United Arab Emirates
Lending in the UAE 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 which fulfil certain roles for the finance parties), and are more highly structured, involving more complex documentation. Larger financings will typically be done on a 'club' or 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, equity bridge facilities, project, real estate facilities, trading finance and letter of credit facilities.
Loan durations
The duration of a loan can also vary between:
- a term loan, provided for an agreed period of time but with a short availability period;
- 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 also 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 also 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).
Shari’a and Islamic finance
Islamic banking and finance transactions are based on Islamic principles and jurisprudence (together referred to as Shari’a or Islamic law) which is derived from a number of sources, including the Qu'ran. Islamic finance structures and techniques have developed in accordance with Shari’a principles and these principles must be adhered to when deciding whether a proposed financing structure or product is Islamically acceptable.
The key principles are as follows:
- No interest – Under Shari’a, money is regarded as having no intrinsic value and also no time value. The payment and receipt of interest (riba) is prohibited under Islamic law and any obligation to pay interest is considered to be void. This rule also prevents a financier from charging penalties and/or default interest.
- No uncertainty – Uncertainty (or gharrar), particularly any uncertainty as to one of the fundamental terms of an Islamic contract (such as subject matter, price or delivery), is considered to be void under Shari’a. This principle is fairly broad as it requires certainty on all fundamental terms of a contractual arrangement.
- No speculation – Contracts which involve any speculation are not permissible (haram) and are considered to be void. This does not, however, prevent a degree of commercial speculation which is evident in a lot of commercial transactions. The prohibition applies to forms of speculation which are regarded as gambling. The general test is whether something has been gained by chance.
- Unjust enrichment/exploitation – A contract where one party is regarded as having unjustly gained (at the expense of another) is also void. The principle also extends to the enrichment of one party who exercises undue influence or duress over the other party.
- Investments – The proceeds in Islamic finance should not be used for the purposes of purchasing or investing in products or activities that are prohibited. These prohibited items and activities include the manufacture and/or the sale or distribution of alcohol, tobacco, pork products, music or pornographic productions, the operation of gambling casinos or manufacturers of gambling machines – but also extend to conventional banking and insurance activities, as well as defense and weaponry.
Islamic financiers or investors work closely with Shari’a scholars – Muslim scholars who specialize in providing guidance on the application of Shari’a principles to commercial activities – to make sure that structures and products remain compliant with the rules and principles outlined above. In effect, these scholars have the controlling say in whether or not a particular structure, product or document should be approved. However, it is important to note that Shari’a is not a codified system of law and interpretations of the key principles can vary, particularly between the different ‘schools of thought’ within Islam.
Islamic principles do not prohibit a financier in an Islamic finance transaction from making a profit, rental or other return on its asset or investment. To that end, a number of contemporary structuring techniques (or Islamic contracts) have developed which allow Islamic bankers to structure transactions and products in a way that comply with Islamic principles While also replicating the economics of conventional loans and products. Alternatively, a structure may demonstrate that the financier has assumed some of the commercial risk inherent in an underlying transaction or business venture. Sometimes these structures or approaches can be combined.
Some examples of Shari’a contracts
- Sukuk – These are a type of certificate or note (often called Islamic bonds) which represent a proportionate interest (sometimes also described as a participatory interest) in an underlying asset or investment. They are generally considered to be debt securities (akin to bonds) which, depending on the underlying asset or transaction, can be traded in the secondary market. The Sukuk certificates are often 'layered' on top of an underlying Islamic financing technique which is intended to derive a return from an underlying asset or investment (such as Ijara – see below).
- Ijara – This is Islamic financing's equivalent of leasing and is often described as a hybrid between an operating lease and a finance lease. In general terms, the financier will act as lessor and the borrower entity will act as lessee and will pay rentals to the lessor.
- Murabaha – The financier will buy an asset or a commodity from a supplier and will then on-sell the asset to the customer on deferred payment terms at an agreed marked-up price (cost price plus profit).
- Wakala – This is an agency relationship between an investor or principal (muwakkil) and the agent (wakil).
- Istisna’a – This is essentially a sale contract whereby the seller or manufacturer undertakes to deliver a specific asset according to certain agreed specifications. The price of the asset and the date of delivery are specified at the outset.
- Mudaraba – This is a contractual arrangement between investors (rab al-maal) and a manager (mudareb). The investors typically put up capital which the manager then invests.
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.
Capacity
It is important to check the constitutional documents of a company giving a guarantee or security to ensure it has an express or ancillary power to do so and there are no restrictions on the directors' powers to do so. In general, the directors'/managers' duties requirements under the Companies Law require the directors/manager to ‘preserve’ the company's rights which is similar to the English law requirement that directors act in the best interests of the company. However, provided that the giving of a guarantee or the granting of security is considered to be in the best interests of the group as a whole, there should be no issues from a directors' duties perspective. This should be recorded in the authorizing resolutions when the security is granted.
Public joint-stock company (PJSCs)
Special care needs to be taken if a PJSC is granting security or giving a guarantee. Article 154 of the Companies Law requires directors to have express powers to enter into mortgages (over moveable and immoveable property). Consequently, a separate shareholders' resolution will be required if such express powers are not already provided in, for instance, the company's constitutional documents. Although the legislation would appear to capture LLCs as well, it was clarified by a 2016 Ministerial Decision that this requirement does not apply to LLCs.
In addition, there is a broad prohibition on PJSCs providing financial assistance for the purchase of its own (or of its holding company's) shares. It is important to note that there is no ‘whitewash’ procedure available of the type seen in other jurisdictions.
Insolvency
Guarantees and security may be at risk of being set aside under the UAE Insolvency Law if granted by a company within a certain period of time prior to the onset of insolvency.
No concept of trust
There is no concept of trust as exists in common law jurisdictions and the use of a local security agent holding security for the benefit of lenders through a parallel debt mechanism has become market practice (although has not been tested by the courts).
Notarization
With respect to security over certain assets (such as share security taken with respect to certain companies), it is necessary that the signing of the security is notarized in front of a UAE notary public. In order to notarize the signing of a document, the notary public will generally require all relevant documents (such as constitutional documents of the grantor, required board or shareholder resolutions and licenses to be translated into Arabic, notarized in the relevant jurisdiction of the shareholders and then legalized both in the country of the shareholder and then brought onshore and stamped by the Ministry of Justice).
What are common types of guarantees and security?
Common forms of guarantees
Guarantees are common in the UAE and it is also quite common to see personal guarantees given in relation to a loan for commercial purposes.
Guarantees are specifically codified in Chapter V of the Civil Code. Separate rules apply to bank guarantees under the Commercial Transactions Law. Although UAE courts have taken different approaches as to whether a guarantee of a bank loan is a civil or commercial transaction, it is common to disapply certain provisions of the Civil Code which may have an impact on the lenders' position (such as Article 1092 of the Civil Code which provides that a creditor must claim for a due debt within six months from the date of maturity).
The Commercial Code recognizes bank guarantees (which often take the form of a bond). Certain rules apply to these instruments such as assignment and time limits and there is a provision that ‘in exceptional circumstances’, the guarantor can successfully resist payment. It should be noted that the courts have been reluctant to apply this provision.
Types of security
Security over real estate and real estate interests (such as usufructs and musatahas (akin to a development agreement) are taken by way of mortgage. Some of the Emirates (and free zones) have specific laws dealing with mortgages but in the absence of legislation, mortgages are governed by the Civil Code. Although the practices of the relevant registrars may differ (and the practice at a particular registrar might evolve as well), generally mortgages over real estate may only be granted in favor of a bank which is licensed by the UAE Central Bank, be translated into Arabic and notarized prior to registration.
In relation to moveable property, UAE Law No. 20 of 2016 on the Mortgage of Moveable Assets to Secure a Debt (Pledge Law) governs how security is taken over certain classes of moveable assets such as accounts, trade payables, equipment and tools, goods and raw materials and agricultural products. The Pledge Law provides that security over such moveable property should be by way of written security agreement or mortgage and, contrary to the previous position in the UAE, allows security to be taken over property without demonstrating possession and also allows security to be taken over future property (including bank accounts with fluctuating balances). It is therefore possible to take security over such moveable property which is similar in effect to an English debenture or law floating charge (provided that the requirements of the Pledge Law are adhered to).
We note, however, that the Pledge Law does not govern security over all moveable assets, and so care should be taken when securing a particular asset class to ensure that the security is in the correct form. For example, the Pledge Law specifically excludes insurance contracts and proceeds from its operation, meaning that any security taken over insurance contracts and proceeds should follow the traditional form (which is security by way of assignment). Security over ships, aircrafts and vehicles are also subject to different laws and regulations in the UAE. Depending on the nature of a transaction, this may require the security document to be notarized and for registration to be made in an appropriate asset register.
Due to the introduction of the new Companies Law, it is possible to take security over the shares in a company, including onshore LLCs. (It should be noted that the position differs from free zone to free zone and would need to be checked.) The process for taking security over pledges of shares should be checked with the relevant department in each Emirate as the process differs. However, generally the practice has been that this security may only be granted in favor of a bank licensed to carry out business in the UAE and is subject to notarization requirements.
Are there any other notable risks or issues around giving and taking guarantees and security?
Giving or taking guarantees
The Civil Code provides that a lender should not be obliged to first prove the bankruptcy of the borrower before claiming against the guarantor and that the borrower and the guarantor shall not be discharged from the balance of the debt if the parties agree a composition in relation to part of the debt. These provisions can be set aside.
There is no concept of a deed under UAE law and accordingly, guarantees should be executed in the same manner as any other contract. There is also no requirement for guarantees to be notarized, although it is quite common for the signature of a personal guarantor to be witnessed.
However, if a guarantee were to be brought before a local court, it would need to be translated into Arabic by a certified translator and the Arabic version would prevail- for this reason, parties sometimes require a guarantee to be translated into an agreed version of Arabic prior to execution although there is no universal practice in this regard.
Giving or taking security
As mentioned above, there is no concept of a deed under UAE law. Depending upon the type of security and where the asset is located (onshore or in a free zone), there may be a prescribed form of security (for example, the Dubai Land Department requires a short form mortgage to be registered, so a practice has developed that both a long form and short form mortgage are signed).
In relation to security taken over moveable property pursuant to the Pledge Law, in order to perfect such security it is necessary to register the security on the register established under the Pledge Law, which is known as the "Emirates Moveable Collateral Registry". The Emirates Moveable Collateral Registry is an online registry, and so in order for a secured party to effect a registration with this registry it is a matter of the secured party creating an online account with the registry and then submitting via an online form the required information about the secured property and the security provider.
The registration requirements in relation to other forms of security should always be checked as there are time periods required by some free zone registries.
James Iremonger
Partner
DLA Piper LLP
[email protected]
T +971 4 438 6253
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