Vol 4 (2007) - Issue 3

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Reclamation of Illegal EU Subsidies under German Equity Protection and Insolvency Law

This article will put forward a few comments on the judgment by the High Court of Jena (dated 30 November 2005; published in ZIP 2005, p. 2218). It will also refer to German rules on equity protection and capital replacement.

A. Summary

A judgment of the High Court of Jena follows and observes the general rule that public entities are not treated differently or with priority in German insolvency proceedings. German insolvency law does not recognise ranking among unsecured creditors, including public entities. Consequently, reclamation of grants or subsidies violating EC law may only be fulfilled subject to German insolvency and/or corporate law.

European subsidy law does not prevail in respect of any right under German company or insolvency law regarding the challenge of repayments of illegal subsidies which are re-characterised as equity of a shareholder (capital replacement).

Even the claim of unjustified enrichment of a shareholder, as a result of a subsidy having been declared null and void, may be considered as capital replacement if it is not asserted in the crisis of the company.

The privilege of minority shareholdings under company law (section 32a para. 3 German Limited Liability Company Act – GmbHG) is not applicable if the subsidy has become capital replacing prior to the enforcement of such privilege (24 April 1998).

B. Facts

A German public entity was engaged – for economic development purposes – with a 2% shareholding in a CD-producing company in January 1994. Together with other public authorities, the public entity granted subsidies of approximately EUR 275 million in the period between 1992 and 1995. The company has been in debt since 1993. The public entity declared its legal subordination vis-à-vis other debts in 1995. In 2000, the EU Commission declared most of these subsidies illegal due to lack of notification, as required by Article 88 of the EC Treaty. However, the company partially repaid the subsidies received and filed a petition for the opening of an insolvency proceeding in September 2000.

The insolvency administrator sought the recovery of these challenged repayments of the illegal subsidies on behalf of the estate because of their re-characterisation as capital. The court ruled in his favour.

C. Legal considerations

1. Illegal subsidy
For grants given inside an EU Member State, EC law defines in Article 88 para. 2 and Article 249 para. 4 that, without the required notification, a grant is illegal or inconsistent with the present free market situation in the EU territory. Illegal subsidies and grants must be repaid. Therefore, the public entity’s declaration of subordination is accordingly null and void under Article 88 para. 3 sentence 3 of the EC Treaty in conjunction with section 134 of the German Civil Code (BGB).

Excursus:
Even a third party or a holding company can be held liable for, or required to repay government grants given to, one of its subsidiaries if it acted in an imputable way as result of the illegal grant, e.g. untruthful statements or information on which basis the grant was given. Under these circumstances the holding company could be liable not only for the repayment, but may further be required to pay damages. Furthermore, a holding company could be liable and must repay the grants if the whole grant were transmitted from the insolvent subsidiary to the holding company. The EU jurisdiction extended the application to personal repayment. For a ‘controlling’ or ‘dominant’ holding company, these preconditions are even less demanding. It is sufficient that the ‘controlling’ or ‘dominant’ holding company takes over at least certain parts of the assets belonging to the subsidiary which received the grant.