Coast Guard Rulemaking Regarding Lease Financing for Vessels Engaged in the Coastwise Trade
By: Lawrence G. Cohen
27 March 2004
On February 4, 2004 the Coast Guard published its Final Rule (69 Federal Register 5390), effective as of that date amending its regulations on the documentation of vessels engaged in the coastwise trade. The revision will impact clients currently using or contemplating use of lease financing accomplished through foreign institutions.
In 1996 Congress amended the vessel documentation laws to allow lease financing (where lessor owns the vessel) by adding a new paragraph (e) to 46 U.S. C. 12106 which made an exception to the requirement that the owner of the vessel had to be a U.S. Citizen under Section 2 of the Shipping Act, 1916, which requires at least 75% U.S. ownership. Paragraph (e) provides for issuance of a Coastwise endorsement if (1) the vessel is eligible for documentation; (2) the vessel's owner, parent of the owner or subsidiary of the parent of the owner is primarily engaged in leasing or other financing transactions; (3) the vessel is under a demise charter to a U.S. Citizen qualified under Section 2 of the Shipping Act 1916 and (4) the demise charter is for at least 3 years.
Since 1996 only 87 entities have applied to document a vessel using the lease financing provisions. Nevertheless there has been considerable concern by those engaged in the coastwise trade that the provisions of Section 1206(e) are open to abuse which would permit foreign entities an entry into the protected coastwise trade. The Coast Guard began its proposed rule-making process in 2001. Since then and following the events of September 11, 2001 the United States has become much more sensitive to any activity that might theoretically permit foreign interests to encroach on activities impacting the security of the United States.
It is with this background that the Coast Guard has issued its rule, which will have the following effect:
1) Neither the owner of the vessel (lessor) the parent of the owner, or the group of which owner is a member may be primarily engaged in the direct operation or management of vessels;
2) The ownership must be primarily a financial investment without the ability or intent to directly or indirectly control the vessel's operation;
3) Neither the owner or the parent of the owner or the group to which the owner belongs can be primarily engaged in the operation or management of commercial, foreign flag vessels used for the carriage of goods for unrelated parties.
The impact of these regulations will be to eliminate foreign vessel operation and management companies from using the subterfuge of a lease financing company to enter into the coastwise trade, however, a subsidiary effect may be to reduce sources of finance for U.S. flag vessels engaged in the coastwise trade.
On the same day the Coast Guard and Maritime Administration ("MARAD") issued a notice of proposed rulemaking (60 Federal Register 5403) requesting comments on or before May 4, 2004 regarding a proposal to amend its regulations on documentation under the lease finance provisions, of vessels engaged in the coastwise trade.
MARAD proposes to amend its regulations to require MARAD approval of all transfers of the use of the lease financed vessel in the coastwise trade to a parent of the owner, a subsidiary or affiliate of the parent, or an officer, director or shareholder of one of them. The Coast Guard proposes to change its regulations regarding documentation to require MARAD approvals of time charters where the vessel is time-chartered back to an entity related to the non-citizen owner.
Both of these proposals will add significantly to the time for documentation of lease financed vessels engaged in the coastwise trade and to possible bureaucratic interference with chartering arrangements for vessels. Clients are urged to review the proposed amendment carefully and to submit comments if appropriate.
Questions?
If you have any questions about this article or any other related matters, please contact Lawrence G. Cohen.
