C. F. & I. Steel Corp. v. Charnes

• Decision Date: 26 October 1981
• Docket Number: No. 79SA486,79SA486
• Citation: 637 P.2d 324
• Parties: C. F. & I. STEEL CORPORATION, a Colorado Corporation, Plaintiff-Appellee and Cross-Appellant, v. Alan N. CHARNES, Executive Director of the Department of Revenue, State ofColorado, Defendant-Appellant and Cross-Appellee.
• Court: Colorado Supreme Court

Page 324

637 P.2d 324

C. F. & I. STEEL CORPORATION, a Colorado Corporation Plaintiff-Appellee and Cross-Appellant, v. Alan N. CHARNES, Executive Director of the Department of Revenue, State ofColorado, Defendant-Appellant and Cross-Appellee.

No. 79SA486.

Supreme Court of Colorado, En Banc.

Oct. 26, 1981.

Rehearings Denied Dec. 14, 1981.

Welborn, Dufford, Cook & Brown, Thomas G. Brown, William C. Robb, Denver, for plaintiff-appellee and cross-appellant.

J. D. MacFarlane, Atty. Gen., Richard F. Hennessey, Deputy Atty. Gen., Mary J. Mullarkey, Sol. Gen., Chris J. Eliopulos, Sp. Asst. Atty. Gen., Denver, for defendant-appellant and cross-appellee.

HODGES, Chief Justice.

The Department of Revenue (Department) issued a notice of deficiency in the payment of use taxes on certain items used by C.F. & I. in the production of steel. C.F & I. filed an action in the district court seeking to invalidate the deficiency. The issues involved were tried to the court, which made extensive findings and entered judgment in favor of C.F. & I. The Department appealed the judgment to the court of appeals. Pursuant to C.A.R. 50, we granted certiorari before judgment and now affirm in part and reverse in part the judgment of the district court.

The issues on appeal concern the taxable status of certain items and material used by C.F. & I. in the production of steel. They are categorized as refractories, electrodes, molds, stools, cinder pots, and pig machine molds.

Refractories are materials used in the lining and construction of furnaces and other equipment used in the steel-making process, and come in a variety of types including brick, clay, plastic, and spray. The principal function of refractory material is to protect the furnaces and other vulnerable steel-making equipment from the intense heat generated in the steel-making process.

Refractory material is intended to be inert, thermally shock-resistant, and not penetrable by the molten metal or slag. Nevertheless, as found by the trial court and supported by the record, when it comes in direct contact with the molten metal, it is slowly consumed and a miniscule amount can be found present in the finished steel by chemical analysis. Other refractory materials which do not come in direct contact with the molten metal do not get into the steel, but deteriorate and must be periodically replaced.

One type of furnace used by C.F. & I. in the production of steel is the electric arc furnace (EAF). A charge, which is the material placed in the furnace to be melted and converted into steel, is generally composed of scrap iron. Graphite rods, called electrodes, are then lowered into the EAF and positioned immediately above the charge. The resulting electric arc generates a high degree of heat which melts the charge.

Carbon is a crucial element of finished steel, and is carefully controlled in each charge. There are occasions when the carbon content of the molten metal is found to be low and the production schedule requires immediate correction. When this occurs, the electrodes are dipped into the molten metal to increase its carbon content. It is estimated that one to three per cent of the electrode material enters into the finished steel.

Molds, stools, cinder pots, and pig machine molds are manufactured and used by C.F. & I. in the steel-making process. Molds are made of cast iron and are designed to hold molten steel while it cools. The useful life of a mold is between fifty and sixty pours. Stools are flat cast iron slabs which are the bottom portions of the molds. They have a useful life of between 120 and 140 pours. Cinder pots are receptacles used to transport slag. Approximately 15,000 tons of slag may be hauled during the useful life of a cinder pot. Pig machine molds are small troughs, rectangular in shape, that are used to contain pig iron during its solidification and transportation. Pig iron is iron ore after it has been melted down and reduced to a purer state by the addition of a flux to remove undesirable impurities. The useful life of pig machine molds is approximately forty to fifty pours.

C.F. & I. maintains its own foundry to manufacture these items. Raw materials are diverted from C.F. & I.'s normal steel-making process in order to manufacture these items. After their useful life, the equipment is scraped and melted down with other scrap iron used by C.F. & I. in the steel-making process.

On July 24, 1973, the Department commenced an income tax audit and a sales and use tax audit of C.F. & I. for the period commencing September 1, 1970. Department auditors were at C.F. & I.'s Pueblo, Colorado plant for approximately five days ending on September 20, 1973. The audit was thereafter postponed by the Department for several reasons, including an accommodation of C.F. & I.'s request for a delay pending the resolution of other unresolved taxation questions. Because of the audit's postponement, the Department requested C.F. & I. to consent to a waiver of the running of the statute of limitations for the taxable period under examination, September 1, 1970 through August 31, 1973. A consent was executed by C.F. & I. on October 9, 1973. Subsequent to the execution of this consent, no further proceedings were noted in the Department's audit file from October 1973 to January 1975. On January 8, 1975, the Department commenced an income tax audit at the offices of C.F. & I.'s parent corporation, the Crane Corporation, and concluded the sales and use tax audit at the C.F. & I. home offices in Pueblo in February 1975. A notice of deficiency in the payment of use tax was issued to C.F. & I. on August 19, 1975 for the period from September 1, 1970 to March 31, 1975 on refractory material, electrodes, and molds, stools, cinder pots, pig machine molds, and on other items not in issue.

After exhausting procedures for administrative remedy, C.F. & I. commenced this action in the district court, which after trial, entered judgment based upon detailed findings of fact and conclusions of law. It held, inter alia : (1) a 1938 case between the same parties was res judicata as to the question of whether refractories were subject to the use tax (this holding is reversed); (2) electrodes used by C.F. & I. were exempt from the use tax under the processing clause of the sales and use tax law, section 39-26-203(1)(f), C.R.S.1973, which exempts tangible personal property which "enters into the processing of or becomes an ingredient or component part of the product ... manufactured...." (this holding is reversed); (3) molds, stools, cinder pots, and pig machine molds, which are manufactured by C.F. & I. for its own use, are not subject to the use tax because the items are not purchased at retail by C.F. & I. (this holding is affirmed); and (4) the statute of limitations commenced to run against C.F. & I.'s tax liability on October 9, 1974, one year after the consent to a waiver of the statute of limitations was executed by C.F. & I. (this holding is reversed). Both the Department and C.F. & I. appealed the judgment.

I. Taxability of Refractories

In 1937, C.F. & I., then known as the Colorado Fuel and Iron Corporation, commenced a declaratory judgment action in the Denver District Court. That case involved the same parties in the same capacity as does the present action. The fundamental question raised in the 1937 case concerned the taxability of various materials used by C.F. & I. in its steel manufacturing process, including the general category of refractories under the then newly enacted "Emergency Retail Sales Tax Act of 1935." (Now codified at section 39-26-101 et seq., C.R.S.1973). Specifically, the case concerned the interpretation and application of what is commonly known as the processing clause, now codified in section 39-26-203(1)(f), C.R.S.1973, which explicitly exempts from the provisions of the use tax that property which enters into the processing of or becomes an ingredient or component part of the manufactured product.

The trial court in the 1937 action entered a declaratory judgment setting forth a general interpretation of the processing clause. Both parties appealed and in Bedford v. Colorado Fuel and Iron Corporation, 102 Colo. 538, 81 P.2d 752 (1938), this court held that under the processing clause: "to be exempt from the operation of the acts, tangible personal property purchased by a manufacturer and which enters into the processing of the manufactured product must become a constituent part thereof, wholly or partially, by either chemical or mechanical means...." The judgment of the trial court was reversed, and the case was remanded with directions that specific findings be made as to the taxability of each of the articles involved in the case based upon the guidelines established in Bedford, supra.

On remand, the parties through respective counsel met on several occasions to attempt to stipulate regarding the taxable status of the articles in dispute. Ultimately, the parties entered into a stipulation and accordingly, prepared a proposed judgment order under the declaratory judgment act. After reviewing the proposed judgment order the trial court signed it and entered it as the judgment of the trial court on September 28, 1938. This judgment was not appealed by either party.

The first ten articles or classes of articles discussed in the 1938 trial court judgment covered all refractory material then used by C.F. & I. The parties' interpretation of the Bedford rule was stipulated, and the 1938 judgment reflected that refractories, as a class, were exempt from the payment of use tax because they fell within the provisions of the processing clause.

Initially, we must determine whether the doctrine of res judicata bars relitigation of the question of the taxable status of the refractory material used by C.F. & I. in its steel-making process.

The doctrine of res judicata has been adopted by this court on several previous occasions. See, e.g., Manka...