1. General and Contractual
1.1 What are the typical structures available for financing the purchase of an aircraft?
Financing structures involving Irish entities often employ the use of a special purpose vehicle ("SPV") which is a company established specifically to hold title to the aircraft subject to the financing and leasing of aircraft to the operators. Ireland is a popular jurisdiction for the establishment of SPVs due to the numerous double tax treaties in place between Ireland and other countries, many of which specifically refer to aviation in their text. Ireland is also attractive due to the confidence in the legal and court system (which is broadly based on English common law) and the number of aviation experts and leasing companies based in Ireland.
There are a number of options for financing both new and used aircraft in Ireland (many of which use SPVs) with the financing being structured through either on- or off-balance sheets and limited or full recourse. Both on and off-balance sheet transactions can be full and limited recourse, although an off-balance sheet financing will be far more likely to be limited recourse to the aircraft and the related income and any security package. An on-balance sheet deal is a transaction where title to the aircraft being financed is held by an entity in a group structure and the income and liabilities associated with the aircraft are included in that group's financial statements, whereas off-balance sheet financings sit outside a standard group structure with the aircraft held in a ring-fenced structure, which is created via a trust arrangement.
1.2 What are the key advantages/disadvantages and main issues arising in relation to these financing structures?
The benefit of using an SPV in a financing structure is that the transaction can be structured in a bankruptcy remote manner by limiting the activities of the SPV to the holding of title to specific aircraft being financed and leasing of those aircraft. The SPV will grant security over the aircraft and any key contracts and the shares in the SPV itself will ordinarily be charged in favour of the creditors.
On the borrower side, off-balance sheet financings results in the debts not being included in the borrower group's financial statements, which is viewed as beneficial where there is significant exposure under the financing and limited recourse transactions and which has the additional benefit of preventing creditors enforcing the borrower's obligation, beyond accessing revenue streams related to the aircraft being finance, enforcing security following a default and in some other limited exception, fraud. Where debt is full recourse whether to the borrower itself or another entity of substance offering credit support, whilst the borrower loses the protection of no winding-up or enforcement claims (beyond those limited exceptions listed above), they would expect to benefit from preferential financial terms.
For lenders, if the transaction is structured as on-balance sheet, where security it properly granted Irish insolvency would recognise the preferential interests of secured creditors over other third party creditors of the group, but exercising the security may take longer in an insolvency situation due to the need to engage in the examinership or winding up process. However, on the positive side the enhanced credit would usually allow creditors to be made whole by another member of the group.
1.3 What types of leasing are possible under the laws of your jurisdiction? What are their essential characteristics?
Under Irish law there are no specific tax arrangements which allow for tax-structured leasing arrangements, such as JOLCos in Japan or leverage-leases in France; however, both operating and financing leases are routinely entered in to by Irish companies. The fundamental difference between an operating lease and a finance lease is that with an operating lease no title passes at the end of the lease term, whereas with a finance lease there is provision for title to the aircraft to pass to the lessee as the end of the lease term. The Irish revenue distinction between the two types of leases depends on who is actually taking risk on the aircraft asset.
1.4 Are there any proposals for reform in the area of aviation finance?
The Irish government is currently reviewing legislation with a view to reforming the law to limit a party's ability to off-set profit by heavily leveraging financing structures as a means to strip out profit. Whilst this proposed legislative change is not specific to aviation it will inevitably impact a number of aviation structures which involves SPVs whose taxes are assessed pursuant to S110 of the Taxes Consolidation Act (1997), which are frequently employed as an intermediary investment companies in aircraft financing structures.
In addition, the Irish government's support of the OECD's base erosion and profit shifting ("BEPS") initiative, will result in the need for SPVs established in Ireland to demonstrate reasons for being in Ireland, other than just access to preferential tax arrangements. In the aviation space, Ireland's established reputation as the global hub for aircraft leasing makes it simple enough to justify the use of Ireland in most circumstances, although traditional lease-in, lease-out structures involving Irish SPV intermediary entities are increasingly difficult to justify where there is no other connection to Ireland. BEPS has also increased their focus on actual presence in Ireland and the need to demonstrate that an entity has substance in Ireland. It is, however, of note that BEPS is a global initiative which has been signed up to by over 130 countries and Ireland's historic focus on management and control of entities being in Ireland puts it at a distinct advantage when compared to other jurisdictions which have traditionally been involved in the financing of aircraft.
1.5 Is it possible according to the laws in your jurisdiction to enter into non-binding or partially binding pre-contractual agreements (e.g. 'letters of intent') which will NOT take effect as fully enforceable agreements?
Under Irish law, to have a binding contract there are three essential requirements: agreement between the parties; consideration; and intention to create legal relations. As such, if parties wish to set out heads of terms or similar in a non-binding letter of intent or termshseet, it is absolutely key to state in clean and unambiguous language that the parties are not concluding a contract or creating legal relation by virtue of the document. Often this is achieved by stating that the terms of the document are conditional upon certain further actions being taken, whether board approvals, aircraft inspections, payments or similar. If the document is unclear and the terms are sufficiently clear, the Irish court may hold the document to be binding, especially where executed by the parties thereto.
1.6 Is there a doctrine of 'good faith' in your jurisdiction which applies to all pre-contractual agreement, financing and leasing transaction documents, and the conduct of parties connected to them?
It is a common misconception among parties to commercial agreements that Irish law imputes a mutual duty of good faith or fair dealing between them, whether or not this is expressly stated. However, whilst under Irish law there are certain types of agreement where a duty of good faith applies, including partnership agreements and insurance contracts, the Irish courts have held that there is no general principle of good faith and fair dealing in Irish contract law.
2. Taxation and Related Matters
2.1 Which government authority in your jurisdiction has primary responsibility for the accounting for and regulation of revenue control and taxes?
The Revenue Commissioners of Ireland ("Irish Revenue") is the Irish government authority with primary responsibility for the accounting for and regulation of revenue control and taxes.
2.2 What are typically the taxes in your jurisdiction which may arise in relation to a sale, a lease or a financing of an aircraft or an engine?
The sales, lease or financing of an aircraft or engine can attract the following taxes in Ireland:
- Irish stamp duty and value-added tax ("VAT") on the acquisition of an aircraft or engine;
- Irish withholding taxes on cross-border payments of interest and dividends;
- Irish VAT on a lease or sale of an aircraft; and
- Irish capital gains tax or corporation tax on the disposal of aircraft.
Irish withholding tax at a rate of 20% is required to be withheld from payments of Irish source "yearly" interest to non-residents. However, there are a large number of exemptions available, including for interest paid to a company which is resident in an EU Member State or a country with which Ireland has signed a double tax treaty where that territory imposes a tax that generally applies to interest receivable in that territory by companies from outside that territory.
A similarly wide range of exemptions are available from the requirement to withhold tax at a rate of 25% on the payment of dividends to non-resident persons. Such exemptions include where payments are made to:
- persons resident in an EU Member State (other than Ireland) or a country with which Ireland has concluded a double tax treaty ("EU/treaty state");
- companies ultimately controlled by persons who are resident in an EU/treaty state; and
- companies whose shares are substantially and regularly traded on a recognised stock exchange in an EU/treaty state or where the recipient company is a 75% subsidiary of such a company or is wholly owned by two or more such companies.
The Irish stamp duty and VAT implications in as regards the sale, lease or financing of an aircraft or an engine are discussed further under questions 2.7 and 2.8 below.
2.3 Is the provision of a current tax-residency certificate by a payee sufficient for a lessee or a borrower potentially subject to withholding taxes in your jurisdiction on rental or interest payments to avail itself of treaty access and the mitigation of tax liability?
The provision of a current tax residency certificate by a payee who is potentially subject to withholding taxes in Ireland is sufficient in order to obtain access to reduced withholding rates under Ireland's tax treaty network.
However, the necessity to provide a tax residency certificate to Irish Revenue rarely arises in practice. Ireland does not typically impose withholding tax on lease payments. Secondly, as outlined above, Ireland offers a range of domestic exemptions with respect to outgoing interest payments by Irish borrowers. These do not require the provision of tax-residency certificates.
2.4 Has the advent of BEPS (the Base Erosion and Profit Shifting initiative of the OECD) had any effect as regards structures in aviation finance and leasing or their interpretation?
The introduction of the Multilateral Convention to Implement Tax Treaty Measures to Prevent BEPS ("MLI"), which has the stated aim of counteracting treaty shopping, has become increasingly relevant to aircraft leasing structures.
The MLI will introduce a new "principal purpose test" ("PPT") into Irish double tax treaties. It could deny a treaty benefit (such as a reduced rate of withholding tax) if it is reasonable to conclude, having regard to all facts and circumstances, that obtaining that benefit was one of the principal purposes of any arrangement or transaction that resulted directly or indirectly in that benefit.
The MLI came into force in Ireland on 1 May 2019. As a general rule, it will have effect for Ireland's tax treaties:
- with respect to taxes withheld at source, from 1 January 2020; and
- with respect to all other taxes levied by Ireland, for taxes levied with respect to taxable periods beginning on or after 1 November 2019.
The impact of the MLI with respect to treaty access relief for lessors will be fact-dependant. However, Irish-based lessors are consciously increasing and evidencing the substance they maintain in Ireland. For those who have substantial trading operations in Ireland, this is not a difficult issue. Others are increasing their personnel and resources in Ireland in order to ensure that they can continue to avail of access to Ireland's large treaty network.
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Originally published by ICLG on the 29th of April, 2020
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.