Revenue Tax Briefing

The content shown on this page is a Tax Briefing produced by the Irish Revenue Commissioners. To view the section of legislation to which the Tax Briefing applies, click the link below:

Revenue Tax Briefing Issue 02, April 2012

Securitisation Transactions

Background

Section 40 of the Finance Act 2011 amended section 110 of the Taxes Consolidation Act 1997 in several respects. The definition of qualifying assets was amended to include plant and machinery, commodities and carbon offsets. Amendments were also made to section 110 addressing certain payments of profit-participating interest to non-resident persons.

In this note, Revenue answers questions about the application of the amended legislation to certain transactions undertaken by qualifying companies. In addition, the note also addresses the changes made by section 41 of the Finance Act 2012. These are:

  • firstly, the type of assets that a section 110 company can acquire, is extended to include forest carbon offsets,
  • secondly, a due date for submission of the section 110 notification form to the Revenue Commissioners has been included in the legislation and,
  • lastly, to ensure that Irish branch operations are not affected by section 40 of the Finance Act 2011.

1. What are “carbon offsets”?

The definition of “carbon offsets” inserted by section 40 replaces the definition of “greenhouse gas emissions allowance” which was previously included in section 110. In addition to the greenhouse gas allowances covered by the previous definition (i.e. allowances, licences etc. issued under an approved scheme by a Government, inter-governmental, or supra-national institution), the new definition extends section 110 to greenhouse gas allowances produced under a voluntary scheme sponsored by a State, inter-governmental or commercial enterprise which is subject to independent monitoring and reporting.

The reference to “a State” in the definition of “carbon offsets” covers all countries, jurisdictions and territories (including Ireland).

2. Does this include “forest carbon offsets”?

Section 41 of the Finance Act 2012 has included forest carbon offsets issued pursuant to the United Nations Reduced Emissions from Deforestation and Forest Degradation programme as qualifying assets for the purpose of section 110.

3. What are “commodities”?

The term “commodities” is defined as tangible assets (other than currency, securities, debts or other assets of a financial nature), which are dealt in on a recognised commodity exchange.

Commodities have been included as qualifying assets for the purpose of section 110 in order to facilitate a section 110 company entering into financial transactions where the underlying asset is a commodity. While it is likely that the section 110 company will purchase or trade the commodities on a commodity exchange, there is no requirement for the company to do this - all that is necessary is that the company should be able to demonstrate that the assets it holds, acquires or manages are of a kind normally traded on a commodity exchange, i.e. oil, gas, gold, copper, corn, rice, coffee etc.

4. What is a “recognised commodity exchange”?

The term “recognised commodity exchange” is not defined. However, Revenue would expect that such an exchange would have national or international recognition - an agreement between two or more parties to exchange goods would not qualify. In general, Revenue would accept that commodities traded on any of the main commodity exchanges (such as the Chicago Board of Trade, New York Mercantile Exchange, London Metal Exchange etc.) would fall within the section.

5. What is a “return agreement”?

The definition of “return agreement” must be read in conjunction with the definition of “specified agreement”. A “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.

It is intended to apply only to an agreement or a combination of agreements that results in a sweep-out of profits or gains of a qualifying company. It does not apply to:

  • performance management agreements entered into by a section 110 company with an investment manager or advisor where the fee payable under the agreement is calculated on the basis of the underlying performance of the assets under management,
  • agreements solely because of non-recourse, limited recourse or non petition clauses that limit the rights of counterparties to the assets of the company,
  • interest rate or currency swap agreement entered into by a qualifying company to hedge exposure to interest rates or currency fluctuations, or
  • credit default swap agreements.

6. Is a loan agreement a “specified agreement”?

Loan agreements or debt instruments, whether or not creating or evidencing a charge on assets, will not be treated as included in the definition of “specified agreement”.

7. What definition of “control” should be used to determine whether a person is connected to another person for the purposes of paragraph (b) of the definition of “specified person”?

Section 10 of the Taxes Consolidation Act 1997 provides the rules for determining whether a person is “connected” with another person for the purposes of the Tax Acts. Subsections (6), (7) and (8) of that section essentially provide that a company is connected with another person or company if one of them “controls” the other. For the purposes of section 10, the term “control” is to be construed in accordance with section 432 TCA 1997.

However, acknowledging that difficulties could arise given the potential diversity of investors in a section 110 company, Revenue confirms that it does not require a section 110 company, in investigating control for the purposes of section 10, to pursue information which, in good faith, is neither:

8. What specified agreements should be taken into account for the purposes of the 75% test in paragraph (b) of the definition of specified persons?

Only a “specified agreement” that constitutes an asset of the section 110 company should be taken into account for the purposes of the 75% test.

9. When must the section 110 notification form be submitted to Revenue?

Section 41 of the Finance Act 2012 provides that the form must be submitted on or before the due date for submission of the Corporation Tax return.

10. Is there a “de minimis” rule for subsection (4)?

Prior to the enactment of section 40, subsection (4) of section 110 enabled a qualifying company to pay profit-dependent interest without the interest being designated as a dividend. The new rules contained in subsection (4A) limit the circumstances in which such interest can be paid without such designation to cases where the interest income is subject either to tax in an EU or Treaty country or to Irish withholding tax. In applying the new rules introduced by section 40 of the Finance Act 2011, Revenue will accept that subsection (4) may be treated as continuing to apply to the whole of the interest paid to investors in respect of a security where that subsection can be shown to apply to not less than 95%, by value, of that interest.

11. Would an Irish branch of a non-resident company qualify as a “person resident in the State” for the purposes of subsection (4A)?

Where tax has not been deducted at the standard rate in accordance with Section 246(2) of the Taxes Consolidation Act 1997, Revenue will treat interest as if it were interest paid to a person resident in the State where that interest—

  • is paid to an Irish branch of a company that is not resident in the State but which is trading in the State through that branch and
  • is income from property or rights used by, or held by or for, the branch.

Section 41(3) of the Finance Act 2012 confirmed this treatment.

12. Is an investment undertaking a “person resident in the State” for the purposes of subsection (4A)?

Revenue will treat interest as if it were interest paid to a person resident in the State where that interest is paid to an investment undertaking as defined in section 739B.

13. Will a tax exempt fund that is not a “person” (e.g. a French FCP) for tax purposes be considered to be a person for the purposes of section 110?

Revenue are prepared to treat a tax exempt fund that is constituted as a trust and which is not a person as a company for the purposes of subsection (4A)(b)(ii), provided such an entity is also treated as a company for the purposes of the definition of the term “specified person”.

14. What is meant by the phrase “without any reduction computed by reference to the amount of such interest or other distribution” as used in subsection (4A)(b)(I)?

This phrase disallows an expense deduction where profit-participating interest is paid by a section 110 company to a person resident in a relevant territory who avails of either (i) a participation exemption in respect of such interest, or (ii) a notional or deemed reduction in their taxable income (excluding any reduction calculated by reference to amounts actually paid or to tax actually paid) in respect of such interest.

15. Where an investor invests in a section 110 company via another entity (such as a partnership, investment fund, US LLC etc.), in what circumstances will the interest or other distribution paid by the section 110 company in respect of that investment be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I)?

Income from a section 110 investment may be received by an investor via a tax transparent vehicle such as a partnership, or an opaque vehicle such as a French FCP. In certain circumstances, the income may pass through a series of intermediate investment vehicles before it reaches the ultimate investor. In all such cases, an investor will be considered to be “subject to tax” on his portion of the interest or other distribution made by the section 110 company where the investor is taxed on an arising basis in respect of the amount of income received from the investment vehicle.

16. Payments to tax transparent or otherwise “look through” investment vehicles

Examples of cases where Revenue would consider income as being “subject to tax” where the investment vehicle is tax transparent or otherwise “look through” are—

  1. Payments to partnerships
    In the case of a payment of interest or other distribution to a partnership, the amount of that interest or other distribution which will be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I) will be the amount of that interest or other distribution which is attributable to a partner who is subject to tax on that interest or other distribution on an arising basis in an EU or tax treaty partner country (or would be subject to tax on that basis in the case of a partner, who is not a specified person, if that partner were not a tax- exempt entity such as a pension fund);
  2. Payments to a “check the box” entity (for example a non-US company which is disregarded (or treated as a partnership) for US tax purposes
    In the case of a payment of interest or other distribution paid to a “check the box” entity, the amount of that interest or other distribution which will be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I) will be the amount of that interest or other distribution which is treated, for US tax purposes, as paid to another person who is subject to US tax on that interest or other distribution on an arising basis (or would be subject to tax on that basis in the case of a person, who is not a specified person, if that person were not a tax exempt entity such as a pension fund);
  3. Payments to US resident investors in US Limited Liability Companies.
    Where US-resident investors invest in the section 110 company via a US Limited Liability Company, the full amount of the interest or other distribution paid by the section 110 company will be considered to be subject to tax. US limited liability companies are not treated as tax transparent outside of the US. The tax treatment of payments made to non-US investors in such entities is dealt with in paragraph 17 below.
  4. Payments in cases where the section 110 company is itself a “check the box” entity
    In certain cases, a US resident investor in a section 110 company will make a “check the box” election to be subject to tax in the US on the income arising to the section 110 company. The effect of this “check the box” election is that the section 110 company will be treated as tax-transparent by the US tax authorities and that the gross income less expenses of the section 110 company will be deemed to be income of the US Investor. Any interest paid by the section 110 company to the US investor effectively represents the difference between the gross income of the 110 company and its other deductible expenses. Accordingly, the interest or other distribution paid by the section 110 company, that would not otherwise be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I), will be considered to be “subject to tax” for those purposes to the extent that the corresponding deemed income of that investor is subject to US tax.
  5. Payments to a controlled foreign company (CFC)
    In the case of a payment of interest or other distribution by a section 110 company to a company that is considered under the laws of an EU or tax treaty partner country to be a controlled foreign company, the amount of that interest or other distribution which will be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I) will include so much of that interest or other distribution that would not otherwise be treated as subject to tax for those purposes but that is treated, by virtue of the CFC provisions concerned, as income of another company that is subject to tax on that interest or other distribution on an arising basis in an EU or treaty partner country (or would be subject to tax on that basis in the case of a company, which is not a specified person, if that company were not a tax-exempt entity, such as a pension fund).
  6. Payments where the section 110 company is itself treated as a controlled foreign company (CFC)
    A section 110 company could be treated, under the laws of an EU or tax treaty partner country, as a CFC of another company and the gross income, less expenses, of the section 110 company could be deemed to be income of that other company. Any interest or other distribution paid by the section 110 company effectively represents the difference between the gross income of the 110 company and its other deductible expenses. Accordingly, in the event that any interest or other distribution paid by the section 110 company to that other company would not otherwise be treated as “subject to tax” for the purposes of subsection (4A)(b)(I), it will be considered to be “subject to tax” for those purposes to the extent of the amount of the corresponding net income of the section 110 company that is treated, by virtue of the CFC provisions concerned, as income of the other company that is subject to tax in that EU or treaty partner country.
  7. Payments to investment funds
    In the case of a payment of interest or other distribution to an investment fund that is not resident in an EU or tax treaty country, the amount of that interest or other distribution which will be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I) will be the amount of that interest or other distribution as is treated as paid to an investor who is subject to tax on that interest or other distribution on an arising basis in that EU or treaty country (or would be subject to tax on that basis in the case of an investor, which is not a specified person, if that investor were not a tax-exempt entity such as a pension fund).
    Similarly, where the payment is made to a “master” fund, the amount of that interest or other distribution which will be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I) will be the amount of that interest or other distribution which is treated as paid to an ultimate investor who is subject to tax on that interest or other distribution on an arising basis in that EU or treaty country (or would be subject to tax on that basis in the case of an investor, which is not a specified person, if that investor were not a tax exempt entity such as a pension fund);

17. Payments that “pass through” an intermediate investment vehicle?

In certain circumstances, a section 110 company may use another entity (an intermediate investment vehicle) to raise funds for investment in qualifying assets, e.g. Asset Backed Commercial Paper is often issued to investors by a non-resident company, which uses the funds so raised to invest in a section 110 company. In these cases, the amount of interest or other distribution paid by the section 110 company in respect of that investment, which will be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I) is as follows:

  1. Payments made via a US limited liability company to investors who are not US-resident
    Where payments are made via a US limited liability company to investors who are not US resident, the non-US investors may not be subject to US tax on the income and gains of the US limited liability company. In such cases, the interest or other distribution will be considered to be subject to tax to the extent that it is immediately paid on to residents of EU or other tax treaty partner countries who are subject to tax on the onward payments in those countries (or would be subject to tax in the case of an investor, who is not a specified person, if that investor were not a tax-exempt entity such as a pension fund).
  2. Other intermediate investment vehicles
    The interest or other distribution will be considered to be subject to tax to the extent that it is immediately paid on to residents of EU or other tax treaty partner countries who are subject to tax on the onward payments in those countries (or would be subject to tax in the case of an investor, who is not a specified person, if that investor were not a tax-exempt entity such as a pension fund).

18. Payments that pass through a series of intermediate investment vehicles

Where interest or other distribution is paid by a section 110 company, and that interest or other distribution passes a number of entities before it reaches the ultimate investor, Revenue will agree to look through each entity in the chain provided that each of the entities pays on the interest or other distribution immediately on receipt. For this purpose, Revenue will accept that the interest or other distribution has been passed on “immediately” where the ultimate investor receives the payment within 20 working days from the date the interest or other distribution is paid by the section 110 company. In such circumstances, the amount of interest or other distribution so paid by the section 110 company in respect of the investment, which will be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I), will be the amount of that interest or other distribution which is passed on by the last entity in the chain to ultimate investors who are subject to tax on that payment in an EU or treaty partner country on an arising basis (or would be subject to tax in the case of an investor, who is not a specified person, if that investor were not a tax-exempt entity such as a pension fund).

19. In what circumstances will the interest or other distribution paid by the section 110 company in respect of an investment not be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I)?

Where an investor has invested directly in a section 110 company, the interest or other distribution paid to the investor by that company will not be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I) where the investor is not subject to tax on the income on an arising basis.

Where the investment has been made via an intermediate investment vehicle or series of such vehicles, it will not be considered to be “subject to tax” for the purposes of subsection (4A)(b)(I) where the income is not passed on immediately to the investor or where the investor is not subject to tax on the income on an arising basis.

Examples of cases where Revenue would not regard the income as being subject to tax are payments of interest or other distribution to—

  1. a company that is not resident in an EU or tax treaty country where the shareholders in that company are resident in an EU or tax treaty partner country and will be subject to tax on any dividends paid by the company to the shareholders;
  2. a company that is not resident in an EU or tax treaty country which has entered into financing arrangements so that the interest income effectively accrues to persons who are resident in an EU or tax treaty partner country and those persons, although they may ultimately be subject to tax on the income payable under those financing arrangements, are not subject to tax on an arising basis; or
  3. a fund that is resident outside of an EU or tax treaty partner country where the interest or other distribution effectively accrues to investors who are resident in an EU or tax treaty country and although they may ultimately be subject to tax on the interest income, are not subject to tax on an arising basis.

In the above cases, payment of tax is deferred until the company or fund makes a payment of interest or other distribution to the investor and accordingly, the income or other distribution has not been “subject to tax”.

However if, in any such case, the investor:

  1. receives a payment of interest or other distribution within 20 working days from the date the interest or other distribution is paid by the section 110 company, and
  2. is subject to tax on that interest or other distribution in an EU or treaty partner country on an arising basis (or would be subject to tax in the case of an investor, who is not a specified person, if that investor were not a tax-exempt entity such as a pension fund),

then, Revenue will treat that payment as having been “subject to tax”.

20. Will a section 110 company be entitled to a tax deduction for profit-participating interest paid to an investor who is resident in Austria?

The Austrian Tax Reform Act 2011 (Budgetbegleitgesetz 2011) was passed by theAustrian parliament in December 2010 and entered into force on December 30,2010. It provides that income derived from financing instruments that qualifies as equity for Austrian tax purposes will not be exempt under the Austrian participation exemption if the corresponding payment is tax deductible at the level of the foreign company.

Where a payment of interest or other distribution is made to an investor who is resident in Austria, the section 110 company may claim a deduction for the payment provided that, in accordance with the Austrian Tax Reform Act 2011, that interest or other distribution is subject to tax in Austria.

21. Will payments of profit-participating interest to persons who are resident in Australia be tax deductible?

Payments of interest or other distribution to investors resident in Australia will be deductible by the section 110 company to the extent that, after any changes to the Australian tax code, the amount of the payment is taxable in Australia as income arising to the investor.

22. What happens if the tax rules applicable to an interest payment change subsequent to the date of the agreement under which the payment is made?

The tax status of the payment is its status on the date the company enters into a transaction. Changes to the tax rules of a relevant territory will not be taken into account in considering whether or not the requirements of subsection (4A) are satisfied, where those changes come into force on a date subsequent to the date of the agreement under which the payment is made.

23. What tax is covered by subsection (5)?

Subsection (5) is an anti-avoidance provision and is designed to prevent abuses of the relief given by subsection (4). The new subsection prohibits the application of subsection (4) where the qualifying company is aware, or in possession, of information, on the date of payment of the interest, 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 is Irish tax.

24. Will the payment of profit-participating interest to a specified person trigger the anti-avoidance rules in subsection (5)?

The payment of profit-participating interest to a specified person is not in itself a breach of this provision. The provision applies only where the payment is made as 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, the benefit of which would be expected to accrue to the specified person, and the qualifying company is aware of that fact at the time the interest is paid.

25. Will the new rules contained in section 40 of the Finance Act 2011 apply in a case where new securities are issued to an investor as a result of a reorganisation of a section 110 company on or after 21 January 2011?

Subsection (5) of section 40 provides for a situation where new securities are issued on or after 21 January 2011 but only as a result of a reorganisation of the section 110 company or of the terms and conditions of the securities. This enables the pre-section 40 legislation to continue to apply to any such new securities provided that:

  • there is no change in the beneficial ownership and
  • no new consideration is received by the qualifying company or a specified person in respect of the new securities.

In this context, the term “new consideration” will not be considered to include the new holding of securities received in exchange for the original securities, i.e. “new consideration” should be read in the sense of additional consideration.

26. Will profit participating interest which is paid on monies drawn down from loan facilities which were in place prior to 21 January 2011 continue to qualify for relief under subsection 110(4)?

Section 40 of the Finance Act 2011 is to be construed together with section 110 of the Taxes Consolidation Act 1997. Section 110(4) exempts certain interest from being treated as a distribution where such treatment is by virtue only of section 130(2)(d)(iii) TCA 1997. Section 130 is to be construed together with section 135(8) TCA 1997. Section 135(8) treats interest on money advanced as interest in respect of a security issued for the advance. Accordingly, interest on money advanced is to be treated as interest in respect of a security issued for the advance for the purposes of the provisions of section 40 of the Finance Act which refer to “interest . . . in respect of securities”. Consistent with this, Revenue will treat references to “securities” in Section 40(5)(c) of the Finance Act as also referring to advances, whether new loans or further draw-downs of loans already in place.