Tax Type
Retail Sales and Use Tax
Description
Manufacturing, processing, assembling or refining; Steel recycling
Topic
Taxability of Persons and Transactions
Date Issued
01-30-1998
January 30, 1998
Dear***********:
In your letter of January 12, 1998, you request a ruling regarding the application of the retail sales and use tax to certain contractual arrangements involving a manufacturer (Manufacturer) and a local Industrial Development Authority (IDA).
FACTS
The Manufacturer currently operates a facility outside Virginia which recycles steel from iron and steel scrap utilizing an extremely high temperature furnace. The Manufacturer plans to construct, own and operate a similar facility in Virginia. You request a ruling regarding several possible contractual arrangements in which an exemption from the retail sales and use tax is sought in connection with the construction of the Manufacturer's facility. These contractual arrangements and the tax consequences of these arrangements are discussed below.
RULING
Generally
Pursuant to Code of Virginia § 15.2-4903, an IDA is a political subdivision of Virginia. Consequently, tangible personal property purchased for use or consumption by an IDA qualifies for exemption from the retail sales and use tax under Code of Virginia § 58.1-609.1(4).
Issue 1: IDA as owner/lessee and contractor
Construction Arrangement: IDA would lease or own the real estate on which the facility is to be constructed and would hold title or leasehold to the facility at all times during its construction. IDA would construct and equip the facility as lessee and general contractor or as owner and general contractor. IDA would employ a licensed contractor or construction management firm to manage the project and perform daily duties of a general contractor. The licensed contractor or construction management firm would contract directly with subcontractors and tradesmen to build and equip the facility. IDA would furnish construction materials to the licensed contractor, construction management firm or subcontractors for use in constructing and equipping the facility.
Payment Arrangement: Construction materials would be purchased by the IDA on its own account and credit pursuant to official IDA purchase orders using IDA public funds. IDA's credit would be legally bound on all purchases and contracts, but IDA would be indemnified against losses by the Manufacturer. The Manufacturer will make periodic payments solely to the IDA to provide IDA with the funds to pay subcontractors and suppliers of materials and equipment by separate check of the IDA. Upon completion of construction and equipping the facility, the Manufacturer would acquire title to the facility and the underlying real estate and pay IDA any balance due on the cost of construction and a sum to cover IDA's administrative costs.
Tax Consequences: Based on the arrangements proposed above, IDA may purchase all construction materials for the construction of the facility and all manufacturing machinery and equipment to be installed in the facility exempt from the retail sales and use tax. The subsequent sale of the land and facility to the Manufacturer constitutes a real estate transaction which is not subject to retail sales and use taxation.
When ordering construction materials or production equipment, IDA must present each supplier or vendor with IDA's official purchase order and a completed exemption certificate, Form ST-12 (copy enclosed). In order to meet the requirement that the purchases be paid for out of public funds, the Manufacturer's payments to the IDA must be deposited into a public fund account, and the IDA must pay the subcontractor or supplier by a separate check drawn from a public fund account.
Under Code of Virginia § 58.1-610(B) and Title 23 of the Virginia Administrative Code (VAC) 10-210-410, the subcontractors will not become liable for use tax on the construction materials and production machinery furnished by IDA as lessee and general contractor or as owner and general contractor. See Public Document (P.D.) 95-80 (4/12/95), copy enclosed.
Issue 2: IDA as contractor: Manufacturer as owner
Construction Arrangement: The Manufacturer would be the owner of the land and the facility during construction as well as after completion. The Manufacturer would contract with and pay IDA to act as a general contractor with the authority to hire and contract with various subcontractors to build the facility and employ a firm licensed as a building contractor (Firm) to manage the project and perform IDA's general contracting duties under its contract with the Manufacturer. All contracts with subcontractors, however, would run directly to IDA rather than to the Firm. IDA would purchase and furnish the materials and equipment to the subcontractors for use in the construction and equipping of the facility.
Payment Arrangement: All materials and equipment used in building and equipping the facility would be purchased directly by and billed to IDA on its own account pursuant to official IDA purchase orders using IDA public funds. The credit of IDA would be legally bound on all purchases and contracts and IDA would be indemnified against any loss by the Manufacturer. The Manufacturer would pay funds solely to IDA as and when IDA presented draw requests. IDA would then pay its subcontractors, suppliers, and the Firm by separate check, or reimburse itself for payments previously made to them.
Tax Consequences: Provided IDA actually enters into a written contract to furnish and install all materials, machinery and equipment and furnish all installation labor to construct the Manufacturer's facility, and has the legal authority to do so, I find that IDA would be considered a "contractor' as intended under the provisions of Code of Virginia § 58.1-610. As the general building contractor, IDA would be considered the user or consumer of all tangible personal property which it purchases in the performance of its contract with the Manufacturer. Provided purchases are paid for out of public funds, IDA may purchase all construction materials for the construction of the facility and all manufacturing machinery and equipment to be installed in the facility exempt from the retail sales and use tax.
In addition, IDA must complete and furnish each vendor or supplier of materials and equipment with an IDA purchase order and a Form ST-12 exemption certificate. In order to meet the requirement that the purchases be paid for out of public funds, the Manufacturer's payments to the IDA must be deposited into a public fund account, and IDA must pay the Firm, subcontractors and suppliers with checks drawn from such account.
As in Issue 1, the subcontractors will not become liable for use tax on the construction materials and production machinery furnished by IDA as general contractor.
Issue 3: IDA serves only as purchasing agent for Manufacturer
Construction Arrangement: The Manufacturer would be the owner of the land and the facility during construction as well as after completion. However, IDA would not act as the general contractor. Rather, the Manufacturer would contract with and pay a building contractor to serve as a general contractor with the authority to hire and contract with various subcontractors to build the facility. Under this arrangement, IDA would be responsible for purchasing and furnishing the materials and equipment to the general contractor for use in the construction and equipping of the facility.
Payment Arrangement: The credit of IDA would be legally bound on all purchases and contracts and IDA would be indemnified against any loss by the Manufacturer. The Manufacturer would pay funds solely to IDA as and when IDA presented draw requests; IDA would then pay its material suppliers by separate check, or reimburse itself for payments previously made to them.
Tax consequences: Under this arrangement, IDA has not contracted to perform the installation of the construction materials or equipment or to perform any other construction services as to be considered engaged as a real property construction contractor on behalf of the Manufacturer. Without an installation and construction role, IDA does not perform any services of a contractor and therefore cannot be considered the final user or consumer of the materials, machinery and equipment purchased.
Rather, the transaction between IDA and the Manufacturer constitutes the retail sale of tangible personal property as title to the property transfers for a consideration to the Manufacturer. The Manufacturer makes first use of the property when it exercises its rights of ownership over the property by directing IDA to furnish the property to the contractor. The contractor serves at the pleasure of the Manufacturer, not IDA, in installing the property. Accordingly, IDA's role under this arrangement is limited to that of a retailer to the Manufacturer as it is only reselling tangible personal property.
Pursuant to Code of Virginia § 58.1-609.1(4), an exemption from sales and use tax applies to tangible personal property purchased for use or consumption by IDA. Since the contractor is not performing services for IDA, the exclusion for use tax under Code of Virginia § 58.1-610(B) is not available to the Manufacturer or contractors when furnished materials by IDA under this arrangement. In such instances, the Manufacturer or the contractor to whom the property is furnished is liable for the use tax on such items.
Issue 4: Manufacturer as purchasing agent of IDA
As established by 23 VAC 10-210-410(J), the application of the sales and use tax to government contracts is as follows:
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- Generally, purchases of tangible personal property by contractors in connection with real property construction contacts with the governments of Virginia or the United States or political subdivisions thereof, are sales to such contractors for their own use or consumption and contractors are subject to the tax on such transactions...Only in instances where the credit of a governmental entity is bound directly and the contractor has been officially designated as the purchasing agent for such governmental entity will such purchases be deemed exempt from the tax.
- Generally, purchases of tangible personal property by contractors in connection with real property construction contacts with the governments of Virginia or the United States or political subdivisions thereof, are sales to such contractors for their own use or consumption and contractors are subject to the tax on such transactions...Only in instances where the credit of a governmental entity is bound directly and the contractor has been officially designated as the purchasing agent for such governmental entity will such purchases be deemed exempt from the tax.
As the owner and general contractor in Issue 1, IDA clearly purchases the construction materials and equipment for itself rather than for resale purposes. In this instance, IDA is considered the final user and consumer of purchases for the facility as it is not reselling the materials and equipment prior to their installation. Under this arrangement, IDA is not precluded from entering into an agreement which officially designates the Manufacturer or an unrelated third party (e.g., a construction manager) as a purchasing agent with the authority to bind the credit of IDA in making exempt purchases for the construction and equipping of the facility.
As the general contractor in Issue 2, IDA is considered the final user and consumer of the tangible personal property purchased in connection with facility construction contract. Accordingly, IDA is not precluded from entering into a purchasing agent agreement.
Since IDA is not the owner or the general contractor in Issue 3, it is not the final user or consumer of the construction materials. Rather, the Manufacturer or general contractor would be the final consumers, depending upon who is furnished the materials, and would be liable for the use tax on such items. I would note, however, that the exemption for manufacturing machinery used predominantly and directly in the production process would still be available to the Manufacturer or contractor in this instance.
In structuring a purchasing agent agreement for the arrangements under Issue 1 or Issue 2 to enable the Manufacturer or a chosen contractor to purchase construction materials without subjecting either to the use tax, and to demonstrate to vendors that the transactions are sales to the government, it is necessary for the agreement to have, as a minimum, provisions for:
*Binding the credit of IDA in all purchases made by the Manufacturer or chosen contractor.
*Designating the Manufacturer or chosen contractor as the purchasing agent on behalf of and in the name of IDA for all purchases (e.g., machinery, equipment, and materials or only materials) made in connection with the construction and equipping of the facility.
*All purchases to be made by the Manufacturer or chosen contractor via IDA contracts, exemption certificates, and purchase orders which note on their face that the Manufacturer or chosen contractor is acting as purchasing agent and has not assumed any liability to the vendor and that the vendor should look to IDA for payment of all obligations resulting from purchases by the Manufacturer or chosen contractor.
*Payment of purchases to be made directly by IDA from public funds.
*Providing exemption certificates, Form ST-12, which have been signed by an IDA representative authorized to sign them, to all suppliers or vendors of tangible personal property.
*Title to all construction purchases by the Manufacturer or chosen contractor acting as IDA's purchasing agent rests solely with IDA.
Issue 5: Industrial Manufacturing Exemption
The Manufacturer's activity is industrial in nature pursuant to the description found in code 3312 of the 1987 Standard Industrial Classification Manual published by the U. S. Department of Commerce. As the Manufacturer proposes to build an industrial manufacturing facility in Virginia, the industrial manufacturing exemption set out in Code of Virginia § 58.1-609.3(2) is applicable to the Manufacturer's purchases of industrial machinery to be used directly and predominantly in manufacturing products for sale.
The Manufacturer must furnish a completed exemption certificate, Form ST-11 (copy enclosed), to its vendors and suppliers of manufacturing machinery. Independent contractors and subcontractors who may be hired to furnish and install production machinery will qualify for exemption on their purchases, provided they have applied in writing to the department for an exemption certificate, Form ST-11A (copy enclosed). The request for the ST-11A must include a description of the project, the estimated completion date, the items being purchased, the name of the Manufacturer, and the Manufacturer's street and mailing addresses. Such requests should be addressed to the department's Office of Customer Services, Post Office Box 1880, Richmond, Virginia 23218-1880. For purchases made by IDA, see the Tax consequences section of Issue 1 and Issue 2 contained herein.
Issue 6: Separation of roles
You indicate that the parties in these arrangements may desire to divide the project into separate contracts whereby (i) IDA's role would be limited to the construction of the building shell of the manufacturing facility and (ii) the Manufacturer (or a chosen contractor) would install the production machinery, tools and equipment within the facility.
If IDA is authorized to enter into a contract with a commercial manufacturer as a general contractor with the obligation and duty to perform the construction and erection of a manufacturing facility, its purchases of construction materials would qualify for exemption from the tax granted under Code of Virginia § 58.1-609.1(4). If IDA is also authorized to contract to furnish and install production machinery and equipment in the Manufacturer's facility, such items could also be purchased exempt of the tax under IDA's government exemption. The government exemption would apply because IDA would be deemed the final user or consumer of the tangible personal property incorporated into or affixed to the realty. It is not necessary that IDA own the land provided it acts in the capacity of a general contractor of real property construction by agreeing to furnish all materials and labor and perform all services necessary in the construction of the facility. Accordingly, IDA must place itself in the same shoes or role as any other real property construction contractor to be deemed a contractor.
If the Manufacturer's role is limited to furnishing and installing its own production machinery, it may purchase such items exempt of the tax based on the exemption granted by Code of Virginia § 58.1-609.3(2).
Issue 7: Premature termination of contractual relationship
It is my understanding that there is a possibility that the contractual relationships outlined in Issue 1 and Issue 2 may prove impractical and the parties may elect to terminate IDA's role as general contractor. You ask whether the termination of these relationships prior to completion of construction of the facility would have a retroactive effect on the tax-exempt purchases of construction materials made prior to the termination of the contract.
Notwithstanding the exemption granted under Code of Virginia § 58.1-609.1(4), termination of IDA's role as general contractor prior to the completion of construction would effectively end the application of IDA's exemption on those construction materials remaining to be affixed to the realty. In such an event, it appears that IDA would no longer be expected to fully perform its contractual obligations of furnishing and installing construction materials in its capacity as general contractor. Terminating IDA's role prior to the installation of all construction materials would mean that the subcontractors would serve under the direction of a commercial general contractor or the Manufacturer, neither of whom is a political subdivision of Virginia, in installing these materials.
After a careful review of this matter, I find that the construction materials which have not been installed in the realty prior to termination of IDA's contractual duties are taxable to the subcontractors based on the fair market value of those materials. In this instance, the subcontractors who are furnished materials are no longer performing services for IDA. Therefore, the exemption from use tax under Code of Virginia § 58.1-610(B) for property furnished by a government entity is no longer applicable. The subcontractor becomes subject to use tax on property furnished which has not been incorporated into real estate when IDA terminates its role as general contractor.
In addition, any purchases of construction materials made after termination of IDA's contractual role would be subject to taxation. However, the government exemption would apply to those construction materials purchased by IDA and affixed to the realty prior to the termination of IDA's role as general contractor.
Ruling advisory
The above rulings are limited to the application of the sales and use tax to transactions described in your letter as summarized herein. They are not intended to address whether the IDA has the authority to engage in the activities described.
If you have any questions regarding this ruling, please contact ***** of my policy staff at *****.
Rulings of the Tax Commissioner