The relationship between securities law and insolvency law has always been complex, not to say conflicting. On the one hand, security interests are designed to provide effective protection for creditors in the event of a debtor's default. On the other, insolvency law pursues broader objectives: safeguarding the business, maintaining activity and jobs, and paying off creditors collectively. Order 2021-1193 of 15 September 2021, which complements the order reforming the law on securities, aims to strike a better balance between these conflicting imperatives. This reform, which has been eagerly awaited by practitioners, puts an end to certain inconsistencies and clarifies what happens to security interests when the debtor is the subject of collective proceedings.
What are the main innovations in this text? How do they affect the rights of creditors and guarantors? What is the new classification of securities in the event of insolvency proceedings? These are just some of the questions that are essential for economic players, and which we will be analysing.
The general principles of reformed articulation
The creation of "affected parties" classes
The major innovation of this reform lies in the creation of classes of "affected parties", an expression which, although imprecise, mainly refers to creditors and holders of capital (shareholders or partners). This concept results from the transposition of European Directive 2019/1023 of 20 June 2019, known as the "restructuring and insolvency" directive.
These classes bring together creditors whose interests are sufficiently similar to be dealt with together. They replace the creditors' committees (credit institutions' committee and main suppliers' committee) and the bondholders' meeting that existed previously.
Article L. 626-30 of the French Commercial Code now stipulates that these classes are established on the basis of "verifiable objective criteria" taking into account, in particular:
- Security interests held by creditors
- Subordination agreements entered into prior to the commencement of proceedings
- Their payment rank
This approach allows better account to be taken of the diversity of situations of creditors and their guarantees. It leads to a closer link between security law and insolvency law.
The new classification of creditors in compulsory liquidation
Article L. 643-8 of the French Commercial Code, created by the Order, establishes a complete and hierarchical ranking of creditors in the event of a judicial liquidation. This classification is particularly innovative as it summarises in a single text the order of distribution of assets, whereas this hierarchy previously resulted from scattered provisions.
This text places creditors with a right of ownership or retention "out of competition". This is followed by fifteen ranks of creditors, organised according to a precise hierarchy that takes into account the nature of the claims and the securities attached to them.
This clarification is welcome by practitioners, who now have a clear "roadmap" for determining the order of payment of creditors. It also enhances legal predictability for creditors, who can better assess the effectiveness of their security in the event of debtor default.
Unifying the treatment of guarantors for third parties
Another significant advance is the unification of terminology and rules for all forms of third-party guarantees. The Ordinance adopts the generic formula "persons who are co-obligated or who have granted a personal surety or who have assigned or transferred property as collateral" to designate all guarantors.
This wording encompasses:
- Personal guarantees
- Autonomous guarantors
- Third-party grantors of security interests
- Joint and several debtors
This harmonisation puts an end to the diversity of formulas used previously and to uncertainties about the scope of protective provisions. It is particularly important for third-party grantors of security in rem for third parties, who now clearly enjoy the same protection as guarantors.
The fate of securities constituted before the commencement of proceedings
New provisions concerning the nullity of the suspect period
Article L. 632-1 of the French Commercial Code, which deals with nullities during the suspect period, has been significantly amended by the Order. Article 6°, which listed the security interests affected by this nullity, is now worded more generally: "any contractual security interest or contractual right of retention constituted on the debtor's assets for debts previously contracted" is null and void.
This broader wording encompasses all forms of contractual security interests, without exception, which puts an end to the uncertainties in case law concerning certain security interests not expressly mentioned in the previous wording (such as the assignment of business claims).
However, the Ordinance provides for an important exception: nullity does not apply where the security "replaces an earlier security of at least an equivalent nature and basis". This exception, which enshrines an established case law solution, allows refinancing and restructuring of debts with equivalent security.
Extension of nullity to increases in the basis of security
A notable innovation is that the Order extends the nullity of the suspect period to "any increase in the basis of a contractual security interest in the debtor's assets for debts previously contracted" (article L. 632-1, 7° of the French Commercial Code).
The purpose of this provision is to prevent a creditor who is aware of the debtor's difficulties from obtaining an extension of its guarantee to other assets of the debtor in respect of an existing debt. It is a useful addition to the system of nullities during the suspect period, filling a gap in previous law.
A similar provision is set out in article L. 622-21 of the French Commercial Code, which prohibits, after the opening judgment, "any increase in the basis of assessment of a contractual security interest or a contractual right of retention, regardless of the method used".
Exceptions to the principle of nullity
The ordinance sets out a number of exceptions to the principle that security interests created during the suspect period are null and void:
- Substitution of one security for another of at least an equivalent nature and basis, as mentioned above.
- Assignment of receivables under article L. 313-23 of the French Monetary and Financial Code (cession Dailly), in execution of a framework agreement entered into prior to the date of cessation of payments
- Increases in the tax base resulting from a framework contract concluded prior to the commencement of the proceedings
These exceptions make it possible to preserve certain financing mechanisms that are essential for businesses, such as revolving credit, inventory financing and the assignment of trade receivables under existing agreements.
The fate of natural person guarantors in insolvency proceedings
Harmonisation of the regime applicable to all guarantors
The ordinance harmonises the rules applicable to the various types of guarantor who are natural persons. The protective provisions now apply uniformly to "natural persons who are co-obligors or who have granted a personal surety or who have assigned or transferred an asset as security".
This single formula replaces the various expressions previously used in different articles of the French Commercial Code. It ensures that all guarantors who are natural persons, whatever the legal nature of their commitment, benefit from the same protection.
This harmonisation concerns in particular:
- Stopping the accrual of interest (article L. 622-28)
- Suspension of proceedings during the observation period (article L. 622-28)
- Unenforceability of undeclared claims (article L. 622-26)
- The effect of safeguard and recovery plans (articles L. 626-11 and L. 631-20)
Extension to guarantors of the favourable regime of the safeguard procedure
Individual guarantors have long benefited from a protective regime in safeguard proceedings. Article L. 622-28 of the French Commercial Code stipulates that the opening of the insolvency proceedings suspends any action against these individuals until the judgment adopting the plan or ordering the liquidation.
Article L. 626-11 also states that natural persons who are guarantors may take advantage of the provisions of the safeguard plan. These protections are maintained and clarified by the Order.
An interesting innovation concerns the possibility for guarantors to declare any claims they may have even before they have paid. The new article L. 622-34 of the French Commercial Code allows co-obligors or guarantors to "declare their claims in order to safeguard their personal recourse". This provision closes a loophole in previous law, which could put guarantors in a tricky situation when they paid after the deadline for declaring claims had expired.
The special case of receivership: alignment with the safeguard system
The most significant innovation concerns receivership. Previously, under article L. 631-14 of the French Commercial Code, individual guarantors did not enjoy the same protection in the event of receivership as they did in the event of safeguard.
The Order abolishes this difference in treatment. From now on, guarantors who are natural persons will enjoy the same protection under receivership as under safeguard:
- Unenforceability of undeclared claims (article L. 622-26)
- Stopping the accrual of interest (article L. 622-28)
- Enforceability of the provisions of the plan (article L. 631-20)
This alignment of regimes is particularly favourable to guarantors, who are now protected regardless of the type of proceedings opened against the principal debtor (with the exception of judicial liquidation).
The effects of compulsory liquidation
The ordinance does not introduce any major changes with regard to judicial liquidation. In this case, guarantors do not benefit from the protections afforded in safeguard or reorganisation proceedings. The creditor can therefore pursue the guarantor as normal, without waiting for the procedure to be completed.
However, a new provision favourable to guarantors results from the amendment of article L. 642-12 of the French Commercial Code. In the context of a transfer plan, this article provides that the transferee is required to pay the creditor the agreed instalments outstanding on a loan that has financed a transferred asset. The Ordinance now specifies that, unless otherwise agreed, "the debtor shall be discharged from these instalments".
This provision, which may seem technical, has important consequences: if the debtor is discharged, so are his guarantors, at least in the case of sureties and other personal guarantors. This solution, which is favourable to guarantors, can nevertheless be overridden by an agreement to the contrary.
The new classification of secured creditors
The privileged place of the right of ownership and the right of retention
The new article L. 643-8 of the French Commercial Code establishes a complete ranking of creditors in the event of compulsory liquidation. The text begins by specifying that the distribution is carried out "without prejudice to the right of ownership or retention enforceable against the collective proceedings".
This introductory formula confirms the privileged position of these two mechanisms:
- Ownership rights (particularly in the context of a retention of title clause or a security trust)
- Right of retention (whether material or notional)
These two prerogatives give their holders a position 'outside the competition', enabling them to escape the law of the dividend. The owner can claim his property, while the holder cannot be forced to relinquish it without prior payment.
This primacy explains the growing success of security interests (retention of title, trust security) and mechanisms generating a right of retention (pledge with delivery, pledge of receivables).
The hierarchy of creditors with property security interests
Among the fifteen classes of creditors listed in article L. 643-8, creditors with property security occupy an important place:
- Ranked 6th are "claims secured by immovable property ranked in the order set out in the Civil Code".
This formulation refers to the classification established by the Civil Code for real estate securities, which places general real estate liens (legal costs, wage claims) in first place, followed by legal, judicial and contractual mortgages according to their registration rank.
The reform of the law on security interests has transformed special real estate liens into special legal mortgages, which are now included in this general classification, generally at the same level as they were under their former classification.
This consistency between the classification of the Civil Code and that of the Commercial Code is welcome. It enhances legal predictability for mortgagees.
Ranking of secured creditors
Secured creditors are divided into several ranks:
- In 12th place, receivables secured by tax liens
- Ranked 13th, receivables secured by a pledge, by the lessor's lien and by the vendor's lien on business assets
- In 14th place, other privileged tax and customs claims
This hierarchy confirms the relatively unfavourable position of creditors with traditional securities (pledge, non-possessory pledge) compared with mortgage creditors or holders of a right of ownership or retention.
It explains why creditors are increasingly seeking to structure their security interests in the form of ownership security or pledges with delivery, which offer them better protection in the event of insolvency proceedings.
The fate of unsecured creditors
Unsecured creditors are ranked 15th and last. They are paid "in proportion to their amount", which means that they share any remainder between them on a "marc le franc" basis.
In practice, these creditors have little chance of being paid in a compulsory liquidation, as senior creditors generally absorb all available assets.
This unfavourable position explains why it is so important for all creditors to have effective security in the event of insolvency proceedings, ideally a right of ownership, a right of retention or a mortgage.
Mechanisms to attract "new funding
The "new money privilege" strengthened
The ordinance significantly strengthens the "new money privilege", which is designed to encourage the financing of companies in difficulty. Article L. 622-17 of the French Commercial Code, in its new wording, now places:
- Ranked 2nd, "receivables resulting from a new cash injection granted to ensure the continuation of the business for the duration of the proceedings".
- In 3rd position, "receivables arising from the performance of contracts pursued in accordance with the provisions of article L. 622-13 and for which the co-contractor agrees to receive deferred payment".
These receivables, which rank very favourably, are paid in priority to almost all other receivables, including those secured by collateral.
This mechanism provides a strong incentive for creditors to support the company during the procedure, by granting new financing or agreeing to continue to perform current contracts despite the difficulties.
Incentives to support businesses in difficulty
In addition to the privilege of new money, the ordinance provides for other mechanisms to encourage support for companies in difficulty:
- Article L. 611-10-4 states that "the lapse or resolution of the amicable agreement does not render ineffective the clauses whose purpose is to organise its consequences", such as the securities granted to guarantee its performance.
- Under article L. 626-16-1, under a safeguard or reorganisation plan, a preferential right may be granted to creditors who agree to new financing at the close of the proceedings.
The aim of these provisions is to provide legal certainty for new contributions made to the company, whether as part of an amicable agreement or legal proceedings.
Protection for guarantors providing new financing
The order also includes specific measures to protect guarantors who provide new financing to a company in difficulty.
Article L. 626-26 of the French Commercial Code provides that persons who grant a personal or real security for the implementation of the safeguard or recovery plan benefit from the "new money" privilege for any recourse they may have.
This protection is important because it prevents the guarantor supporting the company from finding itself in an unfavourable situation if it is subsequently called upon as guarantor. The guarantor's claim against the debtor will then have preferential ranking, which is an incentive to provide support.
A new balance between the effectiveness of security interests and the protection of businesses
This far-reaching reform significantly improves the relationship between security law and insolvency law. It provides practitioners with welcome clarifications on a number of crucial points, notably the classification of creditors and the fate of guarantors.
Several trends emerge from these new provisions:
- Confirmation of the supremacy of the right of ownership and the right of retention, which remain the most effective mechanisms in the event of collective proceedings
- Harmonisation of the rules applicable to different types of guarantor, putting an end to disparities that were difficult to justify
- Reinforcing incentives to finance or support a company in difficulty, through various privilege mechanisms
- Clarification of the classification of secured creditors, promoting legal predictability
These changes do not radically upset the balance between creditors' rights and the objective of safeguarding businesses, but they do make significant adjustments that should make it easier to deal with companies in difficulty while preserving the effectiveness of the strongest securities.
Given the complexity of the relationship between security law and insolvency proceedings, personalised legal advice is essential for both creditors and guarantors. Our firm can help you analyse your rights and optimise your position within this new legal framework. Contact us for an in-depth consultation.
Sources
- Commercial Code, articles L. 622-17 to L. 643-8 (amended by Order no. 2021-1193 of 15 September 2021)
- Order no. 2021-1193 of 15 September 2021 amending Book VI of the Commercial Code
- Directive 2019/1023/EU of the European Parliament and of the Council of 20 June 2019 on preventive restructuring frameworks
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