Tax Type
BPOL Tax
Local Taxes
Description
Exceptions; Manufacturers
Topic
Local Power to Tax
Date Issued
10-16-1998
October 16, 1998
Dear*********:
As you know, the Department of Taxation has reconsidered its findings in Public Document (P.D.) 98-40 after a visit to Company A on June 11, 1998. As a result, the Department is rescinding P.D. 98-40 and replacing it with the conclusion and analysis contained within this document.
Although the Business, Professional and Occupational License (BPOL) tax is a local license tax that is imposed and administered by local officials, the Department of Taxation may promulgate guidelines and issue advisory opinions on a limited basis according to Virginia statute. The Tax Department, however, is not required to interpret local ordinances.
This response is intended to provide advisory guidance only and does not constitute a formal or binding ruling. Copies of cited cases are enclosed for your review.
FACTS
In the initial review of facts, it was determined that Company A supplied its clients with local area networks, software guidance classes, computers, software, peripherals, repair services, Internet access services, and consulting services. Company A constructs the majority of the computers that it sells by compiling parts according to client specifications. The company also incorporates the required programming software that is necessary to operate the computers as standalones or as part of a network. The company claims that it is not subject to the BPOL tax requirements because it is exempted under the manufacturer/wholesale exemption.
In response to your initial request, the Department of Taxation reviewed the situation and determined that Company A was not a manufacturer. After visiting Company A's facilities, and upon reconsideration, the Department finds that Company A performs a manufacturing activity.
However, to be classified as a "manufacturer' for BPOL tax purposes, a company must show that the manufacturing activity is the primary activity and not an ancillary activity when compared to total business activities. This factual analysis will need to be investigated at the local level and should include an evaluation of Company A's gross receipts and other factors that are listed in the following analysis, which should show whether or not the manufacturing activity is the substantial activity in relation to the company's total activities and gross receipts.
If Company A's primary activity is determined to be manufacturing, then it must be ascertained whether or not Company A is selling its products at wholesale from the place of manufacturer for this exemption to apply. This conclusion is based on the following analysis.
ANALYSIS
Generally, localities in Virginia may impose a BPOL license fee or tax on businesses for the "privilege' of engaging in a licensable business within their locality. Code of Virginia § 58.1-3703.1 (A)(1). A company that has multiple business activities may be required to pay a BPOL license fee or tax for each primary business activity. Id. The BPOL tax rate is based on the classification of the primary activity of the business. Department of Tax'n, Guidelines for Business, Professional and Occupational License Tax Imposed By City, County, and Town Ordinances 38 (Jan. 1, 1997) [hereinafter, Guidelines]. Activities that are deemed "ancillary' to a primary activity are taxed at the primary activity rate for BPOL tax purposes. Guidelines, at 39-40.
Localities, however, may not levy a license fee or tax on a business activity that is exempted by statute from the tax. Code of Virginia § 58.1-3703(C). The exemption in question in this situation is the exclusion for a "manufacturer for the privilege of manufacturing and selling goods, wares, and merchandise at wholesale at the place of manufacture.' Code of Virginia § 58.1-3703(C)(4).
Manufacturing Test:
Manufacturing activities are determined by using a three-element analysis, which requires that (1) an original material (2) be processed and (3) changed substantially into a product of a different character from the original material. Guidelines, App. B at 1. In accordance with the public policy of Virginia to encourage manufacturing, this test is applied liberally. Prentice v. City of Richmond, 197 Va. 724 (1956). For a business to be considered a "manufacturer,' the manufacturing portion of the business activity must be a substantial portion of the total business. Guidelines, App. B at 2.
Manufacturing must incorporate the use of original materials, but the original materials need not be natural raw materials. Fairfax County v. DataComp, 36 Va. Cir. 60 (1995). In assembling a computer and peripherals, Company A purchases component parts which include motherboards, memory chips, video controllers, power switches, cabling, cases, monitors, and other parts from original equipment manufacturers. Because these component parts are inputs in making a computer and peripherals and are integrated with other parts by Company A in making computer equipment, these parts are "original materials' for purposes of determining whether Company A is engaged in manufacturing.
.
The second element required in manufacturing is processing of original material, which is a test that also must be applied liberally. This comports with the public policy of Virginia to encourage manufacturing. Assembly may be part of a manufacturing process if it involves a complex procedure and uses numerous parts. Guidelines, App. B at 2. In this case, Company A assembles computer parts and produces computers and Local Area Networks in accordance with client needs. This computer assembly integrates monitors, metal cases, and power supplies into a final product.
Based on the facts presented in your letter and during the on-site visit of Company A, it is my opinion that Company A's assembly of components into a computer is part of a manufacturing process. Company A's assembly involves a complex procedure using numerous parts to create the computer hardware that the company sells. The DataComp case involved facts similar to the facts presented here. In DataComp, the circuit court found that a computer company was a manufacturer. DataComp, 36 Va. Cir. 60 (1995). The facts are also analogous to a case concerning automobile manufacturing in which automotive assembly was found to be manufacturing. In that case, the court ruled that making an automobile would be manufacturing whether or not it was merely the assembling of parts manufactured by other companies. Ex parte Titzel Engineering, Inc., 204 Pa. Super. 457, 464, 205 A.2d 700, 703 (1964).
The third element required in manufacturing is that original material be changed substantially into a product of a different character. It is clear that the use, value, and adaptability of computers and peripheral equipment is substantially different from the original inputs of which it is made.
Substantiality Test:
A business must have its manufacturing activity as its primary or substantial activity (i.e., be substantial in relation to the scope of total activities) to be classified as a manufacturer for BPOL tax purposes. Guidelines, App. B at 2. This part of the analysis is based on the facts and circumstances of the particular business, which the local official will need to gather to make the proper determination.
To be considered substantial, the manufacturing component of a business "must not be de minimis, merely trivial, or only incidental to its principal business.' Id. Factors that may be used to determine whether or not an activity is the primary or substantial activity of a multi-activity business include the manufacturing component's financial receipts, its proportion of the total corporate income, the percentage that the activity comprises of the total capital investment, the number of employees working in the manufacturing component as compared with the total number of employees, or the ratio of manufacturing activities to the entire business. Id. These factors are not a conclusive test of substantiality, but are rather an endeavor to encompass the entire scope of a multi-purpose business venture. Id.
Sales at Wholesale from the Place of Manufacture:
Once it is determined that a substantial part of a business is manufacturing, the next step is to ascertain whether or not the manufacturer qualifies for the manufacturer/ wholesale exemption as provided in the Guidelines. To make this determination, the local official will need to establish that the manufacturer sells its product at wholesale from the place of manufacture.1 Even though most products sold to institutional, commercial, and industrial customers are sold at wholesale, not all are some are sold at retail. 1990 Op. Va. Att'y Gen. 220. If the product is sold at wholesale from the place of manufacture, then the company is exempt from BPOL tax on its manufacturing and wholesale sale receipts, but not on its retail receipts or other licensed activities. Dickerson G.M.C., Inc. v. Commonwealth, 206 Va. 339, 343,143 S.E. 2d 863, 866 (1965).
Conclusion:
To be exempted from the BPOL tax, a manufacturer must sell its products at wholesale from the place of manufacture. While Company A's hardware computer activity is determined to be manufacturing activity, the local official will need to determine factually whether or not: (1) the manufacturing activity is substantial in relation to the total business activities, and (2) whether or not the manufacturer sells its products at wholesale from the place of manufacture.
As a result of this ruling, P.D. 98-40 has been rescinded and is of no further force and effect. This letter is written only for your guidance and is not an enforceable ruling.
If you have other questions, please do not hesitate to contact *****, Tax Assistant Commissioner, Office of Tax Policy at *****.
1 A sale for "wholesale' is defined as the sale of goods for resale by the purchaser and also includes a sale to institutional, commercial, industrial, and governmental users at wholesale, which determination is based on the facts and circumstances of the sale. Guidelines, at 9.
Dear*********:
As you know, the Department of Taxation has reconsidered its findings in Public Document (P.D.) 98-40 after a visit to Company A on June 11, 1998. As a result, the Department is rescinding P.D. 98-40 and replacing it with the conclusion and analysis contained within this document.
Although the Business, Professional and Occupational License (BPOL) tax is a local license tax that is imposed and administered by local officials, the Department of Taxation may promulgate guidelines and issue advisory opinions on a limited basis according to Virginia statute. The Tax Department, however, is not required to interpret local ordinances.
This response is intended to provide advisory guidance only and does not constitute a formal or binding ruling. Copies of cited cases are enclosed for your review.
FACTS
In the initial review of facts, it was determined that Company A supplied its clients with local area networks, software guidance classes, computers, software, peripherals, repair services, Internet access services, and consulting services. Company A constructs the majority of the computers that it sells by compiling parts according to client specifications. The company also incorporates the required programming software that is necessary to operate the computers as standalones or as part of a network. The company claims that it is not subject to the BPOL tax requirements because it is exempted under the manufacturer/wholesale exemption.
In response to your initial request, the Department of Taxation reviewed the situation and determined that Company A was not a manufacturer. After visiting Company A's facilities, and upon reconsideration, the Department finds that Company A performs a manufacturing activity.
However, to be classified as a "manufacturer' for BPOL tax purposes, a company must show that the manufacturing activity is the primary activity and not an ancillary activity when compared to total business activities. This factual analysis will need to be investigated at the local level and should include an evaluation of Company A's gross receipts and other factors that are listed in the following analysis, which should show whether or not the manufacturing activity is the substantial activity in relation to the company's total activities and gross receipts.
If Company A's primary activity is determined to be manufacturing, then it must be ascertained whether or not Company A is selling its products at wholesale from the place of manufacturer for this exemption to apply. This conclusion is based on the following analysis.
ANALYSIS
Generally, localities in Virginia may impose a BPOL license fee or tax on businesses for the "privilege' of engaging in a licensable business within their locality. Code of Virginia § 58.1-3703.1 (A)(1). A company that has multiple business activities may be required to pay a BPOL license fee or tax for each primary business activity. Id. The BPOL tax rate is based on the classification of the primary activity of the business. Department of Tax'n, Guidelines for Business, Professional and Occupational License Tax Imposed By City, County, and Town Ordinances 38 (Jan. 1, 1997) [hereinafter, Guidelines]. Activities that are deemed "ancillary' to a primary activity are taxed at the primary activity rate for BPOL tax purposes. Guidelines, at 39-40.
Localities, however, may not levy a license fee or tax on a business activity that is exempted by statute from the tax. Code of Virginia § 58.1-3703(C). The exemption in question in this situation is the exclusion for a "manufacturer for the privilege of manufacturing and selling goods, wares, and merchandise at wholesale at the place of manufacture.' Code of Virginia § 58.1-3703(C)(4).
Manufacturing Test:
Manufacturing activities are determined by using a three-element analysis, which requires that (1) an original material (2) be processed and (3) changed substantially into a product of a different character from the original material. Guidelines, App. B at 1. In accordance with the public policy of Virginia to encourage manufacturing, this test is applied liberally. Prentice v. City of Richmond, 197 Va. 724 (1956). For a business to be considered a "manufacturer,' the manufacturing portion of the business activity must be a substantial portion of the total business. Guidelines, App. B at 2.
Manufacturing must incorporate the use of original materials, but the original materials need not be natural raw materials. Fairfax County v. DataComp, 36 Va. Cir. 60 (1995). In assembling a computer and peripherals, Company A purchases component parts which include motherboards, memory chips, video controllers, power switches, cabling, cases, monitors, and other parts from original equipment manufacturers. Because these component parts are inputs in making a computer and peripherals and are integrated with other parts by Company A in making computer equipment, these parts are "original materials' for purposes of determining whether Company A is engaged in manufacturing.
.
The second element required in manufacturing is processing of original material, which is a test that also must be applied liberally. This comports with the public policy of Virginia to encourage manufacturing. Assembly may be part of a manufacturing process if it involves a complex procedure and uses numerous parts. Guidelines, App. B at 2. In this case, Company A assembles computer parts and produces computers and Local Area Networks in accordance with client needs. This computer assembly integrates monitors, metal cases, and power supplies into a final product.
Based on the facts presented in your letter and during the on-site visit of Company A, it is my opinion that Company A's assembly of components into a computer is part of a manufacturing process. Company A's assembly involves a complex procedure using numerous parts to create the computer hardware that the company sells. The DataComp case involved facts similar to the facts presented here. In DataComp, the circuit court found that a computer company was a manufacturer. DataComp, 36 Va. Cir. 60 (1995). The facts are also analogous to a case concerning automobile manufacturing in which automotive assembly was found to be manufacturing. In that case, the court ruled that making an automobile would be manufacturing whether or not it was merely the assembling of parts manufactured by other companies. Ex parte Titzel Engineering, Inc., 204 Pa. Super. 457, 464, 205 A.2d 700, 703 (1964).
The third element required in manufacturing is that original material be changed substantially into a product of a different character. It is clear that the use, value, and adaptability of computers and peripheral equipment is substantially different from the original inputs of which it is made.
Substantiality Test:
A business must have its manufacturing activity as its primary or substantial activity (i.e., be substantial in relation to the scope of total activities) to be classified as a manufacturer for BPOL tax purposes. Guidelines, App. B at 2. This part of the analysis is based on the facts and circumstances of the particular business, which the local official will need to gather to make the proper determination.
To be considered substantial, the manufacturing component of a business "must not be de minimis, merely trivial, or only incidental to its principal business.' Id. Factors that may be used to determine whether or not an activity is the primary or substantial activity of a multi-activity business include the manufacturing component's financial receipts, its proportion of the total corporate income, the percentage that the activity comprises of the total capital investment, the number of employees working in the manufacturing component as compared with the total number of employees, or the ratio of manufacturing activities to the entire business. Id. These factors are not a conclusive test of substantiality, but are rather an endeavor to encompass the entire scope of a multi-purpose business venture. Id.
Sales at Wholesale from the Place of Manufacture:
Once it is determined that a substantial part of a business is manufacturing, the next step is to ascertain whether or not the manufacturer qualifies for the manufacturer/ wholesale exemption as provided in the Guidelines. To make this determination, the local official will need to establish that the manufacturer sells its product at wholesale from the place of manufacture.1 Even though most products sold to institutional, commercial, and industrial customers are sold at wholesale, not all are some are sold at retail. 1990 Op. Va. Att'y Gen. 220. If the product is sold at wholesale from the place of manufacture, then the company is exempt from BPOL tax on its manufacturing and wholesale sale receipts, but not on its retail receipts or other licensed activities. Dickerson G.M.C., Inc. v. Commonwealth, 206 Va. 339, 343,143 S.E. 2d 863, 866 (1965).
Conclusion:
To be exempted from the BPOL tax, a manufacturer must sell its products at wholesale from the place of manufacture. While Company A's hardware computer activity is determined to be manufacturing activity, the local official will need to determine factually whether or not: (1) the manufacturing activity is substantial in relation to the total business activities, and (2) whether or not the manufacturer sells its products at wholesale from the place of manufacture.
As a result of this ruling, P.D. 98-40 has been rescinded and is of no further force and effect. This letter is written only for your guidance and is not an enforceable ruling.
If you have other questions, please do not hesitate to contact *****, Tax Assistant Commissioner, Office of Tax Policy at *****.
1 A sale for "wholesale' is defined as the sale of goods for resale by the purchaser and also includes a sale to institutional, commercial, industrial, and governmental users at wholesale, which determination is based on the facts and circumstances of the sale. Guidelines, at 9.
Rulings of the Tax Commissioner