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Subject:
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Section 5, Schedule VII Replacement Parts
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I refer to your memorandum of November 22, 1994 concerning the relationship of goods as replacement parts under section 5 of Schedule VII, to the information contained in Customs Notice N-580, March 22, 1991, which states in part that "Section 5 of Schedule VII may also be used where goods are exported for repairs and the foreign company sends a new unit". I apologize for the delay in responding.
The common ordinary interpretation that may be given to the term "replacement part" is that it is a substitute or equivalent part of the complete item as a whole. As such it is a part that may be used for another which is worn out, broken, destroyed or otherwise no longer useable.
In the context in which the word "goods" is used in section 5 of Schedule VII, it refers to the replacement part, for example, an aircraft engine is a good in its own right, but it is also a replacement part of an aircraft. Thus, if an aircraft engine is sent outside of Canada for repair under a warranty and the supplier were to send a new engine because the damaged engine could not be repaired and this new engine was supplied for no consideration other than shipping and handling charges, the new engine as a good would qualify as a replacement part under section 5 of Schedule VII.
With respect to the two numbered items and the examples mentioned in your memorandum our comments with regard to the tax treatment are as follows:
1(a) Where a part is returned to a non-resident supplier, they are able to repair the part, the re-importation of this part will not be subject to GST.
1(b) In the case where the non-resident is unable to repair the part and sends a replacement part this part will not be subject to the GST.
Response
The concerns raised by these two statements may be addressed by looking at the two parts of the legislation which deal with warranty repairs. They are [s]ection 5 of Schedule VII and item 3(j) of the Non-Taxable Imported Goods (GST) Regulations this latter made pursuant to [s]ection 8 of Schedule VII.
a) Item 3(j) of the Non-Taxable Imported Goods (GST) Regulations applies to "goods imported after having been exported for warranty repair work".
This provision applies where goods which include parts are exported for warranty repair work and the repaired goods are returned to the person in Canada on a no charge basis.
b) Section 5 of Schedule VII applies to "goods that are imported by a particular person where the goods are supplied to the particular person by a non-resident person for no consideration, other than shipping and handling charges, as replacement parts under a warranty in respect of tangible personal property".
This provision will apply where the goods that are being imported are new goods treated as replacement parts under a warranty and the goods are supplied on a no charge basis to the person in Canada.
Example 1
a) A motor of a blender is returned for repair and the non-resident supplier sends back to the individual a repaired motor.
Response
Your example does not indicate that the repairs are being performed under a warranty. If it is a warranty repair, the provisions of item 3(j) of the Non-Taxable Imported Goods (GST) Regulations will apply. If there is no warranty the repaired motor is taxable on the value added basis
b) A motor of a blender is returned for repair and the non-resident supplier sends back to the individual a new motor.
Response
Your example does not indicate that the repairs are being performed under a warranty.
If it is a warranty repair then section 5 of Schedule VII would apply. The provisions of section 5 of Schedule VII can be used where there is a warranty and no charge other than shipping or handling has been made for the work done, and if the new motor is sent free of charge as a replacement part. If there is no warranty then the new motor is taxable on its full value.
Example 2
a) Where the motor of a blender is returned for repair it cannot be repaired and, as a result, the non-resident supplier sends back to the customer a new blender.
b) Where an entire unit is sent for repair under a warranty, it cannot be repaired and, as a result, a complete new unit is sent to the customer.
Response
a) Generally warranties state the terms and conditions which must be fulfilled for a warranty to be valid. My first assumption is that in order to satisfy the warranty the complete blender must be returned.
If we assume that the warranty indicated that the customer could return only the motor, the supplier would have some stipulation concerning the conditions under which the blender could be replaced if the motor could not be repaired. I must therefore assume that there would be a charge to the customer in Canada for this completely new unit sent or for what could be regarded as the additional cost to supply the new blender. The tax application is based on the fact that the goods being imported are not the goods exported for repair under the warranty.
b) With respect to the scenario in which a new blender is sent as a replacement, it would be permitted on a non-taxable basis under section 5 of Schedule VII only if the person in Canada had not been compensated by claiming an input tax credit, a rebate or a refund from the Department.
The comments in Customs Notice N-580 were intended to administratively extend the provisions of [s]ection 5 of Schedule VII to provide for those circumstances in which the consumer in Canada had returned the unit (blender) to the supplier under terms of a warranty and the supplier had not been able to repair the blender and had returned a new blender to the person. However, certain conditions would have to be fulfilled for this to apply, namely the person in Canada had not been compensated for the duty and taxes that had been previously paid on the first importation. That is, the person in Canada had not received a rebate, refund or had been entitled to or had claimed an ITC . In cases where the person had not received a rebate, refund or was not entitled to claim an ITC for the previous importation, applying the tax to the subsequent importation would result in double taxation.
Therefore to resolve this problem, the Customs Notice allowed for the importation of the new blender under section 5 of Schedule VII, without payment of the taxes. It should be noted that the same result may be obtained by taxing the subsequent importation and providing a tax rebate of the taxes paid on the previous importation.
Final Example
a) Where an entire blender unit is returned for repair and the non-resident is able to repair the blender.
b) Where an entire blender unit is returned for repair and the non-resident is unable to repair the blender, and sends a new blender.
Response:
a) As stated in the response to example 1a), at the time of re-importation of the blender item 3(j) of the Non-Taxable Imported Goods (GST) Regulations could be used to provide non-taxable status to the re-importation where a warranty applies.
b) The response to this question is the same as the response to example 2b).
In regards to the issues raised in the letter from the Customs broker, the following points are extremely important in the preparation of your response:
a) Goods, as replacement parts imported in quantity for stock or inventory purposes although supplied for no charge, and designated by the supplier as warranty replacement parts, do not qualify for non-taxable importation under any of the provisions of Schedule VII. Thus, they are fully taxable at time of importation.
b) Static converters were imported, tax paid and an ITC claimed. They are then returned to the supplier under the terms of a warranty agreement as being defective. The defective converters are repaired and returned to the client in Canada. Item 3(j) of the Non-Taxable Imported Goods (GST) Regulations would apply to the repaired converters, providing the repair was done at no charge to the consumer in Canada.
However, if a new set of converters is sent and the company in Canada had claimed a rebate for the tax previously paid or had claimed or was entitled to claim an ITC then the second importation is taxable and the importer may claim an ITC for the second amount of tax paid.
c) Where the ticket issuing machine was imported with the converters as an integral part of the machine, and the machine with the parts are returned for warranty repairs because of a defect, if a repaired machine is returned, then item 3(j) of the Non-taxable Imported Goods (GST) Regulations would apply if the goods were returned on a no-charge basis. However, if the supplier sends a new ticket issuing machine to the company in Canada and the company was entitled to claim or had claimed an ITC or a rebate for the tax previously paid, then the new machine would be taxable at time of importation.
Finally, with respect to the issue of documentation required at time of importation, I would suggest that the Customs broker consult Customs Memoranda D8-2-1, D8-2-3 or D8-2-22 and discuss the issue with Customs since they are responsible for the documentary requirements at time of importation.
I hope this clarifies the situation for you. If you have any further questions on this issue, please do not hesitate to contact Roy McKain at (613) 952-4294.
H.L. Jones
Director
General Tax Policy
Policy and Legislation
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