Document Number
09-35
Tax Type
Retail Sales and Use Tax
Description
Tax on under-taxed sales, purchases of various machinery and equipment, supplies
Topic
Exemptions
Sale for Resale
Tangible Personal Property
Date Issued
03-31-2009


March 31, 2009








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

Dear *****:

This is in response to correspondence requesting correction of the sales and use tax assessment issued to ***** (the "Taxpayer") as a result of an audit for the period April 2003 through December 2007. I apologize for the delay in the Department's response.

FACTS


The Taxpayer fabricates counter tops for sale with or without installation. An audit resulted in the assessment of sales tax on under-taxed sales and the assessment of use tax on purchases of various machinery, equipment, supplies and materials.

The Taxpayer contests all items assessed in the audit. The auditor determined that the Taxpayer was principally fabricating for its use or consumption in real property construction contracts. Based on such determination and the policy set out in Title 23 of the Virginia Administrative Code (VAC) 10-210-410 F, the Taxpayer was denied the industrial manufacturing exemption for machinery, tools and equipment used directly to fabricate its stone counter tops. The Taxpayer contends that such determination is incorrect because its primary business is the sale of tangible personal property and, thus, it should be entitled to the industrial manufacturing exemption. The Taxpayer also cites the locality's treatment of the Taxpayer as a manufacturer for personal property tax purposes.

The main issue is the treatment of the sale and installation of stone counter tops as the installation of real property fixtures. Because these counter tops are only secured in place with a silicone sealant that can be easily removed without damage to the cabinet, the Taxpayer contends that they are not permanently affixed to real property. Furthermore, back splashes installed by the Taxpayer are joined only to the counter top, except for a bead of caulk that is run across the top edge of the back splash against the wall. The counter tops can be easily removed by cutting the caulk with a razor blade, which does not structurally damage the wall or counter top. For these and other reasons, the Taxpayer maintains that it is installing tangible personal property that remains tangible personal property upon installation.

Because it maintains an inventory of stone materials, a showroom and installs counter tops, the Taxpayer contends that it is a retailer as defined in Title 23 VAC 10-210-­410 G, and the resale exemption should be applicable to all of its purchases of counter top materials. The Taxpayer asserts that the resale exemption is applicable to its purchases because suppliers failed to invoice sales tax when no resale exemption certificate was offered. The Taxpayer also asserts that the resale exemption is applicable to its sales because contractors claimed the resale exemption for counter tops that it sold and installed. For these reasons also, the Taxpayer maintains that its stone counter tops remain tangible personal property upon installation.

For counter top sales involving no installation, the Taxpayer contests the sales tax assessed on the associated fabrication labor charge. The Taxpayer also contests the application of the sales tax to various other charges, including shipping and handling charges, rentals of tangible personal property, related assembly and disassembly charges, and damage waiver charges. The Taxpayer requests specific proof for taxing these charges.

DETERMINATION


Classification of Counter Tops

To determine whether an item of tangible personal property loses its identity as tangible personal property upon installation and becomes real property, we must look at the test set out by the Virginia Supreme Court in Transcontinental Gas Pipe Line Corporation v. Prince William County, 210 Va. 555, 172 S.E.2d 761 (1969). In that case, the court ruled that the classification of property as real estate or as tangible personal property must be determined by the law of fixtures using three general tests to determine whether an item of personal property placed upon realty becomes itself realty. They are:
    • (1) annexation of the property to the realty,
      (2) adaptation to the use or purpose to which that part of the realty with which the property is connected is appropriated, and
      (3) the intention of the parties (the chief test).

According to Danville Holding Corp. v. Clement, 178 Va. 223, 232, 16 S.E.2d 345, 349 (1941), which is cited by Transcontinental Gas Pipe Line, annexation of the property may be actual or constructive. The court also held that the method of annexation to the realty only receives slight consideration. Further, if the annexed property is essential to the purpose for which the building is used or occupied, the court stated that "it will be considered a fixture, although its connection with the realty is such that it may be severed without injury to either."

The counter tops at issue are attached to the permanent cabinets by sealants and caulking and thus annexed to the realty. The counter tops are adapted to the use of the dwelling to which it is annexed and are essential to the purpose for which the dwelling was acquired and used. The counter tops are to remain in place for their normal life, subject to the necessity or desire for replacement, maintenance or repair. These counter tops would appear to enhance the usefulness and market value of the realty and thus pass with the sale of the home. For these reasons, it is reasonable to conclude that the intention of a typical homeowner is to permanently annex them to the realty.

Furthermore, my staff has performed an extensive research of opinions rendered by other state tax departments and various courts in other states. A majority of these opinions shows a common acceptance for treating counter tops (whether laminate, solid surface or stone) permanently installed in homes as integral parts or fixtures1 of the home. As a result, such counter tops are typically considered in assessing the value of a home for property tax purposes.2 While these opinions are not controlling in this case, they are persuasive and provide instructive support for the Department's determination.

With respect to sealants or caulk used to join surfaces, I would note the administrative law judge decision rendered in The Department of Revenue of the State of Illinois v. ABC Marble and Granite Co., UT 04-8, Illinois Decisions in Department of Revenue Hearings, 11/5/04. In that case, the court treated caulk applied to stone counter tops and cabinets as a permanent adhesive between those surfaces. See also Cameo Counter tops, Inc. v. Wilkens, 2004-V-393 (1/6/06), in which the Ohio Board of Tax Appeals held that solid surface counter tops installed with adhesives were incorporated into real property. Although caulk can be easily severed, I find these opinions to be relative in light of the severance-without-injury standard set out in Danville Holding. Thus, for Virginia retail sales and use tax purposes, counter tops that are adhered to permanently installed cabinets with caulking, silicone sealant or another type of adhesive, constitute real property installations.

The Taxpayer contends that Public Document (P.D.) 04-156 (9/30/04) provides support for treating the counter tops as tangible personal property upon installation. In that ruling, the Department determined that shutters were not like or comparable to any of the items set out in Va. Code § 58.1-610 D but were subject to the provisions of Va. Code § 58.1-610 A because they were permanently affixed to realty. The Taxpayer notes that the manner in which the shutters are affixed to realty is far different from a granite counter top.

I would note that the method of shutter installation (finishing nails and glue) and the difficulty of its removal (causing substantial damage to the realty) are the central facts in P.D. 04-156. To determine whether tangible personal property becomes a part of the realty requires consideration on a case-by-case basis. Thus, while P.D. 04-156 addresses one manner of real property installation, this does not infer that all installations must satisfy the same factual criteria.

Furthermore, the ruling made in P.D. 04-156 merely concludes that shutters are attached to the realty. In coming to that conclusion, the potential damage caused by the shutter's removal was not addressed because it was not a deciding factor as to whether the property became permanently attached to the real property.3 For instance, exterior and interior doors, water heaters, sinks, faucets, stovetops, built-in ovens, toilets, and heat pumps installed in permanent residential housing are examples of items that are considered permanently affixed to the realty but can be removed without any damage to the realty. If the standard for real property installations was such that removal from realty must cause damage to the realty in order to be treated as a fixture of the realty, none of those items would be treated as fixtures. Based on the foregoing, I find no basis for treating the counter tops at issue as tangible personal property upon installation based on the determination rendered in P.D. 04-156.

Classification of Business

The Taxpayer disputes the contractor classification of its stone counter top business and contends that the Department's policy to treat counter top installations as fixtures of real property rather than as sales of tangible personal property is impermissibly beyond the scope of Va. Code § 58.1-610. However, as previously discussed, the Department's policy conforms to the long-standing rules set out by the Virginia Supreme Court for determining whether tangible personal property remains tangible personal property upon installation or becomes a part of the real property.

The Taxpayer also contends that it should be classified as a retailer in accordance with the retailer definition set out in Title 23 VAC 10-210-410 G. The Taxpayer maintains that counter tops are like and comparable to: (a) floor coverings because counter tops are coverings on cabinets, (b) the cabinets upon which they sit, and (c) kitchen equipment.

The Taxpayer sells no cabinets and thus sells no counter tops that could possibly be considered as an integral part of a transaction for the sale and installation of cabinets. Nor are counter tops like or comparable to floor coverings because they are not a type of floor covering. Furthermore, because Va. Code § 58.1-610 D makes a specific distinction between a floor covering and the floor itself, it is reasonable to recognize a similar distinction between a cabinet and a counter top. The two are clearly not comparable. Thus, as explained in P.D. 07-108 (7/6/07), counter tops are not like or comparable to cabinets, kitchen equipment, or any of the other items specified in Title 23 VAC 10-210-410 G. Furthermore, these issues were also addressed in P.D. 08-98 (6/18/08), which sets out the following:
    • Cabinets generally are enclosures with doors, shelving and compartments and, therefore, are not akin to counter tops that are generally flat surfaces similar to table tops. Although a cabinet may aid in supporting a counter top, a counter top is clearly not an enclosure of any sort.
    • I would further note that the courts have applied the doctrine of ejusdem generis "when items with a specific meaning are listed together in a statute, and are followed by words of general import, the general words will not be construed to include matters within their broadest scope but only those matters of the same import as that of the specific items listed." See the opinion of Calcium Chloride Sales, Inc. v. Virginia Department of Taxation, Case No. LT-2270 (2006), Circuit Court of the City of Richmond citing Kappa Sigma Fraternity, Inc. v. Kappa Sigma Fraternity, et al., 266 Va. 455, 470 587 S.E.2d 701, 710 (2003). Based on this doctrine, subsection G of the above cited regulation [i.e., Title 23 VAC 10-210-410] does not apply to the Taxpayer's counter top business. [Insert added.]

Accordingly, with respect to counter tops that it furnishes and installs into the realty, the Taxpayer is a contractor and is subject to the provisions set out in Virginia Code § 58.1­610 A, which provides the following:
    • Any person who contracts orally, in writing, or by purchase order, to perform construction, reconstruction, installation, repair, or any other service with respect to real estate or fixtures thereon, and in connection therewith to furnish tangible personal property, shall be deemed to have purchased such tangible personal property for use or consumption. Any sale, distribution, or lease to or storage for such person shall be deemed a sale, distribution, or lease to or storage for the ultimate consumer and not for resale, and the dealer making the sale, distribution, or lease to or storage for such person shall be obligated to collect the tax to the extent required by this chapter. [Emphasis added.]

As a contractor of installed counter tops, the Taxpayer must also follow the rules set out in Title 23 VAC 10-210-410 E. This regulation and the above cited statute establish that the resale exemption is not applicable to purchases of tangible personal property for use or consumption by a contractor. Accordingly, the Taxpayer is liable for the tax on such purchases.

Manufacturing Exemption

The Taxpayer contends that the machinery and equipment used to fabricate stone counter tops qualifies for the industrial manufacturing exemption set out in Va. Code § 58.1­609.3 2. The Taxpayer notes that the county's tax assessors classified such items as manufacturing machinery and equipment for local personal property tax purposes.

Such manufacturing classification by a locality has no bearing upon this matter because there is no "industrial in nature" criteria for personal property tax purposes. As stated in P.D. 94-260 (8/2/94), the manufacturing exemption for purposes of the retail sales and use tax is available to manufacturing activities that are industrial in nature as specifically defined in Va. Code § 58.1-602. By comparison, the Virginia Code does not define "manufacturing" for local tax purposes. Therefore, local determinations usually depend on common law definitions, which are not synonymous with the statutory exemption for sales and use tax purposes. Furthermore, as noted in P.D. 04-45 (8/13/04), local taxes have their own characteristics, separate and distinct from the sales and use tax, and the Attorney General has previously emphasized that the definitions of words and phrases in Va. Code § 58.1-602 apply only to the retail sales and use tax of the Virginia Code.

To qualify for the manufacturing exemption set out in Va. Code § 58.1-609.3 2, a person must be an industrial manufacturer. In this regard, the definition of "manufacturing, processing, refining, or conversion" is set out in Va. Code § 58.1-602 and provides, in part, the following:
    • The determination whether any manufacturing ...activity is industrial in nature shall be made without regard to plant size, existence or size of finished product inventory, degree of mechanization, amount of capital investment, number of employees or other factors relating principally to the size of the business. Further, "industrial in nature" shall include, but not be limited to, those businesses classified in codes 10 through 14 and 20 through 39 published in the Standard Industrial Classification (SIC) Manual for 1972 and any supplements issued thereafter. [Insert added.]

The SIC has subsequently been replaced by the North American Industry Classification System (NAICS). The industrial classifications set out by the SIC and NAICS classify businesses according to their primary activity. This primary purpose rule is the basis of the fabricator's production exemption set out in Title 23 VAC 10-210-410 F. That regulation provides, in part, that "a fabricator whose principal or primary business is the fabrication of tangible personal property for sale or resale, and who, as a lesser or minor part of this business, fabricates for his own use and consumption, will not be deprived of the production exemptions set out in [Title] 23 VAC 10-210-920." [Emphasis and insert added.] Thus, unless the Taxpayer's primary business activity is in industrial manufacturing, it may not claim the industrial manufacturing exemption.

For the audit period at issue, I understand that the Taxpayer was determined to be primarily engaged as a contractor on the basis that more than 50% of its gross receipts were derived from transactions for the sale and installation of stone counter tops. On this basis, the Taxpayer's classification is most similar to those businesses classified as contractor businesses under either SIC code #1799 or NAICS #238340, #238350 or #238390, which are all non-manufacturing codes.

Fabrication Labor for Counter Tops Sold Without Installation

The Taxpayer charged sales tax on only one-half of the total amount charged for retail sales of counter tops. The Taxpayer estimated that 50% of the total charge represented a nontaxable fabrication labor charge. The Taxpayer requests specific proof of the Department's basis for taxing such charges.

Pursuant to Va. Code § 58.1-602, the definition of "sale" means "any transfer of title or possession, or both, exchange, barter, lease or rental, conditional or otherwise, in any manner or by any means whatsoever, of tangible personal property and any rendition of a taxable service for a consideration, and includes the fabrication of tangible personal property for consumers who furnish, either directly or indirectly, the materials used in fabrication." Fabrication is defined in Title 23 VAC 10-210-560 A as "[a]n operation which changes the form or state of tangible personal property."

While the above cited statute treats fabrication labor as a taxable service, fabrication provided in connection with the sale of tangible personal property is also considered an integral part of the "sales price" of such property. For instance, the term "sales price" is defined by Va. Code § 58.1-602 to mean "the total amount for which tangible personal property or services are sold, including any services that are part of the sale ...without any deduction therefrom on account of the cost of the property sold, the cost of materials used, labor or service costs, losses or any other expenses whatsoever." [Emphasis added.] Virginia Code § 58.1-603 imposes the sales tax upon the gross sales price of tangible personal property sold at retail.

Because the sales tax applies to the total charge for the sale of tangible personal property, all services sold in connection with such sale, such as fabrication labor, are taxable unless expressly exempted from the tax. Because fabrication labor is not expressly exempted from the sales tax, there is no basis in law or fact to exclude fabrication labor from the application of the tax. For these reasons, and absent a statutory exemption, fabrication labor charged in connection with the retail sale of tangible personal property is subject to the sales tax.

Tax Reconciliation

I understand the Taxpayer did not have the original records available to reconcile the sales tax returns. As such, the auditor used the Taxpayer's sales tax liability reports from the Taxpayer's accounting software to determine the amount of sales tax collected. These amounts were compared to the sales tax reported. Because the Taxpayer failed to account for all of its taxed sales, the deficiencies were included in the audit. Under these circumstances and pursuant to Va. Code § 58.1-618, the auditor used the best information available to estimate the liability in this area.

Credits resulted from the Taxpayer's adjustments to the customer's billings that reduced the tax, but the Taxpayer failed to take any credit for the tax already paid in a previous period. I understand the auditor applied such credit against the assessment.

Shipping and Handling Charges

The Taxpayer requests specific proof of the Department's basis for taxing shipping and handling charges. In this regard, Virginia Code § 58.1-609.5 3 provides an exemption for "[t]ransportation charges separately stated." The courts have ruled that exemptions from the retail sales and use tax are to be strictly construed against the person claiming the exemption. For example, see Commonwealth v. Community Motor Bus Co., 214 Va. 155, 198 S.E.2d 619 (1973). Based on this strict construction rule, the regulation on transportation charges as set out in Title 23 VAC 10-210-6000 B excludes "handling charges" from the definition of transportation charges. This regulation has long recognized that handling is not a part of the transportation or delivery of the product. Therefore, the Department has consistently taxed lump-sum charges for shipping and handling because combining an exempt charge (shipping) with a taxable charge (handling) does not satisfy the statutory requirement that shipping charges must be separately stated. See P.D. 89­-132 (4/27/89) and P.D. 99-289 (11/8/99).

Other Contested Charges

The Taxpayer requests specific proof for applying the sales tax to rentals of tangible personal property, including related assembly and disassembly charges, and damage waiver charges.

Pursuant to Va. Code § 58.1-603, the sales tax is imposed upon "the gross proceeds derived from the lease or rental of tangible personal property." The terms "gross proceeds" and "lease or rental" are defined in Va. Code § 58.1-602. The Department's regulation on leases and rentals is set out in Title 23 VAC 10-210-840. These authorities impose the Virginia retail sales and use tax on the lease or rental of tangible personal property.

As for the other charges, I would note that only those services that are specifically exempted from the tax may be excluded from the taxable sales price. For instance, Virginia Code § 58.1-609.5 2 provides a specific exemption from the tax for separately stated charges for "labor or services rendered in installing, applying, remodeling or repairing property sold." Although these specified labor and service charges are exempt from the tax (when separately stated), all other labor and service charges are taxable when made in connection with the sale of tangible personal property.

The tax application to the charges at issue is set out in several public documents. Installation is defined in P.D. 86-186 (9/18/86) as "labor rendered after the product is complete in order to install it for the customer." In P.D. 94-351 (11/22/94), a distinction is made between taxable assembly labor and exempt installation labor. Assembly labor is considered labor performed prior to installation. In P.D. 02-164 (12/18/02), disassembly charges are treated as taxable elements of the sale of tangible personal property. In P.D. 96-364 (12/9/96), damage waiver charges were held as taxable charges in connection with the lease of property. Absent a statutory exemption, assembly and disassembly charges and damage waiver charges included in the sale, rental or lease of tangible personal property are subject to the tax, even if separately stated on the invoice.

Fairness Issue

The Taxpayer claims that the assessments issued in this case are not fair to the Taxpayer because its industry is in its infancy and the Taxpayer is suffering from an economic downturn with growing account receivables. Furthermore, the Taxpayer contends that the Department should audit its vendors because they sold the raw materials to the Taxpayer but failed to collect the sales tax. The Taxpayer contends that those vendors should be responsible for paying the sales tax.

The courts have held that "[t]he legal incidence of the Virginia sales and use tax is on the purchaser. Although the seller is legally obligated to collect the tax from the purchaser, the statute makes the tax the legal debt of the purchaser." See United States v. Forst, 442 F.Supp. 920 (W.D. Va. 1977), aff'd, 569 F.2d 811 (4th Cir. 1978). I have empathy for the Taxpayer's circumstances, but I must recognize that the Taxpayer is ultimately liable for the tax assessed in this case, despite the vendor's failure to collect sales tax on taxable purchases of tangible personal property.

As for the Taxpayer's financial circumstances, the Department is authorized to consider an offer in compromise based on doubtful collectibility if the Taxpayer's financial circumstances warrant such a consideration. In such an event, the Taxpayer would be required to present current and complete financial statements to the Department's Collections Section for consideration of such an offer in compromise.

The Taxpayer also notes that it relied upon the resale exemption certificates provided by its customers to make exempt sales and installations of counter tops. As previously established, however, such transactions constitute the installation of tangible personal property that becomes a fixture of real property. Thus, the true object of these transactions is for real property construction, reconstruction, installation, or repair services. Because of this, Va. Code § 58.1-610 A requires the Taxpayer to be treated as the ultimate consumer of the counter tops that it installs in real property. As such, the Taxpayer is ultimately liable for the tax on such counter tops and may not accept resale exemption certificates from its customers.

Regarding the Taxpayer's claim that the Department is unfair in selecting the Taxpayer for audit and assessing it with deficient taxes, the Department is authorized to audit any taxpayer for compliance with the sales and use tax laws of Virginia, regardless of whether a taxpayer is the dealer collecting the sales tax, or is the consumer required to pay the sales tax charged by registered dealers or otherwise required to report and pay the use tax to the Department when no sales tax has been charged by the dealer. See Va. Code § 58.1-219.

Penalty

Although this was the Taxpayer's first sales and use tax audit, penalty was assessed on sales tax collected but not remitted with respect to retail sales of counter tops, i.e., those sales made without installation. Pursuant to Title 23 VAC 10-210-2032 A 1 b, penalty cannot be waived on first audits when the taxpayer has collected the tax but failed to remit it to the Department of Taxation.

The Taxpayer requests waiver of the penalty on the basis of Title 23 VAC 10-210­2032 A 6, which states, in part, that "[p]enalty generally will not be applied to audit deficiencies occurring in new areas not covered by prior audit(s), provided the application of the tax is not clearly established under existing law, regulations or other published documents which the taxpayer reasonably should have had knowledge." [Emphasis added.]

In this instance, penalty is assessed only to the extent of the Taxpayer's failure to report and pay the collected sales tax to the Department of Taxation. The collection and remittance of the sales tax by registered dealers has been a fundamental requirement of the sales tax laws since 1966. See Va. Code §§ 58.1-612, 58.1-615 and 58.1-616. The regulations interpreting these requirements are also long-standing. See Title 23 VAC 10­210-340 and 10-210-480. Furthermore, the Department has issued public documents on these topics. For example, see P.D. 92-117 (6/29/92), 94-162 (5/25/94), and 02-140
(11/5/02). For these reasons, I find no basis to waive the penalty assessed in this case.

CONCLUSION


Based on this determination, the assessment is correct. An updated bill, with interest accrued to date, will be sent to the Taxpayer. The outstanding balance should be paid within 30 days of the bill date to avoid additional interest charges. The Taxpayer should remit its payment to: Virginia Department of Taxation, 3600 West Broad Street, Suite 160, Richmond, Virginia 23230, Attn: *****. If you have any questions concerning payment of the assessment or you would like to establish a payment plan with the Department's Collection Unit, you may contact ***** at *****.

The Code of Virginia sections, regulations and public documents cited are available on-line at www.tax.virginia.gov in the Tax Policy Library section of the Department's web site. If you have any questions about this determination, you may contact ***** in the Office of Tax Policy, Appeals and Rulings, at *****.
                • Sincerely,


                • Janie E. Bowen
                  Tax Commissioner



AR/1-2696005292.R
1 Maplewood Bank and Trust v. Sears, Roebuck and Co., 265 N.J.Super. 25, 625 A.2d 537, 5/27/93, Parker v. Zeider, No. 84-14934, 38 Pa. D. & C.3d 481, 1985 WL 5674 (Pa.Corn.Pl.), 6/20/85, Cohen v. Republic Insurance Co., 131 Misc.2d 483, 502 N.Y.S.2d 898, 9/30/85, Domestic Kitchens, Inc. v. Russell, No. CV010388205, 2004 WL 2397371 (Conn.Super.), 10/12/04, and Michael David Ivey, Inc. v. Salazar, No. 5D03-1706, 903 So.2d 329, 30 Fla. L. Weekly D1450, 6/10/05.
2 Grider v. Department of Local Government Finance, Tax Court of Indiana, 799 N.E.2d 1239, 12/11/03, Donovan v. Jackson County Assessor, No. 020136D, 2002 WL 31108194 (Or.Tax Magistrate Div.), and Anderton v. Multnomah County Assessor, Oregon Tax Court, TC-MD 050158B, 2006 WL 278120.
3 "Whatever is essential to the purposes for which the building is used will be considered as a fixture, although the connection between them is such that it may be severed without physical or lasting injury to either." Green v. Phillips, 26 Gratt. 752, 67 Va. 752 (Va.), 1875 WL 5726 (Va.). Also see Danville Holding Corporation v. Clement, 178 Va. 223, 232, 233, 234 16 S.E.2d 345, 349, 350 (1941).



Rulings of the Tax Commissioner

Last Updated 08/25/2014 16:46