Did the builder exemption for a commercial dry dock survive a sale to a related corporation and leaseback to the builder?

Plain-English summary

Corporation A built a floating dry dock treated as a commercial vessel exceeding eight tons displacement and considered selling it to related Corporation B. The Comptroller said A's first sale was exempt because it was made by the vessel's original builder.

The exemption did not carry through to B's leaseback to A. A floating dry dock was tangible personal property, and Rule 3.297 exempted the sale, lease, or rental of the qualifying vessel only when made by its builder. Corporation B was not the builder. Common ownership did not qualify the transfer under Rule 3.331 because corporate-stock ownership alone was not joint ownership of the dry dock.

Under an operating lease, B reported tax on lease payments when they became income under B's reporting method. Under a financing lease, B collected all tax when A took possession or the first payment became due, whichever came first.

If B itself had built the dry dock, its first operating or financing lease would have been exempt. The same builder exemption would apply if that first lease were made to a third party.

What this means for you

The exemption followed the builder's qualifying first sale, lease, or rental; it did not follow the vessel through a related-entity sale. Lease type affected when tax was due once the exemption failed.

Common questions

Was the builder's first sale exempt? Yes. Was the related buyer's leaseback exempt? No. Did common shareholders create a joint-ownership exemption? No. When was financing-lease tax due? At possession or the first payment, whichever occurred earlier.

Citations and references

• 34 Tex. Admin. Code Rule 3.297(b)(1)
• 34 Tex. Admin. Code Rule 3.331
• 34 Tex. Admin. Code Rule 3.294(f)(3)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9112L1145G01

Original ruling text

December 20, 1991

Dear ****:

Your letter concerning the taxability of two situations involving the
leasing of dry dock facilities, has been assigned to me for review and
response. I appreciate your patience and apologize for the delay in
responding.

I have restated your questions below, followed by my response:

SITUATION #1:

Ownership:Corporation A 100% owned by Shareholder A Corporation B 80%
owned by Shareholder A

SITUATION #2:

Ownership:Corporation A 100% owned by Shareholder A Corporation B 100%
owned by Shareholder A

Same facts as above, with only the ownership of Corporation B changing.

Corporation A is in the ship yard business of repairing commercial
vessels exceeding 8 tons displacement, not in the construction and/or sale of
dry docks. Corporation A built (inhouse) a dry dock, which is considered a
vessel exceeding 8 tons in displacement. Corporation A is considering selling
the dry dock to Corporation B.

The sale of the dry dock from Corporation A to Corporation B is sales tax
exempt because it is the first sale of a commercial vessel exceeding 8 tons in
displacement by the original builder of the vessel.

The sales tax questions appear if and when Corporation A leases the dry
dock (back) from Corporation B.

1. If the lease was an operating lease, is there any sales tax due? If
   there is sales tax due, when is it due?

RESPONSE: A floating dry dock is tangible personal property and the
receipts from the sale, lease, or rental of tangible personal property are
subject to tax, unless specifically exempted. Section (b)(1) of the enclosed
Rule 3.297 Carriers, specifically exempts vessels in excess of eight tons
displacement, used exclusively and directly for commercial purposes if the sale
(lease or rental) of such vessel is made by the builder of the vessel.

This exemption does not apply in the lease from Corporation B to
Corporation A, since Corporation B is not the builder of the dry dock.

Rule 3.331 Joint Ownership Transfers, also does not apply because section
(*b)(3) of this rule requires that the transferee (Corporation A), either
before or after such transfer, own a joint or undivided interest in the
property with the transferor (Corporation B). Also, joint ownership transfers
do not apply to sales between related corporations or other entities where the
only joint ownership is the ultimate ownership of the corporation stock.

Therefore, in both Situations #1 and #2, under an operating lease,
Corporation B would report sales tax on the lease payments in the period in
which they are considered income under Corporation B's method of reporting.
See subsection (f)(3)(A) of the enclosed Rule 3.294, Rental and Lease of
Tangible Personal Property.

2. If the lease was a financing lease, is there any sales tax due? If
   there is sales tax due, when is it due?

RESPONSE: Corporation B must collect all tax due under a financing lease
at the time Corporation A takes possession of the dry dock or when first
payment is due, whichever is earlier, in accordance with subsection (f)(3)(B)
of Rule 3.294.

3. If Corporation B had built the dry dock and then leased the dry dock
   to Corporation A under an operating lease, is there any sales tax due? If
   There is sales tax due, when is it due?

RESPONSE: No sales tax would be due, under Situations #1 or #2 on this
transaction; section (b) of Rule 3.297 would apply.

4. If Corporation B had built the dry dock and then leased the dry dock
   to Corporation A under a financing lease, is there any sales tax due? If There
   is sales tax due, when is it due?

RESPONSE: Again, no tax would be due; section (b) of Rule 3.297 would
apply.

5. Does it matter if Corporation B leases to a third party?

RESPONSE: If Corporation B is the builder, the fact that its first sale,
lease, or rental of this dry dock is to a third party does not nullify the
exemption provided by Rule 3.297.

This opinion is based on the facts presented. Other facts though similar
may provide a different result.

If you have other questions or need more information, you may call
512/463-4600, or 1-800-252-5555 from outside Austin. You may write to
Tax Administration Division.

Sincerely,

Gilbert Zamora
Tax Administration Division