If a beverage distributor buys pre-mix or post-mix carbonated drink machines and loans them to restaurant customers as a marketing incentive (in exchange for the customer agreeing to buy that distributor's soft drink products), can the machines be purchased tax-free as manufacturing equipment?

Plain-English summary

This letter from the Texas Comptroller's Tax Administration Division responds to a beverage distributor who purchases pre-mix and post-mix carbonated drink machines (equipment that mixes syrup and CO2 gas, with or without added water, to make soft drinks) for three different purposes: (1) to resell, (2) to lease, and (3) to loan to restaurant customers under an agreement that the customer will buy the distributor's particular soft drink products, with the equipment serviced by the distributor and returned (or purchased at fair market value) once the agreement ends. The distributor had been paying sales and use tax on all three types of purchases and asked the Comptroller to confirm the correct tax treatment for each.

The Comptroller's answers draw a clear line between the three scenarios:

• Machines purchased for resale or lease: The distributor should issue a resale certificate and purchase the machines tax-free for resale. The distributor's customer then owes tax on the monthly lease payment (or the purchase price, for a resale). The letter also notes the machines otherwise qualify for exemption as manufacturing equipment, and that Senate Bill 640, recently passed by the Texas Legislature, removes the prior exclusion for otherwise-qualified manufacturing equipment leased by a manufacturer for a year or longer, effective October 1, 1995.
• Machines purchased to loan to restaurant customers as a marketing incentive: The distributor cannot purchase these machines tax-free, even though the same machines qualify as manufacturing equipment under Rule 3.300. Loaning the equipment to a customer is itself a "use" of the machinery by the distributor, so the distributor owes tax — either on its purchase of the equipment, or on the fair market rental value of the equipment for the period it is loaned out.
• A third question asked whether, if the loan scenario were tax-exempt, the distributor would have qualified for reduced state tax rates and a franchise tax credit in prior years. Because the loan scenario was not exempt, the Comptroller answered this question "Not applicable."

The letter closes with the standard caveat that the opinion is based on the facts submitted and that other, similar facts could yield different results.

What this means for you

Beverage distributors and manufacturers who loan equipment to customers

If you buy equipment intending to loan it to customers as an incentive to purchase your products — rather than selling or leasing it outright — that loan is treated as your own taxable use of the equipment. You owe tax either on your purchase of the equipment or on its fair market rental value for the loan period. You cannot claim a manufacturing-equipment exemption on equipment you intend to loan out this way.

Distributors who sell or lease the same type of equipment

Equipment purchased for resale or for lease can be purchased tax-free with a resale certificate; the tax obligation shifts to your customer, who owes tax on the purchase price or the monthly lease payment. If the equipment separately qualifies as manufacturing equipment, note that Senate Bill 640 (effective October 1, 1995) removed the prior exclusion that kept such equipment from qualifying for exemption when leased by a manufacturer for a year or longer.

Accountants and tax professionals

When advising a client that purchases the same type of equipment for multiple purposes (resale, lease, and loan), the tax treatment must be tracked separately by purpose — resale and lease purchases can be tax-free to the distributor with tax collected downstream from the customer, while loaned equipment triggers tax at the distributor level, either on the purchase price or on a computed fair market rental value for the loan period.

Common questions

Q: Can a distributor buy manufacturing equipment tax-free if it plans to loan the equipment to customers as a marketing incentive?
A: No. Even if the equipment otherwise qualifies as manufacturing equipment under Rule 3.300, loaning it to a customer is a taxable use by the distributor, so tax is owed on the purchase or on the fair market rental value for the loan period.

Q: How is tax handled differently when the same equipment is purchased for resale or for lease?
A: The distributor can issue a resale certificate and purchase resale or lease equipment tax-free. The customer then owes tax — on the purchase price for a resale, or on the monthly lease payment for a lease.

Q: If tax is owed on loaned equipment, is it always based on the full purchase price?
A: No. The distributor owes tax either on its purchase of the equipment or on the fair market rental value of the equipment for the period it is loaned out.

Q: Did Senate Bill 640 change anything about leased manufacturing equipment?
A: Yes. The letter notes that Senate Bill 640, recently passed by the Texas Legislature, removes the exclusion that previously prevented otherwise-qualified manufacturing equipment from being exempt when leased by a manufacturer for a year or longer, effective October 1, 1995.

Q: Was the distributor's third question about reduced state tax rates and a franchise tax credit answered?
A: No. That question was conditioned on the loan scenario being tax-exempt. Since the Comptroller determined loaned equipment is taxable, the third question was answered "Not applicable."

Citations and references

Regulations:

• 34 Tex. Admin. Code Rule 3.300 (manufacturing equipment exemption)

Legislation:

• Senate Bill 640 (Texas Legislature, 1995), effective October 1, 1995

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/9506L1354E05

Original ruling text

June 20, 1995

Dear **:

Thank you for your recent letter which is restated in part with responses
below.

SITUATION:

A pre mix carbonated drink machine mixes syrup with C02 gas to make a
drink, while a post mix carbonated drink machine utilizes concentrated
syrup which requires water to be mixed with the syrup and the C02 gas.

Our client purchases pre mix and post mix carbonated drink machines for
three purposes:

1. They purchase them to resell
2. They purchase them to lease
3. They purchase them to loan to customers, with an agreement that they
   will purchase their particular soft drink product.

The agreement usually will require them to purchase particular soft drink
products and allow our client to service the equipment as needed. Once
the agreement expires the equipment is returned to our client, unless it is
purchased at a fair market value price.

Our client is currently paying sales and use taxes on all three types of
purchases above.

QUESTIONS

1. When the machines are purchased for resale and release, shouldn't our
   client issue a resale certificate to their vendor and then collect sales
   and use taxes from their customer on the purchase price or the monthly
   lease payment?

Response: The client should issue a resale certificate and purchase the
machines for resale. Their customer currently owes tax on the monthly lease
payment. The machines qualify for exemption as manufacturing equipment.
Senate Bill 640, recently passed by the Texas Legislature, effectively removes
the exclusion for otherwise qualified manufacturing equipment leased by a
manufacturer for a period of a year or longer. This provision will become
effective October 1, 1995.

2. When the machines are purchased for the purpose of loaning them to a
   restaurant, can they purchase the machine tax-free since the machines
   qualify as manufacturing equipment as defined in Rule 3.300?

Response: No. Your client makes a use of the machinery when it loans it to
its customers. Accordingly, your client owes tax on its purchase of the
equipment or on the fair market rental value of the equipment for the period
of time it is loaned.

3. If the answer to question number 2 is affirmative, then would they have
   qualified for the reduced state tax rates and the credit for franchise tax
   purposes in prior years currently under statute?

Response: Not applicable.

This opinion is rendered based on the facts you submitted. Other facts,
though similar, may yield different results.

You may call me toll free at 1-800-531-5441, ext. 3-4680. The direct line is
512/463-4680. You may also write to Tax Administration, Comptroller of
Public Accounts.

Sincerely,

Al Van Allen
Tax Administration Division

NOTE: Previous Accession Number 9506207L