Illinois amends taxation of leases and prohibits interchange fees on tax

In detail

Taxation of leased property

For leases in effect, entered into, or renewed on or after January 1, 2025, the lessor collects only the tax applicable to the part of the selling price actually received during a tax return period (excluded from this tax treatment are leases of motor vehicles, watercraft, aircraft, and semitrailers that are required to be registered).

HB 4951 provides that exemptions on the use of TPP also apply to leases. 

The bill states that each periodic lease payment in which the property is delivered to the lessee by the lessor is sourced to the primary property location for each period covered by the payment, as indicated by a property address provided by the lessee. For a lease not requiring recurring periodic payments and a lease in which possession of the property is taken at the lessor's place of business, the payment is sourced as otherwise provided for sales at retail.

Observation: The sourcing rules for leases result in destination-sourcing for local tax purposes when the lease requires recurring periodic payments. This will require Illinois lessors to report to various localities on their Illinois sales tax return.

HB 4951 further clarifies the taxation of lease transactions by providing that:

• the definitions of “sale” and “retailer” include leases; “purchase at retail” includes the possession or control of, the right to possess or control, or a license to use, tangible personal property
• the rate of tax imposed on sales also applies to leases
• tax imposed on the privilege of using TPP in Illinois includes leases
• leases subject to tax on lease receipts do not qualify as demonstration use or interim use of that property
• when tax is imposed on lease receipts, no depreciation expense is allowed
• tax does not apply to the use by lessees of TPP utilized by interstate carriers for hire as rolling stock moving in interstate commerce when certain requirements are met
• persons engaged in the business of selling, including leases of TPP, must register to collect and remit tax
• a sale of TPP to a lessor for the purpose of leasing is exempt as a sale for resale
• filing requirements apply to persons leasing TPP; tax remitted only includes part of the selling price received
• tax imposed by local governments applies to leases of TPP
• leases are exempt to the extent that the property is subject to a tax on lease receipts imposed by a local government authority (i.e., Chicago Lease Transaction Tax).

Observation: The legislation eliminates the pyramiding of tax previously applicable to leases of tangible personal property in the City of Chicago. Prior to January 1, 2025, lessors owe Illinois’ use tax on the cost price of property purchased for lease and collect Chicago Personal Property Lease Transaction Tax from lessees on the lease receipts. As of January 1, 2025, lessors will be eligible to acquire tangible personal property tax-free, with the Chicago Personal Property Lease Transaction Tax remaining on the lease receipts.

Prohibition of interchange fees on taxes and gratuities

The bill also provides that effective July 1, 2025, an issuer, a payment card network, an acquirer bank, or a processor (payment processor) may not receive or charge a merchant any interchange fee on the tax amount or gratuity of an electronic payment transaction if the merchant informs the acquirer bank or its designee of the amount as part of the authorization or settlement process. "Interchange fee" means a fee established, charged, or received by a payment card network for the purpose of compensating the issuer for its involvement in an electronic payment transaction.

Observation: While a handful of states have introduced legislation, Illinois is the first state to enact a prohibition of interchange fees on tax.

A merchant that does not transmit the tax or gratuity amount data may submit tax documentation for the electronic payment transaction to the acquirer bank or its designee no later than 180 days after the date of the electronic payment transaction. Within 30 days after the merchant submits the necessary tax documentation, the issuer must credit to the merchant the amount of interchange fees charged.

A payment processor or other designated entity (issuer) that has received the tax or gratuity amount data and charges an interchange fee is subject to a penalty of $1,000 per electronic payment transaction. The issuer must refund the merchant the interchange fee related to the electronic payment transaction.

Action item: Payment processors should consider whether software system upgrades are needed that no longer charge an interchange fee on tax or gratuities when requirements are met to avoid penalties.