Was a paper-mill capacity project entirely new construction, or did replacing and upgrading existing equipment count as remodeling?

Plain-English summary

A paper mill planned a project intended to increase the speed and annual output of its paper-making operation. The plant, the paper machine, and the other machinery involved had been treated as real property in an audit of the prior owner.

The Comptroller did not accept the requester's position that the entire project was new construction merely because it increased capacity. The letter said capacity-increasing work was treated as new construction for refineries and chemical plants, while replacement or upgrading of equipment in other situations was remodeling.

This paper-mill project therefore contained both categories. The added electrical room appeared to add square footage and qualify as new construction. Additions, deletions, and replacements involving the existing equipment were remodeling. The letter directed the taxpayer to Rule 3.357(b)(7) for contracts combining remodeling and new construction.

What this means for you

For this 1991 paper-mill project, increasing production capacity did not make every part of the work new construction. The tax treatment depended on the work performed: added space was treated differently from changes to existing real-property equipment.

Common questions

Was the whole project new construction? No.

What part appeared to be new construction? The new electrical room that added square footage.

What part was remodeling? Additions, deletions, or replacements to the existing equipment.

Did the letter treat the paper machine as tangible personal property? No. It said the plant, paper machine, and other involved equipment had been treated as real property in a prior audit.

Citations and references

• 34 Tex. Admin. Code Rule 3.357(b)(7) — remodeling and new construction performed under the same contract

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9106L1119B10

Original ruling text

June 28, 1991

Dear **:

Thank you for your letter regarding the applicability of sales and use tax to
the labor charges for a construction project as described below.

You stated that the project is described as a "paper machine rebuild"; however,
the project actually involves construction work inside and outside of an
enclosed plant of substantial size that contains numerous machines and pieces
of equipment. In a sales tax audit of the prior owner, the plant, "paper
machine," and other machinery and equipment involved in this project
constituted real property for sales and use tax purposes. The purpose of the
project is to increase the speed of the paper machine which will result in an
increase in the production of paper on an annual basis.

Construction work performed to increase capacity is considered new construction
when performed on refineries and chemical plants. Replacement or upgrading of
equipment in all other situations is considered remodeling.

The project you described is both new construction and remodeling of an
existing structure. The addition of the electrical room appears to be the
addition of square footage and new construction. The additions, deletions or
replacements to the existing equipment are remodeling. Please refer to Section
(b) (7) of the enclosed Rule 3.357, Real Property Repair and Remodeling,
concerning remodeling and new construction performed under the same contract.

This opinion is based on the facts presented. If there are additional or
different facts, the opinion may change.

If you have any questions or need additional information, you may call toll
free 1-800-252-5555 or the regular number 512/467-4600. My extension is 3-4666.
You may write to Tax Administration Division.

Sincerely,

Jo Ann Dieck
Tax Administration Division

May 23, 1991

Ms. Lucy Glover
Manager, Tax Administration Division

111 W. 6th Street
Austin, Texas 78701

Dear Ms. Glover:

We respectfully request that your office issue a written ruling regarding the
applicability of Texas sales and use tax to the labor charges for the
construction project described below. This ruling request (i) sets forth our
position regarding the appropriate tax treatment of the project and labor
charges, (ii) provides a brief description of the operation of the plant, (iii)
provides a detailed description of the project in the attached Exhibit B and
(iv) discusses how certain aspects of the project result in increased capacity.

We believe that the project constitutes new construction as it is a
construction project to increase the capacity of an existing plant within the
rationale of the following rulings issued by the Comptroller's office: (i) Tom
Soto letter dated February 16, 1989 (Document 902L0932A01) (the "Soto Letter")
and (ii) Larry Koenig letter dated March 13, 1990 (Document 9003L0990D09) (the
"Koenig Letter"). Accordingly, the labor charges involved in such project are
exempt from Texas sales and use taxes.

The construction project is described in the attached Exhibit B as a "paper
machine rebuild"; however, the project actually involves construction work
inside and outside of an enclosed plant of substantial size that contains
numerous machines and pieces of equipment. The machines and equipment, some of
which are connected as parts of the "paper machine," are utilized in a
basically continuous process to produce paper. The use of the term "paper
machine" is based on tradition relating to the production of paper 200 years
ago when it was a one-man operation involving a single machine.

In a sales tax audit performed prior to the acquisition of the plant by the
present owner, the Comptroller's office agreed that the plant, "paper machine,"
and other machinery and equipment involved in this project constitute real
property for Texas sales and use tax purposes.

The paper production process starts at the pulp mills that are located at the
facility. As described more fully in Exhibit A [FOOTNOTE: Exhibit A contains
excerpts from a brochure that describes paper production at the facility that
is the subject of this ruling request. The first page of the exhibit states
that "[n]ine batch digesters turn wood chips into nearly 800 tons of pulp a
day." The current production is actually 900 metric tons of unbleached pulp per
day.], wood chips are delivered to the facility and placed into batch digesters
where they are "pressure cooked" in an alkaline chemica1 solution in order to
produce pulp. The pulp is washed and bleached and the resulting slurry is moved
by pipe to the paper plant.

The production of paper from the slurry involves several functions, each of
which may include the use of several types of equipment. Set forth below is a
brief description of the paper production process by function.

(1) Stock Preparation - Stock streams (slurry), which are 96% water and 4% pulp
as they come from the pulp mills, are combined and prepared for further
processing through the use of pumps, blend chests and leveling chests. Some of
this equipment is located outside of the enclosed part of the paper plant.

(2) Cleaning and Screening - Centrifugal cleaners and pressurized screens are
used to remove foreign materials from the slurry.

(3) Wet End - The Head Box spreads the slurry across two moving wires. The
Fourdrinier and Duoformer then remove water from the slurry through the use of
vacuum and gravity.

(4) Press Section - A series of mechanical presses remove water from the sheet.

(5) Main Dryer Section - Rollers with steam are utilized to remove water from
the sheet by drying.

(6) Speedsizer - This equipment applies size compound to the sheet, so that the
sheet will be able to hold ink without having the ink spread.

(7) Afterdryer - Dryers are utilized to dry the size compound applied to the
sheet.

(8) Finishing Calender - A mechanical press is used to improve the profile of
the sheet and make a more uniform product.

(9) Reel - This equipment winds the sheet into large rolls that are removed
from the paper machine for further processing.

(10) Off-Machine Coater - This equipment applies a clay based coating, dries
the sheet and winds it back up into rolls.

(11) Supercalender - Stacked rollers press the sheet to provide a quality
gloss.

(12) Winder - This equipment cuts the rolls into the required widths utilizing
slitters and rolls the paper back up.

(13) Packaging Line - At this point, the smaller rolls of paper are wrapped for
shipment.

The attached Exhibit B contains a detailed description of the construction
project relating to the paper plant. As noted on page 1 of the exhibit, the
purpose of the project is to increase the speed of the paper machine to 2500
fpm. The speed of the paper machine prior to the construction project was 2000
fpm; thus, the project increases the speed or capacity of the machine by 25%.
On an annual basis, the plant will be able to produce an additional 37,000 tons
of paper. Such an increase clearly constitutes "expanded capacity" within the
meaning of the above-referenced Comptroller's letter rulings.

The construction work being performed can be divided into broad categories.
First, as noted in the Electrical section on page 6 of Exhibit B, the increased
capacity requires the construction of a new electrical room containing new
equipment to handle the increased electrical demands. This room is an addition
to the plant that expands the enclosed square footage. Second, as described in
the Stock Preparation section on page 1 of Exhibit B, a new leveling chest
(Change No. 23) and a new blend chest (Change No. 5, 24) are being constructed
adjacent to the plant. Third, new equipment is being installed both on and
adjacent to the paper machine in existing square footage of the plant. Much of
the new equipment replaces old equipment that is being removed. Finally, some
equipment is being relocated on the paper machine or other machines in order to
accommodate the increased capacity.

The above-described activities, all of which serve to increase the capacity of
the paper plant [FOOTNOTE: The fact that virtually all of the work described
on the attached exhibit is for purposes of increasing the capacity of the paper
plant is discussed in more detail below], are the same as the construction
activities deemed new construction in the Soto Letter. In this connection, the
Soto Letter noted that the project added new equipment, replaced existing
equipment, added floor space and remodeled current floor space for the purpose
of increased capacity. Similarly, the project herein adds floor space through
construction of a new electrical room, adds new equipment both outside and
inside of the enclosed plant and replaces existing equipment. In addition, the
relocation of existing equipment on the paper machine and other machines is
basically the same as the remodeling of existing floor space that was deemed
new construction in the Soto Letter. Consequently, to the extent the
construction work adds capacity to the existing plant, it is deemed new
construction under the rationales of the Soto Letter and the Koenig Letter.

The detailed description of the construction in Exhibit B notes in several of
the entries that the reason for the particular work is the increased capacity
or flow. In addition, certain work entries clearly involve the increased
capacity. Set forth below are further explanations of certain of the work
entries in order to assist the Comptroller's office in understanding how the
work involved in the remaining entries is required for the increased capacity;
such entries are referenced by heading and page number and may be further
referenced by the Change No. [FOOTNOTE: The detailed description in Exhibit B
is of the project, after taking into account the change orders that were issued
on the project. The Change No. references on the detailed description merely
reflect that the particular change order made a change in the work originally
contracted in that portion of the project. In reviewing the attached detailed
description, you may note that there is not a reference to Change No. 37.
Change No. 37 added a vendor's name to the Press description and, therefore,
should have been noted on page 3 of the detailed description.] notations in the
left column of Exhibit B.

Stock Preparation

Page 1 - Change No. 2, 23, 3, 4, 5, 24 - The new blend and leveling chests are
necessary to increase the flow of the slurry into the plant. The new pumps and
spares are required for the increased flow. Change No. 6, 25 - The trash screen
is being installed principally for quality concerns; however, the work relating
to this change constitutes much less than 5% of the project.

Stock Cleaning and Screening

Page 2 - Change No. 26 - The new pump is necessary for the increased flow of
the slurry. Change No. 8, 28 - The new screens are required to permit treatment
of the increased flow; otherwise, the plant would be hydraulically limited.

Headbox, Fourdrinier and Top Wire Former

Page 2 - Change No. 9, 41 - The new head box is required to handle the
increased flow of the slurry and spread the slurry across the wire. Change No.
10 - These changes are necessary to increase the water removal capacity as a
result of the increased flow.

Saveall and White Water

Page 2 - Change No. 11, 29, 12, 30 - These changes are necessary to handle the
increased volume of water that must be removed from the increased flow of the
slurry. The water that is removed is filtered and reused in the paper making
process.

Broke Handling

Page 3 - Change No. 14, 33 - The new deflaker, which is used to break up clumps
of fiber in the paper stock, is necessary because of the increased speed of the
paper machine.

Press

Page 3 - All of these changes are necessary due to the increased speed of the
paper machine. The two dryers are needed to more quickly dry the stock due to
the increased speed of the paper machine.

Dryers and Size Press

Pages 3 and 4 - Change No. 15, 16, 42, 17, 34, 18, 19 - The changes relating to
the dryers are necessary to remove water from the paper stock more quickly due
to the increased speed of the paper machine.

Calender and Reel

Page 5 - Change No. 38, 39 - This work is primarily for purposes of improving
the quality of the paper rolls. Such work, together with the work described
above in connection with Stock Preparation, Page 1, Change No. 9, 25, involves
less than 5% of labor costs involved in the project.

Paper Machine Mechanical and Electrical Helper Drive

Page 5 - Change No. 40, 20 - This work is necessary because of the increased
speed of the paper machine.

Off-Machine Coater, Supercalenders, Winder and Rol1 Wrap

Page 6 - Change No. 21, 36 - The slitter section cuts the paper into the
desired width rolls. The slitter section changes are necessary in order to
speed up the slitter operation so that it can handle the increased production.

Coating Preparation

Paqe 6 - Change No. 22 - This work is required in order to increase the amount
of size (coating) that is provided to the paper machine. The increase in the
amount of size is necessary due to the increased speed of the paper machine.

Electrical

As discussed above, a new electrical room is being constructed to satisfy the
increased electrical demands of the production increase.

As described above and in Exhibit B, the construction work being performed
increases the capacity of an existing plant. Accordingly, pursuant to the
rationales of the Soto Letter and the Koenig Letters, such work constitutes new
construction for Texas sales and use tax purposes and, therefore, the labor
charges involved are exempt from Texas sales and use taxes.

We respectfully request that your office issue a written ruling regarding the
applicability of Texas sales and use taxes to the construction work described
above and in the attached exhibit. If your office determines to issue a ruling
that disagrees with our position as described above, we request an opportunity
to further discuss this matter with your office prior to the issuance of such
ruling.

Should you have any questions or require any additional information in this
connection, please either ** (*) or *
(****).

Very truly yours,

EXHIBIT B

Paper Machine Rebuild

SCOPE OF WORK

Paper Machine Rebuild

PROJECT OBJECTIVE

Change No. 1 Paper Machine Rebuild project will modify the Paper Machine and
its auxiliary systems. The rebuilt machine will have a top speed of 2500 fpm
while maintaining or improving product quality.

STOCK PREPARATION

Change No. 2 Beginning at the hardwood and pine blend chests in the pulp mill,
new hardwood and pine blend chest pumps will be installed to increase capacity.

Change No. 23 A new 20,000 gallon tile hardwood leveling chest with Black
Clawson agitator and pumps will be installed across the roadway outside of the
east wall of the machine room stock preparation area.

Change No. 3 The existing pine mix chest in the stock preparation area will be
used as a pine leveling chest. A new pump and a spare will be installed.

Change No. 4 There will not be any changes in the refining system.

Change No. 5, 24 A new tile blend chest with Black Clawson agitator and pumps
will be installed outside of the west machine room wall adjacent to the
saveall.

Change No. 6, 25 A Bird Escher Wyss trash screen will be installed to remove
large debris from the stock. The mid consistency stock screens have been
deleted from the project.

A new machine chest pump and spare will be installed.

A new stuff box, designed for the increased flow, will be located on the
mezzanine.

STOCK CLEANING AND SCREENING

Change No. 26 The stock from the new stuff box will go to the suction of a new
variable speed, low pulse design, Ahlstrom fan pump (primary cleaner pump)
located in the basement at the existing silo (wire well). A new fan pump
suction transition piece will be included. A single fan pump supply system
will be used.

Change No. 7, 27 A new Celleco cleaner system sized for the increased flow
will be located on the drive side of the paper machine. The cleaner system
will include five cleaning stages and a rejects control unit to minimize fiber
loss. New pumps and tanks will be installed in the basement to service the
system.

Change No. 8, 28 A new, low pulse design, Voith slotted pressure screening
system will be located in the basement. New "cotton ball" tested approach flow
piping will deliver screened stock to the headbox.

HEADBOX, FOURDRINIER AND TOP WIRE FORMER

Change No. 9, 41 A new Voith hydraulic headbox with pulse dampening provisions
will be provided. The new headbox will be installed in the same location as
the existing headbox. The new headbox requires 51 rods. Measurex Thermotrol
III rods will be purchased separately from the headbox.

Change No. 10 The Fourdrinier table will be modified per Johnson Foil
recommendations. A new Voith Duoformer D cantilevered top wire unit will be
installed. The Fourdrinier supports will be redesigned to allow for
front-lifting for faster wire stringing.

SAVEALL AND WHITE WATER

Change No. 11, 29 A new couch pit pump having a greater capacity will replace
the existing unit. The couch pit agitator drive will be upgraded per Impco
recommendations.

Three discs will be added to the saveall. The saveall broke conveyor will be
replaced.

Change No. 12, 30 A new press pit, consistency and pulper dilution pumps will
replace the existing units. The press pit agitator drive will be replaced per
Impco recommendations.

BROKE HANDLING

Change No. 13, 31, 32 The existing size press pulper will be taken out of
service. The existing breaker calender pulper will be reused as the new size
press pulper. A new Black Clawson agitator and pump will be installed. The
existing calender, reel and coated broke pulpers will be reused with new Black
Clawson agitators and pumps to handle the projected production increase.

Change No. 14, 33 One new Voith deflaker will be added to the existing broke
cleaning system. New pumps will replace the existing coated and uncoated broke
chest pumps.

PRESS

The existing press section will be reused with modifications needed to
accommodate the increased machine speed. New supports for the center roll will
be provided to increase stability. The second press felt run will be modified.
A second uhle box will be added. A suction felt roll will be installed to
shorten the draw between the second and third presses. A new felt and paper
rolls will be installed.

A new first press steam box will be installed to aid water removal.

The third press bottom controlled crown roll hydraulic unit will be upgraded to
allow running the press at a maximum of 500 PLI nip pressure.

The alternates or re-installing the smoothing press and elimination of the
smoothing press were evaluated.

The smoothing press will not be used because no appreciable increase in quality
could be established, and it would present a problem with the most effective
sheet transfer to the dryer section.

New press dry end frame work will be installed to support two (2) Bel-Run
dryers.

DRYERS AND SIZE PRESS

Change No. 15 A new press dry end frame will be installed to support two
Bel-Run dryers. The existing drying section will be modified to increase the
number of dryers from 72 to 73. Existing felt dryers will be relocated for
this increase. Whenever possible, dryer section components will be reused or
relocated.

Change No. 16, 42 The new dryer arrangement will consist of four drive
sections before the Speedsizer and one drive section after the size press.

The first section will be eight (8) dryers arranged in a Bel-Run design. A
transfer box will be installed to facilitate the transfer of the sheet from the
press section to the first dryer.

The second, third and fourth will be made up of 16, 18 and 14 dryers
respectively. These sections will be of the conventional top and bottom felt
design.

Change No. 17 The existing size press will be removed. This area will contain
dryers which will be the transfer stage between the third and fourth sections.
The existing size press supply system will be removed.

Change No. 34 The existing calender and remaining parts of the roll coater
located at the dry end of the new fourth section will be removed. In this area
a new Voith Speedsizer, designed for higher speeds and capable of running size,
pigmented size or pre-coating will be installed to allow for an increase in
before size press drying at the higher machine speeds. A new size supply
system will be installed on the basement floor elevation to service the new
unit. The existing size press supply system will not be relocated to service
the new Speedsizer because of the greater volume of size flow needed to meet
the vendors requirements.

Change No. 18 The fifth dryer section (after dryer section) will have 17
dryers. This section will be of conventional design. The first two dryers
will be unfelted and coated for easy release.

Change No. 19 The Measurex frame before the existing size press will be
removed. The Impact moisture profile control will be relocated to the last
paper machine dryer.

The existing hood and air system will be modified and expanded to satifsy the
requirements of the new dryer section arrangement.

The existing lube oil system will be modified for the new dryer section
arrangement.

The existing steam and condensate system will be modified and expanded.

CALENDER AND REEL

Change No. 38 The existing Hi-Nip dry end calender will be changed to a
Tri-Pass design for better control. A new Ihrle Walzen calender roll
temperature control system will also be installed.

Change No. 39 The secondary arms of the existing reel will be rebuilt with
automatic nip control per Beloit recommendations.

TURBINE DRIVE AND STEAM SUPPLY

The existing turbine capacity and steam supply are adequate to meet the demands
of the production increase. The lineshift speed will not be changed.

PAPER MACHINE MECHANICAL AND ELECTRIC HELPER DRIVE

Change No. 40 For the existing lineshaft, as many components as possible of
the existing drive units will be reused. This includes differentials, PIV
units, clutch assemblies, inching drives and transfer gear cases. The transfer
gear cases will require new gears, shafts, bearings, shims and spacers to meet
the speed increase demands. Beloit will supply the additional equipment for
needed mechanical drive.

Change No. 20 A new 5A differential will be installed at the wire turning roll
along with a special transfer gear case to allow a 200 HP electrical helper
drive. New transfer gear cases will be installed for the Twinver press first
bottom roll, metering type size press top roll, calender and reel. New clutch
and inching drives will be installed on the second, third and fifth dryer
sections.

The Duoformer D will have a 400 HP electrical drive. The couch roll will have
a new 500 HP motor. A new 400 HP motor will be installed for the second press
top roll. The Speedsizer bottom applicator roll required a new 75 HP motor.
The first dryer section will be felt driven by three 75 HP motors. Four new
paper roll drives and two new Mt. Hope roll drives will be needed at the
Speedsizer. A new 150 HP motor will drive the third press bottom roll.

OFF-MACHINE COATER, SUPERCALENDERS, WINDER AND ROLL WRAP

Change No. 35 At the off-machine coater, new Impact gas infrared dryers will
be added after each coater station to increase drying capacity for the speed
increase. Mechanical changes are not anticipated for the projected higher
speeds.

The existing supercalender operation was determined to be capable of meeting
the production increase without any modifications.

Change No. 21, 36 A new Beloit Lenox auto trim slitter section, a dual fixed
roll after slitter section and before slitter spreader roll with fixed mounting
will be installed on the existing winder to reduce slitter change time and
improve web placement. Speed-up of the winder will not be needed.

The existing roll-wrap station is adequate, without any changes, to handle to
increased production.

COATING PREPARATION

Change No. 22 In the existing coating preparation area, a new blend tank with
a higher shear agitator, transfer tank with agitator and pumps, storage tank
with agitator and pumps and an automatic starch cooker will be added. These
modifications will provide the capability of supplying a sufficient amount of
size or pigmented size to the new size press. The coating preparation and
supply systems for the off-machine coater were reviewed. They are adequate for
the increase in speed.

PAPER MACHINE WET END ADDITIVES

The existing wet end additive system for the paper machine was reviewed. It
was determined that changes will not be needed.

ELECTRICAL

A new electrical room will be erected to satisfy the increased electrical
demands of the production increase. One (1) new medium voltage substation, two
(2) new low voltage substations, one (1) medium voltage MCC, one (1) low
voltage MCC and a DC drive cabinet will be housed in the new room.

NOTE: Exhibit A was never provided to the .