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Giving and taking guarantees and security

Are there any restrictions on giving and taking guarantees and security?

Brazil

Brazil

Some of the key areas affecting the giving of guarantees and security are as follows.

General comments

The creation of a security interest (in rem guarantee) is a very formal procedure under Brazilian law. In order for it to be valid and enforceable in Brazil, the underlying obligation being guaranteed and, if such obligation is related to, or part of, a more complex transaction, the transaction as a whole must be considered legal, valid and binding under the relevant applicable laws. If the underlying obligation, the transaction generally or just elements of the transaction are not valid, the guarantee or security is also invalid. Additionally, the security agreement must comply with certain conditions (which are considered below) and the parties to it must perform all required formal acts.

The conditions that a transaction (negócio jurídico – a term which includes security documents) must comply with are set out in Article 104 of the Brazilian Civil Code. The conditions concern the capacity of the parties, the existence of an object of the transaction and the form of the documents).

Capacity of the parties

Capacity relates to the power and authority of a given party to enter into a transaction. The parties to the security agreement must be properly represented and duly authorized and empowered to enter into the transaction and create a security interest over certain assets. Capacity is determined by reference to matters such as restrictions under the constitutional documents of the entity entering into the security agreement.

Object

Brazilian law prevents parties from entering into agreements in which the object is not possible or considered to be illicit under Brazilian law. An example of something that is not possible would be an agreement by two private parties to sell an asset owned by the state. An illicit object could be, for example, the exploitation of a casino in Brazil.

Form and other requirements

Security agreements must follow a form established or not forbidden under Brazilian law in order to be capable of being enforced in Brazil. For example, Article 1,452 of the Brazilian Civil Code and Article 127 of the Public Registries Law require that a pledge of shares be constituted by means of a written agreement (private or public) duly registered in the competent Registry of Documents and Deeds in Brazil.

Furthermore, the security agreement must be drafted in order to comply with the other formal requirements of Brazilian law, such as including a detailed description of the assets being pledged and the main financial terms and conditions of the obligation being secured, including:

  • the principal amount of the debt;
  • the repayment dates; and
  • the applicable interest rate.

Economic benefit

In addition to the formalities for the creation of a security interest, the economic benefit generated or a commercial justification for the granting of such security interest by a given issuer of a security interest will have to be analysed. Although this aspect would not generally affect the validity or enforceability of the security agreement, if there is no economic benefit for the guarantor there is a risk of claims being filed by interested third parties, such as minority shareholders or other creditors of the guarantor upon the bankruptcy of the guarantor, as explained below.

Minority shareholders

As a general rule, minority shareholders of an issuer of a security interest may challenge the execution of a security agreement on the basis that the relevant transaction was not entered into in the best interests of the company. Any claim to be brought by minority shareholders on this basis would most likely relate to the fact that there was an abuse of power by the controlling shareholder and/or that the managers carried out acts that conflicted with the company’s best interests. The grounds supporting any such claim for damages placed by minority shareholders may be strengthened to the extent that the security interest is enforced.

Creditors’ claims

Creditors of an issuer of a security interest may also challenge the execution of a security agreement if the transaction is not justifiable from an economic or commercial point of view. A Brazilian court will take into account the current credit strength (ie solvency) and the outstanding indebtedness of the guarantor when considering this issue.

Last modified 4 Dec 2019 | Authored by Campos Mello Advogados

Are there any restrictions on lending and borrowing?

Lending

Pursuant to the applicable regulation, financial institutions are prohibited to carry out credit operations with related parties, except in some limited circumstances. For this purpose, the law defines as a financial institution’s related party the following:

  • its controlling shareholders, directors and members of other statutory bodies (fiscal, advisory and others) and their respective spouses and relatives up to second degree;
  • individuals or legal entities that hold a qualified interest (as per current regulations) in their capital;
  • legal entities in which they have qualified interest (direct or indirect);
  • legal entities in which they have effective operational control or preponderance in the deliberations, regardless of the equity interest; and
  • legal entities with common directors or members of the board of directors.

The restrictions with respect to transactions with related parties do not apply to: (i) transactions carried out under conditions compatible with the common market (including, but not limited to, in respect of limits, interest rates, grace periods, guarantee requirements and risk classification criteria), which shall be similar to those conditions that the financial institution adopts in transactions with unrelated parties; (ii) arms-length transactions with entities controlled by the Union, (iii) credit operations whose counterparty is a financial institution that is part of the same prudential conglomerate, provided that they contain a subordination clause; (iv) certain interbank deposits; (v) setoff obligations; and (vi) other situations authorized by the CVM.

Moreover, there are currently certain restrictions imposed on financial institutions limiting the extension of credit to public sector entities, such as government subsidiaries and governmental agencies. These are in addition to certain limits on indebtedness to which these public-sector entities are already subject.

Borrowing

Borrowers are generally not regulated. Borrowers under consumer and housing financing usually benefit from the protection of the Brazilian Consumer Defense Code and other relevant regulations from the Central Bank.

Last modified 4 Dec 2019 | Authored by Campos Mello Advogados

What are common lending structures?

Lending in Brazil can be structured in a number of different ways to include a variety of features depending on the commercial needs of the parties.

A loan can either be provided on a bilateral basis (a single lender providing the entire facility) or syndicated basis (multiple lenders each providing parts of the overall facility).

Syndicated facilities by their nature involve more parties (such as agents and trustees which fulfil certain roles for the finance parties), are more highly structured and involve more complex documentation. Larger financings will typically be done on a syndicated basis with one of the syndicate taking the lead in coordinating and arranging the financing.

Loans will be structured to achieve specific objectives, eg term loans, working capital loans, project facilities and letter of credit facilities.

Loan durations

The duration of a loan can vary between:

  • a term loan, provided for an agreed final period of time;
  • a revolving loan, provided for an agreed period of time with an availability period that extends nearer to maturity of the loan and which may be redrawn if repaid;
  • an overdraft, provided on a short-term basis to solve short-term cash flow issues; or
  • a standby or a bridging loan, intended to be used in exceptional circumstances when other forms of finance are unavailable and often attracting a higher margin.

Loan security

A loan can either be secured, unsecured or guaranteed. For more information, see Giving and taking guarantees and security. 

Loan commitment

A loan can be:

  • committed, meaning that the lender is obliged to provide the loan if certain conditions are fulfilled; or
  • uncommitted, meaning that the lender has discretion whether or not to provide the loan.

Loan repayment

A loan can be repayable on demand, on an amortizing basis (in instalments over the life of the loan) or scheduled (usually meaning the loan is repayable in full at maturity).

Last modified 4 Dec 2019 | Authored by Campos Mello Advogados

What are the differences between lending to institutional / professional or other borrowers?

Lending to institutional/professional borrowers is subject to less regulatory oversight and so less burdensome from a compliance perspective.

Last modified 4 Dec 2019 | Authored by Campos Mello Advogados

Do the laws recognize the principles of agency and trusts?

Brazilian law does not recognize the concept of a trust. Although not specifically regulated, agency is not a prohibited activity in Brazil and may be structured through other Brazilian law instruments, such as the combination of a power-of-attorney and a service agreement.

Last modified 4 Dec 2019 | Authored by Campos Mello Advogados

Are there any other notable risks or issues around lending?

Generally

Loan agreements and other finance documents are subject to general contractual law regulation (set out in the Brazilian Civil Code). For example, Article 192 of the Brazilian Constitution, enacted in 1988, established a 12% per year ceiling on bank loan interest rates. However, since the enactment of the Constitution, this rate had not been enforced, as the regulation regarding the ceiling was pending. Several attempts have been made to regulate the limitation on bank loan interest, but none of the proposals has been implemented. On 29 May 2003, Constitutional Amendment No. 40 (EC 40/03) was enacted and revoked all subsections and paragraphs of Article 192 of the Brazilian constitution. This amendment allowed the Brazilian financial system to be regulated by specific laws for each sector of the system rather than by a single law relating to the system as a whole. With the enactment of the new Brazilian Civil Code (or Law No. 10,406 of 10 January 2002), unless the parties to a loan have agreed to use a different rate, in principle the interest rate ceiling has been pegged to the base rate charged by the National Treasury Office (Tesouro Nacional). However, there is presently some uncertainty as to whether the target rate set by Special Clearance and Escrow System (Sistema Especial de Liquidação e Custodia, or SELIC) or the 12% per annum interest rate established in the Brazilian tax code should apply.

The impact of EC 40/03 and the provisions of the new Civil Code are uncertain at this time but any substantial increase or decrease in the interest rate ceiling could have a material effect on the financial condition, results of operations or prospects of Brazilian financial institutions.

Consumer loans are also generally subject to the restrictions of the Consumer Defense Code and certain other related regulation from the Central Bank. In 1990, the Brazilian Consumer Defense Code was enacted to establish rigid rules to govern the relationship between product and service providers and consumers and to protect final consumers. In June 2006, the Brazilian Supreme Court of Justice ruled that the Brazilian Consumer Defense Code also applies to transactions between financial institutions and their clients. Financial institutions are also subject to specific regulation of the National Monetary Council (CMN), regulating the relationship between financial institutions and their clients. CMN Resolution No. 3,694 dated 26 March 2009, as amended, established new procedures with respect to the settlement of financial transactions and to services provided by financial institutions to clients and the public in general, aiming at improving the relationship between market participants by fostering additional transparency, discipline, competition and reliability on the part of financial institutions. The new regulation consolidates all the previous related rules. The main changes introduced by the Consumer Defense Code are described below:

  • Financial institutions must ensure that clients are fully aware of all contractual clauses, including responsibilities and penalties applicable to both parties, in order to protect the counterparties against abusive practices. All queries, consultations or complaints regarding agreements or the publicity of clauses must be promptly answered, and fees, commissions or any other forms of service or operational remuneration cannot be increased unless reasonably justified (in any event these cannot be higher than the limits established by the Central Bank);
  • Financial institutions are prohibited from transferring funds from their clients’ various accounts without prior authorization.
  • Financial institutions cannot require that transactions linked to one another must be carried out by the same institution. If the transaction is dependent on another transaction, the client is free to enter into the latter with any financial institution it chooses.
  • Financial institutions are prohibited from releasing misleading or abusive publicity or information about their contracts or services. Financial institutions are liable for any damage caused to their clients by their misrepresentations.
  • Interest charges in connection with personal credit and consumer directed credit must be proportionally reduced in case of anticipated settlement of debts.
  • Adequate treatment must be given to the elderly and physically disabled.

Specific types of lending

Payroll loans are a type of financial product under which the interest and repayment charges are deducted directly from employees’ or retirees’ pay checks. Since the repayment of payroll deduction loans is directly deducted from the salaries of public servants and private sector employees or from INSS (Brazilian Social Security System) retiree or pension benefits, in practice the credit risk is that of the entity to which borrowers are related. This feature enables banks to extend loans at rates lower than those charged in connection with other products offered by financial institutions in Brazil. This payment deduction mechanism is regulated by a number of laws and regulations, at the federal, state and municipal levels, which establish deduction limits and provide for the irrevocability of the authorization given by a public servant, private sector employee or INSS beneficiary to deduct the amount for purposes of settlement of the loan.

In addition, the extension of payroll deduction loans to public servants and social security service (INSS) retirees and pensioners depends on the authorization by public entities to which these persons are related.

If an employee’s employment contract terminates, whether through termination by the employer, voluntary departure or death, repayments under the loan will depend mainly on the financial ability of the borrower or his/her successors to repay the loan. In certain instances, the borrower can offer their severance package as collateral. However, such security may not be able to cover the amount borrowed since there are some limitations on the amount to be offered as collateral. Similarly, if a private employer suffers losses or enters financial distress or bankruptcy, it may not be able to pay the salaries on which the payroll deductions depend. Any of these events could increase the risk in payroll loan portfolios and increase the need for measures to control default through restrictions on new loans, which may adversely affect a company's financial condition and results. Finally, under Brazilian law, if a borrower whose payments are deducted from his salary gets divorced or separated from his spouse, alimony payments may be directly deducted from his salary. These deductions may have priority over other liabilities (including over amounts owed to banks), thus potentially limiting a bank’s ability to receive repayment.

Standard form documentation

The Brazilian market does not have standard form documentation for loans.

Last modified 4 Dec 2019 | Authored by Campos Mello Advogados

Are there any other notable risks or issues around borrowing?

Borrowers should be aware of the potential implications of the laws dealing with failing financial institutions.

In case of bankruptcy or liquidation of a financial institution, certain credits, such as credits for salaries up to 150 minimum wages (salários mínimos) per labor creditor (ie a creditor deriving from labor relationships with the employees), among others, will have preference over any other credits.

The Brazilian market has a deposit insurance system (FGC) which guarantees a maximum amount of R$250,000 of deposits and credit instruments held by an individual against a financial institution (or against financial institutions of the same financial group) and a maximum amount of R$20 million of deposits for banks with deposits, up to R$5 billion per bank. The FGC is funded principally by mandatory contributions from all Brazilian financial institutions that work with client deposits. The payment of unsecured credit and client deposits not payable under the FGC is subject to the prior payment of all secured credits and other credits to which specific laws may grant special privileges.

Last modified 4 Dec 2019 | Authored by Campos Mello Advogados

Are there any restrictions on giving and taking guarantees and security?

Some of the key areas affecting the giving of guarantees and security are as follows.

General comments

The creation of a security interest (in rem guarantee) is a very formal procedure under Brazilian law. In order for it to be valid and enforceable in Brazil, the underlying obligation being guaranteed and, if such obligation is related to, or part of, a more complex transaction, the transaction as a whole must be considered legal, valid and binding under the relevant applicable laws. If the underlying obligation, the transaction generally or just elements of the transaction are not valid, the guarantee or security is also invalid. Additionally, the security agreement must comply with certain conditions (which are considered below) and the parties to it must perform all required formal acts.

The conditions that a transaction (negócio jurídico – a term which includes security documents) must comply with are set out in Article 104 of the Brazilian Civil Code. The conditions concern the capacity of the parties, the existence of an object of the transaction and the form of the documents).

Capacity of the parties

Capacity relates to the power and authority of a given party to enter into a transaction. The parties to the security agreement must be properly represented and duly authorized and empowered to enter into the transaction and create a security interest over certain assets. Capacity is determined by reference to matters such as restrictions under the constitutional documents of the entity entering into the security agreement.

Object

Brazilian law prevents parties from entering into agreements in which the object is not possible or considered to be illicit under Brazilian law. An example of something that is not possible would be an agreement by two private parties to sell an asset owned by the state. An illicit object could be, for example, the exploitation of a casino in Brazil.

Form and other requirements

Security agreements must follow a form established or not forbidden under Brazilian law in order to be capable of being enforced in Brazil. For example, Article 1,452 of the Brazilian Civil Code and Article 127 of the Public Registries Law require that a pledge of shares be constituted by means of a written agreement (private or public) duly registered in the competent Registry of Documents and Deeds in Brazil.

Furthermore, the security agreement must be drafted in order to comply with the other formal requirements of Brazilian law, such as including a detailed description of the assets being pledged and the main financial terms and conditions of the obligation being secured, including:

  • the principal amount of the debt;
  • the repayment dates; and
  • the applicable interest rate.

Economic benefit

In addition to the formalities for the creation of a security interest, the economic benefit generated or a commercial justification for the granting of such security interest by a given issuer of a security interest will have to be analysed. Although this aspect would not generally affect the validity or enforceability of the security agreement, if there is no economic benefit for the guarantor there is a risk of claims being filed by interested third parties, such as minority shareholders or other creditors of the guarantor upon the bankruptcy of the guarantor, as explained below.

Minority shareholders

As a general rule, minority shareholders of an issuer of a security interest may challenge the execution of a security agreement on the basis that the relevant transaction was not entered into in the best interests of the company. Any claim to be brought by minority shareholders on this basis would most likely relate to the fact that there was an abuse of power by the controlling shareholder and/or that the managers carried out acts that conflicted with the company’s best interests. The grounds supporting any such claim for damages placed by minority shareholders may be strengthened to the extent that the security interest is enforced.

Creditors’ claims

Creditors of an issuer of a security interest may also challenge the execution of a security agreement if the transaction is not justifiable from an economic or commercial point of view. A Brazilian court will take into account the current credit strength (ie solvency) and the outstanding indebtedness of the guarantor when considering this issue.

Last modified 4 Dec 2019 | Authored by Campos Mello Advogados

What are common types of guarantees and security?

Common forms of guarantees

Generally, there are two types of personal guarantees: surety (fiança) and the so-called ‘aval’. Under a surety, an individual or a legal entity undertakes to perform/repay an obligation if the obligor fails to do so. Aval is a specific guarantee used to secure debt instruments. Personal guarantees are always formalized in writing.

Common forms of security

There is more than one type of in rem guarantee. The nature of the assets that support the guarantee affect which type of in rem guarantee is used. Under Brazilian law, assets can be divided into the following categories:

  • movable assets, eg shares and equipment; and
  • immovable assets, eg land and buildings.

Certain assets such as aircraft and ships, although considered to be movable assets, are subject to the requirements applicable to immovable assets (such as registration requirements).

The two most usual types of in rem guarantees are:

  • pledge (penhor), which relates to movable assets and credit rights; and
  • mortgage (hipoteca), which relates to immovable assets.

In the case of in rem guarantees, each asset given as security must be duly referred to in the relevant agreement.

The Brazilian Civil Code provides for another form of guarantee in respect of movable assets which are not fungible. This type of guarantee results in the ownership of the asset and the indirect possession of it being transferred to the creditor, while direct possession remains with the guarantor. The guarantor assumes the duties and liabilities of a bailee in relation to that asset.

Last modified 4 Dec 2019 | Authored by Campos Mello Advogados

Are there any other notable risks or issues around giving and taking guarantees and security?

Upstream and cross-stream guarantees

Upstream and cross-stream guarantees are not prohibited by Brazilian law. Where a guarantee is given in respect of the obligations of a non-Brazilian holding company, certain foreign exchange restrictions may apply.

Financial assistance

Financial assistance (which under Brazilian law includes assistance by way of loans, guarantees, security or reduction of liability) is not specifically regulated by Brazilian law. However, depending on the legal status of the company (regulated entity, financial institution, publicly or privately held corporation, limited liability etc), and the relationship between the grantor and the beneficiary of the financial assistance, restrictions may apply.

For example, financial institutions are prohibited to carry out credit operations with related parties (as defined in specific regulation), except in some limited circumstances.

Additionally, if financial assistance involves a company located outside Brazil, certain foreign exchange rules will have to be observed.

It will be necessary to take advice on a case-by-case basis as to whether restrictions apply to a particular scenario.

Notarization and apostillation or consularization

If security agreements are signed by a party outside Brazil, it must be duly apostilled (apostilado) by the competent authority of the place the foreign judgement was issued or, in case the country in which the place the foreign judgement was issued is not a party to the 1961 Hague Convention Abolishing the Requirement of Legalization for Foreign Public Documents of 5 October 1961, be legalized by a consular official of Brazil having jurisdiction over the place of issuance.

Translation into Portuguese

Only Portuguese language documents may be registered with Brazilian public registries. If the security agreements are not drafted in Portuguese, they must be translated into Portuguese by a certified translator and registered with the competent Brazilian Registry of Deeds and Documents or Real Estate Registry, as the case may be.

Registration

In other to be valid against third parties (and to ensure priority in a bankruptcy proceeding), the security agreements must be registered with the appropriate Brazilian public registries. The relevant register depends on the nature of the asset secured. For example, security over moveable assets other than planes, trains and ships is registrable at the appropriate Registry of Deeds and Documents in Brazil. Security over real estate should be registered at the appropriate Real Estate Registry. Other registrations may be required according to the type of asset that is secured. For example, security over shares in a Brazilian company would need to be registered in that company’s share registry book.

Fees

The registries in Brazil will charge a fee to perform the registration of the security agreements or any amendments to them. The amount to be charged by the registries will depend on the:

  • location in which the security agreement must be registered in (for instance, mortgages must be registered in the place where the real estate asset is located); and
  • amount being secured.

There will also be the cost related to the translation of the security agreements into Portuguese, which will be charged by the certified translator based on the number of pages to be translated, as well as the cost related to the apostillation or consularization of the signatures.

Last modified 4 Dec 2019 | Authored by Campos Mello Advogados

Roberto Barros

Roberto Barros

Partner
Campos Mello Advogados
[email protected]
T +55 11 3077 3513
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