On a utility's sale-leaseback of business equipment, is only the gain (not the entire proceeds) taxed under section 186, and how is the gain/profit computed for sections 186 and 186-a?

Plain-English summary

Long Island Lighting Company (LILCO), a PSC-regulated utility taxed under sections 186 and 186-a, planned sale-leaseback transactions: it would sell equipment used in producing/transmitting/distributing electricity and gas (e.g., an interest in a generating plant, diesel generators) to investor-lessors and lease it back -- essentially a financing. It asked (1) whether only the gain (not the whole proceeds) is taxed under section 186, and (2) how the gain/profit is computed for sections 186 and 186-a.

Only the gain is taxed, and it is measured from original cost.

• Section 186 (gross earnings = "all receipts from the employment of capital"). Following Consolidated Edison, Brooklyn Union Gas and Westchester Lighting, the gain -- not the entire proceeds -- on the sale of business-use property not held for sale to customers is the "receipt from the employment of capital." For section 186, gain = sale receipts minus original cost, with no deduction for depreciation and no deduction for sale expenses. A loss on such a sale cannot be deducted from other gross earnings.
• Section 186-a (gross income). Gross income includes the profit from the sale of real or personal property (other than inventory). For section 186-a, profit = sale receipts minus original cost (no depreciation) minus the expenses of making the sale. A loss is not deductible from other gross income.

What this means for you

Only the gain on selling business assets is taxed -- not the gross proceeds

For a utility, selling equipment used in its business produces gross earnings/gross income only to the extent of the gain or profit, because only that piece reflects the "employment of capital."

Measure from original cost, ignoring depreciation

For both taxes the basis is the property's original cost without subtracting depreciation -- so the taxable gain/profit can exceed the federal (depreciated-basis) gain.

The two taxes differ on sale expenses; losses never offset

Section 186 does not let you subtract sale expenses; section 186-a does. Under both, a loss on the sale cannot reduce your other gross earnings/gross income.

Common questions

Q: Is the whole sale-leaseback price taxed under section 186?
A: No -- only the gain, computed as sale price minus the property's original cost.

Q: Do I subtract depreciation in figuring the gain?
A: No. For both section 186 and 186-a the basis is original cost without depreciation.

Q: Can a loss on the sale offset my other utility gross earnings?
A: No. A loss is not deductible from other gross earnings (186) or gross income (186-a).

Citations and references

Statutes, regulations, and authorities:
- Tax Law section 186 (utility franchise tax; "gross earnings" = all receipts from the employment of capital, no deductions)
- Tax Law section 186-a and 186-a.2(c) (utility gross income tax; gross income includes profits from sales of real/personal property other than inventory)
- Matter of Consolidated Edison Co. v State Tax Commission, 24 NY2d 114 (only the employment-of-capital portion is gross earnings; proceeds from confiscation/destruction of capital are not)
- People ex rel Brooklyn Union Gas Co. v Morgan, 114 App Div 266; People ex rel Westchester Lighting Co. v Gaus, 199 NY 147 (1907 definition of gross earnings)
- Foundational to the section 186 utility-restructuring line (gain-only, original cost, no depreciation, aggregate one transaction)

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/corporation_ao_1995.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/corporation/a95_9c.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-95 (9) C
Corporation Tax
May 19, 1995

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO. C950104A

On January 4, 1995, a Petition for Advisory Opinion was received from Long Island Lighting
Company, 175 East Old Country Road, Hicksville, New York 11801.
The issues raised by Petitioner, Long Island Lighting Company, are whether the sales
proceeds received from a specified sale leaseback transaction (1) are taxable under section 186 of
the Tax Law and (2) are taxable under section 186-a of the Tax Law only to the extent that such
proceeds exceed Petitioner's undepreciated cost.
Petitioner is a publicly-held utility corporation subject to the supervision of the New York
State Department of Public Service (the "PSC"). As such, Petitioner is required to pay taxes on its
gross earnings and gross income pursuant to sections 186 and 186-a of the Tax Law, respectively.
Petitioner is considering entering into one or more sale-leaseback transactions whereby it
would sell certain equipment (the "Equipment") to a group of investors (the "Purchaser-Lessors"),
who would then lease the Equipment back to Petitioner for a stated period. Although the benefit to
Petitioner is essentially a reduction in financing costs (i.e., the proceeds from the sale of the
Equipment), the transaction would be intended to qualify as a "true lease" for Federal income tax
purposes.
The equipment under consideration for possible sale-leaseback transactions includes various
items of machinery and equipment used in the production, transmission and distribution of electricity
and natural gas. For example, such equipment might include an undivided interest in one of
Petitioner's electricity generating plants. Alternatively, such equipment might include certain diesel
generators manufactured by Colt Industries, together with associated spare parts, accessories and
related equipment and structures and would likely include other items that have not yet been
identified. Some of the equipment under consideration is affixed to structures or to the ground and
thus constitutes real property for New York State Real Property Tax purposes but is depreciable as
personal property for Federal income tax purposes.
It is contemplated that Petitioner would sell the Equipment to the Purchaser-Lessors. The
Purchaser-Lessors would lease the Equipment back to Petitioner for a term of years, after which the
right to possess and use the Equipment would revert to the Purchaser-Lessors. (The terms of the
transaction may give Petitioner the right to purchase the Equipment at the end of the lease term or
to extend the term of the lease.) Petitioner would pay monthly or quarterly rent during the lease
term.
TP-9 (9/88)

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Corporation Tax
May 19, 1995

For Federal income tax purposes, Petitioner would recognize gain or loss on the sale equal
to the difference between its cost for each item of property sold, adjusted for depreciation and other
adjustments to basis, and the sales price. Petitioner would deduct the rental payments as made. The
Purchaser-Lessors, as the owners of the Equipment, would be entitled to depreciation deductions
with respect to the Equipment.
Section 186 of the Tax Law imposes a franchise tax upon every corporation, joint-stock
company or association formed for or principally engaged in the business of supplying water, steam
or gas, when delivered through mains or pipes, or electricity, "for the privilege of exercising its
corporate franchise or carrying on its business in such corporate or organized capacity in this state"
When section 186 of the Tax Law was enacted, it provided for a franchise tax measured by
"gross earnings from all sources within this state" In 1907, the Legislature amended section 186 by
providing a statutory definition of gross earnings. "Gross earnings" is defined as "all receipts from
the employment of capital without any deduction".
The definition of gross earnings was added to overcome the effect of a 1906 New York State
Appellate Division decision holding that in order to arrive at taxable "gross earnings", the cost of raw
materials used in producing the utility service had to be deducted from the company's gross receipts.
(See People ex rel Brooklyn Union Gas Co. v Morgan, 114 App Div 266, affd 195 NY 616). "The
statute provides for taxing 'gross earnings from all sources' and adds that that means 'all receipts from
the employment of capital without deduction' .... we must regard the law as classifying with earnings
.... all receipts from the use of capital." (People ex rel Westchester Lighting Co. v Gaus, 199 NY 147,
150)
In 1969, the New York State Court of Appeals stated that "the 1907 amendment [of section
186] did not contemplate a substitution of 'capital', or 'gross receipts' for 'gross earnings' as the basis
for taxation. It merely sought to include that portion of capital which the Brooklyn Union Gas Co.
case [supra] required to be deducted from 'gross earnings' to arrive at the proper basis. This is only
that portion of 'gross earnings' which represents the 'employment of capital' to manufacture,
distribute and sell various public utility services." (Matter of Consolidated Edison Co. of NY v State
Tax Commission, 24 NY2d 114, 119). In the Consolidated Edison Co. case, the court determined
that (assuming there was no gain on the transactions) the proceeds received by the company for
property damage and insurance claims and from the sale of capital assets no longer employed in its
business, consisting of real property, scrap and used machinery, are amounts realized from the
destruction or confiscation of capital, not from the employment of capital.
Based on legislation and the decisions of the courts, the gain, rather than the entire proceeds,
on the sale of real or tangible personal property that is used in a taxpayer's business but is not held
for sale to the taxpayer's customers is a receipt from the employment of capital, and as such, the gain
constitutes gross earnings under section 186 of the Tax Law. The statute states that no deductions
from gross earnings are allowed. Therefore, for purposes of section 186 of the Tax Law, the basis
for computing the gain on the sale of such real or tangible personal property is the original cost of
such property, without the deduction of depreciation or expenses incurred in making the sale that is

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attributable to such property. The gain is determined by subtracting from the receipts from the sale
of the property, the original cost of the property. In addition, when the sale of such real or tangible
personal property results in a loss, rather than a gain, such loss may not be deducted from the
taxpayer's other gross earnings.
Herein, the gain, rather than the entire proceeds, on the sale of Equipment (machinery and
equipment used in the production, transmission and distribution of electricity and natural gas, such
as an undivided interest in one of Petitioner's electricity generating plants, or certain diesel generators
manufactured by Colt Industries, together with associated spare parts, accessories and related
equipment and structures) is a receipt from the employment of capital and as such, the gain
constitutes gross earnings under section 186 of the Tax Law. When determining whether there is
a gain from the sale of such Equipment for purposes of section 186 of the Tax Law, depreciation and
other expenses attributable to such Equipment is not deducted from the original cost. The gain is
determined by subtracting from the receipts from the sale of the equipment, the original cost of the
equipment. If the sale of such Equipment results in a loss, such loss may not be deducted from
Petitioner's other gross earnings.
Section 186-a of the Tax Law provides for a tax on the furnishing of utility services that is
equal to three and one-half percent of the gross income of a utility that is subject to the supervision
of the PSC. Gross income, as defined in section 186-a.2(c) of the Tax Law, consists of the following
elements:
1.

receipts from any sale made or service rendered for ultimate consumption or use by
the purchaser in New York State;

2.

profits from the sale of securities;

3.

profits from the sale of real property;

4.

profits from the sale of personal property (other than inventory);

5.

receipts from interest, dividends, and royalties, derived from sources within New
York State; and

6.

profits from any transaction (except sales for resale and rentals) within New York
State whatsoever.

Accordingly, under section 186-a of the Tax Law, a utility subject to the supervision of the
PSC includes in gross income the profits from the sale of real property and the profits from the sale
of personal property, other than inventory. For purposes of section 186-a of the Tax Law, the basis
for computing the profit on the sale of real or personal property, other than inventory, is the original
cost of such property, without the deduction of depreciation that is attributable to such property. The
gain is determined by subtracting from the receipts from the sale of the property, the original cost
of the property along with the expenses incurred in making the sale. If the sale of such real or
personal property results in a loss, rather than a profit, such loss may not be deducted from the
taxpayer's other gross income.

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Herein, the profit from the sale of Petitioner's Equipment is required to be included in gross
income for purposes of section 186-a of the Tax Law. When determining whether there is a profit
on the sale of such Equipment for purposes of section 186-a of the Tax Law, depreciation
attributable to such Equipment is not deducted from the original cost. The gain is determined by
subtracting from the receipts from the sale of the equipment, the original cost of the equipment along
with the expenses incurred in making the sale. If the sale of such Equipment results in a loss, such
loss may not be deducted from Petitioner's other gross income.

DATED: May 19, 1995

s/PAUL B. COBURN
Deputy Director
Taxpayer Services Division

NOTE: The opinions expressed in Advisory Opinions
are limited to the facts set forth therein.