European Parliament proposes significant changes to reform the EC Regulation on Insolvency

Restructuring & Insolvency analysis: What changes have been proposed by the European Parliament to the reforms to the EC Regulation on Insolvency previously circulated by the Commission? What further steps are needed to implement this legislation?
Press Release: European Parliament backs Commission proposal to give viable businesses a 'second chance', LNB News 05/02/2014 147

Proposals, including extending insolvency rules to cover rescue proceedings, have been approved by the European Parliament in order to modernise the EU’s rules on cross-border insolvency. The vote endorsed the main elements of the European Commission's proposal regarding the creation of an EU-wide system of web-based insolvency registers, the possibility of avoiding the opening of multiple proceedings, and the rules dealing with the insolvency of groups of companies.

What are the latest developments?
On 5 February 2014, the European Parliament voted on the European Commission's proposal to modernise Europe’s rules on cross-border insolvency. The plenary vote followed a general endorsement of the Commission’s initiative from the European Parliament’s Legal Affairs Committee (JURI) on 17 December 2013 (MEMO/13/1164) as well as a positive initial debate by the European Council in December.

The European Parliament vote (with an overwhelming majority 580 for, 69 against and 19 abstentions) endorsed the main elements of the Commission's proposal, particularly as regards:

• extending the rules to cover rescue proceedings
• the creation of an EU-wide system of web-based insolvency registers
• the possibility of avoiding the opening of multiple proceedings, and
• the rules dealing with the insolvency of groups of companies

However, the European Parliament have made some fairly major and unwelcome changes to the draft reforms originally circulated by the Commission, sparking some heated debate.

What changes have the European Parliament proposed?
The European Commission prepared the legislative proposals back in December 2012, which were largely welcomed by UK practitioners. For a summary of these proposals, see Practice Note: Reforms to EC Regulation on Insolvency 1346/2000.

On 20 December 2013, European Parliament rapporteur, Klaus-Heiner Lehne, produced a report on the Commission's proposal suggesting significant amendments and on 5 February 2014, the European Parliament adopted most of his changes at its first reading. Some of the most notable changes are:

Centre of main interest (COMI)
Adding a requirement to look at COMI at least three months prior to the opening of proceedings (currently the relevant time is when proceedings are opened). However, it is unclear why this arbitrary time frame has been suggested. They have also proposed that not only management decisions, but other factors (such as the location of main assets) are relevant when deciding COMI.

Adding a requirement to look at the establishment at least three months prior to the opening of main proceedings. Further, the non-transitory economic activity must be carried out with human means and assets or services.

Member states must notify the Commission of proceedings which fulfil the criteria of EC Regulation on Insolvency, art 1 (currently member states retain a discretion). Many UK practitioners do not want to see UK schemes added to Annex A as it will limit the flexibility of schemes for foreign companies. However, their inclusion could arguably be resisted given the European Parliament's suggested restriction on the regulation's application to proceedings which are based on law relating to insolvency (the Commission's suggested extension to proceedings based on law relating to adjustment of debt and for the purpose of rescue has been removed).

Court decisions
Maintaining the requirement for proceedings to take place under the control or supervision of a court, on the basis that otherwise it would be up to the insolvency representative to establish COMI, which may run counter to the aim of enhancing legal certainty and avoiding forum shopping. However this could have the unwelcome effect of excluding various UK processes from the ambit of the regulation, including company voluntary arrangements (CVAs), creditors' voluntary liquidations and out of court administrations.

Group companies
Opening group coordination proceedings where the most crucial functions of the group are performed—defined as meaning:

• the ability to take and enforce decisions of strategic relevance for the group, or
• the economic significance within the group, which is presumed if it contributes a least 10% to the consolidated balance sheet total and consolidated turnover) and appointing an independent coordinator who will present a group coordination plan

Although such a plan would not be binding on the insolvency practitioners running the main/secondary proceedings, they would have a duty to consider the recommendations and the group plan and give reasons why they deviate from it at any creditors' meeting or other body to which they are accountable. Non-compliance would be treated as a breach of their duties. The additional costs of the coordination proceedings would be shared pro rata by the group members based on their share of the asset value in the consolidated assets of the group. The justification for this change is to clarify that domestic reforms to rules on group insolvencies (eg in Germany) are not hampered.

Undertakings to avert secondary proceedings
Where secondary proceedings would otherwise be opened, the court may appoint a trustee to ensure any undertaking given in the main proceedings to treat local creditors as they would be treated under secondary proceedings is duly preformed. Local creditors' rights are also strengthened by giving them the right to petition the court conducting main proceedings to take measures necessary to protect the interests of local creditors, including a prohibition on the removal of local assets, postponing distributions in the main proceedings or provision of security for the undertaking by the insolvency representative in the main proceedings.

The full text adopted by the European Parliament at its first reading on 5 February is at: European Parliament - Texts adopted, part 3 (p 428-463).

What steps are required to implement this legislation?
The ordinary legislative procedure which is being used to implement these changes gives the same weight to the European Parliament and the Council of the European Union (the governments of the 28 EU countries).

First reading in the European Parliament
The President of the European Parliament referred the proposal to a parliamentary committee, which appointed a rapporteur (here, Klaus-Heiner Lehne) responsible for drawing up a draft report containing amendments to the proposed text. The committee voted on this report in December 2013. The European Parliament then discussed and voted on the legislative proposal on 5 February 2014 in plenary on the basis of the committee report and amendments. The result is known as Parliament's position. Parliament's first reading position will now be forwarded to the Council.

First reading in Council
Preparatory work in Council runs in parallel with the first reading in Parliament, but the Council may only formally conduct its first reading based on Parliament's position. The Council can:

• accept the European Parliament's position, in which case the legislative act is adopted, or
• adopt changes to Parliament's position, leading to a Council's first reading position, which is sent to Parliament for a second reading

The Council has welcomed the Commission's proposal, but is still in the process of discussing the draft law. It is expected that Ministers will be able to reach a general agreement at their meeting in June 2014.

Second reading in European Parliament
The European Parliament has three (with a possible extension to four) months to examine Council's position. The Council position goes first to the responsible committee, which prepares a recommendation for Parliament's second reading. Plenary votes on the recommendation including possible albeit limited amendments. There are four possible outcomes to a second reading:

• Parliament approves Council's position and the act is adopted
• Parliament fails to take a decision within the time limit, in which case the act is adopted as amended by Council in its first reading
• Parliament rejects Council's first reading position, in which case the act is not adopted and the procedure is ended
• Parliament proposes amendments to Council's first reading position and forwards its position to Council for a second reading

Second reading in Council
The Council has three (with a possible extension to four) months to examine Parliament's second reading position. It is also informed about the European Commission's position on Parliament's second reading amendments. The Council either approves all Parliament's amendments, in which case the legislative act is adopted, or it does not approve all the amendments. In the latter case, the President of the Council, in agreement with the Parliament President, convenes a meeting of the Conciliation Committee.

If agreement is not reached, the Presidents of the Council and European Parliament convene the Conciliation Committee, with equal numbers of Members of European Parliament (MEPs) and Council representatives within six (with a possible extension to eight) weeks of the Council's refusal to adopt Parliament's second reading position. The Conciliation Committee has six weeks (with a possible extension to eight) to decide on a joint text based on the second reading positions of Parliament and Council. If the Conciliation Committee does not approve a joint text, the proposed legislative act falls and the procedure is ended. A new procedure can only be based on a new Commission proposal (but as of late 2012, there had been only two cases where the Conciliation Committee failed to reach agreement on a joint text). If the Conciliation Committee approves a joint text, the text is forwarded for a third reading to the European Parliament and the Council.

As soon as agreement on a joint text has been reached within the Conciliation Committee, a provisional version of the draft legislative text is posted on the Parliament's website as soon as possible after the end of negotiations on the Europa website.

Third reading in European Parliament and Council
The joint text is sent simultaneously to Parliament and Council for approval. There is no specific order in which the co-legislators must decide. They have six (or eight if jointly agreed) weeks to decide and they cannot modify the text. In Parliament, the vote on the joint text is preceded by a debate in plenary. If Parliament and the Council approve the joint text, the legislative proposal is adopted. If one or both rejects it, or does not respond in time, the legislation falls and the procedure is ended. It can only be restarted with a new proposal from the Commission.

For further details of the full legislative process, see: Europa - ordinary legislative procedure.

What's the reaction to the changes proposed by the European Parliament?
Christine Lagarde, managing director of the International Monetary Fund (IMF), suggests that the European Parliament's proposals to amend the European Commission’s proposed revisions to the European Insolvency Regulation effectively promote liquidation at the expense of rescue. Presenting research on Europe's economy by the IMF in Brussels, she argued that reducing private-sector debt should be a priority for European governments desperate for growth and job creation. Making insolvency laws more flexible is a key element of this (see Mercer & Hole blog).

The president of the Law Society of England and Wales, Nicholas Fluck, has written to the vice president of the European Commission to call for a rejection of the European Parliament’s changes to EU insolvency rules put forward by the Commission to extend cross-border insolvencies to rescue proceedings (see Press Release: European parliament proposals block rescue of companies, LNB News 31/01/2014 46).

Klaus-Heiner Lehne, the centre-right German MEP leading the European Parliament's response to the proposal (as rapporteur) disagrees. He believes taking insolvency proceedings out of the jurisdiction of judicial officers would reduce legal certainty and allow for forum shopping.

What does this mean in practice?
The debate is far from over on the scope of the proposed reforms. If the new regulation is adopted in the format proposed this week by the European Parliament, many commentators believe it will cause headaches for UK insolvency practitioners. However, there are still many more steps which must be completed before the new Regulation can take effect and it would be possible for the Council to block the European Parliament's proposed amendments. If the conciliation procedure is triggered, resolution is unlikely to be reached for several more months to come.

For further details of the Commission's original proposals, see Practice Note: Reforms to EC Regulation on Insolvency 1346/2000.

The full text adopted by the European Parliament at its first reading on 5 February 2014 is at: European Parliament—Texts adopted, part 3 (p 428–463).

And for details of the European Parliament's changes, see Journal of International Banking & Financial Law, (2013) 2 JIBFL 87: Changes to the EC Regulation on Insolvency Proceedings 2000

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