A Practical Guide to Filing UCCs Under Revised Article 9

Is a Titling Trust Right For You?

Is a Titling Trust Right For You?

This article was reprinted in The Monitor, 2001.

The syndication of lease transactions involving certificate of title motor vehicles may involve a significant administrative burden and expense. If the syndication is completed after the initial titling of the vehicles, the syndicator will have to retitle the motor vehicles or change the lienholder notation on the certificate of title with respect to the motor vehicles, depending on the nature of the underlying lease transaction, to reflect the name of the assignee. If the transaction involves a fleet of motor vehicles, the sheer number of titles to be handled and the filing fees charged by the state titling agencies can be burdensome. In addition, many states also impose an excise or retitling tax in connection with the transfer of ownership of a certificate of title motor vehicle.

Flexibility of Sub-Trusts
It is possible to avoid or minimize this administrative burden and potential expense by use of a titling trust. A number of leasing companies have established a trust for the expressly limited purpose of holding title to certificate of title motor vehicles. Some of these trusts have been created as a Delaware business trust or a Maryland business trust. The underlying statutes are virtually identical for both states and both offer the same principal advantage: one or more sub-trusts may be created within the umbrella of the master trust and assets may be allocated into those sub-trusts. Assets allocated to a sub-trust are insulated from exposure to liability of creditors of other sub-trusts or of the general trust. Mechanically, the "grantor" of the trust (that is, the entity which creates the trust) may transfer assets into the trust to be held as general trust assets. From time to time, the grantor may direct the trustee to allocate certain assets from the general trust assets to one or more sub-trusts. The grantor would then be able to transfer the beneficial ownership interest in a sub-trust to an investor. After the transfer of beneficial ownership interest has occurred, the investor is entitled to the tax benefits accruing with respect to the assets allocated to that sub-trust and, if those assets include the lease (or an equipment schedule executed pursuant to a lease), all rents and profits earned with respect to that lease or equipment schedule.

Servicing Agreement
The trust would enter into a servicing agreement with the originating lessor as servicer, under which the servicer would do all billing and collecting and would perform all administrative responsibility with respect to the related leases and/or motor vehicles. The trust would maintain separate books and records with respect to the general trust assets and each sub-trust (as required by law). These books and records would reflect the assets comprising the general trust assets or the sub-trust, and the beneficial owner. Transfers of beneficial ownership would be registered by the trustee.

Alternative Structures
There are two alternative approaches which could be taken with respect to the use of the business trust to facilitate the syndication of titled motor vehicles: 1) the trust would be the lessor under the lease or the applicable equipment schedule executed pursuant to a master lease, and all motor vehicles would be titled in the name of the trust; or 2) the trust would only be designated on the certificate of title and would not serve as the lessor with respect to the lease or the equipment schedule (the lease or the equipment schedule would be retained by the originating lessor and, upon syndication, assigned to the investor together with the beneficial ownership interest in the sub-trust). The first approach is the more conventional approach in that the rights and obligations of the lessor, as well as ownership of the leased assets, would be held by the trust. The downside of this approach is that the business trust is a separate legal entity which must qualify to transact business in each jurisdiction in which any other leasing company would be required to qualify by reason of the laws of the individual state and the scope and extent of the leasing company’s activities in that state. There is an administrative burden and expense associated with qualification to transact business. There is the burden and expense of the initial qualification process, and there is also the burden and expense of having to prepare and file annual tax reports and returns for each state in which the trust is qualified.

The second approach, bifurcating the lessor’s interest from the designation on the certificate of title, would avoid the necessity of qualifying to transact business in foreign jurisdictions, since the business trust would not itself be serving as the lessor and would not be transacting business in foreign jurisdictions. This assumes, and it would remain to be determined, that the laws of an individual state do not require qualification to transact business as a foreign entity merely by virtue of the ownership of certificate of title motor vehicles. This is a matter of state law and would have to be determined on a state-by-state basis. The downside of the second approach is that state taxing authorities may be confused by the bifurcation: if the trust is designated on the titles as the registered owner, the lessor would file sales/use tax reports and returns, and pay those taxes, while the personal property tax reports and returns, and the personal property taxes, would be filed and paid by the trust since legal title ownership of the assets is shown in the trust. This issue would not be presented if the trust is not designated on the titles as the registered owner but only as the lienholder, since the lessor would file the personal property taxes and reports, as well as the sales/use taxes and reports. Also, if the second approach is used, the lessee’s insurance (as required under the lease) would have to insure the interest both of the lessor as well as the trust. This should not be problematic since there should be no additional expense incurred by the lessee in naming both entities as additional insured for comprehensive liability coverage.

When Does It Help?
Use of the trust mechanism is most beneficial in the context of a true lease which is not a terminal rental adjustment clause (TRAC) lease, since the lessor is designated as the registered owner on the certificate of title and many states impose an excise tax or retitling fee to change the registered ownership. It is less valuable in the context of a true lease which is structured as a TRAC lease or a lease intended for security, since most leasing companies permit the lessee to be designated as the registered owner on the title and the leasing company is only designated as the lienholder on the title. Although there is usually a relatively nominal fee payable to change the designated lienholder on a title, this amount is almost always significantly less than the excise tax or retitling fee which would be charged to change the registered ownership.

Weigh The Expense
In considering whether the use of a titling trust is appropriate in the situation of a particular leasing company, one must factor in the costs of creating and maintaining the trust. The trustee’s fees would likely include the following approximate costs: initial fee, $2,500; annual administration fee for the master trust, $2,500; initial fee to establish each sub-trust, $1,000; annual administration fee for each sub-trust, $1,000; and a termination fee to be determined. In addition, the trustee would also retain counsel to review and negotiate the terms of the trust agreement, and its counsel’s fees would be on the order of $3,500. To determine whether it would be worthwhile to establish and maintain a titling trust, one must estimate the cost of the administrative burden and expense of retitling or changing the lienholder designation, based on the anticipated volume of transactions, to these known trust expenses. If a leasing company handles a large volume of certificate of title motor vehicle transactions, and it frequently syndicates those transactions, it may well be worthwhile to explore this alternative mechanism.

Copyright© 2001, Ober, Kaler, Grimes & Shriver