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LAW 1116, SECOND CHANCE, OR ABUSE OF THE RIGHT?

An in-depth analysis of corporate insolvency law 1116, popularly known as “bankruptcy law” from a legal and juridical point of view.

Since the dawn of mercantilism as an economic model, in the Europe of the 14th and 15th centuries, it has been clear that all business economic activity entails risks of various kinds. This, logically, allows those with sufficient capacity, resilience, innovation and luck to obtain the highest returns available on a social level; however, given that such rewards are available, the possible fall associated with this activity has the same dimensions.
Therefore, since those same times, merchants and the State have sought legal mechanisms that would allow them to manage, in an orderly and adequate manner, the occurrence of such loss, namely the aforementioned ruin or collapse.
Originally, this was known as the Bankruptcy Law. Curiously enough, this provision was quite literal, because when a merchant realized that he could no longer continue with his commercial activity, since his “cash flow” would not support it (he had much more expenses than income), he was forced to break the bank where he sat and in that sense he could not carry out any more actions in the market.
The evolution of man, the market and the law has made this simple solution more difficult at unexpected levels. Currently, Colombian law has a dual regime: one for legal entities (Law 1116 of 2006) and another for individuals (Law 1564 of 2012).
In this article we want to review a little more in depth what is said in the first mentioned regulation, since most of the legal businesses in the country are developed through the vehicle of legal or statutory persons, as they are also known.
This law establishes a series of factual assumptions, which once experienced by the business organizations, they may opt either to carry out reorganization or liquidation as viable legal solutions.
Such assumptions are found in Article 9 of Law 1116 of 2006 and are as follows:

  1. To be in cessation of payments: “Defaults on the payment for more than ninety (90) days of two (2) or more obligations in favor of two (2) or more creditors, contracted in the development of its activity, or has at least two (2) demands for execution filed by two (2) or more creditors for the payment of obligations. In any case, the accumulated value of the obligations in question must represent not less than ten percent (10%) of the total liabilities in charge of the debtor as of the date of the financial statements of the application, in accordance with what is established for the effect in the present law.”
  2. Being in a scenario of imminent inability to pay: “The debtor will be in a situation of imminent inability to pay, when it proves the existence of circumstances in the respective market or within its organization or structure, which affect or may reasonably affect in a serious manner, the normal fulfillment of its obligations, with a maturity equal to or less than one year”.

In addition, it also establishes another series of technical requirements that must be reviewed in each specific case, such as the expiration or not of the term to preserve the grounds for dissolution, the fulfillment of obligations as merchants, the existence of pension liabilities, among others.
It is also relevant to define the purpose pursued by this regulation, which can be summarized in the case of reorganization, in the State’s idea of preserving the company as a market dynamizing entity, taking care of the jobs created and, in short, granting a second opportunity to the company that for various circumstances was immersed in the situation of not being able to pay its obligations or faced with the imminent need of not being able to do so.
We consider this purpose to be entirely praiseworthy and necessary, and we believe that in many cases material results have been obtained that meet these objectives.
However, as it usually happens in our country, as sad as it is to say, in recent times, we jurists have witnessed an unfortunate way of using Law 1116, which may have serious legal consequences in the market and which would undoubtedly constitute an abuse of the law.
This modus operandi could be summarized as follows: a legal entity that is in an imminent situation of inability to pay or in cessation of payments, according to the terms of the norm, carries out a large request for supplies and inventories to all its suppliers, in order to have a large availability of products to carry out its corporate purpose and simultaneously carries out the application for entry into the reorganization process, subjecting the payment of such goods to long terms, absence of default interest and other benefits available to the participants of this type of proceedings.
This form of use of the law constitutes a clear abuse of the law, since a legal instrument is used in a premeditated or intentional manner in order to achieve a disproportionate, illegitimate, illegal and even unconstitutional benefit.
This is based on the major effects that this may have on the economy of the debtor’s creditors, since their cash flows will be deeply affected by the absence of payment and by having to defer their return for periods of years.
Similarly, there may be a macroeconomic impact, since such action could be framed as a case of unfair competition, according to which the beneficiary performs massive business disorganization actions in a certain market sector (stops paying its competitors or members of the commercialization chain), focused on obtaining a greater market share (a competitive purpose), managing to push some of its competitors out of the way.
With the foregoing, we consider that although Law 1116 is a useful and necessary instrument in today’s business world, since it rationalizes one of the possible results of the business adventure, that is, insolvency, it is also true that it should be carefully reviewed the way in which the various organizations participating in its benefits have opted for this path and whether their intentions are loyal to the market and adjusted to the provisions of the legislator, Otherwise, a large number of market members would be left unattended and defenseless, thus creating a scenario of legal insecurity inappropriate for the economic prosperity of the country.
 
Author: Santiago Pinzón Sosa
Reviewed by: Pedro Henao and Nestor Bedoya

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