Document Number
10-225
Tax Type
Retail Sales and Use Tax
Description
Qualifying manufacturing machinery and equipment may be purchased by contractors exempt of the tax
Topic
Exemptions
Property Subject to Tax
Taxable Transactions
Date Issued
09-22-2010


September 22, 2010



Re: Request for Ruling: Retail Sales and Use Tax

Dear *****:

This will reply to your letter in which you request a ruling regarding the application of retail sales and use tax to rentals of tools and equipment by industrial contractors (the "Taxpayers"). I apologize for the delay in responding to your letter.

FACTS


The Taxpayers rent various types of equipment and tools to perform onsite contract work for Virginia manufacturers and processors. The rented items include boom lifts, arc welders and similar equipment. The tools and equipment are used at job sites to construct, fabricate and install manufacturing and processing machinery, equipment and systems for use in the manufacturers' production areas. The Taxpayers claim that the Virginia retail sales and use tax regulations allow a tax exemption for rentals of equipment and tools used to perform contract work for manufacturers and processors.

RULING


You pose the following question:
    • In the case where a contractor/fabricator constructs exempt machinery and/or equipment, for example, duct, process piping, air handling units, etc., using rented lifts and welders on-site, what is the proper application of sales and/or use taxes?

While this question relates to the rental of machinery and equipment, the ruling that follows applies to purchases as well. Virginia Code § 58.1-609.3 2 provides an exemption from the retail sales and use tax for machinery, tools, and other items used directly in industrial manufacturing or processing of products for sale or resale. Title 23 of the Virginia Administrative Code (VAC) 10-210-920 A discusses the criteria that a business must meet to qualify for the exemption. First, the business must manufacture or process products for sale or resale and secondly, such production must be industrial in nature. Third, the types of tangible personal property which may be purchased exclusive of the tax by an industrial producer are machinery and tools, raw materials or other types of property deemed by the Department to qualify for the exemption and fourth, the tangible personal property must be used directly in the manufacturing or processing operation.

Used Directly

Virginia Code § 58.1-602 defines the term "used directly" as "those activities which are an integral part of the production of a product, including all steps of an integrated manufacturing or mining process, but not including ancillary activities such as general maintenance or administration." In the case Commonwealth of Virginia v. Community Motor Bus Co. 214 Va. 155, 198, S.E.2d 619 (1973), the Virginia Supreme Court held that the use of the word "directly" in a statute was intended to narrow the scope of the exemption. Therefore, the exemption applies only when an item is indispensable to actual production and is primarily used or consumed immediately in the actual production of products. The standard established by the Court is discussed in Title 23 VAC 10 -210-920 B 2, which states, "Items of tangible personal property which are used directly in manufacturing and processing are machinery, tools and repair parts therefore, 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." (Emphasis added.)

While the Taxpayers use the welders, lifts and other rented equipment to construct, fabricate and install process piping, ductwork, air handling units and similar manufacturing equipment, the equipment and tools rented by the Taxpayers are not used in the manufacturer's production process. In fact, production cannot occur until this type of contract work is completed. The rented equipment and tools are not an immediate part of production and are not indispensable to production. Based on the above, the Taxpayers' rentals of boom lifts, arc welders and similar equipment do not qualify for the exemption because these items are not used directly in a manufacturing process.

Your letter references a provision in the contractors regulation, Title 23 VAC 10­210-410 A, which states, "Contractors may also purchase machinery and tools to be used directly in industrial manufacturing or processing (see 23 VAC 10-210-920) exempt from the tax." The intent of this provision is to allow a pass-through of the manufacturing exemption to contractors that purchase manufacturing machinery and equipment for installation in manufacturing facilities that is used directly in a manufacturing production process. Also see Va. Code § 58.1-610. While the purchase of manufacturing machinery and equipment may qualify for exemption, the equipment and tools used by contractors to construct, fabricate and install exempt manufacturing equipment do not qualify for exemption. As further evidence of this fact, Title 23 VAC 10-210-920 C 2 provides a list of items that are taxable to manufacturers. The list includes tangible personal property used to repair, service and maintain production machinery. These items are used by manufacturers in a manner that is very similar to the Taxpayers' use of the rented equipment and tools. Yet, the items are deemed to be taxable because they are not used directly in manufacturing.

Industrial in Nature

To be eligible for the manufacturing exemption, the manufacturing or processing must be "industrial in nature." The definition of manufacturing in Va. Code § 58.1-602 states that the term industrial in nature includes "those businesses classified in codes 10 through 14 and 20 through 39 published in the Standard Industrial Classification Manual for 1972 and any supplements issued thereafter." The type of business engaged in by the Taxpayers is classified in the Standard Industrial Classification ("SIC") Manual under code numbers 1711 or 1796, which are construction contractor classifications. The North American Industry Classification System ("NAICS") replaced the SIC Manual in 1997. The NAICS classifies the same types of businesses under Industry Codes 238220 or 238290. Both the SIC and NAICS classifications are non manufacturing business classifications. Thus, the Taxpayers' business activities are not industrial in nature and do not qualify for the manufacturing exemption.

Subprocessing Activities

Your letter also cites Title 23 VAC 10-210-920 C 2, which states "[m]achinery and tools used by the person engaged in manufacturing or processing to manufacture exempt machinery, equipment or supplies are exempt from tax only to the extent that they are used in such manufacture." This exemption applies to businesses engaged in manufacturing or processing. The Taxpayers are riot industrial manufacturers or processors and are not eligible for the exemption for subprocessing activities.

CONCLUSION


The Taxpayers should pay the sales tax on rentals (or purchases) of equipment and tools used to construct, fabricate, repair, maintain or install manufacturing machinery and equipment at manufacturing sites. If a lessor or vendor does not charge the sales tax, the Taxpayers should accrue and pay use tax on their rentals or purchases of equipment and tools for use on these jobs. Qualifying manufacturing machinery and equipment may be purchased by contractors exempt of the tax using Form ST-11A.

The Code of Virginia sections and regulations cited, along with other reference documents, 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 concerning this ruling, please contact ***** in the Department's Office of Tax Policy, Appeals and Rulings, at *****.
                • Sincerely,


                • Linda D. Foster
                  Deputy Tax Commissioner




AR/1-3551008928.S


Rulings of the Tax Commissioner

Last Updated 08/25/2014 16:46