New Decree on Insolvency Proceedings 

April, 2020 - Irma Rivera Ramirez

On 15 April 2020, the National Government issued Decree 560 of 2020, which adopts special transitional measures in insolvency processes, within the framework of the State of Emergency. The Decree modifies aspects of the current regime, adds mechanisms to protect the company and employment and, where appropriate, facilitate the reallocation of the debtor's resources to other uses through the liquidation process.

1. Scope of application

The measures adopted by the Decree are not permanent. The tools provided will be available for two years from its entry into force and will only apply to companies affected by the causes that led to the State of Economic and Social Emergency. To that extent, when applying these mechanisms, it will be necessary to justify and prove the effects of the emergency. The Decree does not establish a minimum or specific test for such proof, and it will be up to the Superintendence of Companies (Superintendencia de Sociedades) to verify that the company was indeed affected by the causes that gave rise to the emergency.

2. Expedite admission process

The Decree simplifies the process of admission to reorganization mechanisms. Consequently, it provides that the judge will not audit the content or accuracy of the documents provided or the financial information or its compliance with the accounting policies of the applicant debtor. What is required is that the debtor certifies that the regular accounting is maintained and verifies the completeness of the documentation provided.

3. Payment to small creditors

From the time of admission to a reorganization proceeding, the debtor may pay workers and suppliers in advance without the authorization of the judge provided that (i) they are payments to unrelated creditors; (ii) they must be small claims, with an aggregate value equal to or less than 5% of total external liabilities; and (iii) the debtor must have the recommendation of the promoter of the bankruptcy proceeding, if the latter has been appointed.

The debtor can sell company assets without approval of the judge as long as the following conditions are met:

(i) the assets are not related to the operation of the debtor,(ii) the value of the assets does not exceed the value of the claims,(iii) the sale is made on commercial market terms and,(iv) the transaction does not ignore the rights of secured creditors. If the asset is subject to a precautionary measure for remedy (medida cautelar), authorization must be sought from the judge to repeal the measure.

If the resources obtained from the sale of the asset are used for a different purpose, the debtor's managers shall be jointly and severally liable for the damage caused and shall be obliged to reimburse these resources.

4. Financial relief mechanisms

The Decree restores the risk bonds of Law 550 and includes the following support mechanisms:

  • Capitalization of liabilities and risk bonds: The reorganization agreement may provide for the capitalization of liabilities through subscription of shares (or other forms of participation in the capital of companies), risk bonds and other mechanisms for subordinating debts. These tools may confer economic privileges and political rights, provided they are approved by the debtor's highest corporate body. In the case of shares and other contributions, they are subject to a preemptive right in favor of the partners, according to the terms of the agreement; and in the case of risk bonds, they will be considered as an equity account, subordinated to external liabilities, but senior to the shareholders. It is a form of quasi-equity or mezzanine debt.
  • Liability Discharge: If the debtor's liabilities are greater than its valuation, the reorganization agreement may provide for the discharge of the liabilities exceeding the valuation. This discharge must be approved by external creditors representing at least 60% of the creditors entitled to payment, excluding the votes of internal and related creditors, provided that it does not affect the rights of labor, pension, maintenance, or secured creditors. If approved, the discharge implies the cancellation of the rights of shareholders or partners of the debtor without payment.
  • Sustainable debt: The reorganization agreement may include sustainable debt covenants, under which debt is restructured or re-profiled with financial institutions. These agreements must be approved by 60% of the financial creditors. If approved, the reorganization agreement is fulfilled when the debtor delivers to those creditors the securities containing the terms of the restructured obligations.

5. Financing of the debtor during the negotiation of a reorganization agreement

The debtor may obtain a credit during the negotiation of the reorganization process for the performance of the ordinary course of its business, without prior authorization from the judge. If no new financing is obtained, the debtor may request authorization to acquire such financing under the following conditions:

  • To support the credit with guarantees on its unencumbered assets in favor of other creditors.
  • To grant a second-degree lien on previously secured assets.
  • To grant a first-degree lien in previously encumbered assets, with the prior consent of the secured creditor that will be subordinated. If that creditor does not accept the encumbrance, the judge may authorize the incorporation of the first-degree lien provided that the debtor demonstrates that, despite the new encumbrance, the original secured creditor enjoys reasonable protection under the terms of the Decree.

Creditors may present less burdensome financing alternatives.

These obligations are construed as administrative expenses, and therefore have priority in their payment over those which are the purpose of the reorganization agreement or the liquidation process – notwithstanding the priority that corresponds by law to certain special claims. It is what in other jurisdictions is called DIP (Debtor in Possession) Financing, through which financing is granted to debtors in insolvency with the objective of facilitating reorganization and recognizing a preference in payment to the financier.

6. Acquisition of assets in insolvency

The Decree contains provisions regarding the acquisition of the insolvent company or its assets. Thus, any creditor may capitalize a company whose equity value is negative and is to be liquidated and, through this operation, keep all the shares in its capital. Consequently, the creditor may avoid the judicial liquidation of its debtor if, having issued the order declaring the termination of the reorganization and the commencement of the liquidation process or within the scope of its enforcement, it expresses its interest in contributing new capital. The offer must correspond at least with the value to be paid for all first-class claims, labor severance payments for early termination without just cause, the normalization of pension liabilities, the costs of administration of the reorganization, claims in favor of secured creditors and other claims that are eligible for payment in accordance with the inventory of assets. The resources offered are contributed as capital to the debtor, at nominal value. After the deposit of the offered value, (1) the payments are made in favor of the full amount of the credits of the creditors with aptitude of payment, with charge to the deposit excluding the eventual compensation for termination of labor contracts, which will be kept as a reserve to pay it if necessary, (2) the shares of the previous shareholders are cancelled and new shares are issued in favor of the acquirer and (3) the unpaid obligations of the insolvency proceedings and those prior to it that were not presented in the process will be extinguished, notwithstanding the liability claims against administrators and controlling parties established in Law 1116 of 2006.

If the full amount to be paid by the selected bidder or bidders is not deposited, the judge will impose a penalty equivalent to fifty percent (50%) of the value offered.

7. Performance of ongoing reorganization agreements

Installments from ongoing reorganization agreements that are due in April, May, or June 2020, will only be considered due as of July 2020. Unless a breach of the ongoing reorganization agreement extends for three months and is not cured at the default hearing under the reorganization agreement, there shall be no termination of it.

8. Emergency negotiation

The debtor may request the judge for an emergency negotiation of a reorganization agreement for a term of three months if it is in default or imminent inability to pay. The initiation of the process is requested before the judge and, once admitted, is presented to the debtor, and confirmed by the judge. The performance of the agreement is subject to the majority requirements of Law 1116 of 20016. During this negotiation, the following effects will occur

  • The restrictions set forth in Article 17 of Law 1116 of 2006 apply (certain prohibitions applicable to the debtor such as statutory reforms, creation of liens and guarantees, disposal of assets outside the ordinary course of business, conciliation of judicial proceedings or settlement of claims, compensation or extraordinary payments).
  • The processes of execution, coercive collection, restitution of possession and execution of guarantees against the debtor are suspended.
  • Payments of obligations for administrative expenses that the debtor deems necessary may be deferred, except for payment of salaries, parafiscal contributions and obligations to the social security system.

Through this type of negotiation, the debtor can settle agreements with one or more categories of creditors, approved by a simple majority of the admissible votes of the corresponding category. The effects of these agreements are binding on the respective category and do not extend to the other creditors.

If the emergency negotiation fails, the debtor will not be able to use this mechanism during the year following the termination of the process. However, the debtor may apply for admission to the proceedings under Law 1116 of 2006 or the applicable insolvency law.

9. Procedures before the Chamber of Commerce

Chambers of Commerce may perform business recovery procedures for subsequent judicial validation. The procedure will have a maximum duration of 3 months during which the processes of execution, coercive collection, restitution of possession and execution of guarantees will be suspended. The procedure for these purposes will be regulated by the provisions issued by the Chamber of Commerce.

10. Tax reliefs

The Decree provides the following tax measures for both companies that are admitted to a reorganization process and for those companies that are already executing a reorganization agreement entered into prior to the issuance of the Decree:

  • As of the date the decree is issued until December 31st, 2020, these companies will not be subject to tax withholding and will not be required to make any self-income tax withholding.
  • For the taxable year 2020, these companies will not have to liquidate or pay advance income tax.
  • For the year 2020, these companies will not have to liquidate their income tax based on their presumptive income.

As of the issuance of the decree until December 31st, 2020, these companies will be subject to VAT withholding at a rate of 50%. This withholding will be performed by the withholding agents who acquire goods and services from these companies.

11. Suspensions

The following provisions are temporarily suspended:

  • For 24 months as of the issuance of the Decree, the cause of imminent inability to pay for insolvency proceedings regulated by Law 1116 of 2006. This suspension is not applicable to emergency negotiations of reorganization agreements.
  • For 24 months as of the issuance of the Decree, judicial liquidation processes by adjudication. This suspension is not applicable in respect of liquidation processes by adjudication in progress.
  • For 24 months as of the issuance of the Decree, the cause of dissolution by losses.
  • Until December 31st, 2020, the obligation to report the cessation of payments when it’s been triggered by the causes that led to the declaration of a State of Emergency.

 

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