20 September 1991 Ministerial Letter 912168 F - Lease-Option Agreement

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Dear Sirs:

Re:  Lease-Option Agreement

This is in reply to your letter dated August 2, 1991 in which you requested our views on the tax consequences of a disposition of a truck by a corporation where the corporation had previously leased the truck from an arm's length party and had, at the end of the lease, exercised its option to acquire the truck from the lessor.

The situation outlined in your letter appears to relate to specific proposed transactions with identifiable taxpayers.  Confirmation of the tax consequences relating to specific proposed transactions will only be provided in response to a request for an advance income tax ruling.  The procedures for requesting an advance ruling are set out in Information Circular 70-6R2 dated September 28, 1990.  We can, however, offer the following general comments.

Lease-Option Agreements

The Department's general position with respect to lease-option agreements is outlined in Interpretation Bulletin IT-233R dated February 11, 1983.

Paragraph 1 of IT-233R, in part, states, "It is necessary to determine with regard to leasing agreements, whether payments in respect of those agreements are in substance payments of rent or payments on account of the purchase price of the property." Paragraph 3 of IT-233R states " a transaction is considered to be a sale rather than a lease (where) the lessee has the right during or at the expiration of the lease to acquire the property at a price which at the inception of the lease is substantially less than the probable fair market value of the property at the time or times of permitted acquisition by the lessee... ".

Also, the provisions of subsection 16.1(1) of the Income Tax Act (the "Act") may apply to the lease if the parties to the lease so elect.

Payments on account of Purchase Price

Paragraph 7 of IT-233R, in part, states

"When it is determined that a lease agreement is, in substance, a sale agreement... the lessee will be required to account for the transaction as an acquisition of an asset and an assumption of a liability as at the inception of the lease...In these circumstances the lessee-purchaser rather than the lessor-vendor may be entitled to capital cost allowance under Paragraph 20(1)(a)..."

The tax consequences of a subsequent disposition of the truck by the corporation will be the same as if the corporation had originally acquired the truck under a sale agreement.

Payments on account of Rent

Paragraph 10 of IT-233R, in part, states

"Where a taxpayer acquires a capital property that is a depreciable property for an amount than is less than its fair market value at that time, and the property is one in respect of which the taxpayer ....had before that time been entitled to deduct rent for the use ...of the property in computing his income, the taxpayer will, by virtue of subsection 13(5 2), be deemed to have acquired that property for all purposes of the Act, at a cost equal to the lesser of:

(a) its fair market value at the time of acquisition determined without reference to any option with respect to the property, and

(b) the aggregate of

(i)   the purchase price actually paid by the taxpayer, and

(ii)  all rent paid or payable with respect to the property...".

document Disclosed Pursuant to the Access to Information Act

Paragraph 11 of IT-233R, in part, states

"Where the deemed cost of the property as determined in 10 above exceeds its actual purchase price, an amount equal to the excess must be added to the accumulated depreciation for the prescribed class to which the property belongs.  The excess is accordingly considered to represent capital cost allowance previously allowed and as such will be included in total depreciation as defined in paragraph 13(21)(e)."

The tax consequences of a subsequent disposition of the truck by the corporation will be determined with reference to this deemed cost and deemed depreciation.

These comments represent our general views with respect to the subject matter of your letter.  The facts of a particular situation may result in a different result.  The foregoing comments are not rulings and, in accordance with the guidelines set out in Information Circular IC 70-6R2 dated September 28, 1990, are not binding on the Department.

Yours truly,

for DirectorBusiness and General DivisionRulings DirectorateLegislative and Intergovernmental Affairs Branch