Friday 21 July 2017

The jury remains out on latest changes to property tax regime

Michael Noonan Picture: PA
Michael Noonan Picture: PA
Dearbhail McDonald

Dearbhail McDonald

Following the slaying, of sorts, of S110s, will we now see the collapse of the ICAVs?

Will there be a capital flight of investment funds or will overseas investors who purchased distressed property assets through 'tax neutral' vehicles just suck up a new 20pc withholding tax?

The jury is still out on the most significant changes to Ireland's property taxation regime in decades.

For months, the Government flip-flopped on the use, by predominantly overseas private equity funds, of new and not so new tax structures that allowed them to acquire, manage and trade a vast swathe of assets on a de facto tax-free basis.

Section 110 of the Taxes Consolidation Act 1997, regarded as the cornerstone of Ireland's onshore debt-securitisation regime, allows qualifying Irish tax-resident SPVs to lawfully engage in an extensive range of financial and leasing transactions in a tax-neutral manner.

The vehicle is key, for example, in the highly competitive international capital and debt markets sphere and covers securitisations such as collateralised loan obligations (CLOs) that acquire commercial loans and issues bonds to finance acquisitions.

S110 companies (of which there are more than 2,000) remained largely immune from public scrutiny until their use and suspected abuse by so called vulture funds who acquired billions of euro of Irish property assets without paying any tax on their Irish earnings and profits.

The revelation that vulture funds had acquired property assets, including distressed mortgage loans, while paying minimal or no tax, caused a public outcry which reached new heights after the European Commission's controversial - and complicated - Apple tax ruling.

Last Thursday's Finance Bill saw Finance Minister Michael Noonan, in a well flagged move, seize S110s by the throat, restricting their use by property companies. But he also introduced a series of exemptions to protect bona fide international finance activities - such as CLOs - that could lead to more than a €1bn of fresh credit into the Irish market.

That's good news for funds such as the Cardinal Capital Group, which provide subordinated real-estate debt financing for investment, development and loan refinancing. But the closing of the S110 'loophole' (a misnomer, as there was nothing unintended about its legislative intent) is not what has spooked the funds industry and its stellar cast of lawyers, accountants and advisors supporting.

Current fears are centred on another potent change signalled in last Thursday's bill, namely the imposition of a 20pc withholding tax on qualifying investor alternative investment funds (QIAIFs) including ICAVs which are also fully exempt from Irish tax on their income and profits.

ICAVs (the catchy moniker stands for Irish Irish Collective Asset-management Vehicles) are the new kids on the block that quickly became the default choice of structure for asset managers seeking to establish regulated funds here - especially property ones - following their enactment last year.

More than €10bn worth of commercial and residential property are held in ICAVs which - unless additional exemptions are carved out for longer term investors - may now disappear as quickly as they arrived.

While the cataclysmic warnings of capital flight in advance of the Finance Bill may have been overplayed, the proposed changes to ICAVs could affect the price that certain funds will be willing to pay for property assets. This, in turn, could potentially rain on the capital values and liquidity parade.

There's no suggestion, yet, that Minister Noonan will target other asset classes.

Indeed, Noonan has fallen over himself in recent weeks to say the changes are "highly targeted" and will not have any adverse impact on Ireland's funds industry where 18 of the top 20 global asset managers have domiciled funds.

That hasn't stopped the round-the-clock conference calls in the last 72 hours between investors and advisors asking what the Finance Bill means and whether the highly targeted changes have fundamentally altered the taxation of Irish property, which they undoubtedly have.

The new bill is expected to include dedicated anti-avoidance measures during its passage through the Dail.

But can Noonan effect such explicit if targeted changes without avoiding harm to the wider funds industry?

It was once death and taxes, but is death the only certainty now?

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