Insolvency Proceedings and Self-Administration

How insolvency proceedings work in Germany

Insolvency proceedings in Germany are governed by the Insolvency Code (Insolvenzordnung, InsO) and run in two stages. After a filing, the insolvency court opens preliminary proceedings, usually appointing a preliminary insolvency administrator or, in self-administration, a preliminary custodian, to secure the assets and investigate whether the debtor's assets cover the costs of the proceedings. If they do, the court opens the main proceedings, typically about two to three months after the filing. In regular proceedings, the right to manage and dispose of the debtor's assets then passes to the insolvency administrator (§ 80(1) InsO); in self-administration, management remains in office under the supervision of a custodian.

German insolvency proceedings serve the collective satisfaction of creditors, but the law expressly allows this to be achieved by preserving the business, through a sale as a going concern or an insolvency plan. The reforms of the last decade, including the Act to further facilitate the restructuring of companies (ESUG) and the SanInsFoG, have strengthened self-administration and the protective shield procedure and given creditors more influence over the choice of administrator. As a result, insolvency proceedings in Germany are often used as a restructuring tool rather than merely as a route to liquidation.

This page explains the insolvency triggers, preliminary proceedings, the choice between regular proceedings and self-administration, protective shield proceedings, insolvency plans, creditors' committees, the effects on contracts and employees, avoidance actions and cross-border cases. It is written for directors, shareholders, lenders, suppliers, customers and investors. For the preventive alternative, see the StaRUG restructuring framework.

Insolvency triggers and filing

Insolvency proceedings can be opened on three grounds. Illiquidity (§ 17 InsO) is the general ground: the debtor cannot pay its debts as they fall due, which is presumed if it has stopped making payments. Imminent illiquidity (§ 18 InsO) is a ground only if the debtor files itself; the debtor is likely to be unable to meet existing payment obligations when due, assessed over a forecast period that normally covers 24 months. Over-indebtedness (§ 19 InsO) is a ground for legal entities and partnerships without a natural person as fully liable partner: assets no longer cover liabilities, unless continuation of the business over the next twelve months is predominantly likely.

Directors of legal entities must file without culpable delay and at the latest three weeks after the onset of illiquidity and six weeks after the onset of over-indebtedness (§ 15a(1) InsO). Creditors can also file, if they have a legal interest and can show a claim and an insolvency ground. A creditor's filing frequently results from unpaid social security contributions or taxes. A debtor's filing must include a list of creditors and, in larger cases, information on key figures such as balance sheet total, revenue and employees.

Preliminary insolvency proceedings and the administrator

Immediately after a filing, the court can order preliminary measures to protect the assets: appointment of a preliminary administrator, a general prohibition on disposals or a requirement that disposals need the administrator's consent, and a suspension of enforcement. A "weak" preliminary administrator supervises management, whose dispositions require consent; a "strong" one takes over management. During the preliminary phase, which usually lasts up to three months, employees receive insolvency money (Insolvenzgeld) from the Federal Employment Agency covering their wages for the three months before the insolvency event, which the administrator typically pre-finances through a bank. This creates liquidity to continue the business.

Creditors have a say in the choice of administrator. In larger cases, the court must appoint a preliminary creditors' committee if the debtor met two of three criteria in the previous financial year: a balance sheet total of at least EUR 6 million, revenue of at least EUR 12 million, or an annual average of at least 50 employees (§ 22a(1) InsO).

The committee must be heard on the requirements for and the person of the administrator, and the court may depart from a unanimous proposal of the committee only if the proposed person is unsuitable (§ 56a InsO). For debtors and major creditors, preparing a committee and agreeing on a suitable administrator before filing is therefore an important part of planning.

Self-administration and the protective shield

In self-administration (Eigenverwaltung), the debtor's management continues to run the business and the insolvency estate under the supervision of a custodian (Sachwalter). The debtor must apply and submit self-administration planning (§ 270a(1) InsO) comprising, among other things, a six-month financial plan with a well-founded description of the sources of finance, a restructuring concept, a description of negotiations with creditors, arrangements to ensure compliance with insolvency law duties, and an explanation of the costs of self-administration compared with regular proceedings. If the planning is complete and conclusive, the court appoints a preliminary custodian and orders preliminary self-administration (§ 270b InsO).

Self-administration requires management that is trusted by creditors and has insolvency law expertise; in practice, companies often appoint an experienced restructuring officer (Chief Restructuring Officer) to the board. The main advantages are continuity, faster decision-making and avoiding the signal of a change of control to customers and suppliers. The duties of management in self-administration are oriented towards the interests of creditors, and managers can be personally liable for breaching them.

Protective shield proceedings (Schutzschirmverfahren) are a form of preliminary self-administration available to a debtor that is imminently illiquid or over-indebted but not illiquid. The debtor submits a certificate from an experienced insolvency or restructuring expert confirming this and that the restructuring is not obviously futile. The court then sets a period of at most three months for preparing an insolvency plan (§ 270d(1) InsO), can prohibit enforcement measures and appoints a custodian, whom the debtor may propose. The protective shield gives management time and stability to prepare a plan with creditors.

Directors considering self-administration should be aware that the court can terminate it, for example if the planning turns out to be based on incorrect facts, if the debtor fails to meet its duties or if the creditors' committee applies for termination. In that case the court appoints an administrator and the proceedings continue as regular insolvency proceedings, which means that management loses control at a critical moment.

Insolvency plans and going-concern sales

An insolvency plan can deviate from the statutory rules on realisation and distribution and restructure the debtor's liabilities, the rights of secured creditors and, if necessary, shareholders' rights. The plan is prepared by the debtor or the administrator and put to a vote of the creditors in groups. Within each group, the plan is accepted if a majority of voting creditors agree and the claims of those agreeing exceed half the claims of those voting (§ 244(1) InsO).

If a group refuses, its consent is deemed given under the prohibition of obstruction if its members are not worse off than without a plan, participate appropriately in the plan value and a majority of groups agree (§ 245 InsO). After court confirmation the plan binds all creditors, and the proceedings are terminated.

The alternative is a sale of the business as a going concern, usually in an asset deal (übertragende Sanierung). The administrator or the debtor in self-administration runs a sale process, often on a short timetable, and transfers the assets, contracts and employees to the buyer while the liabilities remain with the insolvent estate. The purchase price is distributed to creditors. Buyers benefit from acquiring the business largely free of historic liabilities; see our page on distressed M&A and investing. Which route is better depends on the value of the legal entity (licences, contracts, tax attributes) compared with a fresh start in a new entity.

• Insolvency plans preserve the legal entity, its permits and its contracts.
• Asset deals give buyers a clean start but require contracts and permits to be transferred.
• Both routes need the support of key creditors and, in practice, of the creditors' committee.

Shareholders in the insolvency plan

Since the ESUG reform, an insolvency plan can also interfere with shareholders' rights: it can provide for a capital reduction and increase, the exclusion of subscription rights, the conversion of creditors' claims into equity and the transfer of shares. Shareholders form their own group and can be crammed down if they are not worse off than without the plan, which is usually the case because in a liquidation they would receive nothing. This gives creditors and new investors a route to take over the legal entity without the shareholders' consent, which can be valuable where the company holds licences, long-term contracts or tax attributes.

Claims, distributions and closing

Creditors file their claims with the administrator, who maintains a table of claims. Claims that are not disputed by the administrator or another creditor are deemed established; disputed claims must be pursued by action. Estate liabilities, such as the costs of proceedings and liabilities incurred by the administrator, are paid in full before the general creditors, who receive a quota on their claims. Subordinated claims, including shareholder loans, are paid only after all other creditors have been satisfied, which rarely happens. Distributions are made after the realisation of assets, and the proceedings are closed by court order after the final distribution or, in the case of a plan, after confirmation.

Contracts, employees and avoidance actions

Insolvency proceedings in Germany give the administrator powerful tools. For mutual contracts not yet fully performed by both sides at the opening, the administrator can choose whether to perform or reject them; on rejection, the counterparty has only an insolvency claim for damages (§ 103 InsO). Contractual clauses allowing a counterparty to terminate merely because of insolvency are, according to case law, often invalid where they undermine this right of election. Service contracts, including employment contracts, can be terminated by the administrator with a maximum notice period of three months to the end of a month, regardless of longer contractual periods or exclusions of ordinary termination (§ 113 InsO).

Workforce reductions still require a social justification under the Protection Against Dismissal Act and consultation with the works council. Insolvency law eases the process: if the administrator and the works council agree a reconciliation of interests naming the employees to be dismissed, there is a presumption that the dismissals are justified by urgent operational requirements, and social selection can be reviewed only for gross errors (§ 125 InsO). Social plan volumes are capped in insolvency.

Avoidance actions (Insolvenzanfechtung) allow the administrator to recover payments and other transactions that prejudiced creditors before the filing. Payments to creditors in the three months before the filing are at risk if the creditor knew of the debtor's illiquidity; transactions with intent to prejudice creditors can be challenged for up to ten years, or four years where they granted security or satisfaction (§ 133 InsO); repayments of shareholder loans in the last year before the filing can be avoided (§ 135 InsO).

Cash transactions, where equivalent consideration flows directly into the debtor's assets, are protected except in cases of intentional prejudice that the other party recognised as unfair (§ 142 InsO). Suppliers and lenders dealing with a company in crisis should take these rules into account, for example by insisting on payment in advance or on delivery rather than accepting instalment arrangements for overdue invoices, which courts often treat as an indication of known illiquidity.

Secured creditors and cross-border cases

Secured creditors have a right to separate satisfaction from the collateral. The administrator is usually entitled to realise movable assets in its possession and assigned receivables, and deducts a flat-rate contribution to costs of 4% of the proceeds for establishing the collateral and, as a rule, 5% for realisation (§ 171 InsO). Owners of assets subject to simple retention of title can claim segregation. In cross-border cases within the EU, the European Insolvency Regulation allocates main proceedings to the member state where the debtor has its centre of main interests and ensures automatic recognition of German proceedings across the EU, while secondary proceedings can be opened where the debtor has an establishment.

How TRW & Co helps

We advise debtors, directors, shareholders, creditors and investors in insolvency proceedings in Germany. For companies we assess insolvency grounds, prepare filings, self-administration planning and protective shield applications, and draft insolvency plans, working with restructuring officers and financial advisers. For creditors we file and pursue claims, protect security and retention of title, represent members of creditors' committees and defend against avoidance actions. For investors we act in sale processes run by administrators and debtors in self-administration. To discuss a situation, please contact us.