Select Committee on European Union Thirty-Sixth Report


The Meaning of Article 21(2)

155.  We come now to Article 21(2). This provision has attracted a good deal of opposition from Member States, not least because of the difficulty of understanding its meaning and the fact that it appears to run counter to the stated aim of the Directive to provide a high level of protection for the consumer. Article 21(2) is in the following terms:

"When implementing and applying Article 5(1), (2) and (5),[82] Article 13,[83] Article 14(1) and (2),[84] Articles 15,[85] 17,[86] 19[87] and 20,[88] and without prejudice to necessary and proportionate measures which Member States may take on grounds of public policy, Member States shall not restrict the activities of creditors established in another Member State and operating within their territory in accordance with this Directive either through freedom of establishment or free provision of services."

Paragraph 5.11 of the Commission's Explanatory Memorandum offers the following explanation of Article 21(2):

"In general, both harmonisation and mutual recognition have contributed to EU market integration, while ensuring that consumer interests are taken into account. The policy mix chosen in a given area invariably depends on the characteristics of that area and should be decided on a case-by-case basis. Finding the right mix requires an application of the proportionality principle in designing a solution, combining where appropriate harmonization with mutual recognition.

Against this background, the Commission suggests to maintain the full harmonisation approach with a degree of flexibility for Member States in certain areas…

In some cases the proposal gives leeway to national implementation, mainly due to existing heterogeneity as regards national markets or national legislation. This is the case, for instance, in the context of early repayment or overrunning. However, it is also necessary to ensure that the degree of flexibility provided for national implementation within the limits of the Directive does not contribute to raise additional barriers to the single market in consumer credit. Therefore, the Commission complements its full harmonization approach with mutual recognition for a limited number of issues. This helps to reduce burden on businesses who want to offer consumer credit across borders.

As a result of the proposed provision on mutual recognition, a creditor would only have to comply, for an activity in another Member State than the one he is established in, with legal requirements of its Member State of origin (or equivalent ones) and not with those of the host Member State. In the area of contract law, this could lead to another result than foreseen by Article 5 of the Rome Convention.[89] In an Article 5 situation, which would lead to the application of the law of the country where the consumer has his habitual residence, this latter law may establish standards that, in relation to the equivalent standards applicable in an incoming creditor's home country, restrict that creditors activity, for instance by being higher (or different) than his home country standards. In that case, if areas mentioned in the mutual recognition clause are concerned, the host Member State has to ensure that the said standards would not apply to the contract. Either the law chosen by the parties, or, in the absence of such a choice, the requirements of the creditor's home country law would continue to apply…"

156.  Professor Weatherill pointed out to us that this explanation is both self-contradictory and inaccurate[90]. We agree. The penultimate sub-paragraph begins by saying that the creditor would, in relation to the various matters covered by Article 21(2), be able to comply with the legal requirements of its Member State of origin. The last sentence, however, asserts something quite different: namely the application of the law chosen by the parties or, failing that, the law of the creditor's home country. In fact Article 21(2) does not embody any choice of law rule, and there is certainly no justification for the suggestion that the law chosen by the parties applies. Rather the effect of Article 21(2) is to introduce, in relation to the listed provisions, the concept of home State control. That means control by the law of the Member State in which the creditor was established,[91] as distinct from host State control, which means control by the law of another Member State in which the creditor is carrying on business.

The Concept and Extent of Home State Control

157.  In regard to the right of establishment the concept of home State control has long featured in European Community law. For example, under the regime established by the Banking Consolidation Directive 2000, Member States are obliged to require credit institutions—that is, undertakings whose business it is to receive deposits or other repayable funds from the public and to grant credits for their own account—to obtain authorization before commencing their activities.[92] However, a European institution incorporated in or formed under the law of one Member State (the home State) which has its principal place of business in that State and is authorized by the supervisory authority of that state to act as a credit institution in that State is in principle entitled so to act in any other Member State (the host State) without separate authorization from the supervisory authority of the host State.[93] Accordingly in its application to the authorization under Article 19 of credit institutions falling within the Banking Directive Article 21(2) is otiose (see also paragraph 93).

158.  What is new about Article 21(2) is that it extends the concept of host State control to certain issues affecting contractual rights and obligations, namely the right of withdrawal, linked transactions and early repayment. So a UK consumer could be supplied with a copy of an agreement made in the UK which says nothing about the possible application of foreign law. In accordance with UK statutory requirements, that agreement would set out the consumer's rights to cancel the agreement, to claim against a creditor for breaches of duty by the supplier under a linked transaction and to settle early and receive a rebate of charges. But the consumer may later find that those rights are not governed by UK law at all but by the law of some other Member State which, though conforming to the Directive, provides a lower standard of protection.

159.  However, even this is not clear, because Article 21(2) operates "without prejudice to necessary and proportionate measures which Member States may take on the ground of public policy." This exception seems to us largely to negate the rule, for in the above example it would leave UK law free to operate measures that were "necessary and proportionate," which from the UK perspective would be all the rules governing the rights of withdrawal, early settlement and claims against the creditor. Moreover, as the European Banking Federation pointed out in its written evidence to us,[94] it is unclear why the particular provisions listed in Article 21(2) were selected for this special treatment.

The Problems of Home State Control

160.  On this basis we cannot see the point of seeking to import rules of law of another Member State in which the creditor was incorporated. On the contrary, the effect of so doing would be to cause confusion and expense. In particular:

161.  It seems to us remarkable to find these provisions in a Directive designed to enhance consumer protection and in particular to ensure that consumers were fully informed of their rights. Moreover, as the Commission's Explanatory Memorandum states, one effect is to override the primacy given to the mandatory rules of the host State by Article 5 of the Rome Convention and to subordinate such rules to those of the home State in relation to the matters mentioned above. Article 5 of the draft Regulation which is to replace the Rome Convention goes further, requiring the exclusive application of the debtor's law in order to avoid the confusion resulting from consumers being subjected to two different legal systems. That has been criticized as excluding the parties' choice of a foreign law even as regards matters not covered by mandatory rules. But, whatever the force of that criticism, it seems to us that in relation to mandatory rules laid down by the Directive the debtor's rights and obligations should be governed exclusively by his or her own law.

162.  The joint submission by Citizens Advice, the National Consumer Council and "Which?"[95] also suggested that mutual recognition could allow credit providers to comply with rules set by their home state regulator which gave less protection than the rules set by the regulator in the consumer's home state.

163.  We put these points to Mr Staudenmayer when he came to see us. His response was that there were many cases where Article 5 of the Rome Convention did not apply, that Article 5 already permitted a freedom of choice, subject only to the mandatory rules of the debtor's law in cases within Article 5, and that most of the provisions of the Directive affected by Article 21(2) were sufficiently detailed as to ensure that there was unlikely to be much difference between the debtor's law and the creditor's law. But this last point, which was also made subsequently by Mr Madelin in a letter to us[96], seems to us to be self-defeating, for if it is correct then it seems to us to make Article 21(2) unnecessary. Furthermore, we cannot imagine that in the relatively few cases in which creditors engage in cross-border lending they would want to superimpose parts of their own law on to the debtor's law and involve themselves in the expense of calling expert evidence on their law. Indeed, Mr Staudenmayer told us[97] that there were a number of banks in Europe which as a marketing strategy would offer the consumer the application of his own law.

Conclusions and Recommendation

164.  We conclude that the mutual recognition provisions contained in Article 21(2) are confusing, unnecessary and detrimental to the interests of consumers. To allow a foreign creditor (as regards provisions relating to the right of withdrawal, claims against the creditor for the supplier's breaches, and early payment and rebates), to invoke the mode of implementation of the Directive prescribed by its own law rather than that of the consumer causes serious problems. In the first place, it exposes consumers to two different sets of mandatory rules without their even being aware of that fact. Secondly, it prevents consumers from obtaining local advice as regards the foreign mandatory rules. Thirdly, in the event of proceedings by the creditor in the consumer's Member State, the parties would incur delay and considerable expense in arranging for experts on both sides conversant with the foreign law concerned to give evidence (and possibly conflicting evidence) of its content and effect. This is particularly inappropriate for proceedings against a consumer.

165.  We therefore recommend that, in relation to mandatory rules, the debtor should be governed solely by his or her own law and therefore that Article 21(2) should be deleted.

82   Dealing with pre-contractual information. Back

83   Concerning the consumer's right of withdrawal. Back

84   Relating to linked transactions. Back

85   Dealing with early repayment. Back

86   Concerning overrunning of the total amount of credit. Back

87   Relating to the regulation of creditors and intermediaries. Back

88   Dealing with the obligations of intermediaries. Back

89   This is a reference to the EEC Convention on the law applicable to contractual obligations, 1980, implemented in the UK by the Contracts (Applicable Law) Act 1990. Article 5 provides, in relation to contracts with consumers, that in given conditions the freedom of the parties under Article 3 to choose the law governing their contract shall not have the result of depriving the consumer of the protection afforded to him by the mandatory rules of the country in which he has his habitual residence. Back

90   QQ 170-178 Back

91   The Explanatory Memorandum refers to "legal requirements of its [the creditor's] Member State of origin (or equivalent ones)".  Back

92   Art. 4. Back

93   Art. 13.  Back

94   pp 128-146 Back

95   pp 59-61 Back

96   Q 9, pp 16-18 Back

97   Q 9 Back

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