Overview of UAE’s New Financial Restructuring and Bankruptcy Legislation

On 31 October 2023, Federal Law Decree No. (51) of 2023 concerning Financial Restructuring and Bankruptcy (referred to as “New Law“) was published in the UAE Federal Gazette.  The New Law will become effective from 1 May 2024.  The New Law repeals Federal Decree-Law No. 9 of 2016 on Bankruptcy. However, all regulations and decisions that were issued to implement the Old Law will continue to apply until they are replaced by regulations necessary to implement the provisions of the New Law.

In this client alert, we will provide an in-depth overview of the significant changes introduced by the New Law and highlight the key features that will impact bankruptcy in the UAE. A detailed analysis of the New Law will be published in our upcoming Law Update.

KEY CHANGE – Replacement of Preventive Composition Tool

Bankruptcy Preventive Composition, a mechanism under the Old Law, that became redundant due to its strict conditions, has been replaced by a more user-friendly mechanism described in the New Law as “Preventive Settlement”. This is a positive change and will certainly be welcomed by the legal community and local businesses. The Preventive Settlement mechanism is Court supervised and focuses on procedures initiated by the debtor to continue commercial activities and meet debts through an approved settlement proposal with the creditors. This new regime allows the debtor to manage the business and assets normally while exploring the settlement terms with creditors, and without the appointment of a trustee. The debtor may also benefit from a moratorium period of 3 to 6 months from the date of accepting the petition to initiate the proceedings. We note that the other restructuring and liquidation routes under the Old Law have been retained.

Updated Definitions

The updated definitions in the New Law expand and clarify key concepts. The new concepts and definitions are a welcome change. For example, some of the new or amended definitions include “related parties”, the “debtor’s assets”, the “bankruptcy register”, “bankruptcy unit” “cessation of payment” amongst many others.

The definition of “Debtor’s Assets” is broader and now includes all movable and immovable properties owned by the debtor, both domestically and internationally.

Appointing Experts

The Court may decide to retain the services of experts and auditors to be part of the Bankruptcy Court. The selection of experts and auditors shall be made by the competent judiciary. Their fees will be determined by the competent judiciary. Another welcome change is that the fees for the experts and the auditors shall be paid from the budget of the competent judiciary, which suggests that they will be working alongside the Bankruptcy Court and the Bankruptcy Unit. The Bankruptcy Unit (which will be discussed in more detail below) was introduced by the New Law to support the court.

Bankruptcy Court Decisions

Article 8 of the New Law stipulates that Bankruptcy Court decisions shall be deemed a writ of execution and immediately enforceable.

However, the execution of these decisions can only be suspended if the Bankruptcy Court chooses to reverse its own decision or suspend it on its own motion, or upon the request of the debtor, creditor, trustee, or other interested parties. Additionally, the Court of Appeal may also decide to suspend the enforcement of the decision.

This provision emphasises the immediate and binding nature of the Bankruptcy Court’s decisions, while allowing for judicial discretion and flexibility in their enforcement. It also highlights the potential for intervention by relevant stakeholders and the appellate process in the context of bankruptcy rulings.

Introducing the Bankruptcy Unit and Retaining the Financial Restructuring Committee

The New Law introduces a specialised division within the Courts, which is overseen by a senior Court of Appeal judge, dedicated to managing and overseeing bankruptcy and restructuring cases to support the Bankruptcy Court (“Bankruptcy Unit”). This initiative is a significant step towards enhancing the resolution of such proceedings.  The Bankruptcy Unit shall be responsible for, processing requests under the law, notifying parties of court decisions, and ensuring compliance with the required information and documentation before presenting it to the Bankruptcy Court. Additionally, it oversees the debtor’s management of the business during the proceedings, facilitates creditors’ meetings, and summons relevant parties for inquiries, along with other duties assigned by judicial authorities or stipulated by law.

The New Law retained the Financial Restructuring Committee (“FRC”). This Committee plays an important role under the Bankruptcy law.

The New Law expanded the mandate of the FRC in relation to various aspects of the bankruptcy process, including overseeing the online platform for the Bankruptcy Register that will be established under the New Law, endorsing the list of trustees and experts, overseeing the training of judges and experts, and assisting the Bankruptcy Court in setting the range of fees for trustees.

However, under the Old Law the FRC had jurisdiction to oversee and supervise the administration of the financial restructuring of establishments licensed by the Competent Regulatory Authorities (previously only regulated financial institutions, but the reference to ‘financial’ was later on deleted from the Old Law), to facilitate reaching an amicable agreement between the debtor and its creditors, with the assistance of one or more expert(s).

Under the New Law, the jurisdiction of the FRC has changed to limit its involvement to providing assistance to the Bankruptcy Court in relation to bankruptcy and restructuring proceedings by and against Regulated companies and financial institutions.

Debtor’s obligation to initiate proceedings is no longer mandatory

Under the New Law, it is no longer mandatory for debtors to initiate bankruptcy proceedings if the conditions under the law are met. This change is likely to elicit mixed reactions within the legal community. We will issue our detailed analysis on this topic shortly.

Moratorium

In addition to the moratorium set out above with respect to preventive settlement proceedings, any judicial and execution proceedings commenced by creditors against the debtor in relation to the debtor’s assets and liabilities, will be stayed following a decision to commence restructuring proceedings, until the ratification of the restructuring plan or the issuance of a decision ending the proceedings, without any restriction on the moratorium period and its extension, unlike the Old Law were the moratorium period was not supposed to exceed 10 months (subject to renewal of up to 4 months). The current position under the New Law is now aligned with court practice, whereby we have seen the courts extending the moratorium period beyond the limit prescribed under the Old Law in various instances. However, the New Law excludes labour and personal status claims (excluding succession related claims) from the moratorium. This is a positive development under the New Law whereby the Bankruptcy Estate is protected during the proceedings, while not impeding claims such as labour, divorce or child custody.

The New Law also prohibits filing new claims against the debtor following a decision to initiate its bankruptcy proceedings, excluding certain specific claims set out under the New Law. Such prohibition remains applicable following the declaration of bankruptcy. Creditors have the right to commence individual action following the closing of the bankruptcy.

Security enforcement through the Bankruptcy Court

Contrary to the Old Law, the New Law affords secured creditors the right to enforce against secured assets through the Bankruptcy Court and appointed trustee during bankruptcy proceedings, without commencing separate enforcement proceedings.

De facto Companies

Article 20 of the New Law introduced the concept of de facto companies’ bankruptcy. Pursuant to this article, the partners of a de facto company will be treated in the same manner as partners in  partnership companies (joint liability) under Article 244 of the New Law.

The Liability of Board of Directors, Managers (including De Facto) and Fault-Based Accountability

The New Law brings about notable changes to the accountability of board of directors, managers, and liquidators in the event of bankruptcy.

Under the Old Law, these individuals could be held financially accountable for certain actions taken two years prior to the initiation of bankruptcy proceedings. These actions include engaging in uncalculated business risks, entering into undervalued transactions, and favouring certain creditors to the detriment of others. However, such individuals can be exempt from responsibility if they can prove that they took all measures to minimize potential losses to the debtor and creditors, or if they were not involved in the specified actions.

The New Law enhances these provisions. It extends the potential liability to de facto managers and any person responsible for the actual management of the company (this may include controlling shareholders). This is another positive change that the legal community welcomes.

The New Law specifies that the amount that may be awarded against the directors or the de facto manager should correspond to their level of fault. It maintains the two-year period for considering actions leading to bankruptcy, but also sets out 4 scenarios to trigger their liability, one of which is if the creditor proves that the company’s assets are insufficient to cover at least 20% of its debts, directors and managers could be held liable to repay the debt if is evident that they were negligent in managing the company that led to its financial distress.

Moreover, the New Law provides a two-year limitation period from the date of the bankruptcy declaration in order to initiate liability proceedings against these individuals. Also, individuals are exempt from liability if they can prove they took all standard measures or had documented objections to the actions in question.

These changes reflect a more streamlined approach to holding company leadership accountable in bankruptcy cases. The law now considers the degree of fault and the impact of management decisions on the company’s financial health. This update is expected to encourage more responsible business practices and decision-making among company leaders, recognizing their crucial role in maintaining financial stability and safeguarding creditors’ interests.

Lifting Security

Articles (66) and (108) of the New Law (covering both Preventive Settlement or Restructuring regimes) introduced the possibility of unifying, establishing, dissolving, selling, or replacing any security if necessary to implement the preventive settlement or the restructuring plan, provided that the secured creditor agrees.

This is another positive development under the New Law, and while it allows the debtors to explore the option of lifting certain security, it also maintains the right of the secured creditor to agree on such proposition before lifting the security.

Claw Back

The New Law introduces a new approach with regards to the court’s power to declare debtor transactions non-enforceable against creditors whereby it focuses on a potentially wider timeframe for examining debtor transactions in the context of bankruptcy. While the Old Law considered transactions within a two-year period before the initiation of the proceedings, the New Law primarily targets a six-month window preceding the date of cessation of payment, which in turn may extend up to two years preceding the date of the decision initiating the proceedings. The New Law also crucially extends this examination to two years preceding the date of cessation of payment (i.e., for a period of up to four years preceding the date of the decision initiating the proceedings) for transactions involving insiders or related parties, reflecting a heightened vigilance against potentially prejudicial insider dealings.

Furthermore, the New Law introduces “commercial considerations” as a valid justification for certain transactions, indicating a more flexible and business-oriented perspective. This addition suggests that transactions made in the normal course of business, even if they fall within the examined period, may be defended under this new criterion. The law also continues to empower bankruptcy courts with discretion, particularly in declaring transactions non-enforceable if they are detrimental to creditors.

Blanket Prohibition on Debtor actions post-initiation of Bankruptcy Proceedings

The New Law significantly revises the constraints on debtor actions post-initiation of bankruptcy proceedings. Unlike the Old Law, which broadly restricted debt repayment and asset disposal, the New Law simplifies these restrictions. It initially prohibits debtors from settling any debts after bankruptcy proceedings commence. However, it introduces practical exceptions, allowing for the payment of debts related to workers’ rights, suppliers of essential business materials, and necessary living expenses for the debtor and their family, subject to bankruptcy court’s approval. This update represents a more balanced approach, recognizing the need to maintain critical business operations and personal welfare during bankruptcy. It is a crucial change for clients in financial distress, allowing for operational continuity and personal sustenance amidst bankruptcy proceedings.

Set-off

Similar to the Old Law, the New Law prohibits setting-off debts that arise following the commencement of the proceedings, unless the set-off is based on the execution of the preventive settlement proposal, restructuring plan or Bankruptcy Court’s decision (based on the trustee or creditor’s request).

However, unlike the Old Law, the New Law refers to the provisions of Federal Decree Law No. 10 of 2018 on Netting. We will shed more light on the impact of the set-off changes under the New Law for the set-off to be valid and effective in our detailed article on the subject.

Post-bankruptcy settlement

The New Law also added detailed provisions on the post-bankruptcy settlement that may be concluded between the debtor and creditor(s) after the declaration of bankruptcy via a final judgment.

Conclusion

In summary, the recent changes to the UAE’s bankruptcy law, as detailed in Federal Law Decree No. (51) of 2023, are a positive step to enhancing bankruptcy proceedings in the UAE.  These amendments, ranging from enhanced judicial discretion in bankruptcy courts to an extended prohibition on debtor actions post-initiation of bankruptcy proceedings, indicate a shift towards a more balanced and business-friendly approach. These reforms are not only fundamental in refining the bankruptcy process but also in supporting the economic stability and resilience of businesses and individuals in challenging financial situations.

A more detailed analysis will be published in our next Law Update.

How can we help?

If you have any questions regarding the New Bankruptcy Law and its implication on your business, please do not hesitate to contact us. We will shortly announce details of our upcoming event on these recent developments, if you are interested in attending, please register your details here.