Escrow Account Agreement is Back, Regulated, and Set into Operation

19 02 2018

Close of 2017 the National Bank of Ukraine has issued regulations giving the final green light to opening and operation of escrow accounts. That was a highly anticipated change. Many businesses and their customers were excited by the prospect of the escrow accounts becoming formalized in Ukraine after the Ukrainian Parliament introduced respective amendments to the Civil Code of Ukraine earlier last March.

The escrow accounts allow reducing the settlements risks of contract parties. One can secure that instrument virtually any contract, whether sale, services, or investment, paper or electronic. The escrow accounts are widely used abroad for securing interests of both parties when negotiating the sequence of payments for and delivery of high-value goods or services, particularly when delivery depends on special conditions, such as state registration of title to shares or real estate.

How do escrow accounts work? The client (the buyer) opens an escrow account in a way much like the opening of a current account and credits it with the funds in the amount intended for paying the purchase price. The bank transfers to the beneficiary (the seller) or returns the client’s funds only when the conditions become satisfied, which must be determined in the escrow agreement in detail.

The client and the beneficiary should negotiate in advance the conditions for transfer of the funds and take into consideration the specifics of the prospect transaction between them. The obligation to check the fulfillment of the conditions can be placed on the bank or on a third party, which both the client and the beneficiary can trust, such as an independent legal adviser.

Not only the client is secured, but the beneficiary is secured too. No changes to the escrow agreement are possible without the beneficiary's consent.

Escrow accounts are usually simpler to open while giving more options in comparison to other bank instruments, such as a bank guarantee or a letter of credit. Abroad, beyond being a widespread standard instrument for settlement for high-value goods, such as real estate and company shares, the escrow accounts infiltrated seemingly unconnected areas, such as payment for delivery of Software-as-a-Service (SaaS) solutions; not to be confused with an escrow of the software itself. Resorting to escrow accounts allows the parties to close the deal faster and with fewer expenses on transactional risks mitigation potentially resulting in faster returns and faster growth of the business. Now, this common and familiar instrument is available in Ukraine too.

Having an account with the bank is not required for opening an escrow account with that bank. Though, each party is likely to insist on opening the escrow account with the same bank where it already has its own current account to avoid possible bank transaction fees or expecting the bank to be otherwise more convenient to them. The buyer usually bears the associated bank fees. If it is the case, then the buyer is in a better position to negotiate with the seller the bank which is less expensive.

The Ukrainian banks are ready to provide the newly available service of opening and operating escrow accounts, which is not completely new to them in the first place. For the clients, especially the demanding foreign ones, in Vasil Kisil & Partners, on multiple occasions, we have rendered legal assistance and advice in negotiations with the banks and counterparties on opening escrow accounts or arranging a similar mechanism long before. Some banks were known for their quite developed practice of opening escrow accounts, which they based on the general rules available in the Ukrainian laws. Meanwhile, other banks used to offer their clients letters of credit instead. The banks had to suspend their practice of escrow accounts for a while after the changes to the Civil Code of Ukraine and before the changes to the regulations of the National Bank of Ukraine. But they were not dormant in inactivity. Some even actively researched for the ways to embed escrow agreements into innovative blockchain solutions to be used with smart contracts.

The new regulations of the National Bank of Ukraine provide advantages for foreign investors to Ukraine and foreign exporters from Ukraine when performing transactions through escrow accounts. For example, an exporter can obtain loans from Ukrainian banks.

Unlike abroad, Ukrainian regulations do not govern yet escrow of securities, documents or commodities or even escrow of monetary funds by persons other than banks. There is still some room for further development of escrow instrument. However, some of the above-mentioned arrangement can still be found in practice to the extent they do not contradict mandatory regulations.

In Vasil Kisil & Partners, we expect a gradual increase in interest to escrow accounts and, following from our former experience and recent discussions with the clients, we foresee a variety of solutions employing escrow accounts, especially in transactional and investment matters involving a purchase of businesses or core assets.

Published: Lexology, 19 February 2018

Authors: Alexander Borodkin, Roman Riabenko