Austrian insolvency law, protection of creditors and instruments for securing payment

The main purpose of insolvency proceedings under the Austrian Insolvency Act (“Insolvenzordnung”) is to ensure equal treatment of all creditors. All filed claims – apart from the “privileged” claims of segregation, separation and specific estate creditors – are to be satisfied to the same extent. In principle, the entire assets of the debtor are used for this purpose.

In the run-up to insolvency proceedings, especially when insolvency is imminent, there is a risk that this primary purpose of the insolvency proceedings will be frustrated: More or less significant parts of the debtor’s assets may be transferred to third parties (often relatives) in order to prevent them from being accessed by creditors, “troublesome” creditors (or creditors who are particularly close to the debtor) are quickly satisfied in full, while the others have to be content with the insolvency quota, which is usually extremely low anyway and even worse as a result of such acts.

The Austrian Insolvency Act attempts to counter this problem by creating – for the purpose of restoring equal treatment of all creditors – a claim of the insolvency estate (represented by the insolvency administrator) against the recipient of benefits based on contestable legal acts/omissions for restitution (“legal challenge”). 

1.  Challenge of benefits received (“voidable preference”)

Legal acts of the debtor performed prior to the opening of insolvency proceedings may be challenged within one year by the insolvency administrator especially on the grounds of intention to disadvantage, favoring other creditors or knowledge of the debtor's insolvency or over-indebtedness (the law also recognizes other circumstances).

a.    Challenge due to intention to disadvantage 

Intention to disadvantage exists if the debtor willfully intends that the legal act in question will ultimately thwart the satisfaction of at least one (other) creditor. 

b.    Challenge due to favoring other creditors

A favorable act by way of security or satisfaction of a creditor performed after the occurrence of insolvency or after the application for commencement of insolvency proceedings or in the last sixty days prior thereto, but not earlier than one year before commencement of insolvency proceedings (absolute time limit), is voidable if the creditor was aware or should have been aware of the debtor's willful intention to favor the debtor. Furthermore, irrespective of an intention to favor, any security or satisfaction can be challenged – within the same period – whereby the creditor receives something that is not due to him according to the object, the time or the place (e.g. by payment of a debt not yet due).

c.    Challenge due to knowledge of insolvency or over-indebtedness 

All legal acts or transactions performed after the occurrence of insolvency not more than six months before the commencement of insolvency proceedings are voidable, if another insolvency creditor obtains security or satisfaction, or the transaction entered into by the debtor with other persons is disadvantageous to the creditors, if the other party was aware or should have been aware of the insolvency/over-indebtedness or the request to commence insolvency proceedings. Over-indebtedness exists when neither existing assets nor expected income of a debtor cover his existing liabilities. 

2.    Instruments for securing payment

International sellers are often confronted with the risk of payment default in case of a (possible) insolvency of the purchasers. How can they protect themselves best without jeopardizing the deal? 

The preferred instruments will be advance payment or a Letter of Credit. In case of a challenge of the payment by the insolvency administrator, payment under a Letter of Credit will be least likely to be found by a court as disadvantageous to other creditors.

In addition, Austrian law provides for another instrument for securing payment – the retention of title until full payment is received by the seller (so-called “Eigentumsvorbehalt”). For that, a corresponding clause based on Austrian law would need to be entered into the sales contract.

In the case of items that were delivered under retention of title in the sold goods under Austrian law before the opening of the insolvency proceedings, a right to segregation will be given. The segregation creditor under Austrian law is the owner as title holder of a movable property (an item) which is in the debtor's power of disposal at the opening of the insolvency proceedings. The title holder may request segregation in insolvency proceedings, as the item does not belong to the assets.

Creditors entitled to segregation have the supposedly strongest legal position in the insolvency proceedings, as they are not subject to the rules of the general enforcement proceedings of the Insolvency Act. 

In practical terms, however, this legally strong position receives some limitations. For example, according to the Insolvency Act the insolvency administrator may delay the segregation for up to six months after the opening of the insolvency proceedings, if the object to be segregated is necessary for the continuation of the debtor’s business operation.

The retention of title provides additional security, but there still remain risks in practice. Problems may for instance arise especially if the transferred goods are no longer with the buyer or have become a dependent part of another object. Furthermore, the seller usually has to take action to retrieve his property (which is time-consuming and costly). A retention-of-title-clause needs to be thoroughly drafted to be effective in case of an insolvency of the Austrian debtor.

Attorney trade law

Dr. Simon Harald Baier LL.M. advises on issues of international trade law, in particular on international contract drafting and letters of credit.

Article at shb-law.at