Brexit and equipment leasing
By Sarah Dyke and Alexander Hewitt, Dentons
Sarah Dyke, (Partner, Dentons) and Alexander Hewitt (Professional Support Lawyer, Dentons) examine key potential impacts of Brexit on equipment leasing. Specifically, this article looks at Brexit’s potential effects on: English leasing law; current leasing transactions; domestic regulatory burdens on UK lessors; governing law and jurisdiction clauses in cross-border equipment leases; financial regulatory barriers to leasing from the UK into EU states; and VAT or its replacement and other taxes and duties.
Some endeavours are so complex that it is impossible to predict their results in advance with any degree of certainty. A film industry saying sums this up in three words. “Nobody knows anything”. You could say those words perfectly describe the risks of making predictions about Brexit’s effects on anything – including on equipment leasing.
There is another saying from the film industry: “You were only supposed to blow the … doors off!”. Notoriously, the wife of leading Brexit campaigner Michael Gove said this to her husband on the morning the “leave” vote was announced. Her meaning? It’s one thing to shake things up by co-leading a campaign you think you will lose. It is an entirely different thing to win that campaign without any plan of any description as to how to take Brexit forward when you do.
You could add that it is still not clear whether there is a detailed plan on taking Brexit forward. And that doing so will, at a minimum, involve the infinitely complex and interconnected projects of:
- seeking to negotiate a set of new trading relationships (for goods, for services, or for particular types of goods or services) with the EU – any one of whose member states could veto the whole enterprise;
- seeking to negotiate new trade deals with non-EU countries around the world; and
- the UK Parliament addressing the many thousands of laws passed in the UK, or introduced into the UK’s laws by EU law, since it joined the EEC in 1973 by repealing them, or by repealing and then re-enacting or amending or replacing those laws.
For these reasons, the analysis below is a preliminary and high-level guide only to certain key issues affecting lessors in relation to Brexit. Further, this article does not consider leasing transactions with consumers. Lessors would therefore be prudent to keep the implications of Brexit under review as it progresses.
Will Brexit change English leasing law? In English law leasing transactions, the laws that govern the lease and related documents mainly come from the common law – with a few English law statutes sometimes also applying. For example, the Unfair Contract Terms Act 1977 sometimes applies to “hell or high water” clauses.
The main English laws that apply to leases relate to contracts, sales, assignment or novation and hiring. EU law has had very little impact on these aspects of English law. So Brexit has few implications for English leasing law.
Has the referendum vote had, or will Brexit itself have, major effects on current leases? This is unlikely for most leases. However, post-Brexit cross-border litigation under current leasing documents may be affected by Brexit. For our high-level views on those litigation issues, please see the section below on governing law and jurisdiction clauses in leases and on enforcement in the EU of English court judgments.
At the time of writing, the referendum vote has not changed English (or other UK) law or EU law. Thus no change of law related provisions in leases (such as “increased costs” clauses in some finance leases) will so far have been triggered. This may change as Brexit progresses. It is hard to imagine any form of Brexit, that could accurately be called Brexit, which would not change UK law.
The referendum result in itself is unlikely to have triggered material adverse change lease termination events, or other events of default. Material adverse change termination events, when included in leases, tend only relate to the position of the lessee and its business or ability to comply with the lease, rather than to generally increased market, political or economic risks. So the referendum vote or Brexit itself would seem unlikely to trigger this type of clause. This said, the analysis will always depend on the drafting of the particular clause in the light of the specific lease.
It could be that the referendum vote or Brexit’s possible consequences (increased uncertainty, reduced or interrupted trade or investment flows, or skills shortages, for example) could harm a lessee’s finances. This could, in turn, produce a material adverse change as defined in a particular lease. If this were to happen, however, these same conditions might lead to a failure to pay rent or another payment default, which would form a separate termination event, and so do away with the need to carry out any material adverse change analysis.
Might the referendum vote or Brexit itself discharge the parties to a leasing transaction from their contractual obligations under the common law doctrine of frustration? This seems very unlikely in most cases. The test for frustration of a contract is that: first, the contract’s performance must become illegal or impossible – or require something radically different from what was originally agreed. Secondly, these effects on performance must result from an unforeseen event outside the parties’ control.
This might not sound like an overly difficult test to meet in theory. In practice, however, except in cases of actual illegality or impossibility, it has been very rare for the courts to find that a contract has been frustrated, even in the face of major geopolitical events. So, even if the referendum vote or Brexit was not foreseen at the time the parties entered into a particular lease, it would take a highly unusual set of circumstances for the referendum vote or Brexit to meet the test for frustration in practice, except in the (presumably very rare) cases of actual illegality or impossibility of performance.
Domestic regulatory burdens on UK lessors. One area where EU law has affected the business of UK lessors is in the form of EU regulatory laws. If the UK opts for a “hard Brexit”, under which it has limited or no single market membership, the UK may find itself free to repeal some of these regulatory laws.
Lessors may welcome, for example, the repeal of the UK laws that implement the 2012 Waste Electrical and Electronic Equipment Directive (the WEEE Directive). However, many non-EU countries now have laws that are similar to the WEEE Directive. So the UK government may decide against a complete repeal of the UK WEEE regime. This may prove true of other aspects of the UK’s regulatory regime affecting lessors – that repeal may be possible in theory under a hard Brexit, but does not materialise in practice. For some of these measures, what may happen is that the UK keeps its implementing legislation in place, but removes some of the “gold-plating” of the EU measures that was common for the UK implementing legislation before 2010.
Governing law and jurisdiction clauses in leasing documents. In leasing transactions with an EU-based lessee, or where use of leased equipment is permitted within the EU, Brexit may make it necessary to consider:
- whether English law will continue to be the default choice of governing law of the contractual obligations arising under such transactions;
- whether that choice of law would continue to be recognised in the EU and in England and Wales post-Brexit;
- the most appropriate form of jurisdiction clause to use where the parties wish to provide for the English courts to have jurisdiction; and
- whether an English court judgment in favour of a lessor would be recognised, and rapidly enforced, in a lessee’s EU jurisdiction or in another EU state where its leased equipped was located.
Choice of English governing law. The factors that have made English law the default choice of law for a large portion of the world’s cross-border leases, financings and commercial contracts will continue to apply after Brexit. Lessors choose English law as a governing law, not due to the UK’s membership of the EU, but because English law is widely accepted as commercially focused, producing predictable results and giving lessors great freedom to agree to terms and structures that best suit their business. Brexit will not change these qualities of English law.
Recognition of choice of English governing law of contractual obligations. In EU states, the Rome I Regulation (EC/593/2008) (Rome I) is the key piece of legislation on this issue. Under this legislation, the courts of EU states are (subject to limited exceptions) obliged to give effect to a choice of English law (or any other chosen law) in a lease or related document. Brexit will not change this. It is possible that the UK will retain Rome I as part of English law post-Brexit. However, even if it were not to do so, under English common law, the English courts would typically enforce a choice of English law in a lease in much the same way as they would under Rome I.
Jurisdiction clauses. This is a highly complex area and space in this article is limited. Accordingly, what we say on jurisdiction clauses below, and what we say on recognition and enforcement of judgments further below, is a broad and high-level summary of the issues only.
The key piece of EU legislation in this area is the Recast Brussels Regulation (EU/1215/2012) (the Recast Brussels Regulation). Additionally relevant, are two treaties that preceded the Recast Brussels Regulation and the original Brussels Regulation. These are the Lugano Convention and the Brussels Convention. The Recast Brussels Regulation and these two conventions all concern EU rules on jurisdiction in general and on the mutual recognition and enforcement of jurisdiction clauses and judgments given by courts of EU states.
It is possible that the UK’s Brexit deal will result in one, or none, of these three regimes, in effect, applying between EU states and the UK. If one of these regimes does apply post-Brexit, it would seldom be necessary to make significant changes to jurisdiction clauses in leasing transactions with an EU connection on this basis.
If none of these regimes applies between the UK and the EU post-Brexit, the UK is very likely to ratify another treaty to which the EU is a party. This is the 2005 Hague Convention on Choice of Court Agreements (the Hague Convention). Two key benefits of the Hague Convention for the UK are that:
- the EU has no veto on the UK ratifying this treaty; and
- once the Hague Convention is in force as between the EU and the UK, EU state courts will be obliged to give effect to jurisdiction clauses that choose the English courts, so long as those jurisdiction clause are exclusive only.
If the UK were not to ratify the Hague Convention (which seems unlikely), there are bilateral treaties on jurisdiction and enforcement of judgments between the UK and certain major EU states that may be relied upon in relation to jurisdiction clauses. For EU states with whom the UK has no bilateral treaty, courts in these states may often give effect to jurisdiction clauses selecting the English courts under their own domestic laws.
Enforcement of English court judgments in EU states. As with jurisdiction clauses, the Recast Brussels Regulation, the Lugano Convention and Brussels Convention are the key instruments in this area. Under these instruments, it is usually very quick, simple and relatively inexpensive to enforce an English court judgment in an EU state. If one of these instruments were to apply between the EU and the UK post-Brexit, enforcing an English court judgment would still tend to be a very quick and simple process.
Similarly again, if none of these instruments were to apply between the EU and the UK post-Brexit, but the UK ratified the Hague Convention, EU state courts would be obliged to enforce judgments of the English courts where the English court took jurisdiction under an exclusive jurisdiction clause.
However, if the UK were not to ratify the Hague Convention, and there were no bilateral treaty between the UK and a given EU state in which a lessor wished to enforce its English judgment, it is less certain as to whether and, if so, by what process and over what timescale, the domestic laws in individual EU states would enforce English court judgments. If a lessor found there was significant uncertainty on this issue in a given case, it might consider substituting its jurisdiction clause for a clause providing for English law arbitration in London.
The advantage of English arbitration in London in this situation would be that, if the relevant EU state had implemented the 1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards (the New York Convention), the courts in that state would, in theory, be obliged to recognise and enforce an English arbitration award. We say “in theory” as a small number of countries around the world have not taken their New York Convention obligations as seriously as one would hope.
Financial regulatory barriers to leasing from the UK into EU states. Unlike many other providers of financial services, lessors in general may find that Brexit will have little or no effects in this area. However, there may be some changes for those UK lessors who are currently authorised credit institutions and who enter into finance leases with mainland EU lessees under the “passporting” regime referred to below (Passported UK Lessors).
In the UK, equipment leasing is lightly regulated when compared with other parts of the financial services industry. Among other things, this is because equipment lessors tend not to be “deposit-taking” entities and leasing is not a regulated activity per se – though lessors may be subsidiaries of, or otherwise associated with, deposit-taking institutions, such as banks.
Regulation of equipment leasing in individual EU members states is not necessarily as light as, or identical to, UK regulation. Despite this, if UK lessors in general were regulated and authorised by the UK financial regulators, they would be entitled, via “passporting”, to offer the financial services that they provide throughout the EU without needing authorisation to do so from local regulators. However, this would probably not be a good thing for UK lessors in general following Brexit because, under many of the scenarios under which the UK may leave the EU, passporting for UK financial service providers throughout the single market is under threat. For Passported UK Lessors, this means their current passporting rights to offer finance leasing to mainland EU lessees is under this same threat.
If Passported UK Lessors lose their current passporting rights under Brexit, for all UK lessors, whether they can lease to EU-based lessees will depend on local financial regulation in individual EU states. A key point here is that (except for Passported UK Lessors) Brexit does not change the financial regulatory position of UK lessors in general as discussed in this section. The key change is for Passported UK Lessors.
VAT or its replacement and other taxes and duties. VAT is an EU tax. Unless the UK’s exit deal with the EU provided otherwise, Brexit will free the UK from the need to impose VAT. However, VAT raises significant amounts for the UK Treasury. So if Brexit means the end of VAT, a similar tax may replace VAT under UK law.
Accordingly, it would be prudent for lessors to monitor the treatment of sales, leases and other leasing-related supplies of equipment and services in the UK under the VAT regime or any replacement for VAT. Similar monitoring would be prudent in relation to VAT imposed under EU laws under cross-border transactions.
As the UK leaves the EU, and renegotiates its trading relationship with the EU or individual EU states, there may be changes to, or the introduction of, other taxes imposed in connection with leasing and related transactions under EU or UK law. Lessors will also wish to monitor these potential changes.
Conclusion. We began this article by stressing the difficulties in predicting how Brexit will play out for lessors. At the time of writing, contrary to the predictions of most pollsters and mainstream commentators, Donald Trump has just been elected President of the United States. This is a reminder that we live in a time of significant political uncertainty and volatility – and that, as it is a political project, how and whether Brexit takes place may defy the expectations of mainstream opinion. Similarly, if Brexit does take place, the issues we have discussed in this article are likely to remain relevant to lessors, but other issues will emerge along the way.
Law stated and analysis carried out as at November 14, 2016.
Sarah Dyke, Partner and Alexander Hewitt, Professional Support Lawyer
Dentons UKMEA LLP
One Fleet Place, London EC4M 7WS, UK
Tel: +44 20 7320 5457 / +44 20 7246 7179