The Financial Lease as a ‘Quasi-security’ Device

As opposed to a lender providing loan to a business upon the business providing collateral, the financial lease transaction is more or less designed towards a seller providing credit in the form of property, or purchase price for property.171 The financial lease is a ‘quasi- security’ because they can be seen as an equivalent to a real security device because they have similar economic function of financing a business entity by means of reserving title in sale transactions, instead of an ordinary loan advancement.172 Lease financing could be designed in such a way as to function as a security agreement. For instance, a reservation of title seller may decide to disguise his interest in the goods without registering a security interest, or the grantee may wish to benefit from tax advantages by utilising the benefits of title in the goods through instalment sale such as in a finance lease arrangement. A financial lease can serve a security purpose, and thus, would qualify as a security in a legal sense with a functional approach of taking security, but an operating lease will not qualify as such. Their difference is not always so clear-cut. Nigerian legal practice recognises the financial lease as a type of reservation of title device, along with the hire purchase and conditional sale. Purportedly, there exists other forms of quasi-securities such as consignment, field warehousing and sale and leaseback but the focus here will be on financial lease as it represents arguably the most widely used quasi-security device in Nigeria.173

169 _{CAMA, s 197.} 170 _{CAMA, s 198 (2).}

171 _{Consumer Credit: Report of the Committee (Vol. 1 Cmnd 4596, London March 1971) henceforth ‘Crowther}

Report’, para 1.2.14 (v).

172 _{Crowther Report, para 5.2.7.}

173_{Communique Issued at the 14th National Lease Conference (Equipment Leasing Association of Nigeria, 10}

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Leasing of personal property has been in practice since the ancient times in the Sumerian City of Ur, about 2010 B.C. which was then a major commercial centre, and they involved the rental of farm tools leased to farmers by priests, who then stood as government authorities.174 Also, in 1750 B.C., Hammurabi in his famous code of laws acknowledged the existence of lease of personal property.175 However, modern leasing is believed to have started in the USA in the 1950’s, from where it later spread to Europe and then the Far East in Japan in the 1960’s, and thereafter the rest of the world in the 1970’s.176 The leasing industry in Nigeria represents a viable opportunity for businesses to access cheap and affordable credit to support long-term sustainability. The leasing of equipment is relatively young in Nigeria but it has nevertheless contributed to the socio-economic development especially where the purchase of industrial goods has now become relatively expensive for MSMEs.

In many small and middle-income countries, the financial leasing industry has not been fully explored as an alternative for financing businesses. There is a high demand for lease of equipment’s in such economies compared to other more advanced and industrialised countries that have already expanded their leasing industry.177 Leasing allows businesses to make use of equipment’s which they cannot purchased outrightly, while using the financial benefits arising from the leased equipment as a means to pay the lease instalment payment.178 Additionally, leasing of personal assets helps businesses to manage their financial resources prudently since they can use the retained cash for other pressing needs such as employee remuneration, developing marketing strategies, procuring raw materials etc., with a higher return on investment, as against investing in immediate property acquisition which could stifle their business operations.179 In promoting MSMEs in developing economies, financial leasing has a huge role to play in reducing poverty by generating capital and labour, while maintaining a sustainable business environment for the economy. There are basically two types of equipment lease recognised under Nigerian law – the finance lease and operating lease. Section 2 Equipment Leasing Act (‘ELA’) 2015 states:

by-the-equipment-leasing-association-of-nigeria-elan-held-on-thursday-10th-november-2016-at-sheraton- lagos-hotels-ikeja-lagos/ last accessed 20 December 2016.

174 _{Alexandra Bolea and Roxana Cosma, ‘Leasing as a Modern Form of Business Financing’ in Jan Polcyn}

(ed), Progress in Economic Sciences (Nr 2, PWSZ Poland 2015) 295, 296.

175 _ibid.

176 _{Equipment Leasing Association of Nigeria, Lease Financing in Nigeria (2nd edn, ELAN Publication Lagos}

2015) 2.

177 _{International Finance Corporation, Global Leasing Toolkit: An Introduction (World Bank 2011) 5.} 178 _ibid.

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2.—(1) an equipment lease agreement shall be in writing containing—

(a) A statement to the effect that the lessor and lessee have agreed to enter into— (i) A finance equipment lease, or

(ii) An operating lease, or

(iii) Any other specified variant of either (i) or (ii) above;

Their differences lie in the rights and obligations of both parties, the risks and benefits, differences in accounting treatment, and in tax treatment.180 What this means is that they can be distinguishable looking at different perspectives from the industry, legal, accounting and tax basis.181 _{In financial leases, the lease agreement provides that the lessor retains title to} the equipment for the duration of the lease term but title is transferable to the lessee at the end of the lease term automatically i.e. if the lessee is given the purchase option usually provided in the agreement.182 _{In On Demand Information plc (in administrative receivership)} v Michael Gerson (Finance) Plc, the distinction was further explained succinctly,

‘An operating lease involves the lessee paying a rental for the hire of an asset for a period of time which is normally substantially less than its useful economic life. The lessor retains most of the risks and rewards of ownership of an asset in the case of an operating lease. A finance lease usually involves payment by a lessee to a lessor of the full cost of the asset together with a return on the finance provided by the lessor. The lessee has substantially all the risks and rewards associated with the ownership of the asset, other than the legal title. In practice all leases transfer some of the risks and rewards of ownership to the lessee, and the distinction between a finance lease and an operating lease is essentially one of degree.’183 A financial lease could take various forms which could involve two parties – the lessor and lessee, or three parties - a third party financier, the lessor and lessee. Whereas, an operating lease or ‘true lease’ is designed to temporarily transfer possession and right of use of the asset from the lessor to the lessee without amortizing the full cost of the asset or outrightly assigning proprietary interest in the property.184 The lessee leases the equipment for short- term use of the equipment which the lessor has on hand, and the lessor recovers capital outlay on the equipment from multiple rentals for the entire life of the equipment with the maintenance cost and risk of obsolescence borne by the lessor.185

180_{Lease Financing in Nigeria (n 176) 9–10.} 181 _ibid.

182 _{ST Guide, Introduction, para 26; See also Herbert Kronke, ‘Financial Leasing and its Unification by}

UNIDROIT – General Report’ (2011) 16 Unif L Rev 27; See Lease Financing in Nigeria (n 176) 10.

183 _{(2000) 4 All ER 734, 737, CA.} 184 _{ST Guide, Introduction, para 26.}

185 _{Olatunji E. Sule and Sarat I. Amuni, ‘Equipment Leasing as a Source of Finance for Small and Medium}

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3.3.4.1 Financial Lease under the Equipment Leasing Act 2015

For a finance lease to be valid, it must be writing to evidence the estimated price of the equipment, that the equipment is being acquired by the prospective lessor on behalf of the lessee in connection with the lease agreement, a statement that the prospective lessee selected the equipment, or selected the supplier or manufacturer with or without relying on the skill and judgment of the prospective lessor.186 To validate the lease, a body known as the Equipment Leasing Registration Authority (‘Registration Authority’) is responsible for registering equipment lease agreements.187 _{In this register, the equipment lease agreement} containing the particulars of the lessor, the lessee and equipment shall be recorded, and this register shall be open to the public for inspection upon payment of a prescribed fee.188

The financial lease must be registered with the Registration Authority in its prescribed form not later than fourteen days after the commencement of the lease agreement.189 The effect of a registered lease constitute sufficient notice to third parties of the fact and terms of the lease, and failure to register shall make it be void against any third party acting in good faith, for value without notice of the lease agreement.190 There is a statutory requirement for the lessor to conspicuously inscribe or affix his name on the leased equipment,191 but whether this requirement is mandatory with failure to do so capable of invalidating the agreement is unclear.

Upon registration of the agreement, the lessor remains as the legal owner of the equipment regardless of whether the equipment has been fixed to land or building of another person, and this implied ownership shall take priority over any claim brought by the lessee, lessee’s creditor or third party.192 _{For the duration of the lease, a lessee is prohibited from} using, sub-leasing, assigning a pledge, mortgage, charge, or creating any encumbrance which contravenes the legal ownership of the lessor with a third party, and any of such prohibited agreement shall be ineffective against the lessor.193 However, the rights of the lessor shall take priority against the lessee’s creditor and all other third parties, except as

186 _{ELA, s 2 (2).} 187 _{ELA, s 9 (1) (b).} 188 _{ELA, s 12 (1) – (2).}

189 _{ELA, s 13 – 14. The prescribed form to register equipment lease shall by Form A of the First Schedule to}

the Act (ELA 2015) accompanied by evidence of conformity to s 6 of the Act.

190 _{ELA, s 16 - 17.}

191 _{ELA, s 18. This requirement can be likened to the Russian Civil Code, Art. 228 (2) which provides for the}

labelling of pledged asset indicating that it is encumbered. This system of publicising a security interest is likely to be ineffective for choses in action for reason being that they are intangibles, see Publicity of Security Rights: Guiding Principles for the Development of a Charges Registry (EBRD 2004) para. A3.

192 _{ELA, s 19.} 193 _{ELA, s 20.}

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against a bona fide purchaser for value of the equipment under an unregistered lease.194 Again, whether a holder of a judgment lien will be subject to a lessor’s ownership right was not considered in this law. Additionally, there is no clear distinction as to which of the provisions will apply to financial lease and which applies to operating lease. There is no provision to show whether a lessor can assign or subrogate his right to a third party, other than the odd fact that a lessor must be a corporate entity.195 Worryingly, the CBNR also makes regulatory provision for the registration of financial lease in the NCR,196 thus leading to confusion as to whether a lease of this kind, which is obviously a purchase money security interest (PMSI), should be registered in the NCR as it should ordinarily be, or be registrable with the equipment lease Registration Authority as required under the section 9 (1) ELA.