The Lending and Secured Finance Review: Sweden
The corporate lending market in Sweden has been fairly active in recent years, mainly driven by excess liquidity in the market and a generally favourable economic cycle. In recent years, increased diversification of the debt capital markets in Sweden has been evident. The main reasons for that diversification are the evolution of a domestic (or regional) corporate bond market and the introduction of new debt products such as unitranche facilities.
Traditionally, the corporate lending market in Sweden has been dominated by domestic and pan-Nordic banks. That has, in particular, been the case since the financial crisis in 2008 when a number of international banks ended their presence in Sweden in favour of shifting focus back to their main markets. However, the increased competition from the bond market and from credit funds has led to challenges to the dominance of the local banks, and it is likely that the diversification and competition among market participants will continue.
Borrowers have benefited from the excess availability of debt capital through lower margins and better contractual terms. However, some of the more aggressive terms that have been prevalent in the London and New York markets have yet to materialise in Swedish deals. For example, lenders are generally still looking for maintenance financial covenants by non-investment grade borrowers and Swedish deals with incurrence-based covenants are fairly rare (the exception being deals syndicated in the international capital markets with Swedish borrowers or sponsors).
The Loan Market Association's (LMA) recommended forms for facilities agreements are widely used in Sweden, in particular in syndicated or club deals. The recommended forms require fairly limited adaptation to work under Swedish law. In addition, on bilateral deals, abridged versions of the LMA documents are sometimes used.
Legal and regulatory developments
Lending as such is not a regulated activity in Sweden outside of a consumer context. However, if the entity extending loans also accepts deposits from the public, that constitutes a regulated financing activity, which requires a permit in Sweden (either directly from the Swedish Financial Supervisory Authority (FSA) or through EU passporting rules). Further, if the lending activity is considered to be fairly regular, the entity may be regarded as conducting a permanent financing business in Sweden; in this case, the FSA must be notified. Although the regulatory situation is not entirely clear, more incidental lending to Swedish borrowers does not usually require notification.
Banks are licensed and supervised by the FSA. Sweden has implemented Basel III through the Capital Requirements Directive IV. In addition, banks are subject to even more strict capital adequacy requirements imposed by the Swedish government. Swedish banks are all ranked very high compared with other European banks2 when looking at capital adequacy after imposing stress tests, mainly because of high capitalisation combined with low default rates on loan assets.
Financial institutions are required to pay a resolution fee to a government resolution reserve. The resolution fee is similar to a bank levy. Effective 1 January 2018, financial institutions are also required to comply with certain minimum requirements of eligible liabilities as part of the government's resolution and stability planning. The idea is that institutions shall maintain a minimum of own funds and liabilities that can be used to cover losses and restore the capital base in the case of failure of the institution.
Swedish financial institutions are required to comply with international sanctions that are applicable in Sweden, being sanctions imposed by the United Nations and the European Union. As a consequence, loan agreements now typically include mandatory prepayment requirements, events of default and undertakings, which apply in the case of sanctions-related events. The clauses are often subject to negotiations between borrowers and lenders. Similarly, loan agreements will typically include representations and undertakings in relation to anti-corruption laws.
Interest income for lenders that are tax-domiciled in Sweden is taxed as corporate income tax at a rate of 22 per cent. A lender would be tax-resident in Sweden if it is incorporated in Sweden in accordance with the Swedish Companies Act. Non-resident companies with a permanent establishment in Sweden or that own real estate are taxed on Swedish-source income. This is, however, subject to double taxation treaties, of which Sweden has entered into many.
Sweden does not levy any withholding tax on interest payments. For that reason, tax gross-up clauses in loan agreements are usually quite simple, although the standard LMA concepts of qualifying lenders are sometimes included. Sweden does, however, subject to exceptions and tax treaties, impose withholding tax on dividends.
Interest on debt incurred to credit institutions and other third-party lenders is fully deductible for Swedish companies. However, interest expense on debt owed to affiliated companies is not deductible unless the affiliated receiver of the interest income is taxed at a rate of at least 10 per cent, or if the debt has been incurred primarily for 'business reasons'. The latter test may be difficult to pass as the tax authorities will look at whether the financing could have been provided by other means; for example, through shareholders' contributions or subscription of new shares. Consequently, borrowers with foreign holding company structures may have to carefully consider whether the interest expense under intercompany loans will be tax deductible at all. In the absence of thin capitalisation rules in Sweden, the limits on tax deductibility in respect of intercompany loans have been one of the tools for the government to limit tax avoidance by setting off Swedish income against high interest expense on intercompany loans from, potentially, low tax jurisdictions.
There is currently an ongoing oversight of the Swedish corporate taxation regime. However, the main pieces of legislation are yet to be proposed to Parliament.
For the purpose of the US Foreign Account Tax Compliance Act (FATCA), Sweden has entered into an agreement with the US government and also enacted legislation for the purpose of complying with the intergovernmental agreement. The Swedish agreement is based on Model 1 of the intergovernmental agreement models. As a consequence of the implementation in Sweden, FATCA is normally not an issue in Swedish corporate lending transactions.
Credit support and subordination
If security is to be taken over assets located in Sweden, it is important to have the security created in accordance with Swedish law. Though Swedish courts may recognise the validity of a security interest created under a non-Swedish law governed security document, assuming it is valid under the law governing the security document, the enforceability in Sweden is nevertheless subject to the requirement that necessary actions to create and perfect the relevant form of security under Swedish law have been taken.
Security can be created over nearly every type of asset. However, it is not possible to create security over all or substantially all of the assets of a particular company under a single all-asset-encompassing security document, and, hence, security must be taken on an asset-by-asset basis.
Below is a brief overview of the common methods of taking security over certain assets; namely, how security over these assets is typically created, perfection requirements and the extent of any registration, tax or other costs involved.
Security over real estate is created by way of a mortgage and registration with the Land Registration Authority. Upon an application by the legal and registered owner of a real estate, the registration authority issues mortgage certificates, which, when pledged and handed over to a creditor, represent a security right with a certain value and a certain priority. Mortgage certificates can be issued in either paper or electronic form. A mortgage certificate in electronic form will be regarded as handed over to the creditor when it has been transferred to the creditor's account in the mortgage register (or to the account of a third party representing the creditor) kept by the Land Registration Authority. The electronic mortgage system is available to local banks only.
Certain assets (e.g., machinery) may be regarded as industrial accessory equipment or fixtures, and would then be covered by a mortgage.
In essence, the security interest created by a mortgage entitles the secured creditor to payment out of the proceeds from a sale of the relevant real estate up to an amount equal to 115 per cent of the amount of the mortgage certificates issued and held by it as security.
The issuance of a new mortgage certificate attracts a stamp duty cost of 2 per cent of the amount secured (i.e., the face value of the mortgage certificate). However, any mortgage certificates already issued can be pledged again without incurring any additional stamp duty.
Tangible movable property
The only practical way to create security over tangible movable property is by way of a business mortgage. The reason is that security by way of a pledge over such property requires the transfer of possession of the property, and the pledgor must be excluded, both legally and practically, from dealing with the pledged property. Consequently, it is difficult to obtain perfected security over tangible movable property other than through a business mortgage.
A Swedish company may file an application with the Companies Registration Office for the issuance of business mortgage certificates, which, when pledged and handed over to a creditor, represent a security right with a certain value and a certain priority. Business mortgage certificates can be issued in either paper or electronic form. A mortgage certificate in electronic form will be regarded as handed over to the creditor when it has been transferred to the creditor's account in the business mortgage register (or to the account of a third party representing the creditor) kept by the Companies Registration Office. The electronic business mortgage system is available to local banks only.
A business mortgage covers all of the pledgor's movable property (other than cash at hand and bank deposits, shares and other tradable financial instruments and securities) used in the pledgor's business. However, security by way of a business mortgage does not prevent the pledgor from disposing of the relevant assets, and it is also subordinate to other perfected pledges over the same assets, even if such pledges are created after the business mortgage. A debtor may pledge, for example, receivables that form part of a pre-existing business mortgage, and the pledge of the receivables will then rank ahead of the business mortgage.
A business mortgage gives the secured creditor a specific right of priority enforceable in bankruptcy and execution. A secured creditor who holds a business mortgage certificate is, in conjunction with a levy of execution or bankruptcy, entitled with the right of priority to which the business mortgage is entitled pursuant to law, to receive payment for its claim from the assets covered by the business mortgage up to the face amount of the business mortgage certificate (plus a supplement).
The issuance of a new business mortgage certificate attracts a stamp duty cost of 1 per cent of the amount secured (i.e., the face value of the business mortgage certificate). However, any business mortgage certificates already issued can be pledged again without incurring any additional stamp duty.
Shares and financial instruments
Security over shares and other financial instruments is created by way of a pledge. A share pledge is perfected by transfer of possession of the relevant share certificates (if the relevant shares are in certificated form and share certificates have been issued) to the pledgee (endorsed in blank) or, if no share certificates have been issued, through notification of the pledge to the company's board of directors.
If the shares or other financial instruments are in dematerialised registered form and held on a securities account, perfection is made by registration with Euroclear Sweden or, if held on a deposit account, through notification of the pledge to the account bank. Other financial instruments that are not in dematerialised form (i.e., in bearer form) require transfer of possession to be perfected.
Contractual rights and receivables
Security over contractual rights and receivables is created by way of a pledge. The pledge is perfected through notification to the contractual counterparty or receivable debtor, as applicable. If the receivables are in the form of a bearer promissory note (or similar), the pledge is perfected by transfer of possession of the relevant promissory note to the pledgee (endorsed in blank). Proceeds are to be paid directly to the pledgee and the pledgor may not have control over any account to which payments are made.
Security over receivables may be cumbersome for the pledgor as it must have no disposal rights in respect thereof. A pledge requires that the secured creditor has total control over the payment of the receivables, meaning that all debtors must be notified of the pledge and instructed to pay to an account that is not controlled by the pledgor.
Security over receivables can also be created by way of a business mortgage.
Security over cash deposits on bank accounts is created by way of a pledge. The pledge is perfected through notification to the account bank. The pledgor must not be allowed to withdraw funds standing to the credit of the pledged account without the express consent of the secured creditor.
For practical reasons, it may be undesirable to block the bank account, and the parties may, therefore, sometimes agree that the pledge over the bank account will not be perfected until the occurrence of an event of default (or similar triggering event). However, non-perfected security will be subject to a three-month hardening period from the date of perfection and could be clawed back in a following bankruptcy.
Intangibles and intellectual property rights
Security over patents and trademarks is created by way of a pledge registered with the Patent and Registration Office. No similar registration is available for copyrights and, given that there is no counterparty or official registry to which a notification of a pledge can be given, this form of security may not be created over copyrights or goodwill.
Security over patents and trademarks can also be created by way of a business mortgage, which would also cover copyrights and goodwill.
ii Guarantees and other forms of credit support
Guarantees are common in Swedish secured (and unsecured) lending transactions. There are no formal requirements, but guarantees are normally made in writing. It is common to include the guarantee in the loan agreement and to make the guarantor a party to the loan agreement. Separate guarantees – either unilateral or documented in an agreement – are also common if, for some reason, the guarantor will not be a party to the loan agreement.
Negative pledge undertakings are commonly included in both loan agreements and security documents.
iii Priorities and subordination
Contractual and structural subordination are common ways to ensure a certain priority order. On more complex leveraged finance transactions, an intercreditor agreement will regulate the priority of debts and security, whereas in lesser structured transactions, a short-form subordination undertaking or agreement may be used. Under the intercreditor or subordination agreement, the parties will contractually agree on a certain order of priority. The ranking of security is normally dealt with in the relevant security documents (i.e., the security provider will grant first and second ranking security to certain creditors, in either the same security document or in separate security documents) and will be underpinned by the intercreditor or subordination agreement.
Structural subordination (i.e., where the creditors lend to different entities in the corporate structure) is common on mezzanine transactions, although there has been a firm pushback from mezzanine lenders on structural subordination.
Intercreditor agreements have not been fully tested by Swedish courts, so there is uncertainty as to whether some of the provisions of standard intercreditor agreements will be upheld (in particular, release provisions in respect of subordinated debt). Further, in the case of formal bankruptcy proceedings involving a Swedish company, the bankruptcy administrator can elect whether the estate will be bound by the intercreditor agreement.
In the case of the insolvency of a borrower being declared bankrupt, the ranking and priority is dependent on the type of claim. There are three main types of claims, namely claims with special priority (e.g., secured claims, claims secured by mortgage and claims secured by seizure), claims with general priority (e.g., claims given priority because of public interest) and claims without priority.
Within the group of claims with special priority, the claims will be entitled to be paid out of the proceeds from a sale of the assets being subject to the relevant security.
If any assets remain after the claims with special priority have been discharged, claims with general priority will be discharged out of the remaining assets. Within the group of claims without priority, all claims rank equal in priority (pari passu) and will be discharged pro rata.
Legal reservations and opinions practice
i Legal limitations on validity and enforceability
Financial assistance restrictions are fairly strict and apply to loans, security and guarantees.
In general, a company may not grant loans or provide security or guarantees for loans granted to (1) a person who is a shareholder, director or managing director (including its respective relatives) of the company or another company within the same group of companies, or (2) legal entities controlled by any such person.
There are a number of exceptions to this general restriction – the most widely used is when the entity whose obligations are being guaranteed is an entity within the same group as the company providing the financial assistance. This exception also applies where the parent entity is a foreign legal entity similar to a company and domiciled within the European Economic Area.
However, even if the financial assistance falls within this exception, if it takes the form of security or guarantees, the security or guarantees must also comply with the Swedish transfer of value rules, which apply to, for example, upstream and cross-stream security and guarantees. Under those rules, a company must generally not undertake a transaction without deriving real and adequate corporate (commercial) benefit from it. Thus, when a company is providing security or a guarantee for a third party's obligation, it must be considered whether the company gains any benefit from the transaction. A guarantee without sufficient corporate benefit may nonetheless be valid if the value of the guaranteed amount does not, at the time when the guarantee is provided, exceed the amount available for distribution by the company as dividends.
In addition, a company may not provide financial assistance, by way of either an advance, a loan or security, or guarantees for a loan granted to a debtor for the purpose that the debtor shall acquire shares in the company, or shares in its (direct or indirect) parent company or any other company placed above or at the same level as the company in the group structure. Consequently, a Swedish company may not normally guarantee or provide security for debt incurred for the purpose of financing an acquisition by the debtor of the shares in the Swedish company or its Swedish parent company.
The prohibition applies to financial assistance given before or simultaneously with the acquisition of shares, but not after the acquisition. Therefore, a loan, security or guarantee, or any other financial assistance provided after the acquisition, where the funds are used to pay for the acquired shares or repay financing incurred in connection with the acquisition, will not be prohibited. The period that must lapse between the acquisition and the financial assistance to avoid the prohibition is unclear and must be established on a case-by-case basis. However, to be on the safe side, the period should be at least three months. There is no whitewash procedure available under Swedish law.
ii Legal opinions practice
Legal opinions as to matters of Swedish law are regularly delivered on international, cross-border and syndicated loan transactions, but rarely on purely domestic bilateral or club deals with all-Swedish lenders. Creditor counsel would typically deliver the opinion, both as to capacity and authority of any Swedish obligors and enforceability of any Swedish law-governed transaction documents, but sometimes both debtor and creditor counsel deliver the opinions (debtor counsel as to capacity and authority, and creditor counsel as to enforceability). Opinions are typically addressed to, and capable of being relied upon by, the original lenders or finance parties named in the loan agreement, and sometimes also parties that become lenders in connection with primary syndication or within a certain period from signing or first utilisation. Copies of opinions may typically be disclosed for information purposes only to (but not be relied upon by) parties that may potentially become lenders, their and the addressees' auditors, legal and other professional advisers and persons to whom an addressee is required to disclose the opinions under applicable law, without consent of the opining counsel.
iii Choice of foreign law and recognition and enforcement of foreign judgments
The choice of foreign law as the governing law of a loan agreement or security document will typically be recognised and upheld as a valid choice of law by the courts of Sweden (subject to the provisions of Regulation (EC) No. 593/2008 of the European Parliament and of the Council of 17 June 2008 on the law applicable to contractual obligations).
A final and conclusive judgment rendered by a court in a contracting state to: (1) Council Regulation (EC) No. 44/2001 of 22 December 2000 on jurisdiction and the recognition and enforcement of judgments in civil and commercial matters (the Brussels I 2000 Regulation), in respect of legal proceedings instituted before 10 January 2015; (2) Regulation (EU) No. 1215/2012 of the European Parliament and of the Council of 12 December 2012 on jurisdiction and the recognition and enforcement of judgments in civil and commercial matters (the Brussels I 2012 Regulation), in respect of legal proceedings instituted on or after 10 January 2015; (3) the Convention on jurisdiction and the enforcement of judgments in civil and commercial matters made in Brussels on 27 September 1968 (as amended) (the Brussels Convention); or (4) the Convention on jurisdiction and the enforcement of judgments in civil and commercial matters made in Lugano on 16 September 1988 (the Lugano Convention), which is enforceable in such state, will be recognised and enforceable by the courts of Sweden according and subject to the Brussels I 2000 Regulation, the Brussels I 2012 Regulation, the Brussels Convention or the Lugano Convention, as applicable.
To enforce a judgment under the Brussels I 2000 Regulation, the Brussels Convention or the Lugano Convention, the concerned party must submit an application for enforcement to the Svea Court of Appeal and comply with the procedures of that court (as required).
According to Swedish case law, a judgment given by a court in a state not being a contracting state to the Brussels I 2000 Regulation, the Brussels I 2012 Regulation, the Brussels Convention or the Lugano Convention would only under certain circumstances be recognised and regarded by a Swedish court as evidence of the outcome of the dispute to which the judgment relates, and a Swedish court would still, even if such circumstances were found to be applicable, have the possibility to rehear the dispute ab initio or may consider the judgment to be a matter of legal fact upon which a Swedish court may render its own judgment, inquiring only as to whether all procedural aspects in the applicable courts of the non-contracting state have been observed.
Most Swedish corporate loan agreements include transfer provisions, and loan participations are traded in Sweden similarly to other jurisdictions. As novation is not a recognised legal concept in Sweden and may have the result of restarting a hardening period for security, assignments and transfers are the recommended methods for transferring loan participations. Under Swedish law, an assignment of rights under a contract requires notice to the contract party (i.e., the borrower in a loan agreement context), so loan agreement clauses should ensure that the borrower is notified of any transfers.
Under a standard Swedish loan transfer clause, a proportional interest of any security interest is also transferred. That is sufficient to ensure that the related security will benefit the assignee from the transfer date.
Sub-participation and other forms of transfers without changing the lender of record are possible and common in the market. However, a sub-participation will normally not be legally enforceable against the borrower (as it is not notified of any transfer of rights), and the transaction is, therefore, dependent on the contractual terms between the lender of record and the sub-participant. The borrower will continue to make payments to the lender of record and will discharge its obligations by paying to the lender of record.
Outlook and conclusions
As discussed in Section I, the diversification of the Swedish market is likely to continue. Although Swedish banks are well capitalised and profitable, banks will be under pressure from increased costs for capital requirements and other regulatory initiatives. This will probably continue to drive the market entry by other participants, such as Swedish and foreign credit funds and other alternative debt providers, such as insurance companies and similar. Swedish and pan-Nordic banks have generally been able to offer very competitive pricing on corporate loans and, thus, been able to hold onto a significant market share compared with, for example, international financial institutions. Though it is likely that the banks will continue to be the main source for funding for Swedish borrowers, there is certainly scope for foreign and domestic debt providers to originate and execute loan transactions in Sweden.