Are materials used to build new railroad track — rails, ballast, bridges, cross ties, culverts — exempt from Texas sales tax, and how do contractors and material suppliers document that exemption?

Subject

Railroad Track New Construction — Sales Tax Exemption for Rails, Ballast, Bridges, Cross Ties, and Culverts

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9310L1268A12

Plain-English Summary

This letter follows up a phone conversation and lays out how Texas sales tax applies to contractors who improve real property, with a specific focus on railroad construction materials. The Comptroller starts with the general rule under Tax Code Section 151.056: contractors whose contracts separate charges for material and labor are treated as retailers of the material incorporated into the customer's realty, while contractors whose contracts are lump sum (not separated) are treated as the consumers of that incorporated material.

The letter then explains a special exempt-organization rule: a contractor improving real property for an organization exempt under Tax Code Section 151.309 or 151.310 may accept an exemption certificate from that organization instead of collecting tax. If the contractor's own contract with the exempt organization is separated, the contractor may in turn give its material suppliers resale certificates; if that contract is lump sum, the contractor gives its suppliers exemption certificates instead. The letter also cautions that a material supplier should not accept a direct pay exemption certificate from a contractor that is not the actual holder of the direct pay permit number listed on the certificate.

The heart of the letter addresses railroad construction specifically: materials to build railroad road bed, railroad track, and cross ties are exempt under Tax Code Section 151.331. Material suppliers may accept exemption certificates from contractors who are building roadbeds or laying track, and — because of this specific exemption — it does not matter whether the contractor's contract with its customer is lump sum or separated. A contractor may still choose to give resale certificates to its material suppliers instead, if its own customer contracts separately state material and labor charges. If a material supplier takes a fully completed certificate (of either type) in good faith, it is not required to make further inquiry into the certificate's validity. The same rule — accepting either an exemption certificate or a resale certificate — applies when the purchaser is an individual repairing or remodeling a railroad road bed or track, rather than a contract holder.

The letter warns that in an audit, tax will be assessed against the supplier if it does not have, and cannot obtain, a valid certificate showing why sales tax should not have been collected — a transaction that "seems obviously exempt" is not sufficient without documentation. Finally, the letter addresses what happens when tax has been collected in error: the firm that collected it may refund the tax and then seek its own refund from the state under the enclosed Rule 3.325, or it may instead assign its right to a refund to its customer. Nothing in the Tax Statute requires a supplier to refund tax collected in error or to assign the refund right, but if the tax isn't refunded to the customer, the supplier must still pay it to the state. The letter details the mailing address and documentation needed (a statement that taxes were actually paid and the seller won't separately claim a refund, the amount actually paid net of discounts, the jurisdictions and amounts reported, and the reporting periods) for a customer who receives an assigned refund right to submit a written refund request.

What This Means For You

If you are a contractor building or repairing railroad roadbeds, track, or cross ties: The materials you incorporate are exempt under Section 151.331 regardless of whether your contract with your customer is lump sum or itemized between material and labor — this removes the usual Section 151.056 analysis for these specific materials.

If you are a material supplier to railroad contractors: You may accept an exemption certificate from a contractor building roadbeds or laying track (or a resale certificate if the contractor's downstream contract separates material and labor). Get a fully completed certificate in good faith and keep it on file — the letter states you are not required to further investigate its validity once you have that documentation, but you will be assessed tax in an audit if you cannot produce a valid certificate.

If you sell to an individual (not a contractor) repairing or remodeling railroad road bed or track: You may accept either an exemption certificate or a resale certificate from that individual purchaser.

If you accept a direct pay exemption certificate: Confirm the contractor presenting it is actually the holder of the direct pay permit number shown on the certificate — the letter specifically warns suppliers not to accept a direct pay certificate otherwise.

If tax was collected in error: You (the seller) may refund it and then claim your own refund from the state under Rule 3.325, or assign your refund right to your customer instead — but you are not obligated to do either, and if you don't refund the customer, you must still remit the tax collected to the state.

Q&A

Q: Are materials for new railroad track construction exempt from Texas sales tax?
A: Yes. The letter states materials to build railroad road bed, railroad track, and cross ties are exempt under Tax Code Section 151.331.

Q: Does it matter whether the railroad contractor's contract is lump sum or separates material and labor charges?
A: No. The letter explains that because of the Section 151.331 exemption, "it doesn't matter if the contractor's contract is lump sum or separated" — material suppliers may accept exemption certificates either way.

Q: Can a contractor building railroad track still choose to use resale certificates instead of exemption certificates?
A: Yes. The letter states the contractor "may, at its option, give resale certificates to it's material suppliers if it's contracts with its customers make separate charges for incorporated material and labor."

Q: What happens if a material supplier can't produce a valid exemption or resale certificate during an audit?
A: Per the letter, tax will be assessed if the supplier "does not have and cannot obtain a valid certificate to show why it should not have collected sales tax in a given situation," and the fact that a situation may seem "obviously exempt" is not sufficient without documentation.

Q: If a supplier collected tax in error on an exempt railroad-materials sale, must it refund the customer?
A: Not necessarily. The letter states there is "nothing in the Tax Statute that requires a supplier to refund tax collected in error or to assign it's right to the refund," though the supplier may refund the tax and seek its own refund under Rule 3.325, or assign the refund right to the customer — and if it does not refund the customer, it must still pay the tax to the state.

Original ruling text

October 18, 1993

Dear ***:

I want to take a minute to follow up our phone conversation with a written
response.

I'd like to preface my comments by saying that under Tax Code Section 151.056:

• contractors whose contracts with their customers separate the charges for
  material and labor are considered to be retailers of the material incorporated
  into the customer' s realty.

• contractors whose contracts with their customers do not separate the charges
  for material and labor are considered to be the consumers of the material
  incorporated into the customer's realty.

A contractor that improves real property for an organization exempted under Tax
Code Section 151.309 or 151.310 may accept an exemption certificate from the
organization in lieu of tax.

• If the contractor's contract with the exempt organization is separated, it
  may give its suppliers of incorporated material resale certificates in lieu of
  tax.

• If the contractor's contract with the exempt organization is lump sum, it
  may give its suppliers of incorporated material exemption certificates in lieu
  of tax.

A material supplier should not accept a direct pay exemption certificate from a
contractor that is not the holder of the direct pay permit number listed on the
certificate.

Materials to build railroad road bed, railroad track, and cross ties are exempt
under Tax Code Section 151.331. Material suppliers may accept exemption
certificates from contractors building roadbeds or laying track. It doesn't
matter if the contractor's contract is lump sum or separated because of the
exemption in Sec. 151.331. The contractor may, at its option, give resale
certificates to it's material suppliers if it's contracts with its customers
make separate charges for incorporated material and labor. If the material
supplier takes a fully completed certificate of either type in good faith, it
is not required to make further inquiry into the certificates validity.

A material supplier may accept either an exemption certificate or a resale
certificate for purchase of incorporated material from an individual repairing
or remodeling a railroad road bed or railroad track.

** Tax will be assessed in an audit if the supplier does not have and cannot
obtain a valid certificate to show why it should not have collected sales tax
in a given situation. The fact that a situation may seem "obviously exempt" to
a contractor is not sufficient without documentation.

If a firm receives documentation that tax has been collected in error, it may
refund the tax and obtain a refund from the state in keeping with the enclosed
Rule 3.325. The seller may also choose to assign it's right to receive a refund
to it's customer. I am enclosing an appropriate form for your reference.
However, there is nothing in the Tax Statute that requires a supplier to refund
tax collected in error or to assign it's right to the refund. It must,
however, pay the tax to the state if it is not refunded to the customer.

A customer receiving an assignment of a right to receive a refund from a seller
may request the refund in writing and forward copies of documentation regarding
the refund to:

Credits & Refund Claims Verification
Revenue Accounting
Comptroller of Public Accounts
Capitol Station
Austin, TX 78711

In addition to the assignment form and letter stating the reason that the
refund should be made, the customer requesting the credit should include the
following:

• A statement from the seller that the taxes indicated were actually paid to
  the Comptroller by the seller and that the seller will not separately request a
  refund of those taxes.

• The amount actually paid to the State, net of discounts.

• The jurisdictions to which the tax was reported by the seller and the amount
  of tax reported to each jurisdiction.

• The reporting periods for each refund item requested.

I am sending a copy of this letter to ** of ***, for
their files.

If you have questions or need more information, please call or write. You may
reach me by calling toll free, (800) 531-5441 (ext. 34680). My direct line
number is (512) 463-4680. The number for FAX transmissions is (512) 475-0900.
You may write to me in care of Tax Administration Division.

Sincerely,

Al Van Allen
Tax Administration Division