Were a long-term lease of tax-paid equipment to a financer and the simultaneous sublease back to the owner subject to California tax?

Plain-English summary

R--- proposed raising working capital by leasing owned equipment to Financer for 15 to 20 years. Financer would prepay the discounted rent stream in one lump sum. R--- retained title throughout and at the end of the prime term; Financer received neither title nor a purchase option.

Simultaneously, Financer would sublease everything to R--- for 7 to 12 years—about 75% of useful life. R--- could buy out Financer's remaining lease interest at the end and twice during the sublease. The source supplies none of the actual contracts, calculations or transaction evidence.

Counsel treated the prime transaction as a lease despite prepaid rent because R--- kept title and Financer had no title or purchase option. A same-form lease normally was a rent-taxed continuing sale unless acquisition tax was paid or a timely cost election made. R--- said it paid sales tax; counsel expressly assumed that meant California sales-tax reimbursement or use tax. On that assumption, the prime lease was tax-paid.

Regulation 1660(c)(5) made a sublease tax-paid when a timely election existed for either prior transaction: the prime lessor's purchase or prime lessee's lease. R---'s purchase-price tax therefore made the sublease tax-paid too. Neither lease was subject to sales or use tax under the proposal and assumptions. No closing, performance, filing, audit or later outcome is supplied. The live annotation substantially publishes the terms/result but not those source limits.

Common questions

Did receiving all rent upfront prevent lease treatment?

No. The opinion relied on the owner's continued title and lack of any title or purchase option for the financer.

What did R--- retain and what could it buy out?

R--- retained equipment title. Its three options concerned Financer's remaining prime-lease interest, not a purchase of title from Financer.

Why was the sublease back also tax-paid?

Regulation 1660(c)(5) looked to either prior transaction, and R--- had timely paid purchase-price tax under the stated assumption.

What acquisition-tax assumption was essential?

The prior tax had to be California sales-tax reimbursement or use tax. The opinion did not apply if that assumption was wrong.

Did the long sublease consume the equipment's useful life?

Not all of it. The stated 7-to-12-year sublease was about 75% of useful life; the source gives no independent useful-life support.

Are the agreements and tax records available?

No. The PDF describes them but reproduces no purchase invoice, tax proof, lease, sublease, payment calculation or buyout provision.

Did the proposed leaseback actually close?

The source does not say and supplies no later transaction, return, audit or outcome.

Citations and references

• Sections 6006(g)(5), 6006.1; Regulation 1660 — same-form lease, continuing sale and acquisition-tax/cost-election rule
• Regulation 1660(c)(5) — either prior tax-paid transaction can make a sublease tax-paid
• Retained-title/no-financer-option lease characterization — no separate authority cited
• June 12 request and purchase/tax/contracts/calculation/useful-life/option/performance records — absent
• July 9, 1992 Levine letter — proposed, assumption-dependent result without later outcome
• Official Annotation 330.2305 — substantial synthesis without request or source limits

Source

• Annotated Legal Opinions collection: https://cdtfa.ca.gov/taxes-and-fees/annotations-menu.htm
• Annotation page: Annotation 330.2305
• Original supporting opinion: https://cdtfa.ca.gov/lawguides/annotations/330-2305.pdf

Original ruling text

330.2305

STATE OF CALIFORNIA

STATE BOARD OF EQUALIZATION

WILLIAM M. BENNETT
First District, Kentfield

1020 N STREET, SACRAMENTO, CALIFORNIA
(P.O. BOX 942879, SACRAMENTO, CALIFORNIA 94279-0001)
(916) 445-5550

BRAD SHERMAN
Second District, Los Angeles
ERNEST J. DRONENBURG, JR.
Third District, San Diego

July 9, 1992

MATTHEW K. FONG
Fourth District, Los Angeles
GRAY DAVIS
Controller, Sacramento

Mr. R--- J. I---, Jr.
Administrative Counsel
R---, Inc.
P.O. Box XXX
--- ---, California XXXXX-XXXX
Re:

BURTON W. OLIVER
Executive Director

S- -- XX-XXXXXX

Dear Mr. I---:
This is in response to your letter dated June 12, 1992. In order to raise working capital, R--is considering a transaction in which it leases equipment it currently owns and then leases it back. You ask whether the transaction is subject to sales or use tax. Facts R--- owns equipment with respect to which it has already paid sales tax. For purposes of this opinion, I assume that this “sales tax” (actually, it would have been sales tax reimbursement or use tax) was California sales or use tax. R--- will lease this equipment in substantially the same form as acquired by R--- to a financing company (“Financer”) for a period of 15 to 20 years. Financer will pay R--- a lump sum on the closing date, which will equal the lease payment stream otherwise payable over the term of the lease, discounted at an appropriate rate. R--- will retain title to the equipment throughout the lease period; Financer will not obtain title to the equipment nor have any option to obtain title to the equipment. Simultaneously with commencement of that lease, Financer will sublease all the leased equipment to R--- for a period of 7 to 12 years (which is about 75 percent of the useful life of such equipment). At the end of the sublease and at two other times during the sublease, R--- will have the option to “buyout” Financer’s remaining interest in the lease. Discussion A lease of tangible personal property in California is a continuing sale, and is subject to use tax measured by rentals payable, unless the property is leased in substantially the same form as acquired and the lessor pays sales tax reimbursement or use tax to its vendor or makes a timely

Mr. R--- J. I---, Jr.

-2-

July 9, 1992
330.2305

election to pay use tax measured by purchase price. (Rev. & Tax. Code §§ 6006(g)(5), 6006.1, Reg. 1660.) You state that the equipment will be leased in substantially the same form as acquired and that R--- paid sales tax. Based on these statements and the assumption made above, we conclude that a lease of the equipment by R--- is not a continuing sale and is not subject to use tax. Since we have concluded that R---’s lease of the equipment is not subject to use tax, the next question is whether the proposed transaction is a lease. Generally, leases do not provide that the lessee will make all rental payments at the commencement of that lease, but rather usually provide for periodic rental payments. However, based on your description of the transaction, that R--- never passes title to the equipment to Financer and R--- will retain title to the equipment at the end of the contract term, we agree that the proposed transaction is a lease from R--- to Financer. Financer will sublease the equipment back to R---. The application of use tax to a sublease of tangible personal property is generally the same as the application of tax to a prime lease. That is, a sublease of tangible personal property is a continuing sale, and is subject to use tax measured by rentals payable, unless a timely election to pay tax measured by purchase price has been made and the property is leased in substantially the same form as acquired. The difference between a prime lease and a sublease is that in a sublease transaction there are two relevant transactions preceding it rather than one. The sublease will not be taxable if a timely tax-paid election is made with respect to either of the previous two transactions (i.e., the prime lessor’s purchase or the prime lessee’s lease). This is explained in subdivision (c)(5) of Regulation 1660. Since R--- timely paid tax on purchase price, the sublease as well as the prime lease are regarded as tax-paid. Based on your description of the transaction and the assumption made above, we conclude that neither the lease to Financer nor Financer’s lease to R--- is subject to sales or use tax. Please note, however, the importance of my assumption that California sales tax or use tax was paid with respect to R---’s purchase of the equipement to be leased. If this assumption is not accurate, the opinion expressed herein would not be applicable to the proposed transaction. If you have further questions, feel free to write again. Sincerely,

David H. Levine
Senior Tax Counsel
DHL:cl