When German insolvency proceedings are commenced, the debtor's right to manage and transfer the insolvency estate passes to the insolvency administrator, pursuant to Section 80(1) of the German Insolvency Statute (“InsO”). Consequently, the insolvency administrator succeeds the debtor as the party in any pending arbitration.

Section 240 of the German Code of Civil Procedure (“ZPO”), according to which court proceedings are automatically suspended when insolvency proceedings are opened against a party, does not apply in arbitration. However, it is commonplace that arbitral tribunals use their procedural discretionary power to suspend the arbitration to allow the insolvency administrator time to get acquainted with the subject matter of the dispute and to plan appropriate steps. Failure to do so may constitute a violation of the right to be heard, which could lead to the award being set aside under Section 1059(2) ZPO.

The insolvency administrator is bound by previous procedural steps and agreements in the ongoing arbitration. Also, save for exceptional cases (e.g. if the independence or impartiality of the arbitral tribunal might be affected) the insolvency administrator is not entitled to request a different composition of the tribunal merely because he/she would have appointed a different arbitrator.

Pursuant to Section 87 InsO, insolvency creditors may only enforce their claims under the provisions governing the insolvency procedure. Section 174(1) InsO requires claims to be filed in writing with the insolvency administrator, who will then enter all registered claims into a schedule, regardless of whether arbitration concerning the claim is already underway. The insolvency administrator may accept or contest the claim; while other creditors may also contest the claim.

As acceptance of the claim has the legal effect of a final judgment vis-à-vis the insolvency administrator and other creditors (Section 178(3) InsO), there would be no need to continue with the pending arbitration. If, however, the insolvency administrator contests the claim, the relief sought in the arbitration must be adjusted (in accordance with Section 1046(2) ZPO) to request declaratory relief determining the validity of the claim.

Arbitral awards that violate mandatory insolvency law may be void for violating public policy. For example, in 2009, the German Federal Court of Justice found a (domestic) arbitral award which affirmed the existence of a claim without that claim having been duly registered in the insolvency schedule to violate German (domestic) public policy (Federal Court of Justice, Decision of 29 January 2009, Case No. III ZB 88/07).

German courts have not yet addressed the criteria for the recognition of a foreign party’s insolvency and its effects on pending arbitration proceedings seated in Germany.

Recognition of insolvency proceedings in EU Member States (except Denmark) is governed by EU Regulation No. 2015/848 (“EU Insolvency Regulation”). Non-EU insolvency proceedings are, in principle, recognised in Germany under Section 343 et seq. InsO, subject to certain exceptions.

According to Article 18 EU Insolvency Regulation, the suspensive effects of insolvency proceedings on a pending arbitration seated in Germany are subject to German arbitration law, whereas other effects are governed by the law of the EU Member State where the insolvency proceedings were opened (Article 7 EU Insolvency Regulation). It is not settled whether Section 352 InsO on the suspension of legal proceedings in case of non-EU foreign insolvency proceedings is applicable to arbitration. In any event, staying pending arbitration is typically warranted for reasons of procedural fairness, as discussed above.

Courts have jurisdiction for insolvency specific claims, e.g. if the insolvency administrator decides to contest a transaction made prior to the opening of insolvency proceedings that would disadvantage the insolvency creditors under Section 129 et seq. InsO. This can arguably lead to parallel proceedings if such transaction is also the subject matter of a pending arbitration.

If the contested transaction entails a transfer of claims, multiple parties and proceedings may be concerned. In the absence of a new arbitration agreement between all relevant parties and their joinder to the pending arbitration, there are no clear rules on whether the arbitration should be suspended or proceed while the court deals with the right to contest the transaction. It will depend on the arbitrators’ discretion whether they put more emphasis on either a swift decision that might still be contested at the execution stage due to a conflicting court judgment or a final and binding decision dealing with all possible objections.

Can one initiate arbitration against an insolvent entity?

Creditors can initiate arbitration against the insolvency administrator, who has the statutory capacity to be sued in his or her own name in proceedings concerning the debtor (gesetzliche Prozessstandschaft, Section 80(1) InsO) and who is bound by existing arbitration agreements. The opening of insolvency proceedings does not affect the debtor’s estate’s subjective arbitrability, and the insolvency court does not have all-encompassing jurisdiction over insolvency-related disputes.

Neither German insolvency nor arbitration law explicitly addresses the objective arbitrability of insolvency-related disputes. The prevailing view is that most insolvency-related disputes, particularly those that are concerned with determining the existence of a claim (Section 174 et seq. InsO), are arbitrable.

Likewise, claims such as those regarding the insolvency administrator’s right to enforce claims which the debtor has assigned as security (Section 166(2) InsO), remuneration for emergency management (Section 115(2), 116(2) InsO), and the rights to separation and separate satisfaction (Section 47 et seq. InsO) are generally considered to be arbitrable.

By contrast, disputes that concern the insolvency proceedings as such and the special powers vested in the insolvency administrator by statutory law are generally regarded as non-arbitrable. Although subject to academic debate, these would include the insolvency administrator’s right to decide on whether to perform mutual contracts (Section 103 InsO).

In addition to arbitrability, a given claim must also fall within the scope of the arbitration agreement, which requires careful analysis on a case-by-case basis. For example, whether the right to contest a transaction in insolvency proceedings (Section 129 et seq. InsO) is covered by an arbitration agreement or requires a specific decision by both parties to that effect remains subject to controversial debate and depends on the individual circumstances.

In some cases, the insolvency administrator may successfully invoke the objection of impecuniosity, which is not insolvency-specific, to avoid arbitration. The German Federal Court of Justice has ruled that lack of sufficient funds to conduct arbitration renders an arbitration agreement void or inoperable, as it may lead to a denial of justice (Federal Court of Justice, Decision of 14 September 2000, Case No. II ZR 33/00).

However, insolvency does not automatically mean that the party lacks sufficient funds to take part in arbitration. The opposing party may also decide to bear the insolvent party’s advance on cost to avoid the impecuniosity objection and allow the arbitration to proceed.

Can an insolvent party commence arbitration?

The insolvency administrator may initiate arbitration on behalf of the debtor against contracting parties as part of his/her duty to manage the insolvency estate (Section 80 InsO). He/she may rely on pre-existing arbitration agreements concluded by the debtor, by which the insolvency administrator is bound, or enter into new arbitration agreements, subject to the limitations of arbitrability described above.

However, where this involves a dispute of considerable importance to the insolvency estate, the creditors’ committee’s consent may be required to pursue the dispute or enter into an arbitration agreement (Section 160(2) no. 3 InsO).

Despite the insolvency administrators’ ability to commence arbitration in the interest of the insolvency estate, this remains relatively uncommon in Germany.

Statutory law assigns some insolvency-related disputes to the jurisdiction of the insolvency court and some to the jurisdiction of the “ordinary” courts. For example, as per Section 180(1) InsO, the local court where the insolvency proceedings are or were pending shall have “exclusive jurisdiction” for the determination of a claim. Conferrals of “exclusive jurisdiction” in favour of a particular court are considered to have a limited scope under German law and merely define and delineate the respective jurisdiction of various courts. Such “exclusive jurisdiction” provisions therefore do not exclude arbitration per se.

Consequently, if the insolvency administrator or a creditor pursues the action in a court despite a valid arbitration agreement covering the underlying dispute with claims that are considered to be arbitrable (see above), the opposing party may invoke the arbitration defence under Section 1032(1) ZPO and petition the court to dismiss the claim for inadmissibility.

The arbitration defence cannot be raised against parties who are not bound by the arbitration agreement. This may result in parallel proceedings to resolve similar disputes, depending on whether creditors have entered into arbitration agreements with the debtor.

Once insolvency proceedings are commenced, individual enforcement measures are prohibited, and enforcement may only take place through insolvency proceedings (Section 89 InsO). The claim awarded in arbitration must be recorded in the insolvency schedule and is likely to be partially paid only, due to the insolvent debtor’s lack of assets.

Depending on the precise timing of an arbitral award’s date of issuance and the opening of insolvency proceedings, a number of unresolved procedural questions at the interface between insolvency and arbitration law may emerge.

For example, the German Federal Court of Justice has not yet decided whether an arbitral award constitutes a “final decision” (rechtskräftige Entscheidung) in the meaning of Section 183(1) InsO, entitling the creditor to immediately request a correction of the insolvency schedule, or whether the award must first be granted leave for enforcement.

In a similar vein, if insolvency proceedings are opened after an award has been rendered but before it has been granted leave for enforcement, there are differing views on whether this award is akin to a “final judgment” (Endurteil) in the meaning of Section 179(2) InsO. In this case, the insolvency administrator would seek declaratory relief after contesting the claim, instead of the creditor.

Within the scope of German insolvency law, German courts would stay any post-award proceedings under Section 240 ZPO in order to allow the insolvency administrator to make necessary decisions.

In March 2020, the German legislator passed legislation to mitigate the consequences of the SARS-CoV-2/Covid-19 pandemic, including several insolvency related rules.

The duty to file for insolvency (usually within 21 days of cash-flow insolvency and/or over-indebtedness) was temporarily suspended until 30 September 2020 and the liability of management was adjusted accordingly.

Only for the reason of over-indebtedness (if the debtor is not illiquid at the same time), the suspension of the filing obligation was subsequently extended until 31 December 2020 unless:

• the insolvency had not occurred due to the impact of the Covid-19 pandemic; or

• there was no prospect of resolving an existing illiquidity.

If the debtor was not illiquid on 31 December 2019, a rebuttable assumption was established that the insolvency was caused by the pandemic and that there were prospects of resolving an existing illiquidity.

In January 2021, filing duties for illiquidity and/or over-indebtedness were suspended again, if the debtor had applied for Covid-19 state aid in November/December 2020 or was entitled to apply but had been prevented from doing so. These rules were extended until 30 April 2021 for debtors that applied (or were eligible to apply but prevented from applying) for Covid-19 state aid until 28 February 2021.

In addition to the suspension of filing duties, the law also clarifies the impact of the suspension in respect of the management’s liability:

• payments made in the ordinary course of business are deemed to comply with the care required by a prudent management; and

• this assumption applies in particular to payments serving the maintenance or resumption of the business, or the implementation of a restructuring plan.

Subject to certain conditions, the law also relaxes the rules on lender liability, facilitates the provision of new financing (including by way of shareholder loans) and exempts new financing from claw-back rules.

As of 1 January 2021, a new German restructuring legislation came into force implementing the preventive restructuring directive (EU) 2019/1023 and providing for various pre-insolvency restructuring instruments available for companies in the stage of impending illiquidity. Hereby, the German legislator intends to provide a seamless transition from the aforementioned Covid-19 related suspensions to the new restructuring legislation and to create a stable legal framework for debtors, creditors and other involved stakeholders.