Market nervous as Noonan eyes tax avoidance structures

The ‘come for the rock-bottom prices, stay for the tax breaks’ pitch lured vulture funds to Irish property

The message to overseas property investors at the height of the financial crisis was simple: come for the rock-bottom prices, stay for the tax breaks.

Now, as a fragile minority Government faces a battle getting its first budget over the line, Minister for Finance Michael Noonan has called time on how buyers of billions of euros of property loans during the crisis have used esoteric vehicles to minimise their tax bills.

The move, announced earlier this month by Mr Noonan as he closed a tax avoidance device in special purpose vehicles (SPVs), known as “section 110 companies”, holding Irish property assets.

Mr Noonan is also targeting the use of other fund structures in the Irish property market, known to include Irish Collective Asset-Management Vehicles (ICAVS), established by the Government last year to lure more international funds to Ireland, and Irish Qualifying Investor Alternative Investment Funds (QIAIFs). It is understood that Real Estate Investment Trusts (Reits) which have been floated on the stock exchange in recent years will not be affected.


About time, say Opposition members including Sinn Féin's Pearse Doherty and Independent TD Stephen Donnelly, who have waged a war this year on how so-called vulture funds have used SPVs to pay little or no tax. Others take a different view.

"The move has caused great concern to the market," said John Moran, managing director of Jones Lang LaSalle in Ireland. "Raising the tax liability on vehicles that were efficient by changing legislation creates uncertainty and reduces confidence in Ireland as a stable tax environment. That will reduce demand for Irish property, which is still in the recovery phase, and, therefore, values."

Originally designed two decades ago to make Ireland an attractive location for international debt securitisation, SPVs can hold a wide range of financial assets, commodities, plant and machinery. However, they have become a vehicle of choice in recent years to hold loans acquired from the National Asset Management Agency (Nama) and the banks.

A raft of buyers of commercial real-estate loans in this country in the past four years have used " tax neutral" SPVs to house the assets , including US private equity firms CarVal, Lone Star and Oaktree Capital affiliate Mars Capital, which has scooped up hundreds of millions worth of mortgages. Others include New York-based investment bank Goldman Sachs and hedge fund Davidson Kempner.

The SPVs are typically loaded with loans from another firm tied to the owner of the assets, with interest paid on the loans minimising the taxable income of the vehicles. Of course, the ultimate holding company is liable for tax on profits. But sometimes this company is based in an offshore tax haven.

For example, an SPV called Promontoria Eagle, set up for US private equity firm Cerberus in 2014 to hold the €5.6 billion of par value loans it bought from Nama, paid just €2,500 tax in its first eight months, by availing of the controversial Section 110 tax status.


Mr Noonan decided earlier this month to narrow the qualifying assets amid rising political noise over “the possible use of aggressive tax practices by some Section 110 companies to avoid paying tax on Irish property transactions”.

From September 9th, profits from Irish property holdings in SPVs will be taxed at the 25 per cent rate applicable to all securitisation activities. However, this will not apply where another company in the asset owner's empire that has provided loans to the SPV is based in Ireland or elsewhere in the European economic area, according accountancy firm KPMG.

However, vulture funds will still be able to hold property overseas in an Irish SPV and pay virtually no tax on them.

The legislative change will lower the price achieved for future portfolios of assets sold in Ireland by between 5 per cent and 10 per cent, according to an adviser to a number of international firms that have been actively buying Irish assets in recent years, who asked not to be named given the political sensitivities surround the issue ahead of the budget.

“Buyers of the assets in recent years would have paid up, or even overpaid, to Nama and the likes, having factored in the tax benefits of using SPVs,” he said.

The adviser also claimed that the move may also prompt funds to re-evaluate residential development projects they are planning under Section 110 structures, further impacting the country’s housing crisis.

Irish commercial property, which slumped by 67 per cent in value during the crisis, has delivered an annualised return of 25 per cent in the three years through June, including capital growth and rental income, according to data compiled by the Society of Chartered Surveyors Ireland and Investment Property Databank.

“The funds have provided significant liquidity to the market and essentially deleveraged Nama, Irish and other banks with impaired loan portfolios,” said Killian O’Higgins, managing director of real estate advisers, WK Nowlan, adding that those with large portfolios still to sell may worry about the appetite of funds using Section 110 structures.

“Other potential investors may see an opportunity, but will vendors bring significant loan sale product to market when a substantial chunk of the market, and the most active part, is disengaged?” he asked.

Ulster Bank is currently seeking to sell €2.5 billon of par value loans, including mortgages, as it nears the end of its deleveraging programme. Nama launched a €3 billion loan sale on September 15th.

"There is potential for unintended consequences if tax changes are implemented in such a sudden manner, particularly if the measures are implemented in a manner that affects commitments already made or assets already acquired," Marie Hunt, head of research at commercial property consultants CBRE Ireland, said in a note to clients last week.

A partner one of the “big four” accountancy firms in Dublin, who also requested anonymity, said, “There’s a balance to be struck between a properly functioning property market, which is dependent on foreign funds, versus a tax system that gives some level of yield.”

However, he said that the Government's move to change the game rules at half time is ironic, as Mr Noonan is vigorously fighting the recent European Commission ruling that Apple pay the State €13 billion of back-taxes with an argument that the EU is trying to apply new standards retroactively.

Ms Hunt said that if the Government doesn’t proceed carefully to limit the adverse impact on the property industry, it could prove “damaging [for] Ireland’s reputation internationally at a time when there is already significant focus as a result of the recent Apple decision”.

She said it could also render construction of planned schemes “unviable” if property values are impacted.

“Ireland is seen as a safe, stable place to do business and that your rights, as a property owner, are clearly defined,” the head of a property investment firm in Dublin said. “Even though the market has performed really strongly in recent years, it’s still pretty fragile. Still, if this move happened two years ago, it would have been a catastrophe and sent overseas investors scrambling.”

Meanwhile, accountancy and property firms are understood to be lobbying the Department of Finance as the upcoming budget is likely to clamp down on the use of ICAVS and QIAIFs to hold Irish property for tax advantages.

“Uncertainty rules the day,” said Mr O’Higgins, “and uncertainty is not good for any market.”

Joe Brennan

Joe Brennan

Joe Brennan is Markets Correspondent of The Irish Times