Was sales tax due up front on all payments under a financing lease even if the lease was later terminated and the equipment sold?

Plain-English summary

After reviewing the agreement between Company A and Company B, the Comptroller classified it as a financing lease under Rule 3.291(a)(1)(A)(i).

Rule 3.294(f)(3)(B) required the lessor to collect tax on the sales price, including all lease payments for the term, when the purchaser took possession or the first payment became due, whichever came first.

Company A therefore owed tax on the full sum of lease payments even if the lease was later terminated and the equipment sold to another entity. Citing Comptroller's Decision No. 19,689, the letter said tax was due up front regardless of the accounting method.

The later sale to a Connecticut corporation was also taxable when possession occurred in Texas.

An earlier July 8 response included in the same STAR document had explained that a definitive answer required the contract and facts about the equipment's location and where the later buyer took possession. It also distinguished an operating-lease termination from a financing lease, which was treated like a sale at inception.

What this means for you

A lease that credits payments toward the purchase price may be treated as a financing sale rather than an operating rental. Under this historical letter, the entire scheduled payment stream entered the tax base at the beginning, and later termination did not reverse that treatment.

Common questions

When was tax due? When possession began or the first payment was due, whichever came first.

What amount was taxed? The full sales price, including all lease payments for the term.

Did termination remove the original tax? No.

Was the later sale taxable? Yes, when the Connecticut buyer took possession in Texas.

Citations and references

• 34 Tex. Admin. Code Rule 3.291(a)(1)(A)(i) — financing-lease classification
• 34 Tex. Admin. Code Rule 3.294(f)(3)(B) — tax on the sales price and full lease-payment stream
• Comptroller's Decision No. 19,689 (1987) — up-front tax regardless of accounting method

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9107L1121B05

Original ruling text

July 19, 1991

Dear *****:

Thank you for the additional information regarding the lease
agreement between your client, Company A and Company B.

I have reviewed the contract and determined that the lease between
Company A and Company B is a financing lease (paragraph
11). See Rule 3.291 (a)(1)(A)(i).

If tangible personal property is rented or leased under an
agreement that provides that all or a portion of the rental or
lease payments may be credited against the purchase price of the
item, the lessor shall collect the sales tax on the sales price,
including the sum of all lease or rental payments for the term of
the lease or rental, at the time the purchaser takes possession of
the property or when the first payment is due, whichever period is
the earlier. See Rule 3.294(f)(3)(B).

Company A must pay the sales tax on the total sum of the
lease payments even if the lease is terminated and subsequently
sold to another entity. The tax is due "up front" regardless of
the method of accounting. Comptroller's Decision No. 19,689 (1987).

The subsequent sale to the Connecticut corporation is also taxable
when possession occurs in Texas.

This opinion is based on the facts presented. If there are
additional or different facts, the opinion may change.

If you have any questions or need more information, you may call
me toll free at 1-800-531-5441, extension 5-0330. The regular
number is 512/463-4600, or write Tax Administration Division.

Sincerely,

Bettie U. Peterson
Tax Administration Division

July 8, 1991

Dear *****:

This is in response to your recent letters regarding the tax
consequences of the termination and subsequent sale of leased
equipment.

It will be necessary for you to provide further details before I
can provide a definitive answer. A copy of the lease agreement
between your client and the New York corporation would be
preferable. Is the leased equipment located in Texas? Will the
Connecticut corporation take possession in Texas?

Generally, when a lessor and lessee agree to terminate an
operating lease, additional tax will not be due unless required
due to terms of the contract. And, because a financing lease is
treated like a sale, all tax must be paid at the inception of the
lease. Please refer to the enclosed Rule 3.294, Rental and Lease
of Taxable Items. This rule requires revision regarding
transportation charges and installation charges which are now
taxable even when separately stated.

This opinion is based on the facts presented. If there are
additional or different facts, the opinion may change.

If you have any questions or need more information, you may call
me toll free at 1-800-531-5441, extension 5-0330. The regular
number is 512/463-4600, or write Tax Administration Division.

Sincerely,

Bettie U. Peterson
Tax Administration Division