How did Illinois tax related-company equipment leases, a dental lab's custom dentures, and a dental practice's supplies?

Plain-English summary

Three related companies owned and leased equipment, manufactured patient-specific dentures, and operated a dental practice.

IDOR treated custom dentures as a service transaction. The dentist and laboratory were primary and secondary servicemen in a multi-service arrangement, so registration and de minimis status determined which party owed Service Occupation Tax or Use Tax.

Dentures generally qualified as medical appliances taxed at the 1% State rate. Dental hand instruments, impression materials, fixed assets, and items not becoming a physical part of teeth or dentures were taxed at 6.25% when sold to dentists.

For equipment, a nominal-buyout lease was a conditional sale with taxable receipts. A true lease used no buyout or a fair-market-value option; the lessor owed Use Tax on cost and rent was not taxed.

What this means for you

Related-company structure does not replace transaction classification. Analyze dental property transfers under serviceman rules and each equipment agreement as a true lease or conditional sale.

Common questions

What rate applied to dentures? Generally the 1% State medical-appliance rate.

Were ordinary dental supplies also at 1%? No; the listed nontransferred supplies were at the full rate.

Citations and references

• 86 Ill. Adm. Code 140.101(f), 140.145, 130.310, 130.2010, 130.220, and 150.310(a)(3).

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/sales-tax/2016.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/sales-tax/2016/st-16-0051-gil.pdf

Original ruling text

ST 16-0051-GIL 09/30/2016

LEASING

Information regarding the tax liabilities in lease situations may be found at 86 Ill. Adm. Code
130.220 and 86 Ill. Adm. Code 130.2010. (This is a GIL.)

September 30, 2016

Dear Xxxxx:
This letter is in response to your letter dated June 20, 2016 in which you request information.
The Department issues two types of letter rulings. Private Letter Rulings (“PLRs”) are issued by the
Department in response to specific taxpayer inquiries concerning the application of a tax statute or
rule to a particular fact situation. A PLR is binding on the Department, but only as to the taxpayer
who is the subject of the request for ruling and only to the extent the facts recited in the PLR are
correct and complete. Persons seeking PLRs must comply with the procedures for PLRs found in the
Department’s regulations at 2 Ill. Adm. Code 1200.110. The purpose of a General Information Letter
(“GIL”) is to direct taxpayers to Department regulations or other sources of information regarding the
topic about which they have inquired. A GIL is not a statement of Department policy and is not
binding on the Department. See 2 Ill. Adm. Code 1200.120. You may access our website at
www.tax.illinois.gov to review regulations, letter rulings and other types of information relevant to your
inquiry.
The nature of your inquiry and the information you have provided require that we respond with
a GIL. In your letter you have stated and made inquiry as follows:
Here is the scenario:
Company A: owns equipment and leases to Company B and Company C
purchases all lab supplies and raw materials, delivers to
Company B and Company C owns and rents the building that
houses Company B and Company C
Company B: Laboratory - manufactures dentures, custom per patient
Company C: Dental practice
Sales and Use tax issues:
Company A: pays sales tax to state for gross amount of rents received for both
the real estate and the equipment?
Company B: Charges sales tax on the sale of the completed dentures to
Company C?

*
*

Pays use tax on supplies purchased for which no sales tax was
charged?
Pays use tax on raw materials used in the manufacturing process
of the dentures?

*Company C: Charges sales tax on the sale of the dentures to the patient?
*
Pays use tax on supplies purchased on which no sales tax was
charged?
DEPARTMENT’S RESPONSE:
Sales Tax
The Illinois Retailers' Occupation Tax Act imposes a tax upon persons engaged in this State in
the business of selling tangible personal property at retail to purchasers for use or consumption. See
86 Ill. Adm. Code 130.101. In Illinois, a Use Tax is also imposed on the privilege of using, in this
State, any kind of tangible personal property that is purchased anywhere at retail from a retailer. See
86 Ill. Adm. Code 150.101. These taxes comprise what is commonly known as sales tax in Illinois.
Service Occupation Tax
Custom work performed for patients (e.g., the manufacturing of dentures, custom per patient)
would be considered a sale of service. As such, under Illinois law, a dentist engaged primarily in a
service occupation is deemed a serviceman. The purchase of tangible personal property that is
transferred to service customers may result in either Service Occupation Tax liability or Use Tax
liability for the serviceman, depending upon which tax base the serviceman chooses to calculate his
or her liability. A serviceman may calculate his or her tax base in one of four ways: (1) separately
stated selling price; (2) 50% of the entire bill; (3) Service Occupation Tax on cost price if he or she is
a registered de minimis serviceman; or (4) Use Tax on cost price if the serviceman is de minimis and
is not otherwise required to be registered under Section 2a of the Retailers’ Occupation Tax Act.
Using the first method, servicemen may separately state the selling price of each item
transferred as a result of sales of service. The tax is based on the separately stated selling price of
the tangible personal property transferred. If servicemen do not wish to separately state the selling
price of the tangible personal property transferred, those servicemen must use the second method
where they will use 50% of the entire bill to their service customers as the tax base. Both of the
above methods provide that in no event may the tax base be less than the cost price of the tangible
personal property transferred. Under these methods, servicemen may provide their suppliers with
Certificates of Resale when purchasing the tangible personal property to be transferred as a part of
the sales of service. They are required to collect the corresponding Service Use Tax from their
customers.
The third way servicemen may account for their tax liability only applies to de minimis
servicemen who have either chosen to be registered or are required to be registered because they
incur Retailers’ Occupation Tax liability with respect to a portion of their business. Servicemen may
qualify as de minimis if they determine that their annual aggregate cost price of tangible personal
property transferred incident to sales of service is less than 35% of their annual gross receipts from
service transactions (75% in the case of pharmacists and persons engaged in graphic arts
production). See, 86 Ill. Adm. Code 140.101(f). This class of registered de minimis servicemen is
authorized to pay Service Occupation Tax (which includes local taxes) based upon the cost price of

tangible personal property transferred incident to sales of service. Servicemen that incur Service
Occupation Tax collect the Service Use Tax from their customers. They remit the tax to the
Department by filing returns and do not pay tax to suppliers. They provide suppliers with Certificates
of Resale for the tangible personal property transferred to service customers.
The final method of determining tax liability may be used by de minimis servicemen that are
not otherwise required to be registered under Section 2(a) of the Retailers’ Occupation Tax Act.
Servicemen may qualify as de minimis if they determine that their annual aggregate cost price of
tangible personal property transferred incident to sales of service is less than 35% of their annual
gross receipts from service transactions (75% in the case of pharmacists and persons engaged in
graphic arts production). Such de minimis servicemen may pay Use Tax to their suppliers or may
self-assess and remit Use Tax to the Department when making purchases from unregistered out-ofState suppliers. These servicemen are not authorized to collect “tax” from their service customers
because they, not their customers, incur the tax liability. These servicemen are also not liable for
Service Occupation Tax. It should be noted that servicemen do not have the option of determining
whether they are de minimis using a transaction-by-transaction basis.
Assuming that a dentist qualifies as a serviceman under the fourth method above, (the
dentist’s annual aggregate cost price of tangible personal property transferred incident to sales of
service is less than 35% of his or her annual gross receipts from service transactions and he or she is
not otherwise required to be registered under Section 2a of the Retailers’ Occupation Tax Act) the
dentist could pay his or her supplier Use Tax on the cost price of the tangible personal property
transferred to his or her customers in conducting his or her service.
You appear to be describing a multi-service situation. When a serviceman contracts out all or
a portion of the service that he will provide, he is acting as a primary serviceman in a multi-service
situation. As a primary serviceman (dentist), he engages the services of a secondary serviceman
(laboratory) in order to obtain all or part of the product and services desired by the service customer.
Whether the primary and secondary servicemen are registered or not or de minimis or not will
determine what type of tax will be incurred as well as who will incur the tax. The provisions of 86 Ill.
Adm. Code 140.145 explain the different ways in which servicemen may handle their tax liability in
multi-service scenarios.
Please note that a medical appliance is an item that is intended by the manufacturer to directly
substitute for a malfunctioning part of the body. Dentures generally qualify as such and are taxed at
the lower State rate of 1%. See, 86 Ill. Adm. Code 130.310. Also, dentists incur Use Tax when they
buy consumable supplies and fixed assets for use in their practice (see 86 Ill. Adm. Code 130.310)
that are not transferred to patients. Examples of items that would be subject to the full rate of tax at
6.25% when sold to dentists are dental hand instruments, materials used for dental impressions, as
well as other items used by dentists which do not become a physical part of teeth or dentures.
Leases
Please note that the State of Illinois taxes leases differently for Retailers’ Occupation Tax and
Use Tax purposes than the majority of other states. For Illinois sales tax purposes, there are two
types of leasing situations: conditional sales and true leases. A conditional sale is usually
characterized by a nominal or one dollar purchase option at the close of the lease term. Stated
otherwise, if lessors are guaranteed at the time of the lease that the leased property will be sold, this
transaction is considered to be a conditional sale at the outset of the transaction, thus making all
receipts subject to Retailers’ Occupation Tax. See 86 Ill. Adm. Code 130.2010.

A true lease generally has no buy out provision at the close of the lease. If a buy-out provision
does exist, it must be a fair market value buy out option in order to maintain the character of the true
lease. Lessors of tangible personal property under true leases in Illinois are deemed end users of the
property to be leased. As end users of tangible personal property located in Illinois, lessors owe Use
Tax on their cost price of such property. The State of Illinois imposes no tax on rental receipts.
Consequently, lessees incur no tax liability. See 86 Ill. Adm. Code 130.2010. However, lessors and
lessees may make private contractual arrangements for a reimbursement of the tax to be paid by the
lessees.
The above guidelines are applicable to all true leases of tangible personal property in Illinois
except for automobiles leased under terms of one year or less, which are subject to the Automobile
Renting Occupation and Use Tax found at 35 ILCS 155/1 et seq.
As stated above, in the case of a true lease, the lessors of the property being used in Illinois
are the parties with Use Tax obligations. The lessors should either pay their suppliers, if their
suppliers are registered to collect Use Tax, or self-assess and remit the tax to the Department. If the
lessors have already paid tax in another state with respect to the acquisition of the tangible personal
property, they are exempt from Use Tax to the extent of the amount of such tax properly due and paid
in such other state. See 86 Ill. Adm. Code 150.310(a)(3).
I hope this information is helpful. If you require additional information, please visit our website
at www.tax.illinois.gov or contact the Department’s Taxpayer Information Division at (217) 782-3336.
Very truly yours,

Debra M. Boggess
Associate Counsel
DMB:bkl