With up to 6 governments defaulting on their bonds this year, sovereign debt restructuring is topical. In this context so-called ‘vulture funds’ may be targeted by legislation capping the gains that they can obtain from litigation. However, the Belgian example shows that a strong ethical conviction does not necessarily result in coherent legislation and legal certainty.
G20 Riadh Declaration: problem with private creditors
In the Riadh Declaration (22 November 2020), the G20 leaders confirmed their commitment to implementing the Debts Service Suspension Initiative, which offers the temporary suspension of official bilateral debt payments to 73 countries. The leaders also noted a lack of participation by private creditors and strongly encouraged the latter to participate on comparable terms.
On the occasion of the Riadh summit, The Economist called for “tougher legislation to curb awkward private creditors”, which means targeting vulture funds.
Vulture funds can cause havoc
A vulture fund is a private investor in distressed (sovereign) debt that buys such debt at a discounted price on a secondary market and then uses litigation to gain an amount larger than the purchasing price of that debt.
Such vultures can erode the gains from sovereign debt relief and restructuring, and are therefore often resented.
Belgium as a pioneer: the 2015 Act
Belgium was one of the first States taking measures against vulture funds’ activities. In 2007, a first half-hearted attempt resulted in protection for assets earmarked for international cooperation. These assets were declared unattachable and unassignable.
Then, under the Act of 12 July 2015, the Belgian legislator further attempted to curb vulture funds’ activities. The Act applies to “creditors who pursue an improper advantage by acquiring a loan or a debt from a State”. Such creditors will not be able to obtain an exequatur or proceed to any enforcement measures in Belgium if debt recovery were to result in an improper advantage. The creditor’s rights are limited to the price actually paid for the loan or debt.
There is an ‘improper advantage’ if two criteria are met.
First, an apparent imbalance must exist between, on the one hand, the price at which the loan or debt was acquired and, on the other hand, the nominal value of this loan or debt or the amount claimed.
Second, besides the existence of an ‘apparent imbalance’, at least one of the following 6 criteria must be met:
- the debtor State was in proven or imminent insolvency or cessation of payments at the moment of the acquisition of the loan or debt;
- the creditor’s registered office is located in a country that is considered to be a ‘tax haven’;
- the creditor systematically uses court proceedings to claim payment of the (debts or) loans it has acquired;
- measures regarding debt restructuring were developed for the debtor State, to which the creditor has refused to contribute;
- the creditor has abused the weakened position of the debtor State to obtain, through negotiations, a clearly unbalanced repayment agreement;
- the full repayment of the amounts claimed by the creditor would have a provable adverse effect on the debtor State’s public finances and could endanger the socio-economic development of its population.
The terms of the Act are broad and imprecise. Even though the preparatory works expressly indicate that “ordinary” creditors were not targeted, it is very difficult to assess the scope of the Act in practice. There is currently no case law available clarifying this situation.
Years of default often result in a significant and legitimate claim for interest and costs. However, the Belgian legislator did not provide a benchmark for determining the existence of an apparent imbalance and so left it to the courts’ discretion.
The identification of vulture funds on the basis of one of the 6 criteria is not coherent and is imprecise. For example, it seems that a creditor could be considered a vulture fund just because it is located in a certain jurisdiction.
Lessons to be learned from Belgium
The Act’s poor drafting has given rise to legal controversy and uncertainty. When taking measures against vulture funds, one should clearly define them and avoid collateral damage to other creditors. Clearly, a feeling of strong resentment is not sufficient to create legal certainty and sound legislation.