The Act on Nullity of Loans with an International Element Concluded in the Republic of Croatia was published in the Official Gazette 72/2017 and entered into force on 29 July 2017.
The primary cause for the act – and the main reason why it had strong political support and was adopted in an urgent parliamentary procedure – appears to be a historic issue which largely took place between 2000 and 2010 (before Croatia joined the European Union). In short, during this period, certain foreign credit unions (without being licensed in Croatia) continually granted loans to Croatian borrowers. As a result, some consumer organisations pushed to have such loans annulled in order to stop the ongoing enforcement procedures over Croatian borrowers' assets.
The initial draft of the act was broad, unclear and ambiguous. At the time it was introduced it was not given much attention by the majority of legal practitioners and scholars. The only concrete opposition came from certain state administration bodies which intervened during parliamentary discussions with their own set of comments. Such comments ultimately resulted in the insertion of additional provisions into the draft act and to a certain extent managed to limit its scope and clarify the act's overall wording. However, despite these bodies' efforts and the act's improved language, it remains controversial, as its provisions are:
- potentially unconstitutional;
- potentially in breach of EU law; and
- still unclear and broad.
Material scope of application (Article 1(1)) The act applies to loan agreements with an international element that are concluded in Croatia between debtors and unauthorised creditors, except for contracts concluded by the following debtors:
- the Croatian state or local regional governments;
- a legal person owned or majority owned by Croatia or a local or regional government at the time of execution of the contract;
- a legal person being a budgetary or an extra-budgetary user of a state budget or the local or regional budget at the time of execution of the contract; or
- a legal person considered to be a 'large' or 'medium' enterprise pursuant to the law regulating the accounting of enterprises at the relevant time (ie, the date of execution of the loan agreement). Depending on the version of the Accounting Act in force at the relevant time, different conditions for qualifying as a medium or large enterprise may apply.
Definitions (Article 2) The act contains several relevant definitions, as set out below:
- 'Debtor' means a natural or legal person that has been granted a loan under a loan agreement with an international element (ie, a person that participated in a transaction as a co-debtor, a pledgor, a co-pledgor or a guarantor).
- 'Unauthorised creditor' is defined as a legal person that has approved a loan to a debtor under a loan agreement with an international element. To be an unauthorised creditor, on the date of conclusion of the agreement, the person must have:
- had a registered office outside Croatia; and
- offered or provided loan-related services in Croatia without meeting the conditions prescribed by any special regulation (ie, it had no prescribed authorisations or consents from the competent Croatian authorities).
- 'Loan agreement with an international element' means a loan or other agreement whereby an unauthorised creditor has granted a debtor a certain amount of money and the debtor has undertaken to pay the contractual interest and return the money used at the time and in the manner stipulated in the respective agreement.
Nullity of loans and other agreements (Articles 1(2), 3 and 4) The act prescribes that loan agreements with an international element that are concluded in Croatia between debtors and unauthorised creditors to be null and void ex tunc (with retroactive effect). The act also applies to other legal transactions concluded in Croatia between debtors and unauthorised creditors arising as a consequence of, or based on, said agreements (eg, security documents). Further, the act prescribes the nullity of notary public acts concluded on the basis of, or in connection with, the null and void loan agreements. However, the parties may not claim the nullity of a loan agreement if it has been fulfilled in its entirety.
Protection from enforcement and other related matters (Articles 5 and 6) The act contains provisions on protection from enforcement, prescribing that on the request of a debtor that has filed a claim to nullify the loan, the court will postpone the enforcement proceeding until completion of the court proceeding in which the nullity of the loan has been raised. The court will postpone the enforcement proceeding solely based on the fact that the debtor has lodged a claim to nullify the loan. Once the judgment on the nullity of the loan agreement (or the relevant notary public act (eg, security document)) becomes final and binding, and on the debtor's proposal, the enforcement proceeding against the debtor before the court or the Financial Agency will be dismissed.
Consequences of nullity (Article 7) Pursuant to Article 7 of the act, each party must provide restitution to the other party (ie, return to the other party everything that it has received on the basis of the null and void agreement). If this is impossible, or if the nature of the performance prevents restitution, appropriate monetary compensation must be paid in accordance with the prices valid when the court renders its decision. Consequently, the debtor's obligation to repay the amount borrowed remains; however, any enforcement cannot proceed based on the security documents being proclaimed null and void.
Jurisdiction (Article 8) In disputes arising out of a loan agreement with an international element, a debtor may institute proceedings against an unauthorised creditor either before the courts of the state in which the unauthorised creditor has its seat or, notwithstanding the seat of the unauthorised creditor, before the courts of the place where the debtor has a residence or seat.
An unauthorised creditor may institute proceedings against a debtor only before the courts of the state in which the debtor has a residence or seat. Croatian law is the exclusive governing law for agreements which are null and void under the act. Once a lawsuit on the nullity of such an agreement has been filed, the court will apply the act without examining the existence of other prescribed assumptions on governing laws relating to the place where the contract was concluded.
Following the above, it is clear that the act contains provisions on jurisdiction which are questionable given the otherwise direct application of the Brussels I Regulation (EU Regulation 1215/2012) and Rome I Regulation (EU Regulation 593/2008).
Transitional provisions (Articles 9 and 10) Pursuant to the transitional provisions, the act has no effect on a debtor's rights arising under special laws if these rights are more beneficial. Notably, pursuant to the act, loan agreements with an international element concluded before the act entered into force (29 July 2017) are null and void ex tunc and face the consequences set out in Article 7 of the act (see above). The same mechanism applies to other legal transactions concluded in Croatia before the act entered into force between debtors and unauthorised creditors arising as a consequence of or based on loan agreements with an international element.
In addition to the other questionable provisions set out in the act, the retroactive effect thereof is likely to be discussed further before the Constitutional Court of the Republic of Croatia. At the moment, publicly available information states that the foreign banking groups involved in the pre-European Union granting of loans to Croatian borrowers have already initiated a procedure to challenge the constitutionality of the act (including with respect to its retroactive effect).
Effects on project finance international lending
Relevant issues Apart from the general exceptions applicable to various debtors (eg, state-owned companies and medium to large enterprises), two critical questions arise when determining whether, for example, a project finance loan, will fall under the scope of the act:
- Was the loan executed in Croatia?
- Was the international lender authorised to provide the loan to the Croatian borrower?
Place of execution Considering the wording of the act, in order for a loan agreement with an international element not to fall under the act, it should either be executed by both parties outside Croatia or at least be executed by distant means of communication without the lender's personnel, agent or similar being present in Croatia (ie, it would need to be executed by, for example, an exchange of documents via email, fax or mail). In addition, the loan agreement should contain a clear reference to the place of signing (not Croatia) and any execution-related actions should be documented so that it is clear and demonstrable what kinds of action have been undertaken and where.
If Croatian law governs the loan agreement, pursuant to the Code of Obligations, the agreement will be deemed to be concluded in the place where the offeror (international lender) has its main office or residence when the offer was made, unless set out differently within the agreement. However, given that project finance loan agreements are mostly governed by foreign law, this matter must be further considered from the perspective of the relevant foreign law.
(Un)authorised creditors Generally, the fact that a loan agreement is executed, performed or enforced by an international lender does not result in the lender being deemed to be resident, domiciled, carrying on business or subject to licensing requirements and taxation in Croatia as a result only of such execution, performance or enforcement, assuming that the activities in question are not carried out within Croatia. In other words, it is important that:
- the loan agreement is not executed in Croatia;
- the offer to finance a Croatian borrower is not made in Croatia (including via the international lender's representative, agent or similar); and
- the offer to finance a Croatian borrower is given on a reverse inquiry basis.
Current regulatory framework and case law In addition to the above, under Croatian law, if a lender's activities are not effectively carried out within Croatia (but rather on a cross-border or consumption abroad basis) – that is, if the loan agreement is not executed in Croatia or the offer to finance the borrower is not made within Croatia (including via the lender's representative, agent or similar) – the lender should be able to pursue said lending activities in the described manner. Notably, pursuant to certain Croatian National Bank views, it may also be relevant whether, for example, the offer was given by the lender on a reverse enquiry basis.
In addition, lenders that arrange for a 'passport' notification to the Croatian National Bank can engage in lending activities in Croatia on a temporary basis (ie, if such activities are not provided regularly, frequently or on an ongoing basis in Croatia). That said, there are no clear criteria for what is considered regular, frequent or ongoing lending activities and the Croatian National Bank has not provided more precise views. Therefore, if the temporary nature of the lending activities cannot be proven or is questionable, the lender must establish a branch office in Croatia. Failure to act accordingly may put the lender at risk, as the relevant loan agreement may be challenged on the basis of the act (unless any of the exceptions above apply).
Although some of the exceptions and rules set out above (eg, on cross-border lending and consumption abroad lending) provide certain comfort, there are at least two first-instance court decisions (adopted in August and October 2017, respectively) that have taken completely different views on the act.
The first judgment considered that, although the loan agreement was signed in Austria, it had an international element (within the meaning ascribed by the act) as the notarised security document connected with the agreement was concluded in Croatia (something which could not be avoided with respect to Croatian law governed security documents); therefore, the court found the loan agreement null and void.
While this decision is arguably a result of an incorrect application and interpretation of the act (given the elements and argumentation provided in the explanation of the court's decision), it is worrying that this kind of approach was taken in the first instance, as it may become court practice – subject to review by the higher-instance courts.
As opposed to the aforementioned judgment, the second judgment in principle follows many legal practitioners' views and interpretations of the act. In short, the argument can be reduced to the fact that the loan agreement in question did not fall under the scope of the act, given that it was concluded outside Croatia.
If loan agreements between international lenders and Croatian borrowers are concluded taking into account the above considerations, there are no grounds for them to fall under the scope of the act. Generally, the overall imprecision of the act and its ambiguous wording leaves enough space for different interpretations. Further, the act remains unclear on many of the matters that it aims to regulate and at the same time raises many concerns as to its application in practice. These problems have already resulted with the abovementioned differing views and surprising explanations by one of Croatia's first-instance courts.
Provided that the above reasoning and suggestions are followed, the risk of loan-related challenges is arguably remote. However, given that the Croatian legal system is still in transition and is therefore subject to greater risks and uncertainties compared to a more mature legal system, the risk of the courts giving differing views cannot be entirely excluded.
While it remains to be seen how the higher-instance courts will rule on these issues, it is worth noting that judicial decisions under Croatian law generally have no precedential effect and the courts are generally not bound by earlier court decisions. As such, Croatian legislation may be (and has been) applied inconsistently to the same or similar disputes.
The act continues to be criticised by the public and some Croatian scholars and judges have already expressed their concerns and raised issues, including the fact that the act is unconstitutional and in contravention of EU law. Therefore, it is possible that the act will not survive its challenge before the Constitutional Court. In addition, at the end of 2017, the Rijeka Municipal Court referred a request for a preliminary ruling to the European Court of Justice (ECJ) raising questions concerning the compatibility of the act with EU law. It remains to be seen how the ECJ will rule.
For further information on this topic please contact Ivana Sverak or Željka Rostaš Blažekovic at Porobija & Porobija by telephone (+385 1 4693 999) or email ([email protected] or [email protected]). The Porobija & Porobija website can be accessed at www.porobija.hr.
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