Could a lessor refund tax reported monthly on a contract that was actually a taxable sale at inception?

Plain-English summary

Ching's August 22, 1997 memo answered Shaw's absent June 27 memo using CPA's absent letter/phone facts. Owner leased heating/air-conditioning equipment at San Diego office building. Original operating lease expired January 1995; February 1 revised agreement required $7,024.60 monthly and title transfer at end. Parties treated it as sale for their tax purposes but continued California rental reporting.

Agreed present value was $359,018.03. CPA said $4,506 sales tax paid since February 1 and requested all refunded, enclosing payment schedule. No schedule, contract, terms, total payments, returns or interest calculation appears. Memo understood original lease was continuing sale/purchase with use tax collected/remitted on rent.

Regulation 1660(a)(2)(A) treated fixed-term contract with certain title after payments (or nominal option no more than lesser $100/1% total price) as sale at inception. But counsel lacked revised contract, did not know term, said review might find true lease, and assumed fixed term because title reportedly passed at end.

On assumption, sale occurred when possession transferred and tax on full contract price was due with return for sale/lease-commencement period. Adequate complete records could separately exclude insurance, interest, finance/carrying charges under section 6010.5/Regulation 1641(a). Source does not resolve possession timing despite equipment already under original lease.

Refund existed only if payments exceeded Regulation 1641 inception tax plus late-payment interest. Given monthly/payment-value amounts, counsel thought seller likely had not yet paid full liability. No final computation, refund allowance/denial, later payment or appeal appears.

Live 330.2715.905 gives conditional refund rule and marks (M98–3). It omits equipment, dates/amounts, original lease, missing-contract/true-lease warning, assumptions, possession timing and likely underpayment.

Common questions

Why was agreement assumed a sale?

Reported title transfer plus assumed fixed term made end ownership certain; actual contract was not reviewed.

Could contract instead be true lease?

Yes. Counsel expressly said review might reach that result because term was unknown.

When was tax due under assumption?

At the transaction's inception, when possession transferred under the new agreement.

Could finance charges be excluded?

Yes, but only if adequate and complete records separately showed the qualifying insurance, interest, finance, and carrying charges.

Was all $4,506 refundable?

No. Only an excess over the correctly calculated sale tax and related late-payment interest could be refunded.

Did memo calculate full contract tax?

No. It reports monthly/present-value figures and qualifying exclusions but gives no full calculation, rate or interest amount.

Was refund finally denied?

Not shown. Counsel doubted full liability had yet been paid; source includes no administrative disposition.

What does M98-3 mean?

Live annotation appends it without explanation; PDF does not mention it, so this page does not infer meaning.

May another lessor rely?

No. This was assumption-based internal advice without decisive contract/payment records; actual terms, timing, computation/procedure and current law control.

Citations and references

• Source-printed section 6066(a) — transfer definition as printed
• Sections 6006(g)(5), 6006.1, 6010(e)(5), 6010.1; Regulation 1660(c) — original continuing lease
• Section 6006.3; Regulation 1660(a)(2)(A) — assumed inception sale/certain title
• Regulation 1641(b)/(c) — possession-transfer timing
• Section 6010.5; Regulation 1641(a) — separately documented exclusions
• Request/CPA letter/leases/schedule/tax/refund records — absent
• Official Annotation 330.2715.905 — conditional rule and unexplained M98-3

Source

• Annotated Legal Opinions collection: https://cdtfa.ca.gov/taxes-and-fees/annotations-menu.htm
• Annotation page: Annotation 330.2715.905
• Original supporting opinion: https://cdtfa.ca.gov/lawguides/annotations/330-2715-905.pdf

Original ruling text

State of California

Board of Equalization
Legal Division-MIC: 82
Telephone: 322-2976

Memorandum
330.2715.905
To :

Mr. Robert Shaw
Return Analysis Section, MIC:35

From :

Kelly W. Ching
Tax Counsel

Subject:

L--- R--- G--SC -- XX-XXXXXX

Date: August 22, 1997

This is in response to your memorandum dated June 27, 1997 in which you ask how tax applies to certain leases of heating and air conditioning equipment. In his letter to you on behalf of his client, L--- R--- G---, Mr. K--- L. J---, C.P.A., states as follows: “Last month I spoke with you by phone regarding the facts pertaining to Mr. G--and a revised lease entered into effective February 1, 1995. Prior to that date, Mr. G--- had an operating lease with L--- P--- wherein he leased to L--- certain heating and air conditioning equipment located on an office building in San Diego. When the lease term expired in January, 1995, a new lease was negotiated between the parties. The new lease involved a monthly payment of $7,024.60 with title transferring to the lessee (L---) at the end of the term. The present value of the lease payments, agreed to by both parties, was $359,018.03. “For tax purposes, both parties treated the new lease as a sale. However, for reporting sales tax to California, it was continued as an operating lease which per our discussion, was most likely incorrect. It is my understanding from our discussion, that you felt it should have been treated as a sale for sales and use tax purposes also. “I have spoken to the representative at L---, Mr. J--- C---, who indicated they want to handle the transaction properly as well, and understand they may have an obligation for use tax. If you need to speak with Mr. C---, he can be reached at L--- Partners, XXX --- ---, Suite XXXX, ---, IL XXXXX. His phone number is (XXX) XXX-XXXX. “Insofar as sales tax has been paid by Mr. G--- during this new lease period, we respectfully request all taxes paid be refunded to him. Per our records, the total

Mr. Robert Shaw

-2-

August 22, 1997
330.2715.905

sales tax paid beginning February 1, 1995 totals $4,506. A schedule of payments is enclosed for your reference.” I note that we have not been provided with a copy of the February 1, 1995 lease contract. DISCUSSION As you know, retail sales of tangible personal property in California are subject to sales tax, measured by gross receipts, unless specifically exempt from taxation by statute. (Rev. & Tax. Code § 6051.) A sale includes any transfer of title or possession, in any manner or by any means whatsoever, of tangible personal property for a consideration. (Rev. & Tax. Code § 6066(a).) When sales tax does not apply, use tax, measured by the sales price of the property sold, applies to the use of property purchased from a retailer for storage, use or other consumption in California, unless such use is specifically exempt from taxation by statute. (Rev. & Tax. Code § 6201, 6401.) A lease of tangible personal property in California is a continuing sale and purchase unless the lessor leases the property in substantially the same form as acquired and has made a timely election to pay California sales tax reimbursement or use tax measured by the lessor’s purchase price of the property. (Rev. & Tax. Code §§ 6006(g)(5), 6006.1, 6010(e)(5), 6010.1, Reg. 1660(c)(2).) When a lease is a continuing sale and purchase because either or both of the foregoing conditions set forth above are not satisfied, the lease is subject to use tax measured by rentals payable. (Reg. 1660(c)(1).) The lessee owes the tax, which the lessor is required to collect from the lessee and to pay to this Board. (Rev. & Tax. Code §§ 6202, 6203, 6204; Reg. 1660(c).) Our understanding is that the original lease was a continuing sale and purchase under the rules set forth above, and that Mr. G--- collected use tax on his rental receipts and remitted the tax to the Board. In discussing the second lease contract dated February 1, 1995, I note that some contracts designated as leases do not actually constitute lease contracts. A contract designated as a lease will be regarded as a sale under a security agreement at its inception, rather than as a lease, where the contract binds the “lessee” for a fixed term and the “lessee” is to obtain title at the end of the term upon completion of the required payments, or has the option to purchase the property for a nominal amount. (Rev. & Tax. Code § 6006.3, Reg. 1660(a)(2)(A).) The option price will be regarded as nominal if it does not exceed $100 or 1 percent of the total contract price, whichever is the lesser amount. (Id.) In other words, a contract designated as a lease is actually a sale at inception if the “lessee” is certain to own the property at the end of the lease term. Since we have not been provided with a copy of the “lease” contract, we do not know what the contract set forth as the term of the “lease.” If we were to review the contract, we might conclude that it represents a true lease. For purposes of this opinion, we assume that the contract binds L--- for a fixed term. Since you have stated that L--- obtains title at the end of the lease term, it appears that L--- is certain to own the property at the end of that term. This means

Mr. Robert Shaw

-3-

August 22, 1997
330.2715.905

that the transaction constitutes a sale at inception, rather than a true lease, and that the sale at inception took place when possession of the property was transferred to L---. (See Regs. 1641(b) and (c).) As such, tax applies to the sale. Mr. G---, as the retailer, is liable for payment of tax measured by the full contract price, except that if he keeps adequate and complete records to show separately the insurance, interest, finance, and carrying charges with respect to this transaction, such charges maybe excluded from the measure of tax. (Rev. & Tax. Code § 6010.5; Reg. 1641(a).) That tax was required to be reported and paid with Mr. G---’s timely return for the period in which the sale occurred; that is, when the “lease” commenced. Thus, he is entitled to a refund only if the payments he has made exceed the amount he should have paid as provided in Regulation 1641 with respect to the sale at inception, taking into account any interest due for late payment of such amount. However, based on the monthly payment and present value amounts set forth in your memorandum, it does not appear that Mr. G--- could have yet paid the full amount of tax for which he is liable. If you have further questions, please feel free to write or call me.

KWC:cl
cc:

Out-of-State District Administrator