Can foreign law apply to a loan made to a borrower in Vietnam? The answer generally is yes, if the lender is an offshore financial institution and the borrower is a Vietnamese entity. Complications arise, however, if the foreign lender has an onshore presence.

Before we deal with the complications, we should understand what it means to apply foreign law. The law chosen seeks primarily to govern the validity, enforceability and interpretation of the transaction documents. Ultimately, it governs the contractual rights and liabilities of the transaction parties: for example, contract interpretation, obligation to perform, damages (including punitive and compensatory damages), confidentiality, novation or assignment of rights and obligations, etc.

Reference to foreign law does not mean that local law does not also apply. Even if the parties select foreign law, many Vietnamese laws also apply to the same transaction. This article discusses how and to what extent, foreign law can be made to govern contractual rights and liabilities when a foreign lender extends a loan to a Vietnamese borrower, through its branch in Vietnam.

Choice of law under the Civil Code: The rule that foreign governing law not be contrary to Vietnamese law.

Parties to a transaction are generally permitted to choose foreign governing law under the two principal bodies of Vietnamese contract law, namely, the Civil Code and the Commercial Law. First, we discuss the right of the parties to choose foreign law under the Civil Code. We then address the impact of other laws that are relevant to a loan, including the Commercial Law and banking laws.

We start with Article 759 of the Civil Code. It provides that:

The provision that such agreement "... not [be] contrary to the provisions of this Code and other laws of the Socialist Republic of Vietnam" is ambiguous and awkward. What does it mean? It is unclear what cannot be contrary to "the laws of...Vietnam". Does it refer to the agreement to apply foreign law as the governing law of the contract? For example, both the Civil Code and the Land Law state clearly that land-related transactions must be governed by the law of Vietnam. Thus, an agreement to apply foreign law to a land-related transaction is obviously contrary to the law of Vietnam. However, it could also be interpreted to mean that "foreign [contractual] law" itself cannot be contrary to Vietnamese law.

Decree No. 138/2006/ND-CP of the Government dated November 15, 2006 provides guidance on implementation of the 2004 Civil Code on the matter of civil relationships which involve foreign elements ("Decree 138"). Article 4 of Decision 138 provides that:

We will see below what exactly is a "foreign element". But for the moment, we simply point out that, in case the language of a specialized law of Vietnam which governs an issue is different from a general principle stated in the Civil Code, the language of the specialized law prevails.

There are several specialized laws that fall below the Civil Code in hierarchy. The Commercial Law is the broadest such law, and it governs commercial contracts. However, before we consider the Commercial Law, one contractual rule of construction is that a commercial contract in a particular industry is primarily and specifically subject to the laws of that industry. One example is the Law on Oil and Gas. The Law on Oil and Gas provides that the parties to an oil and gas contract must follow a Model Contract issued by the Government. It further provides that the parties may include additional terms and conditions, provided that the additional terms and conditions are "not contrary to this Law and to the law of Vietnam". These rules clearly limit application of foreign law to an oil and gas contract because, irrespective of the general theory on the matter of which law applies, the terms and conditions of an oil and gas contract must follow the Government mandated Model Contract.

A loan, by its nature, is a commercial transaction in the banking industry. Therefore, the Law on Credit Institutions along with its implementing regulations, is the specialized law that will prevail over the Commercial Law. However, the Law on Credit Institutions and its implementing regulations, do not contain either a model contract, nor rules on loan agreements, nor rules on the choice of law, nor any rule that would override the general application of the Commercial Law. Since no specialized industry laws apply to a loan agreement, the Commercial Law is the only relevant specialized law.

Choice of law under the Commercial Law: The rule on basic principles of Vietnamese law.

Article 5.2 of the Commercial Law allows the parties to choose foreign law in case one party is a foreign element. The language which allows the parties to choose foreign law is slightly different and clearer than Article 759 of the Civil Code:

Although the language of the Commercial Law is much clearer, it is not perfect. What constitutes "the basic principles of Vietnamese law"? A commercial contract is subject to both the general "basic principles" as set out in Chapter II, Part One of the Civil Code, and the "basic principles" as they specifically apply to a commercial transaction as set out in the Commercial Law. Both Codes contemplate that the parties are equal in the transaction and have freedom to negotiate and agree to terms. In addition, the Civil Code refers to the principle of legal compliance in "establishment and execution of civil rights and performance of civil obligations" (see our discussion regarding legal compliance in the sub section below) , while the Commercial Code refers to the principle of application of common commercial practices². However, the grounds to challenge application of foreign law as incompatible with the "basic principles" of Vietnamese law would likely be narrow.

By permitting the application of foreign law, assuming that it is not contrary to the "basic principles" of Vietnamese law, the Commercial Law is clearly more permissive than the Civil Code. Stated differently, the language of the Commercial Law permits the parties to a commercial transaction to choose foreign law to govern the terms and conditions of the transaction as long as "basic principles" of Vietnamese law are not violated. As we are dealing with specialized contract law, the Commercial Law applies. The Commercial Law permits the application of foreign law under certain conditions, and it does so in fairly clear language.

Contract performed in Vietnam

There may be a concern in connection with a contract that is performed in Vietnam. Is the choice of foreign law, either pursuant to Article 759 of the Civil Code or to Article 5.2 of the Commercial Law, restricted by Article 769.1 of the Civil Code which states:

The first sentence clearly allows the parties to choose a foreign law to govern their contractual rights and liabilities. The last sentence is ambiguous. With the foregoing discussion as background, does the language "[be] subject to" require "compliance with" the law of Vietnam? or does it require that the parties' rights and liabilities under such contract be governed by the contractual law of Vietnam? It is unclear whether it restates this rule of governing law as it applies to a contract performed in Vietnam, or whether it sets out an additional rule as it relates to compliance with the law of Vietnam. Nevertheless, even if Article 769.1 is interpreted in the most restrictive way, ie, a contract must be governed by the contractual law of Vietnam if (i) it is executed in Vietnam, and (ii) it is entirely performed in Vietnam, the two conditions involve jurisdiction -- the jurisdiction in which a contract is executed, and the jurisdiction in which the contract is performed. That is, the parties to a contract may avoid applying the laws of Vietnam by executing the contract in a foreign country, even though the contract may be performed in Vietnam. We can speculate on what was the intention of the language, but irrespective of the intention, the words are clear.

"Foreign element": Is an onshore branch of a foreign bank a "foreign element"?

To be able to apply foreign law, a "foreign element" must exist. This issue remains at the center of the debate on the application of foreign law to a loan made by the branch of a foreign bank. Article 758 of the Civil Code defines a "civil relationship with a foreign element" to be "a civil relationship in which at least one party is a foreign body, entity or individual..." (emphasis added).

The critical question is whether an onshore branch is a "foreign element"? If the lender is a foreign bank and the borrower is a Vietnamese entity, the requirement for a "foreign element" is clearly met and the application of foreign law is clearly permitted. However, the case of a loan made through an onshore branch of the same foreign bank, at first glance, seems less clear.

We refer to Article 3.4 of Decree 138 in order to determine whether a "foreign element" exists in a transaction. It defines a "foreign body, entity" to be:

Is an onshore branch of a foreign entity, a Vietnamese entity? Although the onshore branch of a foreign bank is established under Vietnamese law, as we will see below, it is clearly not a legal entity. Thus, if an onshore branch is the lender, has the requirement of a "foreign element" been met? To answer the question, we refer to the Civil Code and Decree 22/2006/ND-CP dated 28 February 2006 on the Organization and Operation of Branches of Foreign Banks, Joint Venture Banks, Wholly Foreign Owned Banks and Representative Offices of Foreign Banks in Vietnam ("Decree 22").

Article 92 of the Civil Code deals with branches in general. It provides expressly that "a branch is not a legal entity". Rather, it is:

and

The status of a branch of a foreign bank is specifically dealt with in Decree 22. Article 7.4 defines a branch of a foreign bank as:

That is, at its root, the parent, which is a foreign legal entity, is the foreign element. It is also the real party at interest. The fact that the branch is an onshore presence of the foreign parent, in our view, is not relevant; rather, it is the status of the branch--as defined in the law--as a dependent unit of the foreign parent that matters. We reframe the facts. As an onshore but dependent unit of a foreign parent bank, the branch is a subpart of the required "foreign element". While the onshore branch executes the loan agreement and disburses the loan, it acts for and on behalf of the foreign parent. It discharges the foreign parent's liabilities to, and enforces the foreign parent's rights against the Vietnamese borrower. The foreign parent is the ultimate obligor, is ultimately responsible for performance of the contractual liabilities made by the branch, and ultimately enjoys the contractual rights owed to the branch.

A comprehensive consideration of Article 92 of the Civil Code and Article 7.4 of Decree 22, lead to the clear conclusion that the branch and its Vietnamese borrower are free to choose a foreign law to govern the contractual rights and liabilities of the foreign parent.

Rule on choice of contractual law vs. Rule on compliance with the law of Vietnam

An onshore branch, in extending a loan to a Vietnamese borrower, must comply with Vietnamese law as it regulates the activities of a foreign bank's branch in Vietnam. As stated in Article 2 of Decree 22,

This language reinforces our view. We can identify certain provisions of the Law on Credit Institutions and its related regulations that are external to the contractual rights and liabilities of the branch -- acting on behalf of its foreign parent -- and the borrower, but that must be complied with. These are regulatory requirements on how and to what extent the branch can be organized and can operate in Vietnam. They include, for example, rules on banking licenses, business registration, transactional locations, capital adequacy, lending limit, loan currency, non-performing debt provisions, taxation, etc.

Thus, while an onshore branch of a foreign bank must comply with Vietnam's operating requirements, it is equally clear, by virtue of the Civil Code and the Commercial Law, that the parties to a loan contract (including a loan contract with an onshore branch) in which a foreign element is present, are free to choose a foreign law to govern their rights and liabilities.

1. Part Seven addresses civil relationships involving a foreign element. Article 759 appears in Part even.

2. Art 13 of the Commercial 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.

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