Luxembourg law on financial guarantees – new

The Luxembourg law of 5 August 2005 on financial guarantee contracts, as amended (the “Guarantee Law”), has achieved considerable success in framing Luxembourg sureties, offering remote security instruments in the event of bankruptcy and attracting a wide range of uses with a very creditor-friendly approach. The Luxembourg legislator now intends to amend the law on collateral, in order to implement Regulation (EU) 2021/23 of 16 December 2020 on a framework for the recovery and resolution of central counterparties and also to amend to new law on securities, in particular with regard to the enforcement of securities. The corresponding preliminary draft law (the preliminary draft law number 7933 (the “Preliminary draft law”) was published on December 20, 2021. Certain technical modifications of the Luxembourg Council of State have been taken into account and published on June 20, 2022, and the Speaker of the House of Representatives suggested that the bill could be passed before July 15, 2022.

What are the key elements/updates?

  • Emphasize that execution triggers do not require non-payment. With respect to the triggers for the realization of security, the term “anything” (“any”) will be added to the existing reference to “any event agreed between the parties”. This reinforces the concept in Luxembourg law that non-reimbursement is not required to allow enforcement. Any event agreed between the parties will be recognized as an execution event. In practice, this amendment is a welcome confirmation that breach of a representation or covenant, for example, can be an agreed event of default giving the pledgee the right to enforce the security agreement.

  • A financial security agreement can be enforced even if no secured obligation is due and payable. If the obligations secured are not due and payable at the time of realization, the proceeds of realization would be applied in payment of those obligations secured (even if those obligations secured are not due and payable at that time). With this envisaged change to the Collateral Act, the rule would be that a financial collateral agreement is therefore directly enforceable if the agreed triggering event occurs. The Bill, however, also provides some flexibility to deviate from this, allowing the parties to agree a different mechanism where, for example, enforcement would require the secured obligations to be due and payable for the pledge be enforceable.

  • Additional methods and clarifications on execution option for stocks, fund shares and insurance claims are added.

    • With respect to compulsory execution in shares or debt securities, the bill clarifies that such assets, if admitted to trading on a trading venue (defined in the bill as a market regulated in Luxembourg or abroad, a multilateral trading facility or an organized trading facility) could be sold on said trading venue at their market price. Currently, the law on securities simply refers to a “sale on the stock exchange” without clear specification.

    • Regarding the appropriation of financial instruments, the Preliminary Draft distinguishes between (i) the appropriation of financial instruments admitted to trading on a trading venue (which could, by default, be done at the price of these financial instruments) and (ii) the appropriation of units or shares of an undertaking for collective investment (which could, by default, be carried out either at their market price, if they are admitted to trading on a trading venue, or at the last published price of the net asset value, provided that the last publication of the net asset value is no more than one year ago).

    • With regard to the realization of pledges on the units or shares of a collective investment undertaking, the draft law provides that the pledgee may realize the pledge by requesting the redemption of the pledged units or shares of this collective investment scheme at their redemption price in accordance with the constitutional documents of this undertaking for collective investment. This method of enforcement could be of real interest to pledge creditors who are unable to easily enforce the pledge by appropriation or sale by mutual agreement. Indeed, some secured creditors may not be able to appropriate because they are not able to hold these units or shares directly or indirectly via a vehicle for regulatory or internal political reasons. If the bill is adopted as such, a pledgee will be able, upon the occurrence of the execution event, to simply access cash sums by requesting the redemption of these instruments.

    • With regard to claims arising from insurance contracts, the draft law provides that the pledgee may realize the pledge by exercising all the rights arising from the pledged insurance contract. The bill further clarifies that these rights include, in the case of a life insurance contract or a capitalization transaction, the right to surrender this insurance contract or to demand payment from the company insurance for any sum due under this contract.

  • The public auction execution regime will be amended and updated to no longer refer to the Luxembourg Stock Exchange as this mode of execution is now obsolete. The current public auction regime is based on a law of 1 June 1929 and stems from the fact that the Luxembourg Stock Exchange once benefited from a specific government concession. Today, the Luxembourg Stock Exchange has become a professional in the financial sector and the Luxembourg legislator considers it inappropriate to continue to delegate this role to the Luxembourg Stock Exchange. A new procedure involving a Luxembourg notary or bailiff is provided for in the draft law, which would also apply in the event that the parties do not agree on a different public auction mechanism. While this update is welcome, it should be noted that the public auction process itself is rarely used, with secured creditors tending to turn to the shorter appropriation or over-the-counter methods. and the least expensive.

  • It is further specified that for security assignment agreements, security agents, fiduciaries or trustees may hold the security on behalf of the beneficiaries.

  • Clarification as to the robustness and protection of insolvency, including against Luxembourg insolvency proceedings, as well as foreign insolvency proceedings. Collateral law provisions relating to the effectiveness of netting agreements and sureties will be amended, in particular to clarify that the insolvency remoteness of such instruments should be understood in relation to domestic and foreign law insolvency proceedings . The bill also clarifies that confiscation measures (“sequester”) do not affect these compensation arrangements and measures, adding an additional level of protection.