Globalisation led the world to make international transactions and cross-border loan agreements. Any breach could not be resolved solely locally. The need for an international solution evolved. The only method that could end international confusion appeared to be arbitration. Thus, international arbitration is increasingly recognised as a preferred forum for resolving disputes concerning international loan agreements, although it has not yet entirely supplanted traditional litigation.
International Loan Agreements
A loan agreement is a formal contract that outlines important counterparty information, responsibilities, and credit terms. These terms can be, inter alia, the loan amount, the type of loan being extended, the repayment schedule, and the interest rate.[1] An agreement cannot be characterised as a loan without providing for repayment pursuant to the specified terms in the contract. Returning what is borrowed is the distinguishing feature of a loan.
International loan agreements usually contain the following terms to be considered legally valid.[2] First, every legitimate loan agreement must contain the loan amount precisely defined and stated in the contract. Second, most of the time, an interest rate must be calculated. Interest represents the cost of borrowing funds. Third, the repayment methods must be specified. The contract should contain a clear repayment schedule that includes details of the amount and frequency of repayments and the total term of the loan.[3] Fourth, a legally binding loan contract must contain the time frame in which it must be repaid, and fifth, any special provisions included, such as the notice period, etc., should be specified.
Cross-border financing demands more structured loan agreements with numbered terms and definite interest rates. A loan in this category needs a stable and secure template for both the lender and the borrower. Having a clear contract can reduce any emerging uncertainties in multijurisdictional transactions. There must always be a provision related to risk mitigation issues, such as currency volatility, political instability, and creditworthiness, in tailored terms that incorporate mechanisms for managing defaults or unpredictable changes.[4]
Additionally, cross-border agreements, especially banking ones, must contain provisions that abide by international and local regulations, such as Anti-Money Laundering (AML)[5] and Know-Your-Customer (KYC)[6] requirements.
The aforementioned provisions can boost the confidence and trust of lenders or borrowers and lead them to invest in riskier ways in foreign markets. They can also enable lenders or borrowers to have access to necessary information.
Common Disputes Regarding Loan Agreements
One of the most common disputes regarding loan agreements is breach of contract. Breaches commonly arise when borrowers fail to meet their payment obligations. Borrowers must follow “covenants”, which impose specific obligations/restrictions on them.[7] Covenants can be divided into positive and negative ones. Positive ones show that the borrower must fail to fulfil something, while negative ones show that the borrower proceeds with forbidden actions (such as acquiring more debt). Violations of these covenants lead to breaches of contract.
Nonperformance issues are commonly present in loan agreements and are mostly related to force majeure and unexpected life events. Events like potential political instability or pandemics lead borrowers to stop fulfilling their obligations, sometimes legitimately and sometimes merely using the event as a pretext. In an international setting, this often generates conflict due to divergent legal norms:
Most national legislators provide rules dealing with these issues, but the principles developed in domestic law such as frustration (English law), impossibility of performance (civil law systems) or impracticability (American law) may imply substantial differences. Thus, the same circumstances may exempt a party from responsibility in one legal system and not in another.[8]
Disputes may also arise regarding governing law or jurisdictional provisions. Selecting the suitable governing law for every loan agreement can significantly impact the enforceability of the contract and may lead to enforcement challenges in different jurisdictions: “Jurisdictional issues often arise when parties from different legal systems enter into agreements, leading to complexities in determining which laws apply. This legal ambiguity can result in disputes that are challenging to resolve, particularly when the governing law is not explicitly stated in the contract.”[9]
Arbitration Clauses in Loan Agreements
The incorporation of arbitration clauses in loan agreements certifies that disputes arising from the agreements will be resolved through arbitration. Considering the complexity of international banking issues, parties mostly prefer resolving these issues via arbitration to litigation (due to the former’s international character and the international enforceability of arbitration awards).
Arbitration clauses should contain (1) the chosen arbitration rules, such as those of the ICC, SIAC, LCIA, etc., (2) the seat of arbitration, the place where the arbitration will be conducted (usually in one party’s original location) – and the procedural law governing arbitration, and (3) the language of the proceedings.[10]
The international character of arbitration provides both sides with a safe and unbiased environment (whether a borrower or a lender). The parties may specify a neutral location, independent arbitrators, and arbitrators with expertise in complex issues and sectors. Arbitration also offers flexibility in hearings (in person, hybrid or 100% virtual). A key advantage is the ability to select adjudicators with relevant expertise:
Many financial market disputes are of a highly technical nature and beg a background in market practice, custom, and usage, yet the absence of a specialised subject matter court for finance, both at the domestic level in many jurisdictions and at the international level, creates a void that a carefully selected arbitration panel, comprised of one or more arbitrators with the requisite experience, can fill. By tailoring arbitral rules and procedures to specific concerns of these markets, it can only be expected that the attractiveness of this alternative will be further enhanced.[11]
The fundamental advantage in the international context, however, as already mentioned, is that arbitration awards can be readily enforced internationally under the New York Convention, allowing the enforcement of arbitration awards in the (current) 172 State parties to the New York Convention.
Legal Precedent in International Loan Agreements
Loan agreement disputes are frequently resolved via arbitration.
The case EIB v. Syria[12] is one of the best-known disputes in the finance sector. On 18 October 2023, the General Court of the European Union ruled in favour of the European Investment Bank (EIB) against the Syrian Arab Republic. The dispute centred on a loan agreement to enhance Syria’s electricity transmission system.
The story behind this ruling begins in December 2000, when the EIB and Syria entered into a loan agreement to fund the reinforcement of Syria’s electricity transmission infrastructure. Syria defaulted on its repayment obligations under this agreement. The EIB sought legal recourse, invoking the arbitration clause within the loan agreement, and filed a lawsuit under Article 272 of the Treaty on the Functioning of the European Union (TFEU). This judgment underscores the enforceability of arbitration clauses in international loan agreements and highlights the legal obligations of sovereign states in honouring financial commitments.
Failure to comply with the terms of a loan agreement can often lead to disputes regarding interest rates and their prices. The question of whether all such disputes can be resolved through arbitration is becoming increasingly less significant as a legal matter.
The well-known case Buckeye Check Cashing, Inc. v. Cardegna[13] is one such example. The case arose when John Cardegna and others filed a class-action lawsuit against Buckeye Check Cashing, Inc., alleging that the payday loan agreements they entered into were illegal under Florida law because they charged usurious interest rates. They claimed that these agreements were void ab initio (from the outset) due to their illegality. The primary legal question was whether a court or an arbitrator should decide if a contract containing an arbitration clause is void due to illegality.
The U.S. Supreme Court, in a decision written by Justice Antonin Scalia, held that challenges to the validity of a contract as a whole must be resolved by an arbitrator, not a court, if the contract includes an arbitration clause. This ruling was based on the principle of “separability”, which treats an arbitration clause as independent from the rest of the contract. Therefore, unless the arbitration clause itself is specifically challenged, any issues regarding the contract’s legality should be decided by arbitration.
This decision reinforced the Federal Arbitration Act’s strong policy favouring arbitration and clarified that even if a contract is alleged to be void, disputes over its enforceability should still go to arbitration if an arbitration clause exists. It underscores the precedence of arbitration over judicial intervention in disputes where contracts include arbitration clauses, aligning U.S. law more closely with international arbitration practice.
Conclusion
International arbitration has proven to be an indispensable tool in resolving disputes arising from loan agreements, especially in cross-border financing. The global nature of modern financial transactions has rendered local solutions insufficient, as differing legal systems and regulatory frameworks complicate dispute resolution. Arbitration provides a neutral, flexible, and expert-driven alternative to litigation, allowing parties to navigate the complexities of international loan agreements effectively.
[1] K. Peterdy, Loan Agreement, https://corporatefinanceinstitute.com/resources/commercial-lending/loan-agreement/ (last accessed 29 November 2024).
[2] S. Wengryn, The Loan Agreement: A Professional Guide to Effective Structuring, https://www.contracthero.com/en/blog/loan-agreement (last accessed 29 November 2024).
[3] S. Wengryn, The Loan Agreement: A Professional Guide to Effective Structuring, https://www.contracthero.com/en/blog/loan-agreement (last accessed 29 November 2024).
[4] A. Hall, Cross-Border Loan Agreements: Legal Framework for Compliance, https://aaronhall.com/cross-border-loan-agreements-legal-framework-for-compliance/ (last accessed 29 November 2024).
[5] Directorate-General for Financial Stability, Financial Services and Capital Markets Union, Anti-money laundering and countering the financing of terrorism at EU level, https://finance.ec.europa.eu/financial-crime/anti-money-laundering-and-countering-financing-terrorism-eu-level_en (last accessed 29 November 2024).
[6] SEON Technologies Ltd., KYC Verification Process: 3 Steps to Compliance, https://seon.io/resources/kyc-verification-process/ (last accessed 29 November 2024).
[7] K. Peterdy, Loan Covenant, https://corporatefinanceinstitute.com/resources/commercial-lending/loan-covenant/ (last accessed 29 November 2024).
[8] International Chamber of Commerce, ICC Force Majeure and Hardship Clauses, https://iccwbo.org/business-solutions/model-contracts-clauses/icc-force-majeure-and-hardship-clauses/ (last accessed 29 November 2024) (emphasis added).
[9] A. Hall, Cross-Border Loan Agreements: Legal Framework for Compliance, https://aaronhall.com/cross-border-loan-agreements-legal-framework-for-compliance-2/ (last accessed 29 November 2024).
[10] Convention on the Recognition and Enforcement of Foreign Arbitral Awards.
[11] J. Golden and P. Werner, The Modern Role of Arbitration in Banking and Finance, in J. Golden, and C. Lamm (eds), International Financial Disputes: Arbitration and Mediation (2015), online edn, Oxford Academic, https://doi.org/10.1093/law/9780199687862.003.0001 (last accessed 29 November 2024).
[12] EIB v. Syria, T-468/22 (18 October 2023).
[13] Buckeye Check Cashing, Inc. v. Cardegna, 546 U.S. 440 (2006).
