In the last issue of Legalseas we discussed the changes brought by the introduction of the new tax regime for finance and operating leases in the UK. In this article we continue with the theme by addressing the new leasing regime applying to tax-based leases of ships in France.
The French government introduced draft legislation in November 2006 setting out a new regime for tax-leveraged leasing transactions in France. Since 1998 two types of tax leasing transactions co-existed: the approved-type transactions under article 39CA of the French tax Code (39CA transactions) and the French single-investor transactions permitted by general tax rules (single investor transactions).
Since 2004, however, there has been a decline in tax leasing transactions due to the investigation by the European Commission into the compatibility of 39CA transactions with EU State Aid rules. As a result only French single investor transactions were being implemented. Because of the high price of ships very few tax equity participants were able to finance such assets on a sole basis, leading to a decline in the second category of leasing.
The new legislation makes it possible for several tax investors to enter into a tax lease of a ship within the context of the general tax code in France. Unlike 39CA transactions, tax rulings are no longer required although the enhanced rate of depreciation and the exemption from capital gains upon resale are also abolished. Likewise, restrictions on the asset class or duration of a potential transaction have also been eliminated. The ensuing regime is therefore a simple one based on general tax code principles applicable to all types of assets.
Contents of the new regime
The new provisions are designed for leasing companies set up as a co-ownership, a groupement d’intérêt économique or other tax-transparent entities which have not elected to be subject to corporate tax.
The lessor is entitled to use the depreciation of the ship to reduce its taxable profits. The amount of depreciation available for set-off is generally equal to the net rents received by the lessor in that year.
However, the allowable depreciation is three times the gross rentals received during the first thirty-six months of the transaction (and thereafter without limitation) provided that the asset is physically located, operated or registered in France or in a member of the EEA which has signed a double tax treaty with France containing an anti-fraud or tax evasion administrative cooperation clause.
Any remaining depreciation after the application of the above rules is carried over to following years. If the above rules cease to apply to the lessor (for example, at the end of the lease), the remaining carried-over depreciation amounts are available to be used in the tax year during which the cessation occurs. If the ship is sold, the remaining balance of unused depreciation is added to the depreciated value of the asset in calculating the capital gain/loss on the sale.
Limitation on tax investors
The tax losses or profits made by the lessor are then shared between the investors in the lessor in proportion to their share in the lessor.
However, there exists a limitation on the amounts deductible by investors in the first twelve months of a transaction. This results in the investors being limited to using only one-quarter of their total taxable profits in this type of transaction.
The new law requires the lessor to disclose the transaction to the French tax authorities before the end of the month in which the depreciation of the asset commences. Further details of this disclosure regime are yet to be released, but it will include elements of the lease and financial forecasts and the benefits resulting from the transaction.
If the transaction is not disclosed, a penalty equal to five per cent of the price of the ship can be assessed on the lessor.
Although the changes introduced eliminate the enhanced benefits of the tax-approved transactions in effect since 1998, this new regime opens the way for tax-based leasing on all assets. These provisions are applicable to all leasing transactions entered into from 1 January 2007.
For the time being the new rules do not affect single investor transactions. Single investor transactions continue to allow leasing for a single investor holding 95 per cent of the ownership interest in the lessor and using the tax losses of the lessor via tax consolidation rules. The advantage of a single investor transaction as opposed to the new rules is the absence of any limit on deductibility of losses in the first three years of a transaction and the absence of any limitation on the amount of taxable profits sheltered by the investors. The drawback is the limited availability of investors capable of taking complete transactions without syndication of the tax capacity.
The new rules will be further complemented by regulations which will give further indications as to the implementation of the law and are expected within the first quarter of 2007.