Abstract
A fresh start is the essence of personal insolvency proceedings. In the last few decades, policymakers in the United States of America and European countries have focused on establishing effective and efficient insolvency proceedings which would address the particular needs of insolvent natural persons. Previously, personal insolvency proceedings aimed to address the social and economic problems of insolvent debtors (consumers) which were not able to meet their financial obligations in time. However, the latest developments in this area reveal that specific rules should be established in insolvency law to tackle the insolvency problems of individuals who incur most of their debts from economic activities (entrepreneurs’ insolvency). The adoption of the Directive on Restructuring and Insolvency is the first attempt in European Union law to counter the challenges of the insolvency of entrepreneurs. This article analyses the main elements of a fresh start in European Union insolvency law, how this phenomenon has evolved and whether the European Union insolvency law provides an effective fresh start for insolvent entrepreneurs.
Introduction
Insolvency law in the business law of the United States of America (hereinafter – US) and European Union (hereinafter – EU) was developed to encourage people to create businesses, hire employees, pay taxes and thus contribute to the improvement of the economy as a whole. 1 The extensive use of credit for small businesses provides more chances for entrepreneurs to pursue economic activities without establishing legal entities. 2 The possibility to conduct business without the establishment of a legal entity (incorporation) is a tempting solution to avoid complicated corporate governance issues, such as minimum share capital, and allows entrepreneurs to use simplified accountancy and financial reports and other related matters. This also allows entrepreneurs to more easily transfer their economic activities to a country with a more favourable business regime. Nevertheless, despite its flexibility of governance, entrepreneurship is fragile to economic turbulence in the market. 3
Effective insolvency laws should provide a fresh start (a second chance) to a debtor to pursue economic activities when insolvency proceedings are accomplished. 4 The fresh start of an insolvent entrepreneur is one of the core requirements for effective insolvency proceedings. 5 In case a business fails, the individual behind it should be able to move on with their life without living in shame or poverty.
The need to grant an entrepreneur a discharge from debts and support his/her reintegration into business does not fall under the traditional canons of corporate insolvency law. Corporate insolvency proceedings aim to liquidate a company promptly and satisfy creditors’ claims from the proceeds of the realization of assets in case of bankruptcy proceedings. If a company is solvent (viable), restructuring proceedings should be commenced which facilitate negotiations between creditors and a debtor, and the viability of a debtor is restored by implementing a restructuring plan. However, insolvency proceedings of natural persons, due to their specific subject (a debtor is a natural person) and the surrounding social and economic peculiarities, raise questions: What is the goal of this process? What are the economic and social goals of granting the right to discharge of debts to a natural person (an entrepreneur)? Is the purpose of this process only to release a debtor from the payment of debts – or, on the contrary, is it intended to ensure the greatest possible satisfaction of creditors’ claims?
With the adoption of the Directive on Restructuring and Insolvency (hereinafter – the Directive), 6 the discharge of debt of individuals (consumers and entrepreneurs) was not harmonized in EU law. However, the need for the harmonization of insolvency proceedings concerning individuals engaging in economic activities (entrepreneurs) has been on the agenda of the EU legislator for a long time, 7 and the adoption of the Directive represents a new European approach to businesses’ failure and insolvency. 8 Though insolvency law remains the domain of the national laws of Member States, the Directive aims to provide solutions for the insolvency problems of entrepreneurs and harmonize certain aspects of these proceedings, but it does not establish a European discharge procedure.
In personal insolvency proceedings, two models stand out. The first is the Anglo-American approach, which provides a fresh start for everyone who wishes to do so. The main requirement for the opening of US bankruptcy proceedings is the financial situation of the debtor (insolvency). According to the rules of commencement of personal insolvency proceedings in the US, one may argue that it is relatively easy for individuals to file for bankruptcy and, as a consequence, have their debts completely discharged while keeping a portion of their assets. 9 The second approach is followed in European countries and it is based on the idea of ‘earned’ fresh start which is designed for honest (good faith) debtors. 10
The relevance of this topic is also revealed by the Proposals of the Directive Harmonising certain aspects of insolvency law (hereinafter – Proposal for the Insolvency Directive) announced on 7 December 2022. 11 Chapter IV of this proposal establishes certain rules for the discharge of entrepreneurs in simplified winding-up proceedings. It also aims to address the legislative gap which exists in EU insolvency law. Namely, it seeks to address the issues related to insolvency proceedings which are not covered by the Directive and the Regulation on Insolvency Proceedings (hereinafter – EIR). 12 The UNCITRAL Legislative Guide on Insolvency Law for Micro- and Small Enterprises (hereinafter – UNCITRAL Legislative Guide), published in 2022, also includes provisions on the discharge of debt of entrepreneurs. Thus, it is relevant to assess whether the model of the discharge procedure established in the Directive is (in)compatible with the relevant rules in the Proposal for the Insolvency Directive and the UNCITRAL Legislative Guide.
This article aims to address the reasons for and basis of a fresh start in the discharge procedure in EU insolvency law and analyse whether the proposed tools in the Directive indeed provide an effective fresh start. The article consists of four parts: first, it analyses the origins of a fresh start in personal insolvency proceedings; second, it assesses the reasons for the need to harmonize the rules on a fresh start in EU law; third, it analyses the elements of a fresh start provided in the Directive; and fourth, it presents suggestions for the further possible reformation of the discharge procedure in EU insolvency law.
The origins of a fresh start
A fresh start as the aim of personal insolvency proceedings first appeared in the countries of the common law tradition. Early insolvency laws primarily required that creditors should be repaid, while the interests of the debtor were ignored. 13 However, this position gradually changed. One of the first examples of a discharge procedure can be found in the Statute of Anne, adopted in 1706, 14 which provided debt relief for merchants failing to perform financial contractual obligations. The justification for debt discharge was that the provision of credit to a merchant should also be coupled with some risk that it may not be repaid, and a debtor should pledge this estate, not future earnings, and certainly not their personal liberty. 15 Such an approach was based on the perception that the restriction of the debtor's rights (such as imprisonment for the failure to pay debts) does not reimburse creditors. 16 The principal idea of this act is still found in the modern approach to the insolvency problems of entrepreneurs, which is based on the debtor's reintegration into business instead of their punishment. The introduction of debt discharge for traders (merchants) in the early 1700s in the countries of the common law tradition signified an important shift in personal insolvency law: from the dominant interests of creditors in receiving the payment of debt and punishing the debtor, to the protection of the interests of the debtor by granting them the chance to return debts and freely pursue new activities.
In US bankruptcy law, a fresh start is a long-standing rule, but it is not found in the statutes and there is no constitutional right to obtain a discharge of one's debts in bankruptcy. 17 The right to bankruptcy is perceived not as a basic constitutional right, but as a right relevant for the proper development of social and economic relations. 18 The concept of a fresh start was recognized by the US Supreme Court in the landmark case of Local Loan Co. v. Hunt (1934), in which the court stated that US bankruptcy law is based on the premise that it gives to the honest but unfortunate debtor who surrenders for distribution the property which he owns at the time of bankruptcy a new opportunity in life and a clear field for future effort, unhampered by the pressure and discouragement of pre-existing debt. 19 Such a perception of bankruptcy law is based on the premise that an honest debtor who has encountered insolvency problems should be provided with the opportunity to pursue new activities without the burden of pre-existing debts. This opportunity is provided to a debtor who accepts the surrender of their assets to satisfy creditors’ claims. More importantly, a fresh start allows debtors to obtain relief from debt despite less-than-full creditor repayment. 20 According to Thomas J. Jackson, the main advantage of bankruptcy for the individual is the discharge of debts. This discharge not only releases the individual from past financial obligations, but also provides protection from other adverse consequences triggered by insolvency. 21
The right to the discharge of debts in US bankruptcy law is not absolute, meaning that a debtor should not expect to be discharged from all pre-existing debts. 22 Such a list of non-dischargeable debts is established in Section 523 of the US Bankruptcy Code. The necessary balance of the interests between the debtor and creditors was acknowledged by the US Supreme Court in the recent Bartenwerfer v. Buckley ruling, which concerned a prohibition on discharging debts which arose due to fraudulent acts. The court found that the right to discharge requires a careful balance between the interests of the debtor and creditors and emphasized that the Bankruptcy Code strikes a balance between the interests of insolvent debtors and their creditors. It generally allows debtors to discharge all pre-bankruptcy liabilities, but it makes exceptions when, in Congress's judgment, the creditor's interest in recovering a particular debt outweighs the debtor's interest in a fresh start. Thus, exceptions to discharge should be confined to those plainly expressed. 23 The search for a balance between the interests of the debtor and creditors reveals that though personal insolvency proceedings primarily aim to deal with the insolvency problems of the debtor, the interests of creditors should also be properly protected. The protection of creditors’ interests is reflected primarily in the list of non-dischargeable debts which a debtor shall continue to pay even after a successful discharge procedure, and their rights to oppose the discharge procedure in the first place. Thus, the approach of US bankruptcy law to the discharge of debt is based not only on the economic re-start of the debtor, but also on the normalization of debtor-creditor relations. 24
Personal insolvency has been transformed from a commercial law tool into a tool addressing mass household over-indebtedness. Currently, the primary aim of personal insolvency proceedings is debt relief to debtors with few assets and low incomes, and the provision of a fresh start which aims to restore debtors’ solvency and stimulate economic productivity and social inclusion. 25 The newest tool to tackle the insolvency problems of small businesses (entrepreneurs) in the US was marked with the adoption of the Small Business Reorganization Act in 2019, which amended Chapter 11 of the US Bankruptcy Code and adjusted it to small businesses. The aim of this act is to streamline the process by which small business debtors reorganize and rehabilitate their financial affairs. 26 One of the main goals of this act is to find a more appropriate balance between traditional insolvency proceedings for debtors (including entrepreneurs) as established in Chapters 7 and 11 of the US Bankruptcy Code. However, though the amendments to the US Bankruptcy Code aim to improve restructuring proceedings for smaller businesses, the code does not provide any specific rules to tackle the insolvency problems of entrepreneurs. Thus, the main tools for individuals pursuing economic activities remain Chapter 7 and 11, which provide two types of bankruptcy proceedings, including the discharge of debts.
The principal idea of US bankruptcy law, especially the rules on restructuring proceedings, are rightly regarded as the model to which European restructuring laws should aspire. 27 Restructuring mechanisms, including Chapter 11 of the US Bankruptcy Code, are designed to keep a business alive so as to preserve the additional value of this going concern. 28 The influence of US bankruptcy proceedings on the Directive is sheer – not only regarding the rules on the discharge procedure, but also in terms of other aspects of restructuring proceedings, such as the preparation and confirmation of a restructuring plan, automatic stay, new financing and the protection of executory contracts. The Directive is significantly inspired by the idea of a fresh start (though the text of the Directive refers to this concept as a second chance), which serves as the cornerstone of personal insolvency proceedings in US bankruptcy law. Thus, the concept of a fresh start rule in US bankruptcy law may play a significant role for the interpretation of this concept under the Directive.
To sum up, personal insolvency proceedings have transformed from the protection of creditors’ interests to the need to address the social and economic problems caused by insolvency to a debtor. The social and economic problems caused by the insolvency of natural persons have shaped the approach of policymakers towards how insolvency proceedings should be conducted. A fresh start as the aim of the discharge procedure has been recognized in US bankruptcy law, the UNCITRAL Legislative Guide and also the Directive. The development of the fresh start concept shows that it is primarily based on the discharge of debts, but also requires that a balance is established between the interests of an insolvent debtor and their creditors.
The reasons for a common approach to a fresh start in EU insolvency law
The development of personal insolvency laws in European countries was different from that of US bankruptcy law. In the last decade of the 20th century, various countries in Europe (including the Member States of the EU) adopted national laws to deal with the problems of insolvency of natural persons in order to address social problems such as poverty and social tensions deriving from unlimited enforcement activities against a debtor. 29 The legitimate social, economic and other goals of a debt relief were also recognized by the ECtHR in the case of Bäck v. Finland, 30 which showed that personal insolvency proceedings 31 can justify the restriction and termination of a creditor's right to property (the right to receive a claim) based on the public interest, which derives from legitimate social, economic and other goals. 32 The need to address the problem of insolvency of a natural person was also recognized by the Council of Europe in 2007 with the adoption of the Recommendation on Legal solutions to debt problems, which also emphasizes the social problems caused by over-indebtedness of natural persons. 33 Furthermore, in 2014, the European Economic and Social Committee announced its opinion on the prevention and treatment of general personal over-indebtedness. 34
After the recognition of the need for personal insolvency proceedings in various countries in Europe, this area of law also attracted the attention of EU policymakers. However, the development of personal insolvency proceedings has been based on the need to address the insolvency problems not of consumers, but entrepreneurs who incur debts (most of them) from professional (business) activities. Support for entrepreneurship activities and the reintegration of insolvent entrepreneurs into business was first announced in the Single Market Act II of 2012, which emphasized the need to establish rules to facilitate the survival of businesses and present a second chance for insolvent entrepreneurs. The same goal was reiterated in the Recommendation of the European Commission in 2014 35 and is now found in the Directive. Moreover, the European Commission recently announced the European Entrepreneurship Competence Framework (EntreComp), which aims to bringing greater understanding and meaning to entrepreneurial competence and highlights the value, opportunity and innovation that flows from entrepreneurial competence. This is supported by three main mechanisms which could counterbalance turbulent economic effects on entrepreneurs’ economic activities in the EU: support for start-ups, the enhancement of the possibilities to transfer businesses and the provision of effective insolvency proceedings and a second chance. 36
Nevertheless, though the personal insolvency proceedings of entrepreneurs have legitimate economic and social aims, the question arises as to why the common approach to entrepreneurs’ insolvency problems is relevant at the EU level. Why have EU policymakers decided to add the discharge procedure to the Directive, which is primarily designed to harmonize the restructuring proceedings of enterprises in Member States? The Directive mentions that a harmonized approach to entrepreneurs’ insolvency is important for providing a second chance and reducing fraudulent forum shopping. However, it does not answer the question of why the national laws of the Member States (though different) on personal insolvency proceedings have an impact at the EU level, as the exercise of the fundamental rights of the EU should be a matter of harmonization. Thus, this article examines the (possible) reasons for the harmonization of the discharge procedure in EU insolvency law.
Cross-border implications to avoid fraudulent forum shopping
The common approach to the discharge procedure may have relevance on the cross-border aspects of insolvency. EU insolvency law regulates cross-border insolvency matters (Article 1(1) of the EIR) and establishes the common rules for jurisdiction, applicable law and the enforcement and recognition of judgments in insolvency proceedings. One the aims of the common rules on the jurisdiction of cross-border insolvency proceedings is to avoid fraudulent forum shopping (Recitals 5, 29, 31, Article 3 of the EIR). 37 Harmonization of the rules on these insolvency proceedings should ensure that the relocation of entrepreneurs to other jurisdictions between the Member States is avoided, and tackle the low recovery rates of creditors (Recital 5–6 of the Directive). A recent study also found that the divergence of the rules on debt discharge is one of the factors which may be considered for potential forum shopping strategies. 38
The competence of the EU to establish common rules on the discharge procedure derives from the functional and economic backgrounds of the Union. Pursuant to Recital 1 of the Directive, the discharge procedure is relevant for the proper functioning of the EU's internal market and the need to remove obstacles to exercise the fundamental freedoms, such as the free movement of capital. Due to the divergence of the regulation of personal insolvency proceedings, the treatment of and advantages for insolvent entrepreneurs differ substantially across the EU. The national rules giving entrepreneurs a second chance, by granting them discharge from the debts they have incurred in the course of their business, vary between Member States in respect of the length of the discharge period and the conditions for granting such a discharge (Recital 4 of the Directive). Such divergences of national law may have a negative impact on the protection of creditors and the avoidance of fraudulent forum shopping. For instance, the national law rules on the order of personal insolvency proceedings (time, costs and other aspects) and the list of non-dischargeable debts may provide significant impetus for an entrepreneur to move to another Member State, looking for a more favourable insolvency regime.
The rules on jurisdiction on opening insolvency proceedings in Article 3 of the EIR are based on the concept of the centre of main interests (hereinafter – COMI), which is designed to avoid fraudulent forum shopping. Article 3(1) of the EIR establishes that for an individual exercising an independent business or professional activity, the centre of main interests shall be presumed to be that individual's principal place of business in the absence of proof to the contrary. That presumption shall only apply if the individual's principal place of business has not been moved to another Member State within the 3-month period prior to the request for the opening of insolvency proceedings. In contrast to legal entities, the movement of the COMI of an entrepreneur should be easier in practice. Since the main criteria for the establishment of the COMI of an entrepreneur is based on the factual exercise of economic activities (in contrast to the objective criteria of the registration for legal entities and other individuals, which are based on the place of registration and place of domicile, respectively), it may be not complicated to move the COMI while also seeking abusive litigation tactics and a less favourable legal regime for creditors. Thus, harmonization of the national rules on the discharge procedure is also relevant for the reduction of incentives for the abusive movement of the COMI and the protection of legal certainty and predictability for creditors.
The avoidance (reduction) of abusive movement of the COMI is also one of the aims of the Directive. According to Recitals 9 and 72 of the Directive, the additional cost of risk-assessment and of cross-border enforcement of claims for the creditors of over-indebted entrepreneurs who relocate to another Member State in order to obtain a discharge of debt in a much shorter period of time should also be reduced. One of main incentives for the abusive movement of the COMI could be differences in the duration of personal insolvency proceedings among the Member States. However, the duration of personal insolvency proceedings, though being an important inventive to move the COMI, is only one of the factors that may tempt an entrepreneur to move the COMI. Other elements of personal insolvency proceedings are not mentioned in the Recital of the Directive as the goals of these rules.
The effective exercise of the fundamental freedoms of EU law
Another important element, though surprisingly not even mentioned in the Directive, is related to the problems associated with the exercise of the fundamental freedoms in EU law, such as the freedom of movement and establishment within the EU. The absence of such a reference in the Directive leaves unanswered the question of whether the Directive affects the exercise of these freedoms. EU law is based on the fundamental freedoms, which constitute the background for the economic union and domestic market. The problem of the effective exercise of these freedoms may arise when national laws establish criteria for the opening of a discharge procedure and (or) when an entrepreneur may have assets or creditors in different Member States.
The two main freedoms of EU law which may be affected by the divergent regulation of national law on personal insolvency proceedings are freedom of movement and establishment. Freedom of movement in the EU secures the right of persons, be it natural or legal, to conduct economic activity in every Member State under Article 45 of the TFEU. 39 The essence of this freedom is the right to choose in which Member State(s) an entrepreneur would seek to pursue economic activities. The effective exercise of freedom of movement may be impeded in case the national rules of the Member State would prevent and (or) deter an entrepreneur from leaving one Member State to seek employment and pursue entrepreneurship activities in another. Article 54 of the TFEU recognizes the freedom of primary and secondary establishment. The difference between these concepts is that in case of primary establishment a person leaves one Member State to reside and pursue economic activities in another Member State, whereas in case of secondary establishment a person maintains an establishment in one Member State and sets up a second establishment in another Member State. Thus, individual entrepreneurs are entitled to set up and operate a business in any Member State, while companies are allowed to open their branches, agencies and subsidiaries within EU territory. 40
There is very little case law of the CJEU interpreting the national rules on personal insolvency proceedings and the exercise of the fundamental freedoms of EU law. However, the problems of the exercise of the right to freedom of movement and the national rules on personal insolvency proceedings were discussed in the Radziejewski case. This case revealed how the divergence of the regulation of personal insolvency proceedings and the lack of a harmonized approach to these proceedings may harm the effective exercise of freedom of movement between Member States. In this case, the debtor was a Swedish national who had resided and worked in Belgium since 2001. Before moving to Belgium, he became insolvent and applied to the treatment centre (a governmental institution which provides debt relief for insolvent entrepreneurs) in Sweden. The earnings of the debtor were subject to an earnings attachment order administered by the enforcement service in Sweden. In 2011, the debtor applied to the enforcement service for debt relief (in essence, a discharge of debt procedure) in Sweden. However, the request was rejected on the ground that one of the conditions for the grant of such a measure was that the debtor had to be resident in Sweden, and no other statutory conditions for debt relief eligibility were analysed.
The main question in this case was whether such a refusal to grant debt relief (discharge of debt) based only on the grounds of nationality is compatible with Article 45(1) of the TFEU, which establishes that every EU citizen has the right to move and reside freely within the territory of the Member States. The main arguments put forward by the Government of Sweden to support the residence requirement as a necessary condition for the application for debt relief were relevant for the effective treatment of debtors’ assets and creditors’ claims. In case the debtor resided outside the country, it would be too burdensome for the competent public authorities to obtain necessary information to assess whether all the necessary conditions for debt relief are met.
Sharpston, the Advocate General, dismissed the arguments put forward by the Swedish government that the residence requirement for a debtor seeking to obtain debt relief was necessary to achieve the stated objective 41 and that even if the debtor possesses assets abroad, it is their location (rather than the debtor's place of residence) that will matter to the creditor wishing to enforce the payment of debts. 42 It was also found that the argument that the residence requirement ensures that the competent state authority can discover, collect, examine and verify information regarding the personal and financial position of the debtor was difficult. This is because the debtor resided outside of Sweden and it was thus difficult to obtain the necessary information, other than from the debtor himself, which would make verification of it troublesome. The Advocate General rebutted this argument by stating that in practice this could be an instance where there is no need to obtain information from outside the Member State of origin (in this case Sweden), 43 and in case such information was needed, it could be retrieved from the tax returns of the creditors 44 and (or) debtor. 45
The CJEU shared a similar approach, noting that such national regulation which makes the grant of debt relief subject to a condition of residence may dissuade an insolvent worker from exercising their right to freedom of movement. The court found that such a person will be dissuaded from leaving their Member State of origin to go and work in another Member State if by doing so they are denied the possibility of obtaining debt relief in that Member State of origin. 46 Regarding the argument that such a refusal of debt relief is lawful since it allows the financial situation of the debtor to be monitored by the state, the CJEU found that the Member State has a legitimate interest in monitoring the debtor's financial and personal situation before adopting a measure in their favour which would relieve them of all or part of their debts. 47 Moreover, the fact that certain information must be obtained from the debtor themselves cannot as such undermine the monitoring ability, 48 and the relevant information may be established without it being necessary for them to reside in Sweden, in this case. 49 Residence in another Member State does not seem to preclude monitoring, which is required after the grant of such a debt relief measure. 50 Consequently, the CJEU decided that national legislation which makes the grant of debt relief subject to the condition of residence in the respective Member State violates Article 45 of the TFEU. 51
This case reveals that the divergence of the national law rules on personal insolvency proceedings (or conditions for the commencement of such proceedings) in different Member States may impede the exercise of the fundamental rights of EU law, such as freedom of movement. Though it would be hard to argue that a mandatory requirement for residence in the state in which a debtor seeks to commence personal insolvency proceedings is compatible with freedom of movement, some practical questions in case of cross-border discharge procedures still arise. One of them, as analysed in the Radziejewski case, is the obtainment of information for the competent national authorities to grant a relief order. This may be relevant to ensure the effectiveness of such proceedings, the equal treatment of creditors and the maximization of the value of the debtor's assets. Indeed, it may now be common for a debtor to have assets in different Member States (or even outside them, in third countries), and in such a case the debtor's assets shall be found and brought into the insolvency estate. Information about their location and other relevant aspects is vital. However, as rightly pointed out by the Advocate General, what actually matters in such a case is the location of the assets, not the residence of the debtor.
The problems highlighted in the Radziejewski case are not directly addressed in the Directive. Since the Directive does not harmonize the grounds and procedure for commencement of the discharge procedure (with some exceptions related to the derogation to commence these proceedings under Article 24(1) of the Directive), Member States maintain the competence to establish any requirements for the commencement of personal insolvency proceedings. Nevertheless, this case shows that the lack of a harmonized approach to personal insolvency proceedings may hamper the exercise of the fundamental freedoms of EU law, and the common approach to personal insolvency proceedings may allow such restrictions to be avoided.
Providing common rules on a second chance to insolvent entrepreneurs
Before the adoption of the Directive, the provision of a second chance for insolvent entrepreneurs had already been found to be one of the main reasons for harmonization of the rules on personal insolvency proceedings in the EU. The Single Market Act II of 2012 52 may be regarded as the foundation for the rules on the discharge procedure since it established the need to facilitate the survival of businesses and present a second chance for entrepreneurs. The aims of this act were to encourage entrepreneurs to take reasonable risks, permit creditors to lend on more favourable terms, enable entrepreneurs to access a second chance and ensure speedy procedures of high quality in the interest of both debtors and creditors. It also emphasized the need to establish conditions for the EU-wide recognition of national insolvency and debt-discharge schemes, which enable financially distressed enterprises to again become competitive participants in the economy. Thus, though the Single Market Act II did not provide a detailed explanation of second chances and the means to achieve them, the aim of reintegrating insolvent entrepreneurs into business is one of the main goals of this document.
Following the initiatives established in the Single Market Act II of 2012, the European Commission announced the Recommendations on a new approach to business failure and insolvency in 2014, which reveal the intention of the EU legislator to provide a fresh start for insolvent entrepreneurs. Pursuant to Recital 3 of these recommendations, second chances, in particular by granting debtors discharge from the debts they have incurred in the course of their business, vary as regards the length of the discharge period and the conditions under which discharge can be granted. It was also recognized that discrepancies between the national restructuring frameworks and the national rules giving honest entrepreneurs a second chance lead to increased costs and uncertainty in assessing the risks of investing in another Member State, fragment the conditions for access to credit, and result in different recovery rates for creditors. 53 The Commission also noted that the divergences and inefficiencies of national laws may hamper the possibility of a second chance for honest entrepreneurs. 54 The main goals set out by the recommendation were the need to ensure that entrepreneurs should be fully discharged of their debts in a three-year period (with some exceptions for longer periods and certain types of debts) and automatic discharge of debt after the expiry of the discharge period when re-applying to a court.
The need to provide a second chance for entrepreneurs is explicitly recognized in the Directive: it mentions that honest insolvent or over-indebted entrepreneurs should benefit from a second chance (Recital 1 of the Directive). More specifically, it recognizes that a separate procedure for entrepreneurs to discharge their professional and non-professional debts would not enable them to benefit effectively from a second chance (Recital 21 of the Directive). It also notes the reasons (the effects of insolvency) for the lack of an effective second chance, such as disqualification of entrepreneurs from taking up and pursuing entrepreneurial activity and the continual inability to pay off debts (Recital 72 of the Directive).
The Directive clearly aims to provide insolvent entrepreneurs a second chance to maintain and pursue economic activities during and after the discharge procedure. Though the Directive acknowledges the need for a unanimous approach to a second chance for insolvent entrepreneurs in the Member States, it in essence addresses only one element of the discharge procedure which shall be harmonized: the duration of the procedure. One question which may also arise is whether the notion of a second chance is synonymous with a fresh start, or whether these terms are used differently. Both a second chance (Recital 1, 4, 21, 72) and a fresh start (Recital 5, 72 of the Directive) are mentioned numerous times in the Directive for the identification of the overall goals of the discharge procedure. It is difficult to speculate on why both of these terms are employed in the Directive, and there is no identification in the Directive or the preparatory documents as to whether these terms should possess different meanings. Thus, it seems that for the matter of interpretation of the Directive, these terms could be used as synonyms and could be used interchangeably.
Addressing the social problems caused by the insolvency of entrepreneurs
The negative impact of the commencement of personal insolvency proceedings has been recognized widely. The UNCITRAL Legislative Guide recognizes that fighting stigmatization because of insolvency should also be the key objective of a simplified insolvency regime. This is particularly important in the MSE insolvency context, where the name and reputation of individuals behind an MSE are closely linked to the business. 55 The prevailing concept in the Member States remains that the commencement of personal insolvency proceedings creates social stigmatization for a debtor. 56 To tackle this problem, the Single Market Act II (4) of 2012 57 recognized that the rules for a ‘quick and cheap’ discharge procedure are not enough to ensure the effective solution of debt problems, and that it is important to set up a route towards measures and incentives for Member States to take away the stigma of failure associated with insolvency and to reduce overly long debt discharge periods.
The Recommendation of the European Commission on a new approach to business failure and insolvency also mentioned that the effects of bankruptcy – in particular the social stigma, legal consequences and the ongoing inability to pay off debts – constitute important disincentives for entrepreneurs seeking to set up a business or attain a second chance, even if the evidence shows that entrepreneurs who have gone bankrupt have more chance of being successful the second time around. Steps should therefore be taken to reduce the negative effects of bankruptcy on entrepreneurs by making provisions for the full discharge of debts after a maximum period of time. 58
The Directive acknowledges that one of the effects of the commencement of the discharge procedure is social stigma (Recital 72 of the Directive). Though the Directive does not explain what this concept actually means, it is first relevant that EU policymakers also agree that the commencement of the discharge procedure results in the negative attitude of society towards a debtor. The rules on the discharge procedure aim to shift the dominant negative approach towards this procedure by the public. However, this should not mean that the Directive only aims to help debtors altruistically. The basis for the discharge procedure lies in the idea that the interests of creditors should not dominate over the interests of the debtor, and a fair balance between these interests should be achieved instead. 59
The elements of a fresh start under the Directive
The Directive establishes various provisions on how a fresh start (or second chance) of entrepreneurs should be achieved in the discharge procedure. However, though the Directive indeed covers many aspects of personal insolvency proceedings, 60 the lack of mandatory provisions triggers the question of whether it will achieve the established goals. The Directive provides a lot of discretion for Member States in deciding how even the main elements of the discharge procedure should be regulated and establishes only a few mandatory requirements. As is mentioned in the Proposal for the Insolvency Directive, the Directive establishes minimum standards on a second chance for failed entrepreneurs which do not address the way insolvency proceedings are conducted. Thus, the Directive is only supposed to provide guidance as to how the discharge procedure should be conducted and a fresh start should be provided for insolvent entrepreneurs. In this section, the main elements of a fresh start established in the Directive are presented.
Access to the discharge procedure
Pursuant to Article 20(1) of the Directive, Member States shall ensure that insolvent entrepreneurs have access to at least one procedure that can lead to the full discharge of debt. Recital 73 establishes that the Member States should be able to decide how to obtain access to discharge, including the possibility of requiring a debtor to request a discharge. The right to access the discharge procedure under the Directive should be interpreted not as a legal ground (basis) which should be satisfied in order to check whether an applicant is eligible for such a procedure, but as a requirement for the Member States to provide an opportunity for insolvent entrepreneurs to apply for such a procedure.
The word ‘access’ could also be interpreted as a requirement for Member States to establish separate personal insolvency proceedings which provide full discharge of outstanding debt for insolvent entrepreneurs. In contrast to the rules on restructuring proceedings established in the Directive – which do not require that national restructuring proceedings be set up, but rather that the existing national restructuring proceedings be amended accordingly – the requirement for ‘access’ requires that in case such a procedure is not yet available, it should be established after the implementation of the Directive into national law. Thus, even the Directive does not explicitly require Member States to establish personal insolvency proceedings providing the discharge of debt; the requirement to provide ‘access’ shows that personal insolvency proceedings shall be available for insolvent entrepreneurs under national laws. However, such a requirement does not mean that after the application to open the discharge procedure is filed, such a procedure is commenced. The laws of the Member States establish various criteria which the applicant shall satisfy so that personal insolvency proceedings can be commenced. Such conditions may include the requirement for good faith (honest) behaviour for a certain period before the application to commence the discharge procedure is filed, the absence of a conviction for certain offences and (or) the commitment of other unlawful actions, and others.
The approach of the Directive to facilitating access to the discharge procedure reflects the position of the UCITRAL Legislative Guide, which suggests that the insolvency law providing for a simplified insolvency regime should specify criteria for denying discharge, keeping them to a minimum. It also provides that discharge is usually unavailable for a debtor who has acted fraudulently, engaged in criminal activity, actively withheld or concealed information, or concealed or destroyed assets or records before or after the application for the commencement of insolvency proceedings. 61 Dishonest (bad faith) behaviour during the discharge procedure – such as failing to provide accurate, reliable and complete information (regarding assets, creditors and their claims) – may also result in denial of discharge. 62
The first impression when reading the Directive suggests that access to the discharge procedure is not coupled with the necessary honest (bad faith) behaviour of a debtor and (or) other requirements. However, Article 22(1) of the Directive establishes that by way of derogation from Article 20 of the Directive, the Member States shall maintain or introduce provisions denying or restricting access to the discharge of debt, where the insolvent entrepreneur acted dishonestly or in bad faith under national law towards creditors or other stakeholders when becoming indebted, without prejudice to national rules on burden of proof. The requirement for good faith (honest behaviour) is also mentioned in Recitals 1, 4, 15 and 78 of the Directive, and Recital 79 provides a non-exhaustive list of examples in which judicial or administrative authorities might take into account the circumstances in establishing whether an entrepreneur was dishonest. The wording of these provisions (namely, the employment of the words shall and might) suggests that, first, the Directive indeed requires Member States to ensure that access to the discharge procedure is granted only to honest (good faith) debtors. However, it neither sets up mandatory rules regarding the period for which the debtor should act honestly (in good faith) before filing for a discharge procedure, nor regarding what actions shall be regarded as dishonest (bad faith). Other requirements for the commencement of personal insolvency proceedings which can be found in the national laws of Member States are not mentioned in the Directive.
Access to the discharge procedure is provided for insolvent entrepreneurs. However, Articles 1(1)(b), 1(4) of the Directive allow Member States to extend the debt discharge provisions but not the restructuring framework as a whole to insolvent natural persons who are not entrepreneurs. In other words, consumer debtors also have the right to apply for debt discharge. 63 Thus, though the discharge procedure is primarily designed for entrepreneurs, it can also be applicable to consumer insolvency. It seems correct to note that the distinction between ‘professional’ and ‘personal’ debt can be quite blurred in the context of small businesses, where entrepreneurs often have to finance their businesses with credit cards and similar personal loans. 64 The same approach seems to be provided in US bankruptcy law, which does not separate personal insolvency proceedings for consumers and entrepreneurs. 65 The all-inclusive approach of avoiding a distinction between personal and professional debt in personal insolvency proceedings is also prescribed in the UNCITRAL legislative guidelines. 66 The national insolvency laws of various Member States, such as Latvia and Lithuania, do not distinguish between personal insolvency proceedings concerning entrepreneurs and consumers. All individuals may apply for the same personal insolvency proceedings. Thus, all natural persons, irrespective of their economic activities and the nature of their debts, should be entitled to apply for the commencement of personal insolvency proceedings.
The Directive also establishes one additional requirement for the commencement of the discharge procedure which Member States may follow. According to Article 20(1) of the Directive, Member States may require that the trade, business, craft or profession to which an insolvent entrepreneur's debts are related has ceased. Such an ambiguous provision raises the question of why the professional activities of an entrepreneur should be ceased in order to apply for the discharge procedure. As was recognized in the Single Market Act II of 2012 and the Recommendation of the European Commission in 2014, 67 the principal aim of a second chance is to maintain the competitiveness of insolvent entrepreneurs when pursuing the discharge of debts. It would be hard to argue that this goal is achieved if the debtor is required to cease professional activities for an unclear period in order to be eligible for the discharge procedure. Even if the aim of such a requirement may be to cease economically disadvantageous economic activities, it may still be disproportionate because the economic advantage of such activities may be reviewed by the court or insolvency practitioner who supervises the discharge procedure. Recital 74 of the Directive also establishes that Member States should be able to provide that entrepreneurs are not prevented from starting a new activity in the same or different field during the implementation of the repayment plan. Thus, it seems that the Directive gives an option for Member States to allow entrepreneurs to pursue economic activities during the discharge procedure.
Another relevant criterion for access to the discharge procedure is the requirement of the partial repayment of debts. Pursuant to Article 20(2) of the Directive, in case the discharge procedure is based on the partial repayment of debts, Member States shall ensure that the related repayment obligation is based on the individual situation of the entrepreneur and, in particular, is proportionate to the entrepreneur's seizable or disposable income and assets during the discharge period and takes into account the equitable interest of creditors. This means that if an entrepreneur is required to repay debts at least partially in the discharge procedure, the requirement to have assets (income) to satisfy the claims should be proportionate. Such a requirement also aims to facilitate access to the discharge procedure. Access to the discharge procedure should not be restricted disproportionally only because of the requirements of the national laws of Member States that require an entrepreneur to repay a certain amount of debt.
The list of non-dischargeable debts
The essence of the discharge procedure is to provide relief to a debtor from debt incurred prior to the commencement of personal insolvency proceedings. The list of non-dischargeable debts in personal insolvency proceedings is policy-driven 68 and reflects the policymaker's approach towards the performance of certain obligations and economic and social goals. Nevertheless, the national laws provide exceptions to certain types of debt from which the debtor is not discharged even after a successful discharge procedure. Often, there is a list of non-dischargeable debts which shall be paid by a debtor during and after personal insolvency proceedings. The list of non-dischargeable debts reflects the social and economic position of the state and the protection of creditors’ interests. It also raises the difficult question of the lawfulness of intervention into property and contract law when creditors’ rights to claims are terminated. The balance of non-dischargeable debts is also crucial for a debtor. If the list of non-chargeable debts encompasses many types of debts, the discharge procedure may not be effective, since a debtor would have to pay them later. The UNCITRAL Legislative Guide on Insolvency Law requires that where the insolvency law providing for a simplified insolvency regime specifies that certain debts are excluded from discharge, those debts should be kept to a minimum and clearly set forth in the insolvency law. It also recognizes, though without any justification, that debts based on some tort claims, family support obligations, fraud, criminal penalties and taxes are usually excluded from discharge. The minimization of non-dischargeable debts directly affects granting a fresh start. 69 Thus, the list of non-dischargeable debts should be justified and provide a fair balance between the interests of a debtor and creditors.
Pursuant to Recital 81 of the Directive, where there is a duly justified reason under national law, it could be appropriate to limit the possibility of discharge for certain categories of debt. It should be possible for the Member States to exclude secured debts from eligibility for discharge only up to the value of the collateral as determined by national law, while the rest of the debt should be treated as unsecured debt. Member States should be able to exclude further categories of debt when duly justified.
The list of non-dischargeable debts serves only as guidance for Member States. The Directive does not provide any specific criteria which should be used to determine whether a certain type of debt should be dischargeable; it only requires that such non-dischargeable debts should be duly justified. This policy choice is similar to the position of US bankruptcy law, which also provides a strict interpretation of the provisions of non-dischargeable debts and requires that exceptions to the operation of a discharge be confined to those plainly expressed. 70 However, the Directive does not establish how Member States should duly justify the inclusion of certain debts in the list of non-dischargeable debts. 71 Following the general rules on the interpretation of EU law, in interpreting a provision of EU law it is necessary to consider not only its wording but also its context and the objectives pursued by the legislation of which it forms a part. 72 Considering that the main aim of the discharge procedure is the provision of a fresh start for insolvent entrepreneurs, one may argue that the decision regarding non-dischargeable debts should be based on the need to ensure an effective fresh start.
The Directive does not establish mandatory provisions on the list of non-dischargeable debts, but rather provides an exhaustive list of debts from which an entrepreneur may not be discharged. Pursuant to Article 23(4) of the Directive, Member States may exclude specific categories of debt from discharge of debt, restrict access to discharge of debt, or lay down a longer discharge period where such exclusions, restrictions or longer periods are duly justified, such as in the case of: (a) secured debts; (b) debts arising from or in connection with criminal penalties; (c) debts arising from tortious liability; (d) debts regarding maintenance obligations arising from a family relationship, parentage, marriage or affinity; (e) debts incurred after the application for or opening of the procedure leading to a discharge of debt; and (f) debts arising from the obligation to pay the cost of the procedure leading to a discharge of debt. Some non-dischargeable debts, such as those deriving from criminal penalties, tortious liability, or maintenance (family) obligations, reflect the social importance of the continuation of them even after the discharge procedure. Other debts, such as those which occur after commencement of the discharge procedure and the costs of the discharge procedure itself (Article 23(4) (e, f) of the Directive), are coupled with the effective administration of this procedure and the satisfaction of the newly incurred debts.
One of the most frequently debated types of non-dischargeable debts under the Directive are secured debts. The positions of commentators regarding this debt are different. Some authors argue that the policy of such an exception is based on the need to avoid an adverse effect on secured credit, particularly concerning real estate. 73 Others question the justification for such an exception at all. 74 Nevertheless, the protection of secured creditors who have collateral (rights in rem) to secure the performance of obligations is enshrined in EU law. The choice to include secured debts as non-chargeable in the Directive has an economic and social basis, and corresponds to the pre-existing approach of EU policymakers in this area. The EIR is very clear that, due to the high relevance to the domestic market, the rights of secured creditors shall not be affected by the opening of insolvency proceedings. It is indeed difficult to argue differently (Article 8(1) of the EIR). The basis, validity and extent of such a right in rem must normally be determined according to the law of the place where the asset concerned is situated, 75 and is not limited only to a right in rem created in the context of commercial or credit transactions. 76 Recital 81 of the Directive establishes that where there is a duly justified reason under national law, it could be appropriate to limit the possibility of discharge for certain categories of debt. It should be possible for Member States to exclude secured debts from eligibility for discharge only up to the value of the collateral as determined by national law, while the rest of the debt should be treated as unsecured. Member States should be able to exclude further categories of debt when duly justified.
The list of non-dischargeable debts and the requirement for duly justified non-dischargeable debts under Article 23(4) of the Directive raise the question of whether the list of other non-dischargeable debts in the national laws of the Member States may trigger a violation of the effectiveness of EU law. The principle of effectiveness suggests that when it is for the national legal order of each Member State to establish procedural rules for actions intended to safeguard the rights of individuals, in accordance with the principle of procedural autonomy, the condition exists that those rules are not, in situations covered by EU law, less favourable than those governing similar domestic situations (principle of equivalence), and that they do not make it excessively difficult or impossible in practice to exercise the rights conferred by EU law. 77
Questions may then arise, since various Member States establish that debt deriving from taxes should be non-dischargeable after the discharge procedure, 78 along with debts deriving from any penalties imposed by the state. 79 Should Member States justify why certain debts which are non-dischargeable under the national laws which are not found in Article 23(4) of the Directive exist? Does an insolvent entrepreneur have the right to argue that the national rules on non-dischargeable debts which are not listed in that article are not duly justified, and thus violate the right to an effective fresh start under EU law? The importance of the list of non-dischargeable debts may raise the question of how Member States should justify the notion that other debts should not be discharged, and what happens in case such justification is missing or insufficient.
The order of the discharge procedure
Personal insolvency proceedings are based on two models. In one case, a debtor commences the procedure and discloses the assets which constitute the insolvency estate. Then, the accumulated assets are realized by the insolvency practitioner, creditors’ claims are satisfied from the proceeds of the sale of the assets, and the debtor is discharged from debts. In another procedure, a debtor prepares a repayment plan (a rehabilitation plan) which is approved by the creditors and (or) the court, and the debtor implements this plan. After the implementation of the repayment plan, the debtor is discharged from outstanding debts. Thus, in essence, the main difference between these two types of personal insolvency proceedings is whether the debtor has to implement the repayment plan or not. An appropriate example of the national laws of two such models is the bankruptcy law of the US, which establishes two different procedures for personal insolvency in Chapter 7 of the US Bankruptcy Code and Chapter 13 of the US Bankruptcy Code. The first procedure is based on the fast economic discharge procedure without the preparation and implementation of a repayment plan, and the latter requires the debtor to prepare and implement a repayment plan.
The Directive provides discretion for Member States to decide which model of discharge procedure should be implemented into national law. Recital 75 of the Directive establishes that a discharge of debt should be available in procedures that include a repayment plan, the realization of assets or a combination of both. In implementing those rules, Member States should be able to choose freely among those options. If more than one procedure leading to discharge of debt is available under national law, Member States should ensure that at least one of those procedures gives insolvent entrepreneurs the opportunity to experience full discharge of debt within a period that does not exceed 3 years. Thus, the Directive provides discretion to Member States to decide which way to follow – either with or without the adoption of a repayment plan.
The definition of a repayment plan is provided in Article 2(1)(11) of the Directive, which establishes that a repayment plan means a programme of payments of specified amounts on specified dates by an insolvent entrepreneur to creditors, or a periodic transfer to creditors of a certain part of an entrepreneur's disposable income during the discharge period. In essence, the main aspects of a repayment plan are the order of payment to the creditors during the discharge procedure. The relevant aspect of payments for creditors, such as amount, frequency, order and means of payment, are left for the national rules of Member States.
The rules on the order of the discharge procedure suggest that the Directive supports both approaches, and that the discharge procedure can either be based on the exercise of a repayment plan or not. The only mandatory requirement is that it shall not last more than 3 years (Recital 75, Articles 20(1), 21(2) of the Directive). However, there are further relevant proposals. Pursuant to Recital 82 of the Directive, Member States should be able to provide that judicial or administrative authorities can verify, either ex officio or at the request of a person with a legitimate interest, whether entrepreneurs have fulfilled the conditions for obtaining the full discharge of their debt.
First, the Directive provides the possibility to adjust repayment obligations. Recital 74 of the Directive establishes that Member States should be able to provide for the possibility to adjust the repayment obligations of insolvent entrepreneurs when there is a significant change in their financial situation, regardless of whether it improves or deteriorates. Thus, a repayment plan may be adjusted during the discharge procedure in case the financial situation of a debtor changes significantly, and a repayment plan may be adjusted accordingly. There is no identification of who may initiate the procedure for the adjustment of a repayment plan, but this right should be granted to the debtor and/or the creditors – the main participants of such a procedure. The actual reasons to adjust a repayment plan should be assessed ad hoc. The balance between the interests of the debtor and the creditors should be maintained in such cases. For instance, if the financial situation of the debtor improves or deteriorates, the balance of interests between creditors and the debtor should be re-assessed. The Directive also does not establish the procedure of how a repayment plan should be adjusted. One reasonable way would be to argue that a repayment plan should be adjusted in the same manner as it was confirmed, pursuant to the national laws of the Member State.
Second, the question of confirmation of a repayment plan is scarcely regulated in the Directive. Recital 74 of the Directive establishes that it should not be required that a repayment plan be supported by a majority of creditors. In contrast to the detailed regulation on the preparation and confirmation of the restructuring plan (Articles 8–11 of the Directive), the Directive establishes neither the content of the plan, nor the procedure through which it should be confirmed. It is also silent on whether the repayment plan should be confirmed by the court (or another competent government authority).
Third, the realization of the debtor's assets in case the discharge procedure does not involve a repayment plan is also not covered by the Directive. The Directive is silent on how the assets of the debtor may be realized and what procedures, such as a public auction or other, should be used. This important matter of personal insolvency proceedings is left only for the national laws of the Member States.
The consolidation of professional and non-professional (consumer) debts in the discharge procedure
Professional and personal (consumer) debts can be blurred. Though the Directive aims to tackle the insolvency problems of entrepreneurs, this should not mean that all debts derive only from professional activities. An entrepreneur should be provided with the opportunity to pursue economic activities without the burden of pre-bankruptcy debt. The exclusion of personal (consumer) debts from the discharge procedure may not be reasonable. Such separation may indeed be complicated and may raise additional unnecessary disputes, and reintegration into business may be hampered if, after the discharge procedure is completed, an entrepreneur remains insolvent due to their personal debts.
Pursuant to Article 24(1) of the Directive, Member States shall ensure that – where insolvent entrepreneurs have professional debts incurred in the course of their trade, business, craft or profession, as well as personal debts incurred outside those activities, which cannot be reasonably separated – such debts, if dischargeable, shall be treated in a single procedure for the purposes of obtaining a full discharge of debt. The consolidation of professional and non-professional debt is an effective tool to provide a fresh start after the discharge procedure. Such a mandatory requirement for the discharge procedure should indeed allow this goal to be achieved, and is one of the main tools in the Directive to ensure the effectiveness of this procedure.
Setting the scene for the (re)start of professional activities
One of the main elements of the discharge procedure lies in the idea that it is a re-start of an entrepreneur's economic activities (their reintegration into business). 80 After a successful discharge procedure, an entrepreneur should be able to pursue economic activities freely without the burden of their pre-bankruptcy debts (with the exception of non-dischargeable debts) and unreasonable restrictions. The preparatory documents of the Directive suggest that the aim of the discharge procedure is to retain the competitiveness of a debtor after the procedure is accomplished. Different regulation of the disqualification of an entrepreneur is regarded as one of the reasons for the relocation of the interests of the debtor (Recital 5 of the Directive), which is relevant for a well-functioning internal market (Recital 8 of the Directive). Moreover, long disqualification periods may inhibit entrepreneurship (Recital 9 of the Directive). Thus, the Directive aims to reduce the length of disqualification orders issued in connection with a debtor's over-indebtedness or insolvency (Recitals 73, 78 of the Directive).
Pursuant to Article 22(1) of the Directive, Member States shall ensure that, where an insolvent entrepreneur obtains a discharge of debt in accordance with this Directive, any disqualifications from taking up or pursuing a trade, business, craft or profession on the sole ground that the entrepreneur is insolvent shall cease to have effect at the end of the discharge period at the latest. Thus, the Directive establishes the mandatory requirement that no restrictions to pursue professional activities may be imposed after the discharge procedure only because the entrepreneur is insolvent. However, the language of Article 22(1) of the Directive is ambiguous to some extent. The article establishes the requirement not to impose disqualification after the discharge procedure on the sole ground that an entrepreneur is insolvent. The linguistic interpretation of this provision suggests that the mere fact that an entrepreneur is insolvent at the end of the discharge period may not be grounds for disqualification being imposed against them. Though the situation may indeed be that the entrepreneur is actually insolvent at the end of the discharge period (if new debts were incurred and non-dischargeable debts remain), this raises the question of whether this provision should be interpreted as meaning that an entrepreneur is indeed insolvent at the end of the discharge procedure. Instead, does it mean that disqualification may not be imposed solely on the ground that the entrepreneur commenced the discharge procedure due to insolvency (over-indebtedness)? In any case, it seems that the aim of the prohibition of disqualification is to allow an entrepreneur to pursue economic activities freely after the discharge procedure.
The possible exception to this rule is found in Article 23(5) of the Directive, which establishes that, by way of derogation from Article 22, Member States may provide for longer or indefinite disqualification periods where the insolvent entrepreneur is a member of a profession: (a) to which specific ethical rules or specific rules on reputation or expertise apply, and the entrepreneur has infringed those rules; or (b) when dealing with the management of the property of others. Such derogations to the prohibition of disqualification should be interpreted strictly and should not diminish the requirement of a fresh start.
The commencement of the discharge procedure can result in temporal restrictions on pursuing economic activities. In some cases, the necessary permit or licence to pursue professional activities can simply expire. The Directive establishes that in case the permit or licence of an entrepreneur has been revoked or has expired during the discharge procedure, the debtor may be required to submit an application for a new permit or licence after the disqualification has expired (Recital 83 of the Directive). Though a fresh start should provide the possibility to pursue economic activities freely, the necessary formalities, such as the submission of an application to receive a permit or licence to pursue professional activities, may be required. Such a requirement, which in most cases may depend on the mandatory requirements deriving from the public law, should not be regarded as an obstacle to providing a fresh start.
Missing parts of a fresh start under the Directive
Though the concept of a fresh start lacks a common definition, the reasons for this concept reveal that the discharge procedure should save an entrepreneur (and persons related to them) from poverty and social tensions and create conditions to reintegrate them into business. 81 The Directive does not establish a separate discharge procedure, but merely provides guidance for Member States on how to ensure that an entrepreneur is provided with a fresh start after it is completed. The proposed rules aim to provide entrepreneurs a fresh start to pursue economic activities and reduce discrepancies between the relevant rules of the national laws of Member States, and also reduce incentives to relocate assets in other Member States. Some vital aspects of personal insolvency proceedings – such as insolvency (over-indebtedness), honesty (good faith), the content and confirmation of the repayment plan, and the realization of a debtor's assets – remain matters of the national laws of Member States. Nevertheless, the author believes that certain aspects of personal insolvency proceedings may also have been addressed in the Directive, and may be relevant for the revision of this act (Article 33 of the Directive).
Information about assets and their treatment in cross-border matters
Information about entrepreneurs’ assets is an important precondition for successful personal insolvency proceedings. The problems in the Radziejewski case raised the question of the need for information on the location of the debtor's assets abroad. In some cases of personal insolvency, the problem may not only be the location of assets, but also their treatment. The discharge procedure under the Directive is, in essence, designed for national insolvency proceedings within one Member State, and not cross-border matters. The EIR also does not establish any particular rules in the case of the cross-border insolvency proceedings of an entrepreneur, besides the rules on jurisdiction.
The problem of the effectiveness of the discharge procedure may arise when a debtor has assets abroad (in different Member States or even third states). Treatment (coordination and realization) of the insolvency estate is regulated in cross-border cases by the EIR, which allows the opening of main and secondary insolvency proceedings. Opening secondary insolvency proceedings is relevant for the effective treatment of assets located in the Member States in which such proceedings are opened (Article 34(1) of the EIR). However, secondary insolvency proceedings are opened only when there is an establishment in a certain Member State (Article 3(2) of the EIR). In case of the insolvency proceedings of a natural person (an entrepreneur), secondary insolvency proceedings are rarely possible (or practically impossible), since an entrepreneur pursues economic activities without the establishment of a legal entity, and only assets (not a legal entity) may be found in Member States other than the state where the main insolvency proceedings are commenced. This may lead to situations when a debtor may have assets in different Member States (or third states) other than that in which the discharge procedure is initiated, but no grounds to open secondary insolvency proceedings exist and the insolvency administrator (a court or other governmental authority) may need to access such information about the assets.
The need for tracing the debtor's assets and searching for other relevant information is mentioned in the Proposal for the Insolvency Directive (Title III). More specifically, Article 17 establishes the rules on access by insolvency practitioners to beneficial ownership information, and Article 18 regulates access by insolvency practitioners to national asset registers. The purpose of these proposed rules is to facilitate asset tracing and the receipt of information on the assets of a debtor, and to provide access for insolvency practitioners to various registries containing relevant information on assets that belong or should belong to the insolvency estate. The rules on access to information on a debtor's assets and other information may also be as relevant in the discharge procedure as in corporate insolvency proceedings.
Treatment of related persons
Commencement of the discharge procedure may have a direct impact on the situations of persons related to the entrepreneur. It may be possible that another person(s) is involved in the professional activities of the debtor. Such persons may be those who secure the performance of obligations of an entrepreneur by providing personal guarantees and (or) personal assets for such a reason. This can be especially relevant in cases of small family businesses, where family members are involved in entrepreneurship activities though they do not formally act as managers and (or) owners of the business. In such a case, the insolvency of an entrepreneur has direct consequences on the financial situation of such related persons and their economic interests.
The UNCITRAL Legislative Guide recognizes the importance of coordination of insolvency proceedings of an entrepreneur and related persons. Recommendation 93 of the UNCITRAL Legislative Guide establishes that a simplified insolvency regime should address, including through procedural consolidation or the coordination of linked proceedings, the treatment of personal guarantees provided for the business needs of the MSE debtor by individual entrepreneurs, the owners of limited liability MSEs or their family members. The justification for this rule is that personal guarantors will face payment claims where the guaranteed obligation cannot be performed by the debtor, which is usually immediately before or after the opening of an insolvency proceeding. Allowing unrestricted enforcement of guarantees could lead to destitution for the entire family of an individual entrepreneur or the owners of limited liability MSEs. 82
The UNCITRAL Legislative Guide also explains that invoking a personal guarantee would likely result in, in addition to business insolvency, the personal insolvency of individual entrepreneurs, owners of limited liability MSEs or their family members, and consideration should be given to providing a procedure to address the position of the MSE debtor and their guarantors together. This may be achieved through procedural consolidation or the coordination of linked proceedings – in this case, insolvency proceedings against the MSE debtor and insolvency or enforcement proceedings against their guarantors. 83
The problem of related persons is also addressed in the Proposal for the Insolvency Directive. According to Article 57 of this proposal, Member States shall ensure that – where insolvency proceedings or individual enforcement proceedings have been brought over a personal guarantee provided for the business needs of a microenterprise that is a debtor in simplified winding-up proceedings against a guarantor who, in case the microenterprise concerned is a legal person, is a founder, owner or member of that legal person, or, in case the microenterprise concerned is an entrepreneur, a family member of that entrepreneur – the proceedings on the personal guarantee are either coordinated or consolidated with the simplified winding-up proceedings. The reason for this provision is to solve the problems which arise in case of the insolvency of an unlimited liability microenterprise debtor (also an entrepreneur), where other individuals are liable for unsatisfied claims following the liquidation of the insolvency estate of the debtor. To provide adequate protection to the persons liable for the debts of the entrepreneur, such as founders, owners should also be fully discharged after the discharge procedure. This means that one discharge procedure could be commenced to address the insolvency of an entrepreneur and related persons. Such a possibility for the commencement of one insolvency proceeding against multiple debtors is established in some Member States. 84
It is difficult to speculate on why provisions for the coordination of the discharge procedures of an entrepreneur and related persons are missing in the Directive. However, the need for such coordination is outlined in the Proposal for the Insolvency Directive, which suggests that the rules on the discharge procedure in the Directive should be applied in harmony with the rules proposed in the Proposal for the Insolvency Directive (in case this Directive is adopted). The lack of rules on the treatment of persons related to an entrepreneur in the Directive may have a negative impact on a fresh start, since an entrepreneur may retain debts to related persons. Moreover, the commencement of the discharge procedure may have a direct impact on the performance of the obligations of such persons and the provision of a fresh start.
Access to credit after the discharge procedure
The Directive aims to provide the possibility for an entrepreneur to freely pursue economic activities after the discharge procedure. This is coupled, in essence, with the prohibition on granting a licence (permission) to pursue such activities. It may be an obvious statement that economic activities are hardly possible without credit. The position of an entrepreneur after the discharge procedure may be particularly complicated since, depending on the national law, most assets may be sold to satisfy creditors’ claims. Some of these claims may remain non-dischargeable, and shall be satisfied after the discharge procedure is completed.
Possible lenders which could provide credit for the new economic activities of an entrepreneur may not be (reasonably) willing to provide it because the discharge procedure was commenced and completed. Among other reasons, it is possible that the entrepreneur may not be regarded as a trustworthy counterpart to the successful performance of financial obligations, and also may have no (or not enough) assets to secure the performance of obligations since they may already have been sold. EU law does not regulate the rules on credit relations since it is a matter of the civil law of Member States. However, the effectiveness of a fresh start is hampered if an entrepreneur cannot receive credit to reintegrate into business, and this raises a legal debate as to when a such question should be harmonized by EU law.
The Directive is silent on the possibility of an entrepreneur to receive credit after the discharge procedure. To provide more certainty for an entrepreneur and more effective reintegration into business, EU law may establish that declining to provide credit for an entrepreneur after the successful end of a discharge procedure shall not be based solely on the fact that such a procedure was commenced and conducted.
It is also debatable how information about the previous discharge procedure should be published, which can be also used by possible lenders when considering whether to provide credit to an entrepreneur. The publication of the opening of insolvency proceedings is crucial for numerous reasons. First, it provides the possibility for the relevant parties in these proceedings to learn about them and exercise their rights. Second, this information is relevant to the courts to prevent the opening of conflicting main insolvency proceedings. 85 The EIR requires Member States to establish and maintain in their territory one or several registers in which information concerning insolvency proceedings is published (‘insolvency registers’) (Article 24(1) of the EIR). Article 24(2) establishes the minimum amount of information which shall be provided. 86 Such publicly announced information – if the debtor is an individual, whether exercising an independent business or professional activity – should include the debtor's name, registration number, if any, postal address, or where the address is protected, and the debtor's place and date of birth (Article 24(2)(f) of the EIR). Article 24(3) of the EIR also establishes that Article 24(2) shall not preclude Member States from including documents or additional information in their national insolvency registers, such as directors’ disqualifications related to insolvency. Pursuant to Article 27(1) of the EIR, Member States shall ensure that the mandatory information referred to in points (a) to (j) of Article 24(2) is available free of charge via the system of interconnected insolvency registers. There is no identification in the Directive that such information published in the insolvency register shall be rectified (not available online) after the discharge procedure is finished. It may be debatable whether there is a need for the publication of information about the debtor after the discharge procedure, since it may unnecessarily hamper the provision of a fresh start. Such information is not needed for the exercise of creditors’ rights and also lacks relevance for courts in other Member States, since insolvency proceedings have been accomplished at that point.
Debt reaffirmation arrangements
An entrepreneur may have an interest in maintaining the performance of certain obligations and not being discharged from them. Debt reaffirmation arrangements may be concluded between an entrepreneur and a creditor before or during the commencement of the discharge procedure. Under such an arrangement, an entrepreneur reaffirms to continue the performance of certain obligations in exchange for retaining certain assets or obtaining new credit following the closure of the insolvency proceedings. 87 In US bankruptcy law, reaffirmation is defined as a post-petition agreement to pay pre-bankruptcy petitions and obligations. The reasons for reaffirmation may be questioned. For instance: What is the purpose of reaffirmation of debts when they could be discharged after personal insolvency proceedings? Such reasons may be to avoid the repossession or foreclosure of pledged property or the problem of the replacement of possessions which are necessary for daily life and (or) economic activities, such as a home, a vehicle, working tools, instruments and others. 88 Reaffirmation may occur because of conduct: for instance, an entrepreneur continues to pay a debt, or an agreement between an entrepreneur and a creditor is concluded before, during or after the insolvency proceedings. Such reaffirmed assets could include a car, office space, a dwelling or others. They may not only be relevant to pursuing economic activities, but also to ensuring a decent standard of living during and after the discharge procedure.
Debt reaffirmation arrangements may also be important for the provision of a fresh start. Since certain assets may be necessary to continue economic activities (pursue new ones), the law should also protect them. Such rules depending on the national rules on the protection of property and contract law may not be of a mandatory character in EU law, but may give discretion to Member States to choose whether they can also contribute to an effective fresh start. Though a debt reaffirmation arrangement means that an entrepreneur should continue the performance of financial obligations, the need and importance of a certain asset may reasonably outweigh the continuation of a financial obligation and the dismissal of the discharge of certain debt.
Conclusions
A fresh start is the main goal of personal insolvency proceedings. Historically, the aim of these proceedings has shifted from the protection of only creditors’ interests to a more debtor-oriented approach which seeks to provide a balance between the interests of debtors and those of their creditors. The dominant modern approach to the insolvency of entrepreneurs is such that the commencement of personal insolvency proceedings should not end the entrepreneur's economic activities and bar them from pursuing these activities freely when pre-bankruptcy debts are discharged.
The relevance of the common approach to the discharge procedure has also been recognized in EU insolvency law. The rules of the discharge procedure in the Directive are based on the aim of providing a fresh start to an entrepreneur when it is completed. A fresh start should not be coupled only with the discharge of pre-bankruptcy debt, but also other relevant social and economic goals, such as the avoidance of poverty or the minimization of social tensions between a debtor and creditors which occur due to unlimited enforcement activities against a debtor. The Directive aims to address certain issues related to the problems of an effective fresh start and reduce the incentives for the abusive movement of the COMI. It also aims to provide a possibility to effectively exercise the fundamental freedoms of EU law, such as the freedom of movement and establishment.
The Directive establishes various tools regarding how a fresh start should be provided, namely: access to the discharge procedure; non-dischargeable debts; order of the discharge procedure (with or without a repayment plan); consolidation of professional and non-professional (consumer) debts; and conditions to pursue economic activities after the discharge procedure. Though other relevant elements of the discharge procedure remain matters for the national laws of Member States, the harmonized elements of a fresh start are important steps towards the effectiveness of the discharge procedure.
Nevertheless, certain elements of a fresh start are still missing in the Directive. To provide an effective fresh start, it may also be relevant to harmonize (establish) rules on the provision of information about the entrepreneur's assets and their treatment when they are located in different Member States; the treatment of related persons; access to credit after the discharge procedure; and reaffirmation arrangements.
Footnotes
Declaration of conflicting interests
The author(s) declared no potential conflicts of interest with respect to the research, authorship, and/or publication of this article.
Funding
The author(s) disclosed receipt of the following financial support for the research, authorship, and/or publication of this article: This work was supported by the Lithuanian Research Council (grant number S-PD-22-59).
