Could a federal construction subcontractor avoid use tax on materials and fixtures because its contract described the property as machinery and equipment for resale?

Plain-English summary

A subcontract on a United States construction project certified that property characterized as machinery and equipment would be resold through the prime contractor to the federal government.

The opinion explained that Regulation 1521, not the parties' label, determined the tax classification. A federal construction contractor was a retailer of machinery and equipment, so qualifying items could be sold through the prime contractor for resale to the government.

But the auditor found that the subcontractor had instead bought materials and fixtures ex tax and used them in performing the contract. Federal construction contractors were consumers of those items, so use tax measured by purchase price applied.

The source did not finally resolve the factual classification dispute. It told the taxpayer that it could challenge the auditor's conclusion through a timely petition for redetermination or a refund claim after payment.

Common questions

Did the contract's resale wording settle the classification?

No.

How were machinery and equipment treated?

The subcontractor could sell qualifying machinery and equipment to the prime contractor for resale to the federal government.

How were materials and fixtures treated?

The subcontractor consumed them and owed use tax if it bought them ex tax.

Citations and references

• Cal. Code Regs., tit. 18, reg. 1521(a)(3) — United States construction-contractor status
• Cal. Code Regs., tit. 18, reg. 1521(b)(1)(A) and (B) — consumer treatment for materials and fixtures; retailer treatment for machinery and equipment

Source

• Annotated Legal Opinions collection: https://cdtfa.ca.gov/taxes-and-fees/annotations-menu.htm
• Annotation page: https://cdtfa.ca.gov/lawguides/vol2/suta/565-0000-all.html
• Original supporting opinion: https://cdtfa.ca.gov/lawguides/annotations/565-0185.pdf

Original ruling text

STATE OF CALIFORNIA

565.0185

STATE BOARD OF EQUALIZATION
(916) 445-5550
March 5, 1990
Dear __,
This is in response to your letter dated January 23, 1990. Your former subsidiary, _ Construction Company, was assessed additional sales tax in a recent audit. This liability arose by virtue of a subcontract had with , a prime contractor for the United States Government. In its contract with , certified: “that the tangible personal property purchased from Construction Co. on our Contract No. which will be “Machinery and Equipment” as defined in Regulation 1615 [sic] of the California State Board of Equalization, will be resold by us in the form of tangible personal property to the United States Government.” Regulation 1521, a copy of which was attached to the audit report provided to you, is the regulation that governs this subject (Regulation 1615 was incorporated into Regulation 1521 in 1976). and its subcontractors were United States construction contractors with respect to
contract with the United States government. (Reg. 1521(a)(3).) A United States construction contractor is a retailer of machinery and equipment furnished in connection with the performance of a construction contract with the United States government. (Reg. 1521(b)(1)(B).) If you had furnished machinery and equipment pursuant to your contract with , then you would have been regarded as selling that machinery and equipment to for resale to the federal government. No tax would apply to your sale since your sale would have been a sale for resale. However, as stated in the audit report, the auditor concluded that you had purchased materials and fixtures ex tax and used those materials and fixtures in connection with the performance of the contract with the United State government. (For purposes of construction contracts, “materials,” “fixtures,” and “machinery and equipment” are defined in subdivision (a) of Regulation 1521.) As discussed in subdivision (b)(1)(A) of Regulation 1521, United States construction contractors are regarded as consumers of materials and fixtures which they furnish and install in performance of contracts with the United States government. Since you purchased the materials and fixtures ex tax, use tax measured by purchase price applied to your use on the material and fixtures in performance of the construction contract. We note that the provision from the contract quoted above states that would purchase for resale such property that is regarded as machinery and equipment for purposes of sales and use tax. We also note that the other provision from the contract that you have provided us states that the contract is based on resale to the government. The parties apparently believe that the items
___ furnished and installed were machinery and equipment. Our audit staff disagrees, concluding that these items were materials and fixtures. If you disagree with this conclusion, you

may file a petition for redetermination within 30 days from the date of mailing to you the Notice of Determination, or you may file a claim for refund after paying the amount assessed. If you have further questions, feel free to write again. Sincerely,

David H. Levine
Tax Counsel
DHL:wak
1960C