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Practical Pieces & Perspectives

September 17, 2019
Modernizing Commercial Aviation: A Proposal for Blockchain as a Solution to Aircraft Registration and Recordation
Colin Mummery
I. Introduction

Aircraft financing is a distinctive area of commercial asset-based financing because of unique rules, regulations, and practices.[1] Indeed, the inherent mobile capacity of an aircraft raises important considerations for financing as compared with more traditional fixed assets such as real estate.[2] The law governing any aircraft financing involves a combination of international, federal, and state law.[3] While federal statutes provide for a national system of aircraft registration and lien recordation, the validity and priority of an interest remain state law questions.[4] The ratification by the United States of the Cape Town Convention and associated aircraft Protocol further impacts the federal and state interplay with respect to aircraft objects covered by the Convention by altering certain rules governing aircraft financings through the establishment of an international framework for the creation, registration, enforcement, and prioritization of certain interests relating to specified airframes, engines, and helicopters.[5]


II. The FAA aircraft registration system

The Federal Aviation Administration (“FAA”) is the primary administrative entity with the responsibility for keeping a system in place for the registration of aircrafts and the recording of interests related to aircrafts in the United States.[6] As such, an aircraft operated in the United States by an entity other than the Government may be registered with the FAA if the aircraft is 1) not registered under the laws of any foreign country, and 2) owned by a citizen of the United States.[7] To accomplish this, an aircraft owner submits an Aircraft Registration Application with the FAA, and then receives certificate of registration.[8]


More importantly, an aircraft that has been previously registered in the United States but subsequently has its ownership transferred requires a new registration.[9] As such, the new applicant must demonstrate that a conveyance came from the previously registered owner.[10] Additionally, an applicant may be required to demonstrate consecutive transactions or conveyances via each registered intervening owner to the new applicant.[11]


The FAA registration system is not overly complex but it is nonetheless immensely important because a failure to properly register an aircraft renders such aircraft unusable.[12]


III. The Cape Town Convention

One of the central goals of the Cape Town Convention is to provide creditors with a panoply of basic default remedies, and where there is evidence of default, a means of obtaining rapid interim relief pending final determination of a claim.[13] The intent, therefore, is to give creditors greater confidence in the decision to grant credit, enhance the credit rating of equipment receivables, and reduce borrowing costs to the advantage of all interested parties.[14] The Cape Town Convention was ratified by the United States on October 28, 2004.[15]


A major tenet of the Cape Town Convention is the International Aircraft Registry, which requires all security interests, leases, and similar interests relating to aircraft equipment (known as “international interests”), both current and prospective, to be recorded by reference to the manufacturer’s serial number.[16]


If one fails to register, any international interest would be void as against third parties who have made subsequent registrations at the registry.[17] Likewise, the purchaser of an aircraft takes its interest in such aircraft subject to all interests of record on the registry database.[18]


The fundamental reason to have adequate and transparent registration requirements under the Cape Town Convention is to ensure the validity of one’s interest in an aircraft.[19] Indeed, under the Convention, a registered interest has priority over any other interest subsequently registered and over unregistered interests.[20] This rule of absolute priority applies even if the registered interest was acquired or registered with actual knowledge of the existence of an unregistered interest.[21] The rule is intended to avoid factual disputes as to whether a second creditor did or did not know of an earlier interest.[22]


IV. Blockchain technology overview

Blockchain technology refers to a distributed ledger technology concept.[23]The term “blockchain” and the incipient promises for such a technology are now commonplace among society.[24] For example, entire papers explore the technology itself, others explore cryptocurrency as a proof of concept, and others explore the many potential uses for even germane daily tasks.[25]


A blockchain is a transaction register distributed over several computers connected to a network (nodes) that contain a complete and tamper–proof history of ownership and transfer relationships recorded in blocks that are linked to each other.[26] It is a decentralized database in which transaction data is recorded and validated in a manner that is unalterable and transparent for the participants.[27] Traditionally, data relating to financial transactions is centrally administered[28]and traditional bank to bank transactions are centralized with respect to the banks’ own networks which may or may not rely on the internet, for instance.[29]


In a blockchain, however, “all data is redundantly stored in a distributed ledger by all nodes of the participants (peers). Accordingly, every node has an (exact) copy of the distributed ledger that is accessible at any time by all peers (reading permission).”[30] The content and form specifically relating to transactions recorded in the blockchains for asset transfers can be freely chosen but must be defined for a specific application.[31]


A public blockchain is characterized such that anybody has open access to the network.[32] Any individual may connect to the network to view the ledger and act within the system.[33] All transactions in such a blockchain application, therefore, are open to public access.”[34]


There are also private blockchains, which are closed networks in which participation is subject to a specific condition(s).[35] Here, individuals operate in accordance with a defined set of rules including provisions for the replacement or admission of participants.[36] The network may be operated by all participants of the private network in the form of a legal entity.[37] The network infrastructure is financed by each participant paying transaction based fees and/or contributions.[38]


V. Blockchain as an enhancement for the registry of aircraft

The attractive nature of blockchain applications surrounds the benefits for financial transactions: the transaction register transparently informs all participants who hold a specific asset at a given point in time.[39] A blockchain register is almost entirely free from outside tampering because it is stored in a decentralized manner and any entries require the validation of the network.[40] This decentralized validation network should be implemented by the FAA aircraft registry as well as the Aviareto International Aircraft registry.[41]


The International Registry standing alone does an excellent job with respect to the notice function.[42] Indeed, the Closing Room enhancement to the registry allows for streamlined negotiations during an aircraft financing transaction.[43] One may easily contend that, given the efficiency of the registry, no further enhancements are required. However, in order to effect a connection with other blockchain networks the International Registry would need to be converted into a public distributed ledger. Such a structure would be quite anomalous to the world wide web in which one central network may be accessed by other private networks and various private networks may speak to each other via the internet.[44]


The current registration system could easily be converted into a private ledger network. The network would need to retain a private component as the central validation role would remain with the regulator (FAA).


The blockchain network has its strengths in its own ability to prevent hacking or external tampering.[45] The FAA and Aviareto would certainly not adopt these blockchain networks merely for the interest of increased data security.[46] The primary benefit lies in the immediate and continuous validation function which serves to provide near–perfect notice to all parties involved in a given transaction.[47]


An increasingly common use of distributed ledgers includes the use of smart contracts.[48] Blockchain-based smart contract features are useful for the implementation of a simultaneous exchange of performances, and therefore, reduces the risk of insolvency for each counterparty.[49] Furthermore, depending on the design of the blockchain, the exchange of performances may take place directly between peers without requiring the use of an intermediary.[50] With the complicated nature of an aircraft finance transaction, a smart contract design based on a blockchain could help to provide efficiency for both sides of the deal.[51] The parties to a deal would simply create their own private blockchain network. Indeed, the Closing Room aspect of the International Registry largely mimics precisely this endeavor.[52] If the FAA adopted a robust system of blockchain networks, it would then be possible for two parties to craft their own smart private network for a specific deal. The smart network would also have the ability to communicate or access the FAA and Aviareto blockchains, which would therefore allow for a tremendous increase in deal–making efficiency.


In order to implement a blockchain registration system, the governing bodies must be mindful of the problems associated with distributed ledger networks. Such a system must be designed with precision from the beginning and must contemplate the rules for legal enforcement.


Even if the blockchain networks were private, there would have to be a legally enforceable mechanism of trust and reinforcement. But again, both systems already have legal enforcement and trustworthy notice capacities.[53] In order to properly work, the International Registry would need to include a separate protocol under the Cape Town Convention that is signed by all parties to the Convention.


More specifically, the use of a private blockchain by the International Registry would entail pre-approved access given to Approved Administrators and the Supervisory Authority.[54] Their activities within the registry would be publicly monitored via the blockchain ledger in accordance with all Convention standards. The centralized and neutral Registry would be immune to fraud or illicit activity. This is because all activity, such as new entries, modifications, and general aircraft transactions, would be accessible only to the pre-approved permissioned actors. These changes would create new permanent blocks, which would be approved or validated by the blockchain.


Ultimately, what is at stake matters a great deal for the continued credibility of the International Registry and the larger goals of the Cape Town Convention. The International Registry blockchain would allow for the disclosure of an aircraft’s current status within the registry as well as the entire chain of transactions involved in the asset’s history.[55] Likewise, the data that must remain confidential would only be available to the Approved Administrators via encryption. Other data within the database that is currently publicly accessible would remain accessible as such. Through the implementation of blockchain technology, the international secured asset transactions of aircraft will become more streamlined.

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