Were a mechanical contractor's purchases exempt merely because its work was performed at a Virginia semiconductor plant?

Subject

Taxpayer states the work performed at the semiconductor plant is exempt

Plain-English summary

Virginia did not accept that the contractor's purchases were exempt simply because they were used at a semiconductor plant. The manufacturing exemption covered machinery, tools, supplies, and similar property used directly and immediately in production, including production-line quality control, but not property used only in ancillary activities.

The contractor had not explained the exact items or how they were used. The Department therefore returned the audit for an item-by-item review under the manufacturing exemption and P.D. 95-129. Any resulting tax adjustment would also reduce the mandatory interest.

The ruling also said that contractors are generally taxable consumers of property used in real-estate construction. To use the statutory exception for installing qualifying exempt industrial equipment, the contractor needed a Department-issued Form ST-11A for each job. The semiconductor clean-room exemption cited in the ruling did not apply to these audit periods because it took effect July 1, 2006.

What this means for you

• Work at a manufacturing site is not enough by itself; document how each purchase enters the actual production process.
• Contractors seeking the industrial-equipment exception should obtain the job-specific exemption certificate described by the Department.
• A later-enacted exemption cannot be used for earlier audit periods.
• Interest follows the revised tax balance and is not treated as a discretionary penalty.

Common questions

Q: Did the Department finally decide which semiconductor-plant items were exempt?
A: No. It sent the contested purchases back to the auditor because the record did not identify the items or their direct manufacturing use.

Q: Is every item used inside a manufacturing facility exempt?
A: No. The ruling says the item must be indispensable to and used as an immediate part of production; general maintenance and other ancillary activities are excluded.

Q: What did the contractor need for future exempt purchases?
A: A Form ST-11A obtained from the Department on a job-by-job basis.

Citations and references

• Va. Code §§ 58.1-609.3 2, 58.1-602, 58.1-609.3 14, 58.1-610 A and E, and 58.1-1812.
• 23 VAC 10-210-920 B 2.
• P.D. 95-129 (May 19, 1995).

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 08-108

Original ruling text

June 20, 2008

Re: § 58.1-1821 Application: Retail Sales and Use Tax

Dear *:

This will reply to your letter in which you seek correction of the retail sales and use tax assessments issued to * (collectively referred to herein as "the Taxpayer") for the periods March 1999 through February 2005 and July 2000 through January 2005, respectively. I apologize for the delay in responding to your letter.

FACTS

The Taxpayer is a mechanical construction contractor. An audit for the aforementioned periods resulted in an assessment of use tax on purchases used or consumed in the performance of a service contract for a semiconductor plant. The Taxpayer takes exception to the use tax assessed and believes the work performed at the semiconductor plant is exempt.

DETERMINATION

Virginia Code § 58.1-609.3 2 provides an exemption from the sales and use tax for machinery, tools, fuel, power, energy or supplies " used directly " in manufacturing products for sale or resale. The term "used directly" is defined in Va. Code § 58.1-602 as "those activities which are an integral part of the production of a product, including all steps of an integrated manufacturing . . . process, but not including ancillary activities such as general maintenance or administration." I note that for the period at issue, the retail sales and use tax exemption under Va. Code § 58.1-609.3 14 for semiconductor clean rooms and equipment and related tangible personal property had not been enacted. That exemption became effective July 1, 2006.

Title 23 of the Virginia Administrative Code 10-210-920 B 2 provides that the exemption applies to "machinery, tools and repair parts thereof, fuel, power, energy or supplies which are indispensable to the actual production of products for sale and which are used as an immediate part of such production process." Items that are essential to the operation of a business but not an immediate part of actual production are not used directly in manufacturing.

In addition, Va. Code § 58.1-602 includes equipment and supplies used directly in production line quality control within the scope of the manufacturing exemption.

Semiconductor Contract

It is not clear from the Taxpayer's letter how the contested items were used directly in the manufacturing process. Without this information, I cannot determine if the manufacturing exemption is applicable. The fact that the items were used at a manufacturing facility does not mean they qualify for the manufacturing exemption. Because the exact nature of the items at issue is not known, I am referring this matter to the auditor for further review. The auditor will review the contested items and determine which, if any, items are exempt under Va. Code § 58.1-609.3 2 and Public Document 95-129 (5/19/95), which addresses a number of issues specifically related to the semiconductor manufacturing process. Please note that this subsequent review of the items applies to this audit only.

Exemption for Contractors

Pursuant to Va. Code § 58.1-610 A, contractors are deemed to be the taxable users or consumers of any property used in connection with a real estate construction contract. Virginia Code § 58.1-610 E allows an exception in cases where the contractor is installing equipment that would qualify for exemption pursuant to the commercial and industrial exemptions set out in Va. Code § 58.1-609.3.

Contractors entitled to benefit from the exception in Va. Code § 58.1-610 E must obtain certificates of exemption, Form ST-11A, by submitting a written request to the Department on a job-by-job basis. The request for Form ST-11A must include a description of the project, the estimated completion date, the items to be purchased, the name of the manufacturer, and the manufacturer's street and mailing addresses. Such requests should be addressed to the Department's Office of Customer Services, P. O. Box 1880, Richmond, Virginia 23218-1880.

In the future, the Taxpayer must obtain a Form ST-11A exemption certificate from the Department in order to purchase materials and supplies exempt of the tax. The ST-11A specifically states on its face that a contractor certifies that all tangible personal property purchased is exempt from sales and use tax for the exempt purpose indicated on the form.

Interest

In your letter, you also indicate that you were unaware of the application of interest to audit assessments. Virginia Code § 58.1-1812 mandates the application of interest to any tax assessment. Interest is not assessed as a penalty for noncompliance with the tax laws. Rather, it simply represents a fee for the use of money over a period of time. The interest assessed will be adjusted in accordance with any adjustments to the tax resulting from the auditor's review.

Financial Hardship

If any adjustments are made to the assessments, and the Taxpayer believes the resulting assessment will cause severe financial hardship, the Taxpayer may submit an offer in compromise based on doubtful collectibility to the Collections Unit of the Department's Office of Customer Relations.

CONCLUSION

Based on the foregoing, the audit will be returned to the audit staff to review the contested purchases associated with the semiconductor facility. An auditor will contact the Taxpayer to schedule a time to review the contested items and determine if adjustments to the audit are warranted. After the auditor makes any necessary adjustments, the Taxpayer will receive a revised bill. At this time the Taxpayer may submit an offer in compromise if warranted. Otherwise, the Taxpayer should remit its payment for the outstanding balances as shown on the revised bills within 30 days from the date of the bill to avoid the accrual of additional interest.

The Code of Virginia sections, regulation and public document cited, along with other reference documents, are available on-line at www.tax.virginia.gov in the Tax Policy Library section of the Department's web site. If you have any questions about this determination, you may contact the Department's Office of Tax Policy, Appeals and Rulings, at *.

Sincerely,

Janie E. Bowen

Tax Commissioner

AR/1-1198742778.i