25 June 1999 GST/HST Interpretation HQR0001358 - PROPOSED LAW/REGULATION Car Lease Agreements Involving a Trade-in

Dear XXXXX

Your request concerning the application of the Goods and Services Tax (GST)/Harmonized Sales Tax (HST) to car lease agreements (involving a trade-in) entered into on or before April 23, 1996 was forwarded to our Directorate for a response. We understand that you require a response to the questions posed by XXXXX XXXXX in an August 11, 1998, letter (with sample lease agreements) to XXXXX[.] Thank you for bringing this matter to our attention. We apologize for the delay in responding to your request.

Facts

1. You provided the following two different examples of vehicle lease calculations involving a trade-in vehicle, with accompanying agreements.

Example 1

Example 2

2. The vehicle lease agreements are entered into prior to April 24, 1996.

3. The vehicle lease agreements applied the trade-in value of a "traded-in" vehicle to the lease of a new vehicle for PST purposes.

4. PST on the monthly lease payments was zero due to the operation of the provincial sales tax trade-in approach, coupled with the fact that the "trade-in value" was greater than the "value" for PST purposes.

Interpretation Requested

You have requested an interpretation confirming the following treatment of vehicle lease contracts:

1. Is the residual value used for determining the "value" for the purposes of the provincial component of HST?

2. If the lessor exercises the option to purchase at the end of the lease, what is the application of GST/HST on the option price?

Interpretation Given

Please note that all legislative references used in this letter are provisions of the Excise Tax Act (the Act). In addition, the following discussions relates to a taxable supply made in Canada.

1. Determine the "value" for the purposes of the provincial component of HST.

For supplies made on or before April 23, 1996, the trade-in of a vehicle on the lease of another vehicle was considered to be two separate transactions for GST purposes: the lease of a vehicle by the dealer to the customer and the sale of the customer's vehicle to the dealer.

As a result, for supplies made before April 24, 1996, where a trade-in was involved, the value on which provincial retail sales tax was calculated may not have been the same as the value on which GST was calculated.

Pursuant to subsection 136.1(1), each lease payment is treated as consideration for a separate supply for each period (i.e. lease interval) to which the lease payment is attributable. The supply of the property for the lease interval is deemed to be made on the earliest of the first day of the lease interval, the day on which payment that is attributable to that lease interval becomes due, and the day on which payment that is attributable to that lease interval is made.

Subsection 152(2) provides that, where property is supplied under a written lease agreement, the consideration for the supply becomes payable as it falls due under that agreement, notwithstanding the fact that an invoice or notice of payment may be issued to the lessee in advance of that date.

Section 168 sets out the rules for when tax becomes payable. The general rule is that tax becomes payable by the recipient on the earlier of the day the consideration for the supply is paid and the day the consideration for the supply becomes due.

Subsection 165(1) provides that the tax in respect of a supply is calculated at the rate of 7% on the value of the consideration for the supply ( the "GST base").

Subsection 165(2) provides that, in addition to the tax imposed by subsection 165(1), the tax in respect of a supply made in a participating province is calculated at the tax rate for a participating province (8%) on the value of the consideration for the supply (the "HST base", which is the same amount as the "GST base").

Consequently, since April 1, 1997, lease payments are subject to the HST when the transaction is made in a participating provinces. The HST is calculated on the GST/HST base.

Proposed legislation

As you are aware, in some agreements negotiated before the implementation of the GST trade-in approach, where a supplier accepted a trade-in as full or partial consideration for a lease of a motor vehicle, the value on which provincial retail sales tax was calculated (PST base) may have been lower than the value on which the provincial component of the HST is calculated (the HST base). This appears to be the situation for the two examples you provided.

A Notice of Ways and Means Motion was tabled in June 4, 1999 in the House of Commons, that proposes to add section 354.1 to the Act, effective March 20, 1997.

This new section is intended, for purposes of calculating the provincial component of the HST, to preserve the benefit to the lessee of the amount initially credited in respect of the trade-in for provincial retail sales tax purposes under lease agreements entered into before April 1, 1997.

Under proposed section 354.1, the value on which the provincial component of the HST is calculated under subsection 165(2) will not exceed the value (excluding GST) on which the provincial retail sales tax would have been calculated. This value is called the "adjusted value" and refers to the PST base.

More specifically, proposed section 354.1 applies when all of the following conditions are met:

•   an agreement to lease a specified motor vehicle is entered into before April 1, 1997;

•   used tangible personal property, or a leasehold interest in such property was accepted by the supplier as full or partial consideration for the vehicle;

•   retail sales tax of the province would have been payable by the lessor in respect of the lease interval had the trade-in not been accepted and that tax not been suspended or repealed when the provincial component of HST was implemented;

•   the value of the consideration for the supply for GST purposes exceeds the value, excluding GST, on which the provincial sales tax would have been calculated.

Thus, in the examples provided, if all the conditions of proposed section 354.1 (as outlined above) are met, GST and HST would be calculated as:

7% tax on the GST base
8% tax on the PST base (zero in the two examples).

2. GST/HST on the option to purchase

Where the agreement is considered to be a lease at law, it will be treated as a lease for GST/HST purposes, and not in the same manner as a conditional sales agreement. As a result, in the absence of a relieving provision, the GST/HST would apply to each lease payment and any consideration paid to exercise a buy-out option would also be subject to the GST/HST.

Proposed legislation

Under proposed subsection 136.1(1.1), where a lessee under a lease of tangible personal property exercises an option contained in the lease to purchase the property while retaining physical possession of the property, the place and time of delivery of the property in relation to the purchase is deemed to be the place and time at which the person begins to have possession as purchaser and not as lessee.

Proposed subsection 352(1.1) is a transitional measure that applies to the following situation:

•   a lessee of property exercises an option to purchase the property;

•   the option to purchase is provided for in a lease agreement negotiated prior to April 1, 1997;

•   the supply of the property is made in a participating province; and

•   provincial retail sales tax became payable prior to April 1, 1997, to the sale of property or would have become payable if the property or the recipient were not exempt.

This section ensures that the provincial component of the HST does not apply to the sale if provincial retail sales tax became payable prior to the April 1, 1997 to a sale of property resulting from the exercise on or after April 1, 1997 of an option to purchase the property contained in a lease.

If all the conditions of subsection 352(1.1) (as outlined above) are met, no tax under subsection 165(2) is payable. In other words, the provincial component of the HST (HST base) does not apply to the sale.

To illustrate this situation, if all of the conditions of subsection 352(1.1) are met, and where the buy-out option is $16,500 (as per example 2), the tax would be calculated as follows:

•   the GST would be 7% of $16,500 ( GST base),

•   the 8% provincial component of the HST would not apply.

Unless proposed subsection 352(1.1) applies to the transaction, the GST/HST would apply to any consideration paid to exercise a buy-out option since the supply of the vehicle by way of sale by the lessor to the customer is a taxable supply.

•   Tax paid in error

If a person paid an amount as or on account of GST/HST that was in excess of the amount that was collectible ("excess amount"), the person can recover the excess amount in either of two ways. Subsection 232(1) provides that the lessor who has collected an excess amount may refund or credit it to the lessee, or, in accordance with section 261, the lessee may be eligible to claim a rebate of the amount paid by the lessee or on account of tax where the amount was not payable or remittable by the lessee. Where the excess amount was changed but not collected, subsection 232(1) provides that the lessor may adjust the tax charged. The time limit for obtaining a refund, credit or adjustment from the lessor or claiming the rebate from Revenue Canada is two years after the day on which section 354.1 receives Royal assent. No rebates related to proposed section 354.1 will be paid by Revenue Canada prior to Royal Assent. The foregoing comments represent our general views with respect to the proposed amendments to the Excise Tax Act as they relate to the subject matter of your letter. Any change to the wording of these proposed amendments or any future 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 Department with respect to a particular situation.

For your convenience, enclosed is a copy of the proposed legislation and explanatory notes. Also enclosed is a copy of section 1.4 of Chapter 1 of the GST/HST Memoranda Series.

Should you have any further questions or require clarification on the above matter, please do not hesitate to contact me at 613-957-8253.

Yours truly,

Gisèle Prévost, CGA
Goods Unit
General Operations and Border Issues Division
GST/HST Rulings and Interpretations Directorate

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