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New regulations on netting agreements governing financial transactions related to derivative instruments have been passed as an additional provision to a law customarily enacted at the same time as the approval of the budget for the following year. That law, which came into force on January 1 1998, added a new section to a 1994 law on the Second Banking Directive.

The new regulations on netting represent a major legal development as the insolvency risks traditionally found in dealings in derivatives with Spanish counterparties have been largely removed.

Netting agreements, although not expressly contemplated under Spanish law, may be executed in the light of the freedom of contract principle.

The enforceability of netting agreements has traditionally faced two major obstacles in cases of early termination on a Spanish counterparty's insolvency. On the one hand, there was a risk that the netting of debts and credits arising under separate contracts would not be recognized, because the netting could affect the equal treatment of creditors principle which the Spanish Courts tend to hold as a fundamental principle of the Spanish insolvency regime. On the other hand, there was the risk that the retroactive effects of the bankruptcy declared by Spanish Courts could affect the validity and enforceability of netting agreements by rendering them null and void if executed after the date deemed to be the start of the bankruptcy.

New regulations

These two problems have been substantially solved by the new regulations. As regards the first problem, the new regulations establish that the declaration of early maturity, termination, expiry or equivalent effect on the financial transactions included in a netting agreement cannot be limited, restricted, or influenced in any way by insolvency proceedings affecting any of the parties of the agreement, its subsidiaries or branches. In the event of termination of a netting agreement on the insolvency of one party, the other party will have one single credit against or will owe one single debt to the bankruptcy estate. The single credit or debt will be equivalent to the balance resulting from the differences between the debts and credits from all transactions covered under the netting agreement. This rule removes the risk under the former legal regime of having to include all separate debts and credits within the bankruptcy proceedings.

In respect of the second problem, netting agreements executed after the date on which bankruptcy is deemed by a court to have started are not in principle held null and void and it is for the bankruptcy's trustees to challenge their validity in court. Trustees may only do so where it is alleged that a fraud was committed.

Scope of the new regulations

The scope of application of the new rules is restricted to:

  • certain type of entities — at least one of the parties must be a credit institution, an investment services company or a non-resident entity authorized to conduct regulated activities under Spanish law;
  • certain type of financial transactions — transactions must relate to derivative instruments made within the framework of a netting agreement. The regulations establish that the netting agreement must provide for the creation of a single legal obligation combining all financial transactions to which the netting agreement refers so that in the event of termination the parties will have the right to demand only the net amount (the balance) of the transactions terminated. Regarding derivative instruments, it is specified that they include swaps, forward rate agreements, options and futures, currency purchases and sales, and any combination of the above, as well as any similar transaction or with analogous characteristics; and
  • certain insolvency proceedings — the list of insolvency proceedings set out in the new regulations is comprehensive and includes any application for or state of bankruptcy or suspension of payments, liquidation, administration, intervention or creditors' meeting.

Luis de Carlos and Gabriel Náñez

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