February 2020 – On 10 January 2020, new amendments to the "Law on Rehabilitation Procedure and Bankruptcy" dated 7 March 2014 No. 176-V (the "Old Law") and related legal acts came into effect by the Law dated 27 December 2019 No. 290-VI (the Old Law, as amended, the Amended Law). The new amendments aim to facilitate and expedite the process for unsuccessful businesses to be liquidated. The main features of the Amended Law are outlined below.

Conclusion on financial stability by a temporary manager/administrator

Insolvency is now determined by a court on the basis of a conclusion on financial stability prepared by a temporary administrator or manager, on the basis of guidelines to be developed by the authorised body (the State Tax Committee). The Amended Law recognises three classes of financial stability to which a debtor can belong:

  • Class I are financially stable debtors, therefore there is no basis for the recognition of such companies as a bankrupt.
  • Class II are debtors associated with financial risk, but which have potential to restore financial stability, and therefore a rehabilitation procedure is implied.
  • Class III refers to financially unstable debtors, which leads to the debtor's recognition as bankrupt.

Under the Old Law, the courts were burdened with the need to analyse financial statements, and it is hoped that, by shifting the analysis to insolvency managers/administrators, this will help courts be more effective.

Amended insolvency tests

The previous "inability to pay its debts" test has been amended. The Amended Law introduces two different insolvency tests: 'temporary inability to pay its debts' (vremennaya neplatezhesposobnost') has been introduced for rehabilitation and debt restructuring, while 'persistent inability to pay its debts' (ustoichevaya neplatezhesposobnost') is the basis for bankruptcy.

  • Temporary inability to pay its debts

Inability is temporary when a debtor has not fulfilled one or more obligations toward first-priority or first-line creditors (i.e., generally, employees) within three months from the date when they are due or, for other creditor lines of lesser priority, if the obligations are not fulfilled within four months from the date they are due.

  • Persistent inability to pay its debts

Inability is persistent if a debtor's liabilities exceed the value of its property as of (i) the date of application for insolvency and/or (ii) the beginning of the year of filing an application (or the preceding year if the application is filed in the first quarter).

Under the Old Law, the insolvency test was the same for rehabilitation and bankruptcy and was the non-payment of an obligation when due for certain periods of time for an amount exceeding certain thresholds (both periods and thresholds depended on the priority of the creditor involved).  There was no 'negative capital test' of the type currently introduced for bankruptcy. This simplification of the insolvency test, by eliminating thresholds and introducing the negative capital test commonly used worldwide, should decrease the number of documents needed to present to a court to initiate insolvency proceedings, presumably better identify potential bankruptcies, and otherwise streamline the insolvency process.

Removal of the accelerated rehabilitation procedure

The Amended Law excludes the accelerated rehabilitation procedure from the scope of available insolvency options. This procedure was intended to cover only part of the outstanding liabilities of the debtor: under the Old Law, the liabilities eligible for accelerated rehabilitation should form one or more groups of homogenous liabilities, and the procedure could be initiated only by a debtor who secured approval of creditors having more than 50 per cent of claims within each such group. The intention of accelerated rehabilitation was to simplify insolvency procedures; however, this option was not widely used and, in practice, its implementation was mixed. Among others, the accelerated rehabilitation procedure partially prevented minority creditors from putting forward claims against a debtor.

The removal of the accelerated rehabilitation procedure may help minority creditors to adequately proceed with the rehabilitation procedure.

Removal of state support measures

Under the Old Law, implementation of state support measures to a debtor in rehabilitation led to substantial limitations and carve-outs from the general rehabilitation regime. For example, rehabilitation plans (both in regular or accelerated rehabilitation) were to comply with state support measures; certain limitations to the activities of the debtor in accelerated rehabilitation were not applicable; and, importantly, the debtor, acting with the consent of the creditors' committee, was entitled to apply for the suspension of regular rehabilitation proceedings until state support measures were implemented. State support measures may include refinancing of existing liabilities of the debtor, direct finance aid, capital injection, temporary management over the debtor's affairs and certain other measures. The Amended Law has removed all references to state support measures.

The removal of state support measures should help create a regime with equal treatment in respect to all business entities in case of rehabilitation.

New collateral takeover rules

Pursuant to the Amended Law, secured creditors may now choose whether or not to take collateral in-kind. The following conditions should be complied with if a secured creditor decides to take collateral:

  • an appraiser determines the price of the collateral. If the valuation of the collateral minus paid salaries as mentioned below is more than the amount of secured obligations, the difference should be paid by the secured creditor to the bankruptcy estate. If vice versa, the difference should be paid in the fourth priority line, i.e., the secured creditor becomes an unsecured creditor for the amount of the difference;
  • prior to obtaining title over the collateral, the secured creditor should re-pay all administrative expenses related to the collateral and its examination;
  • if there is no other property of the debtor to pay these claims, prior to obtaining title over the collateral, the secured creditor should re-pay salaries within the minimal monthly salary amount set out in the budget legislation for the respective year (currently, KZT 42 500 or approximately US$112) and for a period of not more than three months, in total not exceeding 15 per cent of the valuation of the collateral.

We see this as a quite positive development that can be useful for secured creditors. Since the adoption of the Old Law in 2014, this is the third time the rules on secured creditors have been amended, and this time hopefully the amendments have hit the target. For example, under one of the previous amendments, secured creditors were required to re-pay all first-line creditors without any cap in order to be able to take the collateral.

Changes in bankruptcy priorities

The Amended Law introduces a new (sixth) category of claims: late-submitted claims, which come after all other creditor lines and before distributions to shareholders. The time period for submission of all claims is one month following publication of the announcement on the procedure for the submission of claims. Late claims of all priority lines, except for the first-priority line, currently go to the sixth line.  Late first-priority line claims (salaries, salary related claims and certain other payments) may still be repaid ahead of other creditors if filed before final settlement with all other creditors.

The introduction of the sixth line is a rather positive step that clarifies the legal position of late-submitted claims.

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.