Document Number
04-39
Tax Type
Machinery Tools Tax
Description
Manufacturing process not taxable /taxable as machinery and tools
Topic
Basis of Tax
Local Taxes Discussion
Date Issued
08-02-2004



August 2, 2004



Re: Appeal of Assessment: Final Local Determination
Taxpayer: *****
Locality Assessing Tax: *****
Machinery and Tools Tax

Dear *********:

This final state determination is issued upon the application for correction filed by you on behalf of ******** (the "Taxpayer") with the Department of Taxation. You appeal the ***** (the "County") assessment of certain properties for purposes of the Machinery and Tools (M&T) tax.

The M&T tax is imposed and administered by local officials. Virginia Code § 58.1-3983.1 (D) authorizes the Department to issue determinations on taxpayer appeals of M&T tax assessments. On appeal, a M&T tax assessment is deemed prima facie correct. In other words, the local assessment will stand unless the taxpayer proves that it is incorrect.

The following determination is based on the facts presented to the Department as summarized below. The Code of Virginia sections and public documents cited are available on-line in the Tax Policy Library section of the Department of Taxation's web site, located at www.tax.state.va.us.
FACTS

The Taxpayer's manufacturing facility in the County produces copper valves and fittings. In 2003, the Taxpayer filed an amended M&T tax return with the County for tax years 2001, 2002 and 2003, contending that some of the personal property assessed was not directly used in the manufacturing process, and, therefore, should have been classified as intangible and subject to the provisions of Va. Code § 58.1-1101(A). After a tour of the facility, the commissioner of the revenue agreed to classify some of the items in question as intangible and revised the original assessment.

The Taxpayer appeals the final local determination, stating that the County's determination is "inconsistent with the Virginia Supreme Court's past rulings of what is and what is not part of the manufacturing process and what is and is not taxable as machinery and tools." Specifically, the Taxpayer requests that all equipment used in the following "cost centers" be exempt from M&T tax: the cleaning and packaging center; the maintenance/services center; the waste treatment center, and two scrubbers in its buildings and grounds department. The Taxpayer also contests the assessment of tax on forklifts and cranes, scales, tables and other assets used in the manufacturing area of the plant, and all "permanently idle" equipment.
                      • ANALYSIS

Taxation of Machinery and Tools

All tangible personal property, unless declared intangible under the provisions of Va. Code § 58.1-1100 et seq., is reserved for local taxation by Article X, § 4 of the Constitution of Virginia. Included in the category of tangible property that is declared intangible and subject to state taxation only is "[c]apital which is personal property, tangible in fact, used in manufacturing (including, but not limited to, furniture, fixtures, office equipment and computer equipment used in corporate headquarters)." See Va. Code § 58.1-1101(A)(2).

The machinery and tools, motor vehicles and delivery equipment of a manufacturing business are not defined as intangible personal property. Such property is to be taxed locally as tangible personal property. Virginia has elected to create a separate classification of tangible personal property for machinery and tools used in manufacturing. Virginia Code § 58.1-3507(A) provides:
    • Machinery and tools . . . used in a manufacturing . . . business shall be listed and are hereby segregated as a class of tangible personal property separate from all other classes of property and shall be subject to local taxation only. The rate of tax imposed by a county, city or town on such machinery and tools shall not exceed the rate imposed upon the general class of tangible personal property.

"Used" in Manufacturing

In City of Winchester v. American Woodmark Corp., 250 Va. 451 (1995), the Virginia Supreme Court stated, "Since 1950, the Tax Commissioner has opined that the phrase 'machinery and tools' contained in Va. Code § 58.1-1101(A)(2) and its precursors means machinery used in the actual process of manufacturing." The Court also cited previous opinions of the Attorney General in deriving the meaning of "used in manufacturing":
    • The Attorney General has consistently opined that 'machinery and tools' used in a particular manufacturing business are the machinery and tools which are necessary in the particular manufacturing business and which are used in connection with the operation of machinery which is actually and directly used in the manufacturing process. Id., citing 1985-1986 Att’y Gen. Ann. Rep. 316 at 317; see also 1987-1988 Att'y. Gen. Ann. Rep. 590. Id.

In presenting its appeal, the Taxpayer relies on both the American Woodmark case and a more recent opinion of the Supreme Court: The Daily Press, Inc. v. City of Newport News, 265 Va. 304, 576 S.E. 2nd 430 (2003). In Daily Press, the Court amplified the principles set forth in Woodmark.
    • The principle gleaned from American Woodmark can be simply stated: personal property that may be essential to the overall operations of a manufacturing business is not 'machinery and tools' subject to local taxation unless the property is actually and directly used in the manufacturing process where new materials are transformed into a substantially different product or the property is connected with the operation of machinery actually and directly used in the manufacturing process. 265 Va. 304, 311. [Emphasis added.]

This language does not, as the Taxpayer contends, imply that each piece of machinery or tool used directly in the manufacturing process must be directly connected to the complete transformation of a material into something substantially different in character.

Property at Issue

The Taxpayer appeals the classification of assets used in the following cost centers:

Cleaning and packaging center. This department is the final stage of the manufacturing process. Individual copper parts are processed in a cleaning machine where they are bathed and buffed to remove all burrs and residue from the individual pieces. The packaging machinery then places the final product into plastic sleeves and packs them into cardboard boxes that are sealed for shipping. The boxes are then moved to the shipping area.

The final product is not ready to be sold until the final step of the manufacturing process, the removal of the burrs and residue, takes place. Machinery and tools used in this part of the process are subject to the M&T tax. I agree with the Taxpayer that machinery used for packaging the product is not directly used in the manufacturing process. Packaging has nothing to do with the transformation of the original material into a new product that is substantially different in character. Although the two kinds of machinery are both located in the same area of the plant, only the machinery and tools used in the burring and cleaning process are subject to the M&T tax.

Maintenance/plant services. This department contains equipment that is used to service both manufacturing and nonmanufacturing equipment throughout the plant. I agree with the Taxpayer that equipment used to clean both the manufacturing and non manufacturing areas of the plant should not be subject to the M&T tax. Machinery and tools used to service the equipment directly used in the manufacturing process would be subject to the M&T tax, however. This is a determination to be made by the local commissioner of the revenue.

Waste treatment facility. The assets listed as waste treatment and oil recycling equipment are certainly used in connection with the operation of machinery that is directly used in the manufacturing process. There are two components to the water treatment system. The first treats the water used in cooling towers and then recycles it back through the equipment in the plant for use in cooling the machinery in the plant and the products at the various stages of their manufacture. The water is "cleaned," and the oil residue that has been collected during the first cycling of the water is removed from the water and recycled back through the machinery. Both functions are essential to the production of copper products. Eventually, the waste water is treated again for release into the County's sewer system.

Stating that 50 percent of the functional use of the waste treatment equipment is dedicated to the treatment and disposal of wastewater, the Taxpayer believes it should be granted a 50 percent exemption for this equipment. I disagree. This machinery is directly used in the manufacturing process and as such is subject to the M&T tax. There is no provision in the County's ordinance for a partial exemption for machinery and tools that are used directly in the manufacturing process and used in another capacity.

Laboratory equipment in the waste treatment facility. The Taxpayer also argues that the laboratory equipment used in formulating the water and oil mixtures used in the manufacturing process is exempt. Again, I disagree. This equipment is used directly in the manufacturing process. The chemical transformations necessary to produce the copper rods that are eventually shaped into the final products would not occur without the use of this equipment in the water treatment system.

Building and grounds. This department contains two large "scrubbers" used to scrub the floors and other assets used for plant maintenance. While it is desirable and probably necessary to keep the plant clean, I cannot agree that the scrubbers are directly used in the manufacturing process. I agree with the Taxpayer that these machines should be exempt from the M&T tax.

Cranes and forklifts. These items are used to move raw materials from one station to another during the manufacturing process. I agree with the local commissioner of the revenue that the forklifts, genie booms, etc., are used directly in the manufacturing process in that they move semifinished products from one stage of the manufacturing process to another. Forklifts used in the shipping area would not be considered directly used in the manufacturing process, however, because shipping is not a part of the process. These forklifts would not be subject to the M&T tax.

Scales used in weighing the product during the process, and other assets used to hold, weigh, measure or prepare the pieces for the next stage of the manufacturing process. These assets are directly used in the manufacturing process and are subject to the M&T tax. Without the use of these assets, the process of the transformation of the copper rods into the dozens of different products that eventually make their way to market would be halted and the final products would not emerge.

"Skunkworks," or idle assets. These assets were never used in a manufacturing capacity because they were part of an abandoned project. Should the Taxpayer decide to resurrect the project, these assets would be placed in service. The skunkworks are capitalized for federal income tax purposes. The County has reduced the assessment of these assets by 50 percent of value, stating that there is no provision in the statute for permanent assets that are no longer in service.

The Attorney General has opined that equipment "used in a manufacturing business" cannot be excluded from taxation simply because it is not being used on tax day or even because a company was for sale and had ceased to operate as a manufacturer. 1972-1973 Report of the Attorney General, 404 (12/6/72). Additionally, the Tax Commissioner has noted that in making a determination, "consideration must be given to the length of time the equipment has been idle, the reason it has been idle, and the length of time it is expected to remain idle." As a general rule, when machinery has been idle for more that a year and it is not the taxpayer's intent to put it into use within the following year, it may be classified as machinery not used in manufacturing. See Public Document 82-120 (8/27/82). It is my opinion that the taxation of idle assets is a factual determination to be made on a case-by-case basis by the local commissioner of the revenue.

DETERMINATION

The broad principles enunciated by both the Virginia Supreme Court in American Woodmark and The Daily Press and in opinions issued by the Attorney General provide sufficient guidance to the local commissioner of the revenue to use in classifying individual objects as tangible or intangible. Addressing the broader questions posed by the Taxpayer, it is my determination that with the exception of its treatment of the scrubbers, the materials used for cleaning the plant, and the machinery used in the packaging process, the County has adhered to these principles in its assessment of the Taxpayer's machinery and tools. I am returning this matter to the County with the instruction to remove from its list of the Taxpayer's assets subject to the M&T the scrubbers, other routine maintenance equipment, and the machinery and tools used in conjunction with packaging.

If you have any questions regarding this determination, you may contact ************ in the Department's Office of Policy and Administration, Appeals and Rulings, at ************.
                • Sincerely,

                • Kenneth W. Thorson
                  Tax Commissioner


AR/50116


Rulings of the Tax Commissioner

Last Updated 08/25/2014 16:46