Suspension of payments and a few days to appeal against procurement monitoring in court: analysis of draft law No. 10089

At the end of September, people’s deputies submitted a draft law No. 10089 to the Verkhovna Rada proposing to significantly strengthen the financial monitoring levers in procurement. First, the draft law proposes to exclude payments under procurement contracts if a procurement contains a conclusion of monitoring by state auditors on significant violations, and a customer did not comply with the conclusion requirements and did not appeal it in court. Contracts concluded in the presence of such a conclusion will be considered null and void. In addition, the amendments partially cover Article 8 of the Law of Ukraine “On Public Procurement“ (the Law), which regulates the monitoring mechanism. The draft law also encompasses the concept of expeditious judicial examination of customers’ appeals against monitoring conclusions, as well as applications from auditors for authorizing specific actions. Let’s analyze the essence of the amendments, the anticipated impact, and possible risks.

What the draft law proposes

The main change is the suspension of payments by the Treasury and banks

Before making a payment under a procurement contract, the Treasury authorities must make sure that the relevant procurement has been made. To do this, they check several conditions: whether the Prozorro system has an annual plan, a procurement contract, and a report on the procurement results. The Treasury withholds procurement contract payments from customers’ accounts under various circumstances, including when required documents are absent, when a procurement is canceled, when an appeal is made to the AMCU, when a court issues a decision invalidating the results or nullifying a contract, or when other legal impediments exist. In addition, when paying under procurement contracts, banks check whether the Prozorro system has a report on the procurement results. If not, that payment instruction is deemed improperly issued.

Draft law No.10089 proposes to expand the subject of verification by Treasury bodies and the range of conditions under which these bodies will ban payments under procurement contracts, and banks will not accept respective payment orders. To do that, two conditions must be met at the same time:

• Prozorro has posted monitoring conclusion with the obligation to eliminate violation significantly affecting the procurement result;
• Prozorro does not have information about the elimination of that violation or a valid judgment canceling the conclusion.

Also, the lawmakers propose to add a norm allowing Treasury bodies to ban payments and suspend registration of budget obligations and payments under procurement agreements if the above conditions are met.

Moreover, if a customer enters into a contract or additional agreements if monitoring conclusion is available and under the conditions specified above, such contracts will be void.

It should be emphasized that not any monitoring conclusion will lead to the suspension of payments. This pertains solely to reports in which state auditors have identified violations with a substantial impact on the procurement result and have imposed obligations for their elimination. An exhaustive list of such violations is proposed to be added to Article 8 of the Law. These will include:

• illegal (contrary to the law) rejection of the most cost-effective tender proposal in the procurement of goods, works, and services;
• illegal (in the absence of grounds) application of procurement procedure, simplified procurement, procurement requiring published procurement contract progress report in the EPS, if such contract is concluded without the EPS;
• the customer’s failure to reject the winning bidder’s proposal, which does not align with the technical, qualitative, or quantitative criteria for the procurement item set by the customer;
• procurement of goods, services, and works from individuals residing in the Russian Federation/Republic of Belarus (excluding those legally residing within Ukraine), corporate entities based in the Russian Federation/Republic of Belarus, legal entities in which the ultimate beneficial owner, member, or participant (shareholder) holds a 10% or greater stake, and is affiliated with the Russian Federation/Republic of Belarus, its citizens or residents is restricted, except when assets are transferred to the management of the ARMA following the legally established procedure;
• failure to comply with the decision of the appeal body, which has entered into legal force;
• conclusion of a procurement contract void under the procurement legislation.

In turn, under Article 43 of the Law, procurement contracts are void if a customer has concluded them:

• before/without conducting the procurement procedure/simplified procurement in accordance with the requirements of the Law;
• by changing the contractual terms in comparison with the content of the proposal based on the tender results, and the agreed price in the negotiation procedure (except for cases permitted by the Law);
• during the period of appeal of the procurement procedure to the AMCU;
• in violation of the terms for concluding a contract stipulated by the Law;
• by determining the procurement item and the CPV code that does not correspond to the actually procured goods, works, or services;

If draft law No.10089 is adopted, another reason for the nullity of procurement contracts will be the conclusion of a contract or additional agreements if there is a monitoring conclusion with an obligation to eliminate violations, if the Prozorro system does not have information about the elimination of the violation by the customer or an effective court judgment cancelling the conclusion.

The explanatory note justifies the need for such amendments by several factors. First, this is a rapid increase in procurement violations. The initiators claim that financial resources transferred under illegally concluded procurement agreements (contracts) are irretrievable losses due to the prompt withdrawal of funds to the companies involved, with further legalization of money and resale or termination of such companies. Even customer claims for fund recovery do not lead to successful reimbursement.

However, as stated by the draft law initiators, the legislation does not explicitly forbid Treasury bodies and banking institutions from processing payments for contracts that were entered into under procurements conducted with violations. The lack of an effective mechanism for influencing this situation leads to a deliberate violation by customers of the public procurement principles.

Consequently, the proposed amendments will become an obstacle to proceed with procurement — the conclusion of a contract, additional agreements, making payments — if the monitoring conclusion revealed significant violations and the customer did not eliminate them and did not apply for cancellation in court.

We have identified the risks of such amendments in a separate analysis subsection.

Rapid progress of court cases on monitoring and authorization for auditors

If customers do not agree with the obligations laid down in monitoring conclusions, they must appeal them in court to unblock the procurement and regain the power to enter contracts, additional agreements, and make payments.

Draft law No.10089 refers to certain categories of urgent administrative cases concerning the appeal of conclusions on the results of procurement monitoring based on the claims of customers. Those disputes will have special deadlines, unlike ordinary cases:

• The courts will consider such cases and make decisions on the merits within three days after the receipt of the statement of claim.
• The parties will be able to file an appeal within five days from the date of the decision.
• Appeal hearings will last only for five days upon receipt of the appeal.
• No cassation will be possible.

Appeals made by state financial control bodies to the court will have distinctive features in these matters:

1. obtaining permissions for unscheduled on-site audits;
2. extension of deadlines for scheduled or unscheduled on-site audits;
3. manager’s obligations in a controlled institution to make their institutions available for the state financial monitoring by financial monitoring officials;
4. withdrawal of original documents from enterprises, institutions, and organizations until the end of the audit if such documents evidence violations of laws and the monitored entity cannot ensure that their safe storage and prevention from forgery;
5. obligations related to asset and liability inventory; obligations pertaining to inspecting and measuring completed work, launching quality control into production, conducting analyses of finished products, and similar actions.

State financial control bodies will be able to apply to the court within 72 hours after establishing the circumstances triggering their submission. If the court has opened proceedings, it will make a decision on the merits of the claims no later than 96 hours after establishing the circumstances triggering the respective submission. The application will be considered with the participation of the submitting state financial control body and a subject of control.

In such instances, the court’s judgment will be subject to immediate enforcement. The parties will be able to file appeals against such judgments within ten days from the date of their proclamation. But filing an appeal will not prevent the enforcement.

Both categories of cases appeals against monitoring conclusions and urgent cases on appeals from state financial control bodies will have the following features:

• special method of notification of the parties: the court will immediately notify the participants of the case regarding the statement of claim by sending the text of the summons to their official email address, and if it is not available, the summons will be sent by courier or by phone, fax, e-mail or other technical means of communication known to the court;
• statements on the merits of the case – only a statement of claim and response;
• these cases are not subject to the usual procedural time limits;
• immediate enforcement of judgments.

Therefore, if customers do not agree with the conclusion of state auditors, they will at least theoretically have the opportunity to appeal the conclusion of monitoring. Together with the appeal stage, procedure should last approximately two weeks.

Changes to the procurement monitoring mechanism

In addition to suspended payments and quick legal proceedings, draft law No.10089 provides for several other technical and substantive amendments to the monitoring mechanism.

First, everywhere in the text “procurement procedure monitoring” is suggested to be replaced with “procurement monitoring”, obviously counting on monitoring not only procedures, but also simplified procurements, direct contracts, and so on. However, the draft law does not introduce any changes to the definition of “procurement procedure monitoring” concept which leads to a conflict.

Second, monitoring periods encompass not only the duration of the procurement process, the finalization of a procurement contract, and its validity but also extend throughout the contract’s execution and continue until the customer publishes the procurement contract progress report in the Prozorro system.

In this regard, the question arises: how to determine the deadline for monitoring procurements where legislation does not or will not require the publication of a contract progress report? For example, paragraph 13 of the Specifics approved by the Government Resolution No. 1178 does not require progress reports for above-threshold direct contracts. This means that it seems appropriate to differentiate the monitoring period for different procurement methods, considering all their features.

Third, auditors will have the authority to issue warnings for administrative violations that are punishable by law. So far, there are no such offenses in procurements — the draft law No. 10090 proposes to introduce them.

Fourth, the amendments relate to the mechanism of clarification of a conclusion content. Specifically, the authors suggest shortening the timeframe in which customers can request clarifications to two business days and mandating auditors to make this information public. This improves the structure of the norm.

Fifth, the draft law aims to address the gap in the state financial control body’s response to the objections raised by the customer regarding the monitoring results’ conclusions. Currently, the customer has the right to make the objection public, but this does not exclude the customer’s liability for violation if it is not eliminated. Draft law No. 10089 suggests supplementing the norm: if the customer has published an objection against the conclusion, which may contain the necessary documents and additional explanations, the state financial control body shall consider objections within three working days and publish the conclusion on the objection consideration results in the Prozorro system.

On one hand, it’s a positive step to address the gap, but on the other hand, there are still unresolved issues within Article 8 of the Law at this stage. One of the customer’s options after monitoring — to report that it is impossible to eliminate the violation — is still a dead end, without the consequences provided for by law. Furthermore, a question arises concerning the correlation between the conclusion on the objections’ consideration and the monitoring conclusion: whether the state financial control body revokes the monitoring conclusion if it agrees with the objections. Perhaps, it’s crucial to define the actions of the state financial control body at this stage, to provide more clarity regarding the precise nature of the findings following the review of objections. How this will affect the assessment of the situation by Treasury bodies and banks when the issue of suspending payments arises.

Fifth, the draft law has an attempt to make the stage of judicial appeal more transparent. It is suggested to enhance the list of information that the customer must provide in the system when initiating a judicial appeal by including details about “the court’s decision arising from the claim’s results and making this information public on the EPS.”

This provision needs to be clarified. The wording “arising from the claim’s results” looks incorrect – it is probably a decision based on the results of consideration of the statement of claim. It is advisable to clarify whether this should be a decision only on the essence of the claims, or whether it is also necessary to cover rulings on opening or rejecting proceedings, and so on. Also, the amount of information about the court’s decision may look different: from one line about the fact of adoption to a scanned copy of the whole decision.

Sixth, the draft law is trying to correct a conflict with the deadline for suspending the decision of the state financial control body in case of appeal against the decisions of the procurement customer to the AMCU. Lawmakers suggest that within the next working day after posting the decision of the appeal body in the EPS, the decision of the state financial control body and the fulfillment of obligations under the monitoring conclusion should be suspended. In our opinion, it is essential to specify which decision of the appeal body is being referred to. Obviously, this should be a decision to accept the complaint for consideration — but this is not explicitly stated.

Seventh, the draft law also contains an undescribed provision stating that the list of risk indicators that relate to information with restricted access should be defined differently than other risk indicators. Exactly how and what risk indicators we are talking about is not yet specified.

So, the proposed amendments to Article 8 of the Law look like attempts to improve it, and eliminate some gaps and conflicts. But the text of the draft law in this part needs to be finalized, and some approaches regarding the application of administrative penalties in the form of a warning and determining the monitoring period are debatable.

Extension of state financial control of municipal enterprises, individual entrepreneurs, and the EU funds.

Another idea to strengthen state financial control, which was reflected in the draft law No.10089 was an expansion of the range of entities and sources of funding that it will cover.

The lawmakers suggest to add the following subjects to that list:

• municipal economic sector entities, including business entities having in their authorized capital 50 or more percent of shares (stakes) owned by business entities of the municipal sector of the economy;
• individual entrepreneurs who receive (received in the period that is being audited) funds from budgets of all levels, state funds and mandatory state social insurance funds, or use (used in the period that is being audited) state or municipal property.

Furthermore, there are intentions to expand the responsibilities of the state financial control bodies to include overseeing the actions of individuals or legal entities involved in the management or utilization of European Union funds under international treaties and/or domestic laws.

The question arises as to why only the EU was singled out as an entity subject to audit oversight in terms of fund utilization.

Risks of suspended payments

The draft law No.10089 emphasizes the concept of suspending payments within procurement contracts when the customer fails to rectify a significant procurement violation upon the request of the monitoring body.

We admit that there is a need to ensure that customers fulfill the obligations outlined in the monitoring conclusions. However, the way in which deputies propose to solve this problem is questionable.

The idea to suspend payments bears significant risks, especially against the background of shortcomings in the current legislation and controversial approaches in the practice of procurement monitoring.

First, monitoring was intended as a preventive control measure, but in fact it is not. If draft law 10089 is adopted, procurement contracts may have unpredictable effect for bidders and, to a certain extent, for customers. During the execution of the contract and up to the publication of its implementation report, auditors may find inconsistencies in technical part of a winner’s proposal.

And, as the result:

at the time when a violation is found, a winner may purchase goods and materials necessary for the performance of contracts, will suffer losses, and will try to recover them from a customer in court;

• since the relationship may terminate at any time of the contract execution, participants will be forced to include the cost of such risks in prices, so the cost of proposals may increase;
• the prospect of losing the opportunity to receive contractual payment may scare off participants and reduce the competition;
• in some cases, replacing a party to a contract may be difficult or even impossible if it is a construction contract and it has already been partially completed.

Secondly, the increased influence of monitoring conclusions generates corruption risks and pressure on customers and businesses. Losing competitors may be enticed to engage in corrupt arrangements and influence the state financial control body to suspend payments to their rival, even if only temporarily, thereby postponing the legal proceedings. In addition, state financial control bodies may be subjected to political pressure to block payments manually for certain communities, businesses, local officials, and so on. In addition, the risk of pressure from the state financial control bodies themselves increases due to the wide possibility of influencing customers and bidders.

Third, if draft law No.10089 is adopted in the context of the current legal regulation and monitoring practice, a number of difficulties in its implementation are possible:

• One of the violations that will result in payment blockage is the failure to reject a bid that does not conform to the technical, qualitative, or quantitative criteria established by the customer for the procurement item. According to the current legislation, a number of shortcomings in the technical part of the participant’s proposal can be corrected using the 24-hour rule. In practice, individual offices of the State Audit Service have different opinions of what shortcomings can be corrected. Therefore, there will be disputes regarding the rejection of bids. This reason may be subjective and therefore insufficient to block payments.

• The laws do not specify the methods through which state financial control bodies should prompt customers to eliminate specific violations when they are identified. There are numerous cases when even after the ungrounded rejection(!) was established, the state financial control body obliges the customer to implement measures aimed at preventing the established violation in the future. As a result, the question arises of how exactly the Treasury body and a bank should evaluate information, and whether violations have actually been eliminated in such situations.
• What becomes crucial for enabling or disabling payment under the procurement contract is whether there is information regarding the customer’s elimination of such a violation. However, the draft law does not specify whether the presence of information regarding the elimination of the violation by the customer alone is sufficient or if it requires verification by a mark from the state financial control body. If to unblock payments under the contract, one will need confirmation from the state financial control body, which is logical — but not directly specified, corruption risk arises. After all, confirmation that the customer has eliminated the violation will be crucial for unblocking the payment and will depend entirely on the actions of state auditors. In practice, state financial control authorities will be able to refrain from confirming that the customer has eliminated violations, and this will become a lever of pressure. Incidentally, the expedited review periods do not apply to legal proceedings in which the customer seeks to compel the state financial control body to confirm in the Prozorro system that they have eliminated the violations. Hence, there could be situations where, at the instruction of the successful bidder’s rivals, the process may remain blocked even after the violation is rectified because the state financial control body fails to confirm the elimination of the violation. Consequently, both the Treasury department and the bank will withhold payment.
• To determine whether to block payments, Treasury authorities and banks will have to analyze the content of court decisions, as well as whether the detected violation belongs to those listed in the draft law and whether the violation was eliminated. To do this, they will have to interpret the information exchanged between the customer and the state financial control body, and the content of monitoring conclusions. The competence and powers of Treasury bodies and banks do not cover these issues. It seems debatable whether the new instruments that are planned to be provided to Treasury bodies and banks are consistent with the Budget Code of Ukraine and the legislation on banks and banking.
• In addition, draft law No. 10089 does not release the customer from blocking payments under the procurement contract if instead of eliminating the violation, the customer published information that it cannot be eliminated, or posted objections against the conclusion. Therefore, draft law No. 10089 will compel the state financial control body to submit the outcome of objection reviews to the system, although it lacks specific requirements regarding the content of such a response. Therefore, in fact, it can be any response from state auditors that does not provide banks and the Treasury body with a clear answer: whether the monitoring report remains valid, whether the state financial control body agreed that the customer may not fulfill its obligations, and finally, whether the contractual payment is allowed.

The course of action following the notification of the inability to eliminate violations remains terra incognita. Under the current conditions, such notification will not affect the need to fulfill obligations and will not lift the payment block.

If the described processes are not clearly regulated and automated as much as possible, then in practice there may be controversial situations when Treasury bodies and banks will have to spend a lot of time determining how to act.

Fourth, although the draft law proposes a shortened judicial appeal procedure, there are no guarantees that in practice the reduced time limits will be met by the courts therefore, there is a risk of a long delay in meeting the customer’s needs — while the court is investigating whether the monitoring conclusion is legal. The delay may also apply to those cases when in fact the procurement does not contain violations, because according to statistics, in most cases the judicial appeal of monitoring conclusions is successful (although customers challenge only one-tenth of the monitoring conclusions). Another point of concern is the rejection of considering cases on the appeal of monitoring conclusions in the cassation instance. Until now, the cassation instance played a role in forming conclusions that could harmonize the courts’ approaches to the consideration of such cases.

Summing up the above, we do not support draft law No. 10089 and believe that it will increase corruption risks and uncertainty in the procurement sector.

Alternative suggestions

1. Now more than 70% of monitoring begins after the conclusion of the contract. We recommend shifting the focus of procurement monitoring from post-control to prevention. It is necessary to identify significant violations earlier — in the period between the notification of the intention to conclude the contract and its conclusion. This will prevent negative consequences in the form of losses and lawsuits. However, monitoring of contracts that have already been concluded should focus on violations that occurred either during the contract’s execution or after its conclusion. This includes non-compliance with the contract terms as specified in the bid proposal and tender conditions, unlawful direct contract agreements, unwarranted additional agreements leading to price increases, and so on.
2. To prevent the conclusion of a contract during monitoring, procurements shall be suspended automatically for the time of monitoring.
3. The choice of procurements for monitoring should depend on objective factors to avoid corruption risks and prejudice. In particular, it is advisable to monitor all procurements exceeding certain expected value: for example, UAH 10 million. It is also necessary to bring it into compliance with the legislation and introduce updated risk indicators.
4. It is necessary to establish legislative procedures for addressing violations that state financial control authorities can and should guide customers to eliminate, contingent on the nature of the violation and the procurement stage.
5. Develop a mechanism that will prevent the fulfillment of void contracts (in particular, with evasion from the competitive procedure), or contracts with persons associated with the Russian Federation/Belarus, as well as illegal additional agreements. In that case, we recommend blocking payments as an exceptional tool for countering abuse.

We believe it is prudent to keep the positive aspects of draft law No. 10089, such as expediting judicial appeals of monitoring conclusions, enhancing monitoring transparency, and addressing existing shortcomings at different monitoring phases. These elements can serve as a foundation for further efforts on an alternative draft law aimed at improving procurement monitoring overall.

The publication was written with the support of USAID/UK aid project “Transparency and Accountability in Public Administration and Services/TAPAS.”