ESCROW: new opportunities

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Pepeliaev Group advises that, starting from 1 June 2018, the Law on Financial Transactions[1] has come into force, which considerably has expanded the opportunities of using the escrow mechanism.

The Civil Code of the Russian Federation has been supplemented with the new chapter 47.1 that establishes the general rules of an escrow agreement and eliminates gaps in and the disjointed nature of escrow regulation in Russian law.

Main provisions

Under an escrow agreement a depositor transfers property for deposit to an escrow agent for the purpose of performing its obligation to transfer such property to another person (the beneficiary). Meanwhile, the escrow agent ensures that the deposited property is safe and transfers it to the beneficiary if the grounds for such transfer specified in the agreement arise.

An escrow agreement is trilateral. It is concluded between a depositor, a beneficiary and an escrow agent in notarised form for a term not greater than 5 years. A simple written form is allowed in situations when money in cashless form and/or paperless securities are deposited.

Escrow Agent

The law on financing transactions expands the list of entities that may act as escrow agents. Presently, the functions of such an agent may be performed by both individuals (including notaries), and legal entities. Before the Law on Financial Transactions came into force, escrow was a limited possibility in Russian law, meaning that only a bank could act as an escrow agent.

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It transpires that the activity of non-commercial organisations with respect to the performance of an escrow agent’s functions must be provided for by their articles of association and must serve the purposes for which they have been created and comply with such purposes.

The escrow agent’s activity has to be compensated. Under the general rule, the depositor and beneficiary jointly bear the obligation to pay such compensation. However, the escrow agent may not withhold the property deposited with it or offset such property against any remuneration due to it. The parties may also determine other rules in the escrow agreement.

Deposited Items

The list of items to be deposited has also been considerably widened. The parties may deposit not only money, but also movable property and paperless securities.

The law imposes liability on the escrow agent for the security of deposited items, unless the escrow agent proves that the items have been lost/damaged as a result of force majeure circumstances or owing to properties of these items of which the agent was not and should not have been aware, or as a result of intent or gross negligence of the depositor.

Transfer of property to the beneficiary

If grounds that are specified in the escrow agreement arise, the escrow agent must transfer the deposited property to the beneficiary. Among possible grounds are actions performed by the beneficiary or a third person, the maturity of a payment or occurrence of an event. If there are no grounds for transferring the property to the beneficiary, the property is returned to the depositor.

The fact that grounds for transferring property have arisen may be confirmed by documents provided by the beneficiary. The escrow agent checks such documents only for conformity to the external criteria, unless the escrow agreement provides for an obligation to check the grounds for transferring property.

Ensuring protection of the parties’ interests

The interests of the parties to an escrow are ensured by the principle of inviolability. In essence, this principle means, firstly, that the deposited property must be detached and accounted for on a separate balance sheet of the escrow agent. The escrow agent may not dispose of such property or use it, unless the agreement provides otherwise or unless the contrary follows out of the essence of the obligation.

Secondly, general measures for the protection of the parties' interests are established. It is not allowed to levy execution on the deposited property, seize it or use it for a provisional remedy with respect to the escrow agent’s or depositor’s debts. The depositor may not dispose of the deposited property after it has been transferred to the escrow agent.

Thirdly, the principle of inviolability has been further developed in special laws. For instance, according to articles 101 and 131 of the Bankruptcy Law[2], neither an external administrator nor a bankruptcy administrator may dispose of the deposited property of the depositor, if the latter is a debtor. The deposited property is not included in the bankruptcy estate. Under article 73.3 of the Law on Enforcement Proceedings[3], no execution is levied on the deposited property with respect to the debts of the escrow agent, depositor and beneficiary.

Termination of an escrow

The legislator has not established an exhaustive list of grounds for terminating an escrow agreement. Among possible grounds are: death of an individual acting as an escrow agent, or such individual being recognised as legally incapacitated, partially incapacitated or missing; termination of the powers of the notary acting as an escrow agent; and the liquidation of a legal entity acting as an escrow agent.

In view of the trilateral nature of the escrow agreement it has been established that a possible ground for its termination is when the depositor and beneficiary withdraw from the agreement by jointly notifying the escrow agent of such withdrawal or using another procedure stipulated by the escrow agreement.

The termination of an escrow agreement results in the return of the deposited property to the depositor or in the transfer of such property to beneficiary, if there are grounds for such transfer, unless an agreement between the depositor and the beneficiary provides otherwise.

What to think about and what to do

Owing to the changes that have been effected, the institution of escrow in Russia has begun to look viable and in line with global practice. This, in particular, is due to the expansion of the list of items that may be deposited and scope of possible escrow agents, as well as to the fact that the legislation now stipulates specific measures for protecting the deposited property from being collected/seized.

We draw your attention to the opportunities of escrow that the new regulations provide for and advise you to examine how it may be used for the structuring of transactions.

Help from your adviser

Pepeliaev Group's lawyers have an extensive track record in structuring transactions using escrow and will readily provide the necessary legal support on any aspects of the above new developments in the law.

[1] Federal Law No. 212-FZ dated 26 July 2017 “On amending parts one and two of the Civil Code of the Russian Federation and specific legislative acts of the Russian Federation” (the “Law on Financial Transactions”).

[2]Federal Law No. 127-FZ dated 26 October 2002 On insolvency (bankruptcy) (the “Bankruptcy Law”) (with the amendments and supplements as in effect on 1 June 2018).

[3] Federal Law No. 229-FZ dated 2 October 2007 “On enforcement proceedings” (the “Law on Enforcement Proceedings”) (with the amendments and supplements as in effect on 1 June 2018).

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