Was mortgage interest paid directly by a related corporate tenant as co-maker taxable as Florida commercial rent?

Subject

Real Property Lease Between Related Entities: Payment to Mortgagee

Plain-English summary

The corporate tenant's direct payment of mortgage interest was not taxable as rent. The tenant was directly and independently liable as a co-maker on the renewed note, the lease documents stated the full actual rent, the interest did not reduce or offset that rent, and the parties did not report the interest as rental expense or rental income for federal purposes.

This supplement refined the earlier TAA 93A-069 analysis using the additional documents and facts. It did not address the separate rule the requester expressly excluded, and its conclusion was limited to interest payments.

What this means for you

A tenant's payment to a landlord's mortgagee can be taxable rent when it supplies value for occupancy or reduces the landlord's obligation. Here, the documented independent co-maker debt and absence of any rent offset supported different treatment.

Common questions

Did the tenant's interest payment reduce the contractual rent? No.

Was the tenant independently liable to the lender? Yes, as a primary co-maker.

Did the parties report the interest as rent? No.

Does this supplement decide how principal payments are taxed? No. Its current request and conclusion specifically addressed interest.

Citations and references

• Fla. Stat. §§ 212.031(1)(a), (c), (d), 212.08(13), and 213.22
• Fla. Admin. Code r. 12A-1.070(1)(c)-(d) and (4)(b)

Source

• Landing page: Florida Tax Law Library
• Advisement: TAA 93A-069
• Earlier official version: TAA 93A-069

Original ruling text

Status: Supplemental to TAA 93A-069, issued October 12, 1993

Jul 12, 1994

RE: Supplement to TAA 93A-069
Sales and Use Tax on Real Property Lease Between Related Entities: Payment to Mortgagee Section 212.031, F.S. Rule 12A-1.070, F.A.C. XXX (Hereinafter referred to as "Lessor") XXX (Hereinafter referred to as "Lessee")

Dear :

This is in response to your letter of October 26, 1993, and recent telephone conversations, in which you requested that we specifically address the issue of interest paid directly to the mortgagee by Lessee, based on additional information provided by you. The original issue, payments made directly to the mortgagee by the Tenant/Lessee under a promissory note, was addressed in Technical Assistance Advisement (TAA) #93A-069, dated October 12, 1993. As in your original TAA request, you do not request an advisement with reference to Rule 12A1.070(19)(c), F.A.C., and this response does not consider that Rule.

REVIEW OF TECHNICAL ASSISTANCE ADVISEMENT 93A-069

Original Request for a Technical Assistance Advisement

Your Original letter of June 30, 1993, written on behalf of your client stated in significant part the following:

"[Lessors] are the owners of certain real property consisting of land and building located in XXX. [Lessor] leases this real property to [Lessee], a family operated corporation in which [Lessors] owns eighty percent (80%) of its stock. The remaining twenty percent (20%) is owned by

[Lessor's] two children. [Lessor] and the two children are officers of [Lessee] and operate [Lessee] on a day-to-day basis.

"[Lessor] acquired the subject real property in January, 1990 and entered into a lease agreement dated January 31, 1990 with [Lessee] for an initial term of two years. Recently, a second one year extension to the original lease documented was executed effective through February 28, 1994.

"On February 1, 1993, the initial three year promissory note between only [Lessor] and the mortgagee matured and a new three year note was executed. To provide additional security and comfort to the lender, [Lessee] was added as an additional primary obligor to this instrument. It is contemplated, however, that [Lessee] will make payment(s) to the mortgagee directly for principal and/or interest under such promissory note in which [Lessee] is a primary obligor. When such payment(s) are made, there will be no reduction or offset of rent due [Lessor] under the aforementioned lease agreement. Therefore, the monthly rent due [Lessor] through February, 1994 will be paid in accordance with the terms of the renewal and extension agreement and any payment to mortgagee by [Lessee] will be due to [Lessee's] obligation created by the promissory note in which it is a primary obligor."

You requested advisement on the following issue:

"[W]hether any payment by [Lessee] directly to the mortgagee under the promissory note dated February 1, 1993 for principal and/or interest without any reduction or offset of rent due [Lessor] would be deemed to be rent subject to the state's sales tax rather than repayment of debt under said note."

Included with your original request were copies of the aforementioned documents, described as follows:

1. The original lease agreement, dated and effective

January 31, 1990, between Lessor and Lessee, for a term commencing March 1, 1990, and expiring February 28, 1992, which provided in part: "(b) During the initial term of this lease, the Lessee shall pay the Lessor the total fixed sum of XXX, plus applicable sales tax payable in the sum of XXX plus applicable sales tax for each month of the initial term, payable on the 1st day of each month. "(c) The amount of rent to be paid to the Lessor for any extended term(s) hereunder shall be fair market value to be negotiated by the parties and payable in the same manner as the rent during the initial term."

2. The lease renewal and extension agreement, dated and
   effective February 28, 1993, which extended the lease agreement until February 28, 1994, and provided in part:

"By execution of this agreement, it is agreed among the parties that the Lessee shall pay the Lessor the total fixed sum of XXX, plus applicable sales tax, payable in the sum of XXX for the month of March, 1993 and XXX for the months of April, 1993 through February, 1994, plus applicable sales tax for each month payable on the 1st day of each month. All other terms and conditions of the original lease agreement shall remain the same."

3. The original promissory note, dated January 31, 1990,
   between the Lender and Lessor, for a loan amount of XXX, to be repaid in 36 monthly installments of XXX.
4. A promissory note, dated February 1, 1993, between the
   Lender and Lessor/Lessee, for a loan amount of XXX, to be repaid in monthly installments of XXX plus interest.

Review of Prior Determination

In response to your original request, the following Statutory and Regulatory authority were cited and discussed:

Section 212.08(13), F.S.:

"No transactions shall be exempt from the tax imposed by

this chapter except those expressly exempted herein...."

Section 212.031, F.S.,:

"(1)(a) It is declared to be the legislative intent that every person is exercising a taxable privilege who engages in the business of renting, leasing, letting, or granting a license for the use of any real property.... "(c) For the exercise of such privilege, a tax is levied in an amount equal to 6 percent of and on the total rent or license fee charged for such real property by the person charging or collecting the rental or license fee. "(d) When the rental or license fee of any such real property is paid by way of property, goods, wares, merchandise, services, or other thing of value, the tax shall be at the rate of 6 percent of the value of the property, goods, wares, merchandise, services, or other thing of value." (Emphasis Supplied)

Rule 12A-1.070(4), F.A.C.:

"(b) The tax shall be paid at the rate of... 6 percent... on all considerations due and payable by the tenant or other person actually occupying, using, or entitled to use any real property to his landlord or other person for the privilege of use, occupancy, or the right to use or occupy any real property for any purpose...."

The Department held the following:

"By operation of the above cited statute and administrative rule, the sales tax is levied on all considerations due and payable by the tenant for the privilege to occupy or use real property. It is immaterial whether such consideration is paid directly to the lessor/owner of such real property or to his designee. Further, such consideration may be paid by way of property or other thing of value.

"In such circumstances as those related in your original request, where both lessor/owner and tenant/lessee are liable on the mortgage secured by the real property, while

the liabilities of both may be reduced, the lessor/owner enjoys the additional benefit of having its equity in the property increased.... [T]his reduction of the lessor/owner's liability on the promissory note and increase in equity on the property is the payment of an
`other thing of value' under the express provisions of section 212.031(1)(d), F.S., and is thereby fully subject to tax under that statute...."

In support of this position, the Department cited the case of Seaboard Coast Line Railroad Company v. Rueben O'D. Askew, Case No. 72-15 (2d Cir., 1972), in which the Court made the following observation.

"A lease of real property vests in the lessee the right to use, occupy and enjoy the leased premises subject, of course, to the terms of the lease. The consideration paid by the tenant for the privilege conferred by the lease is
`rent.' Rent may be payable in cash, or in some commodity, or by rendering specified services. Rent may be payable directly to the lessor or to some other person either specified in the lease or directed by the lessor...."

The Court went on to observe that Section 212.031. F.S., imposes a tax upon "...`the total rent charged' for the renting, leasing of letting of real estate" and further observed that the language in this section "... clearly indicated a legislative intent to tax the full benefits flowing to the landlord for the use of leased premises."

CURRENT REQUEST

Your letter of October 26, 1993, states in pertinent part:

"... The additional information is furnished in order that the issue presented relating to treatment of interest paid directly to the mortgagee by the Lessee as co-maker of a promissory note with the Lessor will be respected as the payment of interest pursuant to the promissory note since such payment in not `charged' by the Lessor under Section 212.031(1)(c), F.S....

"The lease agreement and lease renewal and extension agreement set forth all the terms of the lease arrangement (Paragraph 18). No mention of the mortgage note payable or its terms and obligations is made in the sale lease agreement requiring (or charging) the Lessee to pay interest due under the promissory note. Any payment of such interest by Lessee would be due to the standing of Lessee as a co-maker (primary obligor) on the renewed promissory note. Adding the Lessee as co-maker on the promissory note increased the security and comfort to the lender and to further induce the lender to renew the loan. Lessee as co-maker is directly, independently and fully liable for repayment of the renewed note.
...
"... Lessor and Lessee seek to have its issue decided by applying Section 212.031, F.S., and Rule 12A-1.070(4), F.A.C., and the language charged' anddue and payable', respectively."

Your letter further states in part:

"Should the FDOR issue the foregoing advisement requested and payments are made directly to the lender by the Lessee for interest incurred under the renewed promissory note, such payments as interest only could be made since Lessee is a co-maker on the note. But for its direct and primary position as a co-maker on the renewed note, the Lessee could not (and would not) make any payments to the lender as interest. But since it is legally bound as a co-maker (primary obligor) on the note, interest paid by the Lessee can be paid as such and deducted on its federal income tax return under Section 163(a) of the Internal Revenue Code of 1986, as amended.

In support of your position, you have submitted the following additional documents for our review:

(1) Lessee's Statement of Income for the fiscal year ended March 31, 1994 (2) Lessee's General Ledger for the period 4/01/93 through

3/31/94
(3) Lessor's Schedule E of Form 1040 for the calendar year 1993

DISCUSSION AND DEPARTMENT'S RESPONSE

Section 212.031(1)(a), F.S., with enumerated exemptions not pertinent to the instant issue, imposes tax on the privilege of renting, leasing, letting, or granting a license for the use of any real property. Paragraph (1)(c) of the statute establishes the rate of such tax and describes the levy of the tax on the total consideration paid for the privilege of renting, leasing, letting, or having a license to use real property. Paragraph (1)(d) further states that such consideration may be paid by way of property, goods, wares, merchandise, services, or any other thing of value. Rule 12A-1.070(4)(b), F.A.C., which interprets the above statute, describes the imposition of sales tax on all considerations due and payable by the tenant in exchange for the privilege, or for the right to use or occupy the demised real property.

Pursuant to your correspondence and the documentation provided by you (i.e., copies of the lease agreement; lease renewal and extension; the original promissory note and new promissory note, dated February 1, 1993; Lessee's Statement of Income and General Ledger pages; and Lessor's Schedule E of Form 1040), and our several telephone conferences, it is the Department's understanding that the following facts have been presented as true statements:

(1) The lease agreement and lease renewal and extension agreement set forth all the terms of the lease agreement and lease payments represent the true or actual consideration received. (2) There is no reduction or offset in the amount of rent paid in consideration for the Lease due to the payment of interest by Lessee. (3) Lessee as co-maker is directly, independently, and fully liable for repayment of the renewed note. (4) The amount of interest paid by Lessee pursuant to the terms of the promissory note is not treated as Rental

Expense by Lessee or Rental Income by Lessor for Federal Income Tax purposes.

It is the Department's position, based upon the above facts as presented, that the payment of interest directly to the lender by Lessee under the promissory note would be deemed to be repayment of debt under said note rather than rent and would not be subject to sales or use tax by operation of Section 212.031(1)(a),(c), and (d), F.S. and Rule 12A-1.070(1)(c), (d), and (4)(b), F.A.C.

This response constitutes a Technical Assistance Advisement under s. 213.22, F.S., which is binding on the Department only under the facts and circumstances described in the request for this advice as specified in s. 213.22, F.S. Our response is predicated on those facts and the specific situation summarized above. You are advised that subsequent statutory or administrative rule changes or judicial interpretations of the statutes or rules upon which this advice is based may subject similar future transactions to a different treatment than expressed in this response.

You are further advised that this response and your request are public records under Chapter 119, F.S., which are subject to disclosure to the public under the conditions of s. 213.22, F.S. Your name, address, and any other details which might lead to identification of the taxpayer must be deleted by the Department before disclosure. In an effort to protect confidential information, we request you notify the undersigned in writing within 15 days of any deletions you wish made to the request or this response.

Sincerely,

Delores Overcash
Technical Assistant

/DO
Control #11773