Tax Type
Retail Sales and Use Tax
Description
Sales for Resale; Design and Layout Materials
Topic
Taxability of Persons and Transactions
Date Issued
04-16-1991
April 16, 1991
Re: §58.1-1821 Application: Sales and Use Tax
Dear ****************
This will reply to your letter in which you seek correction of sales and use tax assessments for your client, ****************("the Taxpayer").
FACTS
The Taxpayer is a manufacturer of electrical and electronic products. An audit of the Taxpayer produced assessments for its failure to remit the sales and use tax on purchases and sales of tangible personal property.
The Taxpayer contests inclusion in the audit of materials used in the design and layout of product manuals, a custom computer program, photophone used in connection with research and development activities, and raised floor. In addition, the Taxpayer requests the waiver of penalty.
DETERMINATION
The application of the tax to the items contested by the Taxpayer will be addressed on a separate basis below:
Design and Layout Materials
The Taxpayer purchased mechanical art, photos, and typesetting in connection with the design and layout of product manuals used by purchasers of products sold by the Taxpayer. The Taxpayer contends that such items are exempt as they become a part of the product sold to its customers.
Copies of product manuals which will be distributed with products being sold may be purchased exempt of the tax for resale. The total invoice charge would be exempt, including the associated charges for typesetting, copying and printing when charged by the vendor reproducing and selling the copies to the Taxpayer. However, materials such as mechanical art and photographs which are purchased by the Taxpayer and later provided to printers for their use in the production of the product manuals cannot be purchased exempt of the tax for resale since the mechanical art and photographs themselves are not resold and do not actually become a physical part of the manuals. Rather, the purchase of such materials is deemed a taxable purchase of tangible personal property for the Taxpayer's own use or consumption.
Therefore, I find that the design and layout materials were properly included in the audit. However, I have requested the department's Field Services Division to further review the audit and remove any charges for nontaxable services, such as public relations services not rendered in connection with the sale of tangible personal property.
Custom Computer Program
The Taxpayer engaged a vendor to specifically design and develop a computer program which was incorporated in equipment sold by the Taxpayer. Programs purchased for use in equipment employed as demonstration units were held taxable in the audit. The Taxpayer contends that the program is exempt as a custom program under Va. Code §58.1-602 and also exempt as a part of property for resale.
Custom programs were in effect exempted from the tax beginning July 1, 1986. As the transactions at issue here occurred prior to that date, they do not qualify for the exemption set forth in Va. Code §§58.1-608(5)(g) and 58.1-602. However, as the Taxpayer in this instance has shown that the demonstration units are held as inventory for resale and are ultimately resold, the programs at issue will be removed from the audit.
Photophone
The Taxpayer conducts joint research and development projects with a vendor based in another country. A photophone is used to transmit images and sounds between the two companies in connection with the research projects. The Taxpayer requests exemption as the photophone is used exclusively in research and development activities.
Va. Code §58.1-608(3)(e) provides an exemption from the sales and use tax for "[t]angible personal property purchased for use or consumption directly and exclusively in basic research or research and development in the experimental or laboratory sense." Virginia Regulation (VR) 630-10-92, copy enclosed, interprets this statute. Section D of the regulation defines the term "used directly" to mean, "those activities which are an integral part of...research and development activities, including all steps of such processes, but not including secondary activities such as administration, general maintenance, product marketing and other activities collateral to the actual research process." (Emphasis added).
Based on the information submitted by the Taxpayer, I am unable to conclude that the photophone qualifies for exemption under the above statute and regulation. While the photophone may be used solely to transmit information to the Taxpayer's research partner, there is no evidence presented that the photophone is used directly and plays an active role in the actual research and development processes. The photophone appears to play a facilitative and collateral role similar to a telephone or telecopier. Such items are generally deemed to perform taxable administrative tasks, notwithstanding that they are used by research personnel to transmit sound and images, respectively. As such, I do not find sufficient basis to remove the photophone from the audit.
Raised Floor
As this transaction was apparently included in a prior audit of the Taxpayer's vendor, this item will be deleted from the instant audit.
Penalty
Based on the Taxpayer's overall sales and use tax compliance, the department will abate the assessed penalties.
The audit will be revised in accordance with the determination reached in this letter and revised assessments sent as soon as practical.
Sincerely,
W. H. Forst
Tax Commissioner
Rulings of the Tax Commissioner