Fiscal Liability – Update on Colombian Law Decree 403 and case law in Spain

Irregularly shaped wooden blocks background

In our third and last update on this topic so far, issued in November 2019, we discussed a case handled by Kennedys in which the office of the Comptroller General (CGR) revoked a decision that disregarded how claims made policies work. The CGR recognised claims made policies and ordered a full return of the payments done by the insurers.

In two previous articles, we wrote about how fiscal liability proceedings work in Colombia and mentioned that, on 11 September 2019, a Constitutional Amendment had been approved, on 11 September 2019, to allow Congress to enact legislation to further regulate on the subject. That happened on 16 March 2020, when Law-Decree 403 was issued.

In this article, we outline relevant provisions of Law Decree 403 and some additional developments that have taken place since, also with regard to case law in Spain.

Law-Decree 403

Law-Decree 403 introduced what has been called the “superpowers” of the CGR. After its enactment, the CGR can supervise and control the administration of public funds of all administrative levels, and in accordance with the Constitutional Amendment the CGR can exercise its control preventatively, and simultaneous to other administrations. Judicial police powers, among others, are now enjoyed by the CGR.

The remit of what the CGR can investigate has also been widened. By way of LD 403, all activities, actions, omissions, operations, proceedings, accounts, contracts, agreements, projects, acts or facts, as well as all other business that are included or that affect directly, or indirectly public funds management or that involve public property, funds, or monies, are subject to the CGR’s vigilance and control. With such augmentation of the CGR’s jurisdiction, many academic and practical discussions have been brought to an end, including whether fiscal liability can be incurred by omission.

However new issues arise, for instance whether the CGR exercising preventative control should be a cause for insureds giving precautionary notice under the policy.

The limitation period or “caducidad” to start fiscal liability proceedings is now 10 years (double than the previous 5) from the moment in which the damage occurred followed by yet another 5 years (as before) from the moment in which, in the Opening Writ, it is determined whether fiscal liability attaches. The changes to the limitation period are essential for insurers since timings in fiscal liability proceedings will affect, and apply, to insurance contracts.

Refreshingly, pursuant to article 144 is possible for the alleged liable parties and third civil liable parties (insurers) linked to the proceedings to petition the termination thereof when prejudice is considered negligible, and the costs of the proceedings and subsequent enforcement would become uneconomical. If agreeable, the CGR will report the matter in their “lessons learned” Improvement Plan, which sounds edifying.

To speed things up once the administrative resolutions are (invariable) appealed, the contentious-administrative courts hearing the appeal are ordered, by way of Article 152, to give such appeals preferential treatment but only somewhat—much as when we used to travel, seven other type of causes of action also qualify for preferential treatment. Perhaps too optimistic is the law’s mandate that the judicial review, which consists of two instances, cannot take longer than a year. It remains to be seen whether there will be enough judges to make this a reality.

ILC CASE

We have probably beaten to death the IDU case in previous updates, and there is another important precedent regarding the interrelationship of claims-made clauses with fiscal liability proceedings. Industria Licorera de Caldas is a state-owned enterprise located in the region of Caldas, that produces and markets brandy, rum and other spirits such as the Cheers beverage. However the CGR investigation that commenced on 26 March 2015 was not that cheerful, as it related to payment of penalties and interest for the irregularities in the company’s 2002 sale tax declaration. The CGR sought to collect COP 1,543,105,619 (c. USD 397,051).

On 27 December 2018, the CGR issued the accusation writ (indictment) against two ILC officers and of their 2001-2003 D&O insurers. On 29 August 2019, the CGR issued the first instance decision against the ILC officers and insurers, ordering the joint and several payment to the State of such funds. On 31 January 2020, the Director of Fiscal Trials of the CGR issued the second instance administrative decision confirming liability.

In this case, the CGR again disregarded the application of claims made clauses. However, on 17 July 2020 the CGR Conciliation Committee, considering the action filed by ILC’s D&O insurer before the Administrative Courts, decided to revoke its decision against insurers, on grounds carriers were no longer considered a liable third party within the fiscal liability proceedings since the policy was claims made, and the Opening Writ was issued outside the policy period.

CGR’s Circular 5 dated 16 March 2020 issued by the CGR

It is no coincidence that the CGR´s chief issued Circular 5 on the same date LD 403 was issued, as the market has been quite vocal with the need to remove uncertainties as to the impact of fiscal proceedings on insurers, and the Circular, addressed to all Contralorías and investigators within them, attempts to do just that. The Circular states:

• Insurance companies are not fiscal managers; therefore, their liability is limited to the risks determined in the policy.

• Insurer’s obligations have limits—these are established in the insurance contract; among others: sum insured, limits of liability, deductibles, periods of insurance, and certain conditions and exclusions that determine what is a covered loss. Investigators are implicitly invited to familiarise themselves with these concepts.

• Under article 44 of Law 610 of 2000, for insurers to be linked to fiscal liability proceedings the policy must cover the alleged liable party, the property, or the contract subject to the investigation, that must be clearly ascertained. Particular care, it is said, should be taken to avoid piling up the wrong policies.

• Emphasis is made on investigators performing what is, in effect, a proper coverage review: they are directed to obtain all policy terms and endorsements making up the entire policy, not just cover notes, and to pay particular attention to the basis on which the policy is predicated—occurrence, claims made, etc. and there is a well-intended attempt in the Circular to give specific guidance as to how these work.

• It is considered of utmost importance that “in the future”—admitting this did not necessarily happened in the past—an early, timely and comprehensive study is made of all insurance policies that could potentially respond in the proceedings, to comply with the provisions of Law 389 of 1997, the Commercial Code and the contractual terms of the respective insurance contracts, in harmony with the particular rules that regulate the fiscal liability proceeding.

Regarding claims made policies it is specifically stated that the policy period to be triggered is the one that was in effect at the moment in which the Opening Writ was issued. Unfortunately, this guideline ignores the possibility of the insured to give notice of circumstances, or when the claim is other than the Opening Writ.

In short, Circular 5 is a herculean attempt to summarise in three short pages the workings of the type of insurance that would respond to fiscal proceedings. For that, it must be commended, and although it has imperfections, time will tell how it is actually implemented.

Ministry of Finance Decree project draft regarding claims made policies.

On 18 September 2020, the Ministry of Finance published the draft of the Decree that aims to regulate claims made policies. The Decree draft in principle applies to all claims made policies, but it refers to D&O policies. The Decree incorporates some definitions such as what should be considered as a claim, aggregation, retroactive date, notice of circumstances, exclusion of previous claims or circumstances.

Whilst overall a noble initiative, there are some issues in the definitions as drafted, and there can be several problems when the policy defines such concepts in different terms.

Regarding the terms of the Decree some general comments can be made:

• The definition of a claim under D&O policies is different depending on whether it is a fiscal liability proceeding or not. For proceedings different from fiscal liability proceedings, the definition determines 45 cases in which there is a claim. By listing those cases, the meaning can leave aside other possible scenarios different from formal claims or investigations. For fiscal liability proceedings claim defined as the notification of the Opening Writ or Preliminary Investigation, leaving aside the possibility of arguing in these type of proceedings that the claim is another investigation, requirement or notification.

• The definition of policy term leaves aside the possibility to make any claim in the extended period if it has been granted in the policy. Now the second paragraph of said definition, which refers to the premium calculation does not relate to the meaning of the term.

• The definition of notice of circumstance refers to facts that the Insured have known during the policy period of which it is reasonable to expect could give rise to a claim and which are informed to the insurer during the policy period or the extended notification period, if applicable. This definition leaves aside other policy requirements that can be established within the policy terms and conditions such as the reasons why it is anticipated that the fact or circumstance may give rise to a claim with full particulars of the reasons for foreseeing that the claim will be brought, the dates, acts or circumstances and persons involved.

• The drafting of the exclusion of claims or facts known before the inception of the policy period, and the definition of a claim for fiscal liability proceedings, is such that it would be challenging to argue that this exclusion is applicable.

• The draft was opened to comments, and different market operators provided remarks. Kennedys presented some observations, and all of them were accepted.

• We will update the market on further developments on the draft Decree.

Fiscal Liability in Spain

Fiscal Liability in the traditional meaning, and in particular its insurability has always been controversial, as well as insurability of tax fines. The Spanish Supreme Court has recently admitted a tendency in favour of the insurability of fiscal liability. For instance, the Spanish Supreme Court decision of 29 January 2019 has ruled that the fiscal liability of directors and officers was insured under the D&O policy in spite of the exclusion for taxes in the policy. The Court considered that the invoked exclusion for taxes is a limitation of the insured rights beyond what the insured may expect from a standard D&O cover cover and that limitative clauses have to be expressly accepted by the insured (article 3 of the Spanish Insurance Contract Act).

Arguments against insurability of tax fines are: (i) fines imposed for wilful misconduct (own conduct or by way of vicarious liability) are not insurable under article 76bis of the Spanish Insurance Contract Act; (ii) the insurability of fines is contrary to public order (articles 1255 and 1275 of the Spanish Civil Code); (iii) if fines are insurable, their deterring and punitive purpose falls away as well as the inherent personal character of a fine and, finally (iv) it may not be possible to consider the risk as fortuitous, it being a basic requirement for the validity of an insurance contract.

It will be interesting to see how Spanish case law develops this question which will be
of paramount importance for the insurance market in Spain.

Authors: Alex Guillamont, Head of Latin America and Caribbean at Kennedys; Monica Tocarruncho, partner at Kennedys in Colombia; Isidoro Ugena, partner at Kennedys in Spain and Catalina Botero, senior associate at Kennedys in Colombia

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Questions on insolvency and bankruptcy in Latin America and Spain

Many businesses from different sectors and industries around the world have been affected by the crisis caused by the pandemic. Businesses have been forced to close, and there is a heightened risk of bankruptcy.

These businesses have insured its risks to be protected or to recover in case of a loss, but what happens then when the insured files for bankruptcy? What rights does the insurance company have? What if it is the insurance company who becomes insolvent and files for bankruptcy? How would it affect the insured? What is the impact on reinsurers?

These and other questions related to Spain and Latin America are answered on this chart where we give a brief overview on such issues.

Authors:
Alex Guillamont, Head of Latin America and Caribbean, Kennedys (Miami hub office); Radoslav Depolo, Partner, Kennedys (Chile office); Isidoro Ugena, Partner, Kennedys (Spain office)

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Latin American construction bond insurers look to force majeure for respite

old colrful construction helmets

The coronavirus pandemic has affected certain areas of the regional re/insurance market more than others, with construction insurers and reinsurers particularly exposed.

Covid-19 has had an impact on the regional insurance market in Latin America in various ways. For example, in terms of coverage disputes, there has been a notable acceleration in settlement agreements in the region being reached (and paid) by the market to provide certainty and funds in the pocket of insureds. Matters already entrenched and in litigation or arbitration have normally seen a stay of procedural time periods, giving the parties more time to prepare submissions and expert reports, but also creating opportunities to reflect and start dialogue.

Insurance markets in the region are monitoring the UK Financial Conduct Authority’s “test case” of the validity of business interruption claims in the UK with great interest. While the outcome of the court action will not have any jurisprudential effect in Latin America, the decision will certainly be illustrative throughout the region.

There has been a slowdown in expected legislation as a result of the pandemic. With regard to cyber, for instance, the enforcement of the much-expected data protection legislation in Brazil has now been postponed until 2021, with re/insurers adapting their risk perception accordingly.

We have also seen an uptake in client requests in the region with regard to specific legislation/regulation on a wide array of industries ranging from hotels to ports, airports and the Panama Canal, whether on very local issues or international trade alike, in anticipation of conversations with global insureds about how to adapt to the new landscape.

There is no escaping the negative impact of the pandemic on the construction industry in Latin America, both on existing projects and future potential. Each government in Latin America has taken the precautions it has deemed necessary. Some jurisdictions, like Panama, suspended all construction works with few exceptions; others, like Brazil, deemed construction works essential activities and allowed them to continue.

For all projects, nonetheless, there will have been complications: delay in obtaining materials, reduced workforce, slowdown in permits, reduced funding, insolvencies and so on, to mention just a few. Undoubtedly most projects will have suffered a delay.

Will the additional time being granted under construction all-risks (CAR) policies following an extension of time granted under the underlying construction contract constitute an aggravation of risk requiring an underwriting consideration beyond additional premium? The cost of pandemic-related delays may be unallocated and to the extent it is not prescribed in the underlying building contract, there is a concern CAR policies may respond or pass the risk on to the surety.

Surety
There is notable interest, therefore, in surety bonds, which are (usually) ancillary to the underlying construction contract and how they will respond to the ongoing pandemic. It is important to point out surety bonds in LatAm have some particular risks associated with them, which are now exacerbated. Their high risk value for one thing: historically, it would be common to see a surety bond for around 10% of the value of the works, but more recently we are seeing bonds for up to 50% of the value of projects in Latin America. Are all sureties skilled enough in construction matters to understand whether the trigger of their bond is genuine or they have become the “pandemic bank”? Can they challenge the demand? And can the surety access the huge sums of money needed at short notice to make their payment?

Most countries in Latin America have their own unique laws and regulations in addition to the terms of the surety bond itself. The reason for their concern about payment time is real: in some countries, a failure to pay can be a criminal offence. In an “on-demand” jurisdiction, there is no time (let alone opportunity) to challenge the validity of the call.

Sureties need to arm themselves with information on how the works were right before the pandemic and keep abreast of developments. A prudent surety will surround himself with an experienced professional team that can address issues timeously, is able to monitor progress and seeks to rectify concerns by commercial agreement before time expires.

In LatAm, we hear threats of a bond call simply as an additional bargaining tool where the contractor and developer are: unable to reach an agreement on changes to be made to the works; hit delays from events of force majeure; are unable to accelerate completion of the project and have run out of money; and cannot agree on who will pay for the extensions of time.

The parties therefore look to their cash-rich surety (usually outside the LatAm region), especially if they are operating in an on-demand jurisdiction. A lot hangs on how the region considers an event of force majeure and whether that defence can be carried over to the surety, as well as to the underlying contract.

Force majeure
Fortunately, there is some light at the end of the tunnel. The legal doctrines of force majeure and act of God may provide respite for concerned re/insurers acting as guarantors under these surety bonds. While each jurisdiction in Latin America interprets these doctrines in their own way, we will focus on the commonalities linking these doctrines throughout the region.

The majority of jurisdictions in Latin America define force majeure and the closely related doctrine of act of God as an unforeseen event that is impossible to resist. Most jurisdictions distinguish between the two by the type of event: if it is a natural event (such as a hurricane or earthquake) it is an act of God; if the event is man-made (such as a government order or imprisonment) it is force majeure. Interestingly, in Brazil the inverse is true; natural events are considered force majeure, while man-driven events are considered fortuitous events.

It is important to bear in mind these doctrines are legal justifications for the breach of contractual obligations; however, in most cases, these do not rescind the contractual obligations in their entirety. For example, art 956 of the Argentine Civil & Commercial Code says when the impossibility to fulfil the contractual obligation is temporary, the underlying obligation will only be extinguished in cases where time is of the essence.

We have found there are two common requirements to apply these doctrines throughout the region: inevitability and unforeseeability. In general, an event can be said to be unforeseeable when the contracting parties could not have reasonably anticipated or prevented the occurrence of the event during the execution of their obligations. As such, unforeseeability, from a legal perspective, is an event that although it may have been imagined, is sudden or unexpected and despite the diligence and care taken to avoid it, still occurred.

An event is inevitable when whomever suffers it cannot reasonably avoid its consequences. It is important to clarify it is not the event itself that needs to be inevitable, but the consequences or damages of that event that should be inevitable. We also highlight that demonstrating i) a causal link between the force majeure/act of God event and the breach of the obligation; and ii) that the force majeure/act of God event cannot be attributable to the breaching party are also common requirements seen across the region.

The legal doctrines of force majeure and act of God may provide respite for concerned re/insurers acting as guarantors under the surety bonds
Moving these concepts into the realm of surety, we point out the majority of jurisdictions in Latin America consider surety bonds ancillary to their underlying construction contracts. As such, any breach in the underlying contract excused via force majeure would also excuse breaches under the ancillary surety bond, unless the bond had provisions that say otherwise. A notable outlier to this line of jurisprudence is Colombia, which does not consider surety contracts to be ancillary to their underlying construction contracts. For this reason, it is a common practice in Colombia to include force majeure exclusions in surety contracts.

It is, however, important to undertake an analysis of the application of force majeure/act of God on an ad hoc basis. Finally, the possibility always exists the underlying parties decide not to invoke force majeure or act of God and the consequences that come from these doctrines as a defence to their contractual obligations. As such, a lot will depend on the parties’ intentions.

Generally speaking, insurance activities (including adjustments) have been considered essential activities, so adjusters have continued operating but cannot visit sites, posing complications in a region where insurers have specific time periods to respond to claims. Silence deems acceptance (Peru, for example). While orders were issued in light of Covid-19 extending time periods, we advise caution as the orders did not specifically address the laws that established these periods, therefore it would be prudent to meet them.

The insurance market in LatAm faces an undoubtedly challenging time now and in the months to come, with no real jurisprudence to follow and different regulations/positions taken in each country. How a claim will be analysed will depend on the facts of each claim set against the legal landscape in which the claim is made. Force majeure may offer some comfort where it applies. Only time will tell.

Authors: Anna Weiss, Head of Construction for Latin America and the Caribbean, Alex Guillamont, Head of Latin America and Caribbean and Javier Vijil associate in the Miami hub for Latin American and Caribbean at Kennedys.

This article was first published by Insurance Day on June 22nd 2020

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