Revenue Administrative Bulletin 1989-3

Approved: February 16, 1989

Use Tax Base Of Tangible Personal Property Affixed To Real Estate By A Manufacturer/Contractor

RAB-89-3. The purpose of this Bulletin is to notify and explain recent legislation affecting the use tax liability of contractors who manufacture, fabricate or assemble tangible personal property prior to affixing it to real estate. Contractors as referred to in this Bulletin means manufacturer/contractors.

Statutory Effect

Act 506 of the Public Acts of 1988 is effective April 1, 1983, and repeals the 1982 legislation defining the use tax base of a manufacturer/contractor. The 1982 statutory language became effective April 1, 1983.

Introduction to Public Act 506, Use Tax Basis

Pursuant to the Use Tax Act, a contractor affixing tangible personal property to real estate for others is considered a consumer and subject to tax. (See the Michigan Use Tax Act, MCL 205.92.) The Department of Treasury Sales and Use Tax Rule, 1979 AC, R 205.71, provides that when a manufacturer produces and affixes tangible personal property to the real estate of others, the manufacturer/contractor shall remit use tax on the inventory value of the property at the time the property is converted to the contract. This value shall include all costs of manufacturing, fabricating, and processing.

Public Act 506 provides two periods and methods for purposes of calculating a use tax base for property affixed to real estate of others by a manufacturer/ contractor:

1.            Contracts Entered Into Before April 1, 1989

A.           Manufacturer/contractor who maintains an inventory or makes available tangible personal property through publication or price list:

A manufacturer/contractor who maintains an inventory of its product available for sale to others and uses that product on a construction contract will use as its tax base the "finished goods inventory value" of the property. Likewise, a manufacturer/contractor making available a product for sale as a finished product through a price list or publication must use the finished goods inventory value of the property as the use tax base when it affixes the product to the real estate of another. This manufacturer/contractor would be entitled to an industrial processing exemption, as allowed by law, to manufacture the tangible personal property.

B.           Manufacturer/contractor who does not maintain an inventory or does not make available tangible personal property through publication or price list:

The use tax basis of a manufacturer/contractor affixing property to the real estate of another, if this property is not withdrawn from inventory available for sale to others or available by publication or price list as a finished product for sale to others, is the cost of materials. This manufacturer/contractor is not entitled to an industrial processing exemption to fabricate or assemble the tangible personal property.

2.            Contracts Entered Into After March 31, 1989

A.           Manufacturer/contractor who maintains an inventory or makes available tangible personal property through publication or price list will have a tax base identical to that of a manufacturer/contractor entering into a contract prior to April 1, 1989. (See 1.A. above.)

B.           Manufacturer/contractor who does not maintain an inventory or does not make available tangible personal property through publication or price list:

For construction contractors that manufacture, fabricate, or assemble tangible personal property prior to affixing it to real estate, but do not withdraw the property from inventory for sale to others or make the property available by publication or price list as a finished product for sale to others, the use tax base of the property is equal to the sum of the materials cost and the cost of direct labor to manufacture, fabricate, or assemble the property. The statute specifically exempts from the tax base the cost of direct labor to cut, bend, assemble, or attach property at the job site. Costs of direct labor at the job site for mixing, combining or blending prior to affixation of property will be included in the use tax base. This manufacturer/contractor is not entitled to an industrial processing exemption to fabricate or assemble the tangible personal property.

Definitions

"Manufacture" means to convert or condition tangible personal property by changing the form, composition, quality, combination, or character of the property.

"Fabricate" means to modify or prepare tangible personal property for affixation or assembly.

"Cost of direct labor" as used in this provision means salaries, wages, fees, bonuses, commissions and other payments. It also includes payroll taxes, allocable cost of employee insurance plans, pension, retirement, profit-sharing, workers compensation, unemployment insurance and any other payments made on behalf of or for the benefit of employees or self-employed not specifically listed. The cost of direct labor does not include transportation costs or labor associated with transporting the product to the job site.

"Finished goods inventory value" includes direct material and cost of direct labor charges, a consideration for factory burden, general and administrative costs, distribution costs, shipping (freight in) costs and research and development costs. As a general rule, all costs which are reasonably traceable to the process of converting raw materials into the finished product are proper charges to finished goods inventory value.

Examples

Examples 1 through 14 below assume that the product being affixed to the real estate of others is not available from the contractor's inventory available for sale to others or made available by publication or price list as a finished product for sale to others.

1.            A custom cabinet maker enters into a contract before April 1, 1989 to build and install cabinets for an office building. None of the cabinets is available from inventory or through publication or price list. The use tax base of the cabinets is the cost of materials.

2.            Same facts as in "1" above except the contract is entered into after March 31, 1989. The use tax base of the product is equal to the cost of materials and all off-site direct labor costs to construct the cabinets. Any direct labor costs applicable to cutting, assembling or affixing the cabinets to the real estate at the job site are not included in the use tax base.

3.            A furnace and heating contractor enters into a contract before April 1, 1989 to build and install heating and cooling ducts for an apartment complex. He bends, cuts, and forms the sheet metal in the shop before transporting the product to the job site. The use tax base of the ducts is the cost of materials.

4.            Same facts as "3" except the contractor enters into the contract after March 31, 1989. The use tax base of the ducts is the cost of materials and the cost of direct shop labor to bend, cut and form the sheet metal.

5.            A glazer contracts to install special windows in a commercial building before April 1, 1989. The glass requires pre-installation shop preparation, tinting and cutting. The use tax base of the window is the cost of materials.

6.            Same facts as "5" except the glazer enters into the contract after March 31, 1989. The use tax base of the windows is equal to the sum of the cost of materials and the cost of direct shop labor to prepare, tint and cut the glass.

7.            A road builder enters into a contract prior to April 1, 1989 to build an asphalt or concrete highway. The contractor sets up a batch plant at the job site to manufacture the asphalt or concrete. The use tax base of the asphalt or concrete is the cost of materials.

8.            Same facts as "7" except the road builder enters into the contract after March 31, 1989. The use tax base of the asphalt or concrete is equal to the sum of the cost of materials and the cost of direct labor at the job site batch plant to manufacture the asphalt or concrete. The cost of director labor at a job site to modify the asphalt or concrete by the use of additives is not included in the tax base.

9.            A carpenter/contractor enters into a contract prior to April 1, 1989 to build a house. In the shop, the contractor cuts 10-foot long 2-inch by 4-inch studs to 8-foot lengths. The use tax base is the cost of the 10-foot 2-inch by 4-inch studs.

10.         Same facts as "9" above except the carpenter/contractor enters into the contract after March 31, 1989. The use tax base is equal to the sum of the cost of the 10-foot long 2-inch by 4-inch studs and the cost of direct shop labor to cut the lumber to 8-foot lengths.

11.         A steel fabricator enters into a contract prior to April 1, 1989 to build a parking ramp. The fabricator cuts, drills and paints steel I-beams for this project in the steel yard (off-site). The use tax base of the steel I-beams is the cost of materials.

12.         Same facts as "11" above except the fabricator enters into the contract after March 31, 1989. The use tax base is equal to the sum of the cost of raw materials and the cost of direct shop labor to cut, drill and paint the I-beams.

13.         A carpenter/contractor enters into a contract prior to April 1, 1989 to build a house. In the shop, the carpenter/contractor cuts and assembles roof trusses. These trusses are later transported to the job site and affixed to real estate. The use tax base of the trusses is the cost of materials.

14.         Same facts as "13" above except the contract is entered into after March 31, 1989. The use tax base of the trusses is equal to the sum of the cost of materials plus the cost of direct labor to cut and assemble them off the job site.

The following examples assume that the product being affixed to the real estate of others is available from the contractor's inventory available for sale to others or made available by publication or price list as a finished product for sale to others.

15.         A custom cabinet maker enters into a contract to build and install cabinets for an office building. The cabinet maker maintains a price list for the cabinets even though the cabinet maker has no ready inventory. The use tax base of the cabinets is the finished goods inventory value, regardless of when the contract was entered into.

16.         A manufacturer/contractor of heating and cooling devices enters into a contract to install new thermostats for an apartment complex. The manufacturer/contractor takes the thermostats from its inventory available for sale to others for affixation. The use tax base of the thermostats is the finished goods inventory value, regardless of when the contract was entered into.

17.         A manufacturer/contractor of window glass contracts to supply and install glass in a commercial building. The manufacturer/contractor maintains a sales brochure publication describing the product (with or without a price list). The use tax base of the glass is the finished goods inventory value, regardless of when the contract was entered into.

Refund Procedure

Act 376 of the Public Acts of 1988 provides for a refund procedure for those contractors who paid use tax on a stepped-up basis and were given relief pursuant to Act 506. This situation would occur when a manufacturer/contractor paid use tax on a price equal to the amount of consideration or purchase price that any other person would have to pay if the other person acquired the tangible personal property from the manufacturer/contractor or the finished goods inventory value of the property or on some other basis other than the cost of materials. This refund procedure is not available to a manufacturer/contractor who maintained an inventory available for sale to others or made property available by publication or price list as a finished product for sale to others. These contractor/manufacturers were not given relief under Act 606. Taxpayers seeking refunds must provide a schedule detailing the claim and forward it to the Sales, Use and Withholding Taxes Division no later than March 31, 1989. All claims will be subject to audit by the Department. Approved refunds are to be paid without interest. The Act also limits the amount of refunds in any one fiscal year to not more than $1 million, unless the Single Business Tax Act is amended to impose a surcharge on the business activity of contract construction to recover the cost of refunds.

Retail Sales

As in the past, contractors and manufacturer/contractors, making sales at retail are subject to sales tax on the total gross' proceeds of the sale. In this instance they are retailers rather than any other classification under the Sales and Use Tax statutes.

Information

The application of this new statute applies to diverse business activities. If a business has any questions concerning a specific situation, a letter ruling may be obtained by writing:

Michigan Department of Treasury

Bureau of Revenue

Sales, Use and Withholding Taxes Division

2nd Floor, Treasury Building

Lansing, Michigan 48922

All pertinent facts must accompany a request for a letter ruling.