June 20, 2025
Re: § 58.1-1821 Application: Retail Sales and Use Tax
Dear *****:
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 June 2017 through June 2020.
FACTS
Audits were conducted on the books and records of the Taxpayer, a retailer and wholesaler of steel and other metals at three separate locations. The auditor found that the Taxpayer was engaged in processing activities in approximately 15 to 20% of its business operations. As a result, the auditor determined that the Taxpayer was ineligible for the manufacturing exemption and issued an assessment for tax and interest due on untaxed purchases. The Taxpayer filed an application for correction contending that certain equipment and related purchases qualify for the manufacturing exemption because its operations included cutting, bending, and sheering metal materials for wholesale.
ANALYSIS
Strict Construction of Exemptions
The Department has the authority to interpret and enforce the laws of the Commonwealth governing taxes in accordance with Virginia Code § 58.1-203. With regard to such interpretations, settled Virginia case law requires strict construction of sales and use tax exemptions. Where there is any doubt as to the application of an exemption, the doubt is resolved against the one claiming the exemption. See Commonwealth v. Community MotorBus, 214 Va. 155 (1973); Commonwealth v. Research Analysis Corporation, 214 Va. 161 (1973); and Golden Skillet Corp. v. Commonwealth, 214 Va. 276 (1973).
Manufacturing
Virginia Code § 58.1-609.3 2 provides an exemption from the sales and use tax for property purchased for direct use in a manufacturing process. Title 23 of the Virginia Administrative Code (VAC) 10-210-920 A provides that the exemption applies to “machinery, tools or repair parts…or supplies used directly in manufacturing or processing.” Title 23 VAC 10-210-920 B defines “used directly” as “those activities that are an integral part of the production of a product, including all steps of an integrated manufacturing process, but not including incidental activities such as general maintenance…” This definition further states that “[t]he integrated manufacturing process…includes the production line of a plant...starting with the handling and storage of raw materials at the plant site and continuing through the last step of production where products are finished or completed for sale…”
The Department uses the NAICS Manual to determine those industries that qualify as industrial processors or manufacturers. Virginia Code § 58.1-602 provides that the term “industrial in nature” includes all businesses classified in codes 10 through 14 and 20 through 39 of the Standard Industrial Classification (“SIC”) Manual. The SIC Manual has since been replaced with the North American Industrial Classification System (“NAICS”) Manual, most recently updated in 2022.
Accordingly, the auditor and Taxpayer both agree that the NAICS code 423510 reported by the Taxpayer on its income tax returns is an accurate description of its business operations. This industry encompasses “. . . establishments primarily engaged in the merchant wholesale distribution of products of the primary metals industries. Service centers maintain inventory and may perform functions, such as sawing, shearing, bending, leveling, cleaning, or edging, on a custom basis as part of their sales transactions.”
The Taxpayer, citing Department of Taxation v. Orange-Madison Cooperative Farm Service, 220 Va. 655 (1980), contends that it was a processer, not a manufacturer. The Department agrees that the Taxpayer engaged in processing, not manufacturing. The Taxpayer specifically asserts that the purchase of a ****** machine, which is used to cut metal plating, was used in processing, not manufacturing. The Department concurs that the ****** machine was used in processing and not manufacturing.
The Department, however, has previously ruled that a taxpayer is entitled to take the manufacturing exemption only if it is primarily engaged in manufacturing or industrial processing activities. See Public Document (P.D.) 99-43 (3/31/1999) and P.D. 20-72 (4/28/2020). The threshold for being “primarily engaged” is at least 50%. During a meeting with the audit staff, the Taxpayer stated that roughly 80% of its operations did not involve cutting or other processing. The audit staff were also told on a tour of one of the Taxpayer’s facilities that only 12 to 15% of sales involving any cutting, bending, or other processing. Accordingly, the auditor concluded that the Taxpayer was not primarily engaged in manufacturing its inventory could not avail of the manufacturing exemption to make tax-free purchases.
DETERMINATION
Pursuant to Virginia Code § 58.1-205. any assessment of tax by the Department is prima facie correct, meaning the burden of proof is upon the taxpayer to show that the assessment is in error. The Taxpayer has not provided evidence that it was primarily engaged in processing. Accordingly, the manufacturing exemption was properly denied, and the assessment is upheld. An updated bill, with interest accrued to date, will be issued to the Taxpayer. No further interest will accrue provided the outstanding assessment is paid within 30 days from the date of this letter.
The Code of Virginia sections and regulation cited are available online at law.lis.virginia.gov. The public documents cited are available at tax.virginia.gov in the Laws, Rules, & Decisions section of the Department’s website. If you have any questions regarding this determination, you may contact ***** in the Office of Tax Policy and Legal Affairs, Tax Adjudication and Resolution Division, at ***** or *****@tax.virginia.gov.
Sincerely,
James J. Alex
Tax Commissioner
Commonwealth of Virginia
AR/3910.B