Applying Sales/Use Tax Manufacturing Exemp9ons to Telecommunica9ons Services May 18, 2016

Transcription

1 Applying Sales/Use Tax Manufacturing Exemp9ons to Telecommunica9ons Services May 18, 2016 Seth Kaufman, Execu9ve Director Senior Legal Counsel, AT&T June S. Haas, Honigman Miller Schwartz and Cohn LLP 1

2 Agenda Basic features of the Manufacturing Exemp9on Policy behind Manufacturing Exemp9on Case law Lessons learned what works, what does not 2

3 Manufacturing or Industrial Processing Requires: Exemp9on Change of raw materials into finished product. Change in nature, form, iden9ty, composi9on. Key descrip9ve words: processing, fabrica9ng, assembling. Produce a taxable product. 3

4 Manufacturing Exemp9on Produc9on of tangible personal property (TPP) or product for sale. Exempts purchases of machinery and equipment used in the manufacturing process: Directly and exclusively Propor9onately Exempts tangible personal property that becomes an ingredient or component part of the product for sale. May include property consumed or destroyed in the manufacturing process. State specific rules and regula9ons. 4 4

5 Manufacturing Exemp9on Manufacturing may indeed include, e.g., produc9on or assembly; research or experimental ac9vi9es; engineering related to industrial processing; inspec9on, quality control, or tes9ng to determine whether par9cular units of materials or products or processes conform to specified parameters at any 9me before materials or products first come to rest in finished goods inventory storage; Planning, scheduling, supervision, or control of produc9on or other exempt ac9vi9es; 5

6 Manufacturing Exemp9on Manufacturing may indeed include, e.g., Design, construc9on, or maintenance of produc9on or other exempt machinery, equipment and tooling; Remanufacturing; Processing of produc9on scrap and waste up to the point it is stored for removal from the plant of origin; Recycling of used materials for ul9mate sale at retail or reuse; Produc9on material handling; Storage of in-process materials. 6

7 Manufacturing Exemp9on Generally excludes: Tangible personal property becoming permanently affixed to real property; Office furniture and equipment; Self-consumed goods; Vehicles; Sales, distribu9on, warehousing, and shipping; Raw material purchasing and receiving storage; Administra9on, accoun9ng, or personal services. 7

8 Manufacturing Exemp9on Policy 1. Encourage investment in capital/job crea9on. 2. Prevent pyramiding of taxes by: Exemp9ng component parts of taxable good or product; Exemp9ng machinery and equipment used to produce taxable good or product; Exemp9ng fuel for produc9on process; Exemp9ng research, design, tes9ng of process. 8

9 Does the Manufacturing Exemp9on Apply to Telecommunica9on Services? Services taxed in the same manner as tangible personal property. Tangible personal property defined as: personal property that can be seen, weighed, measured, felt or touched, or that is in any other manner percep9ble to the senses. Manufacturing exemp9on applies to taxable product TPP and services? 9

10 Case Law 10

11 Manufacturing Exemp9on Cases Southwestern Bell Tel Co v Director of Revenue, 78 SW3d 763 (Mo 2002) Taxpayer argued that the telecommunica9ons signal was a taxable product eligible for manufacturing exemp9on. Dep t argued that under MO law telecommunica9ons was a service and thus could not cons9tute TPP. Court held that the telecommunica9ons service is an manufactured voice product that is manufactured and may be eligible for the manufacturing exemp9on. Remanded for further fact finding. Overruled GTE Automa;c Electric v Director, (MO Banc, 1989) (780 SW2d 49 (holding that telephone services were not products for purposes of manufacturing exemp9on) 11

12 Manufacturing Exemp9on Cases Southwestern Bell Tel Co v Director of Revenue, MO Supreme Court, Docket No. SC86441 (2005) Telecommunica9ons company transmission and distribu9on equipment are exempt from use tax as used in the process of manufacture of basic and ver9cal telecommunica9ons services. The transmission and distribu9on equipment sa9sfied the three-prong test of the integrated plant doctrine: Is the item - It the item necessary to produc9on; how close, physically and causally, the disputed item is to the finished product; and whether the disputed item operates harmoniously with the exempt machinery to make an integrated and synchronized system Document Header: Court held that the telecommunica9ons service is a product of the en9re system since it is worthless if not transmijed between customers. The en9re system manufactures the services. 12

13 Manufacturing Exemp9on - Cases XO Communica;ons v Comm r, Minn Tax Court Docket No R (2003) Telecommunica9on company sought refunds for tax paid on equipment used in crea9ng the telecom signal. Equipment manufactured TPP Equipment was purchased for resale Denial of exemp9on violates Equal Protec9on Minnesota exemp9on requires taxpayer to manufacture TPP not just a product. Law difference from MO Southwestern Bell. Tax Court denied because telecom signal is not TPP; equipment is not purchased for resale when used to provide a service; and there is no viola9on of the Cons9tu9on to provide exemp9ons to some classes of taxpayers and not others. 13

14 Manufacturing Exemp9on - Cases Sprint v Comm r of Revenue, 676 NW2d 656 (Minn 2004) Telecommunica9ons companies sought refunds for tax paid on equipment used in crea9ng the telecom signal. The companies argued that the signal is similar if not iden9cal to electricity which is a tangible personal property. Voice is manufactured, not carried. Minnesota defined TPP as corporeal personal property of any kind whatsoever. Supreme Court applied the exemp9on because the equipment manufactures a product by conver9ng voice and other raw data into a form that can be conveyed, measured, sold, and is perceived by the senses. 14

15 Manufacturing Exemp9on - Cases Bell Atlan;c Mobile Systems, Inc v Comm r, 799 A2d 902 (Pa Commw. 2002), aff d Pa 328, 845 A2d 2004) Telecommunica9on company sought refunds for tax paid on equipment used in crea9ng the telecom signal. The companies argued that the signal is similar if not iden9cal to electricity which is a tangible personal property. Voice is manufactured, not carried. The conversion of the signals from analog to digital and back results in a physical change in tangible personal property that qualifies for the industrial processing exemp9on. The Department of Revenue argued that because the Legislature defined telecommunica9ons as a service, the equipment crea9ng the signal was not crea9ng tangible personal property. The PA Court held that telecommunica9ons are tangible personal property but are not manufactured. 15

16 Manufacturing Exemp9on Cases AT&T Corp v Johnson, 2002 Tenn App Lexis 709 (Tenn Ct App) Industrial machinery is exempt only if the principal business is the fabrica9on or processing of tangible personal property for resale. Taxpayer argued that the telecommunica9ons signal was electrical current and voltage and electricity cons9tutes TPP As a producer of electricity, eligible for the exemp9on. Court held that the company is primarily in the land-line telephone company business providing local and intrastate telephone services. Services are not eligible for the manufacturing exemp9on. 16

17 Manufacturing Exemp9on Cases AT&T Inc v Chumley, 190 SW3d 652 (2005) Tennessee defines TPP as personal property that can be seen, weighed, measured, felt or touched, or that is in any other manner percep9ble to the senses. Taxpayer argued that the telecommunica9ons signal is percep9ble to the senses and qualifies as tangible personal property. Court again held that telephone service is essen9ally electric signals. Taxpayer s business is to provide these signals as a service. Services are not eligible for the manufacturing exemp9on. 17

18 Manufacturing Exemp9on - Cases In re Appeal of Sprint Communica;ons Co, 278 Kan 690; 101 P3d 1239 (Kan 2004) Five telecommunica9ons companies sought refunds for tax paid on equipment used in crea9ng the telecom signal. The companies argued that the signal is similar if not iden9cal to electricity which is a tangible personal property. Voice is manufactured, not carried. The conversion of the signals from analog to digital and back results in a physical change in tangible personal property that qualifies for the industrial processing exemp9on. The Kansas Department of Revenue argued that because the Legislature defined telecommunica9ons as a service, the equipment crea9ng the signal was not crea9ng tangible personal property. The Kansas Supreme Court held that because the Legislature did not include telecommunica9ons within the defini9on of tangible personal property the manufacturing exemp9on does not apply irrespec9ve of the technicali9es of the telecommunica9ons process. 18

19 Manufacturing Exemp9on Cases GTE Southwest, Inc v Combs, unpublished opinion of the Court of Appeal of Texas, June 3, 2010 (Docket No CV). Taxpayer argued that the exemp9on for tangible personal property used in manufacturing, processing or fabrica9on of TPP for ul9mate sale at retail applies to equipment use by a local exchange carrier in providing taxable telecommunica9ons product to customers. Taxpayer argued that the telcom signal consists of electronic signals, dial tones, busy signals, ring tones, digital addresses and electricity used to power the system, all of which are measured, felt and percep9ble and thus cons9tutes tangible personal property. The Court found that the statute defined telecommunica9ons as a service for the purposes of the telecommunica9ons sourcing provisions and that was conclusive. Court held that the sale of taxable services was not included within the statute for the manufacturing exemp9on. 19

20 Manufacturing Exemp9on Cases MidAmerican Energy Co. v Department of Treasury, 308 Mich App 362 (12/4/2014). Plain9ffs argued that the telecommunica9ons companies purchase of electricity should be exempt from sales tax under the industrial processing exemp9on because: the telecommunica9ons signals produced should be considered tangible personal property as both electricity and as property that can be seen, weighed, measured, felt, or touched. The tangible personal property (electricity) was modified into telecommunica9ons signals and sold to consumers. The Court found that a telecom signal is neither electricity nor tangible personal property, and therefore the electricity used to create and power produc9on of telecommunica9ons signals is not exempt under the industrial processing exemp9on of the sales tax. Taxable Sale includes sale of service for use tax but not sales tax. Applica9on for Leave to Supreme Court filed and denied. 20

21 Manufacturing Exemp9on Cases IBM Corpora;on v Director, Mo, Docket No (2016) IBM argued that its sales of hardware and soqware to MasterCard for use in processing credit card transac9on qualified as manufacturing a product for the manufacturing exemp9on. Admin Hearing Division agreed; MO Supreme Court reversed. Commission relied upon Southwestern Bell for the proposi9on that manufacturing exemp9on applies to transforma9on of data transmijed over telephone lines. Supreme Court held that manufacturing exemp9on is narrowly construed. Analysis and transmission of data is not manufacture, even if complex. Bell I and Bell II do not stand for the proposi9on that electronic transfer of data is manufacturing but narrowly held that the electronic development and manufacture of voices is manufacturing. 21

22 Resale Exemp9on Denied for Telecommunica9on Electricity Resale Texas Hearing H, October 21, Telecommunica9ons provider argued that electricity purchased and included in the telecommunica9ons signal was purchase for resale and was resold. ALJ held that resale exemp9on requires a transfer of care, custody and control by the seller to the customer. No transfer of custody and control. Differen9ates between sale for resale and purchase for use in providing a taxable service. 22

23 Lessons Learned Reasons for Denial Mobile Telecom sourcing statute defines telecom as services, not TPP Telecomm signal is not electricity Most states do not apply TPP defini9on to the fullest extent possible Taxable services do not get full benefit of statutory exemp9ons Product is perceived to exclude taxable services Percep9on of telecomm signal is not considered by the senses No denial of Equal Protec9on 23

24 Lessons Learned Steps to Apply the Manufacturing Exemp9on Sale at Retail or resale defini9ons to include sales of taxable services so that telecom service is a product sold in a sale at retail or for resale. Amend law to apply exemp9ons to taxable services in the same manner as TPP. Watch for applica9on of TPP defini9on to its fullest extent. Add telecommunica9ons to TPP defini9on. Extend manufacturing exemp9on to taxable products Limit Mobile Telecom Sourcing defini9ons to sourcing of taxable telecom only. 24

25 Ques%ons? Seth Kaufman June S. Haas 25