A short study about crowdfunding by dr. Balázs FERENCZY, the Head of our Banking & Finance Team

In the early stages of the lifecycle of modern, mostly technology companies, there is no final product, no organization, no go-to-market strategy, no sales; there is only one idea, and from the scarce resources temporarily provided by families or friends, to business angels (angel investors) or venture capital and, in the more mature stage, bank and institutional financing has somehow to be achieved and reached.[1] In essence, this coercion gave birth to community funding, better known as crowdfunding.[2]

With crowdfunding, fund-seeking bidders have the opportunity in case of exiting from the stage of 3F to gather funds from a large number of previously unidentified potential investors for the financing of the start-up phase of their business. The operator of the platform is separated from the group of those seeking and offering resources, and provides its services as an independent revenue-generating activity.

Among the main business models for crowdfunding developed until now the reward-based crowdfunding (Kickstarter and Indiegogo, USA), donation-based crowdfunding (Crowdrise, GlobalGiving, USA), interpersonal lending (Lending Club, Prosper), equity-based funding (CrowdCube, or Seedrs, UK) or profit-sharing/revenue sharing solutions shall be mentioned. [3]

In order to determine the legal framework for crowdfunding, some countries began to create their own regulations at national level, while others, on the grounds that it falls within the scope of the already existing regime determining the conditions on providing financial activities, have not regulated the activity at all or they regulated it to a minimal extent, only.

The EU’s draft regulation on crowdfunding fits into this line (the “Draft“)[4], which has been preceded by lengthy preparatory work and multiple consultations with market participants. The Draft has been prepared in the form of a regulation, so that once it enters into force it will be applicable in all Member States without any further legislation.

  1. Background
  • The initiative is part of the so-called Capital Market Union (CMU), which aims to broaden access to finance for innovative companies, start-ups and other unlisted firms, which is – due to structural and information asymmetries prior to the expansion of targeted business – still in difficulty. Financing through predominantly short-term bank loans is expensive, coupled with the fact that the SME and start-up sectors, which were particularly affected by the 2008 crisis, are still struggling to return to pre-crisis financing levels: this leads to a lack of capital, which is a key factor in start-ups’ failure. According to the explanatory memorandum of the Draft, these conditions are even more pronounced in the Member States with less developed banking systems and capital markets. EU regulators see crowdfunding as one of the possible solution for the above highlighted situation, also supported by the technology sector. The structure, in the form already outlined above, aims to provide an opportunity for companies seeking capital/funding and their potential investors to find each other effectively, as projects can be identified through a given platform and can be better assessed by financiers according to their own investment criteria.
  • According to the regulator, crowdfunding has clearly defined itself as one of the most important financial escalators for start-ups in the recent past, as it has proven its ability to fill up the gap between the birth of ideas and the first round investment period provided by business angels („angel investors”)/venture capitals, which is the most important but also the most vulnerable stage of these companies. According to the authors of the Draft, crowdfunding could therefore become an important alternative to financing through unsecured bank lending, which has so far been the only source for financing/funding, resulting in economic growth and new jobs.
  • When the legislators began to create the concept, the EU had no idea about regulation. Numerous stakeholder consultations and expert studies since then have shown that Member States’ regulations on crowdfunding differ significantly due to different business constructions and approaches related thereto: while some Member States apply their current (EU and national-wide) legislation on financial services, others allow crowdfunding providers to be exempted under specific provisions for their business model. At the same time, a large number of Member States have established rules specifically for crowdfunding that service providers must apply when carrying out given activity. However, making crowdfunding, as a technology-based matchmaking platform that allows bidders and investors to match each other, depending on geographical location is not at all in line with the industry’s typically cross-border standards. In addition, the linking of the activity to the legal system of the given country(ies) resulted in market concentrations, which also hindered the possibilities of economies of scale.
  • The Draft seeks to enable cross-border operation of crowdfunding structures for investment/profit-sharing and financing purposes in the single EU market. Its explicit objectives include the proportionate management of risk factors and the promotion of the growth of the internal market for community financial services, thus improving access to alternative sources for start-ups, and the SME sector in general. Reward or grant-based crowdfunding is not included in the scope of the Draft: according to the regulator, these business models are not based on financial products and do not address the information asymmetries arising from such products, therefore they would have an undesirable, disproportionate effect. In addition, EU consumer protection rules (eg.: the Consumer Credit Directive and the Mortgage Credit Directive) must be applied to reward-based crowdfunding activities anyway, with strict provisions on consumer safety.
  1. Some important provisions
  • The regulation aims to create uniform set of rules for crowdfunding at EU level. It does not replace or repeal the rules already adopted by a Member State for this activity. According to the solution proposed by the Draft, the crowdfunding service provider may choose to (i) apply for an authorization from ESMA (see below) under the rules of the Draft, or (ii) to provide its service under the applicable national regulations, (or continue it including cases where related Member State orders the application of MIFID II rules to this activity).
  • In the case of an authorization at EU level, the authorization also covers the provision of services on the basis of the single passporting rule in a given Member State or as a cross-border service in all EU Member States. If the service provider decides to apply EU-level rules, the authorization issued under the relevant Member State regulation will be revoked.
  • In addition to the subject of the regulation, Article 1 of the Draft sets out uniform provisions for the operation, organization, licensing/authorisation and continuous supervision of crowdfunding service providers. Article 2 sets forth that the Regulation shall apply to service providers only who chose to seek authorisation in accordance with Article 10 and 11. Activities are also defined here to that the Regulation shall not apply, such as (i) crowdfunding services that are provided to consumers, as defined in Article 3(a) of Directive 2008/48/EC, (ii) crowdfunding services provided by investment firms as legal persons in accordance with Article 7 of Directive 2014/65/EU and (iii) crowdfunding services that are provided by natural or legal persons in accordance with the already approved national law. It also follows from this rule, that all persons who hold authorization issued under the Regulation will lose their license if they no longer wish to pursue their activities within the scope of the Regulation. Persons carrying out investment-based cross-border crowdfunding activities will have to apply for authorization under Directive 2014/65/EU, while their authorization to provide services under the Regulation will have to be revoked.
  • Article 3 of the Regulation provides for the definitions used in the scope of the Regulation, such as “crowdfunding services“, “crowdfunding platform“, “ crowdfunding service provider“, “ crowdfunding offer“, (etc.). Important: the Regulation will empower the Commission, in its regulatory capacity, to adopt delegated acts to add further technical elements to the definitions set out in Article 3 taking into account market as well as technological developments, and experience.
  • Chapter II sets forth the provision of crowdfunding services (Article 4), effective and prudent management (Article 5) and complaints handling (Article 6). Under these rules, crowdfunding service providers must in all circumstances comply with the organizational requirements imposed on them, while natural persons having the power to manage a crowdfunding service provider must have the appropriate professional experience and skill to carry out their activity.
  • In order to eliminate conflicts of interest (Article 7), crowdfunding service providers, by maintaining and operating effective organizational and administrative arrangements, shall take all reasonable steps to avoid that potential conflicts of interest adversely affect the interests of their clients. The service providers are also required to take all necessary steps to identify and prevent conflicts of interest within the organization, including potential conflicts between managers and employees and the persons linked to them by way of exercising control, as well as between customers, in the course of providing services. The rules on outsourcing and safekeeping of clients’ assets are set out in Articles 8 and 9.
  • Chapter III. sets forth the rules for authorization and ongoing supervision. The European Securities and Markets Authority (ESMA) is the supervisory body for crowdfunding service providers in the EU. In particular, Article 10 sets out the obligation related to the authorization of crowdfunding service providers and the conditions for obtaining authorization issued by ESMA. The Article also sets forth the procedure for obtaining the authorization and the cases in which an application may be rejected. Pursuant to Article 11, ESMA shall establish a register of all crowdfunding service providers which shall be updated on a regular basis. Article 12 provides for ongoing supervision of the conduct of the activity by ESMA, while Article 13 sets out the conditions for the withdrawal of an authorisation. ESMA’s additional supervisory powers and competencies are set out in Chapter VI. in detail.
  • Chapter IV. contains provisions on investor protection as well as transparency. For the purposes of Article 14, all information, including marketing communications, from crowdfunding service providers to potential investors and offerors, shall be clear, complete and correct. Article 15 contains, as an important rule, provisions for the prior assessment of the ability of potential customers to bear loss. According to them, the platform is obliged to provide investors with the possibility to simulate their ability to bear loss. Article 16 contains detailed rules in this regard and makes the use of the so-called Key Investment Information Sheet (KIIS) mandatory. Articles 17 and 18 set forth rules on the so called bulletin board and the right of investors to access internal records.
  • Crowdfunding, like any other financial service, can provide space for money laundering and terrorist financing activities. The Regulation therefore provides for appropriate safeguards to prevent and minimize the possibility of such activities. These include, inter alia, the requirement in Article 9 that transfers related to crowdfunding transactions, whether carried out by the platform providers themselves or by third parties, shall be made exclusively through payment service providers authorized under the Payment Service Directive (PSD), as a result of which these transactions fall under the scope of the 4th Anti-Money Laundering Directive (4th AMLD). Crowdfunding service providers are also required to ensure that project owners can accept funding offers or any other payments only through payment service providers authorized under the PSD. Article 10 lays down additional rules on the criminal record of the management in relation to good reputation and anti-money laundering legislation. Article 38 provides that, in order to further reduce the risks related to money laundering and terrorist financing, the Commission shall assess the need for and the extent of involving crowdfunding service providers under the scope of legislations implementing Directive 2015/849 (EU) into the national legislation of each Member State and providing rules on anti-money laundering and terrorist financing, including the definition of such service providers as obliged entities under the Directive.
  1. Domestic panorama
  • The National Bank of Hungary (NBH) issued a number of resolutions on crowdfunding in 2015 and 2016, taking into account EBA’s opinion on lending-type crowdfunding published in February 2015. In the NBH’s view, the various versions of crowdfunding are very similar to the currently regulated financial activities. In the case of crowdfunding, the funding of private and legal persons, the transfer of money and the investment of money may correspond to the activities regulated by the Credit Institutions Act, the Act on investment firms and commodity exchange service providers and on activities they may execute, as well as the Act on collective investment schemes, which can only be pursued with the permission of the central bank or on the basis of a notification. In addition, on 25 October 2019, the MNB’s own fintech strategy was published (https://www.mnb.hu/letoltes/mnb-fintech-strategia-final.pdf), in which the supervision, in view of the fact that the worldwide growing alternative financing solutions are not regulated in Hungary, – proposes the creation of a specific regulatory framework for crowdfunding.
  • Hungary’s Fintech Strategy (https://digitalisjoletprogram.hu/hu/tartalom/magyarorszag-fintech-strategiaja) also treats the development of domestic regulations on crowdfunding as a priority goal. We agree with the statement published in the article „Crowdfunding, or how could Hungarian start-ups get funds in an innovative way?” of Péter Fáykiss – Dr. Ágnes Hajzer – Benjámin Nagy (the authors are employees of the National Bank of Hungary) according to which the creation of a legal framework for crowdfunding at national level would make a significant contribution to supporting the funding of the SME sector and facilitating access to finance for FinTech companies, and to strengthening investor confidence in alternative forms of financing.
  • The Regulation is expected to enter into force in Q4 2021, Q1 2022, and it would be worth for Hungary to consider joining the leading group until then. The statistics from France might serve as good example for the growth of this market: while in 2011 these type of sources amounted up to 7,9M EUR only, in 2015 this figure was already 169M EUR, and in 2019 it reached 1,4Bln EUR. Based on these figures it is obvious, that a licensed crowdfunding site, which functions well since years, intending to step under the scope of the Regulation in order to operate on the EU level for economies of scale purposes holds mile advantage compared to those who are in their wings trial and error phase. A local Hungarian crowdfunding legislation could therefore become an important station in the journey to join the EU crowdfunding market.

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[1]Source: Péter Fáykiss – Dr. Ágnes Hajzer – Benjámin Nagy (the authors are experts of the National Bank of Hungary): Crowdfunding, or how could Hungarian start-ups get funds in an innovative way?

[2] Figure: The New Ways to Raise Capital: An Exploratory Study of Crowdfunding by Matteo Rossi (DEMM Department, University of Sannio, Benevento, Italy)(International Journal of Financial Research Vol. 5. No. 2; 2014)

[3]Source: Dr. Andrea Szikora (Regulatory expert of the National Bank of Hungary): Development of financial technology and Crowdfunding (National Bank of Hungary)

[4] https://eur-lex.europa.eu/legal-content/HU/TXT/HTML/?uri=CELEX:52018PC0113&from=HU

The pandemic may accelerate the spread of electronic procedures in Hungary

dr. Dániel Endre NAGY

The pandemic brought significant changes both in the everyday and work lives of people: the use of home office became widespread, while communication is conducted through phone, emails and video conferences. Concurrently for official matters, such as signing contracts and doing banking administration, a person’s signature and personal presence are often essential. According to Kapolyi Law Firm, the current situation will have a substantial impact on the spread of electronic signatures.

While restrictions imposed as a result of the coronavirus pandemic make it difficult to conduct official matters, they also highlight that it is necessary to consider how to facilitate the electronic signing of contracts and other written declarations. Kapolyi Law Firm emphasises that electronic signatures have several advantages: they are subject to the same laws throughout the EU and signatures made in any Member State are mandatorily recognized in other Member States. Documents signed electronically have the same probative value as a traditional signature and have the same effect as paper-based documents. According to Dr. Dániel Nagy, senior attorney at Kapolyi Law Firm, with the exception of a few sectors, the use of electronic signatures by the general population is limited and is currently not wide-spread in the corporate segment either. However, since 2016 Hungarian legislation provided for the possibility of signing various written legal documents electronically. According to the law, if a condition for the validity of a specific legal declaration is for it to be made in writing, this requirement is satisfied by doing so electronically, provided that the document is signed by the parties with an electronic signature with enhanced safety features. According to Dr. Dániel Nagy, there are four conditions for an electronic signature to be considered as having enhanced security features. One of the conditions is that the digital signature is linked exclusively and uniquely to the signatory person only. Secondly, it must be suitable for identification of the signatory. Thirdly it creates the signature in a way that only the signing person has access to the data required for creation. Additionally, it is linked to the signed data in a way that all subsequent changes made can be traced, and therefore the document cannot be modified or altered after its signing.

The spread of electronic signatures may also be facilitated through the issuing of new identification documents (e-IDs), which allow natural persons to access the benefits provided by e-signatures faster and easier than ever before. Dr. Dániel Nagy highlighted that if the e-ID has an electronic signature function, private and official documents may be signed electronically with a card reader, even at home. It is important to note that this option has not entirely replaced the work of companies providing authentication services, as functions belonging to e-IDs are limited in several respects. As such, it cannot be used for representing a company as an employee and it has a transaction limit (up to HUF 50 million). Therefore, the e-ID is suitable for electronic signatures if there is no need to provide information about the company or if it is not used to make a legal statement for practising employee rights. Overall, electronic signatures have several advantages and the necessary technical conditions are present. In the current pandemic situation, it may be an important tool for parties to sign a contract without any personal contact or to make a unilateral declaration electronically (such as a power of attorney or a unilateral termination of a contract).

Competition law in the age of Coronavirus: state-owned venture capital and private equity funds may acquire companies more easily

author: dr. Katinka TÖLGYES

Significant relief was granted to directly or indirectly state-owned venture capital and private equity funds which, individually or jointly with another company, acquire management rights in a company for investment protection purposes. During the period of the emergency, for transactions in which the acquired company was in a difficult situation as a result of the pandemic, there is no need to notify and gain approval from the Hungarian Competition Authority (GVH). The pandemic will result in several changes in the economy and market structure, raising several issues in competition law, such as the prohibition of the abuse of a dominant position or significant market power or the authorization of mergers. Kapolyi Law Firm’s competition law expert summarised the most important information and what measures may be expected from the authorities.

As a result of the pandemic, customer and consumer needs are changing so rapidly and drastically in several sectors, that adapting to them poses serious challenges for most companies. The necessity of the changes affects nearly all economic actors to a certain extent, given the effects of the pandemic, and the legal regulations and amendments aimed at preventing and managing it. Furthermore, with regards to the method of adaptation – taking into account the necessary epidemiological measures – companies are not entirely free to choose and implement their own measures (e.g.: the opening of commercial catering units is restricted, and the holding of certain events is prohibited). Many businesses will therefore not be able to cope with the challenges posed by the pandemic and the ensuing expected economic recession, or will find it far more difficult to do so. Concurrently, there will be some who will be able to prepare for the forthcoming period, by maintaining their previous position or even strengthen it, increasing their market share. According to Dr. Katinka Tölgyes, Kapolyi Law Firm’s competition law expert, this is likely to affect market structures, which will presumably become more concentrated for a while. The market position of a company may change with respect to its competitors or suppliers. This means that with the marginalization or even disappearance of competitors, companies in a weaker position may become dominant, or companies in a dominant position may find themselves in an even more favourable position. Additionally, the market power of companies in relation to suppliers may strengthen, or significant market power may shift to companies that previously did not have any. Kapolyi Law Firm’s competition law expert highlights the fact that neither competition nor commercial law prohibits a dominant position and significant market power, but the laws sanction their abuse. Therefore, businesses which are more successful than others in coping with the current economic crisis must be careful not to violate regulations. As consumers may be more vulnerable to the negative externalities of market abuse in the current pandemic situation and the forthcoming economic recession, the Hungarian Competition Authority can be expected to be more stringent.

Dr. Katinka Tölgyes emphasises that a further consequence of the changes in the market structure, and a presumed concentration is an increase in the number of mergers and acquisitions of companies. This is because businesses in a difficult situation are less likely to be able to maintain their independence, and for more successful enterprises, acquiring a company may entail a new business opportunity. When certain revenue thresholds are met, mergers must be approved by the GVH, in the absence of which the merger may not be executed. The GVH may also make its approval subject to conditions (e.g.: the sale of a certain part of the business within a specified period of time). However, per the Competition Act, it is also possible for the GVH to authorise the execution of a merger prior to the completion of the authorization procedure upon a separate application, if this is necessary to preserve the value of an investment. Given the impending economic recession, it is expected that the number of these applications will likely increase, as maintaining the survival and viability of distressed, therefore acquirable companies, and protecting the investment of acquiring businesses, will justify the submission of applications more frequently than in a prosperous economic period. In an earlier communication, the GVH asked companies to consider postponing the notification of planned mergers. The authority also highlighted that given current circumstances, it is more difficult for the GVH to collect information (e.g.: from competitors, suppliers) that may be necessary to assess the merger, which may result in complications for involved parties.

Dr. Katinka Tölgyes emphasises that concurrently, the Government exempted certain enterprises from their notification and authorisation obligations in view of the emergency situation. Therefore, by derogating from the provisions of the Competition Act, and in accordance with the Government Decree’s provisions for specific credit, capital and warranty products within the framework of the Economic Protection Action Plan, the GVH does not have to be notified about mergers involving, a directly or indirectly state-owned venture capital or a private equity fund which are executed through a financing transaction necessitated by the pandemic, through a capital program set up for that purpose. The same applies for directly or indirectly state-owned venture capital and private equity funds which, individually or jointly with another company, acquire management rights in a company for investment protection purposes. However, this only applies until the cessation of the emergency period.

Coronavirus: companies can receive state aid in these five categories according to the European Commission’s resolution

author: dr. Katinka TÖLGYES

With respect to the economic damage caused by the coronavirus pandemic, the European Commission has mitigated its position related to state aid and has temporarily amended the framework in the light of the crisis. The competition law expert of Kapolyi Law Firm summarized the most important information in this regard and the opportunities available to companies under EU regulations.

Although, under normal economic conditions, the general rule is that the granting of state aid in favour of certain products, services or undertakings is prohibited, the Commission changed its position due to the deteriorating economic situation caused by the coronavirus pandemic. Dr. Katinka Tölgyes, competition law expert of Kapolyi Law Firm, recalls that, usually, only state aids that are compatible with the European Union’s internal market are authorized, such as non-discriminatory social aids granted for a product or aids for repairing damages caused by extraordinary events. Nevertheless, aids to promote the economic development of certain least-developed areas or to promote the development of certain economic activities or certain economic areas, without prejudice the common market and the common interests of the European Union, may also be authorized. Compliance with the rules related to aid is constantly monitored by the Commission, which checks whether they are compatible with the internal market and that they are not being misused in an abusive manner.

The main frameworks have been laid down in the light of normal economic conditions and they are not applicable, or the application thereof is rather difficult to unexpected, negative and eventually long-term processes affecting the economy, such as those caused by the coronavirus pandemic in certain economic sectors (e.g. tourism, hospitality) – said dr. Katinka Tölgyes. Following this logic, the Commission has also taken the view that changes to the application of the framework need to be done, and has defined five categories of aid under which Member States may grant aid to remedy the serious disturbance in the economy if other conditions set forth in the transitional regime are also met.

Five categories of aid defined by the European Commission

  1. Non-refundable direct aids, selective tax incentives and repayable advances

Member States may grant aid up to a maximum of EUR 800 000 (EUR 120 000 for the fisheries and aquaculture sector and EUR 1 000 000 for primary agricultural production) to satisfy the urgent liquidity needs of an undertaking. The aid is conditional on the economic difficulties of the beneficiary company being caused by the coronavirus pandemic or its consequences, and that the company has not been considered to be in difficulty for any other reason before 31 December 2019. Where an undertaking operates in more than one sector and is subject to different maximum amounts, Member States should ensure that the ceilings are met, for example by means of accounting separation.

  1. Providing a loan guarantee

Member States may provide preferential state guarantees to ensure that banks and other financial institutions can continue to provide credit to customers who need it.

  1. Subsidized lending rates

Member States may, as a general rule, grant loans to enterprises at reduced interest rates for a maximum of 6 years. These loans can help to the enterprises to provide immediate working capital and satisfy investment needs.

  1. Guarantees and loans provided through financial institutions and credit institutions

Member States may also grant the aid referred to in points 2 and 3 to help undertakings, in particular small and medium-sized enterprises, through banks or other financial institutions. According to the European Commission, such aid shall be considered as aid granted directly to banks’ customers and not as aid granted to banks.

  1. Short-term export credit insurance

In the event that the hedges of marketable risks are temporarily unavailable in some countries, the European Commission allows short-term export credit insurance for the state.

Dr. Katinka Tölgyes points out that the European Commission specifically mentions aids for relevant research and development, production of products as well as testing and scaling infrastructures aiming to combat the coronavirus pandemic. In these cases, the aids are considered as aids to promote the development of certain economic activities or certain economic areas, without prejudice the common market and the common interests of the European Union. The European Commission also sets a deadline, meaning that aids to remedy the serious disturbance in the economy of a Member State can only be granted until 31 December 2020. The competition law expert of the Kapolyi Law Firm recalls that the elaboration of detailed rules in relation with the provisions set forth by the European Commission has already started in the Hungarian legislation in the meantime.

Force majeure and MAC/MAE clauses during the period of Covid-19 in Hungary

author: dr. Balázs József FERENCZY

  1. What force majeure means?

Force majeure (in the Hungarian legal language: “vis maior”) is a legal institution dating back to Roman law, and “means a force or event that human weakness cannot resist.”[1] The legal literature includes both overwhelming natural forces, such as earthquakes, floods, shipwrecks, other natural disasters, and certain human/social movements, such as wars, revolutions, or other extraordinary social events of extreme force. According to Roman law, “no one is generally liable for force majeure”[2], unless (i) it has been undertaken by someone in a contract (such as in the case of ancient “insurances”, like the pecunia traiectitia or the lex Rhodia de iactu mercium), or, for example, (ii) if the person was liable for (i.e. it was attributable to him) that the asset has been affected by force majeure.

Force majeure – although it has classical roots and a fairly widespread contractual practice – does not have a normative basis in the current Hungarian legal system. This legal institution can be deduced indirectly from certain provisions of the Civil Code and their explanations (cf. the system of exemption from contractual liability according to § 6: 142 of the Civil Code),[3] and in practice, the exact meaning and content thereof are set forth by the parties in their contractual clauses and in the judgments developed by case law.

  1. Can the current epidemiological situation be considered as force majeure and can we invoke it in our contractual relations?

In our contractual relations force majeure may be invoked mainly in cases where the parties have made the vis major cases, and among them the epidemiological situation, part of their contractual agreement. These clauses are most often included in medium- and long-term contractual schemes (e.g. construction and installation contracts, credit line contracts), but it is important to note that the contract must be examined each time (i) to find out if it contains any additional force majeure clause, on the one hand, and if this exist (ii) what is the exact content thereof, on the other hand. These provisions usually provide a clear indication of the contractual obligations the parties are liable to meet in the event of force majeure (e.g. the obligation to notify in writing on the occurrence of force majeure event and the nature thereof), the duration of such a situation (the parties generally allow the application of force majeure event for a transitional period) and what should and/or can be done after this transitional period (withdrawal or termination if the force majeure situation does not cease during the transitional period or resumption of contractual obligations).

The provisions on the payment moratorium set forth in the Government Decree Nr. 47/2020 (III. 18.) on the immediate measures necessary to mitigate the impact of the coronavirus pandemic on the national economy, as well as in the Government Decree Nr. 62/2020. (III. 24.) on the execution of the former one (hereinafter collectively referred to as the “Government Decree”) in Hungary, for example, contain an exemption from the fulfilment of contractual obligations for the debtors of credit, loan and financial leasing contracts disbursed on a commercial basis, which, in fact, prevented the risk of mass insolvency resulting from the epidemiological situation and, therefore, the risk of mass litigation procedures, which was likely to place a heavy burden on the economy as a whole and on the judicial sector, too.

Force majeure may also be applied even without a contractual clause, for example, if the party relying on it can properly prove that he was unable to meet a contractual obligation specifically due to the epidemiological situation or for a reason directly attributable to the epidemiological situation, he did not foresee the occurrence of this event, neither could he be expected to assess/foresee it in advance. In this respect, for example, an important and decisive issue may be the date of conclusion of the contract as well as to what extent and in what manner the given business was affected by the possible shutdown of foreign suppliers around this date, for example.

  1. In which cases could difficulties arise in relation to force majeure event?

Despite the above, there are many systems of contractual relations where reference to force majeure event is likely to cause difficulties, such as, for example, lease contracts for retail units and shops. As our colleague, Mátyás Rada explained in his previous articlesince force majeure in lease contracts usually means events beyond the control of the parties that damage or destroy the building or part of it rendering the leased property unavailable or unusable (such as fire, flood, or even war events), a new interpretation of ‘un-usability (unavailability)’ may emerge in the context of a coronavirus pandemic.”

  1. Is there causing of damage in case of force majeure?

If the defaulting party properly alleges and proves that he was unable to meet his obligation due to force majeure event, therefore his conduct or his omission resulted from a cause beyond his control, he can be relieved of his liability for breach of contract and thus for causing damages.

It is important to note that, on the basis of a regulation developed for this purpose[4], a so-called certification of force majeure can be required from the Hungarian Chamber of Commerce and Industry (HCCI) in respect of non-performance of an obligation (or obligations) specified in a particular contract, which is an institution rather foreign from the until now existing Hungarian legal practice. At the same time, HCCI underlines in its abovementioned regulations that “The concept of “force majeure” has not been defined neither by Hungarian law, nor by EU legislation and judicial practice. The purpose of the Chamber’s certification of force majeure is to avoid possible lawsuits, to promote civilized economic co-operation between enterprises, to simplify the proof in lawsuits that may still be initiated, and to reduce the duration of lawsuits.”

A major question of judicial practice following the coronavirus epidemic is the direction in which the case-law related to force majeure will be further developed, based on a simultaneous examination of the above elements, in a forward-looking manner.

  1. What does MAC/MAE clause mean?

If the contract cannot be terminated due to force majeure, the contracting partner may have to seek other clause(s)/legal grounds for terminating the contract.

As impact of the Anglo-Saxon legal system and international model contracts, the use of the so-called MAC/MAE (that is to say: Material Adverse Change/Material Adverse Effect) clauses is widespread also in Hungarian contractual practice, that can typically be found in credit and loan agreements and in the documentation of M&A transactions. The main source of the MAC clauses – similarly to force majeure – are the provisions mutually agreed upon by the parties in the contract. The legal background for this legal institution does not currently exist in the Hungarian legal system.

For example, in a loan agreement standardized by the LMA, any fact, event, or circumstance, or a series thereof, shall be considered as material adverse effect that has occurred to the borrower which, according to the creditor’s reasonable opinion, have or may have a material adverse effect on

(a) the economic (financial or other) situation of the borrower;

(b) the management and business of the borrower;

(c) the ability of the borrower to meet any obligation under the financing agreement or the collateral contract securing thereof; or

(d) the legality, binding force, validity, enforceability, ranking of any transaction document to which the borrower is a party.

A MAC/MAE’s

  • lack (as expected by the creditor) may, for example, serve as a precondition for the financing party to meet its financing obligation under the credit facility agreement; or
  • occurrence (unauthorized by the creditor) may, for example, result in the breach of the borrower’s obligation undertaken in respect to the lack of MAC/MAE, which may lead to an event for breach of contract; or
  • occurrence/existence (not permitted by the creditor) may also result directly (sui generis) in an event for breach of contract.
  1. When can we speak about the occurrence of a “material adverse effect” under the MAC clause?

In this matter – in lack of Hungarian judicial practice and legal provisions – it is worth relying on the results of Anglo-Saxon legal development. According to them, a material adverse effect, for example,[5]:

  • must continue existing for long-term: the change cannot be only temporary, it must be for long-term and permanent in terms of the company’s ability to generate revenue (“over a commercially reasonable period, measured not in months but years.”);[6]
  • must be quantitatively significant: a waiver based on the MAC clause could be successfully invoked, for example, in the case of a 50% reduction of two consecutive quarterly revenues,[7], in another case the court considered a reduction of 64% of the quarterly revenue to be a close case,[8] while a decrease of 86% of EBITDA was considered as an undoubtedly significant and substantive change („short-term hiccup should not suffice”);[9]
  • externalities affecting the whole industry concerned, given that they affect all participants of that industry, do not normally fall within the scope of the MAC clauses. If a material adverse effect affects the given contracting party only, regardless of the industry concerned, the termination on the basis of the MAC clause may provide an appropriate basis thereof; however, if the effects affect the whole industry in the same way, the contract cannot normally be withdrawn under a MAC clause.

The above only sets the framework for Anglo-Saxon case law (drawn with rather inaccurate lines) and does not mean that minor revenue losses cannot lead to a decision respecting MAC/MAE clauses (with special regard to the existence of other important circumstances), nor they mean that even in the case of a higher loss of revenue, the court could not decide against the application of the MAC/MAE clause. However, it can be stated in general, the courts interpret the MAC/MAE rather strictly and narrowly. They usually exclude the applicability of the MAC/MAE clauses in the event of, for example, war, natural disasters or force majeure, placing the systemic risks on buyers/creditors, essentially. As the pandemic became global, the Covid-19 epidemic also began to appear in MAC clauses as a specific circumstance being an explicit exemption from the causes of withdrawal[10] (a substantially similar trend was observed after the events of 11 September 2001, when the terrorist attack was included among the events of force majeure). However, it is important to underline that specific circumstances referred to in the MAC/MAE clause (including the Covid-19 epidemic, too) can only constitute an exemption if they affect the given industry or activity, including all market participants, in general. If the impact on a given company is (significantly) more severe than on the industry in average (“except to the extent that the target was disproportionality impacted compared to other industry participants”), the systemic risk thesis may be overturned and the application of the MAC/MAE clause against the target company/borrower may legally be founded, taking into account all the factors of the case.

  1. Can the current epidemiological situation justify withdrawal from the contract or refusal to financing by reference to the MAC/MAE clause?

In each case, extensive and thorough contractual interpretation is needed in order to determine whether the epidemiological situation caused by the Covid-19 virus and the resulting economic and legal circumstances fall within the scope of the MAC/MAE clauses set out in the contracts. In our view and in the light of past experience, it can be said in general that the MAC/MAE clauses relate specifically to the individual financial, economic or legal situation of the debtor/contracting partner. The fact that both the world economy and the Hungarian economy have to face a global epidemiological situation as a result of the Covid-19 virus does not in itself provide a sufficient legal basis for the contracting party to exercise its right to terminate the contract under the MAC/MAE clause.[11] Nevertheless, special consideration in the risk analysis should be given to the possible disproportionate impact on a given company caused by the current situation referred to above.

  1. Are there other contractual rules under which a credit institution may, for example, consider terminating a loan agreement?

As we explained in one of our previous articles, the payment moratorium (at least, concerning Hungary) only grants, temporarily and not permanently, exemptions from the rules of the loan agreements related to the repayment of capital and interest. This is a very important, but by no means a single set of borrower obligations. In addition to capital and interest repayment rules, loan agreements commonly used in the legal practice impose obligations on borrowers to comply with certain financial ratios (DSCR, LTV), to provide financial information on an ongoing basis, or to maintain collateral value (listing only the most important ones). Borrowers are obliged to fully comply with these obligations, even during the payment moratorium set out in the Government Decree and the existence of the force majeure situation. Should any of these obligations be breached, these may allow the credit institution to consider the termination of the relevant contract, which is not in the borrower’s interest during the moratorium period, either.

  1. What is the solution?

In the current situation, both (legal) force majeure (Government Decree on the declaration of an emergency and its execution) and the MAC/MAE clauses can provide an appropriate basis for the contracting parties to negotiate and resolve disputed issues reassuringly and for long term. It is clear that in this way parties are primarily facilitating to relaunch the various sectors of the economy after the emergency will cease, which already seems to be a huge, but mutual task, trying and testing people and the market.

_______________

[1] History and Institutions of Roman Law (András Földi and Gábor Hamza), Institute for Educational Research and Development, Budapest 2015. Brósz-Pólay: Roman Law, Textbook Publisher, 1974, p. 351 .: “cui humana infirmitas resistere non potest” – D.44.7 .1.4. – Gaius.

[2] D. 50.17.23. – Ulpianus, 1.

[3] Section 6:142. of the Hungarian Civil Code

[4] https://mkik.hu/vis-maior-igazolas-kiallitasa

[5] https://corpgov.law.harvard.edu/2020/04/04/covid-19-as-a-material-adverse-effect-mac-under-ma-and-financing-agreements/

[6] Akorn, Inc. v. Fresenius Kabi AG https://courts.delaware.gov/Opinions/Download.aspx?id=279250

[7] Raskin v. Birmingham Steel (Del. Ch. 1990)

[8] IBP Shareholders Litig. (Del. Ch. 2001)

[9] Akorn, Inc. v. Fresenius Kabi AG https://courts.delaware.gov/Opinions/Download.aspx?id=279250

[10] Morgan Stanley-E*TRADE merger agreement: https://news.bloomberglaw.com/bloomberg-law-analysis/analysis-morgan-stanley-e-trade-merger-excludes-coronavirus

[11] https://www.ashurst.com/en/news-and-insights/legal-updates/is-coronavirus-covid-19-a-material-adverse-change/

Advertisements and cartells during the coronavirus pandemic: competition law principles to consider

author: dr. Katinka TÖLGYES

As a result of the coronavirus pandemic, the number of advertisements for health-related products and services has exponentially increased. In addition to existing ones, new players also entered the market and began selling products or services that do not fit their main profile. It is important however, that everyone utilises new business opportunities fairly, as authorities are closely scrutinising commercial communications. Kapolyi Law Firm’s expert examined the most important competition law provisions on advertisements and the cooperation of corporations.

Products and services related to the pandemic primarily address health concerns and the needs of customers who have to stay home as a result of the quarantine measures. Kapolyi Law Firm’s competition law expert, Dr. Katinka Tölgyes emphasises that companies which began selling a new product or service in response to the pandemic, which has not been produced or offered so far, or companies who have paid less attention to competition compliance should consider soliciting the services of a legal adviser.

Advertisements: not everything may be sold citing protection against Covid-19

According to Kapolyi Law Firm’s expert, defining the product category is the first step when designing advertisements and slogans, since different advertising statements are permitted for food, medicinal products, food supplements, prescription and non-prescription medicines, and cosmetics. For example, no disease-preventing or curative effect can be attributed to foods (even if for instance, several varieties of onions are known in the vernacular for their healing effects). A statement like this is in itself infringing the law (there is no possibility to prove otherwise) and may result in sanctions. As a general rule, prescribed medicines and non-prescribed medicines supported by the social security cannot be advertised at all. In case of medical products for which advertising is permitted, commercial communication content may be prepared within a rigorous framework and in strict compliance with the contents of the package leaflet only. Any reference to the recommendation of professionals or known persons should be avoided. A product may only be labelled medicinal if it has a truly meaningful, health-restoring effect, which can be substantiated by appropriate research (the personal experiences of the consumers of the product is not acceptable). It is also important to ensure that indirect statements also comply with the requirements, such as statements on the active substance or its ingredients in the product.

Dr. Katinka Tölgyes emphasized that the Hungarian Competition Authority (GVH) always examines commercial communication from the consumer’s point of view, therefore what matters is how consumers interpret an advertising statement and not what the manufacturer or distributor intended to mean, or what goal they wanted to achieve. Additionally, communications intended for vulnerable consumers are subject to increased scrutiny and stricter consequences applied by the GVH. The GVH considers a group of consumers to be vulnerable if they are more susceptible to a given product or service due to their age or state of health. During the current pandemic situation, for certain products (such as disinfectants, hand sanitizers, masks, etc.) even the society as a whole may be considered to be vulnerable consumer, therefore it is particularly important that communication complies with the law.

Cooperation: authorities may be more permissible, but not without limits

In addition to commercial communication, the application of laws concerning business-to-business cooperation between undertakings is expected to slightly differ during the coronavirus pandemic. In the current situation, serving consumers with essential products (i.e.: hand sanitizers, face masks) bears key importance, and may require increased cooperation between the involved parties. This may include allocating scarce available raw materials or solving challenges related to transport and storage issues. Kapolyi Law Firm’s competition law expert states that the GVH may consider society’s wider interests, and is therefore expected to treat cooperation with permissive approach. Dr. Katinka Tölgyes highlights the position of the European Competition Network, which clearly states that members of the network will not oppose necessary and temporary measures applied by companies to avoid supply shortages. Nevertheless, undertakings must be aware of the fact that “permitting” cooperation does not apply to every area and does not mean that there are no limits in terms of the degree and length of the cooperation. “Hardcore cartels”, i.e. price-fixing, market-sharing agreements restricting competition remain prohibited – if, for example, there is no shortage of a specific raw material, the undertakings concerned may not refer to cooperation during the competition authority’s investigation. The guidelines issued by the European Commission set forth similar principles. Therefore, it can be expected that the GVH will dedicate prior attention to the examination of the extent of cooperation and the necessity thereof. Dr. Katinka Tölgyes emphasises that if an undertaking (especially in the health sector) has questions about the nature and extent of the cooperation, it is advisable to consult with a legal adviser or contacting the GVH itself for guidance. It is important to note, however, that the competition authority is not bound by its guidance in any subsequent investigation.

 

How Hungarian listed companies may operate during the period of the emergency

author: dr. Gábor HORVÁTH

Government measures implemented to combat the coronavirus pandemic also made decision-making processes of Hungarian companies listed on stock exchange rather complicated. From the perspective of companies and their shareholders the timing of these measures is especially unfortunate, as annual general meetings, where last years’ annual reports and the payment of dividends are discussed, are normally held in April. Kapolyi Law Firm examined how the newest government decrees published during the Easter Holiday affect, among others, the convening of general meetings, the payment of dividends and how to continue to purchase own shares while maintaining shareholder’s control.

According to current provisions, it is prohibited to host indoor events with over 100 attendees, which affects several companies publicly listed on the Budapest Stock Exchange (“BSE”). A further decree generally prohibits the hosting of events and holding of meetings, and it does not mention the convening of companies’ governing bodies or attending them in person as an exception. To ensure that the operation of business associations, including the ones publicly listed on BSE, remains relatively uninterrupted in light of current circumstances, the government issued a decree[1] over the Easter Holidays on the provisions concerning the operation of partnerships and capital companies during the state of emergency. The decree sets forth special provisions for the corporate bodies (general meeting, board of directors, supervisory board, audit committee) of publicly listed companies (plc). The most pressing issues are presented by Kapolyi Law Firm’s Senior Attorney, Dr. Gábor Horváth.

When can the general meeting be convened?

While the newly released decree does not refer to it expressly, it follows from the previously imposed ban of hosting and attending events, that the meetings (sessions) of publicly listed companies’ corporate bodies may not be held by participation in person. Instead of the general meeting acting as the main governing body, the management of the company (the board of directors or executive board) is entitled to decide on all issues that otherwise belong to the competence of the general meeting.

How the governing bodies of publicly listed companies’ can consult or be held?

The corporate bodies of publicly listed companies (board of directors, executive board, supervisory board, audit committee) and further corporate bodies established by law or the Articles of Association may hold meetings through electronic communication devices, or through other electronic devices which permit the identification of attendees. Alternatively, corporate bodies may conduct written consultations, and make decisions in writing. In lack of relevant, approved procedures for the above, the rules and process of the meeting and decision-making is determined by the chairman of the body which must be communicated to the involved members. Written consultations and decision-making may also take place through electronic messages (i.e.: through email).

How can the company’s annual report be approved?

Dr. Gábor Horváth emphasises that plc.’ invitations to the annual general meeting, the related submissions, the proposals for resolutions as well as further documents must be published on the plc’s websites as before, even if they were not yet published on the date when the decree entered into force. He, nevertheless, added that the deadlines for publishing the above has been shortened: the invitation must be published at least 21 days prior to the general meeting, while submissions, proposals for resolution and other documents must be published at least 8 days prior to the general meeting. The plc. may differ from the content of the invitation by way of notice published on its website if the invitation has already been published by the date when the decree has entered into force. The decree does not set forth any deadline for the publication of this notice; therefore, in Kapolyi Law Firm’s opinion the company is obliged to publish it immediately upon becoming aware of such changes. The plc.’s management is entitled to make decisions on any and all matters listed in the published agenda – including the amendment of the Articles of Association –, the approval of annual report, the utilisation of the after-tax profit as well as on issues that belong to the competence of the general meeting, are necessary for the maintenance of the plc.’s lawful operation and the management of the emergency situation, as well as on urgent matters belonging to the scope of and for providing reasonable and responsible management. The management is also entitled to decide on the issues listed on the published agenda differently as of recommended in the published proposals for resolutions. (However, the management can only decide on the annual report if the supervisory board’s report for the approval thereof is already presented). It remains compulsory for resolutions passed by the management acting within the competence of the general meeting to be published. The plc.’s management is obliged to pass a resolution on the plc.’s annual report prepared on the basis of the Accounting Act until 30 April 2020 and if the plc.’s business year differs from the calendar year, then by the end of the fourth month following the balance sheet date of the relevant business year. Concurrently, the management may decide on the utilisation of the after-tax profits, including the payment of dividends. However, if shareholders holding at least 1% of the votes initiate the convening of the general meeting (see below for more details), dividends may only be paid if the annual report and the payment of dividends have been subsequently approved by the general meeting. It is important to note that the auditing of the annual reports may also be done if the plc.’s management decides thereon. Nevertheless, the plc.’s management may only decide on the annual report, if the supervisory board has already approved it in its report.

Shareholder’s control is maintained, however, in certain cases decisions can only be made after the cessation of the emergency period

Shareholders maintain control over the operation of the management acting in the competence of the general meeting, meaning that shareholders holding at least 1% of the votes may request the subsequent convening of the general meeting with the aim of the subsequent approval of resolutions passed by the management. Kapolyi Law firm’s expert highlighted that this right may be exercised within different (limitation) periods depending on whether the subsequent approval of a resolution concerns the amendment of the Articles of Association, the annual report, the utilisation of after-tax profits or further resolutions of the general meeting. In case of the initiation of the convening of the general meeting, the invitation must be published within 45 days after the cessation of the emergency period. If the emergency has already ceased at the date of receipt of the shareholder’s request, the invitation must be published within 45 days of receiving the shareholder’s request. If the general meeting does not subsequently approve the amendment of the Articles of Association, it will be repealed on the day following the date of the general meeting. Nevertheless, if a subsequent resolution of the general meeting amends or repeals a previous resolution, it does not affect the rights and obligations that arose before to the amendment or repeal.

Purchase of own share

If the general meeting authorised the plc.’s management to decide on purchase of own share, and the authorisation expires during the emergency period, the duration of the authorisation will be extended until the date of the first general meeting held after the cessation of the emergency period, unless the management already decided on the subject of the authorisation within its own competence.

The management of changes in the personnel of the publicly listed companies’ governing bodies

Dr. Gábor Horváth, Senior Attorney at Kapolyi Law Firm stated that according to a further temporary rule shall the term of appointment of a member of a plc.’s governing bodies or the appointment of its permanent auditor expire during the emergency period (even if their appointment expired after the announcement of the emergency, but before the publication of the decree and no other person has been appointed to replace them), their mandate will remain effective until the date of the first general meeting held after the cessation of the emergency period and they are obliged to continue to perform their duties. Exceptions arise if the appointment of said person ceases due to the death, recall or removal by the decision of the authority exercising prudential supervision, or if the plc.’s management makes the necessary decisions in its own competence. If during the period of the emergency the number of members in the abovementioned bodies decreases bellow the number set forth by law or the Articles of Association, or if a member is unable to act due to the coronavirus pandemic, the remaining members are entitled to pass resolutions. In this case, the rules on the quorum of the said body shall be determined by the number of members available to decide. Even in this case, resolutions must be passed by simple majority; however, even one member is entitled to pass resolutions if all the other members of the relevant corporate body are unavailable.

[1] 102/2020. (IV. 10.)

Tenants in the hospitality and the retail sectors may not always refer to the Covid-19 pandemic as force majeure

author: dr. Mátyás RADA

Restrictive measures enacted to combat the coronavirus pandemic have proven to be exceptionally sensitive for tenants in the hospitality and retail sectors. Many are unable to pay their rent through no fault of their own. However, landlords are under no obligation to accept a tenant’s claim for a reduction in rent due to a loss of income. According to Kapolyi Law Firm, enterprises in the tourism sector are somewhat protected by a government decree adopted during the state of danger. However, in the retail sector, the only solution seems to be a mutual agreement between the landlords and the tenants. Claiming force majeure in either sector would not be easily defensible in court.

The coronavirus pandemic put many businesses operating in leased properties in a difficult position. This warrants the question of what legal options tenants have to reduce rents or delay payment. One of the most severely affected sectors is the tourism industry. The curfew measures implemented on the 28th of March implicitly prohibit the use of hotels for hospitality services. Prior to this, foreign private persons have been prohibited from entering Hungary from the 16th of March. As a result, several hotels temporarily suspended their operation. Several retailers have been severely affected by the pandemic too. While governmental measures do not prohibit the opening of stores which do not sell essential products (i.e. bookstores and clothing retailers), as a result of curfew measures, said retailers will have less customers, which may result in their closure.

Hotels enjoy some protection due to the Government Decree, while retailers do not

According to Kapolyi Law Firm, for hotel operator tenants a temporary source of help could be the Government Decree[1] which stipulates that leases for non-residential purposes may not be terminated until the 30th of June 2020, and the rent may not be increased until the state of danger is over. It may strengthen the tenant’s bargaining position. Therefore, the landlord may not terminate the lease by extraordinary notice until said date if the tenant is unable to pay its rent due to a lack of revenue. However, this does not preclude the landlord from continuing to claim the due rent, interest for late payment or penalty for late payment. Concurrently, tenants of stores in malls, shopping centres and other buildings do not enjoy any legal protections despite restrictions on opening hours and shopping.

Claiming force majeure is difficult to defend before courts, therefore the appropriate solution is the mutual agreement of the parties

The question arises for tenants engaged in commercial activities and accommodation provision services if they can claim relief for a force majeure event due to the coronavirus pandemic, which would relieve them of their obligation to pay rent and from their liability for a breach of contract resulting from the late payment of rent. According to Kapolyi Law Firm, since force majeure clauses in lease contracts usually cover such events, which are beyond the control of the parties, and may result in the damaging or destroying of the property stipulated in the lease contract, which events makes the property unusable (i.e.: fire, flood, or even events of war). As such, a new interpretation of “unusable” may arise as a result of the pandemic situation. However, it is Kapolyi Law Firm’s view, that in the present absence of a supportive legal interpretation, it cannot be said with absolute certainty that a tenant can successfully claim in court that he/she could not utilise the rental property for the purpose stipulated in the lease contract as a result of the pandemic, and therefore he/she should be exempt from their obligation to pay rent. Furthermore, it is questionable whether this claim will stand in court, as based on case law, if – for any reason – the tenant is unable to meet his/her obligation to pay the rent for a reason beyond his/her control, that is a commercial risk assumed by the tenant. Pursuant to legal provisions currently in force, landlords are not expected to assume the risks of running a hotel or business at a loss. As the current pandemic and its effects are unprecedented, there are usually no detailed provisions stipulated in the leases that permit tenants to claim situation-specific discounts and reductions.

From a business perspective, landlords may in the long run have a greater interest in retaining otherwise reliable tenants, than in forcibly collecting rents and applying penalties for late payment. In affected sectors, there are already several cases where the landlord and the tenant are negotiating changes to the leases and the landlords provide various facilitations to the tenants. However, it is important to note that the provision of facilitations are dictated by the landlord’s commercial interests, instead of specific contractual or legal obligations. In the absence of supporting legislation, cooperation and negotiation between landlords and tenants could be a temporary solution in the current crisis.

[1] 47/2020. (III. 18.)

How EU frontier workers are legally affected by the border seals ordered due to the corona virus?

author: Dr. Gábor HORVÁTH

Most EU Member States have closed their borders in order to curb the coronavirus epidemic, which has hit millions of frontier workers, including tens of thousands of Hungarian ones, particularly negatively. The labor law background of the situation is summarized by the professional of Kapolyi Law Firm, who points out:if frontier workers are prevented from going to work due to entry or exit bans, the laws of the EU Member State in which the employee regularly works apply to the consequencies. However, if the frontier worker loses his job, he can claim unemployment benefit from his Member State of residence (home Member State).

Because of the coronavirus epidemic, most EU countries have closed their borders; to a large extent, only their own nationals can enter these countries. This situation has affected frontier workers particularly negatively who work in an EU Member State other than their home Member State while they are regularly returning to their home country. Dr Gábor Horváth, EU labour law expert of Kapolyi Law Firm, said that in order to facilitate the situation of frontier workers, the European Commission issued recommendations[1] in March 2020, according to which Member States shall allow free and rapid border-crossing for frontier workers. In line with this, measures have already been taken in Hungary too, since daily border-crossing (commuting) to several neighbouring countries for working perspective has become possible recently. It means that frontier workers are exempt from the 14-day quarantine imposed by the authorities as well as the entry ban for non-nationals. Nevertheless, cross-bordering (commuting) can, for example, turn to be impossible due to entry ban(s) imposed by the country of destination,.  In this case, according to the law applicable to contractual obligations and in the absence of choice of law, an individual contract of employment is, in principle, governed by the law of the country in which, or in lack of that, from which the employee habitually carries out his work. In view of the EU labor law expert of Kapolyi Law Firm’s if a frontier worker is unable to go to work due to entry or exit ban(s), the laws of the EU Member State where the frontier worker habitually works (Member State of employment) is applicable for the consequences of not being able to work and the assessment thereof.

According to the Regulation on the free movement of workers within the Union[2], frontier workers are entitled to the same social and tax advantages equal to the nationals of the Member State of employment.

Dr. Gábor Horváth also pointed out that if a frontier worker could only carry out his job teleworking (working from home, home office) due to entry restrictions, that would not change the situation and the laws of the Member State of employment would apply to the frontier worker’s employment contract, and he should be entitled to the same social and tax advantages as the nationals of the Member State of employment. Therefore, if a frontier worker works from home in his Member State of his residence (home-work, telework, home office) since he cannot travel to the Member State of employment due to entry restrictions, this does not change his entitlement to social security allowances: he is entitled, in principle, to the social security allowances offered by and according to the provisions of the Member State of employment, since he is insured in this Member State on the basis of his employment. Nevertheless, if the frontier worker falls ill in his Member State of residence while teleworking (home-work, home office) and is not able to access to the social security benefits of the Member State of employment due to entry restrictions, he will also be entitled to access thereof in his Member State of residence by providing/submitting the so called S1 form.

Kapolyi Law Firm points out that in the unfortunate event that, in the current situation, a frontier worker loses his job, he can claim unemployment benefits from his Member State of residence, according to the relevant regulations and provisions of this EU Member State.

[1] Recommendations on border management measures to protect health and ensure the availability of goods and basic services and to exercise free movement of workers during the outbreak of COVID-19

[2] Article 7 of EU Regulation No 492/2011/EU

These are the effects of the payment moratorium on debtors due to the Coronavirus in Hungary

author: Dr. Balázs József FERENCZY

 The detailed regulations of the payment moratorium were published a week ago, but there are several issues that private and corporate clients are facing now. The experts of Kapolyi Law Firm have compiled a 12 question Q&A on the most important issues regarding the moratorium.

Actors in the credit market were also taken by surprise by the new coronavirus pandemic,  as a result the government has as of now issued two decrees in order to alleviate the burden of the crisis on the national economy and on credit market participants.  The second decree detailing new regulations was issued a week ago, on March 24, 2020 and Kapolyi Law firm made a 12-bullet point summary about how this will impact creditors, debtors and loan agreements between them.

  1. What is the background of the payment moratorium?

The government decree stipulates (1. §) the general rules of the payment moratorium during the period of the state of emergency, that during the period of the emergency the debtor shall be granted a payment extension (hereinafter “payment moratorium”) for all principal, interest and fee payment obligations arising from credit, loan and financial lease agreements (hereinafter “agreement”). The government decree stipulates that the payment moratorium entered into force on March 19, 2020 and will be in effect until December 31, 2020, but this deadline can be extended by the government at anytime. The government decree with detailed regulations entered into force on March 25, 2020. According to the new rules, the moratorium shall be applied to all the loans disbursed before March 18, 2020 on the basis of already existing agreements.

  • What happens with the deadline and term of contractual obligations?

Based on the regulations, the deadline and the term of contractual obligations shall be extended by the period of the payment moratorium. In case an agreement expires before the end of the state of emergency, the agreement shall be extended to December 31, 2020.

  • What to do if somebody wants to use the extension allowed by the moratorium?

According to Kapolyi Law Firm, no action is required by the debtor. Based on the government decree all credit and loan agreements subject to the payment moratorium have been amended automatically. However, the financing banks will try to clarify the matter by obtaining statements (declarations) from debtors.

  • Who is the moratorium applied to?

The effect of the government decree extends to all private persons, and – unless they do not fall under the exceptions stated in the decree – all legal persons, who are constituted as debtors on the basis of credit, loan or financial lease agreements concluded on a commercial basis.

According to the government decree the state, local municipalities and the enterprises which are defined by the acts set out in the Act on the National Bank of Hungary (Section 39. of Act CXXXIX of 2013.) are not considered as debtors, thus they are exempt from the payment moratorium, including – among others – credit and financial institutions, financial enterprises, mortgage banks and payment service providers, home savings type credit unions  that are supervised by the Hungarian National Bank (MNB).

However, the decree on the detailed rules provides otherwise. It states that in regard to the application of the payment moratorium, all financial enterprises governed by the law on credit institutions and financial enterprises shall be considered as debtors, as well as the investment funds under the Kbftv. Act.

Dr. Balázs Ferenczy, practice group leader of Kapolyi Law Firm says that it is important to highlight the addition included in the detailed rules stating that the regulations of the payment moratorium must be applied to employer loans as well.

  • Is it possible to continue payment despite the moratorium?

Dr. Ferenczy thinks that such provisions are possible as the parties may deviate from the general rules of the moratorium by mutual agreement and the payment moratorium does not apply to the legal rights of debtors to continue payment in accordance with the terms of the original agreement. In the first case for the derogation from the main rule a mutual agreement of the parties is necessary, while in the second case the debtor can unilaterally decide on his own to continue his payment obligations in accordance with the original agreement.

  • Is it possible to modify the declaration of the debtor to the creditor, meaning to request a payment moratorium later?

According to Kapolyi Law Firm if the debtor continues payment in accordance with the original terms of the agreement, it does not concern the effect of the payment moratorium. The detailed rules also state that if performance (payment) is done in accordance with Section 1. of the government decree, the settlement must be credited on the basis of the rules existing before the moratorium. The joint application of these regulations means that the debtor can in principle submit a partial repayment declaration too (which is valid for a given deadline or time period), or with regards to the later payment periods the debtor may maintain the scope of the moratorium, alternatively may submit a declaration later or may provide a different declaration than it might appear from an earlier made declaration (i.e. he can withdraw his declaration).

Based on the banking practices known by Kapolyi Law Firm, banks will endeavor to fully settle the above-mentioned cases with the debtor by requesting his declaration. Dr. Ferenczy also highlighted on this point that the debtor may use the above-mentioned options even in case the financing bank does not send any clear information thereof.

  • What kind of declaration should you provide if you want to continue repayment or want to deverge from the original repayment schedule?

In case of a financing documentation set out in a public document the declaration on continuing repayment may also be submitted in the form of a private document. The expert of Kapolyi Law Firm adds however that in case the parties wish to modify the contractual terms regarding principal or interest payment as a result of the moratorium, or for any other reason, concerning terms that are not provided for by the government decree, the agreement can only be modified in an public document. This case is provided for by a clause in notarized credit and loan agreements that may be considered standard, according to which the aforementioned documents can only be modified in the form of a public document. If such an exception is not mentioned in the notarized document or the parties have agreed in a private document, it is sufficient to make modifications on the content not governed by the decree in a private document.

  1. What happens with the interests and principal not repaid during the time of the moratorium?

The principal cannot be increased by the amount of the unpaid interest accumulated during the period of the payment moratorium. The interest accumulated during the period of the moratorium shall be paid annually in equal parts together with the amounts due within the remaining maturity of the loan. After the end of the moratorium the maturity of the loan will be extended in a way that the partial payment of the due interest accumulated during the moratorium and the actual amounts due should not exceed the payment amounts of the instalment amounts of the original contract, furthermore the rules applicable to the interest must be applied to all the fees as well.

  1. Does the payment moratorium apply to the repayment of shareholder loans too?

According the interpretation of the Kapolyi Law Firm, it does not apply, because the government decree primarily applies to the loans granted on a commercial basis, in other words by banks and financial institutions. Shareholder loans – unless falling under the criteria of the commercial loans defined by Hpt. – are normally not commercial loans, therefore the payment moratorium detailed in the decree do not apply to those. However, the parties may – by way of a bilateral civil agreement – always agree that with regards to the pandemic situation they also agree on a moratorium with their own terms and conditions.

  1. How does the moratorium concern the loans in case of property development companies if they want to sell a property during the moratorium secured by a mortgage?

It is important to state that selling a property secured by a mortgage without the previous authorization of the financing bank is considered as serious breach of the contract even during the time of the moratorium, therefore in each case when the debtor plans to take any steps with the financed properties, he must agree with the bank and initiate business discussions.

The question might arise whether the government decree includes that the payment moratorium is applicable for the incoming purchase price, in other words, if there is no early repayment obligation. The position of Kapolyi Law Firm is that normally the payment moratorium applies to all payment obligations, including any repayments of the loan before the end term arising from any kind of legal rights (i.e. early repayment, termination, etc.).

  1. In connection to the above question, can the financing bank be obliged to disencumberment of the sold properties during the moratorium if the purchase price is not repaid earlier but it remains on the escrow (deposit) account designated by the bank? 

Dr. Ferenczy thinks that banks cannot be obligated to this, as the government decree states that any modification of the completion period of the agreement shall modify all ancillary and non ancillary obligations regardless of the fact that the ancillary obligation was established in any legal contract or unilateral legal declaration by the parties. The government decree also stipulates that the term of contractual obligations and the term of undertaking such obligations shall be extended by the time of the moratorium. Based on the above we can conclude that although payment obligations do not need to be performed during the time of the moratorium, any other ancillary obligations ensuring those obligations (mortgages, security deposits, individual guarantees, etc.) shall remain in effect during the total period of the moratorium, thus the financing bank may validly claim that it is not obliged to alleviate its system of securities – by cancelling certain securities during the time of the moratorium.

The Kapolyi Law Firm draws the attention to the fact that early repayment on any credit or loan agreement is always possible.  The debtor cannot be put into a position whereby it cannot execute a business scheme because of the moratorium that he could have executed or wished to execute regardless of the moratorium.

  1. What kind of general conduct is proposed to be followed by the debtor during the moratorium?

In case of any credit, loan or financial lease agreements, it is always advisable to meet with the financing bank and discuss the mutual intentions during the moratorium. Dr. Ferenczy suggests that it is in the interest of both parties that – in order to prevent any contractual breech by the debtor –  each party is informed on any steps taken and viewpoints during the time of the state of emergency which has been thus far unknown in Hungary, and that the mutual trust should remain between the parties during the time of the moratorium. It is also advisable to refrain from any conduct or actions during the moratorium that might encourage the creditor to declare the lines of credit or the loan matured before the repayment deadline (after the end of the moratorium). In case these expirations coincide with the term of the moratorium, the repayment obligation of the debtor would have an immediate effect right after the end of the moratorium, which is manifestly not in the interest of the debtor.