Midrex Techs., Inc. v. N.C. Dep't of Revenue

Decision Date21 December 2016
Docket NumberNo. 5A16,5A16
CourtNorth Carolina Supreme Court

Robinson, Bradshaw & Hinson, P.A., Charlotte, by Thomas Holderness, for petitioner-appellant.

Roy Cooper, Attorney General, by Tenisha S. Jacobs, Special Deputy Attorney General, for respondent-appellee North Carolina Department of Revenue.

ERVIN, Justice.

The issue in this case is whether petitioner Midrex Technologies, Inc. (Midrex) is entitled to utilize the single-factor tax allocation formula authorized by N.C.G.S. § 105–130.4(r) and made available to exempt corporations "engaged in business as a building or construction contractor" by N.C.G.S. § 105–130.4(a)(4). For the reasons set forth below, we affirm the trial court's decision to uphold the administrative law judge's determination that Midrex was not an "excluded corporation" for purposes of N.C.G.S. § 105–130.4(a)(4) during the relevant time period.

Midrex, a Delaware corporation headquartered in Charlotte, was formed to develop and market the Midrex Direct Reduction Process. The Midrex Process, which has been patented by Midrex and is forty years old, is used in a facility known as a Midrex Plant to convert iron ore into direct reduced iron (DRI), a premium iron ore that is, in turn, used as an alternative feed in connection with the production of steel. Although Midrex engages in three primary business activities, Engineering Services and Procurement Services, Midrex Plant Sales, and After Market Sales, the ultimate focus of its business is the sale of Midrex Plants.

Engineering and Procurement Services employees design Midrex Plants, with their work including, but not limited to:

1. Designing refractory linings for gas based equipment, furnaces, ductwork, and heating exchange equipment;
2. Designing gas based equipment, furnaces, ductwork, and heating exchange equipment; and 3. Designing systems and equipment associated with the design and construction of DRI plants and new technology.

Engineering and Procurement Services houses employees who work in various engineering disciplines, such as mechanical, civil, process, and electrical engineering. Engineering and Procurement Services also houses employees responsible for obtaining proprietary and non-proprietary equipment needed for a Midrex Plant. Finally, Engineering and Procurement Services houses a site manager and a construction manager,1 with the site manager being responsible for handling the relationship between Midrex and the purchaser of a Midrex Plant, including keeping the client apprised of any ongoing plant-related issues, helping coordinate activities at the plant site, recommending any necessary corrective measures, communicating with persons involved in the construction process, and providing advice and assistance relating to any issues that might arise during the construction of a Midrex Plant and with the construction manager being responsible for all activities involved in the construction of both foreign and domestic plants.

The terms and conditions under which Midrex designs and sells a Midrex Plant are set out in certain contracts that are entered into between Midrex and the client. The plant sale contracts that Midrex enters into with its clients outline the relevant technical specifications, the terms under which the client makes payment to Midrex, and the nature and extent of the work to be performed by the client and by Midrex. The work that Midrex is required to perform under these plant sale contracts does not include the construction, erection, and installation of the systems and components utilized in a Midrex plant, with the client or some other entity being required to hire construction contractors and laborers in order to ensure the performance of those tasks. Consistent with this understanding of the contractual relationship between Midrex and its client, Midrex is required to provide engineering, equipment procurement, and advisory and field services needed in connection with the construction of a Midrex Plant, with these contractually required field services including:

1. Interpreting and explaining of plans, materials, and other technical data;
2. Advising the Client in developing and updating a construction schedule;
3. Inspecting material, equipment, and workmanship;
4. Providing advice related to the commissioning of a Midrex Plant.

Although Midrex field service employees do, on occasion, provide hands-on assistance to clients, the performance of this work does not change the fact that, under Midrex's plant sales contracts, the client retains ultimate responsibility for directly supervising and obtaining the performance of all on-site construction work in accordance with the relevant plans and specifications.

Finally, After Market Sales is responsible for addressing issues that arise following the construction of a Midrex Plant. For example, After Market Sales employees are involved in providing additional equipment and parts needed to permit the continued operation of an existing Midrex plant after construction has been completed.

In the years between 2005 and 2008, Midrex entered into contracts with various clients at different locations around the world for the sale of Midrex Plants. As a result, Midrex filed North Carolina C Corporation Tax Returns with the Department of Revenue that apportioned its income using the standard three-factor formula provided for in N.C.G.S. § 105–130.4(i).2 Subsequently, Midrex filed a set of amended returns for the relevant period in which it calculated its tax liability using the single-factor formula applicable to "excluded corporations" authorized by N.C.G.S. § 150-130.4(r), with Midrex's claim to be an "excluded corporation" resting on a contention that it was "engaged in business as a building or construction contractor." N.C.G.S. § 105–130.4(a)(4) (2016). In these amended returns, Midrex sought a $3,303,703 refund.

Midrex admitted that, during the relevant period, its "primary business [wa]s selling ... plants." In all of the tax returns that it filed relating to this period, Midrex assigned itself a North American Industry Classification System (NAICS) code of 541330 based upon a review of the business services that it provides, including the field services upon which its present refund request depends. NAICS code 541330 falls within the engineering, rather than the construction, sector.

After the filing of Midrex's amended returns, respondent North Carolina Department of Revenue determined that Midrex should not be classified as an "excluded corporation" on the grounds that it "was not engaged in business as a building or construction contractor." Referencing the Franchise Tax, Corporate Income Tax, Privilege Tax, Insurance Premium Tax [and] Excise Tax Rules and Bulletins for Taxable Years 2005 and 2006 and 2007 and 2008 , the Department of Revenue determined that an entity should be treated as an "excluded corporation" depending upon whether it was classified as a "building or construction contractor" on the basis of the NAICS system, which focuses upon whether an entity's primary business activity involves erecting buildings and other structures. As a result of the fact that Midrex was not primarily engaged in the business of constructing buildings or other engineering projects and was, instead, "primarily a technology company that supplies technology relating to the production of DRI" that "is not responsible for the actual construction or installation of the purchased technology," the Department of Revenue determined that Midrex "was not engaged in business as a building or construction contractor" and rejected Midrex's refund request.

On 25 October 2013, Midrex filed a Petition for a Contested Tax Case Hearing with the Office of Administrative Hearings in which it sought to have the denial of its refund request by the Department of Revenue overturned. On 12 June 2014 and 27 June 2014, respectively, Midrex and the Department of Revenue filed motions seeking entry of summary judgment in their favor. On 10 October 2014, the administrative law judge entered a Final Decision and Order Granting Respondent's Motion for Summary Judgment in which he determined that there was no genuine issue of material fact, that judgment should be entered in favor of the Department of Revenue, and that Midrex's refund request should be denied.

On 23 October 2014, Midrex filed a Petition for Judicial Review in the Superior Court, Wake County. After this case was designated a mandatory complex business case as defined by N.C.G.S. § 7A–45.4 and assigned to a trial judge for decision, the Department of Revenue filed a response to Midrex's petition. On 21 October 2015, the trial court entered an Opinion and Order on Petition for Judicial Review determining that "Midrex was not an excluded corporation during the tax years at issue" and affirming "the Final Decision entered in this matter on October 10, 2014," denying Midrex's summary judgment motion, and granting the Department of Revenue's summary judgment motion.

Although Midrex acknowledged that no disputed issues of material fact existed in this case, it argued before the trial court that the administrative law judge had failed to properly apply the statutory provisions set out in N.C.G.S. § 105–130.4(a)(4) to the facts established by the present record. More specifically, Midrex asserted that the administrative law judge had erred by concluding that Midrex was not a "building or construction contractor" or "engaged in [the construction] business" and by construing the relevant statutory language to require a showing that construction-related activities constituted Midrex's "primary" business activity as a prerequisite for a finding that Midrex was an "excluded corporation." In reaching a contrary conclusion, the trial court began by attempting to determine the plain meaning of "building or construction contractor" for purposes of N.C.G.S. § 105–130.4(a...

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