How is Colorado sales and use tax applied when related companies sell building materials to one another, and a contractor installs them into real property?

Plain-English summary

A taxpayer asked how Colorado taxes building materials moving among related companies. The structure: Company A is an out-of-state holding company that owns Company B (manufactures trusses) and Company C (provides construction services), both in Colorado. B sells trusses to C, which installs them in homes; sometimes B both builds and installs the trusses. The taxpayer asked for a ruling, but because the request lacked the information required for a binding private letter ruling, the Department answered with this general information letter and invited a PLR resubmission.

Building materials installed into real property: the contractor is the consumer. Colorado taxes retail sales of tangible personal property (§ 39-26-104). But once building materials are incorporated into real property, they're no longer personal property — so the building owner pays no sales or use tax on them. Instead, the contractor is treated as the provider of a construction service and the consumer of the materials, and the contractor pays sales tax when it acquires the materials.

When the manufacturer is also the contractor — use tax on material cost, not labor. A manufacturer's purchase of property that becomes a component part of its manufactured goods is exempt (§§ 39-26-102(20), 713(2)(b)(I)) — so B's purchases of raw materials that become part of the trusses aren't taxed at purchase. But if that manufacturer is also the contractor that installs the goods (B building and installing trusses), it must pay use tax measured by the cost of acquiring the building materials — not the cost of the labor to manufacture the goods (International Business Machines v. Department of Revenue, 601 P.2d 622 (Colo. 1979)). In other words, the manufacturer-contractor is taxed on what the raw materials cost, not on the value its own fabrication adds.

Controlled companies must use fair market value. The contractor's sales tax is computed on the purchase price it paid. But because B and C are controlled corporations, their sales to each other are not arm's-length, so the purchase price must reflect the full fair market value of the goods — and the Department says it will closely scrutinize the pricing of such related-party transactions to prevent an artificially low taxable base.

For more, the Department pointed to FYI Sales 6 (Contractors and Retailer-Contractors).

What this means for you

Construction contractors

You're generally the consumer of the materials you install into real property, so you pay sales tax when you buy them — and your customer (the building owner) doesn't pay tax on those materials. Build that tax cost into your bids.

Manufacturers who also install (manufacturer-contractors)

Your raw-material purchases that become part of your product are exempt at purchase, but installing the finished product yourself makes you a contractor/consumer who owes use tax on the cost of the materials — not on your manufacturing labor. That labor-vs-materials line (from IBM) is the key to measuring what you owe.

Related-company groups

Selling materials between commonly controlled entities won't let you shrink the taxable base. The price must equal fair market value, and the Department will scrutinize non-arm's-length pricing. Keep documentation showing your intercompany prices are at FMV.

Common questions

Q: Who pays Colorado tax on building materials that get installed into a home — the owner or the contractor?
A: The contractor. Once materials are incorporated into real property they're no longer personal property, so the owner pays no sales/use tax on them; the contractor is the consumer and pays sales tax when it buys the materials.

Q: We manufacture a product and also install it. What's taxed?
A: Your raw materials are exempt at purchase as component parts, but because you install the finished product you owe use tax on the cost of the materials — not on the labor you put into manufacturing (per IBM).

Q: Can our affiliated companies set a low intercompany price to reduce tax?
A: No. Sales between controlled companies must reflect full fair market value, and the Department will closely scrutinize the pricing.

Citations and references

Statutes, rules, and cases:
- § 39-26-104, C.R.S. (sales tax on retail sales)
- § 39-26-102(20), C.R.S. (component-part definition); § 39-26-713(2)(b)(I), C.R.S. (manufacturing component-part exemption)
- International Business Machines v. Department of Revenue, 601 P.2d 622 (Colo. 1979) (manufacturer-contractor use tax on material cost, not labor)
- FYI Sales 6 (Contractors and Retailer-Contractors)

Related rulings

• [[gil-15-015-contractor-pay-tax-when-billing-on-a-time-and-material-contract]] — contractor as consumer; tax timing on contracts
• [[gil-12-010-tangible-personal-property-assembled-in-colorado]] — manufacturing/assembly and the component exemption
• [[plr-10-006-private-letter-ruling]] — component-part exemption survives out-of-state finishing

Source

• Landing page: https://tax.colorado.gov/sales-use-tax-letter-rulings
• Original PDF: https://tax.colorado.gov/sites/tax/files/documents/GIL-09-002.pdf

Original ruling text

Office of Tax Policy
P.O. Box 17087
Denver, CO 80217-0087
[email protected]

GIL-09-002
March 17, 2009
XXXXXXXXXXXXXX
Attn: XXXXXXXXXX
XXXXXXXXXXXXXX
XXXXXXXXXXXXXX
Re: Colorado sales and use tax
Dear XXXXXXXXXX,
This letter is in response to your request for a ruling on how certain intra-company sales of
building materials are taxed in Colorado. I apologize for the delay in responding to your
request. The Department recently acquired the staff necessary to respond to written
requests.
The Department has promulgated a regulation governing the issuance of general
information letters and private letter rulings. A general information letter provides a general
overview of the applicable tax law and is not binding on the department. A private letter
ruling is a determination of the applicability of tax to a specific set of circumstances and is
binding in the department. A party requesting a private letter ruling must provide certain
information and remit a fee. For more information about general information letters and
private letter rulings, please refer to the Department’s regulation 24-35-103.5, C.R.S., which
is available on our web site at: www.colorado.gov/revenue/tax.
Although you ask for a ruling, your request does not contain the information required for a
private letter ruling. I will initially treat your request as one for a general information letter.
You may resubmit this request for a private letter ruling.
Issue
What are the sales and/or use tax consequences of sales of building materials between
controlled companies and to building owners?
Background
You provide the following information. Company A is a holding company and owns
Company B and C. Company B manufactures trusses for buildings and Company C
provides construction services. Company A is not located in Colorado. Company B and C
are located in Colorado. Company B sells trusses to Company C which installs the trusses
for homes. In some cases, Company B both builds and installs the trusses.

Discussion
Colorado levies sales tax on retail sales of tangible personal property. §39-26-104, C.R.S.
Building materials that are incorporated into real property are not considered personal
property and, therefore, the building owner does not pay sales or use tax on such materials.
Instead, the contractor is considered the provider of construction services and is the
consumer of the building materials and supplies used to provide that service. Therefore, the
contractor must pay sales tax when it acquires building materials.
A manufacturer’s purchase of tangible personal property that becomes a component part of
the manufactured good is exempt from sales and use tax. §§39-26-102(20) and
713(2)((b)(I), C.R.S. If the manufacturer is also the contractor, the manufacturer must pay
use tax based on the cost of acquiring the building materials, but not the cost of labor to
manufacture the goods. International Business Machines v. Department of Revenue, 374
601 P2d 622 (Colo. 1979).
The sales tax paid by a contractor is computed on the purchase price paid by the contractor.
However, because Company B and C are controlled corporations (and, therefore, their sales
among themselves are not arms-length transactions), it is important that the purchase price
reflect the full fair market value of the goods. The Department will closely scrutinize the
pricing of such transactions.
For more information about this issue, see Department FYI Sales 6 (Contractors and
Retailer-Contractors -- Definitions and Sales Tax Requirements). You can access this and
other tax resources on our web site at: www.colorado.gov/revenue/tax.
Miscellaneous
Pursuant to state law and department regulation 24-35-103.5, the Department will make
public a redacted version of this letter. Your letter requesting this general information letter
is not made public. I enclose a proposed redacted version of this letter. Please contact me
within 60 days from the date of this letter if you have any questions, comments, or objection
concerning the redacted letter.
I hope this is helpful. As I noted earlier, general information letters provide only a general
discussion of applicable law. You may request a private letter ruling which will provide a
determination regarding the specific circumstances of your client. Please feel free to contact
me if you have any questions.

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Sincerely,

Office of Tax Policy
Colorado Department of Revenue

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