Revenue Note for Guidance

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Revenue Note for Guidance

110 Securitisation

Summary

This section deals with the taxation of securitisation and other structured finance transactions. The profits of a qualifying company falling with the ambit of subsection (1) are chargeable to tax at a rate of 25% (the rate which applies to investment companies) but are computed by reference to the rules applicable to trading companies. This means that a qualifying company under this section will be allowed deductions which would not be allowed to an investment company (including deductions for bad debts).

This section ensures, therefore, that the qualifying company is essentially tax neutral. This is achieved by treating the income arising to a qualifying company as assessable under Case III of Schedule D but in doing so it is given the same deductions as would apply if the company were actually trading and its income were assessable under Case I of Schedule D.

In addition, in certain circumstances, any income remaining in the company after the interest on the loan notes has been paid may be paid as interest to certain holders of securities without triggering the distribution rules which would otherwise be triggered. The result is that the qualifying company gets a tax deduction for the interest paid which it would not otherwise get thereby ensuring that the company is effectively tax neutral.

In all cases a de minimis asset value limit of €10m. is imposed in respect of the first transaction carried out by a qualifying company.

Details

Definitions

(1)authorised officer” is defined for the purposes of paragraph (f) of the definition of “qualifying company”.

carbon offsets” means an allowance, permit, licence or right to emit during a specified period, a specified amount of carbon dioxide or other greenhouse gas emissions as defined in Directive 2003/87/EC of the European Parliament and of the Council of October 2003 establishing a scheme for greenhouse gas emission allowance trading within the Community and amending Council Directive 96/61/EC of 24 September 1996.

  • a forest carbon offset issued pursuant to the United Nations Reducing Emissions from Deforestation and Forest Degradation process.

The allowance, permit, licence or right to emit can be issued-

  • under an approved scheme by a Government, inter-governmental, or supranational institution,
  • under a voluntary scheme sponsored by a State, inter-governmental or commercial enterprise where the allowance, permit, licence or right to emit is subject to independent monitoring and reporting.

commodities” means tangible assets (other than currency, securities, debts or other assets of a financial nature) which are dealt in on a recognised commodity exchange.

The definitions of “financial asset” and “qualifying asset” set out the type of asset which may be used for the purposes of a transaction under the section. Essentially any asset which, broadly, could be considered as a financial asset qualifies. The Finance Act 2011 extended the definition of qualifying asset to plant and machinery and commodities.

qualifying company” defines the type of company involved.

Paragraph (f) in the definition of “qualifying company” provides that the company must provide the information required by the prescribed form (Form S.110), which may include the following:

  1. the type of securitisation transaction that the “qualifying company” is entering into;
  2. a description of the assets being acquired;
  3. details of who was the originator of the assets acquired;
  4. whether the transaction was an intra-group transaction;
  5. whether the securitisation transaction was with connected parties.

The prescribed form must be sent to the “authorised officer”:

  • in respect of a “qualifying company” that met the conditions in paragraph (e) prior to 31 December 2016 within 8 weeks of 1 January 2017;
  • in respect of a “qualifying company” that met the conditions in paragraph (e) after 1 January 2017 within eight weeks of the date of when the conditions were met.

Where the details required on the prescribed form are not available at the time the notification is sent to the “authorised officer” the information should be sent to the “authorised officer” as soon as it becomes available.

quoted Eurobond” is given the same meaning as in section 64 (i.e. a bond which is issued on a recognised stock exchange and carries a right to interest).

return agreement” is defined, in relation to a “qualifying company”, as a specified agreement whereby payments due under the specified agreement are dependent on the results of the company’s business or any part of that business.

specified instrument” is defined as a quoted Eurobond or a wholesale debt instrument.

specified person” is defined in relation to a “qualifying company” as:

  1. a company that directly or indirectly –
    1. controls the “qualifying company”,
    2. is controlled by the “qualifying company”, or
    3. is controlled by a third company which also directly or indirectly controls the “qualifying company”,
  2. and for this purpose “control” has the same meaning as in section 11, or
  3. a person or persons who are connected with each other:
    1. from whom the qualifying assets were acquired,
    2. to whom the company has made loans or advances, or
    3. with whom the qualifying company has entered into specified agreements,
    where the total value of assets, loans or agreements represents not more than 75% of the total value of qualifying assets of the company;

specified agreement” is defined as any agreement, arrangement or understanding that provides-

  1. for the exchange of payments based on the value, rate or amount of one or more interest or other rates, currencies, commodities, securities, instruments of indebtedness, indices, quantitative measures or other financial or economic interest or property of any kind, or any interest therein,
    and which
  2. transfers to the person with whom the agreement was made, or to a person connected to that person, in whole or in part, the financial risk associated with a future change in any such value, rate or amount without also conveying a current or future direct or indirect ownership interest in an asset (including any enterprise or investment pool) or liability that incorporates the financial risk so transferred.

wholesale debt instrument” is given the same meaning as in section 246A.

Tax treatment of qualifying companies

(2) Qualifying companies are chargeable to tax under Case III of Schedule D. In other words, any profits arising to such a company will not be treated as trading income and will be taxable at the 25 per cent rate applicable to passive income.

However, the profits of the company are computed having regard to the rules applicable to trading companies (that is, Case I) rather than investment companies despite the qualifying company being subject to tax as an investment company (that is, Case III). In a similar vein, bad debts which might arise in respect of a transaction are explicitly made deductible from the profits of the company.

Losses and group relief

(3) A qualifying company is not entitled to surrender any tax relief it is entitled to under the group relief provisions. However, losses accruing to a qualifying company may be carried forward and relieved against future profits of the company.

Non-application of distributions rules

(4) Normally where a company pays interest in the course of its trade, it is entitled to deduct that interest as an expense of the trade. However, where the interest payable is in excess of a commercial rate or is to any extent dependent on the results of the business, section 130(2)(d)(iii) deems such interest to be a dividend. The effect is that the company cannot take an expense deduction for the payment.

Subsection (4) provides that the rules in section 130(2)(d)(iii) are disapplied in certain circumstances. Where the subsection applies, it enables a qualifying company to pay profit-dependent interest without the interest being designated as a dividend. The effect of this is to allow the company to pay such profit dependent interest without penalty.

Subsections (4A) and (5) clarify the circumstances in which the provisions of subsection (4) apply. These provisions were introduced by section 40 of the Finance Act 2011.

Application of subsection (4)

(4A)(b) Subsection (4A) was introduced by section 40 of the Finance Act 2011. It provides that where interest is paid to a person other than:

  • (4A)(b)(i) A person who is resident in the State or, if not so resident, is otherwise within the charge to corporation tax in the State in respect of that interest or distribution, or
  • (4A)(b)(ii) A person (not being a “specified person”) who is a pension fund, government body or other person resident in a “relevant territory” who, under the laws of that territory, is exempted from tax which generally applies to profits, income or gain in that territory,

subsection (4) shall only apply where:

  • (4A)(b)(I) the interest is, under the laws of a “relevant territory”, subject (without any reduction computed by reference to the amount of the interest) to a tax which generally applies to profits, income or gains received in that territory, by persons, from sources outside that territory, or
  • (4A)(b)(II) withholding tax at the standard rate has been deducted from the interest in accordance with section 246(2) (i.e. where the interest is paid to a non-treaty country and an exemption from withholding tax does not apply to that interest).

(4A)(c) Paragraph (c) sets out an exception to the “subject to tax” rules introduced in paragraph (b). The exception applies where the interest or other distribution is paid in respect of a quoted Eurobond or wholesale debt instrument – provided the interest on the Eurobond or debt instrument is not paid to a “specified person” and, at the time the instrument was issued, the qualifying company is not aware or in possession of information (including information about any arrangement or understanding in relation to ownership after that time) that the interest is not subject (without any reduction computed by reference to the amount of the interest) to a tax which generally applies to profits, income or gains, received persons, in that territory from sources outside the territory.

Payments under a return agreement

(4B) A qualifying company is not entitled to deduct a payment made under a return agreement where an interest payment would be non-deductible in similar circumstances. Effectively the subsection aligns the treatment of payments under a return agreement with that applied to profit-dependent interest. It does this by imposing a hypothetical interest comparison – a test to see what tax treatment would apply if the payment under the swap were treated as interest for all of the purposes of the Taxes Acts.

The reference to section 246(2) prevents the swap being considered as if it were interest paid under deduction of tax. The reference to “specified instruments” disregards Eurobond interest in the hypothetical interest comparison condition.

Anti-Avoidance

(5) Subsection (5) is an anti-avoidance provision and is designed to prevent abuses of the relief given by subsection (4).

It provides that Subsection (4) will not apply where the “qualifying company” is aware or in possession of information that can reasonably be taken to indicate that the payment is part of a scheme or arrangement, the sole or main benefit of which is to obtain a tax relief or a reduction of a tax liability for the “specified person”. The tax referred to in this instance is Irish tax.

(5A) Subsection (5A) is an anti-avoidance provision which is designed to prevent the use of relief given by subsection(4) to shelter profits from Irish distressed debt.

(5A)(a) Definitions

‘CLO transaction’ is defined as a securitisation transaction, within the meaning of CRR (Regulation (EU) No 575/2013 of the European Parliament and of the Council of 26 June 2013 on prudential requirements for credit institutions and investment firms and amending Regulation (EU) No 648/2012), where the debt is either listed on the main exchange or the GEM and the transaction is carried out in accordance with the prospectus or listing particulars, or where the debt is not listed, it is carried out in conformity with a similar legally binding document. Those documents must set out the investment criteria on the type and quality of assets to be acquired. If those documents provide for a warehousing period, during which time the qualifying assets are being acquired prior to listing, that warehousing period should not exceed 3 years. Where one of the main purposes of the qualifying company was to acquire distressed Irish debt then it will not be a CLO transaction.

‘CMBS / RMBS transaction’ is defined as a securitisation transaction where:

  1. the company which itself or through related entities, directly or indirectly, created the loans which are the subject of the securitisation retains the net economic interest in the credit risk of the securitisation as required by CRR; or
  2. where the securitisation is put in place by a company which purchased the debts, that company must retain the net economic interest in the credit risk and it must be a credit institution (being an undertaking the business of which is to take deposits or other repayable funds from the public and to grant credits for its own account) or a financial institution (within the meaning of CRR), or an institution outside of the EEA recognised by the EC as equivalent.

‘Loan origination business’ is defined as the making of a loan:

  1. by the qualifying company itself, or
  2. where the loan is acquired by the qualifying company at or about the time of its creation.

It does not include the issuing of a PPN to a borrower that has a specified property business. The novation or refinancing of a specified mortgage will not generally fall within this definition, unless it can be shown that it was done for bona fide commercial reasons and not for the purposes of avoiding subsection (5A).

‘Specified mortgage’ is defined as

  1. a loan which is both
    • secured on and
    • derives its value or the greater part of its value from,
    either directly or indirectly, land in the State;
  2. a specified agreement (other than a loan) which derives its value, or the greater part of its value, from land in the State;
  3. the portion of the PPN treated as attributable to the specified property business by this subsection; and

A loan or a specified agreement which derives its value from a business which would not be a specified property business is excluded from (a) and (b) of this definition.

‘Specified property business’ is defined as being the whole or part of the business of the qualifying company that involves the holding, managing or holding and managing of

  1. specified mortgages,
  2. units in an IREF (within the meaning of Chapter 1B of Part 27,
  3. shares that derive their value, or greater part of their value, from land in the state.

‘Specified property business’does not include

  1. a CLO transaction
  2. a CMBS / RMBS transaction
  3. a loan origination business
  4. a sub-participation agreement, or
  5. any activities preparatory to (i) to (iv).

Where a qualifying company is seeking to claim that a CLO transaction or CMBS / RMBS transaction is not part of a specified property business then that qualifying company must carry on no other activities (i.e. it must be a single purpose vehicle).

Section 20 Finance Act 2017 amended the definitions of ‘specified mortgage’ and ‘specified property business”. The changes introduced by Section 20 Finance Act 2017 will apply to interest which became payable on or after the 19th October 2017.

‘Specified security’ is defined as a security to which subsection (4) would apply, in most cases being a PPN.

‘Sub-participation transaction’ is defined as the acquisition of an economic interest in a loan in the ordinary course of a bona fide syndication to one or more lenders where the originator of the loan is a credit or financial institution (all within the meaning of CRR). The originator must remain a lender of record and must retain a material net economic interest of at least 5% in the credit risk of the loan.

(5A)(b) When determining whether or not the shares referred to in paragraph (c) of the definition of ‘specified property business’, a loan or specified agreement derives its value from land in the State:

  • (i) Any arrangements put in place to manipulate the value of the asset (e.g. flooding with cash) will be ignored.
  • (ii) The gross value of the assets will be used, with no account taken of any associated debt

(5A)(c) The profits from the specified property business will be treated as a separate Case III source of income. The profits of that separate business will be calculated by apportioning all relevant income and expenses.

(5A)(d) For the purposes of calculating the profits of the specified property business, subsection (4) is disapplied (meaning no deduction is available for profit participating interest) except in the following circumstances:

  1. (i)(I) the interest is paid either to an individual who is both resident in Ireland and within the charge to income tax or to a company within the charge to corporation tax
  2. (i)(II) the interest is paid to a pension scheme or PRSA, or an equivalent in an EEA member State
  3. (i)(III) the interest is paid to an individual who is a national of an EEA state, or a company formed under the laws of an EEA state where that person is subject to tax on receipt of the interest in any EEA state. The charge to tax in that EEA state must be in relation to income received (rather than capital received) and must be under laws that generally apply to the receipt of interest from outside of that EEA state. The person must be subject to tax on the interest without any deduction:
    • calculated with reference to the interest itself;
    • for any imputed, deemed or notional expenses calculated with reference to any debt, equity or hybrid financing of that person.
    Furthermore, if it is reasonable to consider that the holding of the specified security by the resident of an EEA State was for the purposes of avoiding tax and that EEA resident does not carry out genuine economic activities which are relevant to the holding of the specified security, then no deduction will be allowed.
  4. (i)(IV) the interest is paid to an IREF (Chapter 1B of Part 27)
  5. (i)(V) the interest is paid to a widely held investment undertaking
  6. (ii) the interest which, when the specified security was first entered into, represented a reasonable commercial return for the use of the principal and which is calculated as non-profit participating.
  7. (iii) any interest from which tax is correctly withheld under section 246, and which is not refundable.

(5A)(e) Subsection (5A) applies for accounting periods commencing on or after 6 September 2016. Where an accounting period spans the 6 September 2016 then one accounting period will be deemed to have ended on 5 September and a new one commenced on 6 September 2016.

Application of accounting rules in the computation of profits

(6) This subsection permits qualifying companies to compute their taxable income on profits based on Irish generally accepted accounting principles that applied in 2004. This will enable them to retain tax neutrality.

This subsection provides that the rules in section 76A are to apply to transactions under this section as if GAAP meant Irish GAAP as it was effective for a period of account ending on 31 December 2004.

A qualifying company will be permitted to irrevocably opt out of this treatment and base its taxable income on IFRS or current Irish GAAP by giving notice to its Inspector of Taxes. Essentially, this allows such companies to compute their income for tax purposes unaffected by changes in accounting standards that are first applied to their accounts for accounting periods ending after 2004.

Where such notice is given, the transitional rules of Schedule 17A will apply.

Relevant Date: Finance Act 2017