The second chance mechanism
Royal Decree-Law 1/2015 of 27 February modifies different aspects of the Spanish Insolvency Law (IL) with the purpose of solving the over-indebtedness problems of the individuals, by granting them a second chance by means of the cancellation of the debts that they are unable to pay if some requirements are met.
The Insolvency Law already included the concept of remission of unpaid debts, after the modification introduced by the Law 14/2013 of Support of Entrepreneurs. However, such measure has proved to be unsatisfactory. We must take into account that it did not consider the complete cancellation of the debt, but just a partial extinguishment of the financial obligation, as neither the credits that were generated after the declaration of bankruptcy nor the preferred credits (basically banking system, Inland Revenue and Social Security) could be cancelled.
The “Second Chance” Royal Decree-Law has unified the regime for all types of natural debtors, without making a distinction between entrepreneurs and non-entrepreneurs, but still insists that the debtor pays with his assets the credits against the bankruptcy estate and the preferred credits. Moreover, the process established to obtain the benefit of remission of the debts includes so many requirements and obstacles that, probably, it will not have any practical effectiveness.
Below, we detail the key points of the new regulation, in which no essential changes are expected in passing through parliamentary procedure:
- The extrajudicial payments’ agreement
In order for the debtor – a natural person − to be discharged of the debts that he cannot pay with his assets and rights, he must use first the file of extrajudicial payments’ agreement (EPA) if his liabilities do not surpass 5 million Euros.
The application must be given to the Notary or the Registrar, who must designate a bankruptcy mediator to formulate the proposal of agreement to the creditors. One of the main novelties is that if the debtor is a natural person and non-entrepreneur, the notary himself can deal with the negotiations between the debtor and the creditors, if he decides not to designate a bankruptcy mediator. It is also possible for the Official Chamber of Commerce, Industry, Services and Navigation to assume the role of mediator.
The application must be accompanied by a list of creditors, including the holders of loans or credits with in rem guaranties, to be evaluated according to article 94.5 of the Insolvency Law. Therefore, thanks to this reference it is clear that, in order to value the in rem guaranties, we must turn to the nine-tenths formula.
After the EPA’s opening is notified to the competent court that must initiate the bankruptcy proceedings, it is impossible to start or continue with the judicial or extrajudicial enforcement proceedings, except when the creditor is a public law entity. The public law entity will always be able to enforce the entity’s credits because the EPA does not affect this type of creditor. Consequently, the EPA is not effective in order to halt administrative surcharges.
The creditors with an in rem guaranty involving assets, primary residence or necessary rights to continue with the activity can bring the action in rem, but the process will be paralyzed for three months (if the debtor is a natural person and non-entrepreneur, the period of suspension is of two months.) The creditors with an in rem guaranty that involves other types of assets will be able to continue or initiate the judicial or extrajudicial enforcement proceedings, without being affected by the halt foreseen for the rest of enforcement proceedings.
The proposal of the EPA can now take up to 10 years, debt remissions without limit, general assignments in favor of creditors, payment rights and rights to payment, without being able to proceed to the global liquidation of the assets.
In order to consider the EPA as approved, the majorities depend on the content of the agreement, being 60% the necessary quorum if it is foreseen a wait of less than five years and a remission of the debt of less than 25%; whereas if the wait or the remission of the debt are higher, the quorum required is of 75%. The creditors with an in rem guaranty will be subject to the agreement which is accepted by the part of the credit that exceeds the value of the in rem guaranty; such amount will be taken into account in order to reach these majorities.
It is important to point out that a new article 238 bis IL has been included. This article lays down that the creditors with in rem guaranties can also be bound by the remissions of the debt or suggested waits in the amount that does not exceed the value of the guaranty if they have been accepted by the majority of 65% (remission of the debt less than 25% or less than a five years wait) or of 80% (higher remissions and waits,) calculated according to the value of the accepted guaranties in relation to the value of the granted guaranties. Therefore, the drag-along effect is extended to the EPA, as it is already expected in bankruptcy settlements with creditors and refinancing agreements.
Lastly, in relation to the EPA, it should be noted that creditors who have not accepted the agreement, or who have expressed their disagreement, maintain their rights against those jointly and severally liable towards the debtor. Whoever signs the agreement may maintain his rights, or not, depending on what was agreed in the legal relationship.
- The benefit of exoneration of unsatisfied liabilities
If the EPA is not accepted or the accepted agreement is breached, then the bankruptcy proceedings must start. This bankruptcy proceedings are known as consecutive bankruptcy proceedings.
Article 178 bis IL regulates the possible exoneration of unsatisfied liabilities, which is only applicable to bona fide debtors, as long as the requirements enumerated in article 178 bis 3 IL are complied with. These requirements basically consist of not having been convicted of an offence against property and against Inland Revenue and Social Security.
In order to award the exoneration, all the assets and rights of the debtor must be liquidated in the bankruptcy proceedings. With the money obtained, all credits against the bankruptcy estate, preferred credits and 25% of ordinary credits must be paid. Creditors with an in rem guaranty for the amount that exceeds the value of such guaranty are included in this category. If an EPA has been attempted, the cancellation of the debt by general creditors is of a 100%.
If after all the assets and rights of the debtor have been liquidated, it is impossible to pay all the credits against the bankruptcy estate and preferred credits, then it will be possible to ask for the exoneration of the debt as long as the debtor presents a payment plan for a term of five years and earmarks to such payment at least 50% of his unseizable income. During these five years the debtor must accept to be registered in the Bankruptcy Public Registry as the beneficiary of the exoneration. The access will be public; this will complicate any type of loan or financing.
The IL expressly indicates that in relation with the credits with an in rem guaranty, the part not satisfied with the enforcement of the guaranty will be exonerated, unless it was included in a different category from a general or secondary credit. Therefore, the cancellation will only be applicable to the part of the credit with an in rem guaranty that is not covered by such guaranty once it is executed.
Moreover, if in the five years following the benefit of temporary exoneration, the debtor incurs in some of the assumptions that do not allow this benefit, or it is demonstrated that he has hidden assets or his economic situation ameliorates substantially, then any creditor can ask the judge in charge of the bankruptcy proceedings to revoke the benefit of exoneration of the debt. If the judge approves the revocation, then the creditors recover all their actions against the debtor in order to make effective the unpaid credits.
In conclusion, if during these five years the debtor has money again, the cancellation of the debt will be revoked, and the whole credit will be reborn. For this reason, calling it a second chance is a fallacy, as it will oblige the debtor to endure during those five years an economy of survival, if he does not want the sword of Damocles to rise against him again.
Lastly, it should be emphasized that the creditors maintain their rights against those jointly and severally liable towards the debtor and against his guarantors or sureties. Therefore, these guarantors and sureties will have to initiate the process aforementioned, if they also want to benefit from the exonerations of the debts.
After a first analysis of the new regulation, we can only conclude that we find ourselves before another lost opportunity by the Government, as this reform will lack any practical effectiveness. Debtors who are natural persons will not be able to restore their life as they will be condemned to marginalization or the underground economy.
The only beneficiaries of this new law will be the entrepreneurs who guaranteed with their personal assets the elevated debts of their company. However, they must be aware that in order to liberate themselves of all the debts that they are not able to pay, they must get rid of all their current assets. Therefore, they will only be able to preserve their future assets.
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