Further to our article (https://hadefpartners.com/news-insights/insights/issuance-of-a-new-finance-lease-law-in-the-uae/) on the issuance of the Federal Decree Law 32 of 2023 on Finance Lease (the 2023 Finance Lease Law), the Ministerial Resolution No. 76 of 2020 regarding the accounting standards on the Finance Leasing system (the 2020 MR) has been replaced by the Ministerial Decision No. 197 of 2024 on the Regulation of Accounting Treatment Provisions Related to Financial Leasing (the 2024 MD) with effect from 17 September 2024. Although the majority of the 2024 MD is dedicated to setting out the responsibilities of the lessors and lessees that are parties to finance leasing arrangements as to how they must deal with the financial accounting of such arrangements, a notable “omission” from the 2024 MD is the following (which was included in the 2020 MR):
The scope shall be applicable to the companies when they fulfil any of the following conditions, individually or collectively:
- The lease transfers ownership of the Leased Property to the lessee by the end of the lease term;
- the lessee has the option to purchase the Leased Property at a price that is expected to be sufficiently lower than the fair value at the date the option becomes exercisable for it to be reasonably certain, at the inception of the lease, that the option will be exercised;
- the lease term is for the major part of the economic life of the Leased Property even if title is not transferred at the end of the lease term.
- At the inception of the lease, the present value of the minimum lease payments amounts to at least substantially all of the fair value of the Leased Property;
- The leased Property is of such a specialised nature that only the lessee can use it without major modifications.
Accordingly, on the basis of the 2023 Finance Lease Law and the 2024 MD, it appears that that finance leases will be defined and construed solely based on the definitions set out in the 2023 Finance Lease Law, which defines Financial Leasing as follows:
Financial Leasing: When the Lessor leases the Asset to the Lessee in exchange for a fee to use it for a specific period, with the permission of granting the Financial Lessee the option to own the Asset in accordance with what is stipulated in Article (3) of this Decree-Law.
Article 3 of the 2023 Finance Lease Law reads as follows:
Article 3 - Types of Financial Leasing
- A Two-Party Financial Lease by which the Lessor grants the Lessee the right to hold an Asset and use it for the period specified in the Lease Contract in exchange for a rental fee or other amounts due under that transaction, with the contract including the following:
a. The option to buy all or part of the Leased Asset.
b. Rental fee or other amounts payable under the Lease Contract and the method of their payment. - The term Three-Party lease shall apply to Financial Leasing that fulfils the following characteristics:
a. If the Lessee specifies the Leased Asset and its specifications and chooses the Supplier.
b. If the Lessor owns the Leased Asset for leasing purposes, and the Supplier is aware of the matter. - The Three-Party Financial Lease Contract may include giving the Lessee the option to buy all or part of the Leased Asset.
- The term Three-Party Financial Lease shall apply to the sale with leaseback, in which the Supplier shall sell the Asset to the Lessor, and then the Supplier shall lease it from the Lessor under a Lease Contract as its Lessee.
- A sublease is when the Lessee leases the Leased Asset to others.
In light of, and considering: (a) the above mentioned provisions of the 2023 Finance Lease Law; and (b) the omission of the five characteristics from the 2024 MD referred to above which were included in the 2020 MR, agreements between a lessor and a lessee (i.e., a “Two Party” arrangement) that do not specifically include the grant of an option to the lessee to own or purchase the leased asset may potentially be interpreted as not constituting finance leases for the purposes of the 2023 Finance Lease Law. Further, in the case of agreements between a lessor, a lessee and a supplier (i.e., a “Three Party” arrangement), the Arabic text suggests that such arrangement may include a purchase option in favour of the lessee but the existence or lack of a purchase option itself is not determinative as to whether such an agreement would constitute a finance lease for the purposes of the 2023 Finance Lease Law. Consequently, the intended lessors in these scenarios may not be required to be licensed under the 2023 Finance Lease Law.
The replacement of the 2020 MR with the 2024 MD is likely to be a positive development for companies investing in capital assets deployed at client premises. This change simplifies ownership and deployment, making the process significantly easier and more manageable by potentially eliminating the need to obtain a financial leasing license. This development has the potential to foster a more business-friendly environment, allowing companies to optimize their investment strategies and deployment of capital, improve asset management, and accelerate the adoption of innovative solutions. If a financial lease license is not required in these instances, businesses may be able to expand their reach, enhance service delivery and create more value for their stakeholders.
With that in mind, we highlight the following cautionary points:
- The 2023 Finance Lease Law and the 2024 MD have only recently been issued and we are not aware of any precedent or judgement that deals with the application or the interpretation of their respective provisions. Accordingly, it remains to be seen whether a court or regulatory authority would take the same view or reach the same conclusions.
- Given the lack of precedence and further implementing regulations pursuant to the 2023 Finance Lease Law, it is possible that the relevant applicable accounting standards or treatment (including, without limitation, the provisions of the 2024 MD and/or applicable IFRS rules) lead to a conclusion that a particular agreement or a series of transactions constitute some form of finance leasing for the purposes of such accounting standards/rules. The effect of such potential conclusion(s) on the interpretation of the provisions of the 2023 Finance Lease Law and the application thereof remains unclear at the moment.
- The issuance of the procedures relating to licensing of entities pursuant to the 2023 Finance Lease Law and the designation of the regulatory authority that will supervise financial leasing activity with respect to non-financial institutions is awaited. Therefore, legal and regulatory developments in this area will very likely have an impact on the further interpretation and construction of the scope of financial leasing. Ongoing monitoring of such developments is well-advised.
- It would also be advisable for businesses to conduct a thorough and detailed review of their existing contractual arrangements in order to fully understand and assess the potential implications of the replacement of the 2020 MR with the 2024 MD. By doing so, companies can identify any necessary adjustments, ensure compliance with the updated regulatory framework and mitigate any risks that may be identified as part of such review/analysis.
For any queries on Financial Leasing, please contact the Hadef & Partners Banking and Finance team.