30 January 1997 GST/HST Interpretation 11650-9 - Proposed Amendment to Section 153 - The "Trade-in Approach"

                                                                        January 30, 1997

Dear XXXXX:

This is in reply to an e-mail sent by XXXXX of your staff on November 14, 1996 in which she requested information with respect to the proposed amendment to section 153 of the Excise Tax Act (the "ETA"). Bill C-70, as tabled on December 2, 1996, proposes the addition of new subsections 153(4) and (5) to the ETA that provide for the use of the "trade-in approach" in certain circumstances. Proposed subsection 153(4) of the ETA provides rules in respect of calculating the value of the consideration for a supply of tangible personal property made by a supplier. This is done by reducing the value of the consideration for such a supply in circumstances where all the other conditions of that subsection have been met and where the exceptions listed in subsection 153(5) do not apply. The amount of the reduction is equal to the value of the consideration for the trade-in.

Prior to responding to your question, it should be noted that in drafting the example in the "Information concerning the Trade-in and Sale of Used Vehicles" released on April 29, 1996 for "Trade-ins of Used Vehicle from Consumers (Non-registrants) - Leases", a simplified approach was used in determining the value of the consideration for the supply made by way of lease. The example assumed that finance charges were nil. Therefore, the conclusions drawn from the example have limited application.

I will provide a response using the same assumptions that were used in the information notice (i.e., finance charges are nil). Following the response I will present some examples where a financing charge exists. Perhaps those examples may be of greater benefit to you as they more closely resemble common auto leasing agreements.

You have requested clarification of the proposed amendment with respect to the following scenarios. Assume that the lease period is 48 months and that finance charges are nil.

Question 1:

A non-registrant individual is entering into an agreement to lease an automobile with a registered automobile dealership. The individual will be leasing a new vehicle valued at $45,000.00. Equal monthly lease payments will be made for a period of 48 months and the buy-out amount at the end of the term of the lease is $13,000.00. At the time of entering into the lease, the automobile dealership accepts the individual's traded in vehicle. The vehicle's trade-in allowance is $36,000.00. There is a $35,000 lien on the trade-in. What is the total amount of GST payable on the monthly lease payment?

Response:

Note: Where the conditions of proposed subsection 153(4) of the ETA have been met and the supply is being made by way of lease, the value of the consideration for the supply (i.e., the new vehicle purchase price) is first reduced by the trade-in allowance (see Step 1 above). Then, the residual amount is applied towards the adjusted value of the consideration (see Step 2 above). The GST payable on the supply by way of lease is calculated by multiplying this adjusted value of the consideration by 7%. In the question at issue, no GST would apply to the monthly leasing payments. Further, if the individual exercises his buy-out, the tax payable on the supply would be $910.00 ($13,000.00 x 7%). There is no provision to apply any excess of the trade-in allowance to the buy-out amount.

Question 2:

A non-registrant individual is entering into an agreement to lease an automobile with a registered automobile dealership. The individual will be leasing a new vehicle valued at $45,000.00. Equal monthly lease payments will be made for a period of 48 months and the buy-out amount at the end of the term of the lease is $13,000.00. At the time of entering into the lease, the automobile dealership accepts the individual's vehicle that he is currently leasing with the dealership as a trade-in.

(a) The individual wishes to make a supply of the vehicle as a trade-in. However, as he is currently leasing the automobile, he only has a leasehold interest in the vehicle. In order to make a supply of the vehicle, the individual is required to take legal title to the vehicle. It is agreed among the parties that it would cost the individual $35,000.00 (before tax) to take title to the vehicle. The $35,000.00 is made up of the buy-out option of $13,000.00 and other early termination charges. What is the total amount of GST payable on the monthly lease payment?

(b) The individual wishes to make a supply of the leasehold interest as a trade-in. It is agreed among the parties that it would cost the individual $35,000.00 (before tax) to take title to the vehicle and that the vehicle is currently worth $36,000.00 (before tax). As a result, the individual wishes to provide his $1,000.00 leasehold interest in the vehicle ($36,000.00 - $35,000.00) as a trade-in. What is the total amount of GST payable on the monthly lease payment?

Response (a):

Note: Where the conditions of proposed subsection 153(4) of the ETA have been met and the supply is being made by way of lease, the value of the consideration for the supply (i.e., the new vehicle purchase price) is first reduced by the trade-in allowance (see Step 1 above). Then, the residual value is applied towards the adjusted value of the consideration (see Step 2 above). In our scenario there is a trade-in of used tangible personal property (i.e., the vehicle) being made. Note, however, that the individual was required to pay GST of $2,450.00 ($35,000.00 x 7%) when he took ownership of the vehicle immediately before providing the vehicle as a trade-in. The GST payable on the supply by way of lease is calculated by multiplying this adjusted value of the consideration by 7%. In the question at issue, no GST would apply to the monthly leasing payments. Further, if the individual exercises his buy-out, the tax payable on the supply would be $910.00 ($13,000.00 x 7%). There is no provision to apply any excess of the trade-in allowance to the buy-out amount.

Response (b):

Note: Proposed subsection 153(4) of the ETA provides that the value of the consideration for the supply of tangible personal property made by the supplier can be reduced to, at least, nil. This will occur where the value of the consideration for the trade-in is equal to, or greater than, the value of the consideration for the supply of tangible personal property made by the supplier. Note that where the conditions of proposed subsection 153(4) of the ETA have been met and the supply is being made by way of lease, the value of the consideration for the supply (i.e., the new vehicle purchase price) is first reduced by the trade-in allowance (see Step 1 above). Then, the residual value is applied towards the adjusted value of the consideration (see Step 2 above). In our scenario there is a trade-in of the leasehold interest in the used tangible personal property (i.e., the vehicle) being made. The GST payable on the supply by way of lease is calculated by multiplying this adjusted value of the consideration by 7%. In the question at issue, GST equal to $45.21 would apply to the monthly leasing payments of $645.83. Further, if the individual exercises his buy-out, the tax payable on the supply would be $910.00 ($13,000.00 x 7%).

The second part of this letter presents four examples using a common auto leasing industry formula for calculating monthly lease payments. In the first three examples, it is assumed that the individual will be leasing a new vehicle valued at $30,000.00, equal monthly lease payments will be made for a period of 24 months, the buy-out amount at the end of the term of the lease is $13,000.00 and the money factor is 0.002132. The product of the money factor and the finance base is equal to the monthly Finance Charge in the formula. The money factor is derived from an interest rate. Refer to the examples for information on the application of the money factor in the formula. Example 4 will use the figures from Question 1 of your submission.

Example 1 (without a trade-in):

Pursuant to the formula commonly used in the auto leasing industry, the monthly lease payment calculation would include both a depreciation component (Depreciation Charge) and an interest component (Finance Charge) and is calculated as follows:

Given that there is no trade-in in this example, the GST payable on each monthly lease payment would be $56.00 ($800.01 x 7%).

Example 2 (with a trade-in that does not have a lien):

Assume that the dealer accepts a $20,000.00 trade-in from the consumer and that there is no lien on the traded in vehicle.

Step 1: Calculation to determine monthly lease payment.

Step 2: Re-calculation of lease payment (for GST purposes only). In this example, the calculation of the lease payment for GST purposes is identical to the calculation of the monthly lease payment. The conditions of proposed subsection 153(4) have been met, therefore the consideration for the supply of the new vehicle is reduced by the amount credited for the trade-in. The GST payable on the monthly lease payment is nil. Further, should the lessee exercise his buy-out option at the conclusion of the lease, the GST payable on the purchase of the vehicle is equal to $910.00 ($13,000.00 x 7%).

Example 3 (with a trade-in that has a lien):

Assume that the dealer accepts a $20,000.00 trade-in from the consumer and that there is a $14,000.00 lien on the traded in vehicle.

Step 1: Calculate monthly lease payment

Step 2: Re-calculation of lease payment (for GST purposes only). The amount of the lien on the trade-in is not added when determining the Adjusted Capital Cost and therefore does not form part of the Finance Base or the Depreciation Base.

Note: Proposed subsection 153(4) of the ETA provides that the value of the consideration for the supply of tangible personal property made by the supplier can be reduced to, at least, nil. This will occur where the value of the consideration for the trade-in is equal to, or greater than, the value of the consideration for the supply of tangible personal property made by the supplier. Therefore, in Example 3 the GST payable on the monthly lease payment of $537.21 is $0.00. Further, where the lessee exercises the buy-out option at the termination of the lease, the GST payable on the purchase of the vehicle is $910.00 ($13,000.00 x 7%).

Example 4 (with a trade-in that has a lien):

The example uses the figures from Question 1 of your submission. A person wishes to begin leasing a new vehicle with a selling price of $45,000.00. He wishes to trade in the vehicle he currently owns that is valued at $36,000.00. There is a $35,000.00 lien on the vehicle to be traded in. The buy-out for the new leased vehicle is $13,000.00. Assume that equal monthly lease payments will be made for a period of 24 months and the money factor is 0.002132.

Step 1: Calculate monthly lease payment

Step 2: Re-calculation of lease payment (for GST purposes only). The amount of the lien on the trade-in is not added when determining the Adjusted Capital Cost and therefore does not form part of the Finance Base or the Depreciation Base.

Note: Proposed subsection 153(4) of the ETA provides that the value of the consideration for the supply of tangible personal property made by the supplier can be reduced to, at least, nil. This will occur where the value of the consideration for the trade-in is equal to, or greater than, the value of the consideration for the supply of tangible personal property made by the supplier. Therefore, in Example 4 the GST payable on the monthly lease payment of $1,413.19 is $0.00. Further, where the lessee exercises the buy-out option at the termination of the lease, the GST payable on the purchase of the vehicle is $910.00 ($13,000.00 x 7%).

If you require further information, please contact me at (613) 941-3971.

Yours truly,

Robert Smith
Rulings Officer
Industries Unit
General Operations and Border Issues Division
GST Rulings and Interpretations Directorate

RITS CASE # HQR0000506

Telephone: (613) 954-5021

Facsimile: (613) 990-1233