My business warehouses and repackages inventory owned by retailers to fulfill their customers' orders -- can I buy boxes, tape, and labels tax-free since the retailers ultimately pay for and resell the packaged goods?

Plain-English summary

Virginia exempts packaging materials from sales tax when they're purchased tax-free and "marketed with the product being sold" -- but this ruling makes clear that exemption belongs to the actual SELLER of the goods, not to a third-party logistics company that merely handles someone else's inventory. This is a useful, directly relevant precedent for the growing e-commerce order-fulfillment (3PL) industry.

The taxpayer warehoused and repackaged inventory owned by both affiliated and unrelated third-party retailers. When a retailer's customer placed an order, the retailer told the taxpayer what items to combine and what shipping-label information to print, and the taxpayer repackaged the goods and held them for pickup -- the retailer separately arranged and paid for an outside shipping company to actually pick up and deliver the packages. The taxpayer itself never sold the inventory, delivered anything to end customers, or took title to the goods.

An audit assessed use tax on the packaging materials (cartons, tape, labels, boxes, polybags) the taxpayer purchased to do this repackaging work, on the theory that the taxpayer was providing a packaging SERVICE, not reselling the packaging materials to the retailers. The taxpayer argued it had purchased the materials for resale and had charged the retailers for the cost of the materials and the packaging service.

The Department sided with the auditor. The packaging materials exemption (23 VAC 10-210-400 B) requires the materials to "become the property of the purchaser" and be "marketed with the product being sold" -- language that is written for manufacturers and processors who package their OWN product for sale. Here, the inventory being packaged wasn't sold by the taxpayer at all; it belonged to, and was sold by, the retailers. So the packaging materials couldn't be considered "marketed with" a product the taxpayer itself was selling, and the exemption didn't apply.

Separately, under 23 VAC 10-210-4040 E, a service provider is the taxable user and consumer of the materials it uses to perform its service. The Department pointed to a directly analogous prior ruling (P.D. 14-103), where a service provider that received, packaged, and shipped tobacco leaves on behalf of a manufacturer was likewise found to be the consumer of its own packaging materials -- not a reseller -- because it wasn't itself an industrial manufacturer or processor selling a product. The same logic applied here: even though the taxpayer charged retailers for the packaging materials' cost (effectively passing the expense through), that billing arrangement didn't turn the taxpayer into a seller making exempt resale purchases. And because the taxpayer wasn't even registered for Virginia sales and use tax, it had no mechanism to properly document a resale claim in the first place. The assessment on the packaging materials was upheld.

What this means for you

Third-party logistics (3PL), fulfillment, and warehousing businesses that repackage other companies' inventory

The packaging materials exemption belongs to the actual seller of the goods -- if you're providing a packaging/fulfillment SERVICE for someone else's inventory rather than selling your own product, you're the taxable end-user of your own packaging supplies (boxes, tape, labels, polybags), and you owe Virginia sales or use tax on those purchases, regardless of whether you separately bill your clients for the materials' cost.

Any service provider that passes through material costs to a client

Charging a client for the cost of materials you consume in providing a service doesn't convert those purchases into exempt resale transactions. You're still the consumer of the materials for tax purposes; only actually SELLING the underlying product yourself would change that analysis.

Manufacturers and processors packaging their own product

The exemption remains available to you when the packaging materials genuinely become the property of your customer and are marketed together with the product you're actually selling -- this ruling doesn't change that core rule, it just clarifies who it does NOT reach.

Common questions

Q: My fulfillment business repackages inventory owned by retailer clients -- can I buy packaging materials tax-free?
A: No -- the exemption requires the packaging to be marketed with a product YOU are selling. If you're providing a packaging/fulfillment service for someone else's inventory rather than selling the goods yourself, you're the taxable consumer of your own packaging materials.

Q: Does it matter that I charge my clients for the packaging materials I use?
A: No -- passing the cost of materials through to a client (as part of your service fee) doesn't make your purchase of those materials an exempt resale. You're still treated as the end-user/consumer for sales tax purposes.

Q: Is there a difference between a manufacturer packaging its own product and a service provider packaging someone else's goods?
A: Yes -- the exemption is written for sellers whose packaging becomes part of the product they're actually selling. A service provider that never sells the underlying goods (like a fulfillment warehouse or a contract packager) doesn't qualify, even if the packaging function looks similar.

Citations and references

• 23 VAC 10-210-400 B (packaging materials may be purchased exempt only if marketed with the product being sold and become the purchaser's property; materials not becoming the customer's property are taxable)
• 23 VAC 10-210-4040 E (a service provider is the taxable user and consumer of materials used to perform its service)
• P.D. 14-103 (7/3/2014) (a service provider that received, packaged, and shipped tobacco leaves for a manufacturer was the consumer -- not a reseller -- of its packaging materials, since it wasn't itself an industrial manufacturer or processor)

Subject

Purchases: Packaging Materials - Warehouse and Repackaging Services

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 22-49

Original ruling text

March 22, 2022

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 2015 through December 2017. I apologize for the delay in responding to your appeal.

FACTS

The Taxpayer warehouses and repackages inventory owned primarily by affiliated and unrelated third party dealers, collectively the “retailers”. The Taxpayer repackages inventory items to fulfill orders placed by the customers of the retailers. The retailers provide instructions to the Taxpayer regarding what goods should be packaged together, as well as the address information to be printed on the labels applied to the packages. The Taxpayer does not provide delivery services but stores the packages for pickup. The retailers arrange and pay for the packages to be picked up from the Taxpayer’s facilities and delivered to its customers by a shipping company.

The auditor assessed use tax on purchases of packaging materials used by the Taxpayer to repackage the retailers’ inventories, finding that the Taxpayer provides packaging services and did not resell the packaging materials at issue to the retailers. The packaging materials assessed by the auditor include cartons, tape, labels, boxes and polybags. The Taxpayer disputes the assessment, contending the packaging materials were purchased for resale, and that it charged the retailers for the costs of the packaging materials and services. The Taxpayer requests that the purchases at issue be removed from the audit.

DETERMINATION

Title 23 of the Virginia Administrative Code (VAC) 10-210-400 B provides, in pertinent part, that “Packaging materials may be purchased tax exempt if the items are marketed with the product being sold and become the property of the purchaser. Packaging materials which do not become the property of the purchaser are subject to the tax.” This exemption primarily applies to manufacturers and processors that produce a product that the packaging goes with.

Based on the information before me, the Taxpayer did not sell the inventory in its possession, but merely provided storage and shipment preparation for the retailers. When a customer ordered inventory from one of the retailers, the Taxpayer repackaged the selected items to fulfill the order and get it ready for delivery.

Under these circumstances, the packaging materials would not have been considered to be marketed with the inventory being sold as prescribed in Title 23 VAC 10-210-400 B because the inventory being sold was not sold by the Taxpayer. As such, the packaging materials were not eligible to be purchased by the Taxpayer exempt of the tax.

Additionally, in accordance with Title 23 VAC 10-210-4040 E, I find that as a service provider, the Taxpayer is the taxable user and consumer of the packaging materials used to repackage the retailers’ inventory. Further, the Taxpayer is not registered for the retail sales and use tax in Virginia. While the Taxpayer may charge the retailers for the cost of the packaging materials or may pass the cost of the materials on to the retailers, the Taxpayer is not making retail sales of the packaging materials.

Public Document (P.D.) 14-103 (7/3/2014) was referenced in the audit to support the assessment issued on the packaging materials. In that ruling, the taxpayer was a service provider that received, preserved, packaged and shipped tobacco leaves on behalf of a tobacco manufacturer. The service provider requested a ruling on whether the manufacturing and processing exemption applied to the packaging products purchased to provide its services to the manufacturer. Because the service provider did not qualify as an industrial manufacturer or processor, the Department ruled it was the consumer of all materials used in providing packaging and shipping services to the manufacturer, and was required to pay the sales tax to its vendors on purchases of packaging and shipping materials. The facts addressed in P.D. 14-103 are analogous to this case in that the Taxpayer was a service provider that provided packaging services to the retailers and, therefore, was the user and consumer of the packaging materials and is thus liable for the tax on the purchase of such materials.

Accordingly, the purchases of cartons, tape, labels, boxes and polybags and other packaging materials was properly included in the audit, and the assessment is upheld. Because the assessment has been paid in full, no further action is required by the Taxpayer.

The Code of Virginia section and regulations cited are available on-line at www.tax.virginia.gov in the Laws, Rules and Decisions section of the Department’s web site. If you have any questions about this response, you may contact * in the Department’s Office of Tax Policy, Appeals and Rulings, at ***.

Sincerely,

Craig M. Burns

Tax Commissioner

AR/2161P

Related Documents

14-103