Were a foreign vessel purchase, its California refurbishment parts, and its time charter to the U.S. Navy taxable?

Plain-English summary

A shipping line acquired a roll-on/roll-off vessel from a foreign affiliate for about $10 million and planned roughly $3 million of California refurbishment work. After U.S. Coast Guard compliance work, the vessel would be U.S.-flagged and time-chartered to the Navy.

Its mission was to carry Defense Department cargo from the West Coast to mid-Pacific and Far East ports, with worldwide trading limits and no U.S. coastwise trade. California agreed that this was transportation of property for hire in interstate or foreign commerce.

Section 6368 therefore exempted both the vessel purchase and tangible personal property becoming a component part during construction, alteration, or improvement. The time charter was also not taxable because it was a contract of affreightment for services rather than a lease; the letter added that a bareboat charter still would not be a taxable sale because the vessel was mobile transportation equipment.

What this means for you

Shipping lines, shipyards, and government-charter contractors

Document the vessel's cargo mission, routes, charter structure, and how refurbishment purchases become component parts. The exemption analysis follows the vessel's actual transportation-for-hire use, while charter tax treatment depends on whether the agreement is a service contract or a lease.

Common questions

Q: Was the vessel purchase exempt?

A: Yes, on the stated foreign-commerce transportation facts.

Q: Were California refurbishment materials exempt?

A: Yes, for tangible personal property becoming component parts while the vessel was constructed, altered, or improved.

Q: Was the Navy time charter taxable?

A: No. The letter treated it as a service contract, not a tangible-personal-property lease.

Citations and references

• California Revenue and Taxation Code §§ 6023 and 6368

Source

• Annotated Legal Opinions collection: CDTFA Annotated Legal Opinions
• Annotation page: Annotation 600.0124
• Original supporting opinion: 600.0124 PDF

Original ruling text

600.0124

(916) 445-3723

June 8,

1988

Re: REDACTED TEXT

Dear Mr. REDACTED TEXT

This is in response to your letter of May 31, 1988.

We understand that your client, REDACTED TEXT, will be acquiring or has already acquired a Roll-on/Roll-off vessel from a foreign affiliate for approximately $10 million. The vessel will be refurbished to comply with United States Coast Guard standards for such vessels. The refurbishing work will cost approximately $3 million, of which approximately two-thirds will be labor and the remainder, miscellaneous material and equipment. It is anticipated that the work will be performed in San Diego commencing on or about June 5, 1988. Work must be completed and charter service commenced no later than September 15, 1988. Upon completion of the refurbishing the vessel will be registered and documented under the United States flag. The vessel will then be time chartered to the United States Navy for an initial period.of·17 months; with two additional 17-month option periods. The charter hire paid by the Navy will average
$16,000 per diem over the total contract. Approximately half the per diem charter hire represents the capital cost of the vessel and the other half represents labor and incidental costs.

Mr. REDACTED TEXT

-2-

June 8 , 1988

The vessel will operate in what is called combined Services Management Service. The primary mission will be to provide transportation and stowage of general breakbulk cargo, vehicles, ammunition, refrigerated and dry TEU containers for the Department of Defense. The vessel will not be assigned to the a home port per se, but rather will carry cargo from the West Coasts of the United States to the mid-Pacific islands and Far East ports. Itineraries include Midway and Wake Islands and other areas where there is little or no commercial transportation service. The contractual trading limits are worldwide and the Navy may change the itinerary to include shuttle service between foreign ports and also include Mediterranean and European ports. The vessel will not be used in any coastwide trade within the United States.

)

We are in agreement with this analysis that your client's purchase of the vessel qualifies for exemption, pursuant to Revenue and Taxation Code Section 6368, as a watercraft for use in interstate or foreign commerce involving the transportation of property for hire. Tax will not apply to the sale of the watercraft REDACTED TEXT nor will tax apply to any sales of tangible personal property becoming a component part of the watercraft in the course of constructing, altering or improving the same. Likewise, the time charter agreement is not subject to tax. The time charter is a contract to affreighment. It is a service contract, not a contract for the lease of tangible personal property. Even if this were a bareboat charter (a lease of tangible personal property), it would remain without tax consequence since the vessel constitutes mobile transportation equipment under Revenue and Taxation Code Section 6023. A lease of mobile transportation equipment is not a sale. Very truly yours, Gary J.. Jugum Assistant Chief Counsel GJJ: sr