July 05, 2018
A lease or rental of tangible personal property is taxable as a sale. The primary difference between various types of leases or rentals is that the sales tax timing is different for operating leases, as contrasted with financing leases. Comptroller Rule 3.294 outlines the requirements for each.
An operating lease allows for use of the leased property for a certain time period. For sales and use tax purposes, a written contract is generally treated as an operating lease unless it meets the definition of a financing lease. However, the Comptroller treats all oral leases as operating leases. Tax is generally due on each payment a lessee makes under an operating lease.
A financing lease, in contrast, is more like a sale, so the Comptroller requires collection and remittance of the entire tax liability up front. Rule 3.294(a)(1) defines a “financing lease” as a written lease contract containing either (1) a transfer of title to the property to the lessee at the end of the lease; or (2) a “bargain purchase option” allowing the lessee to purchase the property at a nominal price at the end of the lease (usually less than 10% of the fair market value of the property at the time the option is to be exercised). The Comptroller will also consider a lease to be a financing lease if the lease term is equal to or greater than 75% of the property’s estimated economic life and the contract makes no provisions for returning the property to the lessor.5 In addition, the Comptroller will designate a lease as a financing lease if the residual value of the leased property is less than 10% of the property’s fair market value at the inception of the lease and the contract makes no provisions for returning the property to the lessor.
There are special rules when equipment (e.g. construction equipment) is leased with an operator. If the leased equipment is provided with an operator at a lump sum price, which includes both labor and materials, the equipment lease with an operator is treated as a service. The service may be taxable or nontaxable depending upon what type of work is performed.
When a charge for an equipment rental is separately stated, the equipment rental charge is subject to sales or use tax as the rental of tangible personal property. A separately stated labor charge may or may not be taxable, depending upon the service performed.