MALTA Ganado & Associates

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1 Bank Finance and Regulation Survey MALTA Ganado & Associates Malta is a member state of the European Union and the applicable European Union directives are the main reference points for the regulatory concepts and supervisory practices in Malta. In addition, obtaining a banking license in Malta enables the bank to passport its license in all the member states of the European Union and the European Economic Area, through the so-called European banking passport mechanism. This has triggered off an increased interest in international banking activity in Malta over the last few years. I. BANKS AND FINANCIAL INSTITUTIONS SUPERVISION Banks Banking business in Malta is regulated by the Banking Act, 1994 (Cap. 371 of the Laws of Malta). The Banking Act caters for the licensing of banks as well as for their ongoing regulation and supervision and the Act s objective is to create a comprehensive regulatory framework for the business of banking. The Malta Financial Services Authority (the MFSA ) was designated as the body responsible for implementation of the Act. The business of banking means the business of a person who accepts deposits of money from the public withdrawable or repayable on demand or after a fixed period or after notice or who borrows or raises money from the public (including by the issue of debt securities), in either case for the purpose of lending such money to others or investing the said sums for its own account and risk. The activity will be caught whether the person does so as principal or as agent and if carried out as a regular feature of his business. The solicitation of deposits is likewise caught. In terms of Article 5 of the Banking Act, no business of banking can be transacted in or from Malta except by a company which is in possession of a license granted to it by the competent authority (namely the MFSA). In the event of reasonable doubt as to whether the business of banking or of accepting deposits is or is not being transacted by any person in or from Malta, the matter is to be determined conclusively by the MFSA. The Banking Act empowers the MFSA to issue banking directives on a number of matters including supervision on a consolidated basis, large exposures, own funds, capital adequacy, bad and doubtful debts and liquidity requirements.

2 The following banking directives have been issued by the MFSA in terms of the Banking Act, 1994: 1. Application Procedures and Requirements for Authorization of Licenses for Banking Activities under the Banking Act 1994; 2. Large Exposures of Credit Institutions Authorized under the Banking Act 1994; 3. Own Funds of Credit Institutions Authorized under the Banking Act 1994; 4. Solvency Ratio of Credit Institutions Authorized under the Banking Act 1994; 5. Liquidity Requirements of Credit Institutions Authorized under the Banking Act 1994; 6. Statutory Financial Information to be submitted by Credit Institutions Authorized under the Banking Act 1994; 7. Publication of Audited Financial Statements of Credit Institutions Authorized under the Banking Act 1994; 8. Capital Adequacy of Credit Institutions Authorized under the Banking Act 1994; 9. Credit and Country Risk Provisioning of Credit Institutions Licensed under the Banking Act 1994; 10. Supervision on a Consolidated Basis of Credit Institutions Authorized under the Banking Act 1994; and 11. Extension of the Applicability of the "Arm's Length" Principle by Credit Institutions authorized under the Banking Act 1994 The MFSA has a number of executive powers relating to the exercise of its functions under the Banking Act, including the right of entry to obtain information and documents and the power to take control of credit institutions and to require credit institutions to wind up their business. Electronic Money Institutions Recent amendments to the Banking Act have also introduced the concept of electronic money institutions : that is an institution, other than a bank, which issues means of payment in the form of electronic money. Through these amendments, prospective stand-alone electronic money institutions would be authorized to undertake the activity of issuing electronic money through a license issued in terms of the Banking Act. The business activities of an electronic money institution must be restricted to the issuing of electronic money. Accordingly, such institutions cannot undertake lending or other bank related activities. Electronic money institutions are subject to regulation and supervision by the MFSA. The MFSA has issued the following directive in connection with electronic money institutions: Taking Up, Pursuit of and Prudential Supervision of the Business of Electronic Money Institutions authorized under the Banking Act Financial Institutions The Financial Institutions Act, 1994 (Cap. 376 of the Laws of Malta) regulates non-bank financial institutions, meaning institutions which do not fund their activities through the taking of deposits or other repayable funds from the public. In addition, the Act does not apply when any of the activities listed below is regulated under the Investment Services Act, 1994 (Cap. 370 of the Laws of Malta). Broadly speaking, the Act regulates certain activities which are neither banking nor investment services and are not caught by either the Banking Act or the Investment Services Act. Financial institutions are also subject to licensing and supervision by the MFSA. The activities which may be undertaken by financial institutions may include: 1. Lending (including personal credits, mortgage credits, factoring with or without recourse, financing of commercial transactions including forfeiting); 2. Financial leasing; 3. Venture or risk capital; 4. Money transmission services; 5. Issuing and administering means of payment (e.g. credit cards, travelers checks and bankers drafts); 6. Guarantees and commitments;

3 7. Trading for own account or for account of customers in: (a) money market instruments (checks, bills, certificates of deposits etc.); (b) foreign exchange; (c) financial futures and options; (d) exchange and interest rate instruments; (e) transferable instruments; 8. Underwriting share issues and the participation in such issues; and 9. Money broking. The Financial Institutions Act, 1994 is drafted on lines broadly parallel to the Banking Act, 1994 and contains provisions on prohibited transactions, qualifying shareholdings, rules on acquisitions and disposals and such matters. The following Financial Institutions Directives have been issued by the MFSA in terms of the Act: 1. Application Procedures and Requirements for Authorization of Licenses under the Financial Institutions Act 1994; 2. Supervisory and Regulatory Requirements of Institutions Authorized under the Financial Institutions Act 1994; and 3. Statutory financial information to be submitted by Financial Institutions Authorized under the Financial Institutions Act, The Malta Financial Services Authority The MFSA is established legislatively by means of the Malta Financial Services Authority Act, 1988 (Cap. 330 of the Laws of Malta). It is a body corporate having separate legal personality and it is an autonomous public institution reporting to Parliament. The three main organs of the MFSA are the Board of Governors (responsible for policy and direction), the Supervisory Council (responsible for licensing, monitoring and supervision of license holders) and the Board of Management and Resources responsible for day-to-day operations. The MFSA is now the single regulator vested with the responsibility to regulate, monitor and supervise all financial services activities in Malta. The MFSA is currently responsible for the regulation and supervision of: (a) banks, electronic money institutions and financial institutions; (b) investment services (including the licensing of stockbrokers), collective investment schemes and pension funds; (c) insurance business and insurance intermediaries; (d) Recognized Investment Exchanges (such as the Malta Stock Exchange) and listings on Recognized Investment Exchanges; & (e) trustees activities. The Central Bank of Malta Prior to the 1 st January, 2002, the Central Bank of Malta (the CBM ) was the regulator of banks and financial institutions. The primary aim of the CBM is now to maintain price stability. In terms of the Central Bank of Malta Act, 1967 (Cap. 204 of the Laws of Malta), the CBM may also require credit institutions carrying on the business of banking in Malta to maintain reserve deposits with the CBM and to submit information to it which is necessary for the CBM to discharge its duties under the Central Bank of Malta Act.

4 Banks from EU or EEA States As from the 1 st May, 2004, Malta became a full member of the European Union. Accordingly, banks authorized by an authority in the European Union ( EU ) or the European Economic Area ( EEA ) (a European Credit Institution or ECI ) can now use their European passport to establish a branch in Malta or provide cross-border services in Malta, without the requirement to obtain a separate license from the MFSA. A number of conditions need to be satisfied before this right may be availed of, including that the ECI must notify its home state regulatory authority of its intention to establish a branch in Malta or to provide cross-border services in Malta. In the case of an ECI operating in Malta through a branch, the home state authority of the ECI is afforded the right, after having informed the MFSA, to conduct on-site verifications in Malta of certain information held by an ECI. The foreign authority may also request the MFSA to carry out such verifications. The MFSA may also itself carry out on-site verifications of branches established in Malta to discharge its responsibilities under applicable law. The Regulations also provide for the exercise of passporting rights by Maltese credit institutions. Effectively, therefore, a license to carry on the business of banking issued by the MFSA entitles the bank to establish branches or to provide cross-border services in all the states of the EU or the EEA, with minimal formalities. This has proved to be of interest to promoters who have chosen to use Malta as a platform to launch their banking activities into Europe. Sanctions Breaches of the Banking Act or the Financial Institutions Act are criminal offences punishable with fines and/or imprisonment. The MFSA can also impose administrative penalties, without recourse to a court hearing. Such administrative penalties are subject to an appeal before an independent Financial Services Tribunal, established under the Malta Financial Services Authority Act, 1988 (Cap. 330 of the Laws of Malta). II. BANKING ACTIVITIES Setting Up a Bank in Malta Banks are either set up with a head office in Malta or as a branch or a subsidiary of a foreign bank. Foreign banks may also open a representative office in Malta for the promotion or assistance of banking business carried on overseas. Both branches and subsidiaries operating in Malta are subject to the regulatory and supervisory authority of the MFSA. However, in the case of a subsidiary or branch operating in Malta which is fully/partly owned by a foreign person, the MFSA may share its supervisory duties with other foreign competent authorities on the basis of international agreements or upon reciprocity agreements. The MFSA monitors and supervises banks that are deemed to be parent undertakings on a consolidated basis. The business activities of a bank may, besides the business of banking, include any or all of the following additional activities, as may be determined by the MFSA: 1. Financial leasing; 2. Money transmission services; 3. Issuing and administering means of payment (credit cards, travellers cheques and bankers drafts and similar instruments); 4. Guarantees and commitments; 5. Trading for own account or for account of customers in: (a) money market instruments (cheques, bills, certificates of deposits and similar instruments); (b) foreign exchange; (c) financial futures and options; (d) exchange and interest-rate instruments;

5 (e) transferable securities. 6. Participation in securities issues and the provision of services related to such issues; 7. Advice to undertakings on capital structure, industrial strategy and related questions and advice as well as services relating to mergers and the purchase of undertakings; 8. Money broking; 9. Portfolio management and advice; 10. Safekeeping and administration of securities; 11. Credit reference services; 12. Safe custody services. Basic License Conditions Obtaining a license under the Banking Act or the Financial Institutions Act broadly involves satisfying inter alia the following requirements: (i) submission of the requisite application for authorization and the required documentation and information; (ii) having own funds, whether in Maltese Liri or in another currency acceptable to the MFSA, which amount to not less than Lm 2,000,000 (approximately US$ 6,000,000) or such other amount as may be established by the MFSA. In the case of financial institutions, the amount of own funds is established by the MFSA; (iii) at least two individuals must effectively direct the bank/financial institution s business in Malta; (iv) the applicant must satisfy the MFSA that all qualifying shareholders, controllers and all persons who will effectively direct the business of the bank/financial institution are suitable to ensure the prudent management of the credit/financial institution. This criterion goes beyond questions of the suitability of particular individuals but entails the observance by the institution as a whole of the highest professional, ethical and business standards in conducting its activities; (v) the applicant must also satisfy the MFSA that where there are close links between the applicant institution and another person or persons, such links do not, through any law, regulation, administrative provision or in any other manner, prevent it from exercising effective supervision of the credit / financial institution itself under the provisions of the respective Act or any directive. In the case of banks, where the applicant for business is not authorized as a credit institution (whether in Malta or overseas), in considering whether to grant authorization, the MFSA may require an active participation both by way of shareholding interest and/or by way of management by an authorized credit institution of repute. This level of participation is a matter at the discretion of the MFSA. The MFSA is bound to determine an application for a license within six months (three months in the case of a financial institution) of receipt of application or submission of such additional information as may be requested by the MFSA. In any event an application must be determined within twelve months of its receipt (six months in the case of a financial institution). Licensed banks and financial institutions must at all times comply with the conditions of the particular license and the MFSA also has inter alia extensive rights to request information and to carry out inspections for regulatory purposes. Application Procedures The Banking Act requires an Applicant to apply in writing to the MFSA for a license before commencing any business of banking in or from Malta. The MFSA requires all applications for a license to be filed in accordance with its official application form and to be accompanied by: (a) a copy of the Memorandum and Articles of Association of the applicant; (b) audited financial statements for the last three years (if applicable);

6 (c) a business plan including the structure, organization and management systems of the prospective bank; (d) the identity of all directors, controllers and managers of the institution; (e) the identity of all shareholders with a qualifying shareholding; and (f) the identity of the individuals who will be effectively directing the business of the prospective bank. The Application Procedures outlined in the Application Form sets out in detail the local requirements for applying for a banking license in Malta. Prohibited Transactions Article 15 of the Banking Act lists a number of prohibited transactions such as: (a) holding specified interests in a company which is not a bank or financial institution, the original cost value of which exceeds 15% of the bank s own funds; (b) without the consent of the MFSA, acquire or hold shares in another company which is not a bank, which exceeds 5% of that company s issued share capital; and (c) purchasing or holding any immovable property except for conducting its business. Ownership Control Any person who is a director or a controller (i.e. a person who, alone or together with others, exercises control) of a bank must satisfy the fit and proper test and be approved by the MFSA. The MFSA s consent is also required in connection with the more significant changes in shareholding of the bank and also before: any sale of a significant part of the bank s business, merger, re-construction, or change in the share capital of the bank. The Banking Act imposes obligations on banks not only relating to regular financial reporting, but it also obliges banks to supply any relevant information to the Central Bank and the MFSA on an ad hoc basis. Depositor Compensation Scheme In terms of the Depositor Compensation Scheme Regulations, 2003 (Legal Notice 369 of 2003), every credit institution which is licensed in Malta to accept deposits from depositors in Maltese lira, including a branch of a credit institution operating in another country, must participate and contribute to a so-called Depositor Compensation Scheme. The function of the Scheme is primarily to act as a safety net for certain depositors 1 in the case the bank is unable to meet its obligations. The total amount of compensation that may be paid out to a depositor shall be the lesser of 90% of his deposits or up to the Maltese liri equivalent of 20,000 Euro. Where the funds of the Scheme are insufficient to satisfy such claims, payments are to be made on a pro rata basis. A Management Committee set up by the Regulations is empowered to enter into bilateral agreements with a foreign country in the event there is a credit institution which is also required to contribute to a corresponding scheme outside Malta. Winding-Up of Credit Institutions Directive 2001/24/EC of the European Parliament and of the Council of 4 th April, 2001 on the reorganization and winding-up of credit institutions has been transposed in Malta by virtue of the Credit Institutions (Reorganization and Winding Up) Regulations, 2004 (the Credit Institutions Regulations ), 1 In these Regulations, a depositor is defined as an individual who otherwise than in the course of or for the purposes of a business, trade or profession entrusts a deposit to a credit institution. The Regulations also exclude certain specific persons and entities from the meaning of a depositor.

7 issued under the Banking Act, The Credit Institutions Regulations apply to member states of the European Union, and to countries within the European Economic Area, namely Norway, Iceland and Liechtenstein (collectively Member State ). The Credit Institutions Regulations broadly provide that it is the home Member State of a credit institution (in other words the Member State in which the head office of the credit institution is situated and in which the credit institution has been authorized in accordance with Articles 4 to 11 of Directive 2000/12/EC) which will have exclusive jurisdiction to open winding-up proceedings in relation to the credit institution (and their branches set up in host States). All the winding-up proceedings will be governed by the insolvency law of the home Member State (the lex concursus), subject to specified exceptions. It is not possible for Member States where the credit institution has a branch to open any local secondary insolvency proceedings in relation to the insolvent credit institution. The Credit Institutions Regulations also apply to credit institutions not having a head office within a Member State, where such institution has branches in at least two Member States. In terms of the said regulations, each such branch would be treated individually, although there must be co-operation between the respective authorities of each Member State where a branch is located. Interest Rates One of the main points of concern in banking transactions in relation to Malta is that the Civil Code contains two specific limitations on interest rates and compound interest which are categorized by Maltese judgments as public policy issues. These rules cannot be circumvented, directly or indirectly, by agreement and they broadly provide that interest can only be charged at a rate of up to 8% per annum and the compounding of interest is not enforceable in Malta unless the obligation to pay interest is due for a period of more than one year and certain procedures prescribed in the Civil Code are followed. The limitations are the subject of many judgments which strike down agreements to the extent that they exceed the maximum limits allowed at law. It must be noted however that, over the past few years, a number of very significant inroads to the limitation on interest rates have found their way in Maltese law; as a result the scope of such limitations has been greatly reduced in practice. In the banking sector, Article 38 of the Central Bank of Malta Act, 1967 has completely liberalized interest rates (but not the limitation on compound interest) in so far as local banks and financial institutions are concerned (including branches, agencies or offices of foreign banks and financial institutions). It is not clear whether this blanket exemption applies also to foreign banks and financial institutions which do not have a branch, agency or office in Malta. Amendments to the Civil Code provisions have practically dismantled the interest rate limitation in relation to international banking transactions subject to a foreign law and where a foreign currency is used. In addition, in virtue of the recently enacted Interest Rate (Financial Transactions) Order, 2005 (Legal Notice 323 of 2005), issued under the Civil Code, a number of further transactions were liberalized. In particular, where the interest rate or the compounding of interest rates arises in relation to debts and other obligations from so-called financial transactions and where one of the parties is a designated entity, the said limitations have been completely liberalized. The definition of financial transaction includes: contracts for differences, derivative contracts including options, forwards, swaps, foreign currency exchange contracts and similar agreements, securities lending transactions, sale and buy back agreements, repurchase and reverse repurchase agreements and similar agreements, as well as any pledges, hypothecs and other charges and any other collateral agreements, whether by way of title transfer or otherwise, which are entered into for the purpose or in connection with any of the foregoing transactions. The definition of designated entity includes amongst others a credit institution as defined in Article 1(1) of the Directive 2000/12/EC. Accordingly, to the extent that one of the parties qualifies as a designated entity under the

8 said Order, and the Agreements qualify as financial transactions, no limitation arises under Maltese law in connection with interest rates or the compounding thereof. III. BANK SECRECY LAWS The concept of confidentiality and secrecy finds expression in a number of statutes under Maltese law. The most relevant laws relating to banking secrecy are the following: Banking Act, 1994 In terms of Article 34 of the Banking Act, neither the MFSA nor the CBM can enquire on the affairs of any individual customer of a bank except for the purpose of ensuring compliance with the provisions of the Banking Act or to monitor large exposures. In addition, no person may disclose information relating to the affairs of a bank or of a customer of a bank unless authorized to do so by the Act or for the performance of his duties or when lawfully required to do so by any court or under a provision of any law. The provisions of the Prevention of Money Laundering Act, 1994 (see below) are also relevant in this context. Sanctions for breach of this duty can be both criminal and administrative in nature. Professional Secrecy Act, 1994 The Professional Secrecy Act, 1994 (Cap. 377 of the Laws of Malta) is the most comprehensive statute relating to professional secrecy generally. The purpose of the Act is to restate and widen a general prohibition on disclosure of secrets found in the Criminal Code. A professional secret is defined as information which: (a) is considered secret under a specific provision of law (such as the Banking Act); (b) is described as secret by the person communicating it to a person who, by reason of his calling, profession, or office becomes the depositary of a secret confided in him; and (c) has reasonably to be considered as secret because of the circumstances in which the information has been communicated or received, the nature of the information and the calling, profession or office of the person receiving the information and the person giving it. The group of persons who are treated as having a calling, profession or office in the above definition are defined in the Act and include lawyers, notaries, accountants and auditors, trustees, officers of credit and financial institutions, stockbrokers and employees of the State. This Act has accordingly widened the parameters of professional secrecy considerably. The Act also stresses that the prohibition extends to all employees, partners or assistants of such persons. There are a number of exceptions to the duty of professional secrecy and these include: (a) Consent: the typical case is where the person entrusting the information consents in person, although, unless otherwise stated, communications to employees, partners and assistants, or to other persons who are equally bound by professional secrecy, in the course of activities connected to the client, will not be a breach. (b) Permitted disclosures: no offence against professional secrecy is committed when a person discloses in good faith secret information (i) for the purpose of obtaining advice from a body regulating his profession; (ii) to a public authority or court / tribunal for the purpose of defending oneself in connection with the secret information or for the purpose of filing judicial proceedings seeking the recovery of fees or other

9 sums due; or (iii) to a competent public authority in Malta in the reasonable belief that such disclosure is reasonably necessary for the purpose of preventing, revealing, detecting or prosecuting the commission of acts that amount or are likely to amount to a criminal offence or to prevent a miscarriage of justice. (c) Obligation to disclose: a person must disclose information when required to do so by (i) a competent law enforcement or regulatory authority investigating a criminal offence or a breach of duty; (ii) a magistrate in the cause and for the purposes of in general proceedings; or (iii) a court of criminal jurisdiction in the course of a prosecution for a criminal offence. (d) Disclosure compelled by law: Where a person is compelled by a law to divulge information to a public authority, for instance to an authority such as the MFSA or the Central Bank of Malta, then there is no breach. There must actually be a statutory requirement to that effect. (e) Court orders: A court may order divulging of information if there is an express statutory provision granting it such power. In that case, the power is limited to the purposes of the law empowering the court to do so. (f) Public Domain: If the subject of a secret has legitimately entered the public domain through other sources, then there is no breach. (g) Other Defenses: In terms of Article 257 of the Criminal Code, it is also a defense to show that the disclosure was made to a competent public authority in or outside Malta investigating (i) specific offences under the Dangerous Drugs Ordinance 2, (ii) specific offences under the Medical and Kindred Professions Ordinance 3, or (iii) any offence of money laundering within the meaning of the Prevention of Money Laundering Act, The Professional Secrecy Act also saves anything required to be done under the Code of Organization and Civil Procedure in relation to garnishee orders. This means that if a garnishee order is issued by a creditor against a debtor and is served on a bank and the bank is asked to declare whether any funds have in fact been blocked by the garnishee order, the bank will be obliged to state positively or negatively whether they have been. Furthermore, the bank may be ordered to deposit funds in court under the law of procedure. Any person in breach of the Professional Secrecy Act, 1994 is guilty of a criminal offence. Prevention of Money Laundering Act, 1994 The Prevention of Money Laundering Act, 1994 (Cap. 373 of the Laws of Malta) is meant to prevent the conversion, transfer, concealment, disguise, acquisition or retention of any kind of movable or immovable property deriving directly or indirectly from criminal activity as well as to prevent the attempt or aiding and abetting of such acts. Criminal activity is defined very widely as any criminal offence. A person who has committed an act of money laundering is guilty of a criminal offence. The Prevention of Money Laundering Regulations, 2003 (Legal Notice 199 of 2003, as amended) were issued in terms of the Act and these outline the detailed requirements by which certain players, including banks and financial institutions, are bound. These Regulations accordingly only bind those players who are termed subject persons and they establish mandatory rules relating to customer due diligence and identification, record-keeping and reporting procedures. All those to whom the regulations apply are obliged to carry out periodic training courses for their employees. There is a duty to report and a waiver of the rules on professional secrecy in such cases. Any report by a bank or a financial institution of a suspicion of money laundering to the relevant authorities will not be in breach of Maltese secrecy rules. 2 Dangerous Drugs Ordinance (Chap. 101). 3 Medical and Kindred Professions Ordinance (Chap. 31).