Piotr Przychodzki and Andrei Markine

Unlike a number of other post-Soviet pitfalls, the Russian legal system's allowance of corporate debt evasion received very little attention. Nevertheless, chronic financial evasion, legitimized by the mechanism of legal procedures, became one of the key factors contributing to the massive and all encompassing crisis of the Russian Federation (RF).

Currently, Russian legislation and legal practices arm unscrupulous contractors with sufficient methods to establish procedural conditions that logistically avert the possible process of judicial debt collection. In last week's installment, we looked at address "concealment," defendant "substitution" and liquidation of the "parent corporation"; this week, we examine one of the most common methods of debt evasion.

Subversion of the mandatory application for debt collection

This is the predominant method used for debt evasion in contemporary Russia. The RSFSR Code of Civil Procedure, Section 409, stipulates the circumstances under which:

Execution shall be levied against state institutions, enterprises, collective farms, and other cooperative and social organizations first and of all on cash assets of the debtor in credit institutions according to the rules established by the USSR legislation.[1]

The CAP section 198, subsection 3 directs "the court order on the collection of financial resources served by the execution creditor to a bank or other credit establishment, and in other cases - to the judicial executor".[2] Furthermore, the RF's Presidential Decree, [3] from 14 February 1996, no 199, about "The Temporary Measures on Implementation of the Decisions of Collections Upon the Property Belonging to the Debtor Organizations"[4] remains applicable. According to section 2 of these rules, collecting debtor property - excluding moneys - occurs (unless otherwise stipulated by the Federal Law or contract) only after the execution creditor or the person carrying out a collection receives notification on the court order, from the bank servicing the execution debtor's account, of the complete or partial impossibility of its execution.

The RF's Federal Law, Section 46,"On the Executive Procedure," retains the specified rule, in an altered fragment. Its content specifies that "the collection begins, under executive order, with moneys of the debtor in rubles and foreign currency and other values held in banks and other financial establishments."[5]

The Federal Law, Section 6, "On the Executive Procedure," permits the plaintiff to present the executive order directly to the judicial pristav-executor, even when the former lacks the information on the whereabouts of the bank accounts and funds. In practice, the pristav-executor asks the execution creditors to obtain the aforementioned notification from the debtor's bank before the beginning of the compulsory execution.

At this procedural stage, it is possible to collect on the corporate property only after the preliminary application to the bank occurs. The legislation's intent is obvious: theoretically, the mandatory withdrawals matching the debt value from the debtor's account should be the least time consuming and the most convenient form of execution.

However, this works only if there is a constant flow of money through the account of the debtor-organization, if the creditor maintains up-to-date information about the organization and providing the debtor doesn't consequently alter it. Such information is readily available if the debtor is a bank or some larger corporate body. In particular, banks must maintain an account with the Russian Central Bank. Otherwise, the necessity of applying to the bank merely delays the executive procedure. The application process only empowers the debtor with another opportunity to forestall the compulsory collection.

The normative act determining the sequencing for seizing the debtor's funds, held by any financial organization, includes the USSR State Bank's Non-cash Payments Rules of the National Economy from 30 September 1987 no 2, with the subsequent changes, additions and instruction of the Central Bank of the Russian Federation no 51-U, from, 3 December 1997. Chapter X of the Non-cash Payments Rules adjusts the specified rules for the procedure of unauthorized withdrawals from the accounts of the debtors.

With debt collection on the basis of an executive order and matching documents, the execution creditor presents to the bank a standardized collection (0401061) order, called the incassation [6] order. Its form contains a reference to the date and number of the executive document. The person serving the execution document to the bank must fill it out. The order - based on the court's decisions - contains the pertinent executive documents or their duplicates.

The appropriate normative acts determine the executive document's form and content. The collection order is presented by the execution creditor (residing in the same city as the liable debtor) directly to the debtor's bank, or to the creditor's bank if the execution debtor resides in a different city. On nonresident accounts, and in cases when the creditor uses the same bank as the debtor, triplicate collection orders are presented. If the plaintiff and payer accounts exist in different banks of the same city, the collection order is presented in four copies. With the collection under the executive order, the bank maintaining the debtor's account accepts the executive order only through the court executor in the bank's location. It is directed by Presidential Decree no 199, from 14 February 1996.

"The Temporary Measures on Implementation of the Decisions of Collections Upon the Property Belonging to the Debtor Organizations," combined with the Federal Law, section 6, "On the Executive Procedure," enacted some regulatory reforms regarding the indisputable fund withdrawal from the payer's account. Based on the specified directives, upon receiving the executive collection document from the collector or judicial pristav-executor, the bank or other credit organizations servicing the debtor's accounts has three days to complete the collection. If it doesn't, the executor must give notification of complete or partial default upon the absence of sufficient debtor funds in the business accounts.

If the funds from the accounts on the collection payment are not received, the RF Civil Code, Article 876, "Notice of Operations Conducted," commands the executing officer to immediately inform the emitting bank, which in turn must advise the client and request instructions for further action.[7]

A joint letter from the State Tax Service, the Ministry of Finance, and the RF Central Bank regarding Non-cash Payments Rules of the National Economy, from 9 July 1992, no 14, dictates that the payment documents be on a standardized form, containing the payer's name and bank account number. Based on this letter, as of 1 January 1996, the payment documents (including the collection orders) must indicate the tax identification number.[8] The Central Bank Instructions 15-U, from 3 December 1997, "About Introduction of New Formats of the Payment Documents," contain the same requirements.

Missing information interferes with the presentation of the collection order to the bank. Serving this order is a vital and an independent regulatory process of debt collection. Nonetheless, its schizophrenic procedural duality allows the intended collection to be thwarted by the debtor.

These loopholes can be divided into methods utilized individually by the debtor and joint activities of the debtor with his bank. Both depend on the execution creditor's obligation to serve the properly filed collection order to the debtor's bank.

Individual methods of subverting the collection order

Some of the data required to fill the collection order are occasionally unknown to the creditor. Even with all the essential information, the creditor has the arduous task of serving the order. To impede the execution, the debtor can change the corporate name, the organization's site (legal address) and the basic directions of its activity under the corporate charter. These actions allow the alteration of the appropriate text of the order: the name of the payer and the INN (Business Number) change.[9] While the elements of the court order remain constant, contradictions emerge from the content of the collection order. According to the Rules of Non-cash Payments, the reference to the number and date of the executive document must be accurate. Moreover, the content of the collection order must correspond to that of the executive order.

When the execution creditor serves the order containing the outdated corporate information, the bank cannot enforce it, because of the "disappearance" of the named organization. Even if the execution creditor obtains the new and accurate data on the collection order for the organization - itself an arduous task - the bank cannot execute it, as it infringes on the requirements for filing documents.

Concurrent methods of subverting the collection order

This evasion is particularly effective when it simultaneously coincides with changes of the bank serving the account. As such, the bank's debtor files lack documents about the previous organization. Hence, the bank has no basis on which to execute the order.

Even the accurate information remains problematic. The bank serving the account must observe the formal Non-cash Payment Rules, including the regulation on filing payment documents. The incongruity adequately justifies the bank's refusal to carry out the collection. The current legislation emphasizes the bank's formal scrutiny of the collection order. Based on the RF Civil Code, section 875, subsection 1, "Compliance with an Encashment Commission":

In the absence of any document or in the event of incongruity of documents by external indicia to an encashment commission, the performing bank shall be obliged immediately to notify the person from whom the encashment commission was received. In the event of failure to eliminate the said defects, the bank shall have the right to return the document without compliance.[10]

To protect their clients, banks commonly use even the slightest formal discrepancies in the filing of collections to return the orders. Since bank actions conform to the legislation, the enforcement of the requirements for imposing a penalty on the bank, under the CAP and the Federal Law "On the Executive Procedure," is correspondingly pointless.

Change and closing of working accounts

There exists another simpler evasion technique. It also relies on the necessity of the execution creditor to serve the collection order to the bank. The periodic opening of new accounts and closing of prior accounts easily subverts this collection.

To avert this method, the Federal Law, section 46, subsection 3, "On the Executive Procedure," stipulates the right of the pristav-executor to obtain specified items of information from tax bodies. The creditor has the same privilege, hastening the court order. Nevertheless, to date, it is impossible to recognize the work of the organs of the State Tax Service on such inquiries as satisfactory. Unlike in North America, where, - according to former New York Assistant District Attorney Michael Cherkasky, who successfully convicted several mobsters, including the Mafia king-pin John Gotti - forensic accounting is worth approximately USD 735 million [11], the Russian fraud squads are in an embryonic state. Tax bodies often lack the exact and complete information on the debtors. Moreover, the processing of the enacted inquiry, preparation of the answer and its direction to the person administering the collection takes approximately three to four weeks. Hence, the debtor has ample time to replace the account - numerous times.

This situation is aggravated by the lack of procedural rules to change the content of the court order. Even with the distribution of the duplicate, its content must strictly correspond to the resolution of the court decision. However, the court cannot change the resolution portion of its decision, despite learning the authentic information on the transformed status of the debtor. Therefore, to repeat a claim is senseless. According to section 129, subsection 3 of the RSFSR Code of Civil Procedure and the CAP, part 2, section 107, on acceptance of the claim, further statement should be refused. Moreover, upon the claim's acceptance - according to section 219, subsection 3 of the RF Code of Civil Procedure and the CAP, section 85, subsection 2 - the court procedure must be terminated.

Account closure with help of an insider

The cozy informal arrangements between banks and their clients to impede collections are rather widespread. The financial institutions benefit from assisting in the evasion in this mariage de convenance by having larger reserves for their operations. This contributed to nearly all of Russia's 1600 banks facing a liquidity crisis.[12]

Under the specified agreements, the account's holders prepare a declaration for the bank, instructing the bank officials to close the account It is signed and certified by a seal but remains undated in order for the scheme to remain dormant. This statement may be adjoined with the payment order to transfer funds from the account.

The "authorized" bank employee dates the documents and closes the account - along with carrying out possible instructions to transfer funds out of it - only when the execution creditor serves the collection order. This agendum is crucially dated to precede the day that the plaintiff serves the collection order to the bank. After the clandestine backdating occurs, the execution creditor learns about the absence of the debtor's account in the bank, or (and) about the insufficient funds in the account.

Piotr Przychodzki and Andrei Markine

And the list goes on... Stay tuned next week for more details of collusion between Russia's legal, financial and corporate sector in rampant debt evasion.

Read Part I in this series HERE.

Footnotes

1. "Article 57. Levying Execution on Property of Citizens, State Institutions, Enterprises, Collective Farms, and Other Cooperative and Social Organizations." The Soviet Legal System: Selected Contemporary Legislation and Documents. Translated by William E. Butler. (Dobbs Ferry: Ocean Publications, Inc. 1978.), p. 446. This citation was entirely lifted by the Russian law reformers from the previous Soviet legislation and applied into the Section 409, of the RSFSR Code of the Civil Procedure. [To maintain the established consistency of translation - and in the absence of an up-to-date translation of the RF Code of Civil Procedure - the authors decided to cite the original Soviet work.
2. Section 198, subsection 3 "The court order on a collecting of money resources served by the execution creditor to bank or other credit establishment, and in other cases - to judicial executor. "Arbitrajniy Processualniy Kodeks. As published in the Vedomosty Federalnogo Sobraniya. no 15, 21.05.95, p 58. Translated by Andrei Markine.
3. Some English language publications use the Russian term "Ukaz" and the English phrase "Decree" interchangeably and indiscriminately.In early Soviet Russia (under Lenin and Stalin), the same meaning was conveyed through the usage of the term Dekret, or plural Dekrety. The word fell out of favour in the late Soviet period, and remains substituted by the phrase Ukaz. This superficial change of Russian terminology is not consistently reflected in English translations.
4. Ukaz Prezydenta RF "O nekotorih merah po realizacii resheniy ob obrashenii vziskaniya na imushestvo organizatiy," as published in the Sobranie Zakonodatelstva Rossiyskoy Federatii. no 8 19.02.96 p740.
5. "Ob ispolnitelnom proizvodstve." Vedomosti Federalnogo Sobraniya. no 25, 01.09.97. Translated by Andrei Markine.
6. Incassation - The meaning of this term includes: collecting, recovery, payment collection, collection of checks, debt collection.
7. "Article 876. Notice of Operations Conducted." Civil Code of the Russian Federation [Adopted by the State Duma on 21 October 1994 and 22 December 1995, as amended 20 February and 12 August 1996]. Parts 1 and 2. Translated from Russian by W.E. Butler. (London: Simmonds & Hill Publishers Ltd. The Primrose Academy Ltd. 1997.), pp. 396 -397.
8. The specifications from the state bodies about the jointly undersigned letter are: the State Tax Service, from 16 June 1995, no BG-4-12\25H; the Ministry of Finance, from 6 June 1995, no 47; the Central Bank from 16 June 1995, no 174
9. NN stands for Indentificationniy Nomer Nalogoplatelschika, the Identification Number of the Taxpayer.
10. "Article 875. Performance of Encashment Commission." Civil Code of the Russian Federation [Adopted by the State Duma on 21 October 1994 and 22 December 1995, as amended 20 February and 12 August 1996]. Parts 1 and 2. Translated from Russian by W.E. Butler. (London: Simmonds & Hill Publishers Ltd. The Primrose Academy Ltd. 1997.), p 396.
11. Steven Theobald. "Ex-mob buster fights white-collar crime: Krollgroup Buys Toronto Forensic Accounting Firm," The Toronto Star, 18 June 1998.
12. "Russia is There a Solution?", The Business Week. 7 September 1998, p 29.