Judicial crisis in the problem debt market

Column by Kristina Yaniv, chief legal adviser of the project Legal Support Department of FC Investohills Vesta LLC for AFI.

In recent years, the NPL market in Ukraine has shown steady growth. So, in 2020, 45 thousand transactions worth UAH 85 billion took place on the problem debt market, which is 46% more than in 2019. In the first half of 2021, 30 thousand contracts worth UAH 30 billion have already been recorded. Most of these agreements were concluded at the initiative of the Deposit Guarantee Fund of Individuals (hereinafter referred to as the Fund), which is a monopolist in the sale of problem debt in Ukraine.

The official website of the Fund defines that the Fund’s mission is to guarantee deposits, protect the rights of creditors, and raise financial awareness to ensure confidence in the financial system and the well-being of society.

The Fund’s vision is to be an open, innovative and reliable partner that prevents financial losses and forms international standards in the field of deposit guarantee.

The current legislation regulating the deposit guarantee system defines that the Fund is an institution that performs special functions in the field of guaranteeing deposits of individuals and withdrawing insolvent banks from the market and liquidating banks in cases established by the law of Ukraine “on the deposit guarantee system of individuals” (hereinafter referred to as the law).

The bank’s assets that are sold in the liquidation procedure are any immovable and movable property, funds, property rights, and so on. And one of the ways to implement them is through open auctions.

The law stipulates that after the Executive Directorate of the Fund approves the results of the inventory of the bank’s property and the formation of the liquidation mass, the Fund begins pre-sale preparation and sale of the bank’s property in accordance with the procedure established by this law and regulatory legal acts of the Fund, at the highest value in the shortest possible time (Part 2 of Article 51 of the law).

At the same time, the Fund approves the methods, procedure, composition and conditions for alienation of the bank’s property included in the liquidation mass, and, if necessary, organizes a consolidated sale of the property of several banks that are simultaneously in the liquidation procedure (Part 3 of Article 51 of the law).

Funds received as a result of liquidation and sale of the bank’s property are allocated in accordance with the order defined in Part 1 of Article 52 of the law, including for compensation of the Fund’s expenses for payment of the guaranteed amount of compensation to depositors of an insolvent bank, as well as for satisfaction of claims of individual depositors in the part exceeding the amount of guaranteed compensation. Consequently, the proceeds received as a result of the sale of the property of an insolvent bank in the liquidation procedure are one of the main sources of Funds for payments to affected depositors of failed banks.

Although by its decision of 16.03.2021 in case No. 906/1174/18, the Grand Chamber of the Supreme Court confirmed the right of any person to buy out the problem debt of an insolvent bank, the main buyer of assets of insolvent banks remains professional participants in the financial market-financial companies.

However, the asset market of insolvent banks is now increasingly losing its attractiveness for both Ukrainian financial companies and investors. The drop in interest is due to the latest trend of judicial recognition of electronic auctions for the sale of assets of insolvent banks and contracts concluded as a result of such auctions as invalid.

Due to the latest trends in judicial practice, debtors, without being parties to contracts or bidders, were given the right to appeal against auctions and contracts for the purchase and sale of bank assets. It is important to note that plaintiffs in such cases, as a rule, are somehow connected or controlled by the management or owners of insolvent banks.

At the same time, when considering relevant disputes by the courts, the study of violations of the rules of bidding established by law, which are the exclusive grounds for declaring public auctions invalid, is completely leveled. These decisions also raise doubts about the existence of a violated right of the plaintiffs.

For example, you can refer to a number of court cases in which the Supreme Court has already made final decisions. So, on Business №904/6248/19, №904/5976/19, №904/43/20, №910/8644/20, №910/9351/20, №910/11177/20, №910/8680/20 on the appeal of electronic auctions and their results, where the plaintiffs are unscrupulous borrowers and are associated with top management or nominee owners of insolvent banks, the courts granted claims. But the analysis of the relevant decisions shows a disregard for the norms of the current legislation, including the civil code, the CPC and the law of Ukraine “on the deposit guarantee system of individuals”, as well as the lack of proper research on the actual circumstances of the case, in particular, the presence of violations of the procedure for conducting electronic auctions, establishing a violated right and a proper way to protect possible violated rights by invalidating contracts concluded as a result of electronic auctions.

These decisions of the Supreme Court on invalidating electronic auctions and contracts of assignment of the right of claim of insolvent banks create a dangerous basis for changing judicial practice, and also call into great doubt not only the actions of the state represented by the DGF, which sold the bank’s asset at an open auction and satisfied the claims of creditors, but also the legality and effectiveness of the deposit guarantee system as a whole.

It is important to note that in some cases, the courts today continue to follow the previous judicial practice, investigating and establishing all the circumstances of the case in order to identify legitimate grounds for declaring electronic trading invalid. For example, in cases №910/5251/20, №916/2562/19, №910/16825/20, №904/5480/19, when appealing against the same electronic auctions for the sale of assets of insolvent banks, the courts refused to satisfy the claims, justifying their decisions by the absence of violations of both the bidding procedure and the rights of the plaintiff.

The approach used in these cases made it possible to exclude unjustified appeal of the auction by persons who did not participate in the auction, persons associated with the former management of the bank, which protected both investors who buy problem debt, and creditors and depositors of an insolvent bank who can get satisfaction of their claims at the expense of proceeds from the auction results, as well as the deposit guarantee system as a whole.

The above-mentioned change in judicial practice in favor of unscrupulous debtors allows any person to apply to the court with a claim to appeal the results of the auction and declare them invalid in order to avoid liability for their own obligations. This, in turn, not only critically reduces the attractiveness of the problem debt market for financial companies and investors, but also undermines the system of state guarantees and causes even greater distrust of the banking sector and the judicial system.

What provoked such a sharp and unjustified change in judicial practice is not clear, but it is already making its own adjustments to the sale of assets of insolvent banks by the fund. Over the past year, with the emergence of relevant negative judicial practice, less and less often the Fund successfully sells property, and therefore less and less funds are transferred to the accounts of insolvent banks, which is confirmed by press releases published by the Fund:

Time period May 2021 June 2021 September 2021 October 2021
Funds received exclusively from the sale of assets at electronic auctions UAH 996 million UAH 894 million UAH 427.7 million UAH 145.4 million


In our opinion, this alarming trend in judicial practice not only negatively affects the price of assets of insolvent banks and reduces the proceeds from their sale, which are used for settlements with creditors and depositors, but also undermines confidence in the problem asset market as a whole and threatens its further development and existence.