Did paying a non-nominal equipment purchase-option price when the lease was signed make the contract a present sale?

Plain-English summary

Bakersfield Audit asked whether two contracts labeled leases were present tangible-property sales. May 12 request and contracts are absent; June 30 memo concluded both were present sales.

First covered 16 trucks/miscellaneous office equipment worth approximately $231,000, five-year fixed term and $4,537.65 monthly payments. Title remained with lessor; option exercisable last six months, but $23,189 cash price was due at contract execution. Live annotation changes monthly amount to $4,537.15 without explanation.

Regulation 1660(a) made option nominal if no more than $100 or one percent total contract price, whichever less. Although stated option about 10% value, advance payment left true end-term price zero; only written notice remained. Lessee depreciation on federal returns showed parties treated sale, and Regulation 1641(b) treated lease-form title held as security/tax avoidance as taxable security-agreement sale.

Second contract ran fixed 37 months at $3,100 monthly, retained title in lessor, and allowed $100 purchase during last six months. Memo applied then-current nominal-option rule and treated it as present sale. Live annotation omits this second contract and depreciation evidence.

Common questions

Why was stated 10% option treated as nominal?

Because it was paid in advance. No additional option price remained due when title could be obtained.

Did retaining title make contracts true leases?

No. The source treated title retention as security where the economic transaction was already a sale.

What evidence besides contract supported sale treatment?

The lessee depreciated the equipment on its federal income-tax returns.

What happened to second contract's $100 option?

The memorandum applied the then-current nominal-option rule and treated it as a present sale.

What monthly payment did first contract require?

PDF says $4,537.65. Live annotation says $4,537.15. No contract appears to resolve conflict.

Were depreciation returns reproduced?

No. Memo says lessee depreciated equipment on federal returns, but returns are absent.

Did live annotation include second lease?

No. It publishes only first prepaid-option reasoning and Regulation 1641(b) conclusion.

May another equipment lessor rely on result?

No. It is historical internal advice with missing contracts and an amount conflict; actual economics, title, option, evidence and current law must be checked.

Citations and references

• Regulation 1660(a) — $100/one-percent nominal-option test
• Regulation 1660(a)(2)(A) — live annotation's more specific paragraph
• Regulation 1641(b) — title-as-security/tax-avoidance agreement as taxable sale
• May 12 request, contracts/schedules and payment/title/depreciation proof — absent
• Official Annotation 330.2522.600 — first lease only, with monthly-payment conflict

Source

• Annotated Legal Opinions collection: https://cdtfa.ca.gov/taxes-and-fees/annotations-menu.htm
• Annotation page: Annotation 330.2522.600
• Original supporting opinion: https://cdtfa.ca.gov/lawguides/annotations/330-2522-600.pdf

Original ruling text

State of California

Memorandum

To:

Bakersfield Audit (WL)

From:

Teresa Armstrong

Subject:

Equipment Leases – T--- B---, Lessee
SR -- XX XXXXXX

Board of Equalization

330.2522.600

June 30, 1986

B--- T---, Inc., Lessor
SR -- XX XXXXXX

This is in response to your memorandum of May 12, 1986 concerning two leases between B--- T--- and T--- B---. Your question concerning both leasing transactions is whether or not they constitute present sales of tangible personal property. The first lease is a fixed term five-year lease for the rental of 16 trucks and miscellaneous office equipment with a combined value of approximately $231,000. The lease calls for monthly payments of $4,537.65. By the terms of the contract, title to the equipment is to remain in the lessor. With the lease agreement there is an option to purchase the equipment which may be exercised during the last six months of the lease term. However, the option purchase price of
$23,189 is required to be paid in cash at the time of the execution of the lease agreement. The written lease agreement executed by the parties is structured to have the appearance of a true leasing transaction. However, we must conclude that the first lease is in fact a sale of tangible personal property. A lease in which the price of the option to purchase is nominal, will be treated as a present sale of tangible personal property for the purposes of Sales and Use Tax Law. Pursuant to Regulation 1660(a), an option purchase price is deemed to be nominal if the option price does not exceed $100 or one percent of the total contract price, whichever is lesser. In the first lease, the option price is $23,189 or approximately 10 percent of the value of the property. While this option price is more than a nominal amount, the requirement that the purchase price be paid in advance in effect renders the true option price to be paid at the end of the lease to be zero dollars. In other words, at the end of the lease term the only requirement to exercise the option will be for the lessee to give written notice to the lessor. Additionally, the

Bakersfield Audit (WL)

-2-

June 30, 1986
330.2522.600

parties themselves are treating the transaction as a sale. This is reflected by the lessee depreciating the equipment on his federal income tax returns. As further authority for our position that the lease constitutes a present sale, Regulation 1641(b) provides that if tangible personal property is for all intents and purposes sold, but is treated as a leasing agreement for the purpose of retaining title in the seller as security for payment of the purchase price or for the purposes of avoiding tax, the transaction is deemed to be taxable as a sale under a security agreement. We therefore conclude that the first lease between the parties constitutes a present sale of the tangible personal property listed in the agreement. The second lease is for a fixed term of 37 months with rental payments of $3,100 per month. The agreement contains a title clause whereby all right, title and interest in the equipment is retained by the lessor. However, the lessee has the option to purchase the equipment during the last six months of the lease term upon payment of an option purchase price of $100. As stated previously, Regulation 1660(a) treats leasing agreements with nominal option purchase prices of $100 as a present sale of tangible personal property. The second lease is also taxable as a present sale.

TA:ba