Source: http://www.in.gov/legislative/iac/20130227-IR-045130053NRA.xml.html
Timestamp: 2014-09-23 08:35:22
Document Index: 638871481

Matched Legal Cases: ['§ 6', '§ 6', '§ 6', '§ 6', '§ 6', '§ 6', '§ 6', '§ 6', '§ 6', '§ 6']

04-20120255.LOF
Letter of Findings: 04-20120255
Authority: IC § 6-2.5-1-2; IC § 6-2.5-2-1; IC § 6-2.5-3-1; IC § 6-2.5-3-2; IC § 6-2.5-3-4; IC § 6-2.5-4-1; IC § 6-2.5-5-3; IC § 6-2.5-5-5.1; IC § 6-8.1-5-1; 45 IAC 2.2-5-8; 45 IAC 2.2-5-11; 45 IAC 2.2-5-12; Lafayette Square Amoco, Inc. v. Indiana Dep't of State Revenue, 867 N.E.2d 289 (Ind. Tax Ct. 2007); Indiana Dep't. of State Revenue v. Rent-A-Center East, Inc., 963 N.E.2d 463 (Ind. 2012); Indiana Dep't of State Revenue v. RCA Corp., 310 N.E.2d 96 (Ind. Ct. App. 1974); Rhoade v. Indiana Dep't of State Revenue, 774 N.E.2d 1044 (Ind. Tax Ct. 2002); USAir, Inc. v. Indiana Dep't of State Revenue, 623 N.E.2d 466 (Ind. Tax Ct. 1993); Indiana Dep't. of State Revenue v. Cave Stone, Inc., 457 N.E.2d 520 (Ind. 1983); Mumma Bros. Drilling Co. v. Department of Revenue, 411 N.E.2d 676 (Ind. Ct. App. 1980); General Motors Corp. v. Indiana Dep't. of State Revenue, 578 N.E.2d 399 (Ind. Tax Ct. 1991); Indiana Dep't. of Revenue v. Interstate Warehousing, Inc., 783 N.E.2d 248 (Ind. 2003).
Taxpayer, an out-of-state company, has a facility in Indiana which manufactures steel products. The Indiana Department of Revenue ("Department") conducted a Sales/Use tax audit of Taxpayer's business records for tax years 2008, 2009, and 2010. The Department and Taxpayer agreed to utilize a sample selected from Taxpayer's records and a projection method to perform the audit. Pursuant to the audit, the Department determined that Taxpayer did not pay sales tax or self-assess use tax on certain tangible personal property which Taxpayer used in its business activities. The Department's audit thus assessed additional use tax and statutory interest on those purchases of tangible personal property.
Taxpayer only protests the imposition of use tax on fifteen (15) items, including, but not limited to, transformers, filter reactors, reactor coils, harmonic filters, and bushing replacement (the "Items at issue"). The Items at issue were replacements of an electrical power transmission system located at two separate substations (also referred to as the "First substation" and the "Second substation"). The First substation is at the facility of an electricity producer (the "Electricity Producer") and the Second substation is located at Taxpayer's Indiana facility. The Items at issue were solely used to "step-down" the voltage of the electricity, so Taxpayer could eventually receive the usable voltage – namely, 34.5 Kilovolts ("kV") and/or 13.8kV – of the electricity at its Indiana facility. An administrative hearing was held and this Letter of Findings results. Further facts will be supplied as required.
The Department's audit assessed use tax on the Items at issue which Taxpayer used in two substations to "step down" the higher voltage of the electricity to a lower voltage of the electricity. The Department's audit noted, in relevant part, that:
Due to [Taxpayer's] power requirements to operate [its] manufacturing facility [Taxpayer] had to arrange with [the Electricity Producer and local public utilities] to supply electrical power to [Taxpayer's Indiana] facility. [Taxpayer] has purchased equipment which has been taxed in this audit. The equipment in question includes:
1) Equipment owned by [Taxpayer] that is located at the [Electricity Producer] power plant....
2) Equipment located on [Taxpayer's Indiana] facility at the main substation....
Equipment at the [Electricity Producer's] plant [i.e., the First substation] allows [Taxpayer] to take the electrical power and "step down" the voltage from 765 [kV] to 138 [kV]. These transformers which lower the voltage are owned by [Taxpayer]. Once the voltage is lowered the power is carried to [Taxpayer's] plant thru two lines which lead to the main substation [i.e., the Second substation] that is located on [Taxpayer's] property. This main substation is located at [Taxpayer's] Utility Yard where the power is again "stepped down" from 138 [kV] and transferred to four (4) smaller units in their primary yard. At this point the power is handled by the four smaller units where the power is now entering the plant, 2 units at [34.5kV] and 2 units at 13.8 [kV]. (Emphasis is original in the Audit Summary, page 6).
As a result, the Department's audit determined that "the equipment used prior to the four units which is the point of entry into [Taxpayer's facilities] is transmission equipment and is subject to taxation." The Department's audit also determined that the four units in Taxpayer's primary yard and the related equipment which were used to connect the 34.5kV/13.8kV lines – the usable electricity – with Taxpayer's manufacturing machinery and equipment were directly used in direct production and, thus, were exempt pursuant to 45 IAC 2.2-5-8.
Taxpayer claimed that it was entitled to the manufacturing exemption on the Items at issue. Taxpayer referred to its arrangements with the Electricity Producer and local public utilities, stating that the Items at issue were used for its "electrical distribution system" to manufacture its steel products. Thus, Taxpayer asserted that it was entitled to the manufacturing exemption pursuant to 45 IAC 2.2-5-8(c), example (2)(B), and 45 IAC 2.2-5-8(g), example 5.
In Indiana Dep't. of Revenue v. Interstate Warehousing, Inc., 783 N.E.2d 248 (Ind. 2003), the taxpayer, Interstate Warehousing, Inc. ("Interstate"), claimed that it was entitled to an exemption under IC § 6-2.5-5-5.1 on its consumption of the electricity used to convert ammonia from a gas to a liquid. Interstate Warehousing, 783 N.E. 2d at 249. The Tax Court ruled in favor of the taxpayer. The Indiana Supreme Court, in reversing the Tax Court's determination, found that the taxpayer did not qualify for the exemption in two respects: the court found that (1) the taxpayer was not engaged in the "production of other tangible personal property" (namely, the "distinct marketable good" requirement); and (2) the taxpayer was not in the business of "manufacturing, processing, refining, repairing, mining, agriculture, horticulture, floriculture, or arboriculture" (namely, the "transformation" requirement). Id. at 250. The Indiana Supreme Court, in pertinent part, explained that:
Interstate uses electricity to cool gaseous ammonia to liquid form and then circulates the liquid through its warehouse facilities to cool the air. When the temperature of the ammonia begins to rise, it is again chilled. The ammonia stays in the refrigeration system, which was referred to as "closed loop." While it is certainly true that there is some transformation of the ammonia from gas to liquid form as a consequence of the consumption of electricity, such transformation alone is not sufficient to constitute "production of other tangible personal property" under the statute. By "production of other tangible personal property," the Legislature meant that the taxpayer must use the electricity to transform the ammonia into a distinct marketable good. That does not occur here; the liquid ammonia is never marketed.
Interstate [does not] perform an integrated series of operations resulting in a transformed end product to Interstate's customer.... The cool air merely maintains the customer's previously manufactured goods. There is no substantial change in "form, composition, or character" to those goods. The cold air is only incidental to the service of storing previously manufactured goods. (Emphasis added).
As mentioned above, only when the use of the tangible personal property has met the "double direct" standard, is a taxpayer entitled to the manufacturing exemption. In this instance, Taxpayer claimed that the Items at issue were part of its integrated "electrical distribution system," which was "used to produce and/or supply electricity to exempt manufacturing equipment used in direct production." Specifically, Taxpayer stated that, in order to receive adequate electricity for its manufacturing production, it made several special arrangements with the Electricity Producer and the local public utilities. Taxpayer explained that, under the special arrangements, Electricity Producer sold electricity at a higher voltage (765kV) to the local public utilities, which owned a point of delivery on the Electricity Producer's transmission lines; in turn, the local public utilities sold the electricity rated at the same 765kV to Taxpayer. As a result, Taxpayer had to step down the unusable 765kV electricity immediately to a lower voltage (138kV) at the First substation which is also connected to Electricity Producer's transmission line and then transmitted the electricity via its own 138kV transmission lines to the Second substation, where the unusable 138kV electricity was again further stepped down to a lower voltage of electricity. Taxpayer further claimed that under the special arrangements, "these transmission lines were designed to [Taxpayer's]
specifications and not those of a local public utility"; thus, it was entitled to the manufacturing exemption pursuant to 45 IAC 2.2-5-8(c), example (2)(B), and 45 IAC 2.2-5-8(g), example (5). Taxpayer provided a statement, explaining the history of Taxpayer's substation at Electricity Producer's facility. Taxpayer also offered copies of "Substation Supply Agreement," Substation maintenance agreement, and "Special Contract for Electric Power Service to [Taxpayer]" to support its protest.
Taxpayer's documentation demonstrated that it employed the Electricity Producer to engineer, design, construct, sell, and subsequently maintain the First substation which was built on Electricity Producer's property. Pursuant to that agreement, Taxpayer would have to assign the ownership of the First substation to the local public utilities. Although Taxpayer claims that it continues to own the First substation, this is apparently in violation of the agreement as presented to the Department. Taxpayer's documentation showed that the First substation contains a series of 765/138 kV transformers and related equipment used to "step down" the unusable voltage of the electricity, not to produce the electricity for sale. Similarly, Taxpayer's documentation showed that the transformers and related equipment used at the Second substation were also solely used to step down the unusable voltage of the electricity. Taxpayer did not produce the electricity for sale. Thus, Taxpayer here, like the taxpayer in Interstate Warehousing, did not use the Items at issue to produce tangible personal property for sale; rather, the Items at issue were used solely to step down the voltage of the unusable electricity so the electricity can be transmitted subsequently to Taxpayer's electrical units. Only after the unusable electricity was further converted to the usable electricity, Taxpayer's electronic units and switchgears were used to connect the usable electricity
to its machinery and equipment used in its steel production.
Taxpayer's documentation also demonstrated that the Items at issue did not have an immediate effect on its steel production. Taxpayer argued that it relied on 45 IAC 2.2-5-8(c), example (2)(B), which provides:
(B) An electrical distribution system, including generators, transformers, electrical switchgear, cables inside or outside the plant, and related equipment used to produce and/or supply electricity to exempt manufacturing equipment used in direct production. (Emphasis in original in Taxpayer's September 27, 2012 Letter, page 3).
Taxpayer also referred to 45 IAC 2.2-5-8(g), example (5), which provides that:
A metal manufacturer uses a variety of electrically-powered production equipment which has differing voltage and power requirements. Power cables used to bring electricity to the manufacturer's plant are taxable. Switch gears, transformers, conduits, cables, controls, rectifiers, and generators which are interconnected with the production equipment and serve as an electrical distribution system for such equipment are exempt from tax. (Emphasis in original in Taxpayer's September 27, 2012 Letter, page 3-4).
Taxpayer's documentation, however, demonstrated that the Items at issue were not used "to produce and/or supply electricity to exempt manufacturing equipment used in direct production." Nor did Taxpayer's documentation demonstrate that the Items at issue at the First substation and the Second substation were directly "interconnected with the production equipment." Rather, the Items at issue were used to step down the unusable electricity at both substations. Taxpayer's documentation showed that the electricity after the First substation remained unusable, and, thus, the electricity was not able to "produce and/or supply electricity to exempt manufacturing equipment used in direct production." Similarly, Taxpayer's documentation also demonstrated that the electricity at the Second substation remained unusable and had to connect to several and separate electrical units located at Taxpayer's property. Thus, the electricity at the Second substation remained unusable and was not used "to produce and/or supply electricity to exempt manufacturing equipment used in direct production."
Taxpayer's documentation demonstrated that only after the point of the electrical units, was the unusable electricity converted to usable electricity and connected to the control house of its plant, which contained switchgears to power the machinery and equipment for Taxpayer's steel production. Thus, Taxpayer's use of the Items at issue before the point of the electrical units is at best pre-production because the Items at issue did not have an immediate effect upon the machinery and equipment directly used in Taxpayer's direct production. Thus, Taxpayer's reliance on 45 IAC 2.2-5-8(c), example (2)(B), and 45 IAC 2.2-5-8(g), example (5) is misplaced.
In conclusion, 45 IAC 2.2-5-8(c) specifically provides that "purchases of manufacturing machinery, tools, and equipment" must "be directly used by the purchaser in the production process provided that such machinery, tools, and equipment are directly used in the production process; i.e., they have an immediate effect on the article being produced." 45 IAC 2.2-5-8(g) explains that "[h]ave an immediate effect upon the article being produced" will require that "[m]achinery, tools, and equipment which are used during the production process and which have an immediate effect upon the article being produced are exempt from tax." Taxpayer's use of the Items at issue may be considered essential to conduct its business of manufacturing because its use is required either by law or by practical necessity. However, as discussed above, "[t]he fact that particular property may be considered essential to the conduct of the business of manufacturing because its use is required either by law or by practical necessity does not itself mean that the property has an immediate effect upon the article being produced." Given the totality of the circumstances, in the absence of other supporting documentation, the Department is not able to agree that Taxpayer met its burden of proof demonstrating that the assessment is wrong.
Composed: Sep 23,2014 4:35:22AM EDT