A sponsor must make sure that it chooses the correct entity which will purchase the assets. Any tax that is paid by the entity itself will reduce the return to the investors in the structure. In addition, the contribution of the assets must be carefully structured as sale or loan, depending on the tax results that is desired. A sale of appreciated assets to the securitization vehicle would result in taxable gains, which may not be desired by the seller. Finally, the securities issued by the vehicle have to be structured so that they receive the tax treatment the investors expect (e.g. debt or equity).
Several types of entities that already exist in the tax world are used in the United States as securitization vehicles. For example, special purpose trusts, special purpose partnerships, or corporations. The tax has also created some special entities just to facilitate securitization. There include Real Estate Mortgage Investment Conduits (hereinafter: REMICs) and Real Estate Investment Trusts (hereinafter: REITs). Each of these vehicles have significant disadvantages, such as entity-level tax, limitations on the kinds of instruments that can securitized through them, limitations on sales into the entity after the initial sales transaction, and uncertainty as to the tax treatment of the holders of interests in the vehicles.
To remedy some of the above problems, Congress passed a set of tax laws that created a vehicle called a Financial Asset Securitization Investment Trust (hereinafter: FASIT). By using this vehicle, there is certainty as to the treatment of the initial sale of the assets into the entity, it is possible to avoid entity-level tax and there is certainty in the treatment of the purchases of interests in the FASIT. Below we outline a number of different possible scenarios in which assets are contributed to a FASIT and securities are issued secured by those assets. The requirements for classification as a FASIT, the types of instrument that can be sold to a FASIT and the treatment of FASIT interest holders will be described as the transaction unfold.
II. Transaction Steps
A. Overall Facts and assumptions
- Corporation A is a US corporation.
- Debt instruments are “permitted debt instruments” within the meaning of IRC S860L(c)
- Debt Instruments are not “traded on an established securities market” as defined by Prop. Reg. 860I-2(b)
- Corporation A is an “eligible corporation” within the meaning of IRC S860L(a)(2)
- Bank or other counterparts will be an “eligible corporation” within the meaning of IRC S860L(a)(2).
- Corporation A has expiring capital losses.