Substance of an arrangement
Entity A leases a specialised asset that it requires to conduct its business to an Investor and leases the same asset back for a shorter period of time under a sublease. At the end of the sublease period, Entity A has the right to buy back the rights of the Investor under a purchase option. If Entity A does not exercise its purchase option, the Investor has options available to it under each of which it receives a minimum return on its investment in the headlease – the Investor may put the underlying asset back to Entity A, or require it to provide a return on the Investor’s investment in the headlease.
The arrangement achieves a tax advantage for the Investor who pays a fee to Entity A and prepays the lease payment obligations under the headlease. The agreement requires the amount prepaid to be invested in risk-free assets and, as a requirement of finalising the execution of the legally binding arrangement, placed into a separate investment account held by a Trustee outside of the control of the entity.
Over the term of the sublease, the sublease payment obligations are satisfied with funds of an equal amount withdrawn from the separate investment account. Entity A guarantees the sublease payment obligations, and will be required to satisfy the guarantee should the separate investment account have insufficient funds. Entity A, but not the Investor, has the right to terminate the sublease early under certain circumstances (e.g. a change in local or international tax law causes the Investor to lose part or all of the tax benefits, or Entity A decides to dispose of (e.g. replace, sell or deplete) the underlying asset) and on payment of a termination value to the Investor. If Entity A chooses early termination, then it would pay the termination value from funds withdrawn from the separate investment account, and if the amount remaining in the separate investment account is insufficient, the difference would be paid by Entity A. [SIC-27.A2(a)].