BEFORE THE UTAH STATE TAX
COMMISSION
_____________________________________
XXXXX
Petitioner, ) FINDINGS OF FACT,
) CONCLUSIONS
OF LAW,
v. ) AND FINAL DECISION
AUDITING
DIVISION OF THE ) Appeal No. 87-0435
UTAH STATE TAX
COMMISSION, )
Respondent. )
_____________________________________
STATEMENT OF CASE
This
matter came before the Utah State Tax Commission for a formal hearing on
XXXXX. XXXXX, Presiding Officer and R.
H. Hansen, Chairman, heard the matter for and on behalf of the Commission. Present and representing the Petitioner was
XXXXX, Attorney at law, of XXXXX.
Present and representing the Respondent was XXXXX, Assistant Utah
Attorneys General.
Based
upon the evidence and testimony presented at the hearing, the Tax Commission
hereby makes its:
FINDINGS OF FACT
1.
The tax in question is sales and use tax.
2.
The period in question is XXXXX.
3.
On XXXXX, XXXXX entered into a "General Contractors Agreement"
pursuant to which XXXXX was to act as the general contractor for XXXXX for the
construction of XXXXX. The agreement
required the general contractor to furnish "all labor and material, tools,
implements, and equipment, scaffolding, permits, fees, etc." to build the
school in accordance with the plans and specifications.
4.
The agreement provided for direct purchases of construction materials by the
school district by adherence to certain procedures as follows:
a.
The owner (XXXXX) could purchase certain major items and quantities of
materials for utilization in the project by writing purchase orders directly to
the suppliers.
b.
The general contractor and its subcontractors, were required to make a list of
materials and the cost for which such materials could be directly purchased.
c.
The owner would then provide purchase requisitions upon which the contractor
would specifically state its needs and schedules for delivery dates.
d.
The purchase orders were then written by the owner from the requisitions.
e.
The purchase order amount plus the sales tax amount was deducted from the total
contract amount.
f.
Invoices received upon receipt of delivery of materials to the project site
were sent to the owner for direct payment.
g.
The contractor was required to hold the owner harmless for any losses, claims,
defects, discrepancy, delays in delivery or other problems relating to the
materials except where the failure was attributable to negligent acts or
omissions by the owner.
h.
All risk of loss or damages to materials resulting from theft, vandalism or any
other cause after the delivery of the materials to the project site was assumed
by the contractor.
i.
The contractor was required to negotiate and administer all direct purchases by
the owner and to furnish to the owner a description, source of supply, trade discount
information and other information necessary to enable the owner to purchase
directly any materials and equipment.
j.
The agreement stated that title to all such materials and equipment purchased
by the owner passed from the vendor directly to the owner upon delivery to the
job site.
k.
After delivery, the risk of loss, damage, theft, vandalism, or destruction of
or to any materials and equipment purchased directly by the owner were the
responsibility of the contractor.
l.
Storage of any materials and equipment furnished by the owner was the
responsibility of the contractor.
m.
The contractor was required to acknowledge receipt and approval of any
materials or equipment purchased directly by the owner by signing the invoice
for any materials or equipment.
n.
The owner was to make payment for any materials or equipment within a
reasonable time after the receipt of the signed invoice from the contractor.
o.
The owner was not responsible for the loss of a prompt payment discount from
the purchase price if the owner made payment within ten business days following
the receipt of the signed invoice from the contractor by the owner.
p.
The contract price was reduced by the amount actually paid by the owner for
materials and equipment and by the sales tax which would have been paid on
those materials and equipment had they been supplied by the contractor.
Similarly, the amount of any progress payment provided for was adjusted to
reflect the direct purchase of any materials and equipment by the owner.
q.
The owner was not responsible for the loss of or reduction in any trade
discounts available to the contractor as a result of any purchases made by the
owner.
r.
All bonds and insurance were to remain in full force. There was no reduction in
the amount of coverage or any deduction for premiums for bonds and insurance.
s.
The provisions for direct purchase by the owner of materials and equipment did
not relieve the contractor of any of its duties or obligations under the
contract or constitute a waiver of the owner's right to absolute fulfillment of
all the terms of the agreement.
t.
The contractor was required to provide and pay for all materials and equipment
not furnished by the owner and to provide and pay for labor, transportation,
services, tools, machinery and all other items and services, necessary for the
proper execution and completion of the work on the project.
u.
If the contractor put into the work any unsatisfactory material or workmanship,
the contractor was required to remove all such materials from the project.
6.
Petitioner was the plumbing subcontractor after entering into an agreement with
XXXXX and was required to furnish and install plumbing fixtures on the project,
subject to provisions for change orders.
7.
The owner, reserved the right to award separate contracts to perform work with
its own forces if it so desired.
8.
The General Conditions of the Contract for Construction also provided that the
owner could amend the contract by change order and also subtract a contract sum
from the total contract if it so desired.
9.
The General Conditions provided for the owner's right to stop the work in the
event of default or defalcations by the contractor.
10.
The Supplementary Conditions of the Instructions to Bidders contained a
statement that the title to all materials purchased directly by the owner on
its own purchase orders, passed from the vendor directly to the XXXXX upon
delivery to the job site without any vesting in the contractor.
11.
On XXXXX, XXXXX, as general contractor, entered into a subcontract agreement
with Petitioner XXXXX.
12.
Pursuant to the subcontract, the Petitioner was the prime plumbing contractor
on the project.
13.
The contracting documents provided for change orders.
14.
Change orders were made to the subcontract for materials directly purchased by
the Petitioner.
15.
Pursuant to contract documents, purchase orders were issued by the school
district.
16.
No surplus materials from the project were retained by the Petitioner. All materials purchased by the owner and
installed by the Petitioner became fixtures or a part of the junior high school
building.
17.
One warranty was provided to the owner by XXXXX, for work performed by the
Petitioner in relation to a water heater.
The Petitioner installed the water heater as a part of the project, and
the warranty covered the installation and performance of the water heater. The warranty recognized the owner as the
appropriate claimant for any defects which may occur with the water
heater. There were no other warranties
on materials installed in the project by the Petitioner.
18.
XXXXX was the school district's construction supervisor and representative for
the project. XXXXX is and has been an employee
of the XXXXX, and has supervised and managed other construction related
projects as the school district's construction supervisor.
19.
XXXXX completed an apprenticeship as a bricklayer, and is generally familiar
with all phases and common methods of construction and of the interfacing
relationship between architect, contractor, subcontractor and the school
district.
20.
XXXXX is familiar with materials that are used in construction and with
materials installed on the Project.
21.
XXXXX visited the project site in the company of the project architect at least
weekly during the construction. He was
ultimately responsible to authorize the issuance of purchase orders for
construction materials on behalf of the school district. XXXXX, the purchasing agent and an employee
of the school district, was directly responsible to fill out purchase orders on
behalf of the school district and to send them to suppliers of materials for
the project.
22.
After delivery, the risk of loss, damage, theft, vandalism, or destruction of
or to any such materials and equipment so purchased would lie with the
contractor unless the damage resulted from the owner's negligence.
23.
The materials on the project were covered by the owner's insurer, XXXXX. The owner provided insurance coverage for
owner purchased materials after purchase and through construction of the
building.
24.
If the owner decided to directly purchase materials through the above described
procedure, invoices received upon delivery of materials to the project site
were sent to the owner for direct payment to the vendor.
25.
The change orders which were executed did not relieve the Petitioner of its
duty to furnish materials, so the contract remained a furnish and install
contract.
26.
The owner did not actively participate in the receipt or inspection of the
materials, either by or through XXXXX or any other representative.
27.
The Petitioner, and not the owner, was responsible for all claims, shortages
and defects in the materials, including those materials purported to have been
purchased by the owner. Petitioner also
warranted that all materials, including those purported to have been purchased
by the owner, were and would be free of defects for a period of at least one
year after acceptance of the project by the owner.
28.
Even after the change orders had been made, the contract still required the
Petitioner to be responsible for "furnishing of all materials and labor
required for the job as described, together with all minor items implied or
required to finish the entire work . . .." The contract also held
Petitioner responsible for the final result,
and provided that "This contractor shall furnish and install all fixtures
shown or specified hereinafter and make all parts complete and leave the entire
system in perfect working order . . .. Any damaged or cracked fixtures shall be
replaced at the contractors expense."
29.
The risks of ownership of the materials was never on the owner, but shifted
directly from the vendor to the Petitioner.
30.
The Petitioner, not the owner, bore the burdens of risk. The contract provided,
"The contractor shall, in all cases, hold the owner harmless for any
losses, claims, defects, discrepancy, delays in delivery or other problems
relating to such materials . . . . all risk of loss or damage to materials
resulting from theft, vandalism or any other cause whatsoever, shall be assumed
by the contractor. . .."
31.
The owner reserved the right to go on the job site "to protect the Board
from defects and deficiencies in the work" or even to stop or reject the
work, but none of those actions by the owner acted to relieve the Petitioner
from full responsibility for not only the labor and installation, but also the
materials.
32.
When the materials were ordered, the involvement of the owner was minimal. When
the materials were received and paid for, the Petitioner was required to
"acknowledge receipt and approval of any such materials or equipment
directly purchased by the Board by signing the invoice for any such material or
equipment." Also, XXXXX was
responsible to inspect and notify the owner of receipt, conformance and quality
of materials. Thus, payment for the
materials was made only after authorization from Petitioner.
33.
The Petitioner bore the responsibility and expense of problems with the
materials purchased, such as when a boiler had a defective part and the
Petitioner, not the owner, called the supplier and had the boiler repaired.
34.
The Petitioner, not the owner, had the burdens and benefits of ownership, and
possessed control and ownership of the materials and property.
35.
Petitioner did not present any evidence that there had been any detrimental
reliance upon RuleR865-19S-42.
CONCLUSIONS OF LAW
1.
Sales made to the state, its institutions, and its political subdivisions are
exempt from sales and use taxes. (Utah
Code Ann. §59-12-104(2).)
2.
Sales made to or by religious or charitable institutions in the conduct of
their regular religious or charitable functions and activities are exempt from
sales and use taxes. (Utah Code Ann.
§59-12-104(8).)
3.
Sales of tangible personal property to real property contractors and repairmen
of real property are subject to sales and use taxes. (RuleR865-19S-58).
4.
The person who converts personal property into real property is the consumer of
the personal property since he or she is the last person to own it as personal
property. (RuleR865-19S-58). Utah Concrete Products Corp. v. State Tax
Commission, 802 P.2d 408 (Utah 1942); Olson Construction Company v. State Tax
Commission, 12 Utah 2d 42, 361 P.2d 1112 (Utah 1961); and Tummurru Trades, Inc.
v. Utah State Tax Commission, 802 P.2d 715 (Utah 1990).
5.
The contractor or repairman is the consumer of tangible personal property used
to improve, alter or repair real property. (RuleR865-19S-58).
6.
Sales of materials and supplies to contractors and subcontractors are taxable
transactions as sales to final consumers, even if the contract is performed for
a religious institution, charitable organization, or governmental
instrumentality. (RuleR865-19S-58).
7.
Sales of materials to religious institutions, charitable organizations, and
governmental instrumentalities are exempt only if sold as tangible personal
property and the direct or indirect seller does not install the material as an
improvement to realty or use it to repair real property. (RuleR865-19S-58).
8.
The contractor must accrue and report tax on all merchandise bought tax-free
and used in performing contracts to improve or repair real property.
(RuleR865-19S-58).
9.
RuleR865-19S-58 is the primary rule governing the sale of materials and
supplies sold to owners, contractors and repairmen of real property, and it
sets forth the requirements for the taxation of the sale or acquisition of tangible
personal property which is to be used to improve, alter or repair real
property. That rule provides in
relevant part:
A.
Sale of tangible personal property to real property contractors and repairmen
of real property is generally subject to tax.
1.
The person who converts the personal property into real property is the
consumer of the personal property since he is the last one to own it as
personal property.
2.
The contractor or repairman is the consumer of tangible personal property used
to improve, alter or repair real property; regardless of the type of contract
entered into--whether it is a lump sum, time and material, or a cost-plus
contract.
3.
The sale of real property is not subject to the tax nor is the labor performed
on real property. For example, the sale
of a completed home or building is not subject to the tax, but sales of
materials and supplies to contractors and subcontractors are taxable
transactions as sales to final consumers.
This is true whether the contract is performed for an individual, a
religious institution, or a governmental instrumentality.
4.
Sales of materials to religious or charitable institutions and government
agencies are exempt only if sold as tangible personal property and the seller
does not install the material as an improvement to realty or use it to repair
real property.
10.
Sales of materials from a vendor to a contractor or other person or entity for
use in the construction, improvement, alteration or repair of real property for
a governmental entity, religious institution or charitable organization is not
exempt from sales and use tax. The
incidents of the tax have been imposed on the contractor and not on the exempt
entity. To be exempt, the sale must be
from the vendor directly to the governmental entity, religious institution or
charitable organization for the use of, and consumption by, the exempt entity.
11.
The fact that the burden of the tax may be passed by the contractor on to the
exempt entity in the form of higher prices and is thus paid indirectly by the
exempt entity does not result in tax exemption for the transaction. (RuleR865-19S-58), Utah Concrete Products
Corp. v. State Tax Commission, 101 Utah 513, 125 P.2d 408 (1942), and Ford J.
Twaits Co. v. Utah State Tax Commission, 106 Utah 343, 148 P.2d 343 (1944),
Olsen Construction Company v. State Tax Commission, 12 U.2d 42, 361 P.2d 1112
(1961).
12.
Parties seeking exemptions from the imposition of that tax bear the burden of
proving that they qualify and are legally entitled to the exemption. Parson Asphalt Products v. Utah State Tax
Commission, 617 P.2d 397 (1980).
13.
In order for the sale to the exempt entity to be exempt from sales and use tax
it must be a bona fide sale to the exempt entity acting either in the capacity
as the final consumer of tangible personal property or the entity which
converts the tangible personal property to real property. The sale is such a bona fide sale to an
exempt entity only if either:
a.
The sale of materials or supplies is to the exempt entity and the exempt entity
has its own employees attach the materials and/or supplies to the realty, or
b.
The sale of materials and supplies is to the exempt entity, and the exempt
entity separately hires a contractor to attach the materials and/or supplies to
the realty on a labor only or install only contract, or
c.
The sale of materials and supplies is to an exempt entity which acts as the
prime contractor by converting the tangible personal property to real property.
14.
The sale of tangible personal property is not exempt from sales and use tax if
the exempt entity is simply acting as the purchasing agent for the general
contractor. It is not merely whether
the exempt entity engages in the mechanics of a purchase, but rather the legal
status of the exempt entity at the time the purchase is made, i.e., is it
purchasing the property as the final consumer of the tangible personal
property. If the exempt entity makes
the purchase for itself and its own use, consumption, or conversion to real
property, the purchase is exempt from sales and use tax. On the other hand, if the exempt entity
makes the purchase for another person or entity, or for use, consumption, or
conversion to real property by another person or entity, the purchase is not
exempt from sales and use tax because the exempt entity has only acted in the
capacity of a purchasing agent for the final consumer which is the contractor.
15.
If the exempt entity enters into a furnish and install contract with a general
or subcontractor which requires the general or subcontractor to furnish and
install the materials and supplies, then the exempt entity is not acting as the
prime contractor as to the materials and supplies required by contract to be
provided by the general or subcontractor.
16.
When the general or subcontractor is required by contract to provide materials
and supplies and install them on real property, then the contractor is the
consumer of that tangible personal property and is liable for the sales and use
tax, even if an exempt entity goes through the mechanics of a purchase by
issuing a purchase order and a check for payment. The contract is the controlling document, and determines who is
the final consumer of tangible personal property, and thus the contract
determines upon which party the incidence of taxation falls. Actions taken in noncompliance with the
contract may be accepted without objection by the contractor and the exempt
entity, but unless the contract is modified or changed by change order to show
the consent of the contractor and the exempt entity to the modifications, the
actions that are not in compliance with the contract do not shift or change the
incidents of taxation. The written
terms of the agreement will govern the taxability of the transaction and not
the actions of the parties. This is
especially so because written documents can be audited by State Tax Commission
auditors, but actions, based on only after the fact statements, allegations or
representations are impossible to audit.
17.
For the exempt organization to be acting as the prime contractor, the exempt
organization, by and through its own employees or agents must:
a.
Exercise direct supervision over the construction project.
b.
Issue purchase orders to the vendors for all materials and supplies for which
sales tax is not paid.
c.
Make direct payment to the vendors for all materials and supplies for which
sales tax is not paid.
d.
Have provisions in any furnish and install contracts to permit changes through
change orders to make that portion of the contract a labor only or install only
contract, and those contractual provisions must be fully implemented and
followed during the construction process.
18.
For the exempt organizations to act as the prime contractor exercising direct
supervision over the construction project it is not necessary to act as the
general contractor over the entire project. Instead, the exempt organization
must exercise sufficient direct supervision over the purchased materials that
there is a change in the legal status of which entity is responsible for those
materials. Therefore, the exempt
organization may be the prime contractor by exercising sufficient direct
supervision over the purchased materials to be the prime contractor for a portion
of the total contract. The prime contractor
or direct supervision requirement may apply to relationships within the full
general contract.
19.
To be the prime contractor and exercise sufficient direct supervision, the
exempt organization must assume the "burdens of risk" or the
"incidents of risk." This
requires evidence that the exempt organization has done more than just act as a
"purchasing agent" for the general contractor. If a general contractor issues a purchase
order on forms of the exempt entity and then later issues authorization for
payment by check to the exempt entity, there has just been the creation of a
"paper trail" and the direct supervision test has not been met.
20.
If the exempt organization and a general contractor enter into a furnish and
install contract, the general contractor is contractually required to provide
and install those materials. When the
contractor provides and installs those materials the contractor is the final
consumer of those materials and is required to pay sales or use tax on those
materials (RuleR865-19S-58). For the
exempt organization to purchase those materials and avoid sales or use tax, the
furnish and install contract must contain a provision permitting change orders
so the exempt organization may make such purchases, and the parties must then
actually execute such change orders in advance of the purchases. The exempt organization, by its own
employees or agents, must then issue purchase orders and vouchers or checks for
payment, and must exercise direct supervision over the purchased materials. As evidence regarding whether or not the
exempt organization exercised direct supervision over the purchased materials,
all of the relevant factors should be reviewed, including:
a.
Who assumed the burdens or incidents of risk?
b.
Who carried the risk of loss in the event of damage or destruction of the
materials?
c.
Who, if anyone, carried and paid for insurance on the materials after delivery
and prior to installation or attachment to the real property?
d.
Who physically inspected and counted the materials upon receipt?
e.
If there was a shortage in materials upon receipt, who was required to pay for
additional materials?
f.
If there was an overage in materials upon receipt, who retained the surplus
materials?
g.
If the materials did not meet specifications or quality standards, who had the
right and authority to reject those materials?
h.
If materials were rejected for failure to meet quality standards or
specifications, and it had resulted in a shutdown of the job, who would have
been responsible for the shutdown expenses?
i.
Who was responsible for enforcing any warranties on the materials?
j.
To whom did recourse go if the materials were faulty or defective?
k.
If materials failed after installation, who was responsible for any resulting
damages including personal injuries?
l.
To whom did the title pass for the purchased materials?
m.
Were the bills submitted by the vendor directly to the exempt organization?
n.
Did the vendors look only to the exempt organization for payment of the bill?
o.
Did the general contractor or the subcontractor have to approve the bills
before they were paid by the exempt organization?
p.
To whom were the materials delivered, i.e., to the contractor, the exempt
organization or one of its employees or agents, or directly to the job site?
21.
Under a furnish and install contract, the contractor is required to furnish the
materials and install those materials onto real property. Thus, the contractor is required to convert
that tangible personal property into real property and the tax is imposed on
that consumption of the tangible personal property by the contractor. Therefore, to avoid sales and use tax on
materials used for a furnish and install contract, the contract must be modified
through the execution and implementation of change orders. When those change orders have been executed
and implemented, the modified contract must make it clear that the materials in
question have been separately purchased and provided by the exempt organization
and that the contractor's only duty with respect to those materials is to
provide the labor to install those materials.
22.
For the purchases of materials and supplies to be exempt from sales and use
tax, the exempt entity must make the purchase and, title to the purchased items
must pass to the exempt entity prior to the time it is attached to real
property. The exempt entity must deal
with the purchased items as its own property and treat those items the same as
it would treat items it purchases for its own use and consumption.
DECISION AND ORDER
Sales
and Use Tax is imposed not only upon the sale of tangible personal property,
but also upon "tangible personal property stored, used or consumed in this
state." (U.C.A.59-12-103[1]). In
the construction business, when a person uses lumber, bricks, cement, steel,
nails, and other materials to construct a building or other improvements to
real estate, that person has used those materials and has converted the
materials into real property. That
conversion of tangible personal property into real property is deemed to be the
consumption or use of the tangible personal property, which is the taxable
event.
The
Utah Supreme Court has consistently held that sales and use tax is imposed upon
the party that converts tangible personal property into real property. Utah Concrete Products Corp. v. State Tax
Commission, supra, Olson
Construction Co. v. State Tax Commission
supra and Tummurru Trades, Inc. v. Utah State Tax Commission, supra. The party that makes that conversion from
tangible personal property to real property has used or consumed that property,
is the real property contractor, and is taxed on that property. If that conversion to real property is performed
by anyone except an exempt entity, the use and consumption of the converted
materials is subject to sales and use tax.
If the conversion to real property is performed by an exempt entity
acting as the real property contractor, the use and consumption of the
converted materials is not subject to sales and use tax.
Therefore,
the primary issue in this case is to determine whether the Petitioner or the
owner was the real property contractor.
If a preponderance of the evidence indicates that Petitioner was the
party that converted the tangible personal property into real property, then
Petitioner was the real property contractor and is liable for the tax assessed
by the Auditing Division. However, if a preponderance of the evidence indicates
that the owner was the party that converted the tangible personal property into
real property then the owner was the real property contractor and was exempt
from the sales and use tax.
To
determine which party was the real property contractor, it is necessary to review
and analyze the full scope of the contract and the legal rights, duties,
obligations, and relationships of the parties with respect to the materials
converted into real property. The
primary evidence available to the Commission to make that determination is the
contract and agreement, together with all duly executed change orders and other
written documents. Oral testimony is
beneficial in interpreting the documents and gaining some insight into the
conduct of the parties and, to some extent, their understanding of the
requirements of the contract. However,
where any inconsistencies may exist between the written contract, including
executed change orders, and either the conduct or oral testimony of any person,
the written contract must be presumed to govern or prevail.
In
this proceeding, a preponderance of the evidence shows that the legal rights,
duties and obligations of the owner did not rise to the level of the real
property contractor because the owner did not assume the burdens, risks, responsibilities
and incidents of ownership of the materials being converted to real
property. Except for the paper work
involved in the purchase order and the check for payment, the owner had only
minimal involvement in the project, during the construction process. The general contractor and the
subcontractors had nearly total control of and responsibility for the materials
during the construction process. The
Petitioner provided lists, specifications and costs of materials to be
purchased, and then received, inspected and approved the materials, signed the
invoices, carried bonds and insurance on the materials, negotiated and
administered the purchases of materials, and was fully responsible for the
materials and any problems with the materials.
The Petitioner was also required to hold the owner harmless from any
problems with the materials. The
Petitioner, and not the owner, assumed nearly all of the burdens, risks and
incidents of ownership of those materials.
The
owner did have a construction supervisor who made weekly visits to the project,
but there is no evidence that he had any authority to be involved in the
management of that project. It appears
that his role was primarily to observe the construction progress and report
back to his employer. There is no evidence that the construction supervisor had
any responsibility to review or even look at the materials which the Petitioner
alleges had been purchased by the school district, and there is no evidence
that he was in any way involved with the materials that were converted to real
property.
The
owner did carry insurance on those materials, but the contractor was also
required to carry insurance on those materials. The contractor and subcontractors (including Petitioner) had all
other burdens, risks, responsibilities, and incidents of ownership on those
materials. The Petitioner was
contractually required to provide the materials for its portion of the
project. Petitioner installed those
materials onto the project, and acted as the owner of those materials by
assuming the risks, burdens, responsibilities and incidents of ownership during
the construction process. A
preponderance of the evidence indicates that Petitioner converted those
materials from tangible personal property into real property. Therefore, Petitioner was the real property
contractor for those materials and pursuant to RuleR865-19S-58 was liable for
the use tax on those materials.
Based
upon the foregoing, it is the order of the Utah State Tax Commission that the
Petition for Redetermination is hereby denied, and the audit assessment made by
the Auditing Division is affirmed. It
is so ordered.
DATED
this 10 day of March, 1992.
BY ORDER OF THE UTAH STATE TAX COMMISSION.
R. H. Hansen Roger
O. Tew
Chairman Commissioner
Joe B.
Pacheco G.
Blaine Davis
Commissioner Commissioner