Sales Tax Issues for Manufacturers
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Transcript of Sales Tax Issues for Manufacturers
SALES AND USE TAX
FOR MANUFACTURERS
Oct. 3, 2013
1
TWO TRUTHS AND A LIE
Bakeries are manufacturers
Restaurants are
manufacturers
Cheese cutting plants
are manufacturers
2
TWO TRUTHS AND A LIE
Plastic wrap to keep packages
on a pallet is taxable
Plastic wrap around dry cleaning is
taxable
Plastic wrap to protect contents
delivered to customers is
taxable
3
TWO TRUTHS AND A LIE
Quality control of raw
materials is taxable
Quality control of work in process is
taxable
Quality control of finished products is
taxable
4
TWO TRUTHS AND A LIE
The safety guard on a lathe is
exempt
The screw driver to assemble the lathe is exempt
The screw driver to assemble the manufactured
product is exempt
5
WHY WE’RE HERE
• Wisconsin sales tax collections were
roughly $4.3 billion in 2012
• Wisconsin has 340 field and office auditors
• Wisconsin auditors assessed $295 million
in 2011
• For every $1 spent on audit, $11 in
additional revenue is generated
6
WHAT IS SUBJECT TO TAX?
• All tangible personal property, unless an
exemption applies
• Listed services, including repair and
maintenance, processing of tangible
personal property, and
telecommunications.
7
WHEN I’M PURCHASING . . .
• What if my vendor doesn’t charge me tax?
• Not a freebie! Use tax applies
• Use tax is due on the storage, use, or
consumption of tangible personal property
in Wisconsin
• Why might this happen?
8
VENDORS DON’T CHARGE TAX
BECAUSE . . .
• Out of state vendor
• Vendor not aware of sales tax obligations
• You’ve given the vendor an exemption
certificate
• Items were removed from inventory for
internal use, including displays,
samples, or giveaways
9
WHAT DOES THIS MEAN
FOR ME?
• Potentially significant tax liability, penalties
and interest
• For manufacturers, state will typically
spend most their time auditing purchases
rather than sales
10
WHAT SHOULD I DO?
• Best practice: consistent review process
for each vendor invoice.
• Where sales tax has not been charged but
should have been, record use tax.
• Pay use tax with sales/use tax returns.
• Keep good workpapers for audit trail.
11
EXEMPTIONS
• Exemptions in Wisconsin are narrowly construed. The burden of proving an exemption applies is on the taxpayer.
• If your facts don’t meet the requirements for an exemption, it doesn’t apply.
• This requires diligence on your part to make sure an exemption applies as intended.
• Requires communication between production and accounting to determine whether an exemption applies.
12
EXEMPTIONS FOR
MANUFACTURERS
• Equipment and machinery
• Inputs or consumables
• Fuel and electricity
• Containers and shipping materials
• Waste reduction/recycling
• Qualified research
13
WHAT IS MANUFACTURING?
• The production by machinery
• Of a new article of tangible personal
property
• With a different form, use, and name from
existing materials
• By a process popularly regarded as
manufacturing
14
SCOPE OF MANUFACTURING
• Manufacturing begins when raw materials
begin to be changed.
• Manufacturing ends when the finished
product reaches its first point of storage.
• Items used either before manufacturing
begins or after it ends are not exempt,
even when used by a manufacturer.
15
INCLUDED IN MANUFACTURING
• Conveying work in process directly from one manufacturing process to another in the same plant;
• Testing or inspecting throughout the manufacturing process the product that is being manufactured;
• Storing work in process in the same plant where the manufacturing occurs.
16
INCLUDED IN MANUFACTURING
• Assembling finished units in the same
plant by the manufacturer of those units.
• Packaging units in the same plant by the
manufacturer of those units.
17
MEANING OF “PLANT”
• A parcel of property or adjoining parcels of property and the buildings, machinery, and equipment that are located on the parcel.
• The activity at each plant must meet the manufacturing requirements.
• If a second plant is not separately manufacturing, none of its equipment will be exempt.
• Equipment, machinery, containers and other materials used to ship goods between plants are not exempt.
18
NOT INCLUDED IN
MANUFACTURING
• Testing of raw materials
• Storage of raw materials
• Storage of unfinished goods if removed
from the manufacturing process
• Storage of finished goods in inventory
• Internally repairing or maintaining
equipment
19
NOT INCLUDED IN
MANUFACTURING
• Processing or fabricating that does not
meet all the criteria of manufacturing
• Storage or transportation of work in
process between two plants
• Creation or duplication of digital goods
20
FABRICATION VS.
MANUFACTURING
• Manufacturing requires a “new article” with
a different form, use and name.
• The application of labor to an article is not
manufacturing unless the finished article is
“clearly and distinctively new and
different.”
21
SERVICES FOR
MANUFACTURERS
• A company that is not a manufacturer
that performs a test or other service
for a manufacturer may not claim
manufacturing exemptions.
• Repackaging or reassembling
products on behalf of a manufacturer
for reshipping is not manufacturing.
22
EXAMPLES OF
MANUFACTURERS
• Bakeries
• Breweries
• Creameries
• Cheese slicing and packaging plants
• Meat packers
• Food processing plants
• Snowmaking for ski hills
• Printers
23
NOT MANUFACTURERS
• Contractors
• Farmers
• Research and development firms
• Mining companies
• Recycling companies
• Photographers
• Restaurants
24
EXEMPTIONS FOR
MANUFACTURERS
• “Machines and specific processing
equipment and repair parts exclusively
and directly used by a manufacturer in
manufacturing tangible personal property.”
25
WHAT IS A “MACHINE”?
• An item that is “principally and primarily a
significantly contributive factor in the
actual manufacture or production of the
product.”
• This is known as the “use and function”
test.
• Requires “activity” on the part of the
machinery or equipment.
26
“MACHINES AND SPECIFIC
PROCESSING EQUIPMENT”
• Includes small hand tools
• Includes repair and replacement parts
(augers, bits, dies, wheels, jigs, drills, tool
holders, cutters, saw blades)
27
SAFETY ATTACHMENTS
• Exemption applies to safety attachments for exempt machines.
• Safety attachments may protect the operator, the machine or the product being manufactured.
• Safety attachments do not have to be original with the machine, but
• Must be physically attached to the machine.
28
WHAT IS “EXCLUSIVE USE”?
• “Exclusive” means that the machines and
specific processing equipment are used by
a manufacturer in manufacturing to the
exclusion of all other uses, except for
occasional and sporadic use.
• “Occasional” use is generally defined
as 5% or less.
29
EXAMPLES OF
“EXCLUSIVE” USE
• Equipment used exclusively in testing
products through the manufacturing
process is exempt. If the same equipment
is used more than 5% of the time to test
raw materials before the manufacturing
process begins, or to test finished
product after the first point of storage,
the equipment will not qualify for the
exemption.
30
EXAMPLES OF
“EXCLUSIVE” USE
• Cranes, pallet jacks, fork lifts and conveyor belts used exclusively within the manufacturing process to lift and move product are exempt.
• If that same equipment is used more than 5% of the time to move product before or after manufacturing begins, or is used to move manufacturing equipment, tools, or other plant equipment, it will not qualify for the exemption.
31
BEST PRACTICE TO MEET
“EXCLUSIVE” TEST
• Assign specific equipment to testing
versus manufacturing areas;
• Use different fork lifts, pallet jacks and
other conveyance equipment for the
warehouse than used on the
manufacturing floor.
32
WHAT IS “DIRECT” USE?
• Machines or equipment must physically
impact the manufacturing process.
• Machines or equipment that are passive
or that act on something other than the
product being manufactured are not
exempt, even if the machines or
equipment are necessary or required
for the manufacturing process.
33
EXAMPLES OF ITEMS THAT ARE
NOT USED “DIRECTLY”
• Tables and stands used to hold manufacturing equipment are not used “directly” in manufacturing and are not exempt unless the stand is purchased from the seller of the machine as an original component part of the machine.
• Items used for waste disposal, air circulation, communication, lighting, fire suppression, and maintenance are not used “directly” in manufacturing even though they may be required for the manufacturing process to occur.
34
EXAMPLES OF ITEMS THAT ARE
NOT USED “DIRECTLY”
• Tools used to repair manufacturing
machines
• Water softening equipment
• Refrigerated storage facilities, even if the
refrigeration occurs during the
manufacturing process
35
STORAGE TANKS
• Tanks used within the scope of the
manufacturing process may be taxable
or exempt, depending on their features.
• Tanks that are passive receptacles of
product are taxable.
• Tanks that cool or heat, agitate, change
or mix raw materials are used “directly”
in manufacturing and are exempt.
36
WHAT IS “TANGIBLE PERSONAL
PROPERTY”?
• Personal property that can be seen,
weighed, measured, felt or touched, or
that is in any other manner perceptible to
the senses, and includes electricity, gas,
steam, [and] water . . .”
37
EXEMPTION FOR INGREDIENTS
AND CONSUMABLES
• Different from the machinery exemption
• Must still be used in the scope of
manufacturing
• Must still be used by a manufacturer
• Additional requirement: must be used in
manufacturing items that are destined
for sale as tangible personal property
38
“DESTINED FOR SALE”
REQUIREMENT
• Excludes inputs for items that will be used
internally or given away.
• Excludes inputs used by a manufacturer
that manufactures and installs real
property improvements.
• Examples: cement, countertops,
cabinetry, ductwork, prefabricated
buildings.
39
WHAT THE EXEMPTION
APPLIES TO
• Product must be become “an ingredient or
component part of the article of tangible
personal property . . .” or
• Become “consumed or destroyed or lose
its identity in manufacturing . . .”
40
EXAMPLES OF CONSUMABLES
• Gases
• Lubricants
• Filtering clay
• Foundry sand
• Lapping and grinding compounds
• Cleaning agents and solvents for maintaining
manufacturing machinery
• Safety supplies used to maintain the purity
of the product being manufactured (gowns, gloves,
shoe covers) 41
EXAMPLES OF ITEMS THAT ARE
NOT EXEMPT
• Safety glasses, clothing, shoe covers, and gloves used to protect the workers from the product or the process
• Cleaning supplies used to maintain the facility, even in a clean room
• Cardboard used to contain or absorb liquids or waste products
• Shop towels, even if used to maintain manufacturing equipment
42
USING PERCENTAGES
• To avoid having to track how individual
supplies are used, calculate a reasonable
percentage of exempt versus taxable use,
and apply that percentage to your ongoing
purchases. Update periodically.
• Examples: cardboard, wrap, gloves,
cleaning supplies.
43
FUEL AND ELECTRICITY
• Fuel and electricity consumed in manufacturing tangible personal property is exempt.
• Fuel can include oxygen, acetylene, and other gases used to produce heat or power.
• Must be used directly in manufacturing, not for plant heating or cooling, lighting, receiving, storage, shipping or office.
44
FUEL USED IN
MANUFACTURING
• Calculations of the percentage of fuel
exemption claimed are subject to audit.
• Percentages may be calculated through
third party utility studies, but may also be
calculated by other methods.
45
CALCULATING PERCENTAGE OF
EXEMPT FUEL
• Study must be reasonable and documented.
• May consist of a list of machines, energy consumption per machine, how many hours each machine operates per day compared to total plant energy usage.
• Must be adjusted as circumstances change (machinery added or removed, shifts added or ended).
46
CONTAINERS
• Containers and packaging materials are
exempt when used to transfer
merchandise “destined for sale” to
customers.
• Does not apply to containers used to
transport products for further
processing or products that are not
“destined for sale”
47
CONTAINERS THAT QUALIFY
• Boxes, product and shipping labels, wrapping paper, tape, barrels, bottles, sacks, cans, drums, and packaging materials used to keep the product safe in shipping
• Packaging materials include items inside a package that preserve, stabilize, or protect the contents
• It does not matter what the container is made of
• It does not matter whether the container is returnable
48
ITEMS THAT
DON’T QUALIFY
• Advertising flyers, packing slips, coupons
and other items included in the package
• Lumber or other material used for
bracing, blocking, or shoring items in
shipping
• Cardboard, paper and wrap that are used
to protect products during shipping but
are not transferred with the product to the
customer.
49
WASTE
REDUCTION/RECYCLING
• Exemption applies to machinery and
equipment used exclusively and directly
for waste reduction or recycling activities
that reduce the amount of solid waste
generated, reuse solid waste, recycle solid
waste, compost solid waste or recover
energy from solid waste.
50
DEFINITIONS
• Solid waste means garbage, refuse,
sludge or other materials or articles,
including solids, semisolids, liquids, and
contained gases.
51
EXAMPLES OF EXEMPT
RECYCLING EQUIPMENT
• Machinery used to produce fuel cubes by
shredding paper and other waste
products; refrigerant recovery systems
where the refrigerant is recycled back into
the cooling unit; equipment used to
remove impurities from lubricants in
manufacturing machines so the
lubricants can be reused; and a system
for burning used oil to provide heat.
52
QUALIFIED RESEARCH
• Exemption became effective as of 1/1/12
• Applies to those who are “primarily
engaged in manufacturing or
biotechnology”
• Applies to items used exclusively and
directly in qualified research
53
PRIMARILY ENGAGED IN
MANUFACTURING
• “Primarily engaged” means more than 50% of the company’s activities must be manufacturing.
• Primary activity is determined by a reasonable measure of all activities conducted in Wisconsin. A reasonable measure of activity may use sales revenue, costs and expenses, or investment in plant, machinery and equipment.
54
EXCLUSIVELY AND DIRECTLY
• Exclusive use means at least 95% of the
total use must be in qualified research
• If other requirements are met, is mixed
use between manufacturing and qualified
research allowed? Yes.
55
QUALIFIED RESEARCH
• Must be undertaken for the purpose of discovering information which is technological in nature,
• The application of which is intended to be useful in the development of a new or improved business component, and
• Substantially all of the activities of which constitute elements of a process of experimentation relating to a new or improved function, performance, reliability or quality.
56
QUALIFIED RESEARCH
• Burden of proof is on the taxpayer
claiming the exemption
• All of the requirements listed above must
be met
• Tests must be applied separately to each
project, product or process
57
NOT QUALIFIED RESEARCH
• Research that relates to style, taste,
cosmetic or seasonal design factors
• Research after commercial production
• Duplication of an existing business
component
• Marketing studies
• Routine data collection
58
DOCUMENTATION
• Same as required for an R&D study
• Project scope (including uncertainty as
to scope)
• Research and testing activities
performed
• Results of the research
• The specific activities and manner in
which the exempt items are used
59
SALES BY MANUFACTURERS
• All sales of tangible personal property are presumed to be taxable unless an exception or exemption applies
• The burden of proving a sale is not taxable is on both the seller and the buyer (not the state)
• Manufacturers that sell both wholesale and retail in Wisconsin are required to have a seller’s permit
• Sales of business assets are taxable
60
DOCUMENTING EXEMPT SALES
• Where sales are made out of state,
document out of state ship to address on
invoice
• Where sales are wholesale, manufacturer
must obtain valid exemption certificates
61
EXEMPTION CERTIFICATE
REQUIREMENTS
• Name and address of buyer
• Name of seller
• Description of property
• Reason for exemption
• Must be signed by buyer
• Must be dated
• If the buyer is from out of state (but sale occurs in Wisconsin), must also obtain buyer’s state tax identification number.
62
ACCEPTING CERTIFICATES
• The seller must not have a reason to
know of false or misleading information
on the certificate
• The seller is presumed to know if an
exemption could apply to the purchase
• The seller may be held liable for
soliciting invalid exemption certificates.
63
AUDIT FLAGS
• Failure to report any use tax
• A vendor is audited
• A customer is audited
• Industry initiatives
• Recent press
• Building permits
• Claims for refund
• Prior audit with poor results
64
DEFENDING AN AUDIT – USE
• Institute consistent practice of reviewing all
vendor invoices and credit card charges
• Document reasons for exemptions
• Document percentage allocations
• Keep use tax calculation workpapers
• Reconcile and document credit memos
and adjustments
• Be careful with exemption certificates!
65
DEFENDING AN AUDIT - SALES
• Invoice all sales of used assets and
charge tax where appropriate
• Document where sales occur
• Obtain exemption certificates, even if the
exemption seems obvious
• Check exemption certificates for
accuracy
66
MULTISTATE ISSUES
• Where does a sale occur? Where
possession of the goods transfers.
• When shipped by common carrier or
delivery service, possession transfers
when the goods reach their destination.
Does not matter who chose or paid the
shipper.
67
SALES OUTSIDE WISCONSIN
• Not subject to Wisconsin sales tax
• Will be subject to the destination state’s
rules
• You may (or may not) be required to
collect the other state’s tax
• Will depend on whether you have
nexus
68
WHAT IS NEXUS?
• Nexus is the threshold that must be met in
order for a state to require an out of state
business to collect sales tax.
• For sales tax, a business must have
physical presence in a state in order to
create nexus.
• Without physical presence, the state
cannot require the business to collect tax
on sales made to customers in that state.
69
PHYSICAL PRESENCE
• Salespeople, but doesn’t matter if they’re
employees or independent contractors
• Employees working from home
• Third party installers and repair people
• Trade shows (in most states)
• Delivery in a company vehicle
• No physical presence = no sales tax
obligation – or does it?
70
MARKETPLACE FAIRNESS ACT
• Has passed the Senate; currently in the House
• Would impose sales tax collection and remittance requirements on out of state businesses despite lack of physical presence
• Would apply to sellers with more than $1 mm in out of state sales
• Is not limited to “on-line” sales
71
PREPARING FOR “FAIRNESS”
• Start collecting exemption certificates from
every customer wherever located
• Expect many more nexus questionnaires
• Track sales by state
• Become knowledgeable about states’
responses to the law change
• Implement systems to record, collect
and remit tax where appropriate
72
QUESTIONS?
Julie Bogle, JD
828-3119
Peter Soman, CPA
828-3174
73