Our nonprofit hospital is building a new emergency facility, ICU, and parking structure using an off-balance-sheet 'synthetic lease' financing: we'll ground-lease our own land to a trust controlled by our lender for 49 years (nominal $1/year rent), the trust will lease it right back to us on a triple-net basis for up to 15 years while we actually build and pay for the improvements, and at the end we'll almost certainly exercise an option to buy back the trust's position. We have a sales tax exemption certificate as a nonprofit. Does this lease-and-leaseback structure trigger sales tax on construction materials/services, mortgage recording tax on the lease documents, or New York's Real Estate Transfer Tax on any part of the transaction (including our eventual buyback)?

Plain-English summary

Beth Israel Medical Center ("Petitioner"), a voluntary nonprofit hospital corporation and exempt organization under Tax Law Section 1116(a)(4), planned to construct an emergency facility, intensive care unit, operating room suites, service dock, and underground parking (the "Facility") as a new wing at its Kings Highway Division in Brooklyn, at an anticipated construction cost of about $11 million (plus roughly $3 million in related equipment financing). Because a tax-exempt bond offering of this size wasn't cost-effective and private developers wouldn't take on a special-purpose facility attached to an existing hospital campus, and because Petitioner needed to avoid adding balance-sheet debt under its existing bond indentures, Petitioner chose an off-balance-sheet "synthetic lease" financing structure -- a credit operating lease providing 100% financing with ownership-like characteristics, structured through a "lease and leaseback" (similar to a sale-leaseback) to satisfy accounting rules for off-balance-sheet treatment.

The structure. Petitioner would remain fee owner of the land throughout. It would ground-lease the land for 49 years (the "Ground Lease") to a trust ("Trust") beneficially owned by a to-be-selected financial institution ("Lender") that would provide 100% of the roughly $11 million financing ("Funding"). Simultaneously, the Trust would lease the land back to Petitioner on a triple-net basis (the "Leaseback"), with Ground Lease rent nominal at $1.00/year during the Leaseback term. Although the Ground Lease nominally obligated the Trust to construct the improvements, in practice the Leaseback made Petitioner responsible for actually implementing construction -- selecting the contractor, setting contract terms, supervising the work, and completing it regardless of whether the Funding proved sufficient -- with legal title to the improvements ("Improvements") vesting in Petitioner as fee owner as construction progressed. The Leaseback ran a 16-month Interim Term (the anticipated construction period), then a Base Term of three years eight months, then up to 10 one-year Renewal Terms (maximum aggregate term of 15 years). At the Leaseback's end, Petitioner could either exercise a Purchase Option (acquiring the Trust's Ground Lease position by assignment, at a price equal to the outstanding lease balance -- ranging from about 92% of construction cost at year five down to 50% at year fifteen) or let the Leaseback expire (triggering a termination payment equal to 44% of the Funding, with the Ground Lease continuing for the balance of its 49-year term). Because failing to exercise the Purchase Option would cost Petitioner 94% of the Funding (50% + 44%) while losing possession of the Improvements, the Department noted it was highly likely Petitioner would exercise the Purchase Option. Rent under the Leaseback was calibrated to economically mirror a loan: interest-only during construction, then principal-and-interest amortization sufficient to amortize 50% of the Funding by the 15-year maximum term. The Trust would deposit the Funding into a third-party escrow to disburse construction payments -- a format the Department found "merely incidental" to the lease/leaseback structure and not reflective of economic substance, since Petitioner, as the true economic borrower, would actually determine when and to whom payments are made.

Sales tax: exempt. Because Petitioner remains fee owner of the land and Improvements throughout, and is exempt under Section 1116(a)(4), the contractor's purchases of materials incorporated into the Facility (a "capital improvement" under Section 1101(b)(9)) are exempt under Section 1115(a)(15) -- the contractor should furnish suppliers a Contractor Exempt Purchase Certificate (Form ST-120.1). Payments to the contractor for capital-improvement construction services are likewise not subject to sales tax under Section 1105(c)(5), with the contractor obtaining a Certificate of Capital Improvement (Form ST-124) to pass that exemption down to subcontractors. Construction supplies that don't become part of the real property (e.g., contractor tools, equipment rentals, electricity used by the contractor) remain taxable UNLESS the contractor enters into a qualifying agency contract with Petitioner under Section 541.3(d)(4), in which case the contractor can purchase as Petitioner's agent using an Exempt Organization Certification (Form ST-119.1). The Ground Lease and Leaseback themselves aren't subject to sales tax at all, because real property is excluded from the definition of "tangible personal property" under Regulations Section 526.8. And Petitioner's eventual acquisition of the Improvements via Purchase Option exercise is exempt regardless of how the underlying lease/leaseback is characterized, simply because Petitioner is an exempt organization.

Mortgage recording tax: substance-over-form mortgage, but statutorily exempt. Citing the deed-as-security doctrine (Regulations Section 641.6(b): "an instrument in the form of an absolute deed, which is merely security," is treated as a mortgage) and Matter of Atlantic Cement Co. v. Murphy, 30 A.D.2d 456, aff'd 28 N.Y.2d 502 (the parties' intent, not the label on the instrument, controls whether something is really a mortgage), the Department held the Ground Lease/Leaseback, in substance, constitutes a mortgage given by Petitioner, as mortgagor, to the Trust, as mortgagee. Nonetheless, because Section 253.3 specifically exempts any mortgage executed by a voluntary nonprofit hospital corporation from the mortgage recording tax, recording the Ground Lease/Leaseback is fully exempt.

Real estate transfer tax: not a conveyance at all. Because the Ground Lease/Leaseback constitutes the creation of a mortgage (not a sale), and Tax Law Section 1401(e) expressly excludes the creation, modification, or satisfaction of a mortgage from the definition of a taxable "conveyance," the Ground Lease/Leaseback transactions are not subject to RETT in the first place. For the same reason, Petitioner's eventual acquisition of the Improvements upon exercising its Purchase Option -- implemented via assignment of the Ground Lease -- is analogous to satisfying a mortgage, and likewise isn't a taxable conveyance.

What this means for you

A nonprofit hospital's off-balance-sheet synthetic lease financing can be exempt from all three major real-estate-related taxes at once, but the reasons differ for each

Don't assume one blanket "we're tax-exempt" argument covers everything -- here, sales tax exemption flowed from Petitioner's ownership and exempt-organization status, mortgage recording tax exemption flowed from a specific hospital-corporation carve-out (Section 253.3), and RETT exemption flowed from the transaction being characterized as a mortgage (not a conveyance) rather than from Petitioner's tax-exempt status at all -- a for-profit entity using an identical synthetic lease structure would likely still avoid RETT on the same substance-over-form mortgage analysis, even without a sales tax or mortgage-tax exemption.

The deed-as-security doctrine applies even when the parties never call the arrangement a "mortgage"

Labeling a financing arrangement a "ground lease" and "leaseback," structured to satisfy off-balance-sheet accounting rules, doesn't prevent the Department (or courts) from looking at economic substance -- if the arrangement functions as a loan secured by the property (with rent equaling debt service, an option/obligation to acquire title back at the end, and the borrower bearing all the practical risks and burdens of ownership throughout), it will be treated as a mortgage for both mortgage recording tax and RETT purposes.

The specific hospital/dormitory-authority mortgage tax exemption is narrower than the general RETT mortgage-exclusion rule -- know which one you're relying on

Tax Law Section 253.3's exemption for nonprofit-hospital-executed mortgages is a targeted carve-out that a for-profit entity or non-hospital nonprofit couldn't claim -- but the broader principle that mortgage creation/satisfaction isn't a taxable RETT "conveyance" under Section 1401(e) is available to any deed-as-security financing, hospital or not.

Sales tax exemption for contractor purchases depends on who legally owns the property being improved, at the time materials are incorporated

Even within a complex financing structure, what matters for the Section 1115(a)(15) contractor exemption is that title to the improvements vests in the exempt organization as construction proceeds -- if a lender-trust (rather than the exempt organization) held title during construction, the exemption analysis could come out differently, so structuring title to vest immediately in the exempt owner is important to preserving this exemption.

Common questions

Q: If a nonprofit hospital finances new construction through an off-balance-sheet synthetic lease with a lender's trust, do contractor purchases for that construction still qualify for the hospital's sales tax exemption?
A: Yes, as long as the hospital remains the actual fee owner of the property and the improvements throughout, and holds a valid exempt-organization sales tax certificate -- the financing structure itself doesn't disturb that exemption.

Q: Does a ground-lease-and-leaseback financing arrangement, where a lender's trust technically holds an intermediate leasehold position, trigger mortgage recording tax?
A: It can be treated as a mortgage in substance under the deed-as-security doctrine (regardless of its "lease" label) -- whether tax is actually due then depends on whether a specific statutory exemption (like Section 253.3's nonprofit-hospital carve-out) applies.

Q: Does exercising a purchase option to acquire a lender-trust's leasehold position at the end of a synthetic lease financing trigger the Real Estate Transfer Tax?
A: No, if the underlying lease/leaseback was properly characterized as a mortgage rather than a sale -- exercising the option is treated as satisfying that mortgage, and mortgage satisfaction is expressly excluded from RETT's definition of a taxable conveyance.

Citations and references

Statutes, guidance, and case law:

• Section 1101(b)(5) of the Tax Law
• Section 1101(b)(9) of the Tax Law
• Section 1105 of the Tax Law
• Section 1115(a)(15) of the Tax Law
• Section 1115(a)(16) of the Tax Law
• Section 1115(a)(17) of the Tax Law
• Section 1116(a)(4) of the Tax Law
• Section 526.7 of the Sales and Use Tax Regulations
• Section 526.8 of the Sales and Use Tax Regulations
• Section 541.3(d) of the Sales and Use Tax Regulations
• Section 253 of the Tax Law
• Section 253-a of the Tax Law
• Section 250.2 of the Tax Law
• Section 253.3 of the Tax Law
• Section 641.6(b) of the Mortgage Recording Tax Regulations
• Section 1402 of the Tax Law
• Section 1401(e) of the Tax Law
• Matter of Atlantic Cement Co. v. Murphy, 30 A.D.2d 456, aff'd 28 N.Y.2d 502

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/real_estate_tran_ao_1998.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/multitax/a98_69s_3r.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-98(69)S
Sales Tax
TSB-A-98(3)R
Mortgage Recording Tax
Real Estate Transfer Tax
October 7, 1998

STATE OF NEW YORK
COMMISSIONER OF TAXATION AND FINANCE
ADVISORY OPINION

PETITION NO Z980521A

On May 21, 1998 the Department of Taxation and Finance received a Petition
for Advisory Opinion from Beth Israel Medical Center, 555 West 57 th Street, New
York, New York 10019.
The issues raised by Petitioner, Beth Israel Medical Center, are as
follows:

1. Whether the purchase of materials or services by the contractor for the
   construction of the Improvements or payments to the contractor for the
   construction of the Improvements will be subject to New York State or New
   York City sales or use taxes (sales tax).
2. Whether the Ground Lease from Petitioner to the Trust or any payments
   under the Ground Lease are subject to sales tax.
3. Whether the Leaseback from the Trust to Petitioner or any payments
   under the Leaseback are subject to sales tax.
4. Whether the acquisition of the Improvements by Petitioner upon the
   exercise of its option to purchase to be implemented by assignment of the
   leasehold interest under the Ground Lease to Petitioner is subject to
   sales tax.
5. Whether the lease and leaseback transaction will be disregarded as a
   mere financing arrangement for sales tax purposes so that the overall
   transaction will be regarded as the construction of improvements by a
   contractor for an organization that is exempt from sales tax under Section
   1115(a)(15) of the Tax Law.
6. Whether the New York State or New York City mortgage recording taxes
   (the mortgage recording tax) apply to all or any part of the lease and
   leaseback transaction.
7. Whether the Ground Lease from Petitioner to the Trust is subject to New
   York State Real Estate Transfer Tax (the transfer tax).
8. Whether the Leaseback from the Trust to Petitioner is subject to the
   transfer tax.
9. Whether the acquisition of the Improvements by Petitioner upon the
   exercise of its option to purchase to be implemented by assignment of the
   leasehold interest under the Ground Lease to Petitioner will be subject to
   transfer tax.

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Petitioner submits the following facts as a basis for this advisory
opinion.
Petitioner is a voluntary nonprofit hospital corporation and constitutes
an exempt organization under Section 1116(a)(4) of the Tax Law. Petitioner plans
to construct an emergency facility, intensive care unit, operating room suites,
service dock and underground parking (the "Facility"). The funding for such
construction (the "Funding") is being implemented through a financing device
commonly referred to as a "synthetic lease".
The Facility will be constructed at the Kings Highway Division of
Petitioner in Brooklyn, New York. Petitioner is and will remain fee owner of the
land on which the Facility will be constructed. The anticipated construction
cost is approximately $11 million and will be done in conjunction with a related
equipment financing of approximately $3 million. The Facility will be added as
a wing to the existing buildings at the site, and will obtain hot water and
possibly other basic services from the existing buildings.
Petitioner is seeking to build the Facility and to finance this development
on a long term basis. It is Petitioner's intention to maintain and utilize the
new Facility together with the other buildings situated at the Kings Highway
Division Hospital and to integrate its operation into the services provided at
that Hospital. Petitioner desires to receive 100% financing for the project at
rates of interest commensurate with its investment grade rating. The size of the
project is relatively small and the cost associated with the issuance of tax­
exempt revenue bonds for an offering of this size would be prohibitive. Because
the Facility is of a special purpose nature and it will be located within the
existing Hospital campus and attached to the existing buildings, it would be
difficult if not impossible to attract private development capital to construct
and own the Facility. Due to indenture requirements under its existing bonds,
it is of importance to Petitioner to avoid assuming significant debt.
As a result of the foregoing considerations, Petitioner desires to proceed
with a form of financing known as an off balance sheet financing, or as a
"synthetic lease", which is essentially a credit operating lease providing 100%
financing with characteristics of ownership for Petitioner. However, in order
to achieve the "off-balance sheet" nature of the financing, it is necessary to
meet certain tests established under Financial Accounting Standards, and for this
reason the structure incorporates a "lease and leaseback" arrangement which is
similar to a so-called "sale-leaseback" financing.
The land will be leased pursuant to a 49-year lease (the "Ground Lease")
by Petitioner to a trust (the "Trust") established and beneficially owned by a
financial institution (the "Lender") that will provide the Funding for the
construction. At the same time, the Trust will lease the land back to Petitioner
as lessee on a triple net lease basis under which Petitioner will be responsible

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for all expenses (the "Leaseback"). During the term of the Leaseback, rent under
the Ground Lease will be a nominal $1.00 annually.
Under the Ground Lease, the Trust, as lessee under the Ground Lease, is
obligated to construct the improvements.
However, under the Leaseback,
Petitioner as lessee under the Leaseback, would be responsible for actually
implementing construction of the improvements comprising the emergency facility
(the "Improvements") and will be obligated to complete the construction
regardless of the sufficiency of the Funding amount.
Legal title to the
Improvements will vest in Petitioner as fee owner as the Improvements are
constructed.
The Leaseback will have an Interim Term of 16 months, which is the
anticipated period of construction. This is followed by a Base Term of three
years and eight months, and by 10 one-year Renewal Terms, so that, if all Renewal
Terms were exercised, the aggregate term of the lease would be 15 years. At the
expiration of the Leaseback, Petitioner, as lessee under the Leaseback, has the
choice to: (i) acquire the Trust's position as lessor under the Ground Lease by
taking an assignment of the Ground Lease (the "Purchase Option") for a price
equal to the then outstanding lease balance ("Purchase Option Price"), or (ii)
allow the Leaseback to expire. The Purchase Option Price varies downward from
approximately 92 percent of the cost of construction at the end of the fifth year
of the Ground Lease to 50 percent of cost at the end of the fifteenth year of the
Ground Lease, and is equal to the amount which would be the unpaid balance of
principal and interest on the Funding if it were a loan.
When Petitioner
exercises the option, the Ground Lease is extinguished. If the Purchase Option
is not exercised at the end of the Leaseback, possession of the Improvements is
returned to the Trust by virtue of termination of the Leaseback. In this event,
Petitioner must make a termination payment equal to 44 percent of Funding, and
the Ground Lease will continue for the balance of its 49-year term. Thus, unless
Petitioner exercises its Purchase Option, it will have paid 94 percent of the
Funding (50 percent plus 44 percent) and lose possession of the Improvements.
The Leaseback termination payment is so close to the Purchase Option Price and
the penalty so heavy for failure to purchase that it is highly likely that the
Purchase Option will be exercised. It is not contemplated that the Trust would
retain the Ground Lease in any circumstances, and the lease documentation will
require Petitioner to find a third party to take an assignment of the Ground
Lease if the Purchase Option is not exercised.
The Lender will provide to the Trust 100 percent of the Funding. Rent
under the Leaseback will be paid monthly in arrears. During the Interim Term
(i.e., the anticipated period of construction), rent will consist of the amount
which would constitute "interest" only on the Funding if it were a loan, and
thereafter rent will consist of the amount which would constitute the monthly
interest and principal amortization payment sufficient to amortize 50 percent of
the Funding by the end of the maximum 15 year term. The "interest" component of
the rent for the purpose of this computation is based on the rate on United
States Treasury obligations at the time of execution, plus an agreed upon margin.

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Under the terms of the Leaseback, the construction of the Improvements is
to be carried out under plans and specifications prepared by Petitioner's
architects, the contractor constructing the Improvements will be selected by
Petitioner, the terms of the construction contract will be established by
Petitioner and construction supervision will be carried out by Petitioner. When
construction is completed, equipment selected and purchased by Petitioner, and
financed by a separate sale and leaseback transaction, will be installed in the
Improvements, after which Petitioner will control and operate the medical
facility.
Petitioner presently has a sales tax exemption certificate, and desires to
follow a procedure in which the contractor purchasing materials for construction
of Improvements for Petitioner, acting on behalf of Petitioner as lessee under
the Leaseback, will present Form ST-119.1, Exempt Organization Certification, to
sellers of taxable materials and services in order to be exempted from the
payment of sales tax, as it would if there were no lease and leaseback structure
being utilized in the transaction.
The Trust will deposit the Funding into a third-party escrow that will
disburse the funds for construction purchases and certain transaction costs.
This format, compelled by accounting rules requiring the lessor to be the nominal
payer for the Improvements, is merely incidental to the lease and leaseback
format and does not reflect the substance of the transaction. In true economic
terms, Petitioner is the true borrower of the Funding and purchaser of the
construction material. Petitioner, as lessee under the Leaseback, will determine
when and to whom payments are to be made.
The rent that, as a matter of
underlying economics, is interest and amortization on the Funding, and the
intended option payment, that as a matter of the underlying economics, is a
payment of the outstanding principal balance, are all made by Petitioner from
funds it is indirectly borrowing through the synthetic lease arrangement, so that
all the underlying payments, as an economic matter, actually come from
Petitioner.
The Lender has not been selected, but will be a financial institution
primarily engaged in the business of making loans.
Applicable Law and Regulations
Sales Tax
Section 1101(b)(5) of the Tax Law defines "sale, selling or purchase" as
follows:
Sale, selling or purchase.
Any transfer of title or
possession or both, exchange or barter, rental, lease or license to
use or consume (including, with respect to computer software, merely
the right to reproduce), conditional or otherwise, in any manner or
by any means whatsoever for a consideration, or any agreement

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therefor, including the rendering of any service, taxable under this
article, for a consideration or any agreement therefor.
Section 1101(b)(9) defines "capital improvement" as follows:
(9) Capital improvement.
real property which:

(i) An addition or alteration to

(A) Substantially adds to the value of the real property, or
appreciably prolongs the useful life of the real property; and
(B) Becomes part of the real property or is permanently
affixed to the real property so that removal would cause material
damage to the property or article itself; and
(C) Is intended to become a permanent installation.
Section 1105 of the Tax Law provides, in part:
Imposition of sales tax. On and after June first, nineteen
hundred seventy-one, there is hereby imposed and there shall be paid
a tax of four percent upon:
(a) The receipts from every retail sale of tangible personal
property, except as otherwise provided in this article.
(b) The receipts from every sale, other than sales for resale,
of gas, electricity, refrigeration and steam, and gas, electric,
refrigeration and steam service of whatever nature, and from every
sale, other than sales for resale, of telephony and telegraphy and
telephone and telegraph service of whatever nature except interstate
and international telephony and telegraphy and telephone and
telegraph service and from every sale, other than sales for resale,
of a telephone answering service.
(c) The receipts from every sale, except for resale, of the
following services:
*

*

*

(5) Maintaining, servicing or repairing real property,
property or land, as such terms are defined in the real property tax
law, whether the services are performed in or outside of a building,
as distinguished from adding to or improving such real property,
property or land, by a capital improvement as such term capital
improvement is defined in paragraph nine of subdivision (b) of
section eleven hundred one of this chapter, but excluding services
rendered by an individual who is not in a regular trade or business
offering his services to the public.

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Section 1115(a) of the Tax Law provides, in part:
Exemptions from sales and use taxes. (a) Receipts from the
following shall be exempt from the tax on retail sales imposed under
subdivision (a) of section eleven hundred five and the compensating
use tax imposed under section eleven hundred ten:
*

*

*

(15) Tangible personal property sold to a contractor,
subcontractor or repairman for use in erecting a structure or
building of an organization described in subdivision (a) of section
eleven hundred sixteen, or adding to, altering or improving real
property, property or land of such an organization, as the terms
real property, property or land are defined in the real property tax
law; provided, however, no exemption shall exist under this
paragraph unless such tangible personal property is to become an
integral component part of such structure, building or real
property.
(16) Tangible personal property sold to a contractor,
subcontractor or repairman for use in maintaining, servicing or
repairing real property, property or land of an organization
described in subdivision (a) of section eleven hundred sixteen, as
the terms real property, property or land are defined in the real
property tax law; provided, however, no exemption shall exist under
this paragraph unless such tangible personal property is to become
an integral component part of such structure, building or real
property.
(17) Tangible personal property sold by a contractor,
subcontractor or repairman to a person other than an organization
described in subdivision (a) of section eleven hundred sixteen, for
whom he is adding to, or improving real property, property or land
by a capital improvement, or for whom he is about to do any of the
foregoing, if such tangible personal property is to become an
integral component part of such structure, building or real
property; provided, however, that if such sale is made pursuant to
a contract irrevocably entered into before September first, nineteen
hundred sixty-nine, no exemption shall exist under this paragraph.
Section 1116(a) of the Tax Law provides, in part:
Exempt organizations.
(a) Except as otherwise provided in
this section, any sale or amusement charge by or to any of the
following or any use or occupancy by any of the following shall not
be subject to the sales and compensating use taxes imposed under
this article:

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*

*

*

(4) Any corporation, association, trust, or community chest,
fund or foundation, organized and operated exclusively for
religious, charitable, scientific, testing for public safety,
literary or educational purposes, or to foster national or
international amateur sports competition (but only if no part of its
activities involve the provision of athletic facilities or
equipment), or for the prevention of cruelty to children or animals,
no part of the net earnings of which inures to the benefit of any
private shareholder or individual, no substantial part of the
activities of which is carrying on propaganda, or otherwise
attempting to influence legislation, (except as otherwise provided
in subsection (h) of section five hundred one of the United States
internal revenue code of nineteen hundred fifty-four, as amended),
and which does not participate in, or intervene in (including the
publishing or distributing of statements), any political campaign on
behalf of any candidate for public office;
Section 526.7 of the Sales and Use Tax Regulations provides, in part:
Sale, selling or purchase. (Tax Law, S 1101(b)(5)) (a)
Definition. (1) The words sale, selling or purchase mean any
transaction in which there is a transfer of title or possession, or
both, of tangible personal property for a consideration.
(2) Among the transactions included in the words sale,
selling or purchase are exchanges, barters, rentals, leases
or
licenses to use or consume tangible personal property.
*

*

*

(c)
Rentals,
leases,
licenses
to use. (1) The terms
rental, lease and license to use refer to all transactions in which
there is a transfer for a consideration
of
possession
of
tangible personal property without a transfer of title to the
property. Whether a transaction is a "sale" or a "rental, lease
or
license to use" shall be determined in accordance with the
provisions of the agreement. (See section 527.15 of this Title
for special rules pertaining to certain leases of motor vehicles,
vessels and noncommercial aircraft.)
(2) Where a lease (other than one described in section
527.15 of this Title) with an option to purchase has been entered
into, and the option is exercised, the tax will be payable on
the consideration given when the option is exercised, in addition to
the taxes paid or payable on each lease payment.

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(3) A lease which has been entered into merely as a security
agreement, but which does not in fact represent a transaction in
which there has been a transfer of possession from the lessor
to the lessee, is not a "sale" within the meaning of the Tax Law.
Cross-reference: See section 527.15 of this Title for
special rules pertaining to certain leases of motor vehicles,
vessels and noncommercial aircraft.
Section 526.8 of the Sales and Use Tax Regulations provides, in part:
Tangible personal property. (Tax Law, S 1101(b)(6)) (a)
Definition. The term tangible personal property means corporeal
personal property of any nature having a material existence and
perceptibility to the human senses....
*

*

*

(c) Tangible personal property does not include:
(1) real property;...
Section 541.3(d) of the Sales and Use Tax Regulations provides, in part:
Contracts with exempt organizations. (1) Tangible personal
property incorporated into real property owned by a governmental
entity
or
by
an exempt
organization is exempt, whether the
contract is on a lump sum, time and material, cost-plus, or other
basis.
(2) Purchase for contracts (other than agency contracts).
(i) Tangible personal property sold to a contractor, subcontractor,
or repairman for use in erecting, repairing, adding to, or
altering a structure or building owned by an exempt organization,
described in section 1116(a) of the Tax Law, is exempt when
it is to become an integral component part of such structure or
building.
Example
1:
An exempt organization contracts to have a
building erected on its land. Purchases by its contractor of
tangible personal
property,
such as
nails, sheetrock,
and
plywood that become part of the structure are exempt.
Example 2: A building is being erected for an exempt
organization. Glass in the windows is broken and a glazier is
engaged by the general contractor to repair
the
windows.
The
charges for such repairs are exempt and the purchase of the new
glass is exempt.

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Example 3: A contractor builds a structure on speculation and
subsequently sells the structure to an exempt organization. The
contractor is not entitled to the tax exemption on the purchase of
tangible personal property incorporated into the structure.
Example
4:
The
owner
of real property enters into a
contract to erect a building to be leased, under a long-term lease,
to an exempt organization. The contractor's purchases are not
exempt as the owner of the building is not an exempt organization.
Example 5: A contractor or a nonexempt entity owns land on
which a building is erected to the specifications of an exempt
organization. Under the terms of the contract, the organization
will not own the land or the building until it is completed and
ready for occupancy. The building materials are not exempt as the
exempt organization will not own the building at the time the
materials are incorporated into the real property.
(ii) Purchases of tangible personal property incorporated
into the real property of an exempt organization by subcontractors
and repairmen are accorded the same treatment as purchases by the
prime contractor.
(iii) Tangible personal property purchased by a contractor,
which remains tangible personal property after installation, is
exempt from the tax
when purchased for and sold to an exempt
organization.
Example 6: An exempt organization contracts to have a new
wing built onto their existing building. The new wing includes the
addition of a cafeteria. The contractor may purchase, exempt
from the tax, the tangible personal property that becomes part of
the capital improvement to real property and the tangible personal
property which remains tangible personal property.
(iv) Except for agency contracts, contractors' purchases of
construction supplies which do not become part of an exempt
organization's real property and are used or consumed by the
contractor, as well as purchases of taxable services, such as
electricity used by the contractor, are subject to the tax.
Cross-reference: For purchases under an agency contract, see
paragraph (4) of this subdivision.
The following types
of property and services are
representative, but not intended to be all-inclusive, of
contractor's purchases which are subject to tax, irrespective of
whether the contractor has a time and material, lump sum, or other

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type of contract
organization:

(except

agency

contract),

with

an

exempt

(a) construction machinery and equipment, including rentals
and repair parts;
(b) contractors' office supplies;
(c) contractors' supplies, tools, and miscellaneous equipment,
whether purchased or rented, including materials to make forms and
scaffolding; and (d) any other items purchased or rented by a
contractor for his use in performing the contract and not
incorporated into the realty.
*

*

*

(b) If the customer is an exempt organization other than a
governmental entity, the prime contractor must obtain an exempt
organization certification from his customer and retain it as part
of his records. Copies of the certification must also be furnished
to all subcontractors on the job. The subcontractors must retain a
copy of the certification in their records with a copy of the
contract which identifies the project
and the location. When
purchasing tangible personal property for incorporation into the
exempt project, the prime contractor and subcontractor will issue a
properly completed contractor exempt purchase certificate to the
supplier.
(3) Maintaining, installing, repairing and servicing tangible
personal property and real property. Charges for maintaining,
installing, repairing and servicing tangible personal property and
real property are exempt from the tax when the exempt organization
is the payer of record. When these charges are billed to and paid by
a tenant, the charges (excluding charges for interior cleaning and
maintenance services of a janitorial nature performed on a regular
contractual basis for a term of not less than 30 days) are subject
to the tax on the full invoice price, except for the charges billed
to and paid by a tenant which qualifies as an exempt entity pursuant
to section 1116(a) of the Tax Law.
(4) Agency contracts. (i) If an exempt organization described
in section 1116(a)(3), (4), (5) or (6) of the Tax Law enters into an
agency contract with the prime contractor and all subcontractors,
all purchases for such contract are exempt as long as the property
and services are purchased by the contractor or subcontractor as
agent for the exempt organization. In order to create a
principal/agent relationship all of the following conditions must be
met:

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(a) purchases must be billed or invoiced by the vendor to the
exempt organization or to the contractor specifying that the
contractor is acting as agent for the exempt organization (e.g.,
X contractor, as agent for Y, name of exempt organization) and
identify the place of delivery;
(b) payment must be made by the exempt organization or by
the contractor, acting as agent, directly to the vendor from a
special fund created by the exempt organization for this specific
purpose;
(c) deliveries must be made to the job site; or under certain
circumstances (such as where the materials require additional
fabrication before installation on the job site or for storage to
protect the materials from theft or vandalism prior to installation
at the job site) deliveries may be made to a site, other than the
job site, providing the ultimate delivery of the materials is made
to the job site. Where delivery is made to a site, other than the
job site, the purchases must be billed or invoiced by the vendor to
the exempt organization or to the contractor as agent, identify the
place of delivery, the exempt organization's full name and address
and the job site location where the materials will ultimately be
delivered for installation; and
(d) the contractor must furnish the vendor with the exempt
organization certification when acting as agent for such
organization. A statement signed by a responsible officer of the
exempt organization which identifies the contract and the
contractor, as agent for the exempt organization, must be either
made
on the exempt organization certification or appropriately
attached thereto.
If the proposed agency contract differs from the requirements
of this subparagraph, copies of the proposed contract and procedures
may be submitted for an opinion to the Instructions and
Interpretations Unit, Sales Tax Section, Technical Services Bureau,
W.A. Harriman Campus, Albany, N.Y. 12227.
(ii) All purchases or rentals of materials, equipment, tools,
and supplies by an exempt organization or by a contractor or
subcontractor, as agent for an organization which is exempt from
sales taxes under section 1116(a)(3), (4), (5) or (6), are exempt
from sales and use taxes when the contract fully complies with
the requirements set forth in subparagraph (i) of this paragraph.

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Opinion-Sales Tax
Issue #1
Throughout the Ground Lease/Leaseback transaction Petitioner remains the
owner of the fee interest in the land and the Improvements as they are
constructed. Petitioner is exempt from sales tax under Section 1116(a)(4) of the
Tax Law. As such, and in accordance with Section 1115(a)(15) of the Tax Law and
Section 541.3(d)(2) of the Sales and Use Tax Regulations, the purchase of
materials by a contractor which are incorporated into the real property of
Petitioner is exempt from sales tax. The contractor should furnish its supplier
with a properly completed Contractor Exempt Purchase Certificate (Form ST-120.1)
in order to purchase materials exempt from tax under Section 1115(a)(15).
The construction of the Facility constitutes a capital improvement as
defined in Section 1101(b)(9) of the Tax Law.
Therefore, the purchase of
services to real property described in Section 1105(c)(5) of the Tax Law by a
contractor from a subcontractor for the construction of the Facility are not
subject to sales tax. Likewise, the payments to the contractor for the services
of constructing the Facility, and for materials which become part of the
Facility, are not subject to sales tax. The contractor should obtain a properly
completed Certificate of Capital Improvement (Form ST-124) from its customer and
furnish a copy of such certificate to its subcontractors in order for the
contractor to purchase services to real property from its subcontractors without
payment of tax. See Section 541.5(b)(4) of the Sales and Use Tax Regulations.
Purchases by the contractor of construction supplies which do not become
part of Petitioner's real property, as well as purchases of taxable services,
such as electricity used by the contractor, are subject to sales tax unless the
contractor enters into an agency contract and acts as agent of Petitioner in
accordance with Section 541.3(d)(4) of the Sales and Use Tax Regulations. If the
contractor qualifies as an agent of Petitioner, the contractor may purchase all
tangible personal property and services for its contract with Petitioner exempt
from tax if the contractor furnishes its suppliers with an Exempt Organization
Certification (Form ST-119.1), along with a statement signed by a responsible
officer of Petitioner identifying the agency contract and the contractor as agent
for Petitioner.
See Section 541.3(d)(4)(i)(d) of the Sales and Use Tax
Regulations.
Issues #2, #3
As provided in Section 526.8 of the Sales and Use Tax Regulations real
property is excluded from the definition of tangible personal property.
Therefore, the Ground Lease and Leaseback are not subject to sales tax since they
apply to real property.

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Issue #4
Any sale of tangible personal property to Petitioner resulting from its
exercise of its option to purchase at the expiration of the Leaseback would be
exempt from sales tax since Petitioner is an exempt organization under Section
1116(a)(4) of the Tax Law.
Issue #5
As to whether the Ground Lease and Leaseback constitute a financing
transaction, please see the discussion below with respect to the mortgage
recording tax.
Regardless of how the Ground Lease and Leaseback are
characterized for purposes of the mortgage recording tax, a contractor’s
purchases of materials that become part of the Facility will be exempt under
Section 1115(a)(15) of the Tax Law since Petitioner owns the Facility.
Applicable Law and Regulations-Mortgage Recording Tax
Subdivisions 1, 1-a and 2 of Section 253 of the Tax Law impose taxes on the
recording of a mortgage of real property in the State measured by the principal
debt or obligation, which is, or under any contingency, may be secured at date
of execution thereof or at any time thereafter.
Also, in addition to the
Statewide mortgage recording taxes, Section 253-a of the Tax Law authorizes New
York City to impose a tax on the recording of mortgages of real property situated
within New York City.
Section 250.2 of the Tax Law defines the term "mortgage" as follows:
The term "mortgage" as used in this article includes every
mortgage or deed of trust which imposes a lien on or affects the
title to real property, notwithstanding that such property may form
a part of the security for the debt or debts secured thereby. An
assignment of rents to accrue from tenancies, subtenancies, leases
or subleases of real property, within any city in the state having
a population of one million or more, given as security for an
indebtedness, shall be deemed a mortgage of real property for
purposes of this article...
Section 253.3 of the Tax Law provides as follows:
Notwithstanding any other provision of law to the contrary,
the mortgage recording tax shall not be imposed upon any mortgage
executed by a voluntary non-profit hospital corporation or upon any
mortgage executed by or granted to the dormitory authority.
Section 641.6(b) of the Mortgage Recording Tax Regulations states in part
as follows:

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(b) The following are examples of instruments which are
mortgages when given as security for a debt or the performance of an
obligation:
(1) an instrument in the form of an absolute deed, which is
merely security;....
It has been noted that: "The courts are not concluded [sic] by the
designation or form of the instruments which the parties have adopted, and where
it appears that the real transaction was a pledge of an interest in real property
as security for the payment of a debt, and that on payment of the debt the
security is to be canceled or surrendered, the instrument will be construed as
a mortgage, regardless of whether the parties have designated it a "deed" or
"lease" and have used a form appropriate for such an instrument.
Thus, a
sublease given to secure a debt under an agreement that the lease should be
canceled on payment of the debt and that the lessor should account to the lessee
for rents received in excess of disbursements is a mortgage." (77 NY Jur 2d,
Mortgages and Deeds of Trust, § 29, p.406)
New York courts have recognized, in the context of the application of the
mortgage recording tax and in other cases not involving tax issues, that "an
instrument which purports to be a conveyance of real property in fee may in fact
be a mortgage depending upon the circumstances surrounding the giving of such an
instrument." Matter of Atlantic Cement Co. v. Murphy, 30 AD2d 456, 457, affd,
28 NY2d 502. In Atlantic Cement, the Court stated that the question of whether
or not a deed should be taxed as a mortgage must be determined by the intention
of the parties. Id., at 458. The parties' intent "may be gathered from the oral
testimony, the circumstances attending the transaction, the conduct of the
parties, as well as from the fact of the written contract. Id. ... From a
reading of the record, it becomes apparent that the "production payment" is a
device which attempts to return the old title concept of mortgages, whereby the
mortgagee was actually given title to the property as security rather than simply
a lien. The courts no longer permit an instrument, which is in actuality a means
of giving security for a loan, to be considered anything but a mortgage. The
present instrument is no exception to this long-established rule." Id., at 458.
In Atlantic Cement, the Court confirmed the Tax Commissions's determination that
the instrument constituted a mortgage.
Opinion-Mortgage Recording Tax
The substance of the creation of the Ground Lease/Leaseback as well as the
described intent of the parties to the transaction results in a finding that the
Ground Lease/Leaseback constitutes a mortgage given by Petitioner, as mortgagor
to the Trust as mortgagee. As the Petitioner is a voluntary nonprofit hospital
corporation the recording of the Ground Lease/Leaseback would be exempt from the
mortgage recording tax.

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Applicable Law-Real Estate Transfer Tax
Section 1402 of the Tax Law imposes the transfer tax on each conveyance of
real property or interest therein when the consideration for the conveyance
exceeds $500.00.
Section 1401(e) of the Tax Law defines the term "conveyance", in part, as
follows:
(e) "Conveyance" means the transfer or transfers of any
interest in real property by any method, ... Notwithstanding the
foregoing, conveyance of real property shall not include a
conveyance pursuant to devise, bequest or inheritance; the creation,
modification, extension, spreading, severance, consolidation,
assignment, transfer, release or satisfaction of a mortgage; a
mortgage subordination agreement, a mortgage severance agreement, an
instrument given to perfect or correct a recorded mortgage;...
Opinion-Real Estate Transfer Tax
As the creation of the Ground Lease/Leaseback constitutes the creation of
a mortgage, such transactions do not constitute conveyances pursuant to Section
1401(e) of the Tax Law, and they are therefore not subject to transfer tax.
Furthermore, the acquisition of the Improvements by Petitioner upon the exercise
of its option to purchase to be implemented by assignment of the leasehold
interest under the Ground Lease is analogous to and constitutes the satisfaction
of a mortgage. Thus, this transaction is not a conveyance subject to transfer tax
in accordance with Section 1401(e) of the Tax Law.

DATED: October 7, 1998

NOTE:

/s/
John W. Bartlett
Deputy Director
Technical Services Bureau

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