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URÍA & MENÉNDEZ
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The information contained in this Newsletter is of a general nature and does not constitute legal advice |
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BANKING & FINANCIAL LAW1. MAIN MODIFICATIONS2. SUBJECT MATTER AND SCOPE OF APPLICATION2.1. Scope of application in relation to agreements and transactions2.2. Scope of application in relation to natural and legal persons3. LEGAL FRAMEWORK FOR FINANCIAL COLLATERAL3.1. Legal framework for financial collateral4. EFFECTS OF INSOLVENCY PROVISIONS4.1. Financial Collateral4.2. Bilateral close-out netting provisions5. SETTLEMENT OF REGULATIONS REGARDING APPLICABLE LAWFor further information, you should contact in Madrid with Emilio Díaz Ruiz (edr@uria.com, phone number +34 915860365), Salvador Ruiz Bachs (srb@uria.com, phone number +34915860696) or in London with Juan Carlos Machuca (jcm@uria.com), phone number +44 207 645 02 80.
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Last Monday, Royal Decree Law 5/2005, of March 11, on Urgent Reforms for the Encouragement of Productivity and the Improvement of Government Procurement (hereinafter “RDL 5/2005”) was published in the Official Gazette of Spain (Boletín Oficial del Estado 62, March 14).
Among other issues, RDL 5/2005 implements Directive 2002/47/EC of the European Parliament and of the Council of June 6, 2002 on financial collateral arrangements (hereinafter, the “Directive”) in the Spanish legal system, it settles and systematizes the legislation in force applicable to bilateral close-out netting provisions and financial collateral arrangements and it establishes the effects of insolvency proceedings over these provisions and arrangements.
Implementation of the said Directive has introduced important modifications with regard to the legal framework of the financial collateral arrangements and bilateral close-out netting provisions to which it applies. The main changes which have been introduced by RDL 5/2005 are the following:
1. The constitution of financial collateral arrangements may be carried out through the transfer of the absolute ownership over the asset given as collateral.
2. Certain formalities, such as the need of granting a public deed for the constitution of financial collateral in order for them to have effect against third parties, are eliminated, so the regime for the constitution of financial collateral arrangements has become more flexible.
3. Extension of the cases where bilateral close-out netting provisions are not limited, restrained or affected by the commencement of insolvency or administrative winding-up proceedings.
4. Rights of use and replacement of the pledged asset without implying loss of rank or priority of the pledge are accepted and regulated.
5. It is permitted to adjust original collateral by the provision of additional collateral which is treated as if it had been simultaneously provided with the original collateral.
6. The agreement regarding the acquisition of the pledged asset given as collateral as a means of executing the financial collateral is permitted.
7. The effects of insolvency proceedings over financial collateral arrangements and bilateral close-out netting provisions are set out.
The new legal framework will only apply to the following types of agreements, transactions and financial collateral arrangements:
1. Bilateral close-out netting provisions and financial collateral arrangements carried out within or regarding the former. For this purpose:
a) Bilateral close-out netting provision means a provision by which a unique legal obligation is created, absorbing all the transactions within that provision and by means of which, on the occurrence of an enforcement event, (i) the obligations of the parties are accelerated so as to be immediately due and expressed as an obligation to pay an amount representing their estimated current value, or are terminated and replaced by an obligation to pay such an amount; and/or (ii) an account is taken of what is due from each party to the other in respect of such obligations, and a net sum equal to the balance of the account is payable by the party from whom the larger amount is due to the other party.
b) Financial operations means the lending of securities, transactions carried out over financial instruments as set forth in section 2 of the Securities’ Market Act (Ley del Mercado de Valores, hereinafter “LMV”), transactions regarding transferable securities or cash that are carried out over financial instruments with a direct or indirect purpose to collateralize the bilateral close-out netting provision itself, and double operations or those that include a repurchase agreement.
The main innovation in this regard is that the legal provision expressly includes the sale and purchase of currencies in cash, commodity derivatives and over emission allowances among the transactions carried out over financial instruments that are set forth in the second paragraph of section 2 LMV.
2. Financial collateral arrangements and financial collateral themselves.
a) RDL 5/2005 is applicable whether or not the financial collateral arrangements are covered by a master agreement or if they arise from the regulations over the functioning of secondary markets or of the book-registry systems, clearing systems or counterparty entities.
b) financial collateral arrangements may consist of money credited to an account, transferable securities, financial instruments under the scope of the LMV and any direct or indirect right over them.
The new legal framework will only apply to bilateral close-out netting provisions and financial collateral arrangements where:
1. The parties to them belong to one of the following categories:
a) Public entities.
b) Certain central and international banks and the International Monetary Fund.
c) Credit institutions; investment firms, insurance companies, undertakings for collective investment schemes in transferable securities and their management companies, funds of securitization of mortgages and of assets and the management companies of securitization funds, pension funds, and other financial institutions.
d) Organisms supervising the secondary markets, and companies that carry out registry, clearing and settlement systems, central counterparty entities, settlement agents or clearing houses as defined in Act 41/1999, of November 12, and similar institutions acting in the future, options and derivative markets.
2. In the case of bilateral close-out netting provisions, when one of the parties to them fits into any of the categories listed above and the other party is either a natural or a legal person.
3. In the case of financial collateral arrangements,
a) when one of the parties to them fits into any of the categories listed above and the other party is a legal person; or
b) when one of the parties to them fits into the categories listed under number d) above and the other party is a natural person.
The main innovation regarding close-out netting provisions is the extension of the number of entities that can benefit from the special regime for close-out netting provisions (public entities, central and international banks and the International Monetary Fund, certain institutions acting in the secondary markets of financial instruments and their clearing and settlement systems) whenever they enter into close-out netting provisions with institutions other than investment firms and credit entities.
The new legal framework regarding financial collateral is very flexible with regard to their methods, object, formalities, rights of the parties and enforceability. The new legal framework for this type of collateral grants the parties with a broad freedom to agree not only on their contractual regime but also on the in rem legal effects of the collateral and on the way they are enforced.
1. Financial collateral may consist of either the transfer of the property over the asset securing the relevant financial obligation or the pledging of such asset.
2. The definition of the relevant financial obligation that may be secured by financial collateral is very broad, as it can be any obligation that gives a right to a cash settlement and/or delivery of financial instruments.
3. RDL 5/2005 only requires evidence in writing of the financial collateral arrangement and the delivery of the asset that secures the relevant financial obligation and its evidence in writing. Therefore, the obligation to grant a public deed for the constitution of the arrangement and the delivery of new financial collateral, which applied to most cases, has been removed.
4. The following rights may be agreed by the parties and their enforcement will not imply the loss of the ranking or of the priority of the collateral. In addition, they will be treated as if they had been provided together with the original financial collateral:
a) The collateral provider may replace the original financial collateral with equivalent collateral.
b) The collateral taker may exercise a right of use in relation to the financial collateral and an obligation to transfer equivalent collateral to replace the original financial collateral will arise.
c) The obligation to provide additional collateral to adjust the value of the collateralized obligations to the value of the asset that secures the obligation.
5. In general terms, the procedure for the enforcement of the collateral has been made more flexible. RDL 5/2005 establishes that:
a) The right of use over the collateral is permitted as long as this possibility and the method of calculation of the value of the collateral had been foreseen.
b) The formalities and the requirements for the procedure of the enforcement of the collateral have become substantially more relaxed. In particular, the need for a judicial proceeding or a public auction before a Notary public has been removed.
c) The Directive expressly prohibits internal laws from requiring that the enforcement be performed in any specific way, as it intends that the parties’ agreements to be the only restrictions. Nevertheless, section 12 RDL 5/2005 establishes a procedure for the enforcement of pledges. In this regard, we understand that this section will not be contrary to the Directive provided that it only applies to the way in which transfers that take place as a result of a valid enforcement in accordance with the financial collateral arrangement will be able to be evidenced in clearing and settlement book-registries or the way in which they will be enforceable on third parties. It would be contrary to the Directive provided that a specific procedure, like its transfer in the market, was required for the enforcement of the collateral.
d) It sets forth measures that protect third parties’ interests and the obligation to reimburse the collateral provider with any outstanding amount after the relevant financial obligation has been satisfied.
The new framework protects financial collateral arrangements, the provision of collateral under such agreements, bilateral close-out netting provisions and financial transactions from the commencement of insolvency or administrative winding-up proceedings, as follows:
1. Financial collateral arrangements and the provision of collateral under such arrangements may not be declared invalid or void or be reversed on the sole basis of the commencement of insolvency or administrative winding-up proceedings as long as they had been provided and formalized before such commencement or if the beneficiary can prove that he was not aware of the commencement.
2. The provision of financial collateral, additional financial collateral or equivalent collateral as a consequence of the exercise of the right of substitution or the right of use of the collateral, as referred to above, will not be declared invalid or void if they had been provided before the start of the proceeding.
3. Financial collateral may be executed in the agreed way immediately and separately from the insolvency or the administrative winding-up proceeding despite the start of such proceedings.
4. Financial collateral arrangements and financial collateral themselves are subject to voidance where the competent administrative or judicial authority resolves that the financial collateral arrangement or the collateral itself was detrimental to other creditors. In this regard, it should be noted that the final version of RDL 5/2005 has replaced the requirement of the existence of fraud by the existence of mere detriment to the state; consequently, their regime is considerably similar to the general rule set forth in section 71 of Act 22/2003, of July 9, on Insolvency Proceedings (hereinafter, the “Insolvency Act”), although with a worse treatment, since it does not exclude the transactions made within the ordinary course of business of the insolvent.
1. The declaration of the early termination, resolution, termination, enforcement or equivalent effect of a bilateral close-out netting provision will not be limited by the start of an insolvency or administrative winding-up proceedings. Therefore, the general rule regarding the ineffectiveness of early termination clauses set forth under section 61.3 of the Insolvency Act does not apply to bilateral close-out netting provisions.
2. The credit or debt to be included in the proceeding will be the net value of the financial transactions calculated in accordance with the bilateral close-out netting provision.
3. Financial transactions and bilateral close-out netting provisions will only be subject to rescission by means of an action to be exercised by the insolvency administration where the detriment to the state arisen from the arrangement is proven. In this case, the final version of RDL 5/2005 also differs from previous drafts that referred to fraud in the arrangement.
RDL 5/2005 resolves the law that will apply to questions and legal in rem effects regarding financial collateral consisting of securities registered in book-entries. In such cases, it was difficult to determine what the applicable law was when the property over securities was registered both in global accounts and in individual accounts.
RDL 5/2005 sets forth that the applicable law will be that of the State where the principal account is located. For this purpose, the principal account is that where the book-entry that gives rise to the beneficiaries’ pledge over book-entries is registered. This means that if the registered securities are registered in the original registry book in the name of a financial intermediary and such intermediary has opened an individual account in the name of the collateral provider where the property over the securities and the existence of the collateral are evidenced; the applicable law to these matters will be the law of the State where the account in the name of the collateral provider and not where the original annotation is located.
This rule may however be subject to further adjustments if Spain ratifies the Convention of The Hague on applicable law to certain rights over securities which are held by intermediaries.