Decision Date17 December 2004
Docket Number No. 664, No. 665, No. 667., No. 90, No. 666, No. 663
Citation278 Kan. 690,101 P.3d 1239
PartiesIn the Matter of the APPEAL OF SPRINT COMMUNICATIONS COMPANY, L.P., from an Order of the Division of Taxation for a Refund of Sales and Use Tax.
CourtKansas Supreme Court

Mark A. Burghart, of Alderson, Alderson, Weiler, Conklin, Burghart, & Crow, L.L.C., of Topeka, argued the cause and was on the briefs for appellant.

David J. Dunlap, of Legal Services Bureau, Kansas Department of Revenue, argued the cause and was on the brief for appellee. The opinion was delivered by


This case involves five consolidated telecommunication cases where the Board of Tax Appeals (BOTA) upheld the Department of Revenue's (Department) denial of refund claims. Five telecommunication companies seek a refund of the sales tax paid on purchases of telecommunication equipment in Kansas during the time period of March 1994 through March 2000 of telecommunication equipment which "consists of, among other things, switches, computers, and related peripheral equipment (including repair and replacement parts and accessories)" which is "utilized either in engineering a finished telecommunications product or in controlling or measuring the process of manufacturing such a product." The refund claims are based on the manufacturing exemption contained in K.S.A. 79-3606(kk). The controversy focuses on whether the equipment was machinery and equipment utilized to manufacture tangible personal property for resale or to provide a service.

The taxpayers are Sprint Communications Company, L.P.; United Telephone Co. of Kansas; United Telephone Co. of Missouri; United Telephone Co. of Arkansas; and United Telephone Co. of Iowa (Taxpayers). It is undisputed that Taxpayers provide intrastate and interstate telecommunication services in the state of Kansas which are subject to the Kansas retailers' sales tax pursuant to K.S.A. 2003 Supp. 79-3603(b).

The designee of the Secretary of Revenue denied Taxpayers' claims for refunds of sales and use tax, and Taxpayers timely appealed to BOTA. The Department filed a motion for summary judgment with BOTA, arguing that, as a matter of law, Taxpayers' machinery and equipment did not qualify for exemption under K.S.A. 79-3606(kk) because Taxpayers do not manufacture tangible personal property for resale. Rather, Taxpayers' telecommunication product is statutorily defined as a service under K.S.A. 79-3602(k) and 79-3603(b). Taxpayers filed a response and cross-motion for summary judgment, arguing that their machinery and equipment qualifies for exemption under K.S.A. 79-3606(kk) because it is used in the process of manufacturing telecommunications, which are comprised entirely of tangible personal property— electricity.

In their response to the Department's motion for summary judgment and cross-motion for summary judgment, Taxpayers asserted the following facts:

"1. A telecommunication is similar, if not identical, to electricity in its composition.. . .
"2. The conversion of electrical signals from analog to digital and back to analog results in a physical change to tangible personal property. . . .
"3. A telecommunication is comprised entirely of electricity."

In support of these statements of fact, Taxpayers attached the affidavit of Charles Bell, a Senior Network Evolution Planner for Sprint, which stated:

"A telecommunication is comprised entirely of electricity. Sprint must convert electricity provided by its supplier from AC current to DC current in order to be able to process a call through the central office switch. The conversion from DC current to AC current takes place via a battery bank maintained at the central office switch."

The affidavit also quoted the following passage from Southwestern Bell Tel. v. Director of Rev., 78 S.W.3d 763, 764-68 (Mo. 2002), as an accurate explanation of the creation of a telecommunication:

"When a person picks up a telephone, a dial tone is produced by electrical currents flowing between the telephone and the central office switch. [Footnote omitted.] Once the customer inputs the desired number, the central switch analyzes the electrical pulses or tones to determine the proper routing of the call. A separate system . . . sends out a data message, which is used by the receiving switch to determine whether the line is free or busy. The caller then hears either the familiar ring or busy signal. If the person on the receiving end picks up the telephone, a voice connection is established. The vibrations of a person's voice are converted by the telephone into an analog signal. Depending on the type of switching office, the signal remains analog as it is transmitted or is converted into a digital signal.
"An analog signal travelling over a telephone wire loses strength because of the resistance of the wires. The signal, along with any additional noises on the circuit, must be amplified to travel over long distances. If the switching office is analog, the signal is transported across the wire, amplified as necessary and then reconverted into a voice signal for the other listener.
"If the switching office is digital, the analog signal is `sampled' at a very high rate into a digital signal. [Footnote omitted.] This signal goes through the system and is converted into a voice signal on the other end. Instead of being a sound wave, a digital signal is transported as a package of data. Because it is digital data that can be regenerated, instead of being amplified, there is no risk of other noises being amplified with the voice data."
"... The listener requires that the voice be `manufactured' into electronic impulses that can be transmitted and reproduced into an understandable replica. The end `product' is not the same human voice, but a complete reproduction of it, with new value to a listener who could not otherwise hear or understand it. . . .
"Basic telephone service ... [is] manufactured." 78 S.W.3d at 764-68.

The Department responded that the Taxpayers' three statements of fact were controverted and irrelevant. The Department argued that the technicalities of the telecommunications process were irrelevant to the question of law before BOTA because the Kansas Retailers' Sales Tax Act defines telecommunications as a service. Nonetheless, the Department also contested Taxpayers' factual allegations. As to Taxpayers' first and third statements that "[a] telecommunication is similar, if not identical, to electricity in its composition" and "[a] telecommunication is comprised entirely of electricity," the Department responded: "The term `telecommunication' is a generic term describing one-way and two-way transmission of information by means of electromagnetic and/or electro-optical systems. Electricity is used in telecommunication." According to the Department, the information being conveyed and the entirety of the information transmission system and its processes cannot be described as "similar, if not identical, to electricity in composition," nor are they "comprised entirely of electricity" as alleged by Taxpayers. As to Taxpayers' second statement that "[t]he conversion of electrical signals from analog to digital and back to analog results in a physical change to tangible personal property," the Department responded: "Converting a signal `from analog to digital and back to analog' results in no change. The signal is received as analog and is ultimately delivered as analog. And, the information carried by the signal is preserved as closely to the original as possible."

The Department also asserted additional facts in opposition to Taxpayers' cross-motion for summary judgment. The Department's additional facts related to the nature of telecommunications, the use of electrical current in telecommunication services, the function of telecommunication services users' equipment, and the telecommunication companies' delivery of service.

On March 18, 2003, BOTA issued a 3-2 opinion in favor of the Department, ruling that Taxpayers' machinery and equipment did not qualify for the manufacturing exemption from sales tax under K.S.A. 79-3606(kk) because other provisions of the Kansas Retailers' Sales Tax Act define telecommunications as a service. BOTA also ruled that the Department's application of K.S.A. 79-3606(kk) to exclude telecommunications companies did not violate the Equal Protection Clauses of the United States and Kansas Constitutions. The two dissenting members of BOTA believed that there remained "genuine controverted mixed issues of law and fact" relating to whether telecommunications is a service or whether it involves the manufacturing of tangible personal property. The dissenters would have denied both motions for summary judgment and allowed the case to proceed to a full evidentiary hearing.

BOTA denied a timely motion for reconsideration, and Taxpayers timely appealed. Taxpayers' appeals were consolidated by the Court of Appeals, and the case was transferred to this court on its own motion pursuant to K.S.A. 20-3018(c).

Did BOTA Err in Determining That Appellants Were Not Eligible for the Sales Tax Exemption Under K.S.A. 79-3606(kk)?

BOTA orders are subject to review under the Act for Judicial Review and Civil Enforcement of Agency Actions, K.S.A. 77-601 et seq. K.S.A. 77-621 sets out the scope and standard of review. The provisions relevant to our review of the issues raised in this case restrict our granting of relief except where: "(1) The agency action, or the statute or rule and regulation on which the agency action is based, is unconstitutional on its face or as applied" or "(4) the agency has erroneously interpreted or applied the law." K.S.A. 77-621(c).

This court recently restated some of the principles governing appellate review of a BOTA decision, In re Tax Appeal of Colorado Interstate Gas Co., 276 Kan. 672, 682-83, 79 P.3d 770 (2003):

"BOTA is a specialized agency and is considered to be the paramount taxing authority

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