Wisconsin Rules that Lease Payments Under an Aircraft Sale-Leaseback are Taxable

At a glance 

• The main takeaway: A taxpayer’s sale-leaseback transaction was treated as a taxable lease for sales tax purposes by the Wisconsin Tax Appeals Commission, despite the parties’ stated agreement in the contract to treat the transaction as a financing arrangement for tax purposes.
• Assess the impact: This case illustrates the importance of how transactions are documented, particularly in situations where there may be competing interests, and why careful considerations must be given to the state tax consequences.
• Take the next step: Aprio’s State and Local Tax (SALT) team can help you address sales tax issues related to sale-leaseback and other contractual transactions.

Schedule a free consultation today to learn more!

The full story

A recent decision by the Wisconsin Tax Appeals Commission (Commission) illustrates that the parties’ contractual provision agreeing to treat a transaction a certain way for tax purposes does not guarantee that treatment, especially when language in the contract supporting that treatment is inconsistent.[1]

A closer look at the case

An Iowa insurance company (the taxpayer), subject to regulation by the Iowa Insurance Division, entered into an “Aircraft Lease” with a finance company, pursuant to which the taxpayer agreed to sell its aircraft to the finance company and then lease it back.[2] This type of sale is commonly referred to as a “sale-leaseback” transaction and it can be used as a financing method. Essentially, the company receives cash for the asset and then pays back the finance company (i.e., rent) while still being able to use the asset.[3]

The Aircraft Lease stated that the “Lessor agrees to lease the Aircraft from Lessee, and Lessee agrees to lease the Aircraft from Lessor” and that the Lessor agreed to purchase the aircraft and lease it to the taxpayer once certain conditions were met. It also identified the payment by the taxpayer to the finance company as “Basic Rent” and “Supplemental Rent” during any term of the lease, measured as a percentage of the Lessor’s cost. The taxpayer had the option, at the end of any term, to purchase the aircraft for 30% of the lessor’s “Cost of the Aircraft.” The taxpayer put up collateral, which included the Aircraft Lease and the aircraft itself, to “secure the prompt and full payment and performance as and when due of any and all obligations and indebtedness of Lessee to Lessor.”

Finally, the Aircraft Lease stated that the parties agree that “for federal, state, and local sales and income tax purposes, the transaction contemplated hereby will be treated as a financing arrangement consisting of a loan from Lessor to Lessee secured by the Aircraft and other Collateral, and Lessee shall be treated, for federal, state and local income tax purposes, as the owner of the Aircraft.”

The ruling explained

Following an audit by the State of Wisconsin, the taxpayer was assessed sales tax based on the rents paid pursuant to the Aircraft Lease. The state’s position is that the lease of the aircraft from the finance company to the taxpayer was a taxable lease of tangible personal property.[4]

For Wisconsin sales tax purposes, a “lease or rental” means “any transfer of possession or control of tangible personal property . . . for a fixed or indeterminate term and for consideration.”[5] However, like some other states, Wisconsin recognizes that some transactions that may be structured like a lease or rental are really just financing transactions. For example, under Wisconsin law, a “lease or rental” does not include “a transfer of possession or control of tangible personal property . . . under any agreement that requires transferring title to the [property] . . . after making all required payments and after paying an option price that does not exceed the greater of $100 or 1% of the total amount of the required payments.”

The taxpayer argued that the state should view the substance of this transaction as a financing, pointing out that

1. It put up “Collateral,”
2. The rent was measured as a percentage of the value of the property, and
3. The Aircraft Lease itself states the parties’ agreement to treat this transaction as a financing for federal, state, and local sales and income tax purposes.

However, the Commissioned ruled against the taxpayer, noting that many provisions in the agreement that are inconsistent with a financing, such as labeling the agreement as an “Aircraft Lease,” the payment of “rent,” the ability to renew, and providing a purchase option. 

Importantly, the Commission addressed the provision in the Aircraft Lease regarding the parties’ intended tax treatment and stated “there is no precedent for two private entities to dictate the Wisconsin tax treatment of a transaction by declaring how their contract for the transaction shall be interpreted for tax purposes.

Ultimately, the Commission upheld the assessment against the taxpayer, concluding that the taxpayer can’t draft “an intentionally muddy contract, and then [claim] that the Department must disregard the portions of the contract which meet the statutory decision of ‘sale’ and ‘lease’.”

The bottom line

This case illustrates the importance of how transactions are documented, particularly in situations where there may be competing interests. For example, in this case, the taxpayer conceded that the goal of the Aircraft Lease was to convince the insurance regulators that it sold the aircraft and to convince the Department of Revenue that it refinanced, and did not sell, the same asset. Careful consideration must be given to the state tax consequences, which may not come out as intended.

Aprio’s SALT team has experience addressing sales tax issues related to sale-leaseback and other transactions. We can assist your business with structuring and documenting a transaction to provide the best opportunity to obtain the desired state tax outcome. In some cases, and if time permits, it may be prudent to seek a letter ruling from the state in advance, and our team can draft and pursue those requests on your behalf. 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.  

 

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[1] CMFG Life Insurance Company and CUMIS Insurance Society v. Wisconsin Dep’t of Rev., Wisconsin Tax Appeals Commission, Docket No. 20-S-078 (August 6, 2024).

[2] The taxpayer also did this with its software, under similar terms as the Aircraft Lease, so this article will focus on the aircraft transaction.

[3] There are various federal and state tax consequences of engaging in these types of transactions, so it is important to work with your Aprio tax advisors to understand and plan for them.

[4] The sale of the aircraft from the taxpayer to the finance company would not be taxable since it would be considered a sale for resale.

[5] Wis. Stat. § 77.51(7)(a).