Marks & Associates, P.C. 
Newsletter
May 2017
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FIRM NEWS

As what we laughingly called winter slinks away, we see our legal work heating up along with the thermometer. We are hoping this trend continues through the second quarter and beyond. Unfortunately, much of this work involves increased concerns with state regulation of our industry, including new concerns regarding interest rate limitations and licensing. Barry will be speaking on this subject at the ELFA Legal Forum this year.

On a better note, our Atlanta office is up and running. We are located at Centennial Tower, 101 Marietta Street NW, Suite 3600, Atlanta, GA 30303. Ian Platt will be reachable at this address, 770.988.5949 or ian@leaselawyer.com. Barry, who like Ian is a member of the State Bar of Georgia, will also be working out of this office from time to time. Our office is located downtown, convenient to Hartsfield Jackson International Airport and the Convention Center.

We will be working in Georgia with Freed Howard LLC, one of Georgia's premier business litigation firms. Gary Freed, Managing Partner of Freed Howard, has over 30 years experience and is, among other things, the Board of Governors of the Georgia State Bar, and active in U.S. - Chinese business transactions.

We are also very pleased to report that Bill Phillips will not be leaving us after all, but will stay on as of counsel to our firm, covering Alabama litigation as well as state and federal bankruptcy law and creditors rights matters. That makes four lawyers, two offices and a special counsel relationship with an Atlanta firm. Those wishing to express sympathy for Tammy may reach her at tammy@leaselawyer.com .

As we did last year, at least four of us will attend the 2017 ELFA Legal Forum in Tampa. Clients who are planning to attend and have not been invited to our annual dinner should contact us asap. If there is any topic on the Schedule you would like us to address, please let us know. The agenda can be reviewed at www.elfaonline.org or by contacting Barry.

Finally, we are hoping to be better at keeping to a monthly mailout of our newsletters, but we need your help. Let us know what topics interest you and we will keep them in mind for articles or at least quick comments (see below).

Be safe. 

                Quick Thoughts to Stir Up Thought

Corporate Guaranties. Credit support is the key to many small ticket and middle market deals. Unfortunately, the guaranty is too often treated as an ancillary document, lumped together with various certificates, invoices and other "paperwork." In fact, the guaranty may be the document most vulnerable to judicial interpretation and interference.
 
Corporate incumbency evidence and authorizing resolutions are at least as important if not more important where a corporate or LLC guaranty is concerned. While it can often be argued that financing the acquisition of equipment essential to the lessee or borrower's business is in the ordinary course of business, guaranties are almost never in the ordinary course of an active trade or business. That means that a board resolution or other evidence of authority is essential.
 
In recent times, the market has shifted to recognizing secretary or officer certificates simply stating that the guarantor has authority to guaranty the underlying obligation, and that the officer signing has authority to bind the guarantor. Unless the certificate signer is a lawyer opining that the corporate documents provide a basis for believing this authority exists, the lessor or borrower is essentially relying on a statement of law by a non lawyer. This statement may be grounds for arguing that there is "apparent authority" for the guaranty, but we greatly prefer to see some actual evidence: a standing or specific board resolution, a provision in the guarantor's charter documents, something more than "they do because I say they do."
 
Lease Terminations. Many lease forms provide that certain obligations, such as the obligation to pay property taxes and indemnities, survive the expiration or termination of the lease. Some do not make this entirely clear. Moreover, many lessors will send a lessee a release/termination notice if the lease is paid off early that acknowledge full payment and satisfaction of the lessee's obligations under the lease.
 
It should be clear in all events, early termination, early buyout, normal expiration, exercise of purchase option or assignment to a new lessee, that certain obligations do not expire with respect to conditions and events during the lease term. A good (bad) example is the vehicle lessors who are served after the lease is over with notices that their lessees didn't pay tolls or tickets during the term. Ouch.
 
Do lenders have to disclose interest rates? This question comes up in a couple of states, such as Georgia, because of the wording of the state's usury statute. Disclosure is required in Maryland and Nevada; but what about other states where there is no clear requirement? Our general advice is that it is sufficient if the borrower can, even if it needs to use a computer, calculate interest from the four corners of the EFA, note or loan agreement (or the entire package of documents it signs). If the amount financed and repayment terms are disclosed, we believe that the lender has a strong argument that it has fairly disclosed all that the borrower needs to see. It doesn't hurt to mention that the interest rate and other terms can be calculated in the miscellaneous section. Also, if the amount financed is different from the sales price of the financed equipment for any reason, some mention of this fact in the document is a good idea.

For a discussion of how all this may impress a court, see Northside Bank v. Mountainbrook of Bartow County, 338 Ga. App. 126 (2016).

Collateral Description. Many practitioners are aware that a description of collateral as "all assets" is sufficient to perfect a blanket security interest when used in a financing statement. 9-504 . It is important to remember, however, that such a broad description is insufficient when included in a security agreement. 9-108, 9-203. In other words, the description of collateral in the EFA, loan agreement or security agreement must be more precise than in the financing statement. This may seem counter-intuitive, but is essential to ensure that a security interest   attaches  to the collateral, which is a precondition to perfection by filing.
 
 
Comment? Question? Want to fuss at us? We love hearing from you!
A Rose By Any Other Name 
(A Thorny Proposition)

A few years ago, we had an article in this newsletter by this name. We were writing about the growth of the use of EFA's in lieu of leases intended as security. Just for fun, here is the list we included of not-true leases;  there must be a million names for  them. 

Our focus this issue is a bit different: leasing professionals, including lawyers and accountants, misuse the names for various types of leases and it might help to go over a couple of definitions.

First, the list from 2013  (we would love to hear from others what can be added to the list):

$1 Purchase Option Lease

$1-out Lease

ALIAS (a lease intended as security)

Buck-out Lease

Capital Lease (often incorrect usage - this is an accounting term)

Collateral Lease

Conditional Sale Lease

Direct Finance Lease (which refers to a number of additional issues, potentially)

Dirty Lease

Disguised Lease

FAS 13 Finance Lease

Finance Agreement

Finance Lease (old usage)

Financing Arrangement

Financing Lease

Full-payout Lease (which is misleading as these leases can contain FMD purchase options in which case they may or may not be true leases)

Higher Purchase (Canada British-influenced companies - thanks Jonathan Fleisher)
Installment Sale Lease

Lease Intended as Security (often called "ALIAS")

Lease-Purchase

Mandatory Purchase Lease

Money-over-money Lease

Nominal Option Lease

Non-true Lease

Not-true Lease

Put Lease

Sales Finance Lease

Synthetic Lease (which opens another can of worms and is largely accounting-driven)

Before we go any further, what is or is not a "lease" is itself much misunderstood: Under state law (which is the law that a bankruptcy court will apply for purposes of determining whether a transaction is a lease or financing), a lease with a "nominal" purchase option is a secured financing and not a lease at all.  UCC ยง1-203 (formerly, 1-102(37)) provides that a lease in which the lessee may acquire the leased property at the end of the term for "nominal" consideration is actually a security interest.  Other UCC tests of a true lease include that the lease term (including mandatory renewals) must not exceed the economic life of the equipment and that the lessee must not be obligated to purchase the equipment. A lease that is terminable by the lessee is a lease, not a financing, but case law and logic dictate that this means terminating without paying out the lease in a normal early termination option. How much rent the lessee pays is not a consideration for UCC characterization purposes. 

The IRS takes a different view, using a much more subjective test that includes the nature of the equipment and rental payments. Case law and IRS pronouncements make it clear that the IRS can challenge a lease of highly specialized equipment, equipment leased for over 80% of its economic life, or other leases in which the "economic substance" of the transaction is a financing. The most common test of a true lease for federal (and most state) income tax purposes is whether the lease contains a "bargain" purchase option.

In other words, while a lease with a $1.00 purchase option is a financing for state law, bankruptcy and IRS purposes, a lease with a $1,000,000 purchase is likely to be upheld as a lease for state law and bankruptcy purposes, but a financing for IRS purposes if the actual end-of-term value of the leased equipment is certain to be, say, $2-3,000,000. The "economic reality" of the deal is that the lessee would be a fool not to buy the equipment and sell it for a 7-figure profit.

There is an issue here. Is a purchase option in a bargain lease not automatically nominal, no matter how many dollars are involved? That has been argued for years. Someday, we will have sufficient case law to answer the question. We think the majority view is no, and nominal means tiny dollars, but bargain purchase options carry a bit of risk in this regard.

None of this applies to the FAS 13 accounting test, which is even more rigid than the UCC test, but is also more comprehensive in some ways. Until the new rules go into effect, an "operating lease" is a lease in which: (1) the lessee automatically acquires ownership at the end of the lease term OR may acquire ownership under a bargain purchase option (like the IRS test), (2) the lease term is greater than or equal to 75% of the useful life of the equipment, or (3) the discounted present value of the minimum required rental payments is greater than or equal to 90% of the value (purchase price) of the equipment at the beginning of the term, using the lessee's borrowing rate as the discount factor.

So what do we mean when we speak of:

capital lease?

This is an accounting term for any lease that does not qualify as an  operating lease. A capital lease might or might not be a true lease for UCC purposes (such as a lease with a fmv purchase option where the pv or the rents is more than 90% of the equipment cost). A capital lease might or might not be a true lease for IRS purposes under similar and other tests.

By the same token, an  operating lease is an accounting term only. A first amendment lease structure in which the lessee can either renew or purchase the equipment might well flunk the true lease test for IRS purposes and vice versa.

Capital Leases and Operating Leases are accounting terms only.

finance lease?

Arrrrgh! (you may quote me). The term finance lease was used for 50 years to mean a financing...a lease with a nominal purchase option....a lease intended as security. For UCC purposes, since the adoption of UCC Article 2A, the meaning is entirely different. A finance lease today means a true lease, not a financing, in which the lessor is not the vendor (supplier) of the equipment and is only acquiring ownership of the equipment to lease it to the lessee. The lessee must have access to the actual purchase agreement including the warranties supplied by the supplier because the lessee automatically has the benefit of those warranties, while the lessor is absolved of liability for them and the equipment's malfunctioning. Automatic hell or high water.

A Finance Lease is a lease, not a financing for UCC purposes. It is a lease in which the lessor is merely providing funds and is not the equipment vendor or a rental company. (There is more to finance leases, for another issue)
             
   A  buck-out lease?

This is a financing, not a lease. The misleading thing here is that a $1 purchase option is not the only way to create such a transaction. Any nominal purchase option can be a financing. In some states (Florida), the Revenue Department will look at any purchase option of  $101 or less as nominal for sales tax purposes. It is almost certainly nominal for UCC purposes. A lease in which the lessee leases for the entire economic life of the equipment, or automatically takes ownership, or is required to buy the equipment (essentially, a balloon payment) is also a financing.

There are many ways to create a financing as opposed to a lease
              
  A  PUT Lease.

This can mean various things. A Payment Upon Termination is a balloon payment, a final rent payment or mandatory purchase payment that the lessee must pay. A lease with this kind of PUT is a financing. A "put" also refers to a right of the lessor to force the lessee to buy the equipment at the end of the lease. This can be more complicated. Why would the lessor want this right? Where a TRAC is not available (where the lessor wants a true lease but the equipment is not a certificated motor vehicle) the lessor could face environmental clean-up liability or other risks if the equipment is returned. What to do?

If the lessor doesn't care whether it has a true lease or a financing, the right to require the lessee to purchase the equipment can be at any price. Where the lessor wants a true lease for IRS purposes, the put right must be at less than anticipated fair market value - a bargain purchase price. This works in the opposite way of a purchase  option ; a true lease can have a bargain put but not a bargain option. The situation is not entirely clear for tax purposes and much less clear for UCC purposes where there is no statutory law directly on point.

It is safest to require the lessee to buy the equipment under certain circumstances. The lessor can reserve the right to keep the equipment as it comes off lease, but this can create uncertainty as to tas and UCC treatment.

A Brief Word on Tax Reform
                                                                
Yikes

No diatribe on the pro's or con's of the current Administration or the political theory behind Mr. Trump's outlined tax reform. Just a word or two to the industry from someone who weathered "ERTA" and "TEFRA" and remembers (sigh) "ITC" and what it stood for, both literally and in terms of policy and effect on our economy and industry.
 
simple Tax Code that the average citizen could understand would be very nice.
 
Lower taxes for everyone would be very nice.
 
Neither of these has much of anything to do with economic growth, new jobs, bringing business and manufacturing back from overseas or any of the other stated goals. Leaving more money in the hands of America's businesses is always a good idea but it has never been shown to stimulate significant growth.
 
What has been shown to stimulate economic growth, and logically is the one thing certain to work, is engineering the Tax Code to encourage investment by business and spending by consumers. I have to believe that American businesses are ready to buy American-made equipment and technology, if the money is available. There are, of course, limits on what the World Trade Organization would label "government subsidies", but we are already on a course to push that envelope.
 
Once upon a time, business was encouraged to invest in new equipment to ramp up production, increase jobs and make the pricing on American-made goods competitive due to efficiency and state-of-the art production. Once upon a time, American banks and financial institutions were encouraged to provide investment funds to those businesses. The American lenders were also allowed, if not encouraged, to invest overseas. There was plenty of investment dollars to go around; it did not significantly increase interest costs domestically, only improve margins. Friendly foreign governments were even friendlier because American bankers helped build wastewater treatment plants and finance railway systems.
 
Once upon a time, the machine that was American equipment leasing and finance was running like a little top and not wobbling a bit. OK, there were greedy people. There was fraud. There were fools making foolish investments and loans and begging to be burned. The greedy lenders who bought bogus real estate appraisals and made predatory loans that triggered the crash were not OUR people, but we had a few bad actors who contributed to our industry's weakened reputation. The result is a frightening growth in state regulation, but that is a rant for another day.
 
The bottom line (a term coined in the very happy growth days of my youth) to all this is that what politicians and the uneducated call "loopholes" includes sacred cows like the home mortgage interest deduction and deductions for charitable contributions. The term is also loosely applied to deductions that will be significantly less valuable, if not eliminated, but the Administration's proposal. Eliminating these beneficial "loopholes" would be a mistake. It would be nice to have more money to pay dividends and executive salaries, but that doesn't accomplish the goal.
 
Reasonable top and mid-tier corporate tax rates, along with tax credits and deductions designed to stimulate the re-tooling of American business is a much more reliable way to jump-start the economy while keeping the deficit under control. Unfortunately, that is something that doesn't fit into a sound-bite that will excite John Q. Public. It is up to those of us who deal with buyers and sellers of business equipment to speak up or no one else will.
 
And I just did.
 
 
BSM


Birmingham Office
400 Century Park South
Suite 100
Birmingham, AL 35226
(205) 251-8301

Direct Mail To: 
P.O. Box 11386
Birmingham, AL 35202
 
Barry S. Marks   
Direct:  205.251.8303 โ”‚ barry@leaselawyer.com
 
Matthew D. Evans   
Direct:  205.251.8302  โ”‚ matt@leaselawyer.com
 
_________________ 

Atlanta Office
Centennial Tower
101 Marietta Street NW #3600
Atlanta, GA 30303

P.O. Box 566726
Atlanta, GA 31156
 
Ian J. Platt  
Direct:  770.988.5949  โ”‚ ian@leaselawyer.com
 

___________________________________
 
The  material in  our newsletter s and on  our web site is for informational purposes only and is not legal advice.  Neither your review or use of any of such  materials  nor any correspondence which does not expressly confirm an attorney-client relationship create s an attorney-client relationship between you and  our firm or any of  our attorneys. You should not act upon any  information  in any of our newsletters or on our web site without seeking advice from a qualified attorney, accountant or other professional. Please note that you should not send  us any confidential information until you have received written agreement from  one of our attorneys to perform legal services. Unless you have received such  a written agreement, we will not consider any information you send us as confidential. No representation is made that the quality of the legal services to be performed  by our firm or any of our attorneys is greater than the quality of legal services performed by other lawyers.