Insolvency law: Reforms of insolvency proceedings passed

After a long legislative process, on the home stretch the grand coalition currently governing Germany agreed on a compromise on the reform of insolvency proceedings, already the subject of much discussion as a draft. The Bundestag passed the reform on 15 February 2017.

The essential changes in the insolvency law

The compromise made provides for changes and especially limitations to the so-called contestation of wilfully disadvantageous transactions, which in many ways follows the reasonable suggestions from industry. The contestation of wilfully disadvantageous transactions pursuant to Section 122 (1) InsO [German insolvency act] came under particular criticism for the way it is manifested in the case law, because the opponent to the contestation made is subject to a range of assumptions which derive knowledge of insolvency of the business partner, often from totally normal business transactions (such as the conclusion of an agreement on the payment of instalments). This applies all the more because the contestation of wilfully disadvantageous transactions extends back up to 10 years under the applicable law. This very extensive case law should be reset to an appropriate extent through the reform. In detail, this will result in the following changes:

• The contestation period for the contestation of wilfully disadvantageous transactions will be reduced from 10 to 4 years for all securities and satisfaction of claims.

• In the case of (instalment) payment agreements, it will be assumed in future that the other party had no knowledge of insolvency. This reverses the legal position previously observed by the case law.

• In the case of congruent coverage (for which a debtor makes a payment owed when it becomes due), in the future the knowledge of the party opposing the contestation of the debtor’s intention to defeat the creditor will only be assumed if the party opposing the contestation had knowledge of the other party’s already existing insolvency when the legal act (e.g. the payment) was carried out. Under the current law, this assumption is already made if the party opposing the contestation has knowledge of only an impending insolvency of the debtor. With the new rules, the demands on the insolvency administrator’s statements regarding knowledge of the party opposing the contestation about the contract partner’s intention to defeat the creditor are increased significantly.

• The so-called exception of cash transactions pursuant Section 142 InsO, according to which the contestation is excluded in case of a direct exchange of services of the same value, is extended. On the one hand, regarding the question of what “direct” means, it will be taken into account in the future what is common in the industry concerned. On the other hand, wage payments to employees will be more comprehensively protected than cash transactions than they were before. Finally, the exception of cash transactions will in future also exclude the contestation of wilfully disadvantageous transactions if there is no dishonest behaviour. Previously, the cash transaction exception did not actually apply to the contestation of wilfully disadvantageous transactions and, in cases of exchange of services similar to cash transactions, the case law generally denied the debtor’s intention to defeat the creditor. Even if it is still necessary to see exactly what will be “dishonest” within the framework of insolvency proceedings in practice, the extension of the scope of application of cash transactions in any case increases the level of legal certainty.

• Last but not least, the general rules now apply to the application of interest to claims made (so only starting from default or lis pendens). The previous application of interest on the claims from the opening of insolvency proceedings had led to disincentives which have now been removed.

• The suggestion from the government’s draft to classify services which are performed within the framework of compulsory execution as congruent coverage and therefore to make their contestation more difficult could not be implemented.

Coming into force of the insolvency law reform

As a so-called objection law, the reform has been passed on to the Bundesrat, which rejected an objection in its session on 10  March 2017. The reform can therefore be executed and entered into force quickly. The new law will then be applicable to all insolvency proceedings which are opened after it comes into force. The new interest regulations even have a retroactive effect on insolvency proceedings already ongoing.

Expected impact of the new insolvency rules

The new rules are to be welcomed and will prospectively help to limit insolvency proceedings by a suitable degree.

In particular, the reversal of the statutory presumption associated with deferred terms will have significant effects on dealing with contract partners currently going through a “crisis” in business transactions. It was previously the case that an agreement for deferred terms and in particular for payment by instalments would drastically increase the risk of insolvency proceedings. The opposite is to be expected in future: Payment agreements concerning accrued items can now even help to reduce the contestation risks for further exchange of services with the customer concerned if it is arranged in an appropriate way. Companies should therefore comprehensively adapt to the new law in order to make use of its benefits and to avoid expensive contestations. This includes a suitable organisation of the GTC’s as well as an adjustment of in-house controlling and claims management relating to the new legal situation.