The June issue of IFLR looked at the consequences for investors of arrangements agreed in March 2002 between Germany and the European Commission on the application in future of anstaltslast (maintenance obligation) and gewährträgerhaftung (guarantee obligation) to Landesbanks and sparkassen. At the same time as agreeing these arrangements, Germany and the Commission also agreed the conditions on which anstaltslast, gewährträgerhaftung and certain other refinancing guarantees can continue to apply in future to legally independent special credit institutions, such as Kreditanstalt für Wiederaufbau (KfW), Bremer Aufbau-Bank GmbH and Landwirtschaftliche Rentenbank. All these arrangements were formalized in a decision of the Commission of March 27 2002.
Although the purpose of special credit institutions is to support the structural, economic and social policies of the public authorities in Germany that own them, the benefits conferred on them to do this must still comply with the EU rules on state aid. Therefore, as part of the overall package agreed with Germany, the Commission authorized these German institutions to continue to benefit from anstaltslast and gewährträgerhaftung only for the following types of activities:
Public promotional activities where funds are raised, including via commercial banks, or state support is channelled to implement measures in specifically defined areas of activity, such as financing of small- and medium-sized businesses, risk capital, environmentally friendly investment, technology, infrastructure and housing. The institutions can only provide services or undertake other activities (such as treasury or risk management) that are directly linked to the particular promotional activity. Trading in securities, and deposit-fund and giro-fund business can only be pursued for their own account and only to the extent it is directly linked to their public promotional activities.
Participation in projects with an EU interest, and where there is co-financing by the European Investment Bank. For example, KfW is working with the European Investment Bank and the private sector to finance the building of the Channel Tunnel Rail Link, which the Commission has said is a project with an EU interest. KfW's participation in such financing can therefore remain covered by anstaltslast and gewährträgerhaftung.
Loans to the public authorities, such as to the federal state, the states and municipalities.
Measures of a purely social character such as granting loans to employees of the special credit institution, loans for social housing, financing social institutions or persons eligible for financial support under social legislation.
Export financing to countries outside the European Economic Area or those in the process of negotiating accession to the EU (for example Latvia, Estonia and Poland), provided certain conditions are met.
The federal state and each of the states have until March 31 2004 to pass the necessary legislation so that special credit institutions only carry on these kinds of activities and do so in accordance with the conditions laid down. If they fail to pass legislation by that date, the benefits arising for the institutions from anstaltslast and gewährträgerhaftung will be regarded as unlawful state aid from April 1 2004 and will be recovered from them.
Any other activities of the special credit institutions that do not fall into one of these authorized categories, or do not meet any of the conditions laid down for the categories, will either have to cease or be hived off into a legally independent undertaking not benefiting from public support. If the special credit institution sets up such a legally independent undertaking, then all business between the two entities must be carried out on normal market terms. The legislation at both federal and state level to cease these activities of special credit institutions, or to hive them off into a separate undertaking, must be in place by March 31 2004, but need not come into force until January 1 2008. If these time limits are not met, then the benefits arising for the institutions from anstaltslast and gewährträgerhaftung will be regarded from April 1 2004 or January 1 2008 as unlawful state aid and will be recovered from them.
Where a special credit institution carries out activity that is not listed above, or is not in accordance with the conditions laid down in the Commission Decision, the general EU rules on state aid will apply. This will mean, except in isolated cases, any advantages arising from anstaltslast, gewährträgerhaftung and any refinancing guarantees in respect of that activity will constitute unlawful state aid and will be recoverable from the special credit institution. However, the recovery will not affect the continued application of anstaltslast, gewährträgerhaftung and any refinancing guarantees to such an institution.
Finally, Germany has undertaken to ensure that any special tax advantages given to the special credit institutions comply with the above, as well as with the general EU rules on state aid, and to report each year to the Commission on the progress being made to implement the agreement.
These arrangements are beguilingly simple. In fact, they, raise significant practical problems for existing and future investors, and risk leading them into a false sense of security.
Investors who are, or become before December 31 2007, creditors of special credit institutions may be at risk that the institutions undertake before December 31 2007 both authorized and unauthorized activities, and continue those unauthorized activities after that date through a hived-off independent undertaking, where the investors do not get repaid until after December 31 2007. Although the investors presumably remain creditors of the special credit institution, and prima facie therefore should be able to continue to get the benefits of anstaltslast and gewährträgerhaftung, it is unclear whether the special credit institutions need to show that any funds they provide to their hived-off entity do not originate from such investors. It would have been preferable if the Commission decision had put beyond doubt that creditors to the special credit institutions could not be affected by any future hiving off operation.
Investors in special credit institutions after December 2007 will also need to ensure their funds are only being used for one or more of the permitted categories of activities and that the special credit institution will comply with the conditions of the Commission decision. The use of proceeds clauses in offering circulars, which are often very general in nature, should not be accepted by investors and managers unless they are specific about how funds will be used. Legal opinions addressed to managers of an issue will include almost certainly an assumption that the funds will be used for an approved activity, and as described in the offering circular, which of course potentially dilutes the value of the opinion and the reliance that can be placed on it.
Creditors to a hived-off undertaking will need to satisfy themselves that any business dealings between it and a special credit institution are conducted on an arms-length and normal market investor basis, whether or not the institution has any financial interest in the undertaking. Since the institution will only be carrying out authorized activities, and the undertaking will be carrying out other kinds of commercial or market-based activities, it would not be appropriate for the institution not to demand payment for services it supplies to the undertaking (such as the provision of a guarantee) on the basis that it is normal for a parent company to guarantee the obligations of a subsidiary, a reason often relied on in the past by the Landesbanks to guarantee the obligations of their subsidiaries in the capital markets. Thus investors and managers will need to seek specific confirmation that any transactions between a hived-off undertaking and a special credit institution, and especially one owning it, are on market terms. If not, unlawful state aid is likely to be involved.
The Commission says an isolated case of an institution carrying out an unauthorized activity or operating in an unauthorized manner will not fall under the EU state aid rules. Apart from the uncertainty for an investor of knowing what constitutes an isolated case, this approach of the Commission may suggest there is some kind of de minimis rule in state aid (meaning the aid is too small to worry about). But there is no such rule applicable in this type of case. Because the Commission has to exercise discretion when deciding whether or not to authorize state aid, it is not a power it can validly exercise without being in possession of all the relevant facts pertaining to the aid in question. It seems very unlikely that the absolute approval the Commission seems to have given to isolated breaches of the arrangement, which lead to the grant of unlawful state aid, can have any legal value. Investors and lenders should not rely on such approval.
Finally, and perhaps most important of all, investors and managers should not be lulled into a false sense of security by believing these issues are resolved by the provision in the arrangements that the continuance of state guarantees will not be affected by an institution carrying out an unauthorized activity or failing to meet conditions for carrying out such an activity. Such a provision is almost certainly ultra vires, and therefore of no legal effect, as the Commission does not have the power to decide what are the consequences under national law on a state guarantee of a breach of the state aid rules. The benefits to special credit institutions, and to creditors of those institutions, under anstaltslast and gewährträgerhaftung and any refinancing guarantees are created by German law and it is therefore German law that will decide what are the consequences for such institution and its creditors where anstaltslast and gewährträgerhaftung and any refinancing guarantees constitute unlawful state aid. The Commission has no say in that matter, since it cannot take a decision on the basis of national law, as it recognized in its notice of March 2002 on the application of the EU state aid rules to state guarantees. In this notice the Commission said it was for national law to determine the effects between the state and third parties of any state guarantee, and whether national law prevents the guarantee being honoured. When making that assessment the national court should take account of the breach of EU law.
It is surprising that the Commission believes it has such jurisdiction in the case of unlawful state aid to special credit institutions. It is particularly unfortunate that it has claimed jurisdiction on this issue in a formal decision, which is likely to engender a degree of false security in the minds of investors and managers. The wise and prudent investor should therefore not rely on what the Commission has said about anstaltslast, gewährträgerhaftung and any refinancing guarantees continuing unaffected. It is German law that will decide whether or not the indirect and direct rights they get from anstaltslast, gewährträgerhaftung and any refinancing guarantees can continue unaffected. And the courts in Germany have been advised by the Commission that they should take account of any breach of EU law when reaching their decision.