A bank failure can lead to the sale of the business or the closure of the bank. The latter triggers a further investigation and collection of assets to honour the liabilities of the bank. An administrator, taking over the administrative duties when the bank is placed under resolution, has limited duties. A liquidator is appointed by the court to act on behalf of the company when the court agrees that a liquidation is in the best interest of the stakeholders.
Fraudulent activities where the bank facilitated illicit money transfers that led to the failure of the bank, disclose a different scenario. Bank liquidation involves scrutiny of the customers and requires further examination of creditors. The assets of the bank potentially have a criminal origin. Therefore, asset forfeiture programs and regulatory fines can further drain the available liquidity of the bank and its subsidiaries. A write down of the available liquidity can be used as the foundation of a civil claim against the financial institution and its controlling minds when there is causality between the conduct and the closure of the bank leading to the customer loss. In general courts are willing to pierce the corporate veil and invoke personal liability in exceptional circumstances. Therefore, preparation of a civil claim requires severe subject knowledge and legal understanding.
Different events can trigger financial institutions to fail. Regulators have various tools and safeguards to ensure an orderly resolution, whilst protecting the best interest of the creditors and other stakeholders. The Bail-in tool, Sale of Business tool, Bridge Institution Tool, and the Asset Separation Tool allow regulators to take swift and appropriate action. Shareholders can object against regulatory actions and postpone resolution, making bank liquidation a difficult and long-winded process.
To ensure a harmonized level of protection for bank deposits, domestic deposit protection schemes insure the deposits of qualifying creditors up to the guaranteed amount. The guaranteed insured amount can differ per country and resolution scheme. Still, creditors can have outstanding deposits exceeding the guaranteed insured amount. Also, non-qualifying creditors and those whose DGS claim is rejected, need to assure themselves of the mechanisms tailored to the bank liquidation processes.
Before a court can approve a liquidation, the regulator must indicate the NCWOL principle stating that no creditor is worse off than under the liquidation. After approval by the court, a liquidation can start where the liquidator first confines the asset-liability mismatch and capitalizes on intangible assets. Hence the reason that liquidation payments are often paid in tranches when sufficient liquidity is available for distribution to creditors.
During a bank liquidation process, a creditor hierarchy determines the position of creditors. The standard sequence assigns the DGS a priority position, followed by senior unsecured liabilities on the second position. A third position is for subordinated debt, such as bank deposits above the guaranteed insured amount, which is followed by Tier 1 equity and Tier 2 debt. Each position requires ‘pari passu’ or pro-rata payment whilst priority positions are fully compensated before the next positions are covered.
A bank liquidation process is not always easy to grasp. The aim of this website is to provide novice creditors with the administrative and legal backup to prepare for a liquidation and prevent a similar event from happening in the future.