08-88 | Virginia Tax

Tax Type

Machinery Tools Tax

Description

The Taxpayer appeals a number of adjustments the City made to its amended returns

Topic

Local Power to Tax

Subtractions and Exclusions

Tangible Personal Property

Date Issued

06-16-2008

June 16, 2008

Re: Appeal of Final Local Determination
Taxpayer: *****
Locality: *****
Machinery and Tools Tax

Dear *****:

This final state determination is issued upon the application for correction filed by you on behalf of ***** (the "Taxpayer") with the Department of Taxation. You appeal an assessment of Machinery and Tools (M&T) tax issued to the Taxpayer by the ***** (the "City") for tax years 2001 and 2002.

The M&T tax is imposed and administered by local officials. Virginia Code § 58.1-3983.1 authorizes the Department to issue determinations on taxpayer appeals of M&T tax assessments. On appeal, an M&T tax assessment is deemed prima facie correct. That is, the local assessment will stand unless the taxpayer proves that it is incorrect.

The following determination is based on the facts presented to the Department summarized below. The Code of Virginia sections and public documents cited are available on-line in the Tax Policy Library section of the Department's web site, located at www.tax.virginia.gov.

FACTS

In 1999, the Taxpayer acquired a manufacturing facility in the City. The Taxpayer filed amended M&T tax returns with the City for tax years 2001 and 2002. According to the Taxpayer, some of the machinery and tools originally reported for taxation had been decommissioned or had never been installed. The Taxpayer's amended returns also removed assets that should have been considered intangible and not subject to local taxation.

In its final determination, the City agreed to portions of the amended returns and refunded the associated tax but declined to refund the entire amount reflected on the amended returns. The Taxpayer appeals a number of adjustments the City made to its amended returns, each of which will be addressed separately below.

ANALYSIS

Taxation of Machinery and Tools

All tangible personal property, unless declared intangible under the provisions of Va. Code § 58.1-1100 et seq., is reserved for local taxation by Article X, § 4 of the Constitution of Virginia. Included in the category of tangible property that is declared intangible and subject to state taxation only is "[c]apital which is personal property, tangible in fact, used in manufacturing (including, but not limited to, furniture, fixtures, office equipment and computer equipment used in corporate headquarters)." See Va. Code § 58.1-1101(A)(2).

The machinery and tools, motor vehicles and delivery equipment of a manufacturing business are not defined as intangible personal property. Such property is to be taxed locally as tangible personal property. Virginia has elected to create a separate classification of tangible personal property for machinery and tools used in manufacturing. Virginia Code § 58.1-3507(A) provides:

- Machinery and tools . . . used in a manufacturing . . . business shall be listed and are hereby segregated as a class of tangible personal property separate from all other classes of property and shall be subject to local taxation only.

Assets at Issue

The Taxpayer has identified five specific kinds of assets, the classification and assessment of which are the subject of the appeal.

Pollution Control Equipment

The Taxpayer contends that devices it was required to install to meet the standards of Virginia's Air Pollution Control Board should be exempt from tangible personal property taxation. Virginia Code § 58.1-3660 permits localities, by ordinance, to exempt or partially exempt certified pollution control equipment and facilities.

The exemption for certified pollution control equipment and facilities is a general property tax exemption offered as an option to localities. If the locality does not adopt an ordinance providing for such an exemption, it is not available. Because the City has not adopted such an ordinance, the exemption does not apply.

In this case, however, the Taxpayer is a manufacturer. Virginia Code § 58.1-1101 A 2 specifically provides that certain capital that is tangible in fact and used in manufacturing is classified as intangible and subject only to state taxation. This section also provides that machinery and tools used in manufacturing are reserved for local taxation.

In Daily Press v. City of Newport News, 265 Va. 304, 576 S.E.2d 430 (2003), the Virginia Supreme Court held that only the machinery and tools used directly in the manufacturing process were subject to the M&T tax. Based on the information provided, I find that the Taxpayer's pollution control equipment was not used directly in the manufacturing process; therefore, the equipment must be found to be intangible in accordance with Va. Code § 58.1-1101 and subject to state taxation only.

Storage Racking System

The storage racking system was used to (1) hold raw materials to be used in the manufacturing process, and (2) store finished products ready for shipping. While both goods are kept in separate bins and never commingled, they nonetheless are stored in the same racking system. The Taxpayer argues that a certain percentage of the racking system should be exempt from the M&T tax because it is used for finished goods storage.

In Public Document (P.D.) 04-39 (8/2/2004), the Department addressed the question of exempting the value of equipment that was partially used in the manufacturing process and partially used in another function. That ruling found that despite the fact that 50% of the functional use of the machinery in question was dedicated to non-manufacturing activities, a substantial portion of the machinery's use was devoted to the manufacturing process and as such was subject to the M&T tax. Based on the information provided, I find the storage racking system was properly classified by the City as machinery and tools for purposes of the M&T tax.

Vacuum Bag Sealer

The Taxpayer had two vacuums bag sealers on line that were used to bundle and seal the manufactured products for shipment. One sealer was found to be exempt from the M&T tax by the City and the other was not. As a part of the shipping process, both sealers are considered as intangible property of manufacturers and therefore, exempt from the M&T tax.

Autopackers Never Installed

The autopackers were originally reported on the Taxpayer's tangible personal property tax returns. The Taxpayer's representative has provided the City and the Department with an affidavit concerning the location of the autopackers in dispute. The affidavit states that six autopackers were never operational, and that several of the autopackers, having been transferred from other plants were actually stored at an offsite location. The City does not regard the affidavit as sufficient evidence to demonstrate that the autopackers were never used in the Taxpayer's facility in the City.

Absent proof to the contrary, I believe the affidavit represents a good faith effort on the part of the Taxpayer to confirm its contention that this machinery, having never been installed, should in fact not be included in the Taxpayer's M&T tax assessment.

Idle Equipment

The amended returns identified four molds used in the manufacturing process that were replaced between 1994 and 2000. These molds, which remained at the facility, and the replacement molds were included on the original M&T tax returns filed by the former owner of the facility. The City denied the Taxpayer's request for refund of taxes paid on these molds, maintaining the preparer of the M&T tax returns should have readily recognized these items as non-operating or idle equipment.

As a general rule, when machinery has been idle for more that a year and it is not the taxpayer's intent to put it into use within the following year, it may be classified as machinery not used in manufacturing. See P.D. 82-120 (8/27/1982). Taxation of idle assets is a factual determination to be made on a case-by-case basis by the local commissioner of the revenue.

It should be noted that, effective January 1, 2007; idle machinery is taxed as capital under the provisions of Va. Code §§ 58.1-3507 and 58.1-1101 (Chapter 159 of the 2007 Acts of Assembly). Under the new provisions of the law, "idle machinery and tools" means: machinery and tools that (i) (a) have been discontinued in use continuously for at least one year prior to any tax day or (b) on and after January 1, 2007, have been specifically identified in writing by the taxpayer to the commissioner of the revenue or other assessing official, on or before April 1 of such year, as machinery and tools that the taxpayer intends to withdraw from service not later than the next succeeding tax day and (ii) are not in use on tax day and no reasonable prospect exists that such machinery and tools will be returned to use during the tax year.

The City did determine that equipment on two manufacturing lines became idle in 2000 and 2001 based on the Taxpayer's operations log. Using established policy, the City refunded tax paid for 2002 on the equipment that became idle in 2000. Based on the information at hand, the molds at issue would have been considered idle either during 2001 or 2002.

Modification Costs

The City upheld its assessment of certain capitalized repairs and rebuilds included in the Taxpayer's request for refund. The Taxpayer asserts that assessing these modifications or refurbishment costs results in some equipment being taxed both on the original cost and the rebuilding cost, which is essentially double taxation. The City was unable to verify that reductions for the rebuild modifications were previously taken and, therefore, could not reduce the assessment for these items.

Fair market value (FMV) is the Constitutional requirement for valuation of tangible personal property. The valuation of machinery and tools must reasonably approximate FMV. See Tuckahoe Women's Club v. County of Richmond, 119 Va. 734, 101 S.E.2d 571 (1958). If the valuation methodology employed by a locality results in an assessment well above FMV, the locality may use another methodology prescribed in Va. Code § 58.1-3507 B. See P.D. 05-129 (8/3/2005).

In some cases, repairs to an asset may make the FMV of that asset greater than the actual assessed value. Historically, the Virginia Supreme Court has recognized that property is often assessed at less than fair market value and has not objected to such assessments so long as they are applied uniformly. See Norfolk and Western Railway Company v. Commonwealth of Virginia, et al. 211 Va. 692, 179 S.E.2d 623 (1971). In such instances, the assessment will stand. Again, the locality is responsible for finding a methodology for reasonably approximating the FMV of an asset for property taxation.

Requests for Relief

With regard to some of the equipment that was either idle or never installed, the City denied the Taxpayer's request for refunds. The City asserts that the personnel in charge of preparing the returns would have easily identified the items at issue. As such, the City determined that it could not exonerate the return preparer of the responsibility to file accurate returns.

The Code of Virginia permits taxpayers to appeal assessments of local business taxes made by local taxing authorities. See Va. Code §§ 58.1-3980 and 58.1-3983.1. These sections put no limits on the reasons or rationale for making a request for refund.

In ITT Teves America Automotive et al. v. Culpeper County Board of Supervisors, 45 Va. Cir. 39 (1997), however, the Circuit Court of Culpeper County (the "Culpeper Court") found that a taxpayer that engaged in poor accounting practices was not entitled to a refund when such taxpayer willfully over reported the amount on which the assessment was based. The evidence showed that the issue of over reporting had been brought to the attention of ITT Teves America Automotive by Culpeper County during a previous examination in which relief was granted. ITT Teves America Automotive continued to over report the same items of equipment on its returns. The Culpeper Court decided that the taxpayer had willfully failed to provide the locality with "the necessary information on their annual returns as required by law."

No evidence has been provided in this case that would indicate the Taxpayer or its predecessor willfully over reported the amount of property on M&T tax returns. Further, the City granted relief on some items but not others. Therefore, I find no basis in the City's position denying the refunds on the basis that the return preparer should have known at the time the original returns were filed which equipment was idle or never installed.

Interest

The Taxpayer contests the methodology the City used in calculating interest paid on those refunds granted to the Taxpayer prior to the Taxpayer's appeal to the Department.

Pursuant to Va. Code § 58.1-3916, localities may provide by local ordinance for interest to be collected on delinquent taxes. Localities may set the rate of interest so long as it does not exceed 10% per year. Under this statute, localities also must provide for the payment of interest at the same rate for overpayment of taxes.

The City's ordinance provides for the payment of interest at the rate of 4% percent per annum for personal property taxes, on such principal and penalty. Interest begins to accrue as of the first day of the month after the unpaid tax was due, which shall be either January 1 or July 1. The ordinance does not specify that the interest rate be compounded, and the specified rate of 4% is less than the maximum 10% permitted by Virginia law. I find no error in the City's methodology in calculating interest on the refunds paid to the Taxpayer.

DETERMINATION

It is my determination that the vacuum sealer bag and the autopackers located in another jurisdiction and the pollution control equipment must be regarded as intangible personal property, and therefore exempt from the M&T tax. The storage racking system was used directly in the manufacturing process and is subject to the machinery and tools tax in its entirety.

The City found that some equipment identified as idle was in service in 2001. Under established policy, these items cannot be removed from the asset list for purposes of the M&T tax until January 1, 2003. The remaining capitalized repair and replacement items (modifications) in dispute should be reexamined by the City in order to determine the appropriate value. Finally, the City correctly computed interest associated with refunds issued to the Taxpayer.

If you have any questions regarding this determination, you may call the Office of Tax Policy, Appeals and Rulings, at *****.

- - - - Sincerely,

- - - - Janie E. Bowen
        Tax Commissioner

AR/1-1022921178H

Rulings of the Tax Commissioner