The possibility of cancelling debts to the State under the new law of reorganisation through 7 question and answer sessions

Legal Insight

May 2021

Του Γιώργου Ψαράκη, ΜΔΕ, LL.M. PgCert

(rebublished from Moneyreview.gr) 

The new bankruptcy law is now a reality. Many new regulations have been adopted, which we have dealt with extensively and will continue to do so in the future. In this regard, it is useful to shed some light on one particular point, namely the fate of debts to the State in relation to business reorganisation cases. The commentary will take the form of question-and-answer sessions in order to make the conclusions more readily understandable.

1. When can a company make use of the institution of reorganisation under the new bankruptcy law?

In order for a reorganization agreement to be ratified on the debtor's initiative, it will basically require either a) the consent of its creditors representing on the one hand more than fifty percent (50%) of the claims that have a special privilege (mainly i.e. (a) either (a) the approval of creditors representing more than fifty per cent (50%) of the total claims and more than fifty per cent (50%) of the claims with special privilege and (b) the approval of creditors representing more than sixty per cent (60%) of the total claims and more than fifty per cent (50%) of the claims with special privilege. 

As a natural prerequisite, the person carrying on business must be in a situation of present or threatened inability to meet outstanding obligations or at least a likelihood of insolvency, and it must be particularly likely that the reorganisation agreement provides a reasonable prospect of securing the viability of the business as restructured under the reorganisation agreement. 

2. Is it possible to write off debts to the State under the reorganisation agreement? If so, can the principal debt be written off as well or only interest and fines?

And under the new law, it is possible to write off debts to the State. Indeed, not only interest and fines but also the principal debt. On the contrary, the new out-of-court mechanism stipulates that the write-off of withheld taxes, imposed taxes (e.g. VAT) to the State and insurance contributions is prohibited (Article 22). However, a basic condition for the admissibility of the write-off is that the implementation of the reorganisation agreement does not put the State in a worse position with regard to its established claims at the time of signing the agreement than it would have been in in the event of bankruptcy ('forced liquidation in the event of bankruptcy'). That is to say, if we have a company with a property pledged for EUR 1 million, and it does not owe any money to insurance providers and employees (assumption for the sake of convenience of the example), the State in case of bankruptcy will receive within e.g. 5 years 25% of the pledge (as the pledging bank will receive most of it). If the bidding amount is at the forced sale values which are -20% e.g. reduced from the commercial values (we can include a discount for execution costs up to 5%), then we have 1.000.000€*80% = 800.000€*25% = 200.000€. This amount, because it will be collected by the State in say 5 years (due to the time needed to complete the procedure), in present value amounts to 164,385€ (with a discount rate of say 4% - the weighted average cost of financing of the debtor as derived from the proposed resolution agreement is used as the discount rate). Therefore, the State should receive under the resolution agreement at present value more than the €164,385 it would have received in the event of bankruptcy (this may also be equivalent to an arrangement of e.g. 10 years in the amount of total payments at the end of the 10-year period of €245. Moreover, the new out-of-court mechanism already provides for repayment in 240 instalments, which can easily be applied to the reorganisation procedure as a possible timeframe for regulation. Any remaining debt can be written off.  

3. Is it possible to write off debts without the agreement of the State?

Yes, it is. Once the above majorities are in place and the reorganization agreement is signed, all other non-consenting creditors, including the State, will necessarily follow suit (subject to the above conditions). 

Indeed, the State is presumed to agree to the reorganisation - even if the agreement with the majority creditors includes the cancellation of a basic debt to it - if certain statutory conditions are met. If these conditions are met, the State is presumed to agree and therefore its claims will be included in the percentages of the consenting creditors to cover the above majorities (see question 1). Under the prevailing law, the authority to agree to a reorganisation plan was vested in the Governor of the AADE, who decided on the basis of a recommendation of the AADE's Collections Department and an opinion of the NCC. As can be understood, however, it was particularly difficult to obtain the consent of the State to a debt write-off; this was because the competent institutions were reluctant to assume the responsibility to cooperate.

Indeed, in recent years a number of court decisions have been published which have accepted, despite the refusal of the State, the writing-off of a large part of the debt owed to it in the context of reorganisation applications. For example, in decision 233/2019 of the Athens Multi-Member Court of First Instance, we had a 78.5% write-off of the State's claims (!). Also, in the decision of the Rethymnon Court of First Instance No. 11/2020, 60% of the main debt and 100% of the surcharges, interest, fines and other charges were cancelled with repayment of the remaining debt in 180 interest-free equal monthly instalments. 

In fact, when the courts decide to write off a debt to the State, they base their position on the following considerations: "In this way, from the above legislative options, it becomes clear that in view of the socio-economic crisis, the viability of the company is a priority, and in the face of the possibility of its survival, the claims of the Greek State and the social security institutions are subordinated. Moreover, the achievement of the objective of consolidation (i.e. the return of the company to the production process) will result in future revenues for both the Greek State and the social security funds.

4. Does the same apply to debts from withheld taxes (FMS etc.)?

Here we have a difference of position between most court decisions and the Administration. The latter in POL 1068/2013, which was in force under the previous bankruptcy code, exposed the following: "Finally, as regards withholding taxes, it should be noted that to the extent that a reorganisation agreement regulates/limit debts of this category, it is in breach of the provisions of Articles 99 et seq. of the PC, because it regulates debts that are related to a tax liability not of the applicant company but of third parties".

The courts, however, for the most part accept that withholding taxes can also be written off, with the following reference: "The obligation for withholding taxes is, in addition to the third party, also an obligation of the debtor, as these debts are included by law in the classification list during the enforcement and bankruptcy proceedings" (PPRNafplio 132/2020, TREFDod 115/2019, PPRATH 233/2019).

5. Can the debt to the State be written off and the corresponding debt to the credit institution remain untouched?

The main objective of writing off the debt to the State is usually to increase the chances of repayment of the debt to the lending banks. The reality is simple: if the majority creditor (the credit institution) has the upper hand, it decides, together with the company, to write off a large part of its debt to the State (and the social security funds) so that the latter can meet the bulk of its claims, while sometimes agreeing to provide further financing. As stated in the judgment of the Nafplion Court of First Instance No 132/2020, justifying the 'preferential' satisfaction of the credit institution vis-à-vis the State: 'Further, it is obvious that the full satisfaction of the creditor's claim ... bank is required by a serious business reason, which is none other than the immediate need for the applicant's financing, which is necessary for its very existence'.

6. But what about those who are jointly and severally liable, i.e. the legal representatives of the undertakings (board members, managing directors, managers, etc.)?

This is where the big problem lies. Based on a relevant POL (1049/8.3.2018) in force under the previous Insolvency Code, the ratification of a reorganisation agreement did not in principle have an impact on the liability of the jointly and severally liable persons, unless a contrary clause was included in the reorganisation agreement. A precondition for the limitation, i.e. the limitation of the liability of the jointly and severally liable persons, was that the State also agreed to it. This would, of course, rarely be the case; the State would hardly ever agree to discharge the representative of the company from the debts, even if the debts were necessarily written off from the total debts of the company in the reorganisation agreement.

This position is already expressed in Article 60(1)(b) of the EC Treaty. 3 of the New Bankruptcy Law ("The rights of creditors against the guarantors and joint and several debtors of the debtor, as well as their existing rights to third-party assets, shall be limited to the same amount as the claim against the debtor, only if the creditor of the debtor expressly agrees ..."). Therefore, even if the tax debts in the name of the company are cancelled, its directors who are jointly and severally liable under the Code of Tax Procedure continue to owe the amounts assessed, unless the State itself accepts otherwise; and if they have property the State will proceed with enforcement actions against them. 

However, under the special liquidation regime of Article 44 of Law 1892/1990, it was held that any reduction of debts under that procedure should also apply to the jointly and severally liable persons because otherwise the special regime established for the definitive liquidation of companies would become meaningless, with the entire tax burden being shifted exclusively to the managers of the legal persons (cf. Decision No 1027/2011 of the Athens Administrative Court of Appeal and Decision No 12958/2019 of the Athens Administrative Court of First Instance). However, this is exactly what happens in the present case under the law of reorganisation under the New Bankruptcy Law: the debts to the State that are written off in favour of the companies are transferred to their managers. 

7. So, what is the proposal to the indebted companies?

Reorganisation is obviously not for all companies. But there are certain cases where it seems an ideal solution to the problem of over-indebtedness. These are especially when there are high debts to the state and at the same time a major majority creditor (e.g. a bank) agrees to partially write off the debts to the state so that the company can stand on its feet and pay off the debt, mainly the loan debts. The compensation for this write-down is the personal liability of the directors, who continue to owe the company their personal assets despite the write-off of the tax debt in the company's name. Ideally, therefore, the jointly and severally liable director should not have any property in his own name, otherwise he will obviously have no incentive to agree to a reorganisation of his company involving the writing-off of tax debts and will settle for a long-term arrangement, even if this is likely to make such a reorganisation impossible in practice.