Financial leasing agreements gained legal force under Turkish Law with the Financial Leasing Law No. 3226 dated 28 June 1985 ("Annulled Law") and Statutory Decree No. 90 dated 30 September 1983 on Loan Transaction. Said legislation had remained in force for almost 30 years; however, considering the practical drawbacks and the necessities in business life, it has been repealed with the Financial Leasing, Factoring and Financing Companies Law No. 6361 dated 13 December 2012 (Law No. 6361).
In this article, financial leasing agreements concluded by sale and lease back method (sale and lease back agreements), a new notion brought by the Law No. 6361, is analyzed.
What is Sale and Lease Back Method?
Sale and lease back is the financial leasing method which enables businesses to sell an asset, property rights of which is owned by said business, to a financing company and continue to use such asset by leasing it back from the same financing company by means of a financial leasing agreement. Immovable properties (real estate) and movable goods with second hand value can be the subject matter of sale and lease back transactions. In this context; immovable assets such as office buildings, stores, hotels, factory buildings, depots and movable assets such as machinery, equipment, production lines, air, sea and land vehicles and their equipment may be the subject matter of sale and lease back transactions.
Sale and Lease Back Agreements under the Context of Annulled Law
Article 4 of the Annulled Law defines the financial leasing agreement as; "the agreement giving lessee the possession of the good, which is requested and selected by the lessee him/herself and purchased from a third party by the lessor or procured by any other legal means by the lessor, entitling the lessee with full benefits; on the condition that such agreement shall not be terminated for a certain period of time in return of a rental fee." In some of their decisions, the Court of Appeals (Yargıtay) and the Council of State (Danıştay), ruled that sale and lease back transactions are not within the scope of financial leasing agreements1. In this context, Court of Appeals and the Council of State concluded that financial leasing agreements are based on the involvement of three parties, and therefore it is mandatory for the lessor to procure the subject matter of the financial leasing agreement from third parties; from this point of view, above said Courts reasoned, since only two parties involve in sale and lease back transactions, such transactions are not in the scope of Annulled Law.
Sale and Lease Back Agreements under the Context of Law No. 6361
Article 18 of the Law No. 6361 defines the financial leasing agreements as; "the agreement giving lessee the possession of the good, which is requested and selected by lessee him/herself and shall be purchased from third parties or from lessee him/herself by lessor or procured through any other legal means by lessor, entitling lessee full benefit during the term of lease in return for lease payment to lessor."
The Law No. 6361 sets forth without any further hesitation that sale and lease back transactions are within the scope of financial leasing agreements by clearly stating that the subject matter of the financial leasing agreement can be acquired directly from the lessee.
The fundamental difference of a financial leasing agreement concluded by sale and lease back method compared to a regular financial leasing agreement is the party from whom the subject matter of the financial leasing is acquired. In sale and lease back transactions, the financial leasing company purchases the subject matter of the agreement directly from the lessee, and immediately leases it back to the lessee2. Thus, in a financial leasing agreement concluded by sale and lease back method; promise for sale and promise for lease, and sale, and finally financial leasing are all intertwined together. More precisely, in the first step, prospective lessee promises to sell the subject matter of the leasing agreement and lease it back from the lessor; in the same way, the lessor promises to purchase the subject matter of the leasing agreement and then lease it back to the lessee. In the second step, the subject matter of the financial leasing agreement is sold to lessor by lessee, and in return of the transfer of the subject matter of the financial leasing to the lessor, lessee is provided with financing. In the third step, the subject matter of the financial leasing agreement, property right of which is now transferred to the financing company, is leased back to the lessee so that lessee can continue to use it for the price and term specified under the financial leasing agreement. The last step is to retransfer the property right of the subject matter of the lease agreement from lessor to lessee at the end agreement's term.
Why Sale and Lease Back?
- Sale and lease back agreements enable those companies to take place in public procurements which otherwise could not since they are unable to match the ratios specified under the public procurement legislation because of the un-updated value of their immovable or could not obtain the letter of reference from the banks regarding their financial stability.
- This method enables companies to raise additional financing in their working capital. For example, if certain immovable properties under company's operating asset are not used directly for production of goods or services in company's commercial activity, but they were earlier purchased for investment or operational purposes and became idle over time, such assets could be encashed without hindering operations of the company.
- Financial leasing agreements concluded by sale and lease back method allow short term debts of companies to be restructured and thus such short-term debts can be converted into manageable long or medium term debts.
Advantages of the Sale and Lease Back Method in Terms of Taxation
- Income obtained from the sale of immovable property subject to sale and lease back agreement is completely exempted from corporate income tax provided that the property right of such immovable is repurchased at the end of lease term.
- Provided that the property rights of the subject immovable property of the leasing agreement is retransferred to the lessee at the end of the lease term; sale, lease and transfer transactions are all exempted from VAT.
- Financial leasing agreements concluded by sale and lease back method and any related agreements therein (such as transfer, amendment and security agreements) are exempted from the stamp tax.
- With regard to the sale of immovable property subject to sale and lease back agreement, provided that property rights of the subject immovable of the leasing agreement is repurchased at the end of lease term, only 0 4,55 title deed fee is paid by transferor (lessee) for the sale of said immovable to the lessor. No title deed fee is accrued for the sale of the immovable back to the lessee at the end of lease term.
The Form Requirement for Sale and Lease Back Agreements
Article 8 of the Annulled Law stated that financial leasing agreements shall be drafted by and concluded before notary public. However, Article 22 of the Law No. 6361 states that financial leasing agreements shall be concluded in written form. In this regard, Law No. 6361 does not require an additional requirement with regard to financial leasing agreements to be concluded by sale and lease back method.
Significant Issues Regarding Sale and Lease Back Agreements
In the pre-contractual period, sufficient due diligence regarding the financial and legal conditions of the company, which is to sell and lease back the subject matter of the leasing agreement, should be carried out by the financial leasing company. Among other financial risks, there exists a risk to become party to a lawsuit filed by relevant third parties for annulment of title deed, claiming that subject immovable of the financial leasing agreement is sold and transferred for the purposes of hiding assets.
On the other hand, subject immovable of the financial leasing agreement is valued and priced by "Real Estate Appraisal Companies". These companies carry out their activities under the capital markets legislation and determine, independently and objectively, the estimated value of real estate, real-estate project or rights and benefits attributed to real estate. The companies carry out these activities through appraisal specialists. These specialists produce their appraisal reports in compliance with internationally recognized appraisal standards upon analyzing the conditions of the market and business environment independently and objectively. Across Turkey, there are approximately 250 appraisal companies.
Different real estate appraisal companies can find different results regarding the value of the appraised real estate. Among other variables, this is mainly because of the appraisal method used by the real estate appraisal company to determine the value of the real estate. Furthermore, potential clients request financial leasing companies to over value their real estate with the intentions of gaining additional benefits. Given the conditions of competition in the market, considering to meet such requests may result in disadvantage of the financial leasing companies for various reasons. In order to prevent this, it is in the best interest of financial leasing companies to act collectively. Since said appraisal reports are vitally important while determining the amount of financing to be provided by the financial leasing company, any inconsistency in such reports poses a risk both for the appraisal company and financial leasing company. Article 10 of the Communiqué on Principles Regarding Appraisal Companies and their Listings by the Board states that "Real estate appraisal companies and appraisal expert who signs the appraisal report are jointly responsible for the losses and the damages to their customers and the third parties making use of that report."
Financial leasing agreements concluded by sale and lease back method involves more complex transactions compared to a traditional one. When the subject matter of the leasing agreement is a real-estate, legal obligations and principles of real-estate law should be taken into account. In practice, financial leasing agreements are drafted by the financial leasing companies as standard agreements and provisions of such standard agreements apply to the sale and lease back transactions as well.
However, financial leasing agreements concluded by sale and lease back method involve a few intertwined legal transactions by nature when compared to a traditional financial leasing agreement; accordingly, each of these transactions should be established separately and legal obligations of which should be satisfied separately. Indeed, this principle is adopted in certain jurisdictions of the United States. In this respect, sale and lease back agreement is concluded in the first place. Terms and conditions of the sale and lease of the subject real-estate are specified under "sale agreement" and "financial leasing agreement" attached to the said "sale and lease back agreement" to be executed simultaneously.
It should be provided in the financial leasing agreement that the prospective lessee pay punitive damages if such lessee does not sell the subject real estate of the leasing agreement after concluding the sale and lease back agreement.
Standardized Terms and Conditions under Sale and Lease Back Agreements
Another issue to be analyzed herein is the applicability of standard terms and conditions to the financial leasing agreements concluded by sale and lease back method. Article 20 to 25 sets forth certain implications of standard terms and conditions. In accordance with the Article 20 of the Code of Obligations, standard terms and conditions are defined as:
"Standard Terms are contractual stipulations which have been drafted solely by a party and submitted to the other party in advance of a contract is concluded so as to be used in many similar contracts to be concluded subsequently. When classifying these terms, no regard should be made upon their scope, font type or shape or whether they are located in the text or annex of the contract."
In accordance with this article, in case; a) one of the parties to an agreement drafts provisions of such agreement unilaterally, b) provisions of agreement are drafted in order to be used in similar agreements to be concluded in the future, c) unilaterally drafted agreement is submitted to other party without negotiation and deliberation, then relevant provisions of such agreement are deemed as standardized terms and conditions and in accordance with Article 21 of the Turkish Code of Obligations such standardized terms and conditions are deemed as "unwritten." Furthermore, in accordance with Article 22 of the Turkish Code of Obligations, if standard terms and conditions in an agreement are deemed "unwritten", provisions other than such standard terms and conditions prevail (remain in force). Accordingly, the party drafted the standard terms and conditions cannot claim that he/she would not have concluded the agreement with remaining provisions if the provisions deemed unwritten were not in the agreement.
Therefore, in order to prevent provisions of financial leasing agreements concluded by sale and lease back method to be deemed as standard terms and conditions and to ensure such provisions remain in force, opposite party to the agreement should be clearly informed about the said provisions and such party should agree on accept them. As stated above, important criteria for determining certain provisions of the agreement as standard terms and conditions is to submit them to the opposite party without negotiation and deliberation. In order for such provisions not to be defined as standard terms and conditions, each provision should be negotiated with and accepted by the other party and most importantly this issue should be proved in case a dispute has arisen between the parties. In light of these, we are of the opinion that drafting a custom made agreement which is specifically prepared considering the needs of the opposite party is the best solution to prevent the provisions of financial leasing agreement to be defined as standard terms and conditions. However, we believe that such standard terms and conditions protecting interests of both parties should remain in force as long as the opposite party has been clearly informed concerning the cons of such provisions and above stated principles and prohibitions under the Turkish Code of Obligations are taken into consideration.
1  1 Yarg. HGK 27.12.1995 T. E.1995/12-787 K. 1995/1157, Yarg. 12HD. 11.06.2002 T. 2002/11320E., 2002/12506K. Danıştay 7.D, E. 1999/1904, K. 1999/4122
2 Murat Topuz, 6361 Sayılı Finansal Kiralama, Faktöring ve Finansman Şirketleri Kanunu Çerçevesinde Finansal Kiralama Sözleşmesi, Ankara, Adalet Yayınevi, 2013, s. 74.
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.