The personal bankruptcy bill making its way through Romania’s legal system has got a mixed reception. While some see it as a solution for the luckless Romanians hit hard by the current crisis and incapable of repaying their bank loans, other believe that the law doesn’t strike the right balance between the debtor and creditor, upsetting existing contractual understandings and threatening moral hazard.
The legislative proposal on the insolvency of individuals has shaken up lawmakers, lawyers and bankers, giving birth to a heated public debate after passing the Senate.
To summarize, the law prescribes that the insolvency procedure should cover debts against the borrower, adding that, in the case of personal bankruptcy, the assets of the borrower will be liquidated to cover the debt. Under the draft law, a contractor who has willingly requested and accepted the initiation of insolvency procedures can be completely or partially relieved of debts incurred before or after the initiation of the procedure, if the contractor’s assets are insufficient to pay the entire debt and if the court agrees that the debts were taken on in good faith.
Those in favor…
Lawyers argue that one of the plus points of the bill is that forced executions will be consigned to history. The law grants court protection to Romanians who find themselves unable to pay off their debts to the banks due to the recession, so banks cannot seize the collateral and sell it to recoup their losses.
“Moreover, a second advantage is that these debts could be rescheduled over a period of several years, taking into account the economic status of the individual. If the court rules the bankruptcy ‘excusable’, meaning that it is the result of the unfavorable economic and social situation, it will allow that individual a so-called new start, with previous debts being wiped,” Ana Birchall, financial restructuring and insolvency group chief with law firm White & Case, told Business Review.
A borrower who proves that they cannot meet their monthly installments due to the current economic turmoil could receive an exemption of 25 percent of the bank debt. That means that if an employee has a EUR 100,000 loan and cannot pay it back, the bankruptcy law would wipe EUR 25,000 off the debt if the individual proves that his debts are higher than his income. Currently, if a person cannot meet their installments, the bank can repossess the mortgaged property and, if that does not cover the outstanding debts, seize a third of the individual’s salary until everything is cleared.
Alexandru Moldoveanu, associate at Tuca Zbarcea & Asociatii, told BR that one notable advantage offered to lenders is that they can recover debt promptly.
“So, to avoid a long trial for the recovery of receivables held against a person, a creditor may, under the new law project, initiate insolvency proceedings against that debtor,” said Moldoveanu.
Other specialists think that the main benefit of this law may consist in its social effects: by preventing large numbers of individuals from rapidly becoming homeless, potential social unrest and even threats to the state would be diffused.
“It is clear that the state is currently confronted with a situation in which a sizable number of individuals are on the brink of defaulting on their debts due to previous lax credit regulation, and that this bill comes as a palliative measure, until the general economic situation is improved,” said Alexandru Stanoiu, principal associate in advisory with KPMG Romania.
But not everyone is singing the bill’s praises. Some specialists say that the rationale behind the adoption of a law allowing the insolvency of any individual is most likely based on social solidarity, where the whole society is responsible for the failure of any of its members and society protects the individual from the effects of his bad economic decisions or mere bad luck. Beyond the suspicion of social engineering at work, the main disadvantage of this measure is moral hazard: people may get the idea that they will escape the consequences of their actions with the help of an interventionist almighty State, and behave more recklessly accordingly.
“The idea of the insolvency (including both reorganization and bankruptcy) of commercial entities or even of professional undertakings is based upon the risk of running a business. This risk is acknowledged from the start, as the consequences may be very dire, touching even the personal assets of the directors or other management staff, and also shareholders. This seems not to be the case for individuals, where the law envisages that the reimbursement of debts may be stalled or even written off if the individual convinces a judge that the bankruptcy was ’excusable’,” said Stanoiu.
Other lawyers comment that the bill in the form passed by the Senate doesn’t take into account all the relevant points of law.
“The adoption of such a draft bill should be based on an impact study revealing both the implementation method and the advantages and disadvantages resulting from the implementation, both economic and social,” Madalin Niculeasa (photo), partner at NNDKP law firm, told Business Review.
From a technical, bureaucratic point of view, Stanoiu also warned that the measure could clog up the Romanian courts. Even now, Romania is under EU Commission scrutiny for justice-related aspects, one of them being the current burden on judges, particularly in Bucharest, notwithstanding the need for supplementary premises for courts. In France, by way of a comparison, the task of solving individual bankruptcy matters is given to a judge delegated to chair an “over-indebtedness commission” and whose approach is administrative, rather than judiciary.
In the short term, the adoption of this law might ensure the social status quo, until other major macro-economic measures are implemented to alleviate the effects of the economic downturn. The law’s main “losers” would be banks and other credit institutions, whose efforts to recover their money by repossessing the collateral will be drastically curtailed.
In the medium and long term, credit institutions might no longer be willing or able to cope with the situation or to bear the costs of individual consumerism and reckless borrowing. As a result, credit retail would suffer dramatically, and Romania may return to how things were in the mid-90s, when credit was available, in practical terms, only to a minority (mainly companies or people with “connections”). An alternative would be the tighter regulation of crediting conditions, in order to avoid such mass defaults in the future.
Banks urged to withhold judgment for now
Lawyers say that banks should not assume that the bill is intended to throw a spanner in their works. “This law would also be beneficial for banks, because I don’t believe that their purpose is to become the number one property owner in Romania,” said Birchall.
But other lawyers warn that creditors, especially banks, could be most affected by the law as debtors whose bankruptcy is deemed ‘excusable’ could take advantage of the law’s provisions, treating it as an affordable way to defer the repayment of debt. The NNDKP partner says that from a practical perspective, the law does not simplify the relationship between the lender (bank) and the debtor (individual).
“Regarding the banks’ reaction, bear in mind that banks provide two types loans: loans secured by tangible guarantees and unsecured loans. The major implications are more connected to the second category of loans, whereas secured loans, even if banks cannot execute the debtor through specialized companies, must make use of the powers of the administrator or liquidator,” said Niculeasa.
According to him, in the case of unsecured credit, the law creates additional bureaucracy for the enforcement of the debtor’s assets, and sometimes causes disclaimer cases.
As expected, the bill has prompted howls of protest from bankers. Adrian Vasilescu, an adviser to the central bank governor, warned that the adoption of the personal bankruptcy law might force banks to demand additional guarantees, which would restrict people’s access to loans. He added that the central bank had already notified the Parliament of its objections to the bill.
Meanwhile, the Romanian Banking Association (ARB) has also advised Parliament that it opposes the law as it may expose the banking system to further risk, especially in a period of economic crisis. “The adoption of the individuals’ insolvency law represents an additional risk for banks and will increase household lending costs, especially for mortgages,” said Steven van Groningen, ARB’s VP and president of Raiffeisen Bank. Van Groningen added that the law would force banks to increase their interest rates on retail loans, especially for mortgages, in order to cover the refinancing risk.
And Dominic Bruynseels, the executive president of Banca Comerciala Romana (BCR), added his voice to the protest. He said that the bill would make bankers more cautious when handing out money. “The effect of the law will be that we will be more attentive to whom we give loans,” said Bruynseels.
But lawyer Ana Birchall dismissed the banks’ reaction, saying “This law could discipline banks regarding lending but it will not increase the cost of loans and the central bank will have to have a active role in this sense.”
But the loud cries of pros and cons may be a moot point. It remains to be seen whether the bill, which is poised to be debated in the Chamber of Deputies, the decision-making chamber, will pass. Lawyers have already tabled some amendments, such as for instance more restrictive conditions for a debtor to declare personal bankruptcy.