Central Bank and the Organization of Financial Institutions and Activities
UAE / Dispute Resolution
Ahmed El ShaerSenior Counsel,Dispute Resolution
The Abu Dhabi Judicial Department has recently been taking an aggressive stance on the issue of banks and financial institutions granting loans to individuals and companies without sufficient guarantees that would secure the ability of the borrower or his guarantor to pay back.
The Judicial Department considers a failure by banks and financial institutions to obtain adequate guarantees from borrowers to be a violation of the requirements and controls regulating the provision of loans, which may result in the non-acceptance of applications and cases filed by banks before the Abu Dhabi Courts.
The Central Bank had, on 16.08.21, issued Notice No. 3944/2021, confirming the requirements outlined under Regulation No. 29 of 2011 regarding Bank Loans and Other Services Offered to Individual Customers, with its amendments. The notice was a renewal of the Central Bank’s demand that banks take into account lending requirements and take sufficient guarantees from customers with approved loans, in order to ensure the payment process.
The Central Bank reminded banks operating in the UAE of the need to adhere to the requirements for granting loans and to obtain adequate guarantees, ensuring thereby that borrowers or their guarantors have the financial ability to settle their loans. Banks, therefore, can use all available means for inquiry, including credit reports from Al Etihad Credit Bureau, taking into account that the size of the facility must match the borrower’s monthly income. In this respect, the Central Bank stressed that providing access to loans in the absence of guarantees will be regarded as a regulatory violation of the UAE Central Bank Law and other relevant rules and regulations.
The Central Bank further advised that it will monitor all banks and finance companies regarding the application of these controls and standards and that it will consider the grant of loans before making sure that the person requesting the loan or the guarantor is able to repay it and that the amount of facilities required is commensurate with the his monthly income as a lack of commitment on the part of the bank or finance company, which constitutes a regulatory violation of the Central Bank Law and other relevant rules and regulations, and it will, accordingly, impose administrative and financial penalties, as well as strict measures, on those violations.
The notice further cited a statement from the Abu Dhabi Judicial Department to the effect that: “no lawsuit will be accepted before the Abu Dhabi Courts, filed by banks and finance companies against borrowers, and judgments issued against individual debtors will not be enforced, if it is proven that they have obtained loans without providing certain guarantees that they have the financial ability to pay them”.
These requirements of the Central Bank are in line with HH The UAE President’s Royal Decree No. 5/1/6321, dated 27.02.95, regarding individual borrowing from banks and financial institutions, and are intended to curb excessive debt among UAE citizens and expatriates in connection with bank loans. Pursuant to said Royal Decree, in granting loans to individuals, financial institutions are required to verify the income of the borrower or his guarantor, if any, and its appropriateness relative to the size of the required facilities. Additionally, financial institutions must ensure that the borrower is not among the unemployed or those with limited income who cannot pay back their debts and that definite assurances are provided that the borrower is able to pay off the requested loan.
Islamic finance experts have come forward with their opinions on the Central Bank’s notice, including Amjad Naser, a banking expert and Islamic finance and Islamic banks consultant, who has stated that: “The Central Bank is strict about lending to individuals, in order to maintain economic and social stability at the same time, noting that some banks may be lenient with individual borrowers in terms of guarantees, which affects their ability to repay, which is a twofold aspect. The first is economic and relates to the lending bank increasing provisions, which affects its profits, and the second is social and relates to the borrower, whose family and social stability may be affected.” Mr. Naser stressed that the Central Bank’s tightening of lending standards was a commendable development in terms of the need to obtain sufficient guarantees from the customer or his guarantor to ensure repayment of the loan and to guarantee the rights of depositors with the bank, and to ensure the customer’s ability to repay, and that his social stability is not affected by deliberate and systematic lending. He pointed out that the problem with some banks begins in the middle departments and below, which are looking to achieve a specific sales target at the expense of depositors' money, stressing the need for all departments to work within the bank's policies, and for all banks to work within the monetary and economic policies of the State as a whole, all in one system, whose goal is to turn the wheel of the national economy in a healthy manner.
On 26.09.22, Federal Decree-Law No. 23 of 2022 was issued amending Federal Decree-Law No. 14 of 2018 regarding the Central Bank and the Organization of Financial Institutions and Activities. A new article (Article 121 bis), introduced to comply with the requirements of the Central Bank, provides as follows:
“Guarantees of Credit facilities:
Licensed financial institutions shall obtain adequate security for all types of facilities offered to customers, be they natural persons or private sole proprietorships, based on their income or security, if any, and the amount of requested facilities, as determined by the Central Bank.
No application, action or plea before the competent judicial authorities or arbitral tribunals shall be entertained if filed by a licensed financial institution in respect of a credit facility provided to a natural person or a private sole proprietorship without obtaining the security referred to in clause 1 of this article.
The Central Bank may impose administrative and financial penalties, as deemed appropriate, on licensed financial institutions which violate clause 1 of this article, in accordance with Article 137 of this Decree-Law.”
On 27.12.22, the Chairman of the Judicial Council issued Circular No. 9 of 2022 restricting enforcement on security accepted by financial institutions regarding financial/credit facilities (loans). The circular includes an explanation of the meaning of Article 121 bis and notes that its purpose is to protect the recipient of banking facilities - in an event of default - by limiting enforcement against him to the amount of the guarantees provided to the granting financial institution and preliminarily approved as being sufficient to guarantee repayment of the facilities. This avoids the potential implications of extending enforcement to the borrower’s other assets, outside the guarantees, in terms of financial and social costs and their attendant repercussions. Given the granting institution’s responsibility to assess the adequacy of the guarantees provided before extending the required facilities, enforcement must therefore be limited to the amount of the guarantees. Accordingly, the circular cautions judges not to attach or enforce against borrower funds outside the guarantees previously provided and accepted by the granting financial institution and not to issue any travel ban or arrest warrant against the borrower etc., but to conduct enforcement within the limits of the guarantees.
A controversy arose over the interpretation of Article 121 bis, the scope and limits of its application, and whether its provisions have been applied since the Decree came into force on 02.01.23 or retroactively.
On 23.02.23, the Abu Dhabi Court of Cassation held, in a certain action that came before it (Cassation No. 111 of 2023 [Abu Dhabi-Commercial]), quote: “The said Decree took effect on 02.01.23 and does not, therefore, apply to loans which predate its entry into force, nor does it have retroactive application in the absence of a retroactivity clause.
However, on 28.02.23 (five days after the issuance of that judgment), the Chairman of the Judicial Council issued Explanatory Circular No. 3 of 2023 linked to Circular No. 9 of 2022 restricting enforcement on security accepted by financial institutions regarding financial/credit facilities (loans) and the supreme directives issued in this regard, in which he directed the attention of judges to take into account some matters, notably the following:
The relevant enforcement restriction guidelines are applicable on all disputes relating to banking facilities irrespective of the date of entry into the facility agreement.
The guidelines are also applicable on all borrowers irrespective of their nature.
The current regulation (no. 29 of 2011) regarding bank loans and other services offered to individual customers, dated 23.02.11, with its amendments, is the main reference for Article 121 bis which was added by Federal Decree-Law No. 23 of 2022.
Post-dated checks covering installments up to a value not exceeding 120% of the loan amount or the debit balance can be considered as security for payment of the monthly installments and the total sum of those cheques as security for payment of the total loan amount with accrued interest/profits. An action on post-dated cheques is, in such instances, admissible, provided that, in all cases, enforcement of the judgment against the borrower for the amount of the security cheque(s) is limited to the cheque itself, and does not extend to other assets of the borrower or to a jail sentence or travel ban in case he is not himself able to pay the loan amount.
A bare personal guarantee (without securities in rem) is not considered sufficient to obtain a credit facility. Rather, it must be accompanied by securities in rem, which are subject to the bank's assessment and discretion.
On one hand, bank guarantees are a means through which customers can obtain bank loans, while on the other hand, they serve as the bank’s security in recovering that credit. However, loans always come with a risk whose likelihood of occurrence can never be excluded.
Article 121 bis is limited in its provisions to natural persons and private sole proprietorships.
The article does not mention specific adequate guarantees that banks should obtain from borrowers as each facility is different in terms of its nature, conditions and method of payment.
The article does not provide for retroactive application, but Article 4 of the legislation in question (Federal Decree-Law No. 23 of 2022 amending Federal Decree-Law No. 14 of 2018 regarding the Central Bank and Organization of Financial Institutions and Activities) expressly states that it will come into effect on 02.01.23.
The Chairman of the Judicial Council’s Explanatory Circular No. 3 of 2023, linked to Circular No. 9 of 2022 restricting enforcement on security accepted by financial institutions regarding financial/credit facilities (loans) expands (from our point of view) the interpretation of Article 121 bis by affirming that the directives restricting enforcement on security provided to banks apply to all banking disputes involving credit facilities, regardless of the date of conclusion of the relevant contracts (i.e. even if such contracts were concluded prior to the effective date of Article 121 bis), and affirming too that Article 121 bis applies to all recipients of a credit facility, whatever the nature of the underlying client (i.e. whether they are natural persons, private sole proprietorships, or companies), while considering a bare personal guarantee (without securities in rem) as insufficient to secure a credit facility.
The Central Bank should, in our view, issue a circular providing explanatory guidance as to what may constitute “adequate security” from clients, taking into account the nature of each facility and the borrowing person or entity, such that liability would arise for banks who breach this guidance from the date of its issuance.
In the interim, and until such an explanatory circular is issued by the Central Bank, our recommendation for all banks in respect of extending any facilities that fall under the jurisdiction of the Abu Dhabi Courts is to ensure that sufficient “tangible” securities are obtained to cover any exposure that may result of a borrower’s default. Examples of sufficient tangible securities are:
First degree mortgage over real estate properties (e.g., land or unit).
Pledge/custody/lodgment of shares regulated by the DFM or ADX.
Assignment of cash flow of specific projects and/or rental yields.
Pledging of fixed deposits.
For further information,please contact Ahmed El Shaer.
Published in August 2023
