When times were good in the UAE, specifically in Dubai, there was seldom any reason for an insolvency case. As a result of the lack of cases, it became widely believed that the UAE does not have an insolvency law and the general perception was that the systems that are in place are archaic in nature, where debts essentially lead debtors to jail.
The perception was wrong. Insolvency law does exist in the UAE and contrary to the above, it's actually quite sophisticated. This article discusses the UAE's insolvency provisions and how they work.
Federal Law No.18 of 1993 (the Commercial Transactions Law) contains 900 articles in total. Out of these, no less than 255 articles are dedicated to insolvency and bankruptcy procedures, meaning that almost a third of the Commercial Transactions Law covers insolvency. Not bad for a country "without" an insolvency law.
The insolvency provisions apply to both individual traders and commercial entities in the event that they stop paying their commercial debts (Articles 645 and 650).The articles are divided as follows:
- Articles 645 - 763 relate to insolvency
- Articles 764 - 799 relate to arrangement by the courts
- Article 800 relates to small insolvencies
- Articles 801 - 816 relate to company insolvency (although Article 801 specifically provides that all of the above articles are applicable to companies in addition to the articles in this section)
- Article 817 - 830 are related to the rehabilitation of the insolvent individual (traders and partners in partnerships)
- Articles 831 - 877 relate to voluntary arrangement
- Articles 878 - 900 relate to bankruptcy
As we can see, this is a relatively comprehensive law with specific procedures. Unfortunately, it remains largely untested with only two judgments published on the Dubai Courts' website as follows:
Dubai Supreme Court Judgment dated 9 September 2008
Provides that a single unpaid commercial debt is enough to provoke the insolvency of a company
Dubai Court of Appeal Judgment dated 25 May 1998
An older, more interesting, judgment in which the court ruled that insolvency provisions and procedures are in the public interest as they are intended to promote confidence. They were put in place to protect creditors and safeguard debtors in good faith.
The 1998 ruling above defines the main objective of the insolvency law in the UAE. The rest of this article looks at the key provisions of the law in further detail.
BANKRUPTCY
In the event of bankruptcy (whether fraudulent, negligent or gross negligent), the Criminal Court is the competent authority and can sentence bankrupt individual traders, company managers, board members or liquidators, to a prison term not exceeding five years in the case of fraudulent bankruptcy (Articles 878 and 879). Gross negligent bankruptcy carries a fine of AED20,000 (Article 880) and a prison sentence not exceeding two years. Negligent bankruptcy (Article 881) carries a fine of AED10,000.
In addition to the above, Federal Law No. 3 of 1987 (the Criminal Code) contains provisions relating to bankruptcy (Articles 417 - 422). Articles 417 - 419 of the Criminal Code are very similar to Articles 878 - 881 of the Commercial Transactions Law, while Article 420 provides:
"If a commercial company is bankrupt, its board of directors and managers shall be convicted with the sentencing related to fraudulent bankruptcy if it is proven that they have committed any of the acts set out in Article 417 of the Code or assisted in the company ceasing payment, whether by declaring wrongful facts about its subscribed capital or its paid-up capital, or by publishing wrongful balance sheets or by distributing fictitious dividends, or by taking for themselves more than they are entitled to in the company articles of association."
The article does not apply to any member of the board of directors or managers who prove that they were not involved. It can be assumed therefore, that a shareholder in an insolvent company that was not involved in its management may never be considered bankrupt. The board of directors or managers of a company that never committed any of the actions mentioned above shall also never be considered as bankrupt.
INSOLVENCY
Insolvency is covered by Articles 645 - 763, 800 and 801 - 816.
Company insolvency
Article 802 provides for the declaration of insolvency of a commercial company when it ceases payment of its commercial debts, due to the disruption of its financial activities.
Article 806 is very interesting, since it entitles the court, de facto, or on the request of the company to postpone the declaration of insolvency for a period not exceeding one year, if its financial position is likely to improve or if the interest of the national economy so requires. The court can order that appropriate measures should be taken for maintaining the assets of the company.
This article is additional to the provisions relating to arrangements which are discussed later, and which give companies a grace period during which they can arrange themselves before being declared insolvent.
Article 809 provides that if the assets of a company are insufficient to satisfy at least 20% of its debts, the court declaring the insolvency may order the members of the board of directors, or some or all of the managers, jointly or individually, to pay the debts of the company, in whole or in part, under circumstances where they are held responsible in accordance with the provisions of the Commercial Companies Law (CCL).
Articles in the CCL provide for the liability of the chairman and members of the board of directors towards the company and its shareholders for all acts of fraud and abuse of power, and for any violation of the CCL or the Articles of Association. It also provides for management violations and stipulates that any provisions to the contrary shall be annulled (Article 111 of the CCL).
Liability referenced in Article 809 shall be borne by every board member if the violation arose as a result of a unanimous decision. If the resolution was approved by the majority, the opponents to the resolution would be absolved from liability if they can prove their opposition to the resolution in the minutes of the meeting. An absentee may still be liable unless they can prove they were unaware of the resolution or were aware of it but were unable to object to it (Article 112 of the CCL).
Article 237 of the CCL provides that the liability of a manager of a limited liability company is similar to that of the board members set out above and that any stipulation to the contrary shall be annulled.
Procedure
Insolvency is declared at the request of the company or at the request of one of its creditors. The court may also declare insolvency on the request of the public prosecution or ipso facto (Article 647).
The company may request for insolvency if its financial activities are disrupted and it has ceased paying its debts. A request for insolvency is mandatory after 30 days of non-payment of debts as, otherwise, this would be considered negligent bankruptcy (Article 648).
A company's request for bankruptcy should be submitted with a report explaining the reasons it cannot pay its debts, to which should be attached several documents, including the accounting books, the last audited financial statements, the profit and loss account, a detailed statement of movable and immovable assets, a statement of the names of the creditors and debtors, their address, their rights and obligations and security (Article 648).
In its insolvency judgment the court shall determine a provisional date for the cessation of payment and shall seal the debtors premises and appoint a trustee (Article 655).
In all situations, the date of cessation of payment may not be deferred back more than two years prior to the date of the insolvency judgment (Article 659).
In the insolvency judgment or in a subsequent judgment, the court shall appoint an Insolvency Trustee to manage the insolvency(Article 668).
The judgment will be published in the Trade Register and on the court's board for 30 days. The trustee must post a notice of the judgment in the local newspaper including the details of the insolvent company, requesting creditors to come forward with their claims.
The judgment must also be published in the name of the Assembly of Creditors at the Land Register within 30 days of the issuance of the judgment (Article 661). The insolvent entity is then prohibited from managing its assets or disposing of them (Article 685).
Article 691 provides that any lawsuit resulting from the insolvency or taken against the insolvent entity will be prohibited and that any activities undertaken by the insolvent entity that are detrimental to the Assembly of Creditors may be cancelled if the counterparty is aware of the cessation of payment of the insolvent entity (Article 697).
An Assembly of Creditors shall be created by law on the issuance of the insolvency judgment and will be composed of the insolvent entity's creditors. Any holder of secured debts (such as mortgages) or special privilege will not be part of the assembly of creditors (Article 703) because secured creditors are permitted to sue the insolvent entity and have preferential rights over the attached assets.
Competent court
The Court of first Instance is the court that will oversee the insolvency in whichever jurisdiction the headquarters of the insolvent company are located (Article 653).
It is possible, however, under Article 747 for the insolvency judge to allow the trustee to agree for the matter to be settled by way of arbitration if the insolvent party and the representative of the association of creditors are heard by the judge and agree to this, even if it is in relation to rights in rem (Article 678).
This may mean that arbitration clauses in agreements executed before the commencement of insolvency procedures may still be valid. By providing this clause, the UAE legislation is actually quite innovative as it brings arbitration into a matter that relates to public order.
ARRANGEMENT BY THE COURT AND VOLUNTARY ARRANGEMENT
Arrangement by the court
This procedure involves the insolvency judge inviting the creditors to deliberate on the arrangement (Article 764). The creditors can attend personally or may be represented by an attorney. The insolvent party must, however, be represented in person (Article 765) and normally in the case of a company, this would be the authorised signatory (i.e. the manager of an LLC or the chairman of the board or CEO in a joint-stock company).
The insolvency trustee must submit a report at the meeting relating to the insolvency procedure and their opinion on the arrangement. The insolvent entity shall also be heard (Article 766).
The arrangement will not be approved unless a majority of creditors, holding two thirds of the debts, agrees. Any creditor not attending the meeting shall be considered as dissenting to the arrangement (Article 767).
Secured creditors, as they are not a part of the Assembly of Creditors. are not entitled to vote on the arrangement, unless they waive their privileges (Article 769). No arrangement is possible in the event of fraudulent bankruptcy (Article 771), however, it is possible in the event of negligent bankruptcy (Article 772). The arrangement may involve delays for the insolvent party to pay its debts or a waiver by the creditors of some parts of the debt (Article 773).
The arrangement is not applicable to ordinary creditors where debts have arisen during the insolvency procedure (Article 775).
The arrangement shall remove all effects of the insolvency, without prejudice to any criminal pursuit and the debtor shall be reinstated with their belongings and effects (Article 777).
It is arguable that this is a deficiency in the UAE insolvency law, which fails to give enough power to the judicial authority in its ability to support a company's survival once its failed or corrupt management have been dealt with. Since, with the exception of criminal pursuits, the insolvency will de facto lead to the insolvency of the company, with no provision entitling the judicial authority to replace the former management of the company to protect its staff. The arrangement will be dissolved if, after its ratification, the insolvent party is charged with the crime of fraudulent bankruptcy (Article 778).
Voluntary arrangement
46 articles (Articles 831 - 877) relate to voluntary arrangement by the company, with the assistance of a trustee appointed by the court (Articles 843 and 844). The trustee's role in this procedure is only as formal as set out in Articles 844 and 852, and the trustee is not permitted to intervene in the management of the company.
Voluntary arrangement may be initiated before or after the launch of insolvency proceedings.
These Articles are progressive and protect the company, provided that the company submits a comprehensive plan evidencing means to continue operations and secure payment of at least 50% of its debt within a three year period.
Voluntary arrangement applies to both secured and unsecured creditors. The secured creditors are bound by the voluntary arrangement and are not at liberty to pursue individual lawsuits.
However, as pointed out above, where there is arrangement by the court, very little is provided for in relation to the management and operation of the company during the voluntary arrangement period. Nothing is provided for in relation to the fate of the management of the company, since Article 846 of the law states that the debtor shall continue to manage its assets and shall carry on business as usual.
In this sense, it is possible that UAE insolvency law is not as sophisticated as some other modern insolvency laws which make a distinction between failed management and the survival of a company, with the protection of its staff in mind. In modern legislation, if a company is able to survive, it should be allowed to do so under new management. In this sense the UAE insolvency law needs improvement.
CONCLUSION
The UAE has a comprehensive insolvency law, which has unfortunately gone unnoticed by many legal experts, since they ask for its amendment without even having read it.
The main challenge in the application of UAE insolvency law concerns security asked by creditors and post-dated cheques, which if not honored, constitute a crime with a jail sentence.
This results in creditors, instead of having recourse to normal insolvency procedures, resorting to a speedier process, that of filing a criminal complaint for a dishonored cheque, thus ensuring the company does not survive.
It is arguable that decriminalising the cheque is a necessary step in the further modernisation of the UAE's insolvency law. This form of security can easily be replaced by other forms of security. A credit bureau is now in operation in the UAE, and this may be a positive step towards decriminalising the cheque and towards better applying the insolvency law.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
