Since 2021, the New York Legislature has considered a number of draft bills aimed at facilitating sovereign debt restructurings and helping distressed sovereign debtors obtain the debt relief they require. While the draft bills attracted substantial public attention and commentary, before this year none of them ever proceeded beyond committee stage. In 2024, however, a new bill entitled the "Sovereign Debt Stability Act" (the "Act")1, combining elements of two bills introduced in the 2023 legislative session, was introduced in the New York Assembly and the New York Senate. The renewed focus of the New York Legislature on this topic, and the prospect that the draft Act could be brought to a vote before the end of the current legislative session in early June, justify an examination of the terms and implications of the proposed legislation.
The Act would come into force as a new Article 8 of the New York Banking law, and would seek to (i) create a comprehensive mechanism to restructure sovereign debt and (ii) limit creditors' recoveries on their claims against a sovereign that participates in an international debt relief initiative to the recovery that would be obtained by the United States on its claims under such initiative.
This note provides an overview of the key elements of the proposed legislation and highlights some questions and issues that in our view are likely to emerge if the legislation in its current form is passed.
Background and Legislative Intent
Section 200 of the legislation sets out the legislative intent. In summary, the Act aims to provide a debt relief mechanism for distressed sovereigns which would reduce the social cost of unresolved sovereign debt crises imposed on the population of sovereign debtors while protecting New York State and its taxpayers from the spillover effects of prolonged sovereign defaults.
Sovereign debt crises and sovereign defaults are a periodic phenomenon whose frequency and intensity have increased in recent years as a result of stresses created by the COVID-19 pandemic, rising global interest rates and heightened macroeconomic and geopolitical uncertainty. While there is no insolvency regime for sovereigns in the same way as there is for corporates, best practices have developed among sovereign debtors, creditors, international financial institutions and other stakeholders that govern the resolution of sovereign debt crises – although application of these best practices has not always led to efficient or speedy outcomes.2
In particular, the international financial architecture has evolved over time to address the specific challenges of restructuring sovereign international bonds. Almost half of all outstanding sovereign bonds are governed by New York law, and sovereign bonds are by far the largest category of sovereign debt whose terms are governed or enforced by New York law and which would therefore be subject to the proposed Act.3
To facilitate the restructuring of sovereign bonds and minimize the risk of "holdouts" in the restructuring process (i.e. a minority of bondholders who decline to participate in a restructuring that commands the support of a majority),most modern sovereign bond contracts include amendment provisions that permit a defined supermajority of bondholders – even across different series – to bind a dissenting minority into the agreed restructuring. These so-called "collective action clauses," which now exist in many but not all sovereign bonds, have been espoused by sovereign debtors, creditors, the IMF, and most industry commentators, and have contributed to creditor participation rates in sovereign restructurings of upward of 90% in recent years.
That being said, the increased complexity of the debt stock of many sovereign borrowers, which often now includes various different classes of private sector and official debt, collateralized debt as well as debt benefitting from full or partial guarantees or other credit enhancement from international financial institutions, has recently led to severe coordination challenges in implementing consensual sovereign debt restructurings. These problems have in turn contributed to significant delays in the consummation of debt restructurings. It is likely due to this reality that many lawmakers in the New York Legislature, encouraged by anti-debt activists and representatives of civil society, argue that the existing contract-based architecture is insufficient or defective, and consider the draft Act to offer a needed statutory solution to facilitate better sovereign debt restructuring outcomes.
Application of the draft Act – determining eligibility
The Act would permit a sovereign to "opt-in" to the legislation and elect to have its debt treated under either Section 223 or Section 230 of the Act, by filing a written notice with the State of New York. The sovereign debtor has the flexibility to change its election once, before a restructuring plan has become effective.
Any sovereign can opt-in to the legislation if it has one or more claims that are either "governed" by New York law (and would be subject to treatment under Section 223) or "enforced" under New York law (and would be subject to treatment under Section 230). Claims that are "enforced" under New York law include all claims that are governed by New York as well as certain judgment claims. Claims that are not governed by New York law are not eligible for treatment under the Act, unless the relevant creditor voluntarily opts in to the legislation.
Claims under Section 223: the comprehensive restructuring mechanism
Application of the comprehensive restructuring mechanism pursuant to Section 223 includes the following elements:
- Petition and Certifications: the sovereign initiates the process by filing a petition for debt treatment under Section 223 with the State of New York. The notice must include a certification by the sovereign that, among other things: (i) it has not previously sought relief under this mechanism or any other similar law in the past five years; (ii) absent debt relief, its debt would be unsustainable, (iii) it has enacted any domestic law required to comply with the Act; and (iv) it is working with the IMF to devise an effective path to restore debt sustainability.
We note that the sovereign is permitted to self-certify that its debt is unsustainable (with no objective method or guidance as to how such determination is to be made), which is at odds with current practice where debt sustainability is typically determined by the IMF. The adequacy of such self-certification could be the source of legal challenge by creditors.
- Appointment of an Independent Monitor: The Act mandates the appointment of an "independent monitor" to evaluate petitions (which can be dismissed for lack of good faith), oversee the Section 223 process and facilitate the design and implementation of a fair and effective agreement between the sovereign debtor and its creditors. The independent monitor must be appointed by the Governor of New York State (in consultation with the US Treasury) and needs to be "acceptable" both to the sovereign and to the holders of a majority of its New York-law claims.
We note that the Act does not specify what voting mechanism would be used for bondholders to indicate the acceptability (or not) of the nominated independent monitor and, in the absence of any clear direction in the Act, who would make that determination and what process would be followed in case of disagreement. It is also unclear what qualifications an independent monitor ought to possess, what the consequences might be to the sovereign of a failure to abide by the requests of the monitor, and the nature and extent of the monitor's potential liability in connection with its role in this mechanism.
- Submission of a restructuring plan: Per Section 226 of the Act, the sovereign must design and submit to its creditors a comprehensive plan to restore debt sustainability. The plan must designate different classes of claims and specify the treatment of each class. The Act regulates which claims can be classed together and notably (1) official sector claims cannot be classed together with private sector claims and (2) New York law governed claims cannot be grouped with other claims. Non-New York law governed claims can only be subject to the restructuring if the relevant creditor holding such claims elects to opt in to the Act.
We note the requirement that official sector debt be placed in a separate class than private debt may result in those claims obtaining preferential treatment vis-a-vis private sector debt, or vice-versa, raising questions of fair burden sharing. This of course also assumes that official sector creditors – whose claims are not governed by New York law – have elected to opt it to the Act.
- Plan Voting and Effectiveness: a proposed restructuring plan becomes binding and effective if approved by holders of at least two thirds of claims by amount and over half of claims by number entitled to vote in each class. The approval and implementation of a restructuring plan under Section 223 operates both retroactively and prospectively, and overrides any contractual provisions inconsistent with the provisions the Act. This means that the voting mechanism would override any collective action clauses in the sovereign's New York law governed bonds.
We note that a retroactive application of the Act (and voting mechanism) that may impair creditors' rights under their existing contracts may raise questions and challenges regarding impairment of contract rights under the U.S. Constitution's "contracts clause" and the deprivation of property rights under the U.S. Constitution's "takings clause".
- Adjudication of Disputes: The independent monitor may request a court-appointed referee or special master to make recommendations to the court in the event of a dispute under Section 223.
- New Money: the Act permits the sovereign to raise new and senior money to finance the restructuring, provided that (i) it notifies all known creditors of its intention to borrow, the terms and conditions of the borrowing, and the proposed use of proceeds and (ii) the senior financing is approved by at least two thirds of creditors that respond to the independent monitor within a period of 30 days, by amount of claims that are governed by New York law).
We note that the ability to raise new money with the consent of creditors whose claims are governed by New York law (who in some cases may only be bondholders) that will be legally senior to other claims would contradict and undermine the customary preferred creditor status of official sector creditors, including the IMF, potentially complicating the restructuring process and impacting application of the IMF's lending practices.
Claims under Section 230
A sovereign's election to have its claims treated pursuant to Section 230 would limit the recovery of creditors on their claims against the sovereign if the sovereign participates in certain international debt relief initiatives. In that case, creditor recovery would be limited to what would be "recoverable by the United States federal government under the applicable international initiative."
- "International initiative". This concept is broadly defined as any framework or initiative in which the United States government has engaged with other official and private creditors to provide debt relief, including but not limited to the Heavily Indebted Poor Countries Initiative, the G-20 Debt Service Suspension Initiative ("DSSI") and the Common Framework, the Paris Club, and any successor or similar international mechanism, framework or initiatives;
- Recovery preconditions. Claims would only be capped under the provisions of the Act where "burden-sharing standards" and "robust disclosure standards" are met.
- "Burden-sharing standards". These are defined as the standards set by the relevant international initiative for equitable burden-sharing among all creditors with material claims on each participating debtor without regard for their official, private, or hybrid status.
- "Robust disclosure standards". While the term is undefined, it includes intercreditor data sharing and a "broad presumption in favor of public disclosure of material terms and conditions of such claims".
We note that there are various aspects of Section 230 that are ambiguous. Among others, it is unclear who will determine whether the "burden-sharing standards" or the "robust disclosure standards" have been met, or who will adjudicate relevant disputes. It is also unclear how the "disclosure standards" intend to account for customary and extensive confidentiality undertakings that may exist in a sovereign's financing agreements.
Criticisms and Implications for the Sovereign Debt Market
While supporters of the Act believe that it will address deficiencies in the sovereign debt restructuring architecture, critics - particularly in the New York financial services industry - have suggested that the risks to enforceability of sovereign debt contracts created by the Act will inevitably raise the cost of financing for those same vulnerable countries that it purports to help. Furthermore critics have predicted that because it will create uncertainty over the enforceability of sovereign debt contracts and lead to extensive litigation to resolve perceived ambiguities and deficiencies in legal drafting, the Act will prompt a migration of the governing law of sovereign debt contracts to other jurisdictions where contractual rights are more likely to be enforced as written (such as England - and potentially even US jurisdictions such as Texas or Delaware). Finally, critics have suggested that proponents of the Act, though well meaning, have failed to coordinate their proposed reforms adequately with key stakeholders in the sovereign debt restructuring process - including the IMF, the Paris Club and major official creditors – leading to uncertainty about the Act's conformity with widely accepted best practices in sovereign debt restructurings.
Additional Information
The intention of this note is to provide a high level overview of the key elements of the proposed Sovereign Debt Stability Act, and highlight certain issues and questions that arise by a plain reading of its provisions.
White & Case has been involved in virtually all sovereign debt restructurings of the last 10 years, including Argentina, Ecuador, Ethiopia, Greece, Lebanon, Mozambique, Sri Lanka, Suriname, Zambia, and Ukraine. In this connection we are closely monitoring the progress of the draft Act through the New York legislative process.
Please do not hesitate to contact us should you wish to learn more about the Act, its potential challenges and implications for the sovereign debt landscape.
1 Assembly Bill A2970-A and Senate Bill S5542-A
2 While a description of the existing sovereign debt restructuring architecture is beyond the scope of this note, broadly speaking the process involves certain key elements: (1) a determination that a sovereign's debt is unsustainable, which is often assessed by the International Monetary Fund ("IMF") in the context of a request by the sovereign for IMF emergency financing, (2) a determination of the debt relief that is required to return the debt to sustainable levels consistent with the requirements of an IMF-supported reform program, and (3) bilateral negotiations between the sovereign and each class of creditors regarding the quantum and form of debt relief that is required, and (4) implementation of a debt restructuring through bilateral re-negotiations of existing debt contracts.
3 Other categories of external sovereign debt, including official bilateral debt and multilateral debt, are typically not governed by the laws of the State of New York. Commercial debt (such as bank loans) are sometimes governed by New York law, but are often governed by English law or, less frequently, the laws of other jurisdictions.
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This article is prepared for the general information of interested persons. It is not, and does not attempt to be, comprehensive in nature. Due to the general nature of its content, it should not be regarded as legal advice.
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