How To Understand The Tax Laws In Ireland

Transcription

1 Ireland Ireland as a Location for US Life Settlement Transactions

2 Page 1 Introduction Life settlements have become increasingly popular as an alternative asset class. Ireland is an internationally recognised, open and tax efficient jurisdiction and has become the leading location for the establishment of regulated qualifying investor funds ("QIFs") or special purpose vehicles ("SPVs") to participate in US originated life settlement transactions. A ruling by the Internal Revenue Service in May 2009 (Rev. Rule ), made clear that proceeds paid in respect of US life policies will be regarded as US source fixed or determinable annual or periodical income. The payment will therefore be subject to a 30% US withholding tax. The Double Tax Treaty between Ireland and the United States ("US/Ireland Tax Treaty") is of particular benefit for investment in life settlement policies. Where the various requirements of the US/Ireland Tax Treaty are satisfied, no withholding tax will apply to payments of death benefits. In addition, it is possible to establish an Irish QIF or Irish SPV such that there is no Irish tax leakage and investors receive an overall return on investment in life settlement policies in the most tax efficient manner. We summarise below the main points for consideration in establishing the two types of Irish vehicles, QIFs and SPVs, the benefits of Ireland generally as a location for financial services and the issues which arise in claiming the benefits of the US/Ireland Tax Treaty. Irish investment vehicles As indicated above there are two types of Irish vehicles which may be used to invest in US originated life policies, namely QIFs and SPVs. Qualifying Investor Funds (QIFs) A QIF is a regulated fund targeted at sophisticated and institutional investors. The range of eligible assets open to the QIF to invest in is very flexible and includes direct acquisition by the QIF of life settlement policies. There is no minimum value in relation to the assets acquired. QIFs may take a variety of forms they can be established as investment companies, unit trusts, common contractual funds or limited partnerships. They can be established as single portfolio funds or as multiple-portfolio 'umbrella' funds with segregated pools of assets. They are a very flexible investment product with few investment restrictions and no borrowing restrictions. Subject to promoter approval and a pre-submission process for QIF life settlement funds they have next day authorisation. Promoter Approval In advance of filing the QIF for next day authorisation by the Central Bank of Ireland, the asset manager proposing to establish the QIF must be approved as a promoter. This entails completing a Central Bank of Ireland form addressing the asset manager's regulatory status, experience, ownership structure and financial standing. Promoter approval for a U.S. SEC registered asset manager takes 2 3 weeks. Pre-submission Process In addition, QIF life settlement funds need to undergo a pre-submission process before they can avail of the fast track procedure. This is unusual for QIF funds but reflects the slightly more complex nature of the asset class. The actual prospectus is not reviewed, but the Irish Central Bank requires a letter in advance of authorisation outlining the following: 1. Promoter experience in life settlement investment 2. Custody arrangements to custody the life settlement policies 3. Valuation provisions for the life settlement policies 4. Liquidity provisions for the QIF In relation to the custody arrangements, the Irish Central Bank will require detailed information on how the life settlement policies will be held and how they will be acquired. The Irish Central Bank will contact the proposed custodian in relation to this if more detail is required.

3 Page 2 In relation to the valuation provisions, detail will have to be provided of the independent valuer and what their relevant experience is in the field. Finally if the QIF is open-ended, it would be necessary to explain how the QIF would meet redemption requests. Funding of the QIF The QIF is funded through direct investment in the shares or units of the QIF. Loan funding can be utilised to supplement the QIFs funding. We are currently assisting an asset manager that is seeking to raise finance through a full exchange listing. No Irish tax Irish QIFs are exempt from Irish tax on their income and gains, irrespective of where their investors are located. In addition, no Irish withholding tax applies to income distributions or redemption payments made by a QIF to non-irish resident investors. SPVs (Section 110 Companies) Irish SPVs are established as either private or public limited companies under Irish company law. There are a number of rules to consider when determining whether an SPV should be established as a private or public company but in general wholesale transactions (where the minimum investment per investor is EUR50,000) involve private companies and retail transactions (where investors may invest below EUR50,000) involve public companies. Irish SPVs are afforded favourable tax treatment in Ireland under section 110 of the Taxes Consolidation Act, 1997 (as amended) ("Section 110"). Qualifying SPVs Certain rules apply in order for an SPV to qualify for such favourable treatment under Section 110. First, the SPV must hold or manage "qualifying assets" or enter into legally enforceable financial arrangements in respect thereof. A "qualifying asset" includes an extensive range of financial assets (in addition to commodities and plant and machinery) and includes the direct acquisition by the SPV of life settlement policies or the indirect holding by the SPV of life policies via a partnership or trust. In addition the "qualifying assets" acquired by the SPV must have a minimum value of EUR10million on the date they are first acquired or held. Tax treatment The SPV is treated as a trading company for the purpose of calculating its tax liability and is entitled to receive a tax deduction in respect of any payments of interest, including profit participating interest. This allows the cost of funding and other related expenditure to be deductible. The SPV is subject to corporation tax at 25% but with careful planning it is possible to structure transactions so that the SPV is effectively tax neutral. Funding of the SPV The SPV is generally funded by way of medium-term or long-term notes. Loan funding is also possible but this will require an analysis of the residence of the lender. The notes may be issued with a stated interest rate or may be profit participating in nature. Typically, the SPV will issue profit participating notes (known as hybrid debt). The return on profit participating notes can vary with the profitability of the SPV, while still retaining interest deductibility for tax purposes. The transaction can be structured to involve the issuance of senior notes with a fixed interest rate and a subordinated note which is profit participating in nature. If the investors are known at the outset (and it is not anticipated that new investors will come on board in any way other than through the transfer of notes by existing noteholders), a single issuance note structure may be put in place. Alternatively, a note issuance programme may be put in place where

4 Page 3 the SPV will issue notes in separate ring-fenced series whose return is segregated from the return of all other series. In each case a series will be linked to a particular pool of policies and a default with respect to one series will not impact any other series in this way the same result can be achieved as provided for in protected cell company arrangements. No withholding tax on interest payments to investors While there are a number of exemptions available from Irish withholding tax on interest payments, the "quoted Eurobond" exemption is the one most often claimed by investors in Irish SPVs. A "quoted Eurobond" is a security which carries a right to interest, is quoted on a "recognised stock exchange" (such as the Irish Stock Exchange) and is either held in a recognised clearing system or payments in respect of the securities are made through a paying agent located outside Ireland. In addition, interest may be paid gross without the necessity of the note being a "quoted Eurobond" where the recipient of the interest is a person resident in an EU Member State (other than Ireland), in a country with which Ireland has an in force double taxation treaty or a country with which Ireland has signed a double taxation treaty which is waiting ratification. United States/Ireland Double Tax Treaty The US/Ireland Tax Treaty provides a platform for zero US withholding tax in respect of proceeds from life settlements paid to Ireland and both SPVs and QIFs can potentially benefit from such treatment. In order to combat treaty shopping (ie vehicles being established in Ireland solely to benefit from the taxation treaty benefits) the US/Ireland Tax Treaty contains a limitation on benefits ("LOB") provision. All US tax treaties contain an LOB provision which can vary from treaty to treaty, though they are all similar in impact. The LOB provision tries to ensure that anyone who benefits from the provisions of the US/Ireland Tax Treaty is genuinely a US or Irish resident. It limits the provision of certain benefits (including that of reduced or zero withholding tax) to persons who satisfy one of the tests in the LOB provision. Satisfaction of the LOB provision is not a day one test it must be satisfied for each fiscal year in which treaty benefits are claimed. The most relevant parts of the LOB provision are summarised below. Ownership Test At least 50% of an Irish resident vehicle's shares or its "equity" must be held directly or indirectly by "qualified persons" or residents or citizens of the US. The definition of "qualified persons" includes Irish and US resident individuals. Ownership is tested having regard to the status of the last owner(s) in a chain of ownership. This requires that ownership be traced to a person who is entitled to the benefits of the US/Ireland Tax Treaty without reference to its owners (eg a company which passes the "Stock Quotation Test" referred to below). If the SPV or QIF can ensure that the number of non-qualifying US or Irish investors (investing both directly or indirectly) will not exceed 50%, the Ownership Test will be satisfied. Depending on the circumstances, notes issued by a Section 110 company to its investors may be classified as debt and not as equity for US tax purposes and may therefore not be counted towards the 50% threshold. The Ownership Test also requires an examination of tax deductible payments made by the Irish vehicle. This test is known as the "Base Erosion Test" and is outlined further below. Derivative Benefits Test This test will allow a company resident in Ireland access to benefits under the US/Ireland Tax Treaty even though it is not a qualified person (ie a qualifying US or Irish resident), on the basis that the beneficial owners of the Irish vehicle would have qualified for treaty benefits (under the tax treaty between their own country of residence and the United States) had the income in question flowed directly to them. Under this provision, a company that is resident in Ireland shall be entitled to claim benefits under the US/Ireland Tax Treaty, if at least 95% of the aggregate vote and value of the company's shares or equity are directly or indirectly owned by seven or fewer: 1. "qualified persons" as detailed above for the "Ownership Test";

5 Page 4 2. residents of an EU Member State or of parties to NAFTA 1 ; or 3. any combination of these. As indicated above, residents of the EU or NAFTA must qualify for benefits under their own treaties with the US in order to be counted towards the 95%. As above for the Ownership Test, the Base Erosion Test must also be satisfied. The Derivative Benefits Test is useful where the Irish vehicle has a small number of investors from EU or NAFTA countries. Base Erosion Test In addition to satisfying the Ownership Test or the Derivative Benefits Test, it is necessary to also satisfy the Base Erosion Test. This test ensures that a company resident in Ireland which passes the Ownership Test or the Derivative Benefits Test, will not be entitled to benefits under the US/Ireland Tax Treaty, where a significant proportion of the company's gross income is used to make certain types of payments to persons who are not entitled to treaty benefits ("Bad Payees"). The purpose of this test is to ensure that cash is not stripped out of the Irish vehicle to persons who would not be entitled to treaty benefits had they obtained the payments directly. The test provides that if more than 50% of the gross income of the Irish vehicle is accounted for by payments or accruals to Bad Payees, of amounts which are deductible for Irish tax purposes, benefits under the US/Ireland Tax Treaty will not be available. Amounts paid to certain persons (Good Payees) can be ignored for the purposes of the Base Erosion Test. Where the Ownership Test applies, Good Payees are: 1. amounts paid or accrued to a qualified person (ie qualifying Irish or US residents); and 2. arm's length payments in the ordinary course of business for services (for example investment management fees) or tangible property and payments in the ordinary course of business in respect of financial obligations to banks that are residents of either the US or Ireland for treaty purposes. 2 Where the Derivative Benefits Test applies, the Good Payees referred to in paragraph 1 above also include residents of the EU or NAFTA. Stock Quotation Test Under this provision, a company that is a resident of Ireland shall be entitled to claim benefits under the US/Ireland Tax Treaty if: 1. the principal class of its shares or equity are 'substantially and regularly traded' on one or more recognised stock exchanges; or 2. at least 50% of its shares or equity are owned directly or indirectly by a company resident in either Ireland or the US whose principal class of shares are 'substantially and regularly traded' on one or more 'recognised stock exchanges'. The term 'substantially and regularly traded' means trades in such shares are effected on one or more stock exchanges other than in de minimis quantities during every quarter and at least 6% of the shares must have been traded during the previous year. 1 NAFTA is the North American Free Trade Agreement and includes the US, Canada and Mexico. 2 Or a permanent establishment of a non-us/ireland bank in the US or Ireland.

6 Page 5 Application of US/Ireland Tax Treaty to Irish QIFs and SPVs The requirements of the LOB are onerous. However, many transactions have been entered into by Irish QIFs or SPVs, where the LOB has been satisfied and the Irish vehicle has obtained the benefit of zero US withholding tax in respect of death benefits received.

7 Page 6 QIFs A structure chart of a US originated life settlements transaction involving a QIF might look like this: This structure involves holding the policies directly through the QIF which acquires a pool of life policies in the US. The units (shares) in the QIF will be held by a number of investors who satisfy the Ownership Test (i.e. at least 50% of the equity of the QIF will be held by US or Irish "qualified persons"). As per SPV's below the 50% threshold is satisfied.

8 Page 7 SPVs A structure chart of a US originated life settlements transaction involving an SPV might look like this: 34 This structure involves holding the policies through a US trust which acquires a pool of life policies in the US. The shares and 80% of the profit participating notes ("PPNs") issued by the Section 110 Company are held by a number of investors who satisfy the Ownership Test (ie at least 50% of the equity of the company will be held by US or Irish "qualified persons"). While some of the PPNs issued are held by non-qualifying investors (eg a Cayman Fund), the 50% threshold is satisfied. The Base Erosion Test will also need to be considered to ensure access to treaty benefits. 3 The PPN in this example is classified as "equity" for US tax purposes and therefore counts towards the 50% threshold for the Ownership Test. An analysis of what constitutes the "equity" for US tax purposes should be undertaken on a case by case basis 4 The Fixed Rate Notes in this example are classified as debt and not equity for US tax purposes and therefore will not count towards the 50% threshold for the Ownership Test. An analysis of the debt or equity status of the notes issued by a S110 Company must be carried out on a case by case basis. The status of the holders of the Fixed Rate Notes and the PPN will be important for the Base Erosion Test as payments made under these notes will be deductible for Irish tax purposes

9 Page 8 Benefits of Ireland as a financial services location for US related transactions 1. Taxation treatment - as indicated above the Irish taxation system allows for the establishment of QIFs and SPVs on a tax efficient basis 2. Regulated and recognised jurisdiction - Ireland is an internationally recognised onshore jurisdiction providing a transparent regulatory environment for the conduct of securitisation and fund transactions. Ireland has an extensive and expanding double taxation treaty network. Ireland is a Member of the EU and OECD. 3. Excellent infrastructure for conduct of business - Ireland has a well-recognised and established infrastructure including experienced administration companies, trustee/custodian, legal, tax and accounting/audit advisers. 4. Fast track approach - Both QIFs and SPVs can be incorporated within five business days. There are no rulings or authorisations required for the SPV in Ireland the taxation treatment is guaranteed by legislation. QIFs can be authorised by the Central Bank of Ireland within 24 hours of receipt by it of completed documentation (subject to the promoter to the QIF having been approved by the Central Bank of Ireland). Again, taxation treatment is guaranteed by legislation. 5. Listing of QIF \SPV Notes - The Irish Stock Exchange is long established and well recognised as providing an efficient and speedy listing service. 6. Common law jurisdiction - Similar to the US, the Irish legal system owes its origins to the common law tradition there is therefore a natural overlap in the approach taken by lawyers in both jurisdictions in the structuring of transactions and the approach to drafting of transaction documentation. Walkers Dublin Our team, comprised of leading finance and taxation lawyers, corporate administrators and listing agents have advised extensively on the structuring and establishment of US originated life settlement transactions. We are effectively a 'one-stop shop' in this context and we summarise our extensive service offering below: 1. Legal - Our investment funds and structured products and capital markets teams comprise market leading individuals with vast experience in advising on US life settlement transactions. 2. Taxation - We have a market leading taxation advisory and taxation compliance team. 3. Administration and corporate services - We provide book-keeping, directorship, company secretarial, registered office and company compliance services. 4. Listing - We also provide debt listing services. 5. Client information management - Walkers has an online secure database which we call our Client Portal on which clients can access, free of charge, all relevant fund establishment\spv and ongoing operation including directorship and company secretarial information, constitutional documents, board resolutions, compliance filings and, where applicable, financial statements and taxation returns.

10 Page 9 All queries in relation to Life Settlements should be directed to the following people in our Dublin office: Paul Farrell, Partner T: E: paul.farrell@walkersglobal.com Anthony Smyth, Tax Consultant T: E: anthony.smyth@walkersglobal.com Noeleen Ruddy, Senior Counsel T: E: noeleen.ruddy@walkersglobal.com Anne Flood, Senior Vice President (WCSD) T: E: anne.flood@walkersglobal.com Garry Ferguson, Partner T: E: garry.ferguson@walkersglobal.com Petrina Smyth, Partner T: E: petrina.smyth@walkersglobal.com Gayle Bowen, Associate T: E: gayle.bowen@walkersglobal.com Therese Redmond, Vice President Listing Services (WCSD) T: E: therese.redmond@walkersglobal.com Walkers Dublin is part of Walkers Global, a leading world-wide financial services law firm with offices in London, Cayman Islands, Delaware, Jersey, British Virgin Islands, Hong Kong, Singapore and Dubai. For further information on our services outside of Walkers Dublin please refer to John Rogers (john.rogers@walkersglobal.com) or to your usual contact. The information contained in this memorandum is necessarily brief and general in nature and does not constitute legal or taxation advice. Appropriate legal or other professional advice should be sought for any specific matter. July 2011