California Tour Operator Liable for Sales Tax on Equipment Rentals
July 26, 2023
By: Tina M. Chunn, SALT Senior Manager
At a glance
- The main takeaway: While high-level sales and use tax principles are typically consistent among the states, each has its nuances, such as California’s treatment of sales tax on rentals.
- Assess the impact: The variations and complexities between each state’s sales and use tax rules could, if not identified and addressed, cause a taxpayer to incur liabilities and penalties for noncompliance.
- Take the next step: Aprio’s State and Local Tax (SALT) team has experience navigating the different sales and use tax rules among the states and can assist you in determining your sales and use tax obligations.
The full story:
A recent California Office of Tax Appeals (OTA) opinion addresses the taxability of temporary rentals of tangible personal property that are included as part of a lump sum tour package.1
The taxpayer, Adventures by the Sea, Inc. (“Adventures” or the “Company”) provides rentals of kayaks, bicycles and related safety equipment that can be rented separately, or as part of a tour package. If the rental is part of a tour group package, Adventures will charge a lump sum all-inclusive price for the tour that includes the tour guide, kayak or bicycle, and related safety equipment.
During an audit, it was determined that the Company did not pay sales tax when it purchased kayaks and bicycles nor did it charge sales tax on rentals of kayaks and bicycles to its customers, regardless of whether the rental was solely for the property or included in a tour package. Adventures appealed the assessment of sales tax on the rentals included in a tour package.2
For sales and use tax purposes, states typically equate a sale with a lease or rental. Thus, when a lessee leases property that is taxable, the lessor will treat each lease payment as a taxable transaction and will collect and remit sales tax on the rental price. In addition, when the lessor purchases the property from its vendor for the purpose of leasing it to customers, it is permitted to provide its vendor with a resale certificate.
The ruling explained
California generally follows these rules, but with a slight wrinkle. The state exempts leases of “tangible property leased in substantially the same form as acquired by the lessor” when the lessor paid sales tax measured by the purchase price of the property.3 Essentially, this provision allows a taxpayer to choose whether to pay the sales tax on its purchase of the property or to collect and remit the sales tax on the rental revenue.
If the tax was not paid by the lessor on the purchase price at the time the property was acquired, the lessor can still pay the tax, but it must be paid with the return for the period during which the property is first placed into rental service. The lessor may not retroactively make this election to receive the exemption.4
Adventures argued that it should not be liable for sales tax on the rentals since its vendor should have collected the sales tax at the time of purchase. The opinion explained that it is irrelevant whether the tax should have been collected by the Company’s vendor at the time of purchase since the rules require only that the tax be paid in a timely manner. In this case, since the tax was not paid by Adventures at the time of purchase or prior to the rentals, the tax assessment was sustained on the untaxed rentals as the exemption could not be retroactively applied.
Alternatively, Adventures argued that the rentals included in the tour packages should be treated as nontaxable transportation services.5 To support this position, Adventures cited former CDTFA Sales and Use Tax Annotation (Annotation) 330.2283 (01/08/75),6 whereby it was determined that charges for horse rentals are not leases subject to sales tax as the horse remains under the control of the lessor. The Company maintained that these tours are similar since the tour guide controls the routes where the bicycles and kayaks go.
However, the opinion rejected that argument, noting that California defines a lease as “a contract under which a person secures for a consideration the temporary use of tangible personal property, which, although not on his or her premises, is operated by, or under the direction and control of, the person.”7
In this case, the customers personally and independently operated the bicycles and kayaks (i.e., the items did not function as tandem equipment where the customer was merely along for the ride). Further, the tour guides did not interfere with the operation of the equipment by the customer unless the customer veered off course beyond the safety area. Therefore, the Company was liable for sales tax on the equipment rentals.
The bottom line
While general sales and use tax principles are typically consistent among the states, each state’s specific rules contain nuances and complexities that, if not identified and addressed, can cause a business to incur tax liabilities and penalties for noncompliance.
Aprio’s SALT team has experience with state sales and use tax rules and how they may apply to your transactions. We can assist your business to determine your sales and use tax obligations, so that you do not incur any unexpected tax liabilities and penalties. We constantly monitor these and other important state tax topics, and we will include any significant developments in future issues of the Aprio SALT Newsletter.
This article was featured in the July 2023 SALT newsletter.
1 In the Matter of the Appeal of Adventures by the Sea, Inc., 2023-OTA-284P, April 18, 2023.
2 Adventures did not dispute that tax should have been collected on the individual leases of kayaks and bicycles (not included in a tour package).
3 Cal. Rev. & Tax Code §§ 6006(g)(5) and 6010(e)(5); Cal. Code Regs., tit. 18, § 1660(b)(1)(E).
4 Cal. Code Regs., tit. 18, § 1660(c)(2); Action Trailer Sales, Inc. v. State Bd. of Equalization (1975) 54 Cal. App.3d 125,131-132.
5 During the audit, it was agreed that the portion of the charge related to the tour guide would be nontaxable. However, the amount attributable to the rental charge of the bicycles and kayaks included in the tour package was still in dispute.
6 This Annotation was deleted by CDTFA pursuant to Current Legal Digest (CLD) 1088 (2021). Each CLD is a 30-day notice of proposed changes to certain provisions in CDTFA’s Business Taxes Law Guides.
7 Cal. Code Regs., tit. 18, § 1660(a)(1). Thus, renting a car from Hertz is treated as a lease of tangible property, whereas hiring a limousine is a transportation service since the chauffeur controls the limo.
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About the Author
Tina is a senior manager with Aprio’s State & Local Tax group. She has over 24 years of experience assisting companies and their owners to minimize their tax liability and maximize their profitability. Some of the industries Tina serves include professional services, manufacturing, warehousing and distribution, telecommunications, real estate, retailers and wholesalers. Tina has extensive experience dealing with corporate tax issues, including state and local tax returns; state and federal tax credits; state and local sales; and use, income, escheat, business licenses and property tax issues.