-Vinod Kothari and Sikha Bansal (finserv@vinodkothari.com)
Just as you may subscribe to digital content, cellphone services, or software-as-a-service, you may subscribe to a car, or home durables. The business of availing equipment as a subscription is growing monotonic and steep, and currently, in the realm of passenger vehicles, it is already a rage. A report by BCG estimates that the subscription market for passenger vehicles may achieve a penetration of 15% of new car sales, and volumes of about USD 30 to 40 billion, by 2030[1].
This article seeks to touch upon the fundamental understanding of subscription and how it is different (or not different?) from a lease. There are several other similar contracts – which may be looking elusively similar – asset capacity sharing contracts, asset timeshare contracts, etc. Each of these might have shades of difference; however, our present write-up focuses on subscription services for assets, versus lease transactions.
What is “subscription”?
It is difficult to find a legal definition of the word “subscription” as the word is used in widely different contexts. “To subscribe” may mean to write your name or put your signature under a written document, (common example is ‘subscribing’ to a memorandum of a company). However, in the present context, the following dictionary meaning of ‘subscription’ would become relevant: “A written contract by which one engages to contribute a sum of money for a designated purpose, either gratuitously, as in the case of subscribing to a charity, or in consideration of an equivalent to be rendered, as a subscription to a periodical, a forthcoming book, a series of entertainments, or the like.”[2] Hence, a ‘subscriber’ is “a person who agrees to receive something on a regular basis, e.g. a newsletter, a newspaper, a delivery of goods, a subscriber to a mailing list.”
The context of this article is subscription to equipment – hence, the definition below from an Indiana law may be relevant: “‘subscription program’ means a subscription service that, for a recurring fee and for a limited period of time, allows a participating person exclusive use of a motor vehicle owned by an entity that controls or contracts with the subscription service. The term does not include leases, short term motor vehicle rentals, or services that allow short term sharing of a motor vehicle”. See, IND. CODE § 9-32-11-20(e) (2019)[3].
Under a vehicle subscription, a customer typically pays a “joining fee” plus a monthly subscription fee to have the right to use a vehicle from the company’s fleet of vehicles and to swap the vehicle for a different type of vehicle. Depending on the pricing tier, a customer may have unlimited swaps or may be limited to a certain number of swaps. A customer can initiate an exchange through the company’s mobile application, and the company will deliver the new vehicle and retrieve the vehicle currently in the customer’s possession. The company provides insurance coverage and access to roadside assistance and performs routine maintenance and repairs on the vehicles. See, House Bill, 537 (Northern California)[4] defining “vehicle subscription” for the purpose of applicability of alternative highway use tax.
Hence, one may define a subscription as follows:
A subscription contract is a contract where a subscriber avails a service, whether with or without a related asset, equipment or property, tangible or intangible, for a charge known as subscription fee, where the service provider agrees to provide, for a specified period, generally renewable at the option of the subscriber, a specific service. If an asset or equipment is put in the possession of the subscriber as a part of the service, the subscriber’s control over the same will be limited to the terms of the service, and generally, the service-provider shall have the ability to replace the same, whether for the purpose of a more effective service or otherwise.
Lease vs. subscription
The words lease, rent or hire mean the same thing – that is, transferring the right to use an asset. The act of ‘transferring’ right of use would mean that the lessee would have the exclusive right to use the asset and for that the asset as well as the control of the asset moves from the lessor to the lessee for the period of lease.
As one wonders, all of these would also happen in case of ‘subscription’ as discussed above; however, a fundamental difference is that, the customer’s intent in case of lease, is to have the ‘asset’ while in case of subscription, it is to have the ‘experience’ of the asset. Former is an ‘asset-oriented’ transaction, while the latter is a ‘service oriented’ transaction. Further, another important distinction lies in “commitment” to “an asset”. In a lease, the parties are committed to a particular asset identified at the beginning of the contract – replacements would only occur is the asset gets damaged or otherwise goes into an unusable state; however, inherent idea of ‘subscriptions’ is ‘choice’ and ‘flexibility’[5].
Hence, leases are different – differences are being tabulated below:
| Point of Comparison |
Lease |
Subscription |
| Subject matter of the contract |
Transfer of right to use of an asset |
Provision of a service |
| Description of parties |
Lessor, lessee or renter |
Service Provider, Subscriber |
| Consideration |
Lease rentals or hire charges |
Subscription fee |
| Typical period |
Normally long enough to serve as an alternative mode of acquisition of an asset |
Normally short and flexible, such it is an alternative to acquisition itself. It focuses on experience, rather than acquisition |
| Identification of the asset |
Specifically identified |
Generically identified – such as a car of a particular type or category or class. |
| Ownership of the asset |
Throughout the term, remains with the lessor. EoT options may include an option to buy |
A subscription contract moves completely from the domain of asset acquisition – asset acquisition becomes irrelevant for a subscriber, as the subscriber continues to avail the service on a continuing/recurring basis |
| Provision of asset-related services by the owner |
Usually limited; however wet leases are also there |
Usually, the bundle of service makes it a service contract. |
| Control over the asset |
Remains with the lessee during the lease term |
Remains with the owner/service provider. Subscriber’s control is limited to what is required for the enjoyment of the service |
| Vehicle registration |
Normally, in the name of the lessee, with endorsement in the name of the lessor |
Normally, in the name of the lessor, under a rental contract |
| Vehicle number plate |
As in case of a private use vehicle, black colour in white background |
Commercial use- hence, black colour on yellow background |
| GST applicability |
A lease, being a transfer of right to use goods, is taxable at the same rate as applicable to the sale of the goods |
A subscription service, not involving a transfer of right to use, being a service, is taxable at the residual rate, viz., 18% |
| Asset recognition by customer |
Yes, as under the accounting standards |
No |
Legal Implications
Legal classification of a transaction is important as the same would impact the legal rights and obligations of the parties.
Since a subscription is a bundle of services, it may also have elements of lease. A subscription is essentially a package; hence, the use of an asset is also embodied in a subscription. Hence, to the extent a subscription entails a right of using an asset, there is a bailment contract in a subscription too. Hence, bailment is a common feature of both leases and subscription contracts. Therefore, the rights and obligations of the bailor and bailee as per law of contracts may be applicable in case of subscription too.
Thus, from a broader perspective, both a lease and a subscription are forms of bailment contracts only as the possession passes to the customer. Hence, general contractual rules as are applicable to bailment contracts would apply in both the cases. Besides, from a legal perspective, the following may be noted –
- The supplier is the owner in both the cases, the customer only gets certain rights. In case of a lease, the customer is a conveyee of the right to use to the asset; however, in subscription, the customer only gets the right to use the service on payment of subscription fee. As such, supplier’s control on the asset in a subscription is higher than in a lease. Hence, vis-a-vis, the asset, the customer will have ‘better’ rights in a lease than in a ‘subscription’.
- With respect to risk and rewards, as a lease transfers a right to use, a part of the risks and rewards (if not substantial) associated with the asset is transferred to the lessee. However, in a subscription, the risks and rewards would remain with the supplier, except that the contract would provide for normal liabilities in case of accidents, negligence, rash driving, unlawful use of the vehicle, etc.
- Besides, there can be differences with respect to service and maintenance obligations. A subscription contract comes with bundled services; however, in lease, the obligations may pass to the lessee.
Note that due to the features as discussed above, in India, a subscription service may get covered under Rent a Cab Scheme, 1989. Thus, as under the Motor Vehicles Act and rules thereunder, the vehicle would be registered in the name of subscription provider and the number plate of the vehicle shall bear yellow alpha-numerals with black background registration mark. However, in case of leases, the vehicle would generally be registered in the name of the lessee, and shall bear black colour in white background.
Accounting perspective
For accounting purposes, does a subscription of an asset amount to a lease? If it does, the accounting standard on leases IFRS 16/ Ind AS 116 applies. The standard will require on-balance sheet treatment of the non-cancellable lease rentals in the books of the subscriber in most cases. Hence, the characterisation of the transaction as a “lease” for the purpose of the accounting standard becomes critical.
Ind AS 116 provides guidance on assessing whether a contract is a lease. A lease is defined in Para 9 as follows: “A contract is, or contains, a lease if the contract conveys the right to control the use of an identified asset for a period of time in exchange for consideration” Therefore, there has to be a conveyance of the right to use an asset, which implies an identified asset.
In order for the contract to be a contract of lease:
- there must be an identified asset;
- the customer must have the right to direct use of the asset – where the supplier has substantive substitution rights (a combination of practical ability + economic benefits), the customer’s right to use is curtailed – see
It is notable that accounting standards quite often deviate from the legal form of the contract – hence, even if the legal form of the contract is a subscription, the accounting standards may still treat the contract as a lease. For example, IndAS 116, para B14 provides for the supplier to have substantive rights of substitution, that further, such right to be economically beneficial to the supplier.
Hence, for the purposes of accounting standards:
- If the right of substitution or swapping the asset is with the subscriber, and not with the provider, such right is disregarded. That is to say, subject to other conditions, the transaction is still regarded as a lease.
- If the right is right with the provider, that right has to be (i) substantive and practically implementable; (ii) The exercise of the right should be beneficial to the provider; (iii) the right should be available throughout the term of the lease; (iv) the substitution right should not be pertaining to such contingencies as the vehicle being under repairs, etc. As regards the economic benefits of the substitution rights, the economic benefits should be demonstrable without reference to uncertain future events. Further, since the vehicle is in possession of the subscriber, the provider will incur costs to replace the same – therefore, it should be clear that the benefits will outweigh such costs.
- Assuming the conditions of substantive substitution rights as above are not satisfied, the contract may be regarded as one of lease, deviating from its legal nature. However, if the lease is within a term of 12 months, the provisions as to capitalisation of an RoU asset and OTP liability are not applicable to short term leases.
Hence, a typical subscription contract, which enables the subscription provider to provide service to the customer by using different vehicles (which belong to the preferred class/category chosen by the customer), it may be contended that the customer’s right to use is not perfected in such contracts. Further, given that the customer can ‘swap’ vehicles during the subscription period, it can be said that a subscription contract does not have an ‘identified asset’, per se.
Notably, accounting standards emphasise on substance over form. Hence, a pure subscription contract may not fall under Ind AS 116 (for reasons as above).
GST Implications
The GST law has different rates for motor vehicles. There are broadly 4 classes:
- Hiring services (normally meaning the vehicle is under control of the hire vendor, and the hire vendor is running the asset on hire):
- Transport of passengers by any motor vehicle designed to carry passengers where the cost of fuel is included in the consideration charged from the service recipient- GST rate is 5% (provided no ITC is availed by the supplier)
- Transport of passengers by any motor vehicle designed to carry passengers where the cost of fuel is included in the consideration charged from the service recipient- GST Rate is 12%
- Leasing or Rental services – indicating short term rentals: GST Rate is 18%
- Transfer of right to use, that is, a service equivalent to sale of the same goods: Same GST rate as in case of sale of the goods with transfer of ownership [Refer, Notification No. 11/2017- dated 28th June, 2017[6]]
The GST rate on the various subscription models prevalent in the market varies and depends on the nature of transaction between the dealer and the end user. In our view, the subscription-based model is close to a rental service, and therefore, the rate will be 18%. Alternatively, if it is taken as an independent service the rate of tax is still 18%. On the question whether such a subscription service may be regarded as a ‘composite supply’, the tax rate on the principal supply shall determine the tax rate on the conjugate services. However, since the principle supply is still a lease or rental and not a transfer of right to use akin to purchase of the asset, the rate would still stand as 18%.
Closing remarks
It is not that subscription contracts per se are a technological innovation, but the idea of an asset being converted into a subscription service is quite new, relative to the idea of leasing or hiring. Hence, the first predicament for one trying to state the law of subscription vs. lease is that there is no authoritative definition of a subscription, as compared to a lease.
The discussion is an attempt to identify key differentiators between lease and subscription. Essentially, a subscription contract is ‘service’ based while a lease is ‘asset’ based. However, classification of a particular contract would depend on the substance of the transaction rather than the form. A contract may be a subscription by name, but may have predominantly lease-type features. However, merely because a contract has some lease-type features would not lead to its classification as lease. Hence, one will have to assess what is the predominant flavour of the contract and of course, intent of the parties to the transaction to determine whether the contract is a lease or a subscription.
[1] https://www.bcg.com/en-in/publications/2021/how-car-subscriptions-impact-auto-sales
[2] https://dictionary.thelaw.com/subscription/
[3] https://law.justia.com/codes/indiana/2019/title-9/article-32/chapter-11/section-9-32-11-20/
[4] https://dashboard.ncleg.gov/api/Services/BillSummary/2019/H537-SMSV-44(e4)-v-2
[5] See an article titled “Insurers are Teaming up with Car Subscriptions”, published in CBInsights (2018). Per Porsche North America CEO Klaus Zellmer, younger people “do not want to engage with a commitment for three years. They want to change their phones; they want to change their TV channels. It’s all about subscriptions.”
[6] https://www.cbic.gov.in/resources//htdocs-cbec/gst/Notification11-CGST.pd
Our other articles on leasing:
https://vinodkothari.com/leasing/
https://vinodkothari.com/leashome/
https://vinodkothari.com/staff-publications-leasing/
