September 3, 2021
With effect from September 1, 2021, Aruba has introduced in its Civil Code the possibility that security can be provided to a person who is not the creditor of the secured debt (the “New Provision”).
Current Aruban law practice regarding collective security arrangements in (international) syndicated financings
The term “collective security arrangement” is used to describe an arrangement whereby security (i.e., in the form of an Aruban law governed mortgage or pledge) is held for the common benefit of the lenders that form part of a lending syndicate. In terms of the effectiveness of a collective security arrangement, lenders amongst others require (a) that the arrangement should be as simple and straightforward as possible, (b) that it must be easy for lenders to transfer their loans together with the security attached thereto and (c) that it should be possible to replace the security agent without affecting the security, meaning without the need to release the security and creating new security in the name of the successor.
Aruban law security for (international) syndicated financings is commonly granted directly to a local or foreign security agent, using a so-called parallel debt construction. A parallel debt is created by including a so-called parallel debt clause in the finance documents. Under a parallel debt clause, (a) a borrower at any time owes to the security agent in its individual capacity (i.e., acting in its own name and not as agent or representative of the lenders) an amount equal to the aggregate of the amounts owed by such borrower to all lenders under the loan documents (the “parallel debt”) and (b) all security governed by Aruban law is created in the name of the security agent as security for the parallel debt. No security is created in the name of the lenders. Each lender has a contractual claim against the security agent for payment of the amounts owed by the security agent to each of the lenders under the finance documents. In case of international syndicated financings, the parallel debt clause is included in the foreign law governed finance documents and is governed by e.g., English, New York, or another foreign law.
By way of background; why create a parallel debt?
Prior to the New Provision being enacted on September 1, 2021, uncertainty existed under Aruban law as to whether a mortgage or pledge could be granted to a person that is not the creditor of the secured debt. This posed a problem for collective security arrangements because the security agent in syndicated financings may generally either not be a lender at all or just one of the lenders.
This uncertainty finds its roots in the fact that wherever in the Aruban Civil Code the mortgagee or pledgee is mentioned in relation to a secured debt, the Civil Code assumes that the person entitled to the mortgage or pledge is also entitled to the secured claim. Article 3:248 of the Aruban Civil Code, for example reads:
“Where the debtor is in default in respect of its debt for which the pledge serves as security, the pledgee is entitled to sell the pledged property and to take recourse against the sale proceeds”.
Furthermore, under Aruban law, mortgages and pledges are accessory to the secured claim by operation of law. If the secured claim is transferred, the security will automatically pass with it to the transferee. An Aruban law governed mortgage or pledge cannot be transferred independent from the secured claim.
The question then rises how to structure a collective security arrangement, which should provide (a) for the possibility that security remains with a security agent if a loan is transferred by a lender and (b) for the possibility that the security agent can be replaced without affecting the security.
The purpose behind a parallel debt construction is to ensure that a security agent that obtains an Aruban law governed security for the benefit of a group of lenders, becomes from an Aruban law perspective, a creditor of all secured claims. If a lender transfers its claim to a third party, the security attached thereto (via the parallel debt mechanism) will remain unaffected. Finally, replacement of the security agent without affecting the security can be easily achieved through a transfer by the security agent of the parallel claim to a successor.
As of yet there is no Aruba case law on the acceptance of a parallel debt structure, but legal experts commonly agree and it is generally accepted that a parallel debt structure is deemed effective under Aruban law.
THE NEW PROVISION
The New Provision reads as follows:
“A claim secured by a mortgage or pledge, may be owned by another party than the mortgagee or pledgee”.
Effective September 1, 2021, it is without doubt that an Aruban law governed mortgage or pledge may be granted to a local or foreign security agent that is not the creditor of the secured debt. The New Provision simplifies the creation of collective security arrangements under Aruban law because a parallel debt construction will no longer be necessary. This will certainly be embraced by market participants and legal practitioners.
Under the New Provision, lenders can also transfer their loans to a third party, without further action needed to ensure that the security remains in place. That said, the New Provision unfortunately doesn’t change the fact that an Aruban law governed mortgage or pledge cannot be transferred independent from the secured debt. This means that if a replacement of the security agent is desired at a certain point in time, the Aruban law governed mortgage or pledge cannot be transferred to the successor. The most obvious solution, releasing the mortgage or pledge held by the former security agent followed by creating a new mortgage or pledge in the name of the successor, can be quite risky from an Aruban law perspective and should be discouraged in certain cases where it is not possible or practicable to structure around these risks. Also, this solution can become quite costly in terms of notarial fees in case of mortgages.
Using the New Provision will therefore give rise to the need to find a “risk-free” mechanism to create an Aruban law governed mortgage or pledge in favour of the successor upon a replacement of the security agent. Clearly this mechanism should be both practical and acceptable to lenders. Absent such a mechanism, it should be expected that lenders will continue to use the parallel debt construction when Aruban law security should be granted to a security agent in (international) syndicated financings.
If you have questions about this publication, please contact:
Associate Partner, Banking & Finance
T +5999 434 33 34