Tax Type
Retail Sales and Use Tax
Description
Construction; Pathological incinerator
Topic
Taxability of Persons and Transactions
Date Issued
08-04-1995
August 4, 1995
Re: § 58.1-1821 Application: Retail Sales and Use Tax
Dear*************
This will reply to your letter of November 15, 1994 and February 27, 1995 in which you seek correction of sales and use tax assessed to **************(the "Taxpayer"), for the period July 1991 through July 1994.
FACTS
The Taxpayer conducts product safety evaluations for pharmaceutical and chemical companies under laboratory conditions. The Taxpayer uses various types of animals equipment, and related items to perform its safety evaluations.
As a result of a department audit, the Taxpayer protests the assessment of tax upon certain items it believes are used directly in its customers' manufacturing activities or used exclusively in research and development activities.
DETERMINATION
The manufacturing exemption was denied to the Taxpayer in a prior ruling, P.D. 89-140 (4/28/89), copy enclosed. The exemption was denied based on the requirement that exempt property must be used on the production line at a single plant site. The department ruled that the Taxpayer's activities on behalf of its customers (who are generally manufacturers) did not take place on a manufacturer's production line, but rather at the Taxpayer's own facilities. That reasoning still holds true in the instant case and as such the exemption is not applicable.
Code of Virginia § 58.1-609.3(5) 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 further interprets the statute and specifically states the tax or exempt status of certain property when used in research and development activities.
I will address each protested item individually.
Automated Laboratory System (ALS)
The auditor assessed tax on computer hardware and software used in the ALS because these items perform administrative functions, in addition to research and development capabilities. The Taxpayer indicates that the ALS system performs specimen tracking, bar coding, data retrieval, and data calculation and evaluation and that administrative activities such as the production of client reports are generated from an unrelated database. However, the Taxpayer's capital expenditure request for the ALS indicates that the ALS is designed to produce both management and client reports. Furthermore, the system provides other administrative functions such as the enhancement of certain management tools and the production of work schedules. VR 630-10-92 expressly exempts computer hardware and software when used exclusively to store, retrieve, and process research data. Based on a review of the Taxpayer's capital expenditure request for the ALS, the system is not used exclusively in the Taxpayer's product evaluations and therefore, I must agree with the auditor's assessment of the tax.
Exercise Pens for Animals and Tunnel Washer
The Taxpayer uses various types of animals, including canines, which are injected with chemical test compounds and studied. The Taxpayer is required by federal regulation to exercise canines used in research activities a minimum of three times weekly. The Taxpayer uses exercise pens to satisfy this requirement. Similarly, federal regulation requires that glass bottles from which the animals drink water must be sanitized and the Taxpayer uses a tunnel washer to accomplish this purpose.
The department's prior ruling addressed animal feed used to administer test compounds and bedding and cleaning materials used to control the levels of contamination in the testing process. The animal feed was determined to be exempt since it was used to administer test compounds to the research animals (it was deemed to be used directly in research activities) and cleaning materials were also exempt as they were essential to maintaining the integrity of the research involving the animals. However, I must draw a different conclusion regarding the exercise pens and the tunnel washer as neither item directly touches on exempt research activities (as did the animal feed in the prior ruling) nor is the pen essential for maintaining the integrity of research projects (as were the specialized bedding and cleaning materials in the prior ruling). Therefore, the tax assessed in this area is proper.
Pathological Incinerator
The auditor assessed tax upon charges by a welding contractor for rebuilding a pathological incinerator used to dispose of unused body tissue of animals involved in the Taxpayer's research activities. The Taxpayer argues that the incinerator was initially installed several years ago as a permanent fixture and housed within the same structure as its laboratory facility and as such constitutes real property. The Taxpayer contracted with a contractor, in this case, to rebuild the incinerator for continued future use.
Virginia law generally treats contractors with respect to real property as the users or consumers of all tangible personal property used in the performance of a contract and thus requires that they pay the sales or use tax on all such purchases. In determining the proper tax treatment of the materials used to rebuild the incinerator, it must be determined whether the incinerator itself constitutes real or tangible personal property.
The Virginia Supreme Court in Transcontinental Gas Pipe Line Corporation v. Prince William County, 210 Va. 550 (1970), ruled that:
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Three general tests are applied in order 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 intention of the party making the annexation is the chief test.
Based on additional information that the Taxpayer provided to a member of my Tax Policy staff in a recent phone conversation, I must conclude that it was the Taxpayer's intent to install the pathological incinerator for permanent use as a part of its main laboratory facility which is, of course, real estate. As such, the incinerator became real property upon installation. In the course of rebuilding the incinerator, the tax should not have been assessed on the charges paid by the Taxpayer, but rather the contractor is subject to the use tax for materials used and consumed to rebuild the incinerator.
Accordingly, the assessment will be adjusted to reflect the removal of the tax upon the contractor's charges and the applicable penalty and interest. I am waiving the penalty associated with the ALS because this portion of the audit constitutes a new issue not addressed in the prior audit. You will receive a revised "Notice of Assessment" which should be paid within 30 days to avoid the accrual of additional interest charges.
I have enclosed a copy of the department's revised research and development regulation which became effective July 1, 1994. Should you need further assistance, please contact********** in the Office of Tax Policy at**********
Sincerely,
Danny M. Payne
Tax Commissioner
OTP/8754J
Rulings of the Tax Commissioner