Tax Type
Retail Sales and Use Tax
Description
Paper manufacturing business
Topic
Appropriateness of Audit Methodology
Date Issued
10-08-2002
October 8, 2002
Re: § 58.1-1821 Application: Retail Sales and Use Tax
Dear *****:
This is in reply to your letter in which you seek correction of a retail sales and use tax assessment issued to ***** (the "Taxpayer") for the period March 1996 through February 1999. I apologize for the delay in the department's response.
FACTS
The Taxpayer is in the paper manufacturing business. As a result of the department's sales and use tax audit, the Taxpayer contests the tax assessed on the purchase of printing. In this transaction, the Taxpayer provides its printer with bleached board paper to run through the printing presses. After the printing is complete, the bleached board paper is shipped back to the Taxpayer to see if the product meets the Taxpayer's specifications. If necessary, adjustments will be made to the print quality prior to production of the product. The Taxpayer claims that the purchase of printing on trial board paper qualifies for exemption as research and development under Code of Virginia § 58.1-609.3(5) or qualifies as quality control under the manufacturing exemption. Further, even if the department finds that the contested items do not qualify under the exemptions cited above, the Taxpayer maintains that the contested purchases constitute printing services rendered in another state and are not subject to the tax.
DETERMINATION
Quality Control Testing
Code of Virginia § 58.1-609.3(2) provides a sales tax exemption for "machinery or tools ,...fuel, power, energy, or supplies, used directly in processing, manufacturing ,...products for sale or resale." Code of Virginia § 58.1-602 defines "manufacturing" and "processing" to include "equipment and supplies used for production line testing and quality control." (Emphasis added.)
Product testing and quality control functions do qualify for the manufacturing exemption, provided these functions are done on the production line. In this case, the board paper is shipped to the vendor's location where the printing is performed. Thus, the quality control function is not done on the production line as mandated in the statute. Therefore, the printed board paper used in such testing does not qualify for the manufacturing exemption.
Research and Development
Code of Virginia § 58.1-609.3(5) provides a sales and use tax exemption for "[t]angible personal property purchased for use or consumption directly and exclusively in basic research or research and development in the experimental or laboratory sense." (Emphasis added.) The department interprets this statute in Title 23 of the Virginia Administrative Code (VAC) 10-210-3070 through 3074. The regulation states that "research and development does not include the modification of a product merely to meet customer specifications unless the modification is carried out under experimental or laboratory conditions in order to improve the product generally or develop a new use for the product."
Based on the audit comments, the test printing done on the board paper is used to see if the paper prints to the Taxpayer's specifications. While changes to the printing or the paper may be made as a result of the test results, the regulation cited above clearly provides that testing and product modification do not qualify as exempt research and development. Further, the testing of the printing board paper is not conducted in an experimental or laboratory sense as provided in the regulation cited above. Therefore, the testing of the printed board paper does not qualify as research and development for purposes of the exemption.
Printing
Title 23 VAC 10-210-3010 addresses printers and defines "custom printing" to mean "the production or fabrication of printed matter in accordance with a customer's order of copy for the customer's use or consumption." (Emphasis added.) Subsection C of this same regulation further addresses custom printing and states that "the total invoice charge includes the charge made for any engraved, lithoplated, or other type photoprocessed plate, die, or mat involved in the printing and includes the charge made for printing and imprinting when the customer furnishes the printing stock. The printer must add the amount of the tax to the invoice charge."
Fabrication
Fabrication is defined in Title 23 VAC 10-210-560 as "an operation which changes the form or state of tangible personal property ... The tax applies to the total charge for the fabrication of tangible personal property on a special order for a consideration including labor, even if charges for labor are separately stated ...." The regulation further provides that "[t]he tax applies to the charges for the fabrication of tangible personal property for users or consumers who furnish, either directly or indirectly, the materials used in the fabrication work."
The printing in this case constitutes a change in the form or state of the bleached board paper and is deemed fabrication. Accordingly, the charges for the printed board paper are subject to the tax on the total fabricated charge. Further, because the vendor in this case did not have sufficient nexus in Virginia to require registration for the collection of the sales tax, it was the Taxpayer's responsibility to accrue and remit use tax on these charges. Therefore, I find that the auditor was correct in assessing the tax in this case.
Summary
I find the contested item is correctly assessed, and there is no basis for revising the audit. Therefore, the assessment as shown on the attached schedule is due and payable. The Taxpayer should return its payment in the amount of ***** to the attention of ***** in the department's Office of Policy and Administration, Appeals and Rulings, Post Office Box 1880, Richmond, Virginia 23218-1880, within 30 days from the date of this letter. If payment is not received within the allotted time, interest will accrue on the outstanding balance, calculated from the date of assessment.
The Code of Virginia sections, regulations and public document cited are available online in the Tax Policy Library section of the Department of Taxation's web site, located at www.tax.state.va.us. If you have any questions regarding this letter, please contact ***** in the Office of Policy and Administration, Appeals and Rulings, at *****.
Sincerely,
Kenneth W. Thorson
Tax Commissioner
AR/37802T
Rulings of the Tax Commissioner