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Changes to the Irish securitisation regime

Andrew QuinnNollaig Murphy

The Irish Finance Act 2011 has significantly enhanced the scope of assets that can be held by an Irish section 110 company (a 110 company) to include plant and machinery, (such as aircraft and motor vehicles) and commodities.

Changes were also introduced to address certain cross-border structures. The measures are targeted reasonably narrowly and are not expected to affect mainstream capital markets transactions availing themselves of the section 110 regime.

The section 110 regime has been in existence for over 20 years. It effectively allows for corporation tax neutral treatment for Irish special purpose companies which hold and/or manage financial assets and meet certain conditions. The regime is widely used by international banks, asset managers and arrangers to establish securitisations, CDOs (collateralised debt obligations), repackagings, investment platforms and capital markets bond issuances generally.

A 110 company may only hold and/or manage so-called financial assets, so the meaning of this term is critical. The definition is already very broad, as it covers financial assets generally, and specifically itemises many of their classes – both mainstream (for example shares, debt or derivatives) and alternative (for example life settlements and carbon credits.)

The Finance Act has now extended the class of financial assets to plant and machinery, commodities and carbon offsets. This is hugely significant and will expand the use of 110 companies. The inclusion of plant and machinery will, for example, allow 110 companies to be used for securitisations involving aircraft and motor vehicles. Previously, such deals involving Irish issuers generally required the use of Irish trading companies, with consequent complexity, so the change should facilitate these securitisations considerably.

Commodities are broadly defined as commodities dealt in on a recognised commodity exchange, and this will, for example, facilitate investment offerings dependent on the performance of a basket of commodities and also sharia-compliant programmes linked to commodities.

Changes have also been introduced to the operation of section 110 where, broadly, payments are made to certain non-treaty recipients. The Irish Government, recognising the importance of the 110 regime, consulted with industry, including Maples and Calder, in advance of the changes. It is understood that the policy reason behind the changes is to enhance and strengthen the section 110 regime internationally by addressing what could be perceived as cross border double-no-tax structures.

Corporation tax neutrality for a 110 company is based on it being treated as a trading company and then allowing it to take regular tax deductions, including for-profit distributions. The new rules will seek to deny deductibility for that profit element unless, broadly, paid to a recipient in a tax-treaty partner country which generally taxes such income unless certain important exceptions apply. Thus, for example, a payment to a US-tax exempt investor will not be disqualified on the basis that the US generally taxes income. Also, in applying this test, it will be possible to look through legally transparent vehicles, such as Cayman limited partnerships, to the ultimate investors.

Critically, the new limitations are disapplied (so full deductibility is still allowed) in respect of any payments made on quoted Eurobonds and wholesale debt instruments (broadly, bonds with a maximum two-year maturity) regardless of the location of the recipient, unless broadly the recipient controls the 110 company or has originated 75% of its assets, is not located in a treaty partner taxing country and the 110 company is aware of those facts at the time of issuance.

Profit dependent distributions will remain fully deductible where paid to a recipient in a taxing treaty country. Additionally, provided a profit dependent distribution is made in respect of a quoted Eurobond or wholesale debt instrument, the payment should remain deductible as normal unless the recipient falls into a narrow category and the 110 company is aware of that fact. This means that mainstream widely-held capital markets deals (securitisations, CDOs or repackaging programmes) should not be affected.

As regards investment structures established by an investment manager for a limited number of investors, again it would be expected that the targeted drafting of the legislation and the structuring of transactions should mean that the 110 company can remain entitled to full deductibility and thus tax neutrality in the majority of cases.

For example, to the extent an investor was not in a taxing treaty country, then the quoted Eurobond or wholesale debt instrument exemption may apply on the basis the investor does not control the 110 company, or alternatively it may consider structuring the holding of its investment differently.

Finally, measures have been introduced to apply the new rules also to payments on contractual agreements broadly equating to a distribution on a profit participating loan.

The new legislation is effective from January 21 2011, but grandfathering arrangements exist so that the new limitations are disapplied for interest or distributions paid in the future in respect of securities issued before that date, or securities which the 110 company issued under a binding written agreement made before that date.

We regard the extension of the scope of financial assets as extremely significant and believe it will extend the use of the section 110 regime considerably. The limitations described above will need to be carefully considered on transactions, but, on the positive side, they are targeted with workable exceptions where they do not apply.

The changes can also be seen as further endorsement by the Irish Government of the continued development and success of the section 110 regime internationally.

Andrew Quinn and Nollaig Murphy

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