File #: 11755-1, 11650-1(km)
S. 153, 169 and 176
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Subject:
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GST Interpretation
vehicle leases and buy-out options
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Dear XXXXX
This is in reply to your facsimile transmission sent to Paul Lafond of my office on June 9, 1995, requesting that we review a draft interpretation letter to XXXXX[.] The draft letter addresses the GST liability and input tax credit entitlement of various parties in respect of vehicle leases and subsequent buy-out arrangements.
Statement of Facts
Our understanding of the relevant facts under the two different scenarios raised by the registrant is outlined below:
Scenario #1
1. A 1991 Ford Explorer is leased to John Smith (non-registrant, individual), by a car dealer who is registered for the GST.
2. The terms of the lease are $450 plus PST and GST each month for 48 months, with a buyback clause of $6,000. The customer will either "win" or "lose" depending on whether there is a gain or shortfall on the buyback value.
3. At the termination of the lease, John Smith makes a deal with the car dealer for his next vehicle. The 1991 Ford Explorer is valued by the car dealer at $10,000.
Scenario #2
1. A 1991 Ford Explorer is leased to John Smith (non-registrant individual), by Benefit Leasing.
2. The terms of the lease are $450 plus PST and GST each month for 48 months, with a buyback clause of $6,000. The customer will either "win" or "lose" depending on whether there is a gain or shortfall on the buyback value.
3. At the termination of the lease, John Smith makes a deal with the car dealer for his next vehicle. The car dealer purchases the 1991 Ford Explorer from Benefit Leasing for $6,000 plus GST. The 1991 Ford Explorer is valued by the car dealer at $10,000.
Issues Raised
For both scenarios, the following questions have been raised:
1. Can the car dealer claim an input tax credit (ITC) on the $4,000 equity if the $4,000 is refunded to Mr. Smith?
2. If the $4,000 is used as a capital cost reduction on the new vehicle, is GST payable by Mr. Smith on the $4,000?
3. If the car dealer values the car at $2,000, is GST payable by Mr. Smith on the $4,000 shortfall?
Interpretation:
1. Can the car dealer claim an ITC on the $4,000 equity if the $4,000 is refunded to Mr. Smith?
Scenario 1
The car dealership would not be entitled to a notional ITC in respect of the $4000 "equity" (i.e. the difference between the buyback value of $6,000 and the $10,000 actual value of the vehicle at lease end). However, if ownership of the 1991 Ford Explorer was transferred to Mr. Smith (i.e. he exercised the buy-out option and purchased the vehicle) and the vehicle was subsequently transferred back to the dealership, the dealership would be entitled to a notional ITC equal to the amount credited as a trade-in allowance (i.e. 7/107ths of $10,000). Of note, if ownership was transferred to Mr. Smith prior to the car being traded in, GST would be exigible on the sale of the 1991 Ford Explorer to Mr. Smith.
Scenario 2
The answer is the same as for scenario 1. However, the dealer would be entitled to claim an ITC for the tax payable in respect of the purchase of the vehicle from Benefit Leasing.
2. If the $4,000 is used as a capital cost reduction on the new vehicle, is GST payable by Mr. Smith on the $4,000?
Scenario 1
If the negotiated purchase price of a new vehicle is reduced by a "trade-in allowance" (i.e. an amount ($4,000 in this scenario) in respect of the "equity" at the end of the lease of the 1991 Ford Explorer), the consideration for the supply of the new vehicle remains the negotiated purchase price. If the new vehicle is supplied to Mr. Smith by way of lease and the "capital cost" of the new vehicle (i.e. the value assigned the vehicle in determining the lease payments) is reduced by a "trade-in allowance", that amount is part of the consideration for the supply by way of lease. In both cases, GST is calculated on a value of consideration that includes the amount of the "trade-in allowance".
Scenario 2
This answer is the same as for scenario 1.
3. If the car dealer values the car at $2,000, is GST payable by Mr. Smith on the $4,000 shortfall?
Scenario 1
If Mr. Smith is required to pay the $4000 shortfall (i.e. the difference between the buyback value and the market value) that amount is part of the consideration for the lease of the 1991 Ford Explorer and would be subject to GST.
Scenario 2
If Mr. Smith is required to pay the $4000 shortfall (either to Benefit Leasing or the car dealer) pursuant to the lease agreement with Benefit Leasing, then that amount is part of the consideration for the lease of the 1991 Ford Explorer and would be subject to GST.
General comments
As you noted in your draft letter, when a leased vehicle is traded in for a new vehicle, the deal may involve three separate transactions: the purchase of the leased vehicle at the end of the lease contract from the lessor by the lessee, the sale of the leased vehicle from the lessee to the new car dealer (which may be the same person as the lessor); and the purchase of a new vehicle by the lessee from the new car dealer. Where the leased vehicle is not purchased by the lessee at the end of the lease contract, there can be no notional ITC allowed on the "trade-in" of the leased vehicle since the vehicle was never "owned" by the lessee. Since it was never owned by the lessee, the lessee cannot sell the vehicle to the dealer.
In fact, what appears to happen in these situations is that the dealer "allows" a credit based on the difference between the buyback value of the leased vehicle and the market value to be used toward the purchase or lease of another vehicle at the dealership. The credit allowed does not change the amount of GST payable on the purchase of the new vehicle since it would be treated as consideration paid for the supply of the new vehicle.
On the other hand, if the difference between the buyback value and the market value is negative, then the lessee would be required to pay GST on the difference as part of the terms of the lease agreement. The dealer may collect this amount by increasing the price of the new vehicle and charging GST on that increased consideration.
If you require additional information regarding this issue, please contact either Ken Mathews (613-952-9585) or Sara Nixon (613-954-4397) of the Application Team of the Taxing Provisions Unit.
H.L. Jones
Director
General Applications Division
GST Rulings and Interpretations
GAD#: 1298(REG)
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