30 October 2000 GST/HST Interpretation 32238 - GST Status of Service Fees

Dear XXXXX:

Thank you for your letter of August 2, 2000, (with attachments) concerning the application of the Goods and Services Tax (GST)/Harmonized Sales Tax (HST) to your financing operations.

Statement of Facts

Our understanding of the facts, the transactions and the purpose of the transactions is as follows:

•   XXXXX (XXXXX) primary business is to arrange financing and leasing for commercial concerns, be they limited companies, partnerships, or sole proprietors. A typical example would be that of a company seeking to acquire a new truck; the transaction would either be a lease or a loan.

•   In the case of a loan, XXXXX interviews the borrower, assembles background financial information, prepares a credit application for review by a third party lender and, assuming credit approval is forthcoming, prepares and attends to execution of documents (loan agreements or conditional sales contracts). The completed transaction is then handed over to the lender who funds the transaction and pays XXXXX a fee for the service(s) provided.

•   In the case of a lease, the same preparatory work applies. Instead of locating a lender, XXXXX arranges for a third party lessor to buy the desired equipment for the express purpose of leasing it to the end user (lessee). Again, XXXXX is paid a fee by the lessor.

•   In both cases, XXXXX invoices the lender/lessor for the fee plus GST.

•   The remuneration paid to the independent contractor is an agreed percentage of the amount billed to the lender/lessor. The transaction is not an insurance sales commission of the sale of a financial instrument; it is a fee for service (and in your opinion, not exempt of GST).

•   XXXXX does sometimes arrange life and disability insurance to cover the lease or loan liability. In this case, you do receive a sales commission from the insurance underwriter and treat this aspect of the business as GST exempt and do not bill GST or propose to pay GST on the insurance related payment to the independent contractors.

Further, the information set out on your website, XXXXX, indicates that, "XXXXX is an underwriter of commercial equipment lease and term finance transactions XXXXX."

In our conversation, you clarified that a related company does carry the financing for some loans and leasing and it is in that sense that you describe yourselves as "underwriters." You further clarified that XXXXX hires independent contractors to perform the "sales function" of soliciting clients, information-gathering, providing assistance with respect to filling out forms, relaying the information to XXXXX so that XXXXX can provide credit approval and present the lender with a completed transaction. In addition, you explained that an agency agreement was in place between XXXXX and the insurer, whereby XXXXX acts as agent for the insurer, writes up the policy and provides it to the insurer.

Interpretation Requested

The primary business of XXXXX (XXXXX) is to seek out financing clients and funders in order to arrange financing and leasing for commercial concerns. The services may take the form of a loan, conditional sales contract or lease for which the third party lender or lessor pays a fee. XXXXX also sometimes arranges life and disability insurance to cover the lease or loan liability, for which it receives a sales commission. There is an agency agreement in place between XXXXX and the insurer. What is the GST status of the services provided by XXXXX to its customers, and what are the GST implications with respect to payment of contractors?

Interpretation Given

Based on the information provided, XXXXX makes both taxable and exempt supplies. Fees received in relation to "arranging for" leases are taxable, since leases are not "financial instruments" as defined at sub. 123(1) of the Excise Tax Act (ETA) and the supply of a lease is not a "financial service". However, loans, conditional sales contracts and insurance policies are "financial instruments" under the terms of the ETA. The issue or granting of a financial instrument is an exempt "financial service" by virtue of para. 123(1)(d). XXXXX acts as a "go-between" to identify and bring together the borrower and the lender in order to "arrange for" the supply of the loan or conditional sales contract; in some cases, XXXXX also "arranges for" insurance to cover the lease or loan liability. In both cases, there is a clear nexus between the activities of XXXXX and the supply of the financial services. Pursuant to para. 123(1)(l), "arranging for" a financial service constitutes a supply of an exempt financial service.

Analysis

This analysis turns primarily on the statutory definitions found at subsection 123(1) of the ETA, and the application of the Financial Services (GST) Regulations, SOR/91-26.

Lease Transactions

A lease is specifically excluded from the definition of "financial instrument" at section 123(1). The definition of "financial service" includes "arranging for" any of the financial services included in paragraphs a) through i). Services provided in relation to "arranging for" a lease transaction are not financial services. These services are taxable.

Transactions involving Financial Instruments

The Canada Customs and Revenue Agency (CCRA) considers both loans and conditional sales contracts to be "debt securities" included in the definition of "financial instrument". An insurance policy is also a "financial instrument" as set out at paragraph 123(1)(c) of this definition.

Many exempt financial services involve "financial instruments". For example, the services provided by XXXXX in relation to these financial instruments may result in the supply of a financial service, specifically: d) the issue, granting, allotment, acceptance, endorsement, renewal, processing, variation, transfer of ownership or repayment of a financial instrument; e) the provision, variation, release or receipt of a guarantee, an acceptance or an indemnity in respect of a financial instrument; or g) the making of any advance, the granting of any credit or the lending of money.

The definition of "financial service" found at 123(1) of the ETA includes the service of "arranging for" (123(1)(l)) any of the financial services included in paragraphs a) through i). Whether the activities of XXXXX constitute "arranging for" the above-noted financial services is a question of fact. Generally, an "arranging for" service can be described as the activities of two or more intermediaries as "go-betweens" in bringing together two person for the supply of a financial service by one person to the other. There must be a clear nexus between the activities of the intermediary and the supply of the financial service.

XXXXX description of the steps taken by the corporation to secure credit for its customers involves first identifying clients requiring financing and willing funders or equipment manufacturers, then interviewing the borrower, assembling background financial information, preparing a credit application for review by a third party lender and, assuming credit approval is forthcoming, preparing and attending to execution of documents (loan agreements, conditional sales contracts or insurance policies). The completed transaction is then handed over to the lender who funds the transaction and pays XXXXX a fee for the service(s) provided. Under these circumstances, the CCRA would consider that XXXXX is "arranging for" the financial services.

Financial Services Regulations

The Financial Services (GST) Regulations prescribe services that are included in the definition of "financial service" in subsection 123(1) of the ETA and services that are excluded from that definition. Once it has been determined that the service meets the criteria for "arranging for" a financial service, it is necessary to determine if it is excluded from the exemption by virtue of these Regulations. Section 4 of the Regulations specifically excludes administrative services supplied in respect of a financial service unless they are supplied with respect to a financial instrument by: a) a person at risk; b) a person that is closely related to a person at risk, or; c) an agent, salesperson or broker who transfers ownership of the instrument for a person at risk or a person closely related to the person at risk. We would consider XXXXX to be a salesperson for a person at risk in relation to the loan and conditional sales contracts.

With respect to the insurance transactions, we understand that an agency agreement is in place between XXXXX and the insurer. Please note that the CCRA does not rule on whether an agency relationship exists where the relationship in question is already established or ongoing. It is our position that whether an agency relationship exists between two or more persons will depend on the relevant facts of the situation and the principles of law. The enclosed draft policy P-182, Determining the Meaning of "Agent" and "Agency," sets out criteria that may be helpful in determining whether an agency relationship exists for the purposes of the ETA in the case at hand. If an agency relationship exists for the purposes of the ETA, we would consider XXXXX to be an agent for a person at risk in relation to the insurance transactions.

In its promotional literature on its website, XXXXX describes itself as an underwriter of (financing and) loan transactions. With respect to underwriting transactions, I understand from a conversation with XXXXX that XXXXX is related to a company that, in some cases, underwrites conditional sales contracts and loans. The service provided by XXXXX in this context may be considered to be "arranging for" financial services pursuant to paragraph 123(1)(h), "the underwriting of a financial instrument".

Proposed Amendment to the Legislation and Impact

You may wish to note that the above-noted Regulations are being amended to codify a previously announced measure that ensures that otherwise taxable clearing, settlement or authorization services - such as those provided in respect of credit card transactions - will not be treated as financial services by virtue only of the risk assumed by the service provider under the terms of the service agreement. Another proposed amendment clarifies that an existing exemption for a service, provided by an agent, salesperson or broker, of arranging for the transfer of ownership of a financial instrument will also apply to the issuance, renewal or variation of the instrument. When this amendment receives assent, it will be deemed to have come into force on December 31, 1990.

Financial Institution Status

You received advice to the effect that you might be a de minimis financial institution. As noted above, the fees XXXXX received for its services of "arranging for" loans, conditional sales contracts and insurance are considered to be fees in respect of a financial service. Paragraphs 149(1)(b) and (c) set out the de minimis rule which applies to certain financial institutions.

In general, under paragraph (b), the rule provides that a person is a financial institution if the person's revenues in the preceding taxation year from interest, certain dividends or income from separate fees or charges for financial services exceeded 10% of the person's total revenues for the preceding taxation year, and exceeded the threshold amount of $10,000,000 on an annualized basis. In general under paragraph (c), a person is considered a financial institution throughout a taxation year where the total of all amounts each of which is included in computing the person's income is comprised of interest, fees or other charges in respect of charge cards or credit cards issued by the person or loans, advances or credit granted by the person exceeded $1,000,000 in the preceding year.

A person who is considered to be a de minimis financial institution is subject to the special input tax credit rules. That is, property or services acquired or imported by a financial institution must be consumed, used or supplied 100% in the course of commercial activities of the financial institution to be eligible for a full ITC. Where financial institutions do not use inputs exclusively in the course of commercial activity, the tax paid or payable on the input must be apportioned between the intended use of the input in a commercial activity and any other use.

The foregoing comments represent our general views with respect to the subject matter of your letter. Proposed amendments to the Excise Tax Act, if enacted, could have an effect on the interpretation provided herein. These comments are not rulings and, in accordance with the guidelines set out in section 1.4 of Chapter 1 of the GST/HST Memoranda Series, do not bind the Canada Customs and Revenue Agency with respect to a particular situation.

Should you have any further questions or require clarification on the above matter, please do not hesitate to contact me at 613-952-9262.

Yours truly,

Sheena France
Financial Institutions Unit
Financial Institutions and Real Property Division
Excise and GST/HST Rulings Directorate

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