28 August 2003 GST/HST Interpretation 44674 - Motor Vehicle Leases

Dear XXXXX:

Thank you for your letter XXXXX concerning the application of the Goods and Services Tax (GST)/Harmonized Sales Tax (HST) to transactions that arise at the outset of a motor vehicle lease.

XXXXX represents a number of clients involved in motor vehicle leasing across Canada. The following scenario was provided for purposes of this interpretation:

A motor vehicle dealer (the "Dealer") leases a vehicle to a customer (the "Lessee"). The lease and the vehicle are then assigned to a finance company (the "FinanceCo"). The Dealer and the FinanceCo are both GST/HST registrants. The Lessee is not a GST/HST registrant and is not related to the Dealer or to the FinanceCo. The transactions occur in XXXXX such that the applicable GST/HST rate is 7%; provincial sales tax will be ignored for purposes of this interpretation.

Lease Agreement between the Dealer and the Lessee:

The lease agreement is entered into between the Lessee and the Dealer. The lease agreement provides that by signing the agreement, the Lessee agrees to lease the vehicle on the terms set out in that agreement. The lease agreement requires that a monthly lease payment be made at the beginning of each month over the term of the lease.

The monthly lease payment is determined by applying an annual percentage rate ("APR") to the depreciation of the vehicle over the lease period (the capitalized lease cost of the vehicle less the residual value). The capitalized lease cost of the vehicle includes the base price of the vehicle, the price of any dealer installed equipment or enhancement items, a charge for pre-delivery inspection ("PDI") and freight, and the costs of any optional extended warranty and life and/or disability insurance.

The Lessee may choose to accept an optional extended warranty offered by the manufacturer of the vehicle or a third party warranty company ("the Warrantor"). The Dealer pays the warranty amount to the Warrantor on behalf of the Lessee, and adds it to the capitalized lease cost of the vehicle.

The Lessee may also elect to take out optional life and/or disability insurance offered by an insurance company ("the Insurer"). The coverage offered by the Insurer provides that in the event of the death or disability of the Lessee, the Insurer will pay the balance of any of the Lessee's remaining obligations under the terms of the lease. The Dealer pays the insurance premium to the Insurer on behalf of the Lessee, and adds it to the capitalized lease cost of the vehicle.

The Lessee may pay a cash amount at the outset of the lease to reduce the capitalized lease cost of the vehicle. The Lessee may also trade in a used vehicle (the "trade-in") that the Lessee owns to reduce the capitalized lease cost. If there is a lien outstanding on the trade-in, the Dealer will pay it on behalf of the Lessee, and increase the capitalized lease cost of the vehicle by the amount of the lien. The Dealer pays the lien to obtain clear title to the trade-in, which the Dealer will then either sell or lease.

In some provinces, a licence fee is payable by the Lessee to licence the vehicle for use in the province. The Dealer will pay the licence fee on behalf of the Lessee and recover the amount paid from the Lessee.

The Lessee is also required to pay a security deposit at the outset of the lease. The security deposit is refundable upon termination of the lease unless there are any excess wear and tear or other charges owing by the Lessee at that time. In that case, the security deposit will be applied against such charges, and the balance, if any, will be refunded to the Lessee.

The lease agreement provides that the Lessee acknowledges delivery of the vehicle on signing the delivery receipt section of the lease agreement. The trade-in and the following amounts are due to the Dealer at that time: the first monthly payment, any cash down payment, and the tax on these amounts, the licence fee, and the security deposit.

Agreement between the Dealer and the FinanceCo:

The Dealer and the FinanceCo have entered into an agreement pursuant to which the FinanceCo agrees to purchase the lease and the vehicle for an amount agreed upon between the two parties. The lease agreement provides that, upon signing by the Dealer, the Dealer accepts the lease and immediately thereafter sells, assigns, and transfers all right, title, and interest in the lease and the vehicle to the FinanceCo.

In order to secure its interest in the vehicle under lease, the FinanceCo will register the lease under the Personal Property Security Act ("PPSA") in the province. The FinanceCo hires a third party service provider to register the lease on behalf of the FinanceCo. The third party recovers the cost of the registration fee from the FinanceCo and charges the FinanceCo a service fee for undertaking the registration. The cost of the registration and the service ("the PPSA fee") is recovered from the Lessee by including it in the capitalized lease cost of the vehicle.

The sale price payable by the FinanceCo to the Dealer for the purchase of the leased vehicle and the assignment of the lease is the capitalized lease cost of the vehicle less the first month's lease payment and the PPSA fee. The first month's lease payment is deducted because this amount is paid to the Dealer upon the execution of the lease and before the assignment to the FinanceCo. The PPSA fee is deducted because it is an amount paid by the FinanceCo and not the Dealer.

In settling the amounts due between the FinanceCo and the Dealer, the amount of the security deposit is set off against the sale price for the purchase of the leased vehicle and the assignment of the lease, and only the net amount is paid by the FinanceCo to the Dealer. The Dealer is obliged to pay the security deposit to the FinanceCo, as the FinanceCo assumes the obligation to refund or account for the security deposit at the termination of the lease. The FinanceCo does not treat the security deposit as revenue until such time as it may be applied against any amounts owing at the termination of the lease.

After the lease is assigned, the Lessee pays the monthly lease payments due under the lease to the FinanceCo.

A numerical example illustrating the transactions has been provided:

Capitalized Lease Cost:

Calculation of Residual:

Calculation of Monthly Lease Payment:

Lease Payment Excluding Lien:

GST Calculation:

Cash Due from Lessee at Lease Signing:

GST Remittable by Dealer:

Net Payable to Dealer by FinanceCo:

Interpretation Requested

You have requested confirmation that the GST/HST applies to the above-noted transactions as follows:

1. Amounts payable at commencement of lease:

(a) First Monthly Payment - GST/HST is collectible on the first month's lease payment due upon delivery of the vehicle to the Lessee, and the Dealer is required to remit that GST/HST.

(b) Cash Down - GST/HST is collectible on the cash down payable by the Lessee and due upon delivery, and the Dealer is required to remit that GST/HST.

(c) Trade-in - GST/HST is not collectible on the trade-in provided by the Lessee as partial consideration for the leased vehicle where the trade-in is made by a person not required to charge GST/HST on the supply of the trade-in to the Dealer.

(d) Security Deposit - GST/HST is not collectible on the security deposit paid by the Lessee. To the extent any amounts become payable on termination of the lease and the security deposit is applied to such amounts, GST/HST will become payable at that time. The FinanceCo will be required to collect and remit such GST/HST. No GST/HST is payable on the payment of the security deposit by the Dealer to the FinanceCo.

(e) Licence Fee - GST/HST is not collectible on the licence fee recovered from the Lessee by the Dealer.

2. Calculation of Monthly Lease Payment:

Where there is a lien on the trade-in, the portion of the monthly lease payment that relates to a repayment of principal plus interest on the loan advanced to the Lessee in paying off the outstanding loan on the trade-in is not subject to GST/HST. The balance of the monthly lease payment is subject to GST/HST.

3. Transfer of lease and vehicle to the FinanceCo:

The transfer of the leased vehicle from the Dealer to the FinanceCo and the assignment of the lease are subject to GST/HST. The consideration on which the Dealer must collect GST/HST is the sale price to the FinanceCo.

4. Lease Payments Following Assignment:

The FinanceCo is required to collect and remit GST/HST on the taxable portion of the lease payments that become due following the assignment of the lease to the FinanceCo.

Interpretation Given

Calculation of monthly lease payment:

Under subsection 165(1) of the Excise Tax Act (ETA), every recipient of a taxable supply made in Canada shall pay to Her Majesty in right of Canada tax in respect of the supply calculated at the rate of 7% on the value of the consideration for the supply.

Under subsection 153(4) of the ETA, where, at the time a supplier makes a supply of tangible personal property to a recipient, the supplier accepts, in full or partial consideration for the supply, other property (referred to as the "trade-in") that

(a) is used tangible personal property or a leasehold interest therein, and

(b) is acquired for consumption, use or supply in the course of a commercial activity of the supplier, and the recipient is not required to collect tax in respect of the supply of the trade-in, the value of the consideration for the supply made by the supplier is deemed to be equal to the amount, if any, by which the value of the consideration for that supply exceeds

(c) except where paragraph (d) applies, the amount credited to the recipient in respect of the trade-in, and

(d) where the supplier and the recipient are not dealing with each other at arm's length at the time the supply is made and the amount credited to the recipient in respect of the trade-in exceeds the fair market value of the trade-in at the time ownership thereof is transferred to the supplier, that fair market value.

Subsection 136(1) of the ETA states that a supply, by way of lease, licence or similar arrangement, of the use or right to use real property or tangible personal property shall be deemed to be a supply of real property or tangible personal property, as the case may be.

The Dealer is making a supply of the leased vehicle to the Lessee, and accepting the trade-in as partial consideration for that supply. The Dealer will either sell or lease the trade-in, and is therefore acquiring the trade-in for consumption, use or supply in the course of its commercial activities. The Lessee is not a GST/HST registrant, and is not required to charge tax on the supply of the trade-in. Subsection 153(4) of the ETA will apply to the supply of the leased vehicle, and the consideration will be reduced by the value of the trade-in. The monthly lease payments are part of the consideration for the leased vehicle, and the trade-in value may be applied to reduce the monthly lease payments and the GST/HST payable on the monthly payments. In the example provided, the trade-in value of $8,000.00 is used to reduce the capitalized lease cost on which the monthly lease payments are calculated.

When there is an outstanding lien on the trade-in, the value of the trade-in is not affected by the lien for purposes of calculating the GST/HST. The Dealer has extinguished the lien by making a loan to the Lessee. The loan is a debt security, which, as defined in subsection 123(1) of the ETA, means a right to be paid money and includes a deposit of money, but does not include a lease, licence or similar arrangement for the use of, or the right to use, property other than a financial instrument. A debt security is a financial instrument, and the issue or granting of a financial instrument is a financial service under subsection 123(1) of the ETA. As the supply of a financial service is exempt under section 1 of Part VII of Schedule V to the ETA, GST/HST is not calculated on the portion of the monthly lease payment that is in respect of the repayment of the loan.

All the charges included in the capitalized lease cost, other than the lien repayment, that are consideration for the vehicle by way of lease, will be subject to GST/HST. This includes the base price of the vehicle, the price of any dealer installed equipment or enhancement items, and the charges for PDI and freight.

The PPSA fee is also included in the capitalized lease cost of the vehicle. The FinanceCo is the recipient of the supply of the PPSA registration and the related service, and recovers the cost of these supplies from the Lessee. The PPSA registration secures the FinanceCo's interest in the vehicle, and there is no re-supply to the Lessee. The PPSA fee is paid by the Lessee as part of the consideration for the leased vehicle and, as such, is subject to GST/HST.

The Lessee may choose to purchase an optional life and/or disability insurance, and the Dealer will add the cost of the insurance to the capitalized lease cost of the vehicle. This cost is not segregated in the calculation of the monthly lease payments in the example.

An insurance policy is a financial instrument, and the issue or granting of a financial instrument is an exempt financial service. As defined in subsection 123(1) of the ETA, an insurance policy includes a policy or contract of insurance (other than a warranty in respect of the quality, fitness or performance of tangible property, where the warranty is supplied to a person who acquires the property otherwise than for resale) that is issued by an insurer. An insurer is also defined in subsection 123(1), as a person who is licensed or otherwise authorized under the laws of Canada or a province to carry on in Canada an insurance business or under the laws of another jurisdiction to carry on in that other jurisdiction an insurance business.

The life and/or disability insurance is provided by an Insurer, and the Dealer pays the insurance premium to the Insurer on behalf of the Lessee. It is assumed that the Insurer meets the definition of an insurer under the ETA, but the Dealer does not. Whether the Dealer is acting as the agent of the insurer, or is the recipient of the supply of insurance by the Insurer and resupplying the insurance to the Lessee, is a question of fact. If the Dealer is acting as the agent of the Insurer, and the supply of the insurance to the Lessee is a supply separate from the supply of the leased vehicle, then the supply of insurance is exempt, and GST/HST will not apply to portion of the monthly payments that is in respect of the insurance premiums. If the Dealer is making a single supply of the leased vehicle, the monthly payments, including the portion that is in respect of the insurance premiums, are consideration for the supply of the leased vehicle, and subject to GST/HST. A review of the documentation of a particular case would be necessary to determine whether the portion of the monthly payments that represents the insurance premiums is exempt or subject to GST/HST.

The Lessee may also choose to accept an optional extended warranty offered by the manufacturer of the vehicle or a third party warranty company ("the Warrantor"). The Dealer pays the warranty amount to the Warrantor on behalf of the Lessee, and adds it to the capitalized lease cost of the vehicle.

A warranty in respect of the quality, fitness or performance of tangible property, where the warranty is supplied to a person who acquires the property otherwise than for resale is excluded from the definition of insurance policy under subsection 123(1) of the ETA. The supply of the extended warranty to the Lessee is a taxable supply that is subject to GST/HST.

Therefore, the monthly lease payment, excluding the amount in respect of the lien, and possibly the amount in respect of the insurance, is subject to GST/HST. In the example provided, the monthly lease payment is $320.33, of which $68.15 is in respect of the lien repayment. The portion of the monthly lease payment that is in respect of the insurance has not been calculated. For the purposes of this interpretation, it is assumed that the Dealer is not acting as agent of the Insurer in this example, and is making a single supply of the leased vehicle to the Lessee. As a result, the GST on the monthly lease payment is $17.65 (7% of $252.18).

Amounts payable at commencement of lease:

1. First monthly payment and cash down payment:

Pursuant to subsection 165(1) of the ETA, GST applies at 7% to the consideration for the supply of the leased vehicle. The cash down payment and the first monthly payment (excluding the lien portion and possibly the insurance portion) are part of the consideration for the leased vehicle.

Subsection 168(1) of the ETA states that tax in respect of a taxable supply is 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 168(2) states that where consideration for a taxable supply is paid or becomes due on more than one day, tax in respect of the supply is payable on each day that is the earlier of the day a part of the consideration is paid and the day that part becomes due, and the tax that is payable on each such day shall be calculated on the value of the part of the consideration that is paid or becomes due, as the case may be, on that day.

Subsection 152(2) of the ETA states that where property is supplied by way of lease, licence or similar arrangement under an agreement in writing, the consideration, or any part thereof, for the supply shall be deemed to become due on the day the recipient is required to pay the consideration or part to the supplier pursuant to the agreement.

The Lessee is required under the lease agreement to pay to the Dealer the cash down payment and the first monthly payment at the time that the vehicle is delivered. Assuming that the Lessee actually pays these amounts at this time and not earlier, the cash down payment, the first monthly payment, and the tax on these amounts, are due on the day the leased vehicle is delivered to the Lessee. For the example provided, the monthly payment is $320.33 plus $17.65 GST, and the cash down payment is $1,000.00 plus $70.00 GST.

Subsection 221(1) of the ETA states that every person who makes a taxable supply shall, as agent of Her Majesty in right of Canada, collect the tax payable by the recipient in respect of the supply. Subsection 228(2) requires that the positive net tax for a reporting period of a person must be remitted, where the net tax, as calculated pursuant to subsection 225(1), includes all amounts collected and collectible by the person in the reporting period as or on account of tax.

Therefore, the Dealer is required to collect and account for the tax collected from the Lessee on the first monthly payment and on the cash down payment in its net tax calculation. In the example provided, the Dealer would collect and account for GST of $87.65.

2. Trade-in:

As the Lessee is not a GST/HST registrant, GST/HST is not collectible on the trade-in provided by the Lessee as partial consideration for the leased vehicle.

3. Security Deposit:

A deposit is an amount of money given by a recipient as security for the performance of an obligation by the recipient. Subsection 168(9) of the ETA states that a deposit (other than a deposit in respect of a covering or container in respect of which section 137 applies), whether refundable or not, given in respect of a supply shall not be considered as consideration paid for the supply unless and until the supplier applies the deposit as consideration for the supply. As a result, tax will not apply to a security deposit until it is applied as consideration for a supply.

The security deposit is paid by the Lessee at the outset of the lease as security for the payment of any charges outstanding at the end of the lease due to excess wear and tear on the vehicle or for other reasons. The security deposit is not consideration for the supply of the leased vehicle at the time it is paid. The security deposit may be consideration at the end of the lease, if there are charges added to compensate the lessor for the condition of the vehicle, and the security deposit is applied against those charges. The security deposit paid by the Lessee is not subject to tax at the outset of the lease.

4. Licence Fee:

Pursuant to paragraph 20(c) of Part VI of Schedule V to the ETA, the supply of a licence, permit, quota or similar right (other than such a right supplied in respect of the importation of alcoholic beverages), and the supply of any service in respect of an application for such a right, made by a government or municipality or by a board, commission or other body established by a government or municipality, is exempt. The supply of a licence registration on a vehicle is an exempt supply when provided by a government body.

In this case, the licence fee is payable by the Lessee, to licence the vehicle for use in the province. The licence fee is paid by the Dealer, which recovers the amount paid from the Lessee. If the licence is registered in the name of the Lessee, and there is no mark-up to the Lessee, the licence fee will remain exempt when charged by the Dealer to the Lessee.

Transfer of the lease and vehicle to the FinanceCo:

After collecting the initial payments and transferring possession of the vehicle to the Lessee, the Dealer sells, assigns, and transfers all right, title, and interest in the lease and the vehicle to the FinanceCo. This is a taxable supply subject to GST/HST.

The consideration for the supply is the sale price payable by the FinanceCo to the Dealer: the capitalized lease cost of the vehicle less the first month's lease payment and the PPSA fee. GST/HST will apply to the total consideration for this supply. For the example provided, the Dealer would collect and account for GST payable of $2,053.08 on the consideration of $29,329.67 in its net tax calculation, pursuant to subsections 221(1) and 225(1) of the ETA.

The offsetting of the amount of the security deposit due to the FinanceCo by the Dealer against the consideration for the supply of the lease and the vehicle is essentially a transfer of money that is not consideration for any supply, and GST/HST will not apply. In the example, the FinanceCo would pay $31,007.74 to the Dealer ($29,329.67 plus $2,053.08 GST, less the security deposit of $375.00).

If the FinanceCo applies any or all of the security deposit to any charges payable on termination of the lease, the amount will be consideration for a taxable supply under the lease, and GST/HST will become payable at that time. The FinanceCo will be required to collect and account for the GST/HST payable in its net tax calculation, pursuant to subsections 221(1) and 225(1) of the ETA.

Lease Payments following assignment:

After the lease is assigned, the FinanceCo assumes the obligations and rights as lessor under the lease, and the FinanceCo is the supplier of the vehicle by way of lease to the Lessee.

The Lessee is required to pay the monthly lease payments at the beginning of each month over the term of the lease. The monthly lease payments after the assignment, and the GST/HST on those payments, will be due at the beginning of each month pursuant to subsections 168(2) and 152(2) of the ETA. The amount of the GST/HST payable will not change; the assignment does not affect the manner in which the GST/HST was calculated on the monthly lease payments.

Pursuant to subsections 221(1) and 225(1) of the ETA, the FinanceCo will be responsible for collecting and accounting for the GST/HST payable on those monthly lease payments in its net tax calculation.

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) 957-8253.

Yours truly,

Jacqueline Russell
Goods Unit
General Operations and Border Issues Division
Excise and GST/HST Rulings Directorate