expect unfavourable revisions in the future, which operate against UK interests. The UK would then need to decide whether to accept those changes or ‘go it alone’ (see below).
There would be no effect on MVLs, schemes of arrangement and receiverships, which already fall outside the EC Regulation. Jurisdiction would continue to be governed by UK domestic laws.
The UK would also revert to its domestic laws to determine jurisdiction to open compulsory liquidations, CVLs, administrations, CVAs, IVAs and bankruptcies. This would represent a marked change, with a complex set of domestic rules (comprising a patchwork of statutory provisions and common law principles) replacing relative clarity and consistency under the EC Regulation by which ‘COMI’ and ‘establishment’ determine jurisdiction.
Again, recognition of MVLs, schemes of arrangement (which is dealt with under the Lugano Convention) and receiverships, where applications to foreign courts for recognition already have to be made, would be unaffected.
However, recognition of UK compulsory liquidations, CVLs, administrations, CVAs, IVAs and bankruptcies would become incredibly complex. There would no longer be automatic recognition of (what would have been) main, territorial or secondary proceedings in other EU Member States.
Unfortunately, the Model Law has very limited application, given that Poland, Greece, Romania and Slovenia are the only other EU Member States to have implemented it, so it would be of little assistance.
UK office holders requiring assistance in an EU Member State could either:
Both options would compare unfavourably to the current position under the EC Regulation, whereby the appointment of an office holder in UK main proceedings is automatically recognised in all EU Member States, thereby facilitating asset recoveries and realisations.
In the first scenario (complying with domestic laws), recognition would be determined on a jurisdiction-by-jurisdiction basis. Each Member State would apply its own domestic laws when dealing with requests for recognition and assistance from UK insolvency practitioners, leading to a huge amount of complexity, inconsistency and a patchwork quilt of inconsistent rules across the EU. This would make it more time-consuming, costly and difficult for a UK office holder to recover and realise assets located in EU Member States and, therefore, estimate or plan outcomes in UK insolvency proceedings with a cross-border (EU) status.
In the second scenario (opening separate territorial proceedings), it would be necessary to open separate insolvency proceedings in multiple jurisdictions—first, in the UK and then in each EU Member State in which assets are located. Separate proceedings will add complexity, time and cost to the process of realisations and distributions. There might be cooperation between office holders in each jurisdiction, but this could not be guaranteed and the UK office holder could not exercise any control over foreign proceedings. Furthermore, the outcome for creditors would differ between jurisdictions and potentially between cases in the same jurisdictions, depending on the facts of each case. This would most likely act to the detriment of creditors, given that UK insolvency proceedings are generally regarded as creditor-friendly when compared to alternatives, both in other EU Member States and globally.
If the UK does Brexit without negotiating its continued participation in the EC Regulation regime, this will breed complexity, uncertainty, increased cost and adverse outcomes for creditors, both in terms of the UK’s jurisdiction to open certain insolvency proceedings and recognition of those insolvency proceedings across EU Member States.
It is likely that would damage the UK’s appeal and reputation for cross-border insolvencies and restructuring on the international stage. There could well be a migration of COMIs, by individuals and corporates, out of the UK to other EU Member States, to secure automatic recognition of main proceedings across the EU (minus the UK). It might even deter counterparties from trading with distressed businesses in the UK.
This would seem to suggest that, in the event of Brexit, the UK should negotiate hard to continue its participation in the EC Regulation regime. That would be a tough job, particularly given that other EU Member States will stand to benefit from any damage to the UK’s reputation for restructuring. Even if continued participation can be agreed, it would leave the UK exposed to future revisions to the regime, with limited ability to influence those revisions.
As a useful further guide to the complexities of different regimes in other countries, Eversheds have produced The International Guide to Company Insolvency, which compares the differing insolvency regimes in 24 countries throughout the world.
This article originally appeared on the Eversheds website on 22 February 2016.
The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.
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