Until the passing of the Finance Act, 2011, an equipment leasing platform in Ireland generally was established as an Irish resident trading company availing of the 12.5% rate of corporation tax applying to trading profits. This meant that the Irish company was required to carry on a trade in Ireland (thus requiring a certain level of substance and activity) and the capital cost of acquiring the equipment would generally qualify for tax depreciation (known in Ireland as capital allowances). The combination of the 12.5% rate of corporation tax and the generous capital allowances available in respect of the capital cost incurred meant that the Irish company generally suffered a very low effective rate of tax.

Nonetheless, an alternative means of structuring an equipment leasing platform in Ireland has now been introduced, simplifying the trading analysis and removing the administrative and modeling issues associated with capital allowances. It works best where the investors wish to extract the profits from the Irish vehicle rather than earn and retain profits in Ireland, but it is of course possible to combine it with other structures to achieve this.

What has changed?

Since the passing of the Finance Act, 2011 in Ireland, it is now possible for a special purpose vehicle ("SPV") established in Ireland to undertake leasing of "plant and machinery" and to avail of the very favourable tax regime afforded by Section 110 of the Taxes Consolidation Act, 1997 ("Section 110"), a regime which has been widely used for many years in securitisation and structured finance transactions.

What is the Section 110 Regime?

The Section 110 regime applies to a "qualifying company" engaged in the holding or management of "qualifying assets". Formerly, "qualifying assets" consisted of a wide variety of financial assets such as debt, share portfolios and all types of receivables. However, since the passing of Finance Act 2011, a "qualifying company" is now permitted to hold, manage and lease "plant and machinery" (which would include aircraft, ships, rolling stock, mining and drilling equipment, vehicles etc.).

Minimising tax costs on on-going activites and on cash extraction are crucial to any leasing SPV or platform. The taxable profits of a qualifying company operating within the Secion 110 regime are computed broadly following the financial accounts of the company. As a result the cost of funding and other business expenditure is generally tax deductible and SPV's are usually structured so that their net taxable profit is generally maintained at a neglibible level as there is no niminum profit required for tax purposes. Section 110 in particular relaxes the rules regarding interest on debt due by the SPV as it permits deductibility for interest which depends on the results or profits of the SPV (also known as profit participating or profit sweeping debt). This means that interest on this type of debt should be a deductible expense for the Section 110 SPV. This opens up the possibility of extracting the profits of the SPV to investors in an efficient manner.

An SPV to which the Section 110 regime applies will be liable to corporation tax at a rate of 25% (rather that the usual 12.5% rate available for trading profits). However, the tax is applied on the SPV's net taxable profit, which, with careful structuring, is generally maintained at a negligible level as there is no minimum profit required for tax purposes. This is achieved by ensuring that the SPV's tax deductible expenditure broadly equals its income.

In the past, advisers to an Irish leasing SPV or platform were usually required to model the profits of the leasing activity to ensure that timing issues related to the ability to claim capital allowances/tax depreciation did not result in tax mis-matches. Under the new regime, this will no longer be needed in most cases as the ability to deduct profit dependant debt will resolve this issue as a matter of legal structuring. This will reduce the administrative costs of setting up leasing SPVs and platforms.

Other Conditions to the Section 110 Regime

A Section 110 company must also conduct all its business on an arm's length basis although this requirement does not apply to the payment of profit dependant interest by the Section 110 company.

For an SPV to qualify under Section 110 there is a minimum initial size requirement that the market value of all qualifying assets held or managed or in respect of which the SPV has entered into legally enforceable arrangements is not less that €10 million on the date the assets are first acquired, held, or the arrangements are first entered into. (This is a cumulative threshold for all qualifying assets acquired by the SPV on its first day of operation)

  • Other Tax Considerations: While the critical factors in establishing an equipment leasing SPV will be to ensure that the entity itself suffers little or no tax, her very key considerations on the tax side include (i) that the entity will not suffer withholding taxes on the payment of interest and dividends; (ii) that the entity will not suffer stamp duty on the acquisition if assets or the issue or transfer of its securities; (iii) that the entity will not incur irrecoverable VAT on the acquisition of services; (iv) that all of its costs will be deductible; and (v) that no withholding tax is suffered in the jurisdiction paying the leasing income to the Irish SPV.
  • Withholding Tax on payments by the SPV: It is obviously crucial to any structure that payments to investors be made gross and not subject to any withholding tax applying in Ireland. Investors can rely upon an Irish domestic exemption from withholding tax for SPVs which permits interest payments made to a person resident in an EU member state (other than Ireland), or a country with which Ireland has a double tax treaty, (a "relevant territory") to be made free from withholding tax, provided that the recipient of the interest does not carry on a trade in Ireland through a branch or agency with which the interest payment is connected. This exemption applies automatically without any application being required. Ireland has an extensive network of double tax treaties, including with the US.

    Alternatively, if the SPV issues debt securities in either bearer or registered form which carry a right to interest, are listed on a recognized stock exchange and are either (i) held in a recognised clearing system, or (ii) payments in respect of the securities are made through a paying agent located outside Ireland or to a non-Irish resident (subject to filing appropriate forms), then payment on the securities should generally qualify for the "quoted eurobond" exemption and may be made gross, irrespective of the identity of the holder of each securities.

    These exemptions are available as a matter of Irish law and are in addition to the usual tax treaty exemptions which may be available provided appropriate procedural formalities have been followed.
  • Stamp Duty: On the assumption that the SPV remains a qualifying company for the purposes of Section 110, stamp duty will not apply on the issue or transfer of securities issued by the SPV. There is also a specific exemption from stamp duty for the acquisition of ships, vessels or aircraft or any interest or share in ships, vessels or aircraft. Other plant or equipment can usually pass by delivery so no stamp duty arises.
  • VAT: Irish VAT legislation confirms that management services (which includes portfolio management services) supplied to an SPV falling within Section 110 can be supplied exempt from Irish VAT. This exemption from VAT strengthens Ireland as a location of choice, as recent European Court decisions have confirmed that these services are otherwise within the VAT net.
  • Double tax treaties: Ireland is party to an extensive range of double tax treaties that, depending on the particular treaty, can ensure that the SPV receives income on its underlying assets free from withholding tax. Avoiding tax leakage in this manner is very important to a transaction. A list of countries with which Ireland has a double tax treaty is available at:
    http://www.revenue.ie/en/practitioner/law/tax-treaties.html
    or upon request.

Anti Avoidance Legislation

Certain targeted anti-avoidance provisions have been recently introduced which can limit a deduction for Section 110 companies for certain payments of profit-dependent interest / swap payments to (i) non EU/treaty partner countries or (ii) to EU/ treaty partner countries which do not impose tax on such payments. These provisions do not however apply to payments of interest on "quoted eurobonds" or commercial paper where certain conditions are met. The vast majority of transactions entered into by Section 110 companies should not be affected by these provisions.

International Accounting Standards (IAS)

As a general rule, the taxable profits of an SPV follow the accounting treatment. SPVs qualifying as Section 110 companies can choose to calculate their taxable profits using Irish GAAP as it existed in December 2004, unless they elect to use the GAAP applicable for financial accounting purposes. This applies to existing and new SPVs and can be useful in certain structures as it eliminates the risk of a change in accounting rules and generally solves any issues raised by IAS (such as potential timing issues in the recognition of income and expenses etc.).

Below is an example of a leasing platform structure for US investors in particular.

The preceeding diagram represents a possible Irish leasing platform structure under the new legislation. Its attributes and benefits include:

  • Different assets can be held in different Irish SPVs which provides liability segregation for assets as required. Bank debt can be borrowed by each SPV separately.
  • Subordinated profit participating debt is provided from TopCo to each SPV as credit enhancement for the bank debt. Interest is deductible so that each SPV pays minimal tax in Ireland.
  • Any, all or none of the companies can be checked as pass through or as corporations under the "Check the Box" rules for US tax purposes. For example, each SPV may be checked as a pass through/disregarded entity but TopCo may be a corporation.
  • TopCo can be a financial trader taxed at 12.5% in which case the funding to TopCo could be in the form of equity, i.e. there would be taxable profit reported in TopCo. Alternatively, TopCo could be structured as a "qualifying company" for Section 110 purposes and the funding could take the form of profit participating debt. This would eliminate Irish tax, but it would be necessary in that case to examine the status of the inves tors to ensure that the interest is deductible.

Conclusion

The extension of the Section 110 regime to the leasing sector is a very welcome addition to Ireland's claim to be the jurisdiction of choice for the location of a leasing platform for big ticket leasing activities including aviation and ship leasing. This new regime will operate side by side with existing structure for leasing (i.e. the conventional trading model availing of the 12.5% rate of tax with capital allowances). By virtue also of its membership of the OECD and being an EU member state and a member of the euro-zone and of course an onshore jurisdiction. Ireland is the ideal choice for leasing.

This article contains a general summary of developments and is not a complete or definitive statement of the law. Specific legal advice should be obtained where appropriate.