If a leasing business sells its entire tax-free rental inventory to a new owner along with the business, does the original lessor owe tax under Rule 3.316(g)(1), or can the sale qualify for resale treatment under Rule 3.294?

Plain-English Summary

A person in the business of leasing tangible personal property had built up a "tax-free" rental inventory — equipment bought under a resale certificate instead of paying sales tax up front, on the theory that tax would instead be collected on the rental payments. That lessor wanted to sell the entire leasing business, inventory included, to another individual (a new lessor) who would take over the leases.

The taxpayer worried about Rule 3.316(g)(1), which normally taxes a lessor on the difference between what it paid for equipment and the rent already taxed, whenever tax-free rental inventory is later sold off (even as an "occasional sale"). The taxpayer argued that because the buyer could issue a resale certificate under Rule 3.294(i) — the rule that lets someone who buys an ongoing operating lease and assumes collection of the rent payments treat that purchase as a resale — the sale of the whole business should escape Rule 3.316(g)(1) tax entirely.

The Comptroller agreed, but only conditionally: the outcome turns on whether the new owner actually issues a resale certificate covering the whole inventory of lease items. If the buyer gives the seller a resale certificate for the entire inventory of lease items and component parts, no tax is due from the seller, and the buyer instead takes on the job of collecting and remitting tax on the leases going forward (or paying tax if it puts any of the inventory to its own "divergent," non-leasing use). If the buyer does not issue that resale certificate, Rule 3.316(g)(1) kicks back in, and the original lessor owes tax on the excess of its purchase price over any rent already taxed.

What This Means For You

If you are selling (or buying) a leasing business along with its tax-free rental inventory, the tax outcome is not automatic — it depends entirely on paperwork. The buyer must issue the seller a resale certificate that covers the entire inventory of lease items and component parts being transferred. Do that, and the sale is treated as a resale: the seller owes no tax under Rule 3.316(g)(1), and the buyer steps into the seller's shoes, collecting and remitting sales tax on the remaining lease payments (or use tax if it later pulls items out of the rental pool for its own use).

Skip the resale certificate, or cover only part of the inventory, and the general occasional-sale rule for lessors applies: the seller owes tax on the amount by which its original tax-free purchase price exceeded whatever rental tax has already been collected and reported on that equipment. Businesses buying or selling leasing operations should confirm the resale certificate is properly executed and covers the complete inventory before closing, since a gap in the paperwork can shift a real tax liability back onto the seller.

Q&A

Q: Does selling a leasing business automatically avoid tax on the tax-free rental inventory?
A: No. It avoids tax under Rule 3.316(g)(1) only if the buyer issues the seller a resale certificate covering the entire inventory of lease items and component parts being sold.

Q: What happens if the buyer doesn't issue a resale certificate for the whole inventory?
A: Rule 3.316(g)(1) applies, and the seller (original lessor) owes tax on the amount by which its purchase price for the equipment exceeded the rent, if any, on which tax was already collected and reported.

Q: If the buyer does issue the resale certificate, who owes tax going forward?
A: The buyer (the new owner of the business) becomes responsible for collecting and remitting tax on its lease of the items to lessees, or for paying tax if it makes any divergent (non-leasing) use of the inventory items itself.

Citations

• 34 Tex. Admin. Code Rule 3.316(g)(1) — resale certificates, occasional sales, and leases; taxes a lessor on the excess of purchase price over previously taxed rent when tax-free rental inventory is sold as an occasional sale.
• 34 Tex. Admin. Code Rule 3.294(i) — assignment of lease payments and property under operating leases; allows a third-party purchaser of an operating lease to issue a resale certificate to the original lessor and assume collection of tax on the remaining lease payments.

Subject

Equipment/Items — Purchased Tax Free For Resale For Renting/Leasing Purposes And Later Sold As Occasional Sale

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9407L1307E01

Original ruling text

July 5, 1994

Dear **:

Thank you for your recent letter regarding the interaction
of Rule 3.316 and Rule 3.294.

You stated that an individual in the business of leasing
tangible property had a tax free inventory and desired to
sell the entire business to another individual. You
paraphrase subsection (g)(1) of Rule 3.316 which states:

g) Resale certificates - occasional sales - leases.

(1) When a lessor purchases a taxable item tax
free for rental or lease and later sells, leases or rents
the item by way of an occasional sale as provided in
subsection (d) or (e) of this section, then the lessor owes
tax on the amount by which the lessor's purchase
price exceeds the amount of rent, if any, upon which tax has
been collected and reported from the prior rental or lease
of the item.

You then comment on Subsection (i) of Rule 3.294 which
states:

(i) Assignment of lease payments and property under
operating leases. A lessor may assign to a third party the
lessor's right to receive all lease payments due under an
agreement with the lessee and, in the same transaction,
transfer title to the property covered by the lease. At the
time the operating lease contract is assigned and title to
the property. is transferred to the third party, the third
party purchaser must begin collecting and remitting tax on
the full amount of the taxable rental charges remaining in
the lease. The third party purchaser may issue a resale
certificate to the lessor as provided by subsection (j) of
this rule. Tax must be reported by the third party purchaser
as provided by subsection (f)(3)(A) of this rule.

Your letter goes on to say:

During our telephone conversation, you indicated that
Rule 3.316(g)(1) would not apply and impose tax on a lessor
where the purchaser of rental inventory in connection with
the sale of a business is entitled to issue a resale
certificate under Rule 3.294(i), so that the sale of leased
property also qualifies as a sale for resale in addition to
an occasional sale. Thus, under the facts set forth above,
(i) no tax would be imposed under Rule 3.316(g)(1) as a
result of Original Lessor's sale of its business, including
rental inventory to New Lessor, and (ii) New Lessor is
entitled under Rule 3.294 to issue a resale certificate to
Original Lessor with respect to sale and rental inventory
and to assume collection of tax payments from lessees.

Response: The purchaser may give the seller a resale
certificate covering the purchase of the entire inventory of
lease items and component parts. The purchaser of the
business is then responsible for collecting and remitting
tax on his or her lease of the items or of paying tax on any
divergent use made of the inventory items. The provisions of
Rule 3.316(g)(i) will apply if the purchaser of the business
does not issue a resale certificate covering the purchase of
the entire inventory of lease items and component parts.

This opinion is rendered based on the facts you submitted.
Other facts, though similar, may yield different results.

You may call me toll free at 1-800-531-5441, ext. 3-4680.
The direct line is 512/463-4680. You may also write to Tax
Administration, Comptroller of Public Accounts.

Sincerely,

Al Van Allen
Tax Administration Division

NOTE: Previous Accession Number 9407454L