Aviation Finance & Leasing 2020

Last Updated July 30, 2020

China & Hong Kong

Law and Practice

Authors



Tiang & Partners is associated with PwC Legal International Pte Ltd (a licensed foreign law practice) in Singapore. Through this association, Tiang & Partners has access to the most geographically extensive legal services network in the world, with over 3,600 lawyers in nearly 100 countries. In China, the firm collaborates closely with Shanghai Xin Bai Law Firm, and in particular with the banking and finance team at Beijing Rui Bai Law Firm. In addition, Tiang & Partners' lawyers frequently work closely with PwC professionals in other disciplines to deliver integrated solutions to business needs, which cover legal, accounting, tax, risk management and financial considerations. The aviation finance team is fully integrated into PwC’s aviation business services, to offer clients a one-stop, all-inclusive solution covering accounting consultation, taxation, legal and other aspects.

Generally, no transfer taxes or stamp duties apply in Hong Kong in respect of aircraft or engine transfers under sale agreements. However, stamp duty may apply in respect of transfer of securities, such as the transfer of ownership interests in aircraft-owning entities.

There is no requirement for a sale agreement to be translated, certified, notarised or legalised to be enforceable.

Under Hong Kong law, title passes when parties intend title to pass. In practice, title is usually transferred under (a) a contract of sale or (b) an instrument of conveyance, such as a bill of sale.

Generally, the transfer of title to an aircraft or engine physically delivered in Hong Kong is recognised if the bill of sale is governed by either English or New York law. Hong Kong generally gives effect to the choice of foreign law, provided that the choice of foreign law is not against public policy and, pursuant to conflict of law principles, Hong Kong law would generally recognise English or New York law bills of sale as a valid mode of transferring title to aircraft assets.

Apart from general conflict of law principles, there are no specific substantive requirements that must be satisfied for such bills of sale to be recognised.

A bill of sale is not required to be translated, certified, notarised or legalised to be enforceable against a domestic party.

There is no requirement for a bill of sale to be registered or filed with any Hong Kong government authority. In practice, for an aircraft registered in Hong Kong, it is common to submit information regarding parties’ respective interests in the aircraft to the Hong Kong Civil Aviation Department.

Stamp duty may apply in respect of transfer of ownership interests in Hong Kong entities, irrespective of the physical location of the aircraft or engine.

Operating/wet/finance leases and leases concerning only engines or parts are permissible as long as the engines or parts remain separate and identifiable (see 2.2.4 Risk of Title Annexation).

The Hong Kong courts will generally give effect to the parties’ choice of foreign law to govern the lease agreement if the choice of law is made in good faith and does not contravene public policy.

Generally, there are no material restrictions imposed on domestic lessees making rent payments to foreign lessors in US dollars, subject to compliance with sanctions and other legal obligations which may restrict payments to certain countries or recipients.

There are no exchange controls which could prevent rent payments under a lease or any repatriation of realisation proceeds (if that lease is enforced by a foreign lessor).

There are no taxes/duties payable for executing a lease physically in Hong Kong and/or by or to a domestic party, or as a consequence of an original or copy of a lease being brought into Hong Kong, either physically or electronically.

Generally, no licences are required. However, lessors should consider the potential application of the Money Lenders Ordinance (Cap 163). As the definition of "loan" under the Money Lenders Ordinance captures financial accommodation, including forbearance on late rental payment and is otherwise broadly defined, a lessor may need to obtain a Money Lenders Licence.

No mandatory terms are required to be in a lease (or ancillary documents thereto) governed by either English or New York law that would not typically already be included.

Generally, tax and other withholding gross-up provisions are permissible and enforceable where the provisions are designed to allocate risk and responsibility as to payment obligations.

A lease can cover parts that are installed or replaced on an aircraft or engine after its execution, provided that the parts incorporated or replaced become the property of the lessor.

There is a doctrine providing for the accession of component parts into a wider structure. However, it is highly unlikely to apply in the case of engines. It is important that the lease sets out clearly the common intention of the parties that title does not pass for temporary attachments, but that title does pass for permanent replacements.

Also, it is not uncommon to have parties enter into a recognition of rights agreement between the owners of an airframe and the owner(s) of any engines attached temporarily to that airframe.

The concept of a trust and the role of an owner trustee under a lease is recognised in Hong Kong.

The Hong Kong Civil Aviation Department must, when registering an aircraft in Hong Kong, record the interests of the registered owner(s) on the Aircraft Register and reflect the details of the registered owner(s) on the aircraft’s certificate of registration. (See 2.3.2 Registration if the Owner is Different from the Operator). In practice, owners, lessors and financiers may submit information regarding their respective interests to the Hong Kong Civil Aviation Department. As far as any information submitted voluntarily is concerned, the information would not be freely accessible by the public. Any such disclosure is voluntary and would have no effect on third parties.

The civil aircraft register is an owner and operator registry. In order for an aircraft to be eligible to be registered in Hong Kong, either the owner, or the operator, must generally be a "qualified person". The qualified person would be recorded as the "registered owner".

"Qualified persons" are: the Government of Hong Kong or the Central’s People Government, permanent residents of Hong Kong and bodies incorporated under Hong Kong law or Chinese law and which have their principal place of business in Hong Kong or another part of China.

There is no specific register for leases concerning aircraft or engines.

An aircraft can only become eligible to be registered in Hong Kong by virtue of the lessee under a lease, as the operator, meeting the "qualified person" requirement.

Entry into a lease agreement does not in itself require any government consent or approval.

A lease does not need to be in a specific form or translated, stamped, certified, notarised or legalised to be valid.

No taxes or duties are payable, because leases are not registrable.

Aircraft habitually based in Hong Kong are not typically registered in any other countries. An aircraft shall not be registered or continue to be registered in Hong Kong if, without limitation, the registration of the aircraft outside Hong Kong and does not cease by operation of law at the time when the aircraft is being registered in Hong Kong.

The aviation authority in Hong Kong does not require any document to be either in its original form, translated, notarised and/or authenticated before accepting and processing the registration of an aircraft.

See 2.4.2 Effects of Leasing on the Residence of a Foreign Lessor.

A foreign lessor should not be deemed to be resident, domiciled, carrying on a business or subject to taxes by reason only of executing a lease document outside of Hong Kong or enforcing a lease outside of Hong Kong.

Subject to entitlement of contribution from lessees or other parties, the general position under Hong Kong law is for strict liability on aircraft owners for material loss or damage caused to any person or property on land or water by the aircraft. There is, however, an exemption for passive owners, and provided that:

  • the aircraft is to be operated by the lessee or third-party operator for a period of more than 14 days;
  • the lessee or operator is responsible for ensuring the airworthiness of the aircraft; and
  • the lease does not provide for the owner to be responsible for the employment of the crew.

A passive foreign aircraft or engine owner or lessor under a lease or financier financing the asset on lease will generally not be liable under the doctrine of strict liability (or any other similar domestic doctrine) as a result of damage or a loss caused by the asset. See 2.4.3 Engine Maintenance and Operations.

Generally, creditors of a domestic lessee may not attach an aircraft that is leased to it but owned by a different entity.

Some liens and detention rights could take priority over a lessor’s rights. Examples include:

  • common-law liens, such as a repairer’s lien;
  • rights of detention by airport authorities, as a result of a failure to pay airport charges or air-passenger departure tax; and
  • a tax authority’s rights of detention and power of sale, as a result of a failure to pay profit taxes.

It is not mandatory for either all or part of the insurances to be placed with domestic insurance companies.

Pursuant to section 6 of the Civil Aviation (Insurance) Order (Cap.448F) (Civil Aviation Insurance Order), the insurance policy for an aircraft must insure the operator against its liability in respect of:

  • third-party risks;
  • the death of or bodily injury to any passenger in the aircraft;
  • any destruction or loss of or damage to baggage carried on board the aircraft; and
  • any destruction or loss of or damage to cargo carried on board the aircraft.

The policy of insurance must have a combined single limit coverage of not less than the applicable amount specified in the Civil Aviation Insurance Order.

Reinsurances of up to 100% coverage may be placed outside of Hong Kong.

Cut-through clauses in respect of an insurer located in Hong Kong are generally regarded as being effective.

Assignments of reinsurance can be effective under Hong Kong law. They will generally be registrable with the Companies Registry if granted by way of security by a Hong Kong company (or foreign company registered to carry on business in Hong Kong).

In respect of a lessor’s ability to terminate an aircraft lease and/or sell the aircraft, termination and re-export is governed by contract law. The aircraft does not need to be located in Hong Kong for its lease to be terminated, and there are no other specific requirements (other than the lessor having to comply with the termination provisions of the lease itself). Under Hong Kong law, no licences or consents are specifically required to export or re-export an aircraft for civil use from Hong Kong.

However, the lessor may face practical difficulties in dealing with the aircraft after terminating the lease, as follows:

  • where the aircraft is registered with the Civil Aviation Department in the name of the lessee as the registered owner, the Civil Aviation Department would usually expect the lessee (as registered owner) to be the person who makes the application to deregister the aircraft and the person who will need to provide the maintenance records and compliance statements in respect of the aircraft to the Civil Aviation Department;
  • unless the lessor obtains assistance from the lessee, the lessor will need to possess the necessary licences (for example, it would need to have a valid air operator’s certificate and the aircraft would need to have a certificate of airworthiness) in order for the lessor to reposition the aircraft from Hong Kong to another jurisdiction;
  • the lessor will need consent from airports and/or landlords of the premises where the aircraft is located in order to enter into premises to take possession of aircraft. 

In practice, after an aircraft is deregistered from the Aircraft Register, it will likely be necessary for the lessor to obtain a statement of conformity for export from the Civil Aviation Department, so as to be able to fly the aircraft to, and facilitate the registration of the aircraft in, the export destination. The Civil Aviation Department also requires a certificate of airworthiness to be issued by the aviation authority of the export destination before the aircraft can take off from Hong Kong. Only under very limited circumstances will the Civil Aviation Department permit the aircraft to take off from Hong Kong with a permit to fly (which is issued by the aviation authority of the export destination).

Hong Kong allows for self-help remedies, permitting lessors to take physical possession without the need for judicial proceedings (subject to the exercise of those remedies not amounting to a breach of the peace).

However, there are number of reasons why a lessor may wish to seek a court order to repossess an aircraft. For example, the lessor may be exposed to potential liability if it is considered to have terminated the lease wrongfully, and therefore, the lessor may wish to obtain a court determination prior to repossessing the aircraft.

There is no specific court for aviation disputes.

A summary judgment may be granted by the court if the plaintiff can show to the court that the defendant has no arguable defence. If the lessor raises sufficient evidence to prove the lessee’s breach, for example, if the breach is as a result of periodic non-payment of rent, and the lessee cannot raise any arguable defence, summary judgment may be granted by the court. 

An interlocutory injunction could be sought from court pending final resolution of the court. The plaintiff has to show that there is a serious question to be tried and the balance of convenience lies in favour of granting the injunction.

The court will generally give effect to the parties’ choice of foreign law to govern an agreement, and their submission to the courts of a foreign jurisdiction if the choice of law and submission to that jurisdiction is not against public policy. However, under Hong Kong law, if the lessee is a sovereign state, the sovereign state enjoys absolute immunity, which cannot be waived in contractual documents entered into prior to the commencement of any dispute. See 2.6.11 Lessees' Entitlement to Claim Immunity.

The statutory recognition and enforceability of judgments of foreign courts in Hong Kong depends on whether a treaty of reciprocal enforcement of judgments has been entered into between Hong Kong and the jurisdiction of that foreign court.

In the case of the PRC and Hong Kong, there are a number of bilateral agreements relating to mutual recognition of judgments. The most important to note is the current Arrangement on Reciprocal Recognition and Enforcement of Judgments in Civil and Commercial Matters. This arrangement provides that the parties must have entered into a written agreement as to the choice of either the PRC or the Hong Kong courts. Where there is a valid agreement that the PRC has jurisdiction over a matter, a party may seek to enforce a judgment of the PRC court through the Hong Kong courts. It should be noted that Hong Kong and the PRC have signed a new mutual assistance arrangement that will supersede the current arrangements. Once the new mutual assistance arrangement comes into effect, it will no longer be necessary to have a written agreement as to the choice of courts.

In general, where there is a reciprocal treaty or the judgment has been obtained from another common-law jurisdiction, the conditions for the enforcement of that foreign judgment include the requirement that the judgment is final, for a fixed sum, and is not penal in nature.

A Hong Kong court is likely to grant judgment for a debt or damages in US dollars (or other foreign currency), if it finds that US currency (or another currency) most fairly expresses the plaintiff’s loss.

Generally, there are no limitations, subject to the application of the doctrine of penalties and the statutory prohibition against extortionate interest rates (see also 3.1.1 Restrictions on Lending and Borrowing).

Generally, a lessor under an aircraft lease is not required to pay taxes or fees in a significant (ie, non-nominal) amount in connection with the enforcement of that lease; the costs will be limited to legal costs, storage and remarketing costs and costs of applying for a statement of conformity for export.

While the law of penalties and relief against forfeiture generally applies to termination of leasing of aircraft leased to Hong Kong lessees, there are no mandatory notice periods for a lease under Hong Kong law.

Foreign states, foreign state entities, the PRC government and PRC state entities enjoy absolute immunity in the Hong Kong courts. The question of whether a particular entity forms part of the PRC government or a foreign state will, under Hong Kong law, depend on the function of that entity and the level of control exercised over it by the PRC government or that state and is therefore largely a question of fact.

Importantly, pre-dispute contractual waivers will not be recognised by a Hong Kong court as an effective waiver of sovereign or Crown immunity. To be effective, the waiver of immunity must be given to the Hong Kong court itself at the time when the court is asked to exercise jurisdiction over the foreign state, the PRC government or state entity.

Hong Kong is a party to the New York Convention (with a reservation made by China that the New York Convention will only apply to commercial disputes).

Since Hong Kong is not a Cape Town Convention jurisdiction, a lessor must consider their enforcement rights with reference to local law. However, generally speaking, the local law position is largely considered to be lessor/creditor-friendly.

The concepts of contractual assignment and novation are recognised in Hong Kong.

Hong Kong courts will give effect to the terms of a lease in accordance with its governing laws. Generally, parties will choose the same governing law for the assignment/novation to avoid conflict of laws issues.

There are no mandatory terms that are required to be included in the documents.

There are no requirements in Hong Kong to translate, certify, notarise or legalise an aircraft and/or engine lease assignment and assumption/novation.

There is no requirement or avenue to register or file an aircraft and/or engine lease assignment and assumption/novation. Entry into these documents does not require government consent.

There are no taxes or duties payable in respect of an assignment and assumption/novation agreement, or as a consequence of an original or copy of it being brought into Hong Kong, either physically or electronically.

A transfer of the beneficial interest in a trust would be treated similarly to English law where, generally, the beneficiary holds equitable title to an indivisible interest in the trust property, and the trustee holds legal title to the trust property. The transferee would have the same interest in the aircraft, as beneficiary of the trust, as the transferor. The exact treatment and status of the beneficiary would also depend on the terms of the trust deed.

According to Article 4(11) of the Air Navigation (Hong Kong) Order 1995, the registered owner is the entity that is entitled to deregister the aircraft.

The registered owner can do so by making an application to the Hong Kong Civil Aviation Department.

If the registered owner is the lessor or other owner, the lessor may deregister the aircraft in its own right. However, if the lessee is the registered owner, then the lessee should be the person who makes the application to deregister the aircraft.

In circumstances where the lessee is in default or the lease is terminated, there should be no reason why the holder of a deregistration power of attorney should not be able to make the application to deregister the aircraft.

Usually, the registered owner would simply be able to file a notification of deregistration to the Hong Kong Civil Aviation Department.

It is expected that the owner/mortgagee/lessor under a deregistration power of attorney would execute a notification of deregistration to the Hong Kong Civil Aviation Department in the same manner.

The Civil Aviation Department will usually process an application for deregistration immediately upon receipt of all required information and documents.

The aviation authority does not provide advance assurances to an aircraft owner, mortgagee or lessor as to the prompt deregistration of the aircraft.

No tax or fee is payable on deregistration of the aircraft.

A power of attorney must be created in accordance with the Powers of Attorney Ordinance, which (among other things) requires that an instrument creating a power of attorney be signed and sealed by, or by direction and in the presence of, the donor of the power.

There is no requirement that the instrument be translated, certified, notarised, legalised or lodged in advance.

The use of deregistration powers of attorney is untested in the context of commercial aviation transactions. It may be that the Hong Kong Civil Aviation Department may request additional documentation or information before processing any application for deregistration.

Generally, a deregistration power of attorney does not have to be governed by the laws of Hong Kong. However, in circumstances where a power of attorney is governed by a foreign law, the Hong Kong Civil Aviation Department may require further proof as to the validity of such a power of attorney.

Generally, powers of attorney under Hong Kong law can be irrevocable (and survive insolvency) if they are expressed to be irrevocable and the power is granted to secure the performance of an obligation owed to the donee. The power of attorney would be irrevocable as long as the obligations secured remain undischarged.

The deregistration of an aircraft can technically only be achieved by the registered owner. If the lessee is the registered owner, the application for deregistration must be made by the lessee. Accordingly, in such circumstances, if the aircraft needs to be deregistered for export, the export of the aircraft can only happen with the assistance of the lessee.

It should be possible for lessors to effect deregistration and export through the exercise of a deregistration power of attorney; however, this remains untested. It would be advisable to require the lessee to confer on the donee of a deregistration power of attorney an express power to do all things necessary in connection with the export of the aircraft.

Under Hong Kong law, no licences or consents are specifically required to export or re-export an aircraft for civil use from Hong Kong. In practice, after an aircraft is deregistered from the Aircraft Register, and assuming the aircraft is otherwise airworthy, the Civil Aviation Department will issue a statement of conformity for export for the aircraft.

No tax or fee is payable on export or repossession of the aircraft itself; however, if the aircraft is not in the condition required for the Hong Kong Civil Aviation Department to issue a statement of conformity for export, there may be costs incurred in rectifying any discrepancies. If the aircraft is withdrawn from service, a pro rata amount in proportion to the renewal fee for its airworthiness certificate must be paid for every month that the aircraft was in service since its last renewal.

The Civil Aviation Department is unlikely to be used to dealing with parties other than the Hong Kong airline operators (considering that there have been no cases in which lessors have used deregistration powers of attorney to de-register the aircraft in Hong Kong). Therefore, it is anticipated that, in practice, some effort may be required to explain to the Civil Aviation Department a lessor’s use of deregistration powers of attorney when seeking to deregister an aircraft in the lessee's name where that aircraft has been registered with the lessee as the ‘registered owner’.

Notwithstanding recent litigation and repossession action with respect to aircraft operated by Hong Kong commercial airline operators, as far as is known following enquiries to the Hong Kong Civil Aviation Department, there is as yet no precedent of deregistration pursuant to an exercise of a lessor’s rights under a deregistration power of attorney.

Provided that the power of attorney is expressed to be irrevocable and is a power coupled with an interest, deregistration powers of attorney should survive insolvency. However, see 2.8.10 Revocation of a Deregistration Power of Attorney in respect of the use of a power of attorney for deregistration purposes, as this remains untested.

There is a stay on proceedings against a company without leave of the courts where a liquidator is appointed by the court. This does not apply where the liquidator was appointed in a voluntary winding-up (see 2.9.5 Liquidation of Domestic Lessees). However, a secured creditor may appoint a receiver and a court would be expected to grant leave for the receiver to take possession of secured assets. In addition, leased assets owned by other persons are considered outside of the lessee’s insolvency estate and a lessor would be able to take steps to (or apply to a court for an order to) recover the leased asset (provided it was entitled to do so under the terms of the lease).

Following the winding-up of a company, certain transactions may be invalidated if the transaction entered into within a certain time period (the look-back period) before the commencement of a winding up is regarded as giving an 'unfair preference'. Generally, an unfair preference is when a company has done something which would put a creditor in a better position than the creditor would have been if that transaction had not been entered into. The look-back period is six months for creditors generally and two years if the creditor is an associate of the company that is being wound up.

A liquidator may apply to court for an order to unwind a transaction if a company in liquidation enters into a transaction with a person at 'undervalue'. The look-back period for undervalue transactions is five years. A transaction is at undervalue if it is entered into on terms that provide that the company receives no consideration or where the consideration received by the company is of a value which is significantly less than the consideration provided by the company (in monetary terms), unless the court is satisfied that the company entered into the transaction in good faith and there were reasonable grounds for believing the transaction would benefit the company.

Unsecured creditors generally share pari passu on distribution of assets on the winding-up of a company, subject to certain creditors mandatorily preferred by law. The claims of lessors and secured parties (to the extent the asset is insufficient to discharge any outstanding liabilities) would rank pari passu with the claims of other unsecured creditors, other than any creditors mandatorily preferred by law.

See 2.9.2 Other Effects of a Lessee's Insolvency. In addition, it should be noted that floating charges are generally invalid if they are granted over a company’s property or undertaking within 12 months of the commencement of a winding up, unless the company was solvent immediately after the floating charge was created.

While there is a stay on proceedings against a company following the appointment of a liquidator appointed by the court, there is no fixed period, as the stay will typically end when the insolvency proceedings end.

There are two types of liquidation in Hong Kong, namely, voluntary liquidation and compulsory liquidation.

A voluntary liquidation may be initiated by a special resolution of the company, irrespective of the company’s solvency. If the company is solvent, the directors are required to make a statutory declaration as to solvency. If the company is insolvent, the creditors will be involved in the process of liquidation.

A compulsory liquidation may be initiated by the presentation of a winding-up petition to the court. The following are some of the grounds to have a company wound up:

  • the company has by special resolution resolved that it be wound up by the court;
  • the company is unable to pay its debts; or
  • if the court is of opinion that it is just and equitable that the company should be wound up.

A receiver may be appointed to enforce a charge by the court or under a power contained in a debenture or a trust deed.

Ipso facto defaults should generally be sufficient; however, please note the stay on commencement of proceedings without leave of a court against a company when it is in compulsory liquidation.

Generally, aircraft on lease would be considered to be owned by the owner/lessor and therefore would be outside the insolvency estate. With respect to the lease rentals, to the extent that such amounts are unpaid at the time of the winding up or are payable damages as a consequence of default under the default provisions of the lease, these amounts would be unsecured amounts owing to the lessor, in respect of which the lessor could file a proof of claim as a creditor of the company.

The position of lease security deposits would depend on how these deposits are structured. Generally, the lessor should in appropriately drafted leases be able to apply these deposits to satisfy the obligations of the lessee, following an insolvency event giving rise to a default.

Hong Kong is not a party to the Convention and the Protocol.

Hong Kong is not a party to the Convention and the Protocol.

Hong Kong is not a party to the Convention and the Protocol.

Hong Kong is not a party to the Convention and the Protocol.

Hong Kong is not a party to the Geneva Convention or to the Rome Convention.

The Money Lenders Ordinance requires that a person carrying on business as a money lender in Hong Kong must obtain a money lender’s licence. Foreign lenders may need to obtain a licence for the purpose of financing an aircraft locally. Generally, there is no restriction on borrowers using the loan proceeds.

There are no exchange controls or government consents that would be material to any financing or repatriation of realisation proceeds under a loan, guarantee or security document.

Borrowers are not restricted from granting security to foreign lenders.

Downstream, upstream and cross-stream guarantees may be provided by a Hong Kong company, as long as there is authorisation from the company. For upstream and cross-stream guarantees, it is common practice for them to be approved by unanimous board and shareholder resolutions of the guarantor.

While not absolutely necessary, security over shares in special-purpose vehicles are commonly taken in order to give secured parties maximum flexibility on enforcement. The form of security taken is usually a share charge (accompanied by a deposit of certificated shares).

A negative pledge is recognised in Hong Kong.

Generally, there are no restrictions on parties to enter into inter-creditor arrangements to regulate priority contractually.

The concept of agency and the role of an agent (such as the facility agent) under a syndicated loan is recognised in Hong Kong.

Three types of subordination are commonly used: contractual subordination, structural subordination, and inter-creditor arrangements.

This will depend on the governing law of the underlying loan. Hong Kong courts will generally give effect to the parties’ choice of governing law, subject to conflict of law principles.

In the case of a Hong Kong law loan agreement, Hong Kong law would in the application of conflict of law principles recognise the modes of assignment typically contained in English or New York law-governed assignment documents as being valid modes of assignment (provided they were valid under the relevant governing law of the assignment document).

In addition to the equitable doctrine of penalties, where applicable, the Money Lenders Ordinance prohibits a person who lends money at an interest rate which exceeds 60% per annum, or an interest rate which exceeds 48% per annum, as such interest rates are considered extortionate.

Security over an aircraft can take the form of a mortgage or a charge. A mortgage is the typical form of security over the aircraft. Mortgages can be legal or equitable. A charge is usually effected as a fixed charge.

Generally, there is no restriction on the type of security that can be taken over an aircraft or related collateral such as engines, warranties or insurances. However, care should be taken when property is located in jurisdictions outside of Hong Kong, as other laws may apply.

The concept of a trust and the role of a security trustee is recognised in Hong Kong.

A borrower may, pursuant to a security assignment or a mortgage, assign to a security trustee its rights to the aircraft or under an aircraft lease (including in relation to insurances).

Consistent with the position in other common-law jurisdictions, it is only possible to assign rights, not obligations. It is therefore common practice if rights and obligations are intended to be transferred (for example, to a new lessor), for transfers to be effected by way of novation (which legally gives rise to the termination of the existing contract and the creation of a new contract between the lessee and the incoming lessor).

There is no requirement for security to be governed by domestic law, and it is common to have such documents governed by English law. However, documents which are governed by other laws are subject to proof of foreign law and, pursuant to conflict of law principles, Hong Kong law would determine the question of whether a security is effectively created in accordance with the law of the place where the property is located. 

There are no requirements for the mortgage document to be in a specified form. There is also no requirement that the instrument be translated, certified, notarised or legalised.

There is no strict requirement for security documents to be governed by Hong Kong law. However, care should be taken when property is located in jurisdictions outside of Hong Kong, as other laws may apply.

As the Cape Town Convention does not apply to Hong Kong, the question of whether domestic law instruments should be entered into for filing does not arise.

An English or New York law-governed security assignment or a domestic law security instrument can be registered domestically, to the extent that those documents create security of the kind that is registrable under Hong Kong law.

The transfer of security interests over an aircraft and/or engines is recognised in Hong Kong.

The change of name of a company would not affect any rights or obligations of that company.

This does not apply. Hong Kong is a common-law jurisdiction that recognises trust structures, so it is not strictly necessary to include parallel debt provisions.

See 2.4.2 Effects of Leasing on the Residence of a Foreign Lessor.

There is no specific registry for mortgage or charges on aircraft. However, it is customary to inform the Civil Aviation Department of a mortgage or charge.

If a mortgage or charge over an aircraft is granted by a company incorporated in Hong Kong or a registered non-Hong Kong company under Part 16 of the Companies Ordinance, the aircraft mortgage or charge must be registered with the Companies Registry within one month after the date of its creation.

If registration is not made within this time, the security interest created by the mortgage will be void against any other liquidators or creditors. 

There is no difference between the form of security (or perfection) taken over an aircraft and that taken over spare engines.

Usually, a fixed charge and floating charge would be created over a bank account. The charge has to be registered within one month of creation, as for other mortgages and charges. The floating charge would then be converted into a fixed charge or "crystallised" by events such as liquidation or events agreed by the parties.

A third party could, in certain circumstances, have a lien over an aircraft or engine by operation of law. However, any lien which arises by operation of law is not registrable.

A repairer would have a lien only for the price of the repairs actually executed.

Consistent with the position in other common-law jurisdictions, the lien-holder has the right to detain the goods but there is no right to sell the detained goods unless agreed.

Hong Kong confers certain powers of detention of aircraft, which is similar to the concept of a fleet lien:

  • the Hong Kong Airport Authority may detain any aircraft whose operator is in default for payment of landing charges. If the charges are not paid within 60 days, the authority may apply to a court for leave to sell the aircraft in order to satisfy those charges. However, the authority is required to take steps to notify interested persons and those persons may take part in any leave proceedings concerning the sale of the aircraft;
  • the Hong Kong tax authorities may detain an aircraft owned by an operator for unpaid debts. It may also apply for an order to seize and sell the aircraft for unpaid taxes owed by the owner (lessor).

In December 2019, the Hong Kong Airport Authority purported to exercise powers of detention under the Airport Authority Ordinance, by impounding seven aircraft operated by Hong Kong Airlines.

There is no specific timeframe in respect of liens, as liens are not required to be registered. The lienor would be required to relinquish possession of the asset in question upon payment of the amounts owing to the lienor.

In relation to mortgages, the mortgagee would be required to discharge the mortgage and any registrations made with the Companies Registry following the discharge of the obligations secured by the mortgage. Usually, the loan or mortgage documentation will include a requirement that the mortgagee must release the mortgaged property promptly or within a certain time period (in which case, the mortgagee would need to comply with that requirement).

The release would be effected by the execution of a release document and any registrations made with the Companies Registry would occur upon the filing of the requisite form with the Companies Registry. The deregistration filings would usually be reflected in the Companies Registry in a matter of days.

See 3.2.14 Perfection of Domestic Law Mortgages.

See 3.3.1.Third-Party Liens.

One could obtain mortgage or charge documents registered at the Hong Kong Companies Registry through a company search. However, there is no guarantee that the documents registered are complete. 

A security assignment gives rise to a proprietary interest in the underlying rights/cashflow due to the assignor, and the assignee only has rights under the assigned contract to the extent the assignor had any such rights.

In addition, assignments by way of security give rise to an equity of redemption, such that the secured party is required to release and reassign the underlying collateral to the assignor (or pay excess proceeds back to the assignor) once the secured obligations are discharged.

The position is similar to English law, where an assignment will only take effect in equity until such time as the assignment is perfected by notice to the lessee. Until such time as notice is given, the lessee may give a good discharge of its obligations by paying or performing to the lessor (rather than the security trustee).

Under Hong Kong law, an acknowledgment is not, strictly speaking, necessary, however, it is common practice in leasing transactions for the notice to be acknowledged by the lessee for evidentiary purposes and to bind the lessee to comply with certain provisions (such as the bank account for the payment of money) of the notice.

The agreement of the parties to use a foreign law to govern the documents or to submit to a foreign jurisdiction would be upheld by the courts as long as the agreement is made in good faith and is not against public policy. 

See 2.6.6 Domestic Courts' Recognition of Foreign Judgments/Awards.

A secured party can take physical possession of the aircraft to enforce a security agreement/aircraft mortgage, provided the lessor had the right to do so under the lease. In circumstances where the lessee still has quiet enjoyment rights, a mortgagee would only be able to deal with the aircraft and the lease to the extent it does not breach the quiet enjoyment rights of the lessee.

In relation to enforcement against the lessee, see 2.6.2 Lessor Taking Possession of the Aircraft.

The High Court of Hong Kong, which consists of the Court of Appeal and the Court of First Instance, is competent to decide enforcement action.

See 2.6.4 Summary Judgment or Other Relief.

See 2.6.7 Judgments in Foreign Currencies.

If no court action is required, there will not be any substantial taxes or fees, other than any which arise as a consequence of its exercise of certain remedies (for example, landing charges, hangarage fees and insurance premiums may be payable in connection with repossession).

Usually, in a security agreement or aircraft mortgage, there would be express provisions to allow taking possession of the aircraft and subsequently re-marketing the aircraft without the leave of the court, unless contested by the other party.

As previously noted, there have been no cases of lessors using the de-registration powers of attorney to de-register their aircraft in respect of Hong Kong commercial airline operators, and therefore the actual repossession and de-registration steps remain untested. As far as is known, recent repossession action was achieved without de-registration of the aircraft and presumably with co-operation from the airline.

In July 2017, Hong Kong implemented a tax concession scheme to incentivise the development of aviation-leasing business. From government information, eight qualifying aircraft lessors and one qualifying aircraft leasing manager have already received the benefits under the regime.

Also, the Stock Exchange of Hong Kong effected amendments on 15 October 2018 to exempt certain disclosure duties for listed aircraft-leasing companies. 

On 2 July 2020, the United States Congress approved the Hong Kong Autonomy Act (HKAA), imposing mandatory sanctions against certain individuals, entities and financial institutions which have ties to individuals in China and Hong Kong who could be viewed as making a “material contribution” to actions by the Chinese government which undermine Hong Kong’s autonomy. To date, the HKAA is not yet in force. 

Tiang & Partners

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Trends and Developments


Authors



Tiang & Partners is associated with PwC Legal International Pte Ltd (a licensed foreign law practice) in Singapore. Through this association, Tiang & Partners has access to the most geographically extensive legal services network in the world, with over 3,600 lawyers in nearly 100 countries. In China, the firm collaborates closely with Shanghai Xin Bai Law Firm, and in particular with the banking and finance team at Beijing Rui Bai Law Firm. In addition, Tiang & Partners' lawyers frequently work closely with PwC professionals in other disciplines to deliver integrated solutions to business needs, which cover legal, accounting, tax, risk management and financial considerations. The aviation finance team is fully integrated into PwC’s aviation business services, to offer clients a one-stop, all-inclusive solution covering accounting consultation, taxation, legal and other aspects.

Hainan FTP – the Next International Aviation Hub?

Introduction

On 1 June  2020, the Central Committee of the Communist Party of the People’s Republic of China (PRC) and the State Council released the Overall Plan for the Construction of Hainan Free Trade Port (FTP) (the “Master Plan”) with the intention to develop Hainan into the largest special economic zone by 2050. 

The Master Plan outlines 60 unprecedented major policies that include market-opening measures and tax regulations to facilitate foreign trade and investment to position Hainan as a transport and logistics hub. It also aims to support specific sectors, including aviation, shipping, telecommunications and finance. 

An FTP, in general, is much broader than a free trade zone (FTZ); the latter normally only covers trade in goods. Under the Master Plan, the FTP has a special status which allows greater freedom for investment, offshore finance and trade, employment and business operations. The Master Plan grants Hainan FTP increased autonomy in adjusting policies to optimise its business environment and openness to the global economy. 

Among the specific sectors which the Master Plan is intended to support, this article focuses on some of the policies which aim to boost the Hainan FTP into an international aviation hub and reviews the extent to which such policies may benefit various stakeholders in the aviation industry, including airlines, aircraft financiers and lessors.

Relaxation of Foreign Debt Registration

Before the promulgation of the master plan

As aircraft financing is a capital-intensive business, most aircraft lessors registered in the FTZ will obtain financing from various sources, including offshore financiers, for the acquisition of aircraft. 

Under the current foreign debt regime, for the purpose of obtaining offshore financing, lessors registered in an FTZ are subject to the requirements of either: (i) obtaining prior foreign debt quota from the National Development and Reform Commission (NDRC) and subsequent registration with the State Administration of Foreign Exchange (SAFE),  or (ii) depending on the type of the lessor entity, restrictions in borrowing up to a certain limit in respect of a PRC non-financial enterprise.

Most lessors registered in an FTZ usually rely on the former because the NDRC foreign debt-registration system provides them with a greater ability to raise capital than subjecting themselves to a borrowing limit under option (ii). The NDRC requires filings or registration to be made prior to loan utilisation and reporting of certain information relating to the facility within a certain timeframe. After completion of NDRC foreign debt registration, the borrower is required to file with the local SAFE of the foreign debt upon execution of the facility agreement.

After the promulgation of the master plan

In order to facilitate the free flow of capital into the Hainan FTP and to develop it into an international aviation hub, the Master Plan seeks to remove the restrictions on overseas aircraft financing. As such, subject to detailed implementation of the rules or regulations and interpretation of the relevant authorities, it is likely that there will be no restrictions for aircraft lessors incorporated in the Hainan FTP to obtain a foreign debt quota from the central NDRC. Even if the central NDRC does impose any such restriction, the Hainan FTP aircraft lessors can obtain the foreign debt quota from the Hainan FTP NDRC directly.

In respect of registering the use of foreign debt with the SAFE, the Master Plan simplifies the process by allowing overseas enterprises to proceed with registrations directly at banks located in the Hainan FTP. 

The removal of the restriction of obtaining a foreign debt quota from central NDRC and the decentralisation of SAFE registration may facilitate the offshore financiers’ credit approval and risk-control process and also lower the compliance burden of the Hainan FTZ borrowers under the financing documents.

Tax Measures

The Master Plan details various tax initiatives to develop the Hainan FTP as an international aviation hub. The implementation of a zero-tariff policy on certain imported goods (such as aircraft) is likely to attract tourists and operators to the island. The move is intended to generate demand for both domestic and inbound investment into aircraft.

Tax incentives on corporate income tax and individual income tax at a competitive level are intended to attract aviation industry stakeholders to set up companies in Hainan FTP and aviation-specific talents to relocate to the island.

While clarifications and further policy guidance are needed to study the criteria and conditions for tax exemptions for both corporates and tax residents, tax reforms may build the Hainan FTP into a premier centre for aircraft financing and leasing.

Custom tariff

Proposed reforms in customs tariff and policies deregulate and liberalise trade at the Yangpu Port Bonded Area of the Hainan FTP, encouraging both domestic and overseas investment. Domestic lessees and overseas investors would benefit from a zero-tariff treatment on the import of aircraft. This zero-tariff policy would bring the regime in line with similar concessions being offered by other FTZs.

Corporate income tax

The Master Plan introduces attractive standard tax rates applicable to corporate and tax residents in the Hainan FTP. It reveals that corporate income tax rate is set at 15%. 

Whilst this may pose effective competition to other FTZs (corporate income tax for a FTZ lessor is generally at 25%), qualified lessors which are subject to a special tax regime in other international aviation hubs such as Ireland, Hong Kong and Singapore are subject to around 12.5%, 8.5% and 5% to 10% profit tax respectively. 

Other stakeholders (which are not qualified lessors) in the aviation market may find the relatively low corporate tax rate in Hainan FTP attractive. For example, the corporate tax rates in Ireland, Hong Kong and Singapore are set at 25%, 16.5% and 22% respectively. These companies may consider setting up operations and headquarters in Hainan FTP to enjoy the low tax rate.   

In addition, under the reformed tax regime of Hainan FTP, qualified corporates are eligible to receive tax deductions or accelerated depreciation and amortisation in full in respect of qualified capital expenditure.

The PRC government believes that the Master Plan will attract foreign aircraft lessors to set up a vehicle in Hainan FTP because the overall tax environment is optimised and there will be no withholding tax to the lessees under a domestic lease arrangement.

Individual income tax

Apart from corporate tax, residents who reside in Hainan FTP for more than 183 days a year are subject to personal income tax brackets of 3%, 10% and 15% (depending on taxable income under local laws). The competitive personal income tax rates compared to Hong Kong (which is capped at 17%) and Singapore (up to 22%) will incentivise aviation talents to relocate to Hainan FTP.

Openness and Transparency in Air Transport Policy

As part of the plan to boost the Hainan FTP into an international aviation hub, the Master Plan expanded air traffic rights in Hainan FTP to include the Fifth Freedom of the Air, which is the right for an airline to stop in a country other than its own and pick up and drop off traffic before continuing on to another destination.

It is important to note that, in addition to the Fifth Freedom of Air, the Hainan FTP will also be encouraged to pilot the Seventh Freedom of the Air, which is unprecedented even compared to the other major international aviation hubs in the region. The Seventh Freedom of the Air covers the right of an airline to operate services between two countries outside its home country. In other words, a Scandinavian flag carrier will be able to pick up passengers in Hainan FTP and fly them to Tokyo without the need to return to its home country.

The opening up of the Seventh Freedom of the Air is novel and may attract various foreign flight carriers to operate in the Hainan FTP. This measure may benefit Hainan based airlines and foreign air carriers who belong to the same alliance, such as Star Alliance, Oneworld or Sky Team. However, it is uncertain whether the local Hainan-based flight carriers will easily agree to this when this would mean a drastic increase of competition for domestic airlines.

Reduced Price of Jet Fuel

Following the promulgation of the Master Plan, the Deep Reform Committee of the Hainan Provincial Party Committee announced that the price of jet fuel refuelled by domestic and overseas airlines at Haikou Meilan Airport, Sanya Phoenix Airport and Qionghai Bao Airport has been reduced since 1 July 2020. The net price difference of domestic jet fuel fell by CNY50 per ton, and the service fees of bonded jet fuel fell by HKD100 per ton, making the sales price of bonded jet fuel the lowest in the PRC. 

The Master Plan specifies that all flights in and out of the Hainan FTP can refuel with bonded aviation fuel and therefore foreign airlines are also entitled to enjoy the preferential policies of the Hainan FTP in this regard. 

The Hainan government announced that, in the long run, the Hainan FTP will co-ordinate the jet fuel prices and create a unified jet fuel supply model.  The Hainan FTP will further gather the fuel suppliers gradually to form a jet fuel price system which is in line with international standards. 

From airlines’ perspective, jet fuel cost is one of the main factors which determines the operating costs of airlines. Allowing airlines flying in and out of Hainan FTP to refuel with bonded aviation fuel will help to reduce airline operating costs and indirectly reduce ticket prices. This measure will attract more people and airlines to fly to the Hainan FTP.

Conclusion

In order to develop the Hainan FTP into an international aviation hub, the Master Plan intends to provide an optimal business environment by seeking to remove the restrictions on overseas aircraft financing, offering an overall favourable tax environment, opening up the air transport policy and reducing the price of jet fuel in Hainan FTP.

The relaxation of the requirement of obtaining foreign debt from central NDRC and simplifying the SAFE registration system may drive up the volume of aircraft financing and leasing transactions. This relaxation may facilitate offshore lenders’ approval and risk-control process and also borrowers’ compliance obligations under the loan documentation.

In terms of creating a favourable tax environment, the Master Plan seeks to remove custom tariffs on imported aircraft and lower corporate income tax and individual income tax to a very competitive level. Subject to implementation of the rules and regulations of the tax policies, it is believed that the Master Plan will attract foreign aircraft lessors to set up leasing vehicles in the Hainan FTP due to the overall optimal tax environment and there will no withholding tax to the lessees under domestic lease arrangements.

The Master Plan also expands air traffic rights to include the Fifth Freedom of the Air and the Seventh Freedom of the Air. The latter is unprecedented even compared to other major international aviation hubs in the region. This measure may attract more airlines to operate in the Hainan FTP but also may increase the competition for domestic airlines.

The reduction of jet fuel price following the promulgation of the Master Plan will attract more airlines flying in and out of Hainan FTP to refuel with bonded aviation fuel. This measure will help to reduce airlines' operating costs and indirectly reduce ticket prices. 

However, as with all other PRC government policies’ pronouncements, clarifications and further policy guidance are required to determine how the tax initiatives and all the novel policies will be implemented. 

Tiang & Partners

Room 2010
20/F Edinburgh Tower
The Landmark
15 Queen's Road Central
Hong Kong

+852 2833 4908

+852 2833 4902

www.tiangandpartners.com
Author Business Card

Law and Practice

Authors



Tiang & Partners is associated with PwC Legal International Pte Ltd (a licensed foreign law practice) in Singapore. Through this association, Tiang & Partners has access to the most geographically extensive legal services network in the world, with over 3,600 lawyers in nearly 100 countries. In China, the firm collaborates closely with Shanghai Xin Bai Law Firm, and in particular with the banking and finance team at Beijing Rui Bai Law Firm. In addition, Tiang & Partners' lawyers frequently work closely with PwC professionals in other disciplines to deliver integrated solutions to business needs, which cover legal, accounting, tax, risk management and financial considerations. The aviation finance team is fully integrated into PwC’s aviation business services, to offer clients a one-stop, all-inclusive solution covering accounting consultation, taxation, legal and other aspects.

Trends and Development

Authors



Tiang & Partners is associated with PwC Legal International Pte Ltd (a licensed foreign law practice) in Singapore. Through this association, Tiang & Partners has access to the most geographically extensive legal services network in the world, with over 3,600 lawyers in nearly 100 countries. In China, the firm collaborates closely with Shanghai Xin Bai Law Firm, and in particular with the banking and finance team at Beijing Rui Bai Law Firm. In addition, Tiang & Partners' lawyers frequently work closely with PwC professionals in other disciplines to deliver integrated solutions to business needs, which cover legal, accounting, tax, risk management and financial considerations. The aviation finance team is fully integrated into PwC’s aviation business services, to offer clients a one-stop, all-inclusive solution covering accounting consultation, taxation, legal and other aspects.

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