The adoption of the Financial Collateral Law last year has rendered the granting and enforcement of security interests over cash and financial instruments considerably easier. By adopting the Financial Collateral Law, Latvia has implemented the directive 2002/47/EC of the European Parliament and of the Council of 6 June 2002 on financial collateral arrangements. The law entered into force on 25 May 2005.
The law introduces the notion of financial collateral which is defined by the law as cash or financial instruments that serve as collateral for the performance of financial obligations under a financial collateral agreement. Cash is in turn defined by the law as money credited to an account in any currency. Since the law does not provide for any specific definition of financial instruments, the definition set forth in the Financial Instruments Market Law applies that covers inter alia publicly issued shares, debt securities, share certificates and any other transferable securities.
The law distinguishes two types of financial collateral agreements: title transfer financial collateral agreement and financial pledge agreement. In contrast to the title transfer financial collateral agreement which is an agreement that provides for the transfer of title to the financial collateral to the collateral taker (including repurchase agreements), the financial pledge agreement is an agreement which provides for pledge of the financial collateral in favour of the collateral taker while the full ownership of the subject of financial collateral remains with the collateral provider.
The scope of the law is limited to events where at least one of the parties belongs to any of the categories stipulated by the law, including inter alia financial institutions supervised by a competent finance and capital market supervision authority of the Republic of Latvia or EU, EFTA or OECD Member State. As such, the law governs the financial collateral where one of the parties is a financial institution but the other party is a company, individual or other non-financial services entity.
According to the law, the provision of financial collateral is subject to it being delivered, transferred, held, registered or otherwise designated so as to be in the possession of the collateral taker or of a person acting on the collateral taker’s behalf. More specifically, the law prescribes that financial collateral needs to be perfected by a record in the cash or securities account with the financial institution holding that account.
As to the enforcement of financial collateral, the law sets forth different procedures in respect of cash and financial instruments. Financial collateral over cash can be realised by setting off the amount against or applying it in discharge of the relevant financial obligations. Financal collateral over financial instruments can be realised by sale or appropriation and by setting off their value against, or applying their value in discharge of, the relevant financial obligations. Appropriation is however possible only if the parties have explicilty agreed this and on the valuation of the financial instruments. In addition, the law recognises the effectiveness of close-out netting provisions.
The principal gain from the adoption of the law is the reduction of the administrative burden required for the purposes of perfection of security interests over cash and financial instruments in comparison with the previous regime that required registration of security interests with the commercial pledge registry maintained by the Enterprise Register. Also, the law has introduced the possibility to enforce security interests over financial instruments by appropriation which was previously impossible under the Commercial Pledge Law.
While the newly introduced perfection procedures have improved the position of financial institutions willing to acquire security interest over specific financial assets, these procedures have made it more cumbersome to perfect security interests over all of the collateral provider’s assets. Different from the previous security interest perfection regime where a singe all-embracing comercial pledge could be created over all of the assets of the pledgor (except for real estate and financial instruments which had to be pledged separately), under the new perfection procedures the bank accounts, deposits and other financial assets are not subject to general pledges on all assets and need to be pledged separately. This may require multiple perfections and has increased the risk that security interests are avoided by use of non-pledged bank accounts.
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.
