As a new year begins, Bill Gibson, a partner in the SNR Denton Aviation Group looks at six of the main legal developments in the aircraft finance and leasing market.
New Year, New Aircraft Sector Understanding
The end of last year marked the end of the main basis on which aircraft customers could continue to benefit from ECA-supported financing under the 2007 ASU. Except for post-delivery refinancings (and the remaining aircraft on the 2007 ASU "transition lists"), the 2011 ASU will now apply to ECA-supported financings going forward. Here is a flavour of the main changes:
- Minimum Premium Rates (MPRs) – the big change is that rates will materially increase. Rates are now calculated by combining Risk-Based Rates (RBRs) and Market-Reflective Surcharges (MRSs). A single RBR applies to an airline for all ECA aircraft financings made available by participating countries (including for Boeing, Airbus, Bombardier and Embraer aircraft). The MRS is intended to correct one of the perceived failings of the 2007 ASU, by reflecting prevailing commercial debt pricing.
- Categories closed – the old distinction between Category 1, 2 and 3 aircraft has gone. The maximum term for ECA debt is now 12 years across the board.
- Advance rates and risk mitigants – the best airline credits can now expect an advance of up to 80 per cent only. Most remaining airline credits will be expected to apply risk mitigants set out in the 2011 ASU.
- Cape Town discount – a single maximum Cape Town discount applies across the board for airlines in countries on the OECD's Cape Town List.
Case Law Round-Up – Aircraft Acceptance and Jurisdiction Clauses
The English courts handed victory to lessors in the recent case, ACG v. Olympic Airlines  EWHC 1070. Under the lease, ACG undertook to deliver to Olympic an aircraft that was airworthy and fit for immediate commercial service. Following its redelivery by a prior lessee and delivery to Olympic, the aircraft turned out to be neither. The court ruled Olympic's signature of the pre-delivery acceptance certificate – which represented the aircraft was in satisfactory condition – and ACG's detrimental reliance on that representation – created an estoppel preventing Olympic from raising any post-delivery objection to its acceptance of the aircraft because of its condition. The second argument raised by ACG was that a conclusive evidence clause in the lease prevented Olympic from relying on those defects. Whilst this was a legally sound argument, it failed on the actual drafting of the conclusive evidence clause in the lease, so careful drafting is needed.
On the other side of the Channel, the French Supreme Court made a decision which surprised many commentators. In Ms X v. Banque Privée Edmond de Rothschild (No 11-26,022) (Rothschild), the French Supreme Court ruled that a "unilateral jurisdiction clause" was invalid. Most aircraft finance and leasing documents include a unilateral jurisdiction clause, under which:
- All parties (or the "Obligor" parties only) submit to the jurisdiction of courts in a specified jurisdiction; but
- The Lessor or the "Finance Parties" may also sue in any other court.
The Court determined that the jurisdiction clause was invalid by reference to Article 23 of the Brussels Regulation. The new legal risks presented by the case (which, because the case involved the Brussels Regulation, throws uncertainty over all unilateral jurisdiction clauses where one of the parties is domiciled in the European Union), should be considered for transactions going forward on a case-by-case basis.
Facing up to FATCA
Moving across the Atlantic, banks and borrowers worldwide are being forced to face up to FATCA (the Foreign Account Tax Compliance Act). Under FATCA, US taxpayers must report specified foreign financial assets that exceed certain thresholds to the US tax authorities. FATCA will also require foreign financial institutions (FFIs) to report to the IRS information about financial accounts held by US taxpayers, or held by foreign entities in which US taxpayers hold a substantial ownership interest.
FATCA can also require FFIs to make a 30 per cent withholding on certain payments made to "recalcitrant account holders" (US taxpayers who fail to report relevant foreign financial assets) and to non-participating FFIs (foreign financial institutions based in jurisdictions where a FATCA inter-governmental agreement (IGA) has not been entered into, or FFIs who have not entered into a direct agreement with the IRS, or FFIs who are not deemed compliant under the FATCA regulations).
In September 2012, the UK signed an IGA with the US. Broadly, this should mean that UK financial institutions acting in the UK will not be subject to FATCA withholdings on their own receipts, nor (subject to some limited exceptions) to any FATCA-specific obligation to impose a withholding on payments they are passing on (e.g. as agent), provided they comply with the UK FATCA compliance rules imposed as a result of the IGA. In December 2012, the United Kingdom Loan Markets Association (LMA) issued suggested FATCA Riders, which allowed for a range of FATCA withholding risk-sharing alternatives. A final market position has not been settled.
This is a very high level summary of complex and detailed regulations whose text is still being revised.
Banking Regulation – Basel III Implementation Delayed and LIBOR Lambasted
The fallout from the financial crisis continues to be felt in a range of banking regulatory reforms, including the Basel III rules and in relation to the British Bankers Association (the BBA) LIBOR benchmark.
Basel III, the regulatory capital and liquidity rules published by the Basel Committee in late 2010, was to be implemented in the EU on 1 January 2013 by a new regulation (the CRR) and directive (CRD IV). However, the EU Parliament and Council are unlikely to agree on the final text of the CRR and CRD IV until later in Q1 2013 at the earliest. And there are calls for the EU to delay implementation for at least a year – this follows an announcement that the US will delay its Basel III implementation indefinitely.
CRD IV and the CRR will create more onerous regulatory capital requirements for EU financial institutions, presently expected to be phased in between 2013 and 2019.
Since the Basel III papers were published, there has been much negotiation over whether increased costs clauses in facility agreements should cover lenders' increased costs relating to Basel III. Lenders have generally insisted that they should. During the implementation of Basel III (and CRD IV and CRR) in the EU, it will become more important for increased costs clauses expressly to state whether lenders can claim Basel III-related increased costs.
The Wheatley Review on LIBOR was published in September 2012.
HM Treasury accepted the Review's recommendations, and the Financial Services Act 2012 implements many of them. Many of the more detailed recommendations of the Review are for the BBA, or any successor administrator of LIBOR, to consider separately.
The Review recommended that the BBA should cease to have responsibility for administering LIBOR; and that the range of published rates be reduced to five currencies (US dollar, sterling, Swiss franc, Japanese yen and euro) and 10 (or fewer) maturities. In response, the BBA will remove certain tenors from LIBOR this May.
The Review also argued against the use of reference bank rates as a fall back if screen rate LIBOR becomes unavailable (as provided for in the LMA facility agreements). It argued that if LIBOR is not published for any reason, reference banks may not be able to provide quotes for the same reason. The Review recommended that "new contingency provisions should be designed to function without reliance on submissions from LIBOR panel banks". However, using other existing published rates instead, as suggested by the Review, would not be straightforward either. Whether lenders or the LMA will want to act on this recommendation remains to be seen.
The EU Emissions Trading Scheme for Aviation
Whilst the European Union agreed to a stay of execution for (broadly) non-European Union/European Economic Area airlines operating flights originating or ending outside the EU/EEA, the EU-ETS continues to apply to pure intra-EU/EEA flights. This partial suspension of the EU-ETS is due to end this November, but may continue if enough progress is made on an ICAO-led international market-based airline emissions reduction initiative. Will the ICAO make sufficient progress before the end of the year, or will the European Union up the stakes and cancel the suspension? Either way, big changes can be expected in the emissions trading arena.
No change in the lex situs issue this year, which has had aircraft flown into English airspace – or to other jurisdictions whose domestic law is consistent with an outright title transfer under an English law-governed aircraft sale and/or a title transfer by way of security under an English law-governed aircraft mortgage. Our understanding is that, for now, there is insufficient Parliamentary time to replace the lex situs rule. So it looks like the current position will continue to apply for the time being.