Rev. Rul. 57-396

The Internal Revenue Service has been asked whether the tax-exempt status of the rental charges for an electric accounting machine that was delivered prior to October 1, 1941, will be affected by an increase or decrease in the rental charges, or by the replacement of the machine with another machine of the same type.

In the instant case, a manufacturer of business machines leased under a `continuing lease,' a number of such machines that were delivered to lessees prior to October 1, 1941, the effective date of section 3406(a)(6) of the Internal Revenue Code of 1939, which imposed a manufacturers excise tax on such machines. The machines are replaced periodically with new machines of the same type. Also, occasions have arisen where it has been necessary to adjust the rental charges for such machines.

Section 3406(a)(6) of the Code imposed a tax upon the sale of various business machines. Section 3440 provided that the lease of an article, including any renewal or extension of a lease or any subsequent lease of such article, by the manufacturer, producer, or importer shall be considered a taxable sale of such article. Section 3441(c)(3) provided that no tax shall be imposed with respect to any article not payments on the article covered on September 30, 1941, if with respect to such article the lease, and delivery thereunder, was made before October 1, 1941.

Therefore, if a lease, including a so-called `continuing lease,' was entered into, and the article delivered thereunder, prior to October 1, 1941, no tax would apply to the rental payment on the article covered by the lease. A `continuing lease' is one that does not have any expiration date and gives the lessee the privilege of terminating the lease at the end of any specified period by giving proper notice, but authorizes the lessor to terminate only for breach of its terms by the lessee. Where there has been no increase or decrease in the amount of the rental charge for an article which was leased under a `continuing lease' prior to October 1, 1941, and the article has not been replaced by another article which is not identical, the lease is considered to have been in effect prior to October 1, 1941, and no tax applies to the rental payments for such article.

However, it is held that where there is an increase or decrease in the amount of the rental charge for an article which was leased under a `continuing lease' prior to October 1, 1941, or if the article is replaced with another article which is not identical, there is a renewal or extension of the lease, or a subsequent lease of the article, and all subsequent payments received by the manufacturer will be subject to the manufacturers excise tax.

This conclusion is equally applicable under the similar provisions of section 4217 of the Internal Revenue Code of 1954.