Document Number
02-140
Tax Type
Retail Sales and Use Tax
Description
Manufacturing, semiconductor chips
Topic
Accounting Periods and Methods
Exemptions
Date Issued
11-05-2002
November 5, 2002



Re: § 58.1-1821 Application: Retail Sales and Use Tax


Dear *****:

This is in response to your letter in which you seek correction of retail sales and use tax assessments for the period May 1996 through April 2000 issued to ***** and its predecessor, ***** (together, the "Taxpayer"). I apologize for the delay in the department's response.
FACTS

The Taxpayer operates a manufacturing facility in Virginia for the production of semiconductor chips. The facility includes a fabrication building (the "fab"). Confined within the fab is the clean room, a very specialized facility specifically designed to create a sterile and controlled production environment necessary for the manufacture of semiconductor chips. Other buildings include a Central Utilities Building, Industrial Waste Treatment Building, and the Administration Building.

There are primarily two issues that the Taxpayer contests in this case: (1) the assessment of 14 purchases that the Taxpayer maintains are erroneously assessed outside the three-year statute of limitations; and (2) the assessment of various equipment and other tangible personal property that the Taxpayer contends is exempt under the industrial manufacturing exemption. In addition, the Taxpayer seeks guidance on the application of the sales and use tax on purchases (including pending purchases) that were not assessed, but which the audit staff indicated might be taxable.

Each of these issues will be addressed separately below.

                • DETERMINATION

STATUTE OF LIMITATIONS ISSUE

Facts: Based on the date of the assessments (January 17, 2002), a three-year statute of limitations in this case began with the period December 1998. However, the audit staff assessed purchases for two periods prior to this date: For the 14-month period June 1996 through July 1997 (but not including March 1997 for which a return was filed), and for the period October 1997. The rationale for extending the assessment to these pre-December 1998 purchases is that the Taxpayer did not file returns for the months in which these assessed purchases were made. The Taxpayer did file timely returns for March 1997, September 1997, and November 1997 and subsequent periods. Accordingly, the periods of March 1997, September 1997 and November 1997 were not included in the audit.

The Taxpayer notes a sequence of events regarding this issue. First, construction of the facility began about May 1995. Even before construction began, the Taxpayer kept in close touch with the department to determine "up front" how the tax would apply to purchases by the prime contractor and subcontractors.

In 1997, the facility was able to accommodate administrative (but not manufacturing) functions. You indicate that the Taxpayer filed its initial sales and use tax return for the period August 1997. The department's records, however, show that a return was filed for March 1997. The August 1997 return was the next return that was filed, and this return included the tax on untaxed items that were purchased as early as March 1996. The documentation you provided shows that the Taxpayer intended this August 1997 return to catch up on earlier purchases for which vendors did not collect the tax.

You indicate that during the construction phase, the Taxpayer relied on the department's advice to determine which of its purchases were taxable. Using this information, the Taxpayer (and its contractors) either purchased the items exempt of the tax or paid the tax to its vendors. Untaxed items that the Taxpayer believed were taxable were accrued, and the tax on those items was subsequently paid to the department on the August 1997 return. Further, the Taxpayer's tax accounting software was not operational until the facility could accommodate administrative functions. You maintain that it was only in August 1997 that the Taxpayer was able to begin using that software to accrue the tax on its earlier untaxed purchases.

Based on the circumstances and the series of events, the Taxpayer contends that returns for the 14-month period June 1996 through July 1997 were, in fact, filed because these periods were covered by the August 1997 return. Similarly, the Taxpayer maintains that October 1997 purchases were covered by the November 1997 return. Accordingly, the Taxpayer maintains that these periods are out of statute.

Determination: With respect to a six-year audit, Code of Virginia § 58.1-634 provides that:

The taxes imposed by this chapter shall be assessed within three years from the date on which such taxes became due and payable. In the case of a false or fraudulent return with intent to evade payment of the taxes imposed by this chapter, or a failure to file a return, the taxes may be assessed, or a proceeding in court for the collection of such taxes may be begun without assessment, at any time within six years from such date. The Tax Commissioner shall not examine any person's records beyond the three-year period of limitations unless he has reasonable evidence of fraud, or reasonable cause to believe that such person was required by law to file a return and failed to do so. (Emphasis added)

The requirements for filing returns are set out in Code of Virginia § 58.1-615. This statute provides that:

Every dealer required to collect or pay the sales or use tax shall, on or before the twentieth day of the month following the month in which the tax shall become effective, transmit to the Tax Commissioner a return showing the gross sales, gross proceeds, or cost price, as the case may be, arising from all transactions taxable under this chapter during the preceding month ....

The contested periods in this case are those months for which the Taxpayer was required to file returns. Having failed to file the returns “on or before the twentieth day of the month following the month in which the tax shall become effective,” the taxes may be imposed within six years. In this regard, I find that the assessment of the contested periods is properly assessed.

Further, I am not convinced that Public Document 88-195 (7/6/88) on which you rely is analogous. In that case, the taxpayer filed use tax returns in January of each year and those returns reflected tax for each month of the preceding calendar year. The department found that the filings constituted a regular pattern of filing on a consistent schedule and limited the assessment period to three years. In the instant case, the Taxpayer has not exhibited a regular pattern of filing for the contested periods. An initial return was filed for March 1997, but this return does not appear to have included any taxable purchases from prior periods. No returns were filed for the following four months. Returns were then timely filed for August and September 1997, but no return was filed for October. Given this erratic filing schedule, I cannot agree that the Taxpayer showed the same regular pattern and consistent filing that was exhibited by the Taxpayer addressed in Public Document 88-195.

Further, you maintain that compliance was not possible prior to the implementation of the Taxpayer's reporting software platform that you indicate occurred upon opening the manufacturing facility in September 1997. In this regard, however, the Taxpayer was certainly identifying its taxable purchases as early as October 1996 (as shown in your Appendix D). It appears to me that having the tax information available would have allowed the Taxpayer to timely file the required returns.

INDUSTRIAL MANUFACTURING ISSUES

Code of Virginia § 58.1-609.3(2) provides an exemption from the sales and use tax for machinery, tools, fuel, power, energy or supplies used directly in manufacturing products for sale or resale. The term “used directly” is defined in Code of Virginia § 58.1-602 as “those activities which are an integral part of the production of a product, including all steps of an integrated manufacturing ... process, but not including ancillary activities such as general maintenance or administration.” This section also provides that the exemption applies to equipment and supplies used directly in production line quality control within the scope of the manufacturing exemption.

Title 23 of the Virginia Administrative Code (VAC) 10-210-920(B)(2) provides that the exemption applies to “machinery, tools and repair parts thereof, fuel, power, energy, or supplies which are indispensable to the actual production of products for sale and which are used as an immediate part of such production process.” Items that are essential to the operation of a business but not an immediate part of actual production are not used directly in manufacturing.

In Public Document 95-129 (5/19/95), the Tax Commissioner addressed a number of issues specifically related to the Taxpayer's semiconductor manufacturing process. A number of the systems addressed in that ruling were found to qualify for the exemption because they guarantee the integrity of the Taxpayer's product and thus provide a quality control process. For example, the Tax Commissioner addressed the application of the tax to framework for air filters used in the Taxpayer's clean room. Although framework is normally considered taxable because it is not used directly in manufacturing, the frames in this case control airflow and are made of special materials that do not generate, attract, retain or release contaminants that would ruin the product. The Tax Commissioner determined that the framework is an integral part of the environmental control system and performs a quality control function. As such, the Tax Commissioner determined that the framework qualified for the exemption. Similarly, clean room antistatic walls or partitions were determined to qualify for the exemption by creating a sterile environment critical to the integrity of the Taxpayer's product.

Keeping in mind the statutes, regulations and prior determination affecting the Taxpayer's operations, I will address the specific contested items as follows:

Pedestals for tools (fixed asset)

Facts: You indicate that the pedestals at issue are constructed of concrete and/or structural steel and support the heavy tools that are used to produce semiconductor chips. You also note that the floor “of the clean room” is such that it cannot support the weight of the pedestals and tools, so the pedestals are bolted to the concrete supporting floor.

You maintain that the pedestals, through the use of solid materials and their connection to the concrete floor, eliminate excess vibration created through the operation of the tools. Accordingly, you contend that the pedestals serve an exempt quality control function. In effect, you suggest the pedestals are exempt on the same basis as the mobile vibration columns addressed in Public Document 95-129. You also note that similar pedestals that were acquired and installed by contractors during the construction phase were approved by the department for exempt purchase via exemption certificate, Form ST-11A.

In addition, you maintain that the pedestals become an integral part of the exempt tools because they function as the legs of the tools as contemplated in 23 VAC 10-210-920.

Determination: The auditors noted that pedestals are used throughout the Taxpayer's facility. At issue in the assessment are the pedestals located outside the clean room. Based on the Taxpayer's accounting records, these assessed pedestals were booked to the fab section (and not the clean room) of the facility. I further understand there was no indication that these pedestals were made from or coated with special materials used to prevent the accumulation, generation, retention or release of particles that could render the product useless. Although the assessed pedestals are indispensable to production, they are not used directly in manufacturing.

I also note that all of the assessed pedestals were provided to the Taxpayer by the same vendor. During the construction phase of the facility, this vendor was denied an exemption certificate, Form ST-11 A, with respect to at least some of its purchases. It may be that this vendor did provide the Taxpayer some exempt pedestals during the construction phase that were approved by the department as directly used in manufacturing. Even so, such approval would not automatically extend to all the pedestals used by the Taxpayer. Again, those pedestals used in the clean room were not assessed in the current audit. The pedestals at issue are not so used.

Title 23 VAC 10-210-920 provides that “[s]teel or similar supports which are a component part of exempt production machinery and which do not become permanently affixed to realty are not subject to the tax.” (Emphasis added) In Public Document 91--183 (8/26/91), the Tax Commissioner discussed at what point steel supports became a “component part” of exempt machinery. The Tax Commissioner determined that “in those instances where freestanding steel legs or other supporting structures are attached to exempt machinery and used solely to support exempt machinery, and the machinery cannot be operated without such supports, the steel becomes a component part of the machinery and the exemption applies.”

In the instant case, there is no evidence that exempt production machinery is attached to the pedestals. Without such evidence, I cannot find that the pedestals constitute exempt component parts. However, I will certainly review this issue if additional information can be made available.

Purge cabinet

Facts: The purge cabinet is used to purge the gas contained in gas lines prior to changing over from one type of gas to another. These gasses themselves play an immediate role in production because they are used to produce the semiconductor chips and in some cases become a component part of the finished product. Purging the gas lines prevents different gasses from mixing together (a situation that would adversely affect product integrity).

Determination: You note that in Public Document 95-129, the Tax Commissioner determined that the Taxpayer's process piping systems and tanks qualified for the manufacturing exemption. That ruling specifically addressed a piping and storage system for chemicals and gasses that directly acted on or became a component part of the semiconductor chips. It was also determined that the tanks used to store such exempt chemicals and gasses are exempt as raw material storage tanks.

The contested purge cabinet does not store any of these exempt chemicals and gasses. The gasses in the purge cabinet do not become a component part of the product but are rather used to clean gas lines of the exempt gasses. In this regard, the purge cabinet is one step removed from direct use.

Low power radio antenna system

Facts: This system enables communication between production personnel. At issue is the application of the tax to wiring that forms the antenna of the system and which is strung throughout the facility in cable trays hung from ceilings. You maintain that the antenna wiring is directly analogous to transactions where ontractors install network computer cable. In this regard, you rely on prior determinations in which the Tax Commissioner concluded that cable contractors are the taxable users or consumers of cabling that become realty upon installation.

Determination: Public Document 90-210 (11/28/90) is one of a number of determinations addressing the application of the tax to computer cabling. Generally, when installed through walls or ceilings, such cable becomes realty upon installation.

I agree that the radio antenna wiring in this case is analogous. However, as they were reviewing the documents associated with the radio antenna system, the auditors had some question of who actually purchased the wiring. The auditors noted, for example, that some of the wiring was purchased by the Taxpayer rather than the contractor. If this is the case, the Taxpayer made a taxable first use of the wiring before it was provided to the contractor for installation.

This issue may best be resolved by reviewing the contract between the Taxpayer and the contractor. If the contractor contracted to furnish and install the contested wiring, this item will be removed from the assessment.

Bristle pad conditioner

Facts: This item is used on machinery that polishes semiconductor wafers between various steps of the production process in that it cleans the surface of polishing pads between production runs. The polishing pads must be kept in optimal condition in order to increase the polish rate, keep the polish rate consistent, and to minimize particles that might damage semiconductor wafers. Accordingly, you maintain that the pad conditioner, which keeps the polishing pads in optimal condition, serves an exempt quality control function.

Determination: As noted above, the manufacturing exemption does not apply to incidental activities such as general maintenance. Further, 23 VAC 10-210-920 provides that the tax does apply to items “used in the repair, servicing, and maintenance of production machinery;...” Although the polishing pads are themselves used directly in manufacturing to maintain the integrity of the products, the pad conditioner is used to maintain production machinery. This item is properly assessed.

Nalgene 5-gallon Fluor Jerric

Facts: This item is a bucket used in the cleaning of production equipment and parts in the clean room. It is made of materials that do not particulate and that are not susceptible to electrostatic discharge, characteristics that are essential given the bucket's use in the clean room.

Determination: I appreciate that the unique characteristics of this item result in a higher cost than buckets used in more traditional manufacturing facilities. Nevertheless, the item is used in a taxable maintenance activity. Further, I can find nothing in the department's prior correspondence suggesting that this item is exempt. Public Document 95-129 encompasses many exempt items used in the clean room. Those items, such as raised access flooring, frame filters and antistatic walls, are an integral part of the environmental control system of the clean room or are used to create the necessary sterile environment. I cannot agree that the contested bucket in this case is similarly used directly in the manufacturing process.

***** transaction

Facts: You indicate that this transaction represents the provision of nontaxable services and not the taxable sale of tangible personal property. In this regard, you provided a sample agreement executed between this vendor and the Taxpayer, and you suggest that the intent of the agreement is for the provision for services. You also maintain that the contested charge may reflect the vendor's 5% material markup or may be a nontaxable charge for the rental of property with an operator.

Determination: I understand that the contested charge is comprised of a number of invoices issued by this vendor during the sample period. According to the audit staff, these invoices primarily include the delivery of tangible personal property to the Taxpayer and markups. I have seen no indication that these charges include any exempt labor charges (such as installation) or exempt rentals of property with operators. Further, I understand the audit staff removed from the assessment any tax that was
paid by ***** on their purchases of property that was subsequently provided to the
Taxpayer. Only the markup on that property was assessed.

Further, I have reviewed the sample agreement that you provided. I do not agree that its intent is for the provision of nontaxable services. The agreement clearly is specifically labeled as a “time and materials” agreement, and clearly anticipates the provision of tangible personal property to the Taxpayer. Therefore, based on the information before me, this charge is correctly assessed. However, I agree to review any additional documents associated with this charge that clearly show all or part of this contested charge is erroneously assessed.

You contend the following five assets were improperly assessed outside of the statute of limitations. As discussed above, I have determined that the periods in which these items were purchased are properly included in the assessment. I will, therefore, address these four items under the industrial manufacturing exemption.

Poly Flow cleaner - Quartz

Facts: This piece of equipment is used to clean the quartzware used in the production process. The quartzware itself (but not the Poly Flow cleaner) is used in two ways during the production process: (1) a quartz “boat” is used to convey raw semiconductor wafers into the diffusion furnace, and (2) a quartz tube (in which the quartz boat is inserted) is also located in the diffusion furnace.

The Poly Flow cleaner sprays acid on the quartz boat and quartz tube and then rinses the acid with deionized water. Without this cleaning process, the quartzware would contaminate the wafers and thus degrade the integrity of the finished product. Accordingly, you maintain that the contested quartz cleaning equipment is used in an exempt production line quality control function.

Determination: As noted above, 23 VAC 10-210-920 provides that the tax does apply to items “used in the repair, servicing, and maintenance of production machinery;...” Therefore, while the quartz boat and quartz tube are exempt production equipment, items used to maintain that equipment is taxable.

Storage units for quartzware

Facts: Upon being cleaned, the quartzware is stored within special storage units located in the clean room. You indicate that these storage units are specifically designed to keep the quartzware in the sanitary state necessary for use in the production of the semiconductor wafers. In this regard, the storage units are designed to minimize the introduction of contaminants, are regularly purged with nitrogen to remove contaminants that may have come to rest on the quartzware, and are made of materials that do not particulate and are not susceptible to electrostatic discharge. Given the use of these storage units, and their specialized structural characteristics, you contend that they serve an exempt quality control function.

Determination: Like the specialized Nalgene 5-gallon Fluor Jerric discussed above, these storage units are not used directly in the manufacturing process. The fact that these storage units are located in the clean room does not, by itself, constitute exempt use. In Public Document 95-129, the exemption extended to those items in the clean room that are an integral part of the production process or used to create a sterile environment in which the Taxpayer's specialized manufacturing could take place.

Although the stored quartz boats and quartz tubes are exempt items, they are not raw materials. Accordingly, the contested storage units are not used to store raw materials. In addition, 23 VAC 10-210-920 provides that the tax applies to tanks used to store exempt fuel and other tangible personal property except that tanks and other devices which constitute machinery are exempt;...” There is no indication that the contested storage units constitute machinery.

CUB/UPW lab equipment

Facts: These items are comprised of bench top lab equipment located at the Central Utility Building and used to test ultrapure water. You indicate that the water being tested is used exclusively to rinse the semiconductor chips during various phases of production.

In order to avoid contamination, the ultrapure water is continuously tested using online equipment. In turn, the ultrapure water laboratory verifies the online equipment data with results from the contested bench top equipment. Further, you correctly note that Public Document 95-129 determined that the exemption applied to systems used to “furnish” the ultrapure deionized water, including “tanks, specialized filtering systems, vacuum pumps, high pressure valves, pipes, and other specialized components.”

Determination: There appear to be some unanswered factual issues regarding how this contested testing equipment is used. For example, there is some indication that the equipment's primary use is to test the water after it rinses the semiconductor wafers. In this regard, the testing is required by the locality and the federal government to prevent the discharge of contaminated water. Further, there is some indication that at least some of the testing equipment is used to test all of the water coming into the plant, and not exclusively the water that will subsequently be used in the manufacturing process.

These concerns aside, I am not currently inclined to conclude that the ultrapure water testing equipment is used in an exempt activity. The ultrapure water itself clearly comes into contact with the product, and the equipment used to furnish the water is exempt pursuant to Public Document 95-129. However, the testing equipment at issue does not come into contact with the product, nor is it used to test the product for quality control purposes. Accordingly, and based on the information currently before me, I find that the ultrapure water testing equipment is used in a taxable activity.

Specialty gas system panels

Facts: You indicate that these panels provide gas to production tools. The gas is used in the calibration of the tools to ensure that the semiconductor products are produced to specification. The panels are also used to deliver helium that is used to identify gas leaks when new controllers are installed on production tools.

Determination: There appear to be some factual discrepancies regarding this equipment. This item is listed on the Taxpayer's records as a “gas leak monitoring equipment,” a description that you claim is a misnomer. Further, the auditors were told by a Taxpayer engineer that these items comprised a network of sensors used to detect toxic, flammable and corrosive gas leaks throughout the factory.

In Public Document 95-129, the exemption applied to the Taxpayer's system of alarms, warning devices and shutdown systems that protect the integrity of the product “by automatically taking corrective measures when the quality of the product is threatened by the improper level of the gases.” There is no indication that the contested items take automatic corrective action.

I will certainly review any additional information that the Taxpayer can provide regarding this issue. Lacking additional information, it appears that these items are not used directly in the manufacturing process.

Clean room furniture

Facts: The clean room furniture is constructed of specially designed materials that do not particulate and are not susceptible to electrostatic discharge. As such, you maintain that the furniture serves a quality control function.

Determination: As discussed above, the fact that an item is located in the clean room is not, by itself, indicative of exempt use. Regardless that the furniture is specially constructed, the furniture is not used directly in the manufacture of semiconductors. The contested furniture is, therefore, taxable.

GUIDANCE FOR THE FUTURE

Certain items were initially questioned by the audit staff but were not assessed because they were purchased during months when the Taxpayer filed sales and use tax returns. You contend that these items are used directly in the Taxpayer's manufacturing activity. In order to ensure proper sales and use tax compliance in the future, and to assist the Taxpayer in planning for its completion of a new production line, you ask that these items be reviewed.

I understand that these items were removed from the exceptions list relatively early in the audit process. Accordingly, the audit staff did not fully discuss them with the Taxpayer's staff to determine how they were precisely used. I agree that it is important to provide guidance to the Taxpayer for the future, but I would prefer to address these nonassessed items, as well as contemplated purchases, when all of the facts are known and can be addressed. I also endorse an onsite inspection of the Taxpayer's facility so the department may fully understand how these items will be used. At the same time, I think it is important to resolve the outstanding assessment as soon as possible.

SUMMARY

Based on the information before me, the assessment is correct as assessed.
However, I will certainly review additional information as indicated throughout this
determination provided such information is provided within 60 days from the date of this
letter. Any additional information should be sent to ***** in the department's Office of Policy and Administration, Appeals and Rulings. You may contact ***** at ***** if you have any questions regarding this determination.
            • Sincerely,


            • Kenneth W. Thorson
Tax Commissioner


39648i


Rulings of the Tax Commissioner

Last Updated 08/25/2014 16:46