Governing Law In Trade Finance Transactions

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Choosing a governing law in trade finance transactions

The term “conflict of law” refers to situations where the laws of different countries that apply to a particular legal matter are dissimilar. In these instances, a choice of law has to be undertaken by the parties to determine which law applies.

This situation occurs when an international financial transaction is finalised. After the deal is complete, the involved parties must select a governing law for their financial agreement. Given that there’s no globally recognised law for cross-border interactions, the international contract will be subject to the national law system that the parties select. Fundamentally, the law that the parties opt for signifies their consensus about the legal structure which should preside over their agreement. This choice of law is vitally important for the involved parties as it dictates the interpretation of the clauses in the agreement, along with the parties’ rights and responsibilities. Similarly, the parties will need to specify the jurisdiction where any disputes stemming from the agreement will be settled.

Governing law and jurisdiction clauses – Importance in international financial transactions

The parties’ selection of law and jurisdiction is determined by two types of clauses: a governing law clause and a jurisdiction clause. Firstly, the parties’ choice of law is generally expressed through the governing law clause and is inserted in the financial contract. The primary purpose of this governing law provision is to elect the jurisdiction’s law that will be applied in resolving legal issues arising from the financial agreement. The latter is the jurisdiction clause, which will dictate the location in which the courts will resolve the dispute.

In practice, these clauses do not become an issue unless an international dispute arises between the parties. In essence, it is only once a question cannot be clearly answered by examining the contract that a recourse to the parties’ choice of law is needed and relevant. However, it is of utmost importance for the parties to determine a law and a jurisdiction during the negotiation phase of the contract, in order to prevent uncertainty in their financial relationship. In fact, parties can gain insight into how legal issues pertaining to their rights and obligations under the contract will be resolved, allowing them to analyse and anticipate their legal position. On the other hand, in cases where a governing clause is omitted, complex legal rules exist by which the governing law of the contract is determined. When the courts are faced with a choice of law issue, they have two options:

  • The law of the forum (lex fori)
  • The law of the site of transaction/occurrence that resulted in the legal action

In the EU, the Rome I Regulation provides for a rule in the absence of choice, whereby “the contract should be governed by the law of the country with which it is the most closely connected” (Rome I – (21)). Nevertheless, parties do not have control over the chosen law, leading to a higher uncertainty in terms of the legal outcomes.

During the negotiation of these clauses, disagreements may arise in regards to the most favourable law and jurisdiction to choose. In reality, various factors play a role in deciding which law and jurisdiction to elect, such as legal costs, concerns for impartial treatment by local judges or arbitrators and the language. Generally, each party will advocate for its home jurisdiction for the aforementioned reasons.

Furthermore, parties will want consistency between the governing law and the jurisdiction clause. For instance, if disputes are to be resolved in English courts, English law will likely be chosen as the governing law to maintain consistency.

An example of a jurisdiction clause would be, “each party in this Agreement irrevocably agrees that the courts of England shall have [non-] exclusive jurisdiction to hear, settle and/or determine any dispute, controversy or claim (including any non-contractual dispute, controversy or claim) arising out of or in connection with this agreement, including any question regarding its existence, validity, formation or termination. For these purposes, each party irrevocably submits to the jurisdiction of the English courts.”

This example shows how the jurisdiction clause determines which court or legal systems have the authority to listen and decide on disputes related to the agreement must be brought before the courts located in London, United Kingdom. This ensures that any legal action or proceeding in relation to the agreement will take place in the specified jurisdiction.

Scope of governing clauses

When the parties negotiate a financial agreement, the agreement will set out their contractual obligations. However, other “non-contractual” obligations may arise during their relationship, mainly during:

  • The pre-contractual negotiations, which is before the contract is finalised
  • The period after the contract has been entered into: non-contractual obligations can be added to the list of contractual obligations

In light of this, the parties should deliberate on whether to confine the clause’s scope to the agreement alone, or expand it to encompass assciated non-contractual obligations during the negotiation of a choice of law clause.

In order to determine the governing law regarding non-contractual obligations, the Rome II Regulation establishes a general principle in Article 4.

According to this provision, the law applicable to non-contractual obligations will be the law of the country where the relevant damage occurs, “irrespective of the country in which the event giving rise to the damage occurred and irrespective of the country or countries in which the indirect consequences of that event occur.”

However, exceptions to this rule exist, for instance, “the parties may agree to submit non-contractual obligations to the law of their choice” (Article 14), which allows parties to extend their choice of law clause to non-contractual obligations in relation to their financial agreement.

Furthermore, another example of a governing law clause is “this Agreement shall be governed by and construed in accordance with the laws of the State of New York.” This specifies that the agreement will be interpreted and enforced according to the laws of the State of New York. In extension, it means that if any disputes or legal issues take place in regards to the agreement, the laws of New York will be applied to resolve them.

Therefore, choosing a governing law in trade finance transactions is crucial and holds significance. By including a choice of law clause in the contract, parties can establish certainty and predictability in their financial relationship as it determines the legal framework that will govern the interpretation of the agreement’s provisions.

It also influences the jurisdiction where disputes will be resolved which provides extended clarity and efficiency in the resolution process. Overall, a well-considered choice of law ensures stability, consistency, and effective legal recourse in trade finance transactions, promoting confidence and trust among the parties involved.


References: – 02/11/2018

REGULATION (EC) No 593/2008 OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL of 17 June 2008 on the law applicable to contractual obligations (Rome I)

REGULATION (EC) No 864/2007 OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL of 11 July 2007 on the law applicable to non-contractual obligations (Rome II) – 02/11/2018

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Trade Finance Global (TFG) assists companies with raising debt finance. While we can access many traditional forms of finance, we specialise in alternative finance and complex funding solutions related to international trade. We help companies to raise finance in ways that is sometimes out of reach for mainstream lenders.

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