Did Virginia's research-and-development exemption cover a missile contractor's JP-10 fuel valve, insulation rings, and rocket-motor casting tooling?

Subject

Research and development exemption applies to the purchase specific items.

Plain-English summary

Virginia removed all three purchases from the audit because they were used directly and exclusively in experimental research. The fuel valve regulated JP-10 during ramjet tests, the custom rings held rockets during static firing, and the casting tooling formed the experimental motors.

The exemption required each item to be integral to research and used solely for it. Project documents and the items' specialized designs established both requirements, even though the casting tooling could be reused within that same project.

What this means for you

• Document how equipment is integral to the experimental process.
• Establish exclusive research use rather than production or general operations.
• Tools used to fabricate test articles can qualify when fabrication is part of research.

Common questions

Did reusable tooling fail the exemption? No. It could be reused only for the specified research project.

Were all three transactions removed? Yes.

Citations and references

• Va. Code § 58.1-609.3 5; 23 VAC 10-210-3070 A; P.D. 90-111.

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 08-58

Original ruling text

May 19, 2008

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

Dear *:

This is in response to your letter submitted on behalf of * (the "Taxpayer") in which you seek correction of the retail sales and use tax assessment issued for the period January 2002 through November 2004. I apologize for the delay in responding to your appeal.

FACTS

The Taxpayer is an aerospace and defense contractor specializing in the design, development and manufacturing of missile and space propulsion systems. The Taxpayer is contesting the application of tax to the purchase of a digital JP-10 fuel valve (the "fuel valve"), heavy weight insulation rings (the "insulation rings") and casting tooling. The Taxpayer contends that the research and development exemption applies to the purchase of these items. The Taxpayer contends that the purchases were made pursuant to independent research and development projects entirely funded by the Taxpayer. In general, the purpose behind the independent research and development projects is to test ideas for new products, emerging technologies and potential enhancements to existing products.

DETERMINATION

Virginia Code § 58.1-609.3 5 provides that the retail sales and use tax does not apply to "[t]angible personal property purchased for use or consumption directly and exclusively in basic research or research and development in the experimental or laboratory sense."

Title 23 of the Virginia Administrative Code (VAC) 10-210-3070 A defines "direct use" and "exclusive use." Direct use is defined as "those activities which are an integral part of basic research or research and development activities, including all steps of these activities, but not including secondary activities such as administration, general maintenance, product marketing, and other activities collateral to the actual research process." The regulation defines exclusive use as items "used solely in basic research or research and development activities."

The regulation defines research and development as a "systematic study or search directed toward new knowledge or new understanding of particular scientific or technical subject and the gradual transformation of the new knowledge or new understanding into a usable product or process. Research and development must have as its ultimate goal: (i) the development of new products; (ii) the improvement of existing products; or (iii) the development of new uses for existing products."

I will address the contested purchases as they relate to the cited authorities.

Fuel Valve

The Taxpayer was assessed tax on its purchase of a JP-10 fuel valve. The Taxpayer asserts that it utilizes JP-10, a specialized form of jet fuel, in its research and development of high speed missile applications. The Taxpayer asserts that the fuel is utilized because it is capable of burning at the altitude and high velocities missiles experience in flight. The Taxpayer further asserts that the fuel valve was purchased because it is designed to be compatible with JP-10 fuel. The Taxpayer contends that the research and development exemption applies to the purchase of the fuel valve because the fuel valve provided and regulated the fuel necessary to test fire the missiles.

Based on the additional information provided, it is my understanding that the Taxpayer is unable to test fire the missiles without having the fuel valve to provide and regulate the fuel. The Taxpayer's memorandum dated October 12, 2004, requires that fuel delivery requirements be established with regard to the Taxpayer's liquid-fueled ramjet project. As such, I find that the fuel valve at issue is used directly in the Taxpayer's research and development of the ramjet missile applications. Additionally, the information provided indicates that the fuel valve can be used only with JP-10 fuel. During the audit, the Taxpayer indicated that the fuel valve could be used for other testing, but also indicated that the fuel valve was not used during the audit period for any other testing or research and development project. Based on this information, I find that the fuel valve was used exclusively by the Taxpayer in its research and development of the ramjet missile applications. Accordingly, the research and development exemption applies to the purchase of the fuel valve. The transaction representing the purchase of the fuel valve will be removed from the audit.

Insulation Rings

The Taxpayer was assessed tax on its purchase of insulation rings. The Taxpayer asserts that during the testing of 7-inch tactical rockets, the rockets are not aimed at a target. Rather, the conditions under which the rockets are tested require that the rockets be held firmly in place during the test firing. The Taxpayer states the insulation rings are used to hold the rockets in place and become a part of a test platform used to test the experimental rocket motors. The Taxpayer asserts that restraining the rockets during the test firing ensures that the data is accurately recorded. Further, the Taxpayer asserts that the insulation rings were fabricated specifically to fit the 7-inch rocket. Based on these facts, the Taxpayer contends that the insulation rings are used directly and exclusively for research and development and are exempt of the tax.

The Scope of Effort description provided by the Taxpayer regarding the testing of the 7-inch rocket motors requires that static firing tests be conducted. Static firing is defined as "the firing of a rocket motor, rocket engine, or an entire state in a hold-down position to measure thrust and carry out other tests." 11

Based on the information provided, the insulation rings are necessary for the Taxpayer to conduct the static firing and testing of the 7-inch rocket motors. As such, the insulation rings are directly used in the Taxpayer's research and development project. Additionally, the insulation rings were specifically fabricated to fit the 7-inch rocket motors. As such, the insulation rings are exclusively used by the Taxpayer in its research and development project. Accordingly, I find that the research and development exemption is applicable to the purchase of the insulation rings. The transaction relating to the purchase of the insulation rings will be removed from the audit.

Casting Tooling

The Taxpayer was assessed tax on its purchase of casting tooling. The Taxpayer asserts that the casting tooling was purchased in connection with its research and development project of a new generic 7-inch tactical rocket motor. The Taxpayer states the casting tooling is used to cast or mold the experimental solid fuel rocket motor, and ensures that the motor is the proper shape for use in a particular model of rocket. The Taxpayer contends that without the casting tooling, it would not have been able to fabricate the motors that are the subject of this project. The castings can be cleaned and used again, but the castings at issue were acquired specifically for this project and can only be used for its 7-inch tactical rocket motor research and development. Based on these facts, the Taxpayer contends that the casting tooling is used directly and exclusively in its research and development project.

Public Document (P.D.) 90-111 (7/23/90) provides that materials worked on, equipment, machinery, tools, supplies, energy, fuel, and power used directly and exclusively in producing test items qualify for the research and development exemption.

The Statement of Work provided with regard to this project requires that 7-inch motors be cast. In order to test the motors, the motors must first be fabricated by the Taxpayer. Pursuant to Title 23 VAC 10-210-3070, the casting of the motors is an integral part of the research and development activities. Additionally, pursuant to P.D. 90-111, the casting tool is used to produce the motor that will be tested. As such, the casting tooling is directly used in this research and development project. Additionally, while the casting tooling can be reused by the Taxpayer, it was specifically purchased for this 7-inch tactical rocket motor project and cannot be used in any other project conducted by the Taxpayer. As such, the casting tooling is exclusively used in this research and development project. Accordingly, the research and development exemption is applicable to the casting tool. The transaction associated with this purchase will be removed from the audit.

CONCLUSION

Based on this determination, the audit will be returned to the audit staff for revision consistent with the findings in this determination. The Taxpayer will receive a revised audit and an updated bill. To avoid the accrual of additional interest, the Taxpayer should remit payment to the Department within 30 days from the date of the revised bill.

The Code of Virginia section, regulation and public document cited 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 response, you may contact * in the Office of Tax Policy, Appeals and Rulings, at ***.

Sincerely,

Janie E. Bowen

Tax Commissioner

AR/1-1258984926P

1 See , www.daviddarling.info/encyclopedia, May 23, 2007.