97-1378

Sales

Signed 7/13/98

BEFORE THE UTAH STATE TAX COMMISSION

____________________________________

PETITIONER, :

: ORDER

Petitioner, :

: Appeal No. 97-1378

v. : Account No. #####

AUDITING DIVISION OF : Tax Type: Sales

THE UTAH STATE TAX )

COMMISSION, : Presiding: Oveson

Respondent. :

_____________________________________

Presiding:

W. Val Oveson, Commissioner

Appearances:

For Petitioner: NAME

For Respondent: Susan L. Barnum, Assistant Attorney General

STATEMENT OF THE CASE

This matter came before the Utah State Tax Commission on March 10, 1998 for an Initial Hearing pursuant to the provisions of Utah Code Ann. §59-1-502.5.

Respondent conducted a sales and use tax audit on Petitioner's records for the period of April 1, 1994 through February 28, 1997. Thereafter Respondent issued a deficiency assessment against Petitioner. At issue in this case is Respondent's determination that Petitioner is not a qualified manufacturer which is eligible to purchase machinery and equipment tax free under section 59-12-104 (15) of the Utah Code. Also at issue is Respondent's determination that Petitioner is not a manufacturer for purposes of the exemption on purchases of fuel.

APPLICABLE LAW

1. Utah Code Ann. §59-12-102 (Supp. 1995) states in pertinent part:

(2) “Commercial consumption” means the use connected with trade or commerce and includes:

(a) the use of services or products by retail establishments, hotels, motels, restaurants, warehouses and other commercial establishments;

. . . .

2. Utah Code Ann. §59-12-103 (Supp. 1995) states in pertinent part:

(1) There is levied a tax on the purchaser for the amount paid or charged for the following:

. . .

3. Utah Code Ann. §59-12-104 (Supp. 1995)[i]¹ states in pertinent part:

The following sales and uses are exempt for the taxes imposed by this chapter:

. . .

(16) (a) sales or leases of machinery and equipment purchased or leased by a manufacturer on or after July 1, 1995 for:

(A) manufacturing facility means an establishment described in SIC Codes 2000 to 3999 of the 1987 Standard Industrial Classification manual, of the federal Executive Office of the President, Office of Management and Budget;

(B) for purposes of this subsection, the commission shall by rule define the terms “new or expanding operation” and “establishment”;

. . . .

4. Utah Admin. Rule R865-19S-35 (Supp. 1995) states in pertinent part:

A. “Commercial consumption” is as defined in Section 59-12-102(1).

B. “Noncommercial consumption” is defined as fuel used in:

. . .

3. use in manufacturing tangible personal property or use in producing or compounding of a product which will be resold.

. . .

F. If a firm has activities which are commercial and noncommercial and all fuels are furnished at given locations through single meters, the predominant use of the fuels shall determine taxable status of the fuels.

5. Utah Admin. Rule R865-19S-85 (Supp. 1995) states in pertinent part:

E. Machinery or equipment purchased or leased for use in activities that may qualify it for exemption, as well as in other activities, will not lose the exemption if the use in nonqualifying activities is determined to be de minimis. Nonqualifying activities are activities such as maintenance or production of tangible personal property that is not sold in arms-length transactions.

DISCUSSION

Petitioner is a subsidiary of COMPANY A. Petitioner fabricates precast concrete and marble or granite building products. Approximately 80% of Petitioner's products are installed or converted to real property under "furnish and install" contracts entered by Petitioner. In those cases, Petitioner's sister corporation, COMPANY B ("COMPANY B"), may actually perform or participate in the installation. The remaining 20% of Petitioner's products are sold at retail to unrelated third parties.

Petitioner claims that it is a manufacturer under section 59-12-104 of the Utah Code and that it merely manufacturers building products for installation by real property contractors such as COMPANY B, its parent company COMPANY C, or independent third parties. Respondent argues that Petitioner is a real property contractor and, therefore, does not qualify for the manufacturing exemption on its purchases of equipment or machinery.

Petitioner states that it is a manufacturer of precast concrete and other building products. The bulk of Petitioner's product is converted to real property by COMPANY B and COMPANY C. Petitioner argues that even though COMPANY B and COMPANY C operate as real property contractors, they are separate legal entities and the character of their operations cannot be attributed to Petitioner so as to designate Petitioner a real property contractor.

We agree with Petitioner that COMPANY B and COMPANY C are separate "establishments" for purposes of the manufacturing exemption, but the nature of their operations are not relevant. The evidence before us demonstrates that Petitioner routinely enters contracts as a construction contractor or subcontractor. Under the terms of the contracts, Petitioner is responsible to supply materials, equipment and workmen to complete real property construction projects. In some cases, the contracts expressly require Petitioner to furnish proof of its State Contractor's License (see, e.g., letter to Petitioner dated June 13, 1995 pursuant to its contract with COMPANY D and article XXI of the Subcontract Agreement between Petitioner and COMPANY E.). The contracts and fact that Petitioner has a State Contractor's License is substantial proof that Petitioner operates as a construction contractor. The fact that Petitioner subcontracts with COMPANY B to install the materials on Petitioner's behalf (see bridge contract, in which Petitioner is named as the contractor and COMPANY B is named as Petitioner's subcontractor) does not change the character of Petitioner's business. The Commission finds that Petitioner is a real property contractor and that it fabricates products for its own use in performing its construction contracts. Accordingly, with respect to products fabricated by Petitioner for its own consumption, Petitioner operates as a real property contractor within SIC 1791, and not as a manufacturer.

Twenty percent of Petitioner's products are sold at retail in arms-length transactions. The products sold at retail are fabricated at the same site, using the same equipment and machinery as that used to produce the products that Petitioner consumes in its own construction projects. The question here is whether this activity qualifies Petitioner for the manufacturing exemption.

Respondent points out that Petitioner must qualify as a manufacturing establishment in accordance with the 1987 SIC manual. One principle underlying the SIC system is that each establishment is classified according to its primary activity. Standard Industrial Classification Manual, p. 11.) Petitioner's primary activity is construction, so it cannot claim to be a manufacturer.

Petitioner tries to overcome Respondent's argument by pointing out that it actually operates two separate establishments. One establishment, the manufacturing operation, is carried on at its plant in CITY, Utah. The construction activities constitute a separate establishment because they take place outside the plant at various job sites. However, "[f]or activities such as construction . . . and similar physically dispersed operations, establishments are represented by those relatively permanent main or branch offices, terminals, stations, etc., that are either (1) directly responsible for supervising such activities, or (2) the base from which personnel operate to carry out these activities." Standard Industrial Classification Manual, p.12. We find that Petitioner runs its business out of a single location.

To overcome Respondent's argument, Petitioner would have to show that it is operating two separate and distinct establishments at the same location. Even if Petitioner could do that, it faces another obstacle. Petitioner use the same equipment or machinery for both qualifying (manufacturing) and nonqualifying (construction) activities. Under Utah Administrative Rule R865-19S-85, when equipment or machinery is used for both qualifying and nonqualifying uses, it is eligible for exemption only if its use in nonqualifying activities is de minimis. In this case, the equipment and machinery was used predominately for nonqualifying activities, and Petitioner cannot claim that the nonqualifying use was de minimis. Therefore, the Commission sustains Respondent and finds that Petitioner is liable for sales and use tax on the purchase or lease of equipment and machinery used to fabricate its construction materials.

Turning to the issue of sales tax on fuel and electricity, section 59-12-103 of the Utah Code imposes tax on fuel and electricity sold for commercial consumption. Commercial consumption does not include manufacturing operations that produce goods for resale in arms-length transactions as tangible personal property. Utah Admin. R. R865-19S-35. Eighty percent of the product fabricated by Petitioner was converted by Petitioner into real property. It was not, as required by the rule, sold in arms-length transactions as tangible personal property. The fuel exemption does not apply to that portion of Petitioner’s operations. As to the other 20%, Petitioner was involved in manufacturing activities. However, when, as is this case, the operation involves both qualiying and nonqualifying uses and the fuel or electricity is measured through a single meter the predominate use determines whether the exemption applies. Id. The predominate use of the fuel and electricity on Petitioner’s property was a nonqualifying use. Therefore, Petitioner is not eligible for the exemption.

DECISION AND ORDER

Based on the foregoing, the Commission sustains Respondent’s assessments. This decision does not limit a party's right to a Formal Hearing. However, this Decision and Order will become the Final Decision and Order of the Commission unless any party to this case files a written request within thirty (30) days of the date of this decision to proceed to a Formal Hearing. Such a request shall be mailed to the address listed below and must include the Petitioner's name, address, and appeal number:

Utah State Tax Commission

Appeals Division

210 North 1950 West

Salt Lake City, Utah 84134

Failure to request a Formal Hearing will preclude any further appeal rights in this matter.

DATED this 13 day of July, 1998.

W. Val Oveson

Commissioner

BY ORDER OF THE UTAH STATE TAX COMMISSION.

The Commission has reviewed this case and the undersigned concur in this decision.

DATED this 13 day of July, 1998.

Richard B. McKeown

Commissioner

Joe B. Pacheco Pam Hendrickson

Commissioner Commissioner