Effects of pandemic legislation on Insolvency Law in the Slovak Republic
Publié en ligne: 12 févr. 2024
Pages: -
DOI: https://doi.org/10.2478/wrlae-2023-0018
Mots clés
© 2022 Martin Maliar, published by Sciendo
This work is licensed under the Creative Commons Attribution 4.0 International License.
The outbreak of the COVID-19 pandemic in early 2020 caught Slovak legislation and legal practice unprepared in many areas. This situation was not unique, as the spread of the coronavirus paralysed the world economy and forced states to take emergency measures.
The Slovak Republic and other countries were forced to adopt
The amount of state intervention in the economy during this time was unprecedented and had a significant impact on mitigating the economic crisis during the pandemic. Fiscal policy was given a special role, protecting private and public companies that lacked sufficient liquidity.
One of the areas where pandemic legislation had a particular impact was insolvency law. In the first months of the pandemic crisis, companies were able to rely on extensive help in the form of direct monetary support mechanisms. The aim of these measures was to avoid economic collapse at all costs. Long ago, Heraclitus was quoted as saying, “No man ever steps into the same river twice...”. We believe that the reason for the massive interventions was the anatomy of the Great Depression of 1929–1939. This crisis was deeply analysed in the subsequent decades. As Milton Friedman
Milton Friedman, ‘
To solve the COVID-19 crisis, many strategies and laws aimed at reducing the economically and financially destructive effects of the pandemic were adopted at the national level, without European and international coordination. The Slovak Republic was no exception. Immediate responses related to insolvency can be divided into the following categories:
relying on adaptation of existing reliable procedures; introducing new restructuring mechanisms; and/or introducing mechanisms outside insolvency.
The purpose of this article is to evaluate the reaction of the Slovak Republic to insolvency regulation. It is too early to assess the effectiveness of the adopted measures; therefore, the article mainly describes adopted measures and aims at only a partial analysis.
The first legislative measures in response to the pandemic were adopted as early as 25 March 2020 - Act No. 62/2020 Coll: On Some Extraordinary Measures in Connection with the Spread of the Dangerous Contagious Human Disease COVID-19 and the Judiciary and on Amendments to Certain Acts.
Even without a detailed analysis, it can be said that the introduction of this rule was superfluous. We can assume that it was perceived as a signal to the market environment. From 2013 to 2022, according to Slovak legislation, debtors were not obliged to file for bankruptcy due to insolvency.
Only the indebtedness of the debtor was relevant to fulfilling the duty.
High indebtedness tends to reflect the past economic status of the debtor. It is visible in financial statements that report on past events. We assume that the suspension of the obligation to file for bankruptcy mainly affected those debtors who already had a problem with a low ratio of assets to liabilities, even before the outbreak of the pandemic.
It is also important to note that debtors are not afraid of the obligation to file for bankruptcy. Despite the constant efforts of legislators to increase the civil and criminal liability
e.g., Act no. 264/2017 Coll. So-called ‘ e.g., § 74a ods. 5 Act on Bankruptcy and Restructuring.
Immediately after the adoption of the first legislative regulations, the next amendment followed: Act No. 92/2020 Coll., adopted on 22 April 2020. An extraordinary bankruptcy moratorium was introduced – Temporary Protection Part I, the first protections of which came into effect on 12 May 2020. A framework was created for the protection of companies with registered offices in the Slovak Republic that were subject to the negative economic effects from the spread of COVID-19. This extraordinary moratorium was intended for cases of pressure from creditors related to COVID-19’s negative economic impact. Unlike its German counterpart, this temporary protection was not applied automatically to all companies;
Pursuant to Section 1 COVInsAG in conjunction with Art. Art. 6 para. 1 COVID-19 Pandemic Act, the obligation to file for insolvency pursuant to Section 15a InsO and Section 42 BGB was suspended for the period from 1 March to 30 September 2020.
The intentions of temporary protection were twofold. The first was to protect debtors from creditors’ insolvency petitions, and the second was to restrict them to carrying out only ordinary business activities. The companies subject to these temporary protective measures was obliged to prioritise the common interest of creditors over the interests of other parties. They were also obliged not to distribute profits or equity, and to refrain from dealing with the company’s assets if the composition, use or purpose of the assets were to be substantially changed, or if their reduction was significant. This obligation applied to the statutory body and its members. In the event of a breach of this obligation, the relevant legal act was null and void.
The granting of temporary protection under these provisions resulted in:
suspension of the debtor’s bankruptcy proceedings as soon as the creditor files a bankruptcy petition; suspension of the debtor’s obligation to file for bankruptcy; suspension of enforcement proceedings against the debtor; suspension of the commencement of enforcement of the right of pledge; restriction of the right to set off claims against the debtor (including related claims); suspension of the possibility of unilateral termination of contracts due to the debtor’s delay in performance; the interruption of time limits for possible future challenges to the debtor’s acts; the possibility for the debtor to prioritise the payment of costs related to the operation of the business over older debts; and suspension of the possibility of distributing the debtor’s profits or other own resources.
The effects of the first temporary protection would diminish with time, and the court or the company itself could request termination of the temporary protection if the conditions for it no longer existed.
The first applications for the first temporary protection needed to be submitted by the end of December 2020. The list of companies that made use of this possibility can be found in the National Gazette.
In December 2020, Act No. 421/2020 Coll. on Temporary Protection of Enterprises in Financial Difficulties adopted new rules that came to be known as Temporary Protection II. It replaced the previous rules on temporary protection, known as Part I.
These new rules became effective on 1 January 2021, and were intended to be a longer-term tool in (pre-insolvency) insolvency legislation. The previous temporary protection rules had suspended the effects of certain insolvency rules. Under Temporary Protection II, the conditions for seeking protection were made even stricter. Only a debtor who had detected its problems early enough could apply for temporary protection. Debtors could not be subject to law enforcement proceedings against their assets, and they also had to convince at least 50% of their creditors that they had a plan to resolve their situation. With this hard-to-get
A debtor company could be granted temporary protection for only three months. It was possible to extend the protection for a further three months, but again, this was subject to the agreement of the creditors. Thus, the maximum duration of this temporary protection was six months. Similar to the previous set of rules, the granting of temporary protection by the court had some effects not only on debtors, but also on their creditors. These effects can be enumerated as follows:
1. Active and passive immunity
Once the debtor was granted temporary protection, the law would prevent their business from being subject to the provisions of insolvency law regarding creditors’ possibility of filing for insolvency. The obligation to file for bankruptcy was also suspended during this period of temporary protection.
2. Immunity of the estate from law enforcement:
During this period of temporary protection, the debtor’s assets could not be seized. This restriction also applied to the enforcement of the pledge.
3. Set-off: Offsetting
To protect the going concern, the set-off of creditors’ debtor-related claims, both unilateral and contractual, was limited during the period of temporary protection. The rationale appears to have been preventing an increase in the coverage gap for companies under temporary protection, thus preventing them from preparing for a possible restructuring, and preventing related creditors from improving their position in a possible future insolvency proceeding.
4. Termination of contractual relations:
In the case of an executory contract, if the debtor under temporary protection was already in default before it was granted temporary protection, the fact that it had applied for temporary protection could not be cited as a reason for terminating the contractual relationship. This provision is important in terms of preserving a business’s operation as a going concern.
However, the law provided for exceptions to this rule. If the contract had already been terminated before the effect of the temporary protection, the protection could not be applied to it. The termination of contractual relations was also not restricted, even if it were to immediately endanger the other party’s going concern (another hardship measure). The effects of temporary protection also did not apply to services that were not usable in connection with regular business activities. The debtor under temporary protection was also obliged to pay properly and on time for goods or raw materials that were delivered after the temporary protection was granted.
5. Two new duties – to consider the interests of creditors and to limit the business to ordinary activities:
During the period of temporary protection, it would be inappropriate to use the debtor’s assets for distribution among the shareholders, and this right was therefore curtailed. The return of credit financing to persons related to the major shareholder was also restricted.
Para II temporary protection operated as an independent legal institution from January 2021 to July 2022, but during this period, only 13 debtors made use of it. At first sight, this number is surprisingly low. However, there was no increase in the number of bankruptcies between 2021 and 2022, but rather a stagnation.
A situation in which few debtors seek protection against creditors and, at the same time, the number of bankruptcies does not increase significantly can either indicate a sound financial situation in the corporate sector, or the need for a closer look. The most likely explanation is the massive financial support provided by the state. The predominance of corporate financing through the banking sector, as well as low borrowing rates for refinancing in 2020 and 2021, contributed to the emergence of this phenomenon. It also is possible, however, that government intervention has only bought additional time at a relatively high cost. In any case, the trend of low refinancing costs changed significantly in 2022. Together with the weakening of direct government support, the upcoming period is likely to test the effectiveness and sustainability of the investments that had been made during this time.
Hand-in-hand with the third group of pandemic legislative measures, so-called ‘small bankruptcy’ rules were introduced into the (general) Bankruptcy and Restructuring Act. This solution was designed for Small and Medium Enterprises (SMEs)
Only if turnover or assets of the debtor were no more than 1,000,000 euros.
Some time ago, in 2017, legislation introduced a complex solution for the debt relief of natural persons. Compared to the standard (general) insolvency rules, several procedural simplifications were enacted at that time. This legislation inspired the new rules on small bankruptcies. As with bankruptcy proceedings with debt relief for natural persons, small bankruptcy for SMEs aims to ensure that the procedure is as inexpensive as possible. High procedural costs, in fact, are detrimental to the interests of creditors. In most bankruptcy cases, the volume of assets is negligible; according to data from Finstat,
For this reason, the design of small bankruptcy proceedings was introduced as an insolvency procedure leading to the liquidation of a company that can only be initiated by the debtor, and in which the insolvency practitioner (IP)
can be replaced by creditors during the proceeding (appointed based on random selection), but only in case of breach of obligations by the IP; may not contest claims on its own motion – only other creditors may do so; and does not (per default) investigate the avoidability of the debtor’s previous acts, but must rely on the creditors’ initiative.
The creditors’ committee also shall be convened only at the request of the creditor, and only if the costs have been budgeted. A meeting of creditors is convened automatically and need only be convened at the request of a creditor if the costs of holding the meeting have been paid in advance.
Of course, such a simplified approach carries a risk of the value of the debtor’s assets not being distributed in accordance with the standard insolvency rules.
The two most important (distribution) rules are regularly called ‘Pari passu’ and the ‘Absolute priority rule.’ These rules refer to the horizontal and vertical structure of claims in relationship with debtors’ assets in situation where there is not sufficient value to cover all the claims. There is a relation between weak productivity and zombie firms; see Dan Andrews, Müge Adalet McGowan and Valentine Millot, ‘Confronting the zombies: Policies for productivity revival’ (OECD Economic Policy Papers 2017),
Insolvency law was also subject to changes in 2002. When implementing the Insolvency Directive
Directive (EU) 2019/1023 of the European Parliament and of the Council of 20 June 2019 on preventive restructuring frameworks, on the discharge of debt and disqualifications, and on measures to increase the efficiency of procedures concerning restructuring, insolvency, and discharge of debt, and amending Directive (EU) 2017/1132 (Directive on restructuring and insolvency) Act no. 111/2022 Coll. on solving impending insolvency. For more detail, see Alexander Juraj and others,
This new approach, which focuses mainly on imminent bankruptcy, represents an important change in thinking about the early resolution of debtors’ economic problems.
For an example, see Emilie Ghio, Gert-Jan Boon, David Ehmke, Jennifer Gant, Line Langkjaer, Eugenio Vaccari, ‘Harmonising insolvency law in the EU: New thoughts on old ideas in the wake of the COVID-19 pandemic’ (2021) 30 International Insolvency Review.
It is a difficult task to introduce a change of concept – a paradigm shift – that leads to a preference for resolving imminent insolvency rather than actual insolvency. Recent initiatives by the European Commission also support this approach.
In December 2022, the European Commission presented a new draft of its directive on harmonizing certain aspects of insolvency law 2022/0408 (COD) The Bankruptcy Reform Act of 1978.
With the implementation of the Insolvency Directive, two new procedures have been introduced to deal with imminent insolvency – public, and non-public, preventive restructuring. The options for resolving threatened insolvency have thus become more flexible, and debtors have more opportunities to propose an amicable solution to their economic situation.
While public preventive restructuring is possible with any creditor, non-public preventive restructuring is only possible with creditors that are subject to supervision by the National Bank of Slovakia or a similar institution abroad, i.e., a bank or a leasing company. Thus, it is not possible to deal with every type of outstanding debt and liability through private preventive restructuring. This limitation is aimed at curbing possible speculation by debtors, who have the economic power to demand ‘quasi-rent’ from smaller creditors.
In a private preventive restructuring, the creditors with the highest probable claims are involved, so the debtor can focus on the main claims in a less formal procedure and work in closer contact with the creditors. A result can be achieved relatively quickly using this process. Public preventive restructuring has the advantage of involving all creditors. It is a complex resolution of the debtor’s liabilities within a relatively short period of time. Ultimately, it is up to the debtor to decide whether to undergo public or non-public preventive restructuring. Therefore, each debtor must evaluate its list of creditors, its structure, and its options, including appropriate and reasonable measures.
The COVID-19 pandemic had a significant impact on insolvency legislation and practice. The pandemic created similar problems in every country, and government responses tended to follow common patterns. Member states tend to be very protective of their national sovereignty in regulating sensitive policy areas such as insolvency, and this is reflected in investment decisions. This has led to legal convergence in an area previously considered too sensitive for full substantive harmonisation. Although the scope of harmonisation has increased, full harmonisation is still a long way off.
The Slovak Republic not only amended its insolvency legislation mainly with regard to imminent insolvency, but also returned to the standard substantive rules defining the state of insolvency. However, these changes were inevitable, and not only because of the pandemic. It was necessary to change the whole paradigm for solving companies’ economic problems by focusing on the preservation of the going concern and its value.
If we focus only on the numbers and consider only the small number of debtors that made use of pandemic-specific measures, these rules were superfluous. From the perspective of behavioural economics, it can be argued that the market does not always consider legislative solutions and that signals from states or central regulators are no less important.
The current applicability of