8 September 2020
Lending Focus - September 2020 – 5 of 7 Insights
For most real estate financings, security over property is the creditor's main collateral. Consequently, many German property investors are surprised and concerned to find that enforcement of their land charges can only begin after six months' notice of termination has been given to the borrower.
It was possible to derogate from the six-month notice period until the law changed in 2008. The driver for change was the last financial crisis, sparked by the collapse of Lehmans. It was felt that unduly swift enforcement tactics, often deployed by distressed debt investors with no relationship to troubled borrowers, led to undue hardship. The German legislature therefore implemented the mandatory six-month notice period to give the debtor a 'heads-up' regarding the creditor's intentions.
Since the 2008 amendments (effected by the so-called Risikobegrenzungsgesetz) any provision derogating from the notice period is not permissible if the land charge serves as collateral for a monetary receivable.
Enforcement can only begin once the land charge capital is due. Should the creditor try to carry out enforcement before the land charge capital is due, the debtor can assert an objection pursuant to Sec. 767 ZPO. The enforcement will then be declared inadmissible by the court.
According to Sec. 1193 par. 1 German Civil Code (BGB), the land charge capital falls due only after the six-month notice period of termination has expired.
The creditor can then file an application for enforcement at the local court (Amtsgericht) in whose district the property is located. Under the compulsory auction order, the property is then seized in favour of the creditor.
It's worth noting that an enforcement by way of private sale does not fall foul of the six-month notice period. However, this is less useful than it initially seems: the terms of the security documentation may not permit this at all; or they may stipulate that the secured claims must be transferred to the purchaser as well as the land charge. Consequently, auctions are used more than private sales.
An abstract acknowledgement of debt in line with Secs. 780, 781 BGB is usually included in the same deed as the land charge. The borrower promises to pay the lender a certain sum – usually between 15% and 100% of the land charge capital. This abstract acknowledgement of debt is an independent obligation of the debtor. It is a security right over all the debtor's assets, not only the property.
Such abstract acknowledgement of debt is usually combined with a submission for immediate enforcement (see Sec. 794 par. 1 no. 5 BGB). The six-month notice period does not apply here.
Abstract acknowledgement of debt and the corresponding submission to immediate enforcement are often provided for in the same notarial deed, as is the submission to immediate enforcement concerning the land charge.
This is where a closer look at the meaning of the term "immediate" is necessary. While immediate seems to mean (regarding the land charge) that the creditor needs to wait six months, it seems to mean (regarding the abstract acknowledgement of debt) that the creditor can actually enforce their claim right away. They do not need to sue the debtor to obtain a final judgment (Sec. 704 Code of Civil Procedure (Zivilprozessordnung)).
Instead, they can use the deed they already have and begin enforcement (Sec. 794 par. 1 No. 5 Zivilprozessordnung) by filing an application for enforced auction (Secs. 15 and 16 Act on Enforced Auction and Receivership (Gesetz über die Zwangsversteigerung und die Zwangsverwaltung)). In other words, "immediate" is not to be understood by reference to time, but rather as a reduction of necessary steps.
Considering that the abstract acknowledgement of debt can be granted in the same amount as the land charge, a creditor might wonder whether it is possible to enforce the abstract acknowledgement of debt into the property – without the notice period of six months.
There is no difference between the two in terms of the amount secured. Both a land charge and the abstract acknowledgement of debt typically secure the identical "Secured Liabilities", which capture due but unpaid interest, as generally set out in a separate security purpose agreement.
The possibility of cutting to the chase via the abstract route was the common understanding until 2017 and a ruling by the Federal Court of Justice (Bundesgerichtshof (BGH)). In this ruling, the BGH argued that any enforcement of real estate security was only permissible after six months' notice or waiting period.
While Sec. 1193 par. 1 BGB expressly only applies to the land charge capital, the court took the view that it also needed to be applied to interest on the land charge capital and an abstract acknowledgement of debt. In the opinion of the BGH, there was a loophole in the legislation, contrary to the German legislature's intentions.
While this ruling is very controversial, it may be that lower courts will fall in line with the BGH.
The term "immediate enforcement" can be misleading. Prior to enforcing a land charge, a notice period of six months must be adhered to.
Whether or not this time delay also applies to an abstract acknowledgement of debt which is connected to property security is up for further testing by the German courts.
If you'd like to discuss any of the issues in this article in greater detail, please reach out to a member of our Banking and Finance team.
by Cheng Bray
by Cheng Bray
by Nick Moser
by Multiple authors