SAREB and FABs: a first look behind the acronyms

July 2013 | SPOTLIGHT | BANKING & FINANCE

Financier Worldwide Magazine

The accelerated and dispersed regulation for incorporating and operating SAREB (the Spanish acronym for the Public Asset Management Company) – suddenly the biggest real estate operator in Europe with more than €144.5bn in real estate assets – has raised numerous issues. Some of those issues, such as the impact of its public entity status on its day-to-day operations, credit ranking and subordination, remain partly unresolved after several enactments. From the perspective of market and trading dynamics, however, one of the most relevant issues relates to the design and implementation of an efficient divestiture mechanism permitting SAREB to attract existing liquidity, bridge price gaps between supply and demand and, ideally, mitigate the mark-down of its assets, as required by its business plan.

Addressing this crucial issue, the Spanish regulator has created and developed so-called ‘FABs’ (the Spanish acronym for Asset Banking Funds). The most recent and detailed enactment (approved back in November but still under beta-testing) configures them as hybrid vehicles combining elements of other types of regulated funds (mostly securitisation funds, but also collective investment schemes) to permit reorganisation, repackaging and disposal of assets and liabilities transferred to SAREB through elements of structured finance, including subscription of first-loss tranches or equity positions by SAREB, and, most importantly, as a tax shelter for investment.

As funds and collective investment schemes, FABs are configured as a separate, independent pool of assets, or even an independent vehicle comprising one sole asset, without legal personality, thus requiring third party management – in this case, registered securitisation trustees. Although most of their features are built upon securitisation funds, including incorporation, origination, registration and reporting, some of their relevant features (mainly balance sheet structure and tax regime) still indicate their hybrid configuration between securitisation funds and collective investment schemes.

Incorporation of FABs and their origination is exclusively restricted to SAREB (although securitisation trustees might play a role) and, therefore, the structure can only shelter their assets and liabilities. Assets may include cash and deposits and fixed-income bonds traded in a secondary market. Liabilities may include loans, the notes issued by SAREB and the equity provided by institutional investors (the latter accruing only the result of the liquidation of the fund), as well as liabilities associated with the usual course of business of the fund, including those resulting from derivative instruments.

The described balance sheet structure and particularly the admitted liabilities suggest that, whereas for many assets (loans or instruments with associated cash flows, as leased or income-producing assets) FABs might well operate as pure securitisations funds, for other asset typology (vacant assets) they could operate as private funds, more in line with collective investment schemes. Likewise, it seems that SAREB, or its public shareholder FROB (the Spanish Fund for Orderly Restructuring of the Banking Institutions), may maintain both equity and debt exposure to FABs as mechanisms to assume first-loss and, subsequently, provide flexibility to investors in terms of pricing, asset choice and structuring, while still benefiting from the established tax shelter.

At this stage, however, in the absence of express and more detailed regulations, we will need to see, once the actual structure is implemented, the final format to be adopted by these funds, the level of flexibility in terms of organisation, registration and reporting, and whether or not there will be room to configure them alternatively in line with securitisation funds or private funds or collective investment schemes depending on the underlying assets. Further clarification will also be required in relation to the possibility of subordinating any equity participation of SAREB and/or FROB to institutional investors’ equity participations, through contractually-agreed waterfalls or priority of recovery, as would be feasible in respect of notes, but more complicated in private fund structures.

There are no restrictions on the typology and minimum number of assets, as long as a true sale is operated. It is to be determined, though, how true sale regulations will interact with equity participation in the funds or subscription of note tranches, whether subordinated or not, by transferring public institutions and if, as we assume, the special regime in terms of asset acquisition from which SAREB benefits – exemption from liabilities associated to the assets, ranking and subordination – shall apply to FABs, with or without requiring the exposure of public institutions.

As securitisation funds, FABs are entitled – although not required, in an additional sign of its intended hybrid nature – to issue notes to be integrated in FABs liabilities. Noteholders are required to be professional or qualified investors with a minimum investment of €100,000. Noteholders can be organised through a pool or syndicate and rules governing such syndicates are to be established within the FAB incorporating registered documentation.

Seeking to achieve flexibility for asset reorganisation and repackaging, FABs can have an internally independent pool of assets, and noteholders’ exposure can be limited to a certain pool of assets or tranche of assets within the fund. Likewise, fund reorganisation transactions, such as mergers, spin-offs and similar transactions, can be operated under the umbrella of the approved regulations, similar to other funds regulations in this regard, and eventually benefit from tax neutrality regime.

Besides the potential benefits deriving from its structuring flexibility and hybrid nature, a key element for FABs and a further, and most relevant, incentive for its use – both for investors and SAREB, in the latter case to mitigate mark-downs or discounts – is its configuration as an investment tax shelter for direct and indirect taxation.

Under the regime designed by the regulator, investors shall be eligible for the beneficial tax treatment associated with collective investment schemes under Spanish corporate income tax. FABs will be liable for corporate income tax at 1 percent and will be eligible for the special rules on collective investment.

But, more importantly, investment in FABs will benefit from a regime similar to the one applicable to investment by non-residents in Spanish public debt. Particularly, any income obtained by non Spanish resident investors without a permanent establishment will be exempt from non-resident income tax in the same terms as income from public debt, although it is still unclear if capital gains associated with equity positions would benefit from this exemption or if only debt-related income will and, therefore, rulings might be required to confirm this particular point.

As regards indirect taxation, FABs benefit from a specific exemption in relation to Stamp Duty Tax for transfers operated between SAREB and FABs. Finally, as a further transaction cost relief, they also benefit from a deferral in municipal capital gain taxation. Application of this beneficial taxation regime requires exposure of SAREB and/or FROB. It is still to be clarified if such exposure can be achieved exclusively through note subscription (as we understand) or requires these public institutions to hold equity in the funds.

As with other complex matters scarcely regulated, there are areas in which further clarification and determination might be required, both from a legal and practical perspective. However, if their structuring and tax advantages and flexibilities as compared to direct asset sales materialise adequately and swiftly, FABs should become SAREB’s primary divestiture mechanism to achieve its intended trading and pricing levels. Time, and transactions, will tell.

Oscar de Santiago is a partner and Juanjo Berdullas is an associate at J&A Garrigues S.L.P. Mr de Santiago can be contacted on +34 93 253 3700 or by email: oscar.de.santiago@garrigues.com.

Oscar de Santiago and Juanjo Berdullas

J&A Garrigues S.L.P.