Turkey: Rising Method For Credit Supply; Sale And Leaseback Agreements As Regulated Under The New Code And Underlying Tax Advantages

Introduction

Lease agreements allow one to transfer an asset's possession to another party for a certain period of time and in exchange for something of value while retaining its ownership. In other words, the asset subject to lease obtained from a third party or through any other means is handed over to the lessee, while the lessor still has its ownership. The lessee pays the lease price in installments during the course of the lease period. At the end of the term of the agreement, the lessee has the right to choose either to return the asset to its actual owner or to acquire the ownership of the asset by paying the purchase price stipulated in the lease agreement.

In order to keep up with the technological developments, investors prefer to enjoy the usufructuary rights of certain assets by leasing them rather than having their ownership. Accordingly in the past 10- 20 years, there is a significant tendency towards lease agreements as a financing instrument. More favorable tax regulations for leasing and the difficulties in taking loans also increase the demand for leasing transactions.

"Sale and leaseback", on the other hand, is an agreement where the company which is in need of cash (lessee), sells its asset to the lessor, obtains a source of finance, subsequently leases the same asset and thus maintains its direct possession.

I. Sale and Leaseback Agreements and the former Financial Lease Act

The former Financial Lease Act¹ (FLA) defined lease agreements as "agreements which enable the transfer of the possession of the leased property, obtained from a third party or through any other means, to the lessee in order to receive all its benefits in exchange for the payment of a rent.

This definition had led to several views as to whether to deal with sale and leaseback agreements under the scope of this Act. The condition that the leased property shall be provided by a third party was interpreted in a way that the "third party" shall not refer to the lessee. However, the afore mentioned reference in the FLA which indicates the procurement of the asset "through any other means" makes such argument controversial, since this expression allows the parties to conclude a sale and leaseback agreement without the involvement of a third party².

Moreover, Article 24 of FLA stipulated that Article 766 of the Turkish Civil Code shall not be applicable to financial lease agreements. According to Article 766 of the Turkish Civil Code, acquisition of a real right on a movable property without the transfer of actual possession shall not be effective before the third parties if such acquisition has been realized with the intention to derogate from the principles regarding chattel mortgage. It has been contended that the intention of the lawmaker is to cover also sale and leaseback agreements with reference to such prohibition within the FLA³.

Nonetheless, the Court of Appeals decided otherwise, supporting the argument that sale and leaseback agreements are excluded from the scope of FLA. The Court grounded its decision on two bases. The first one is the wording of Article 4 of FLA, which stipulates the procurement of the asset from a third party. According to the Court, sale and leaseback transaction is bilateral in contrast to the regulation in Article 4 of FLA, which sets forth a trilateral relationship.

The second argument of the Court was Article 15 of the FLA which prohibits the assignment of the possession and the sublease of the leased asset to a third party by the lessee. According to the Court, such articles demonstrate that sale and leaseback agreements are not covered by the FLA⁴.

The Council of State ruled in one of its decisions in line with the decision of the Court of Appeals as well. According to the decision of the Council, procurement of the asset "through any other means" enables the lessor only to acquire the ownership of the asset in a way other than a sale contract (e.g. donation). Thus, such expression cannot be interpreted as if sale and leaseback transactions shall be accepted within the scope of the FLA.⁵

II. Sale and Leaseback Agreements and the Law on Financial Lease, Factoring and Financing Companies

Law on Financial Lease, Factoring and Financing Companies⁶("Law on Financial Lease") abrogating FLA clarified the discussions on the legal characteristic of the sale and leaseback agreements.

Article 18 of the Law on Financial Lease clearly indicates that the sale and leaseback agreements are subject to the regulations under this law. According to such article the asset may be obtained either from a third party or from the lessee or through any other means. Statement of grounds for the Law on Financial Lease indicates the intention of the lawmaker to include the sale and leaseback agreements to the scope of such law as well.

It is stated as follows: "This article allows for the procurement of the asset subject to financial lease not only from third parties but from the lessee itself and thus enables to conclude sale and leaseback agreements which are of common financing instruments."

The main difference between an ordinary lease agreement and sale and leaseback is the party which the leased asset is supplied. The asset subject to sale and leaseback is a property of the lessee instead of a third party. Thus the company would be capable of utilizing the money gained from the sale of its asset to the leasing company and would be at a position to make new and more profitable investments.

One other difference is that the leased asset through sale and leaseback mechanism is naturally a used (second hand) asset on contrary to a supply from a third party where the leased asset is a new one.

Another difference reveals itself in the ownership of the asset at the end of the term of the lease. In lease agreements, the lessee may be entitled to the ownership right of the asset in the event where the agreement contains a clause stipulating a call option for the lessee. However it's typical for the sale and leaseback agreements that the lessee purchases the asset when the agreement expires. Some of the tax advantages explained in the next section are only applicable, on the condition that such purchase takes place following the expiry of the agreement.

Apart from such differences, the regulations on financial lease agreements also apply to sale and leaseback agreements.

Sale and leaseback agreement sets forth the completion of a line of several transactions. This three-phased transaction chain can be specified as follows:

1. Financial lease company (the lessor) purchases the asset from the lessee (sale and financing phase).
2. The lessor leases the asset back to the lessee (leaseback phase).
3. The lessee purchases the asset from the lessor back at the end of the term of the agreement (transfer of the ownership rights phase) or returns its direct possession to the lessor.

One might presume that sale and leaseback agreements are collusive transactions in nature. However, fraud against law, hiding assets to abscond from the creditors or abuse of rights will cause the nullity of the transaction and therefore violation of the law through collusion will thus be prevented⁷.

It shall also be noted that new regulations provide several tax advantages in sale and leaseback agreements especially when the leased asset is a real estate. Thus, leasing of a real estate through sale and leaseback transactions is expected to become more popular.

III. Tax Regulations on Sale and Leaseback Agreements

As provided above, sale and leaseback agreements become more preferable as a financing instrument due to new arrangements in taxes. With the new regulations, the real estate subject to a sale and leaseback agreement will be registered in the name of the lessee at the end of the term of the agreement, free of the charges that accrue before the title deed⁸.

However, the lessee should pay a small fee at the rate of % 0,455 at the first phase, when the lessor purchases the asset. In case where the lessee does not purchase the asset back from the lessor, an additional amount should be paid by the parties, as if the asset was purchased as per a sale contract⁹.

Sales transactions realized as per a sale and leaseback agreement are exempted from the corporate income tax both in sale/financing phase and transfer of the ownership rights phase with the leaseback purpose and provided that the lessee purchases the asset when the agreement expires. As a principle, the Corporate Tax Law stipulates this exemption for real estates which the company holds for more than 2 years. When sale and leaseback agreements are concerned, fulfilling this condition is not required¹⁰.

Sale, purchase and lease transactions realized in such three phases listed in the previous section are also exempted from the value added tax. It shall be noted that, such exemptions in corporate tax and value added tax include only the real estates. Such taxes do arise from the sale and leaseback agreements when movable properties are concerned.

Finally, financial lease agreements are exempted from the stamp duty. Therefore, no stamp duty arises concerning the sale and leaseback agreements as well¹¹.

Conclusion

Sale and leaseback is an effective financing instrument for the businesses in need of cash, which enables them to transfer the ownership of their asset to the lessor and lease it with the option of purchasing it back at the end of the term of the agreement.

During the period which the FLA was in force, despite opposing views of the scholars, the Court of Appeals and the Council of State ruled that the sale and leaseback agreements are not subject to the said Act. However, the Law on Financial Lease, Factoring and Financing Companies clarified that the sale and leaseback agreements fall under the scope of the Law.

With this clear approach of the law to sale and leaseback agreements and with new favorable tax regulations that came into force thereafter, it would not be an assertive declaration that sale and leaseback agreements would be one of the most popular tools for companies which are in need of financing.

Footnotes

1. Nr. 3226 dated 10.06.1985, Official Gazette Nr. 18795 dated 28.06.1985

2. Murat Topuz, 6361 Sayılı Finansal Kiralama, Faktoring ve Finansman Şirketleri Kanunu Çerçevesinde Finansal Kiralama Sözleşmesi, Ankara, Adalet Yayınevi, 2013, p. 79.

3. Erden Kuntalp, "Finansal Kiralama Kanunu'nun Uygulanmasında Ortaya Çıkan Bazı Sorunlar: Sat ve Geri Kiralama İşlemi", Leasing Dünyası, Sayı:1, Ağustos 2001, p. 4.

4. Assembly of Civil Chambers of the Court of Appeals 1995/12-787E, 1995/1157K, dated27.12.1995, 12th Chamber of the Court of Appeals 2001/9094E, 2001/6754K dated 19.04.2001, 12th Chamber of the Court of Appeals 2002/1652E, 2001/3201K dated 14.02.2002.

5. 7th Chamber of the Council of State, 1999/1904E., 1999/4122K

6. Nr. 6361, dated 21.11.2012, Official Gazette Nr. 28496 dated 13.12.2012.

7. Dönmez, "Finansal Kiralama Konusu Malların Haczi", TBB Dergisi, Sayı 79, 2008, p. 326.

8. Law on Financial Lease Art. 37/2.

9. Law on Financial Lease Art. 51.

10. M. Fatih Köprü, "Sat ve Geri Kirala" İşlemlerinde Vergi Avantajları, Ekonomist, 22.09.2013, p. 58, 59.

11. Law on Financial Lease Art. 37/1.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.