May 25, 2021
Re: § 58.1-1821 Application: Retail Sales and Use Tax
This is in response to your letter submitted on behalf of ***** (the “Taxpayer”) in which you seek correction of the retail sales and use tax assessment issued for the period July 2013 through June 2016. I apologize for the delay in responding to your letter.
The Taxpayer is a Virginia licensed Class A contractor with an electrical specialty. The Taxpayer provides commercial electrical contracting services, including but not limited to building electrical, power systems, smart building and power management systems, and legally required life safety systems. The Taxpayer considers itself to be the user or consumer of all materials installed in the real property of its customers and pays sales or use tax on its acquisition of all such materials and supplies. As a result of the Department’s audit, the auditor determined that labor, material mark-up and permits in connection with the installation of integrated life safety systems (e.g. nonmonitored fire alarm and suppression systems) were provided in connection with the sale of tangible personal property and issued an assessment. The Taxpayer appeals, contending the application of sales tax in this instance is improper because the component materials of the life safety systems lose their identity as tangible personal property upon installation.
Installation of Integrated Life Safety Systems by Contractors
Virginia Code § 58.1-610 A provides that:
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.
Virginia Code § 58.1-610 D states that “tangible personal property incorporated in real property construction which loses its identity as tangible personal property shall be deemed to be tangible personal property used or consumed within the meaning of this section”.
Title 23 of the Virginia Administrative Code (VAC) 10-210-410 A provides, in pertinent part, that “[t]angible personal property incorporated in real property construction which loses its identity as tangible personal property and becomes real property is deemed to be tangible personal property used or consumed by the contractor”.
Virginia Code § 58.1-603 imposes retail sales tax on “every person who engages in the business of selling at retail or distributing tangible personal property in this Commonwealth…” “Retail sale” is defined, in part, in Virginia Code § 58.1-602 as “a sale to any person for any purpose other than for resale in the form of tangible personal property or services under this chapter…”
These principals are reflected in the Department’s regulation regarding burglar, security and fire alarm systems. Title 23 VAC 10-210-230 C provides, in pertinent part that “persons engaged in the sale and installation of… security devices…. and similar items which become permanently affixed to realty are contractors with respect to such transactions and must pay tax on all property installed or used in installation at the time of purchaser withdrawal from nontax paid inventory”. The sale of fire devices that do not become attached to realty are retail sales of tangible personal property.
In the instant case, the Taxpayer is purchasing fire alarm and suppression systems from businesses that are specifically engaged in the business of selling such systems, and paying sales tax on such purchases as the end user and consumer. The Taxpayer is then providing and installing such systems to its customers in performance of its contract for electrical services. The question then becomes whether the fire alarm and suppression systems maintain their status as tangible personal property once installed into the commercial setting, or if such systems become fixtures of the real property. If the systems are installed in such a way that they become permanently affixed to the realty, then the Taxpayer is the end user and consumer of the property and must pay the use tax. If the systems do not become attached to the realty, they remain tangible personal property and are subject to the sales tax.
Tangible Personal Property vs. Real Property Fixtures
The distinctions between real and tangible personal property have been addressed by the Virginia Supreme Court in Danville Holding Corp. v. Clement, 178 Va. C 223.232, 16 S.E. 2d 345, 349 (1941) and confirmed in subsequent cases, such as Transcontinental Gas Pipe Line Corp. v. Prince William County, 210 Va. 550 (1970). Danville Holding and Transcontinental Gas Pipe Line provide a three part test to determine if tangible personal property loses its identity and becomes real property upon installation. The three general tests are as follows: (1) annexation of the chattel to the realty, actual or constructive; (2) its adaptation to the use or purpose to which that part of the realty to which it is connected is appropriated; and (3) the intention of the owner of the chattel to make it a permanent addition to the freehold. The intention of the party making the annexation is the chief test to be considered in determining whether the chattel has been converted into a fixture.
Annexation of the Property
With respect to the first test, the court in Danville Holding found that “while… there must be actual or constructive annexation, the method or extent of the annexation carries little weight, except insofar as they relate to the nature of the article, the use to which it is applied and other attending circumstances as indicating the intention of the party making the annexation”. Danville Holding at 232. In this instance, the fire alarm and suppression systems are fully integrated into telephone lines and are hard wired into the subject building in such a way that they become part of its electrical network. Based upon the manner in which the system is installed into the space, I find that the equipment is annexed to the real property.
Adaption to the Reality
With respect to the second test, the court found that “if the chattel is essential to the purpose for which the building is used or occupied, it will be considered a fixture. Id. Here, the Taxpayer is installing life safety systems that are included in building plans requiring approval for building permits and for which no certificate of occupancy will be issued if the system is not installed, inspected by the fire marshal, and fully functional. Therefore, without such systems, the realty would be unusable for any commercial purpose whatsoever. Based upon these factors, I find that the equipment at issue is essential to the purpose for which the building is used.
Intention of the Party
The court further held that “the intention of the party making the annexation is the paramount and controlling consideration.” Id. If a fire alarm and suppression system is not in working order or is in any way disabled, then the building may be closed by order of the fire marshal until such repairs are completed. Should a legally required fire alarm and suppression system become disabled at any time the owner must report it to the fire marshal immediately and contact a licensed contractor to make necessary repairs. Based upon these factors, I find that the intention of the parties is for the fire alarm and suppression systems installed by the Taxpayer to be fully operational and remain in place at all times.
Pursuant to Virginia Code § 58.1-610 A and D, Title 23 VAC 10-210-410, I find that the Taxpayer is a commercial electrical contractor within the meaning of Virginia Code § 58.1-610 and is not engaged in the retail sale and installation of fire alarm systems as contemplated under Title 23 VAC 10-210-230. The fire alarm and suppression systems at issue are incorporated into real property upon installation. The tangible personal property components of the systems are deemed used or consumed by the Taxpayer within the meaning of Virginia Code § 58.1-610 D. Therefore, the Taxpayer must pay sales or use tax on its acquisition of all such materials and supplies installed in the real property of its customers. Accordingly, the assessment is abated.
The Code of Virginia sections, regulation and public document cited are available on-line at www.tax.virginia.gov in the Laws, Rules, and Decisions section of the Department’s web site. If you have any questions about this response, you may contact ***** in the Department’s Office of Tax Policy, Appeals and Rulings, at *****.
Craig M. Burns