Onex Commc'ns Corp. v. Comm'r Of Revenue

• Decision Date: 30 July 2010
• Docket Number: SJC-10623.
• Citation: 930 N.E.2d 733,457 Mass. 419
• Parties: ONEX COMMUNICATIONS CORPORATIONv.COMMISSIONER OF REVENUE.
• Court: United States State Supreme Judicial Court of Massachusetts Supreme Court

457 Mass. 419

930 N.E.2d 733

ONEX COMMUNICATIONS CORPORATIONv.COMMISSIONER OF REVENUE.

SJC-10623.

Supreme Judicial Court of Massachusetts Suffolk.

Argued April 7, 2010.

Decided July 30, 2010.

Kenneth W. Salinger, Assistant Attorney General, for Commissioner of Revenue.

Richard L. Jones (William E. Halmkin with him), Boston, for the taxpayer.

Present: MARSHALL, C.J., IRELAND, SPINA, COWIN, CORDY, BOTSFORD, & GANTS, JJ.

COWIN, J.

The plaintiff, a company engaged in the development and production of integrated circuits for data and voice transmissions for the telecommunications industry, sought an abatement of use tax from August 1, 1999, to September 21, 2001, pursuant to G.L. c. 64I, § 7( b ), for equipment it purchased to develop a cutting-edge switching chip set. The Appellate Tax Board (board) determined that the plaintiff was engaged in manufacturing as defined in G.L. c. 63, § 42B, and that the disputed assessment pertained to items used in research and development by a manufacturing corporation. Therefore, the board concluded that the plaintiff was entitled to the abatement. The Commissioner of Revenue (commissioner) appealed on the ground that, at the time of the purchases, the plaintiff was engaged in development and not manufacturing and therefore did not qualify for the abatement. We affirm the decision of the board.

1. Background and prior proceedings. The essential facts are not disputed. We recite some of them here, leaving the remainder for discussion with the issues presented. The plaintiff, Onex Communications Corporation (Onex), was a Delaware corporation with a principal place of business in Bedford.¹ It was incorporated in May, 1999, for the purpose of bringing to market a then cutting-edge telecommunications switching chip set, known as the OMNI chip, which was able to perform work previously requiring ten separate chips. ² This advancement produced significant space and cost savings for the telecommunications industry. The OMNI chip had been designed and concept tested, and patent applications had been filed by engineers at Transwitch Corp. (Transwitch) prior to the formation of Onex; Onex was founded by former employees of Transwitch and several venture capital firms.

From August 1, 1999, to September 21, 2001, the period for which the Department of Revenue (department) audited Onex's purchases of personal property ³ and issued an assessment for nonpayment of use tax, Onex devoted most of its efforts to creating a “blueprint” for the production of the OMNI chip. The “blueprint” was “a computer-edited design that included technical specifications of the hardware and software components” of the two chips that made up the OMNI chip set and “included detailed manufacturing instructions.”

Early in the audit period, on September 17, 1999, Onex entered into a barter marketing contract with Transwitch whereby Transwitch would market the OMNI chip as one of its own technologies. During the audit period, Onex executed a contract with IBM to produce the OMNI chip. IBM produced sample chips by early 2001; these chips were delivered to Onex for analysis and testing, after which the “blueprint” was further refined and a modified “blueprint” was given to IBM in “mid-2001.” In September, 2000, Onex secured its first “beta” customer, Polaris Networks (Polaris).⁴ Onex delivered a small number of chips to Polaris in 2001, and significantly larger quantities in early 2002 when the OMNI chip became generally available. Onex was acquired by and merged into Transwitch on September 21, 2001, the date on which the commissioner chose to terminate the audit period. The board concluded that “[p]roduction in commercial quantities followed seamlessly from Onex's ongoing activities begun in 1999 and was unaffected by the corporate reorganization which happened in September, 2001.”

The department began an audit of Onex in July, 2001, for nonpayment of use tax. As a result of the audit, the commissioner concluded that Onex was not exempt from the requirement to pay use tax on its purchases of personal property in the amount of $2,723,510. The commissioner determined that the purchases at issue qualified as purchases for research and development purposes pursuant to G.L. c. 64H, § 6( r ) and ( s ), as well as G.L. c. 64I, § 7( b ), but that Onex was not entitled to a use tax exemption since it did not qualify as either a research and development (R & D) corporation or a manufacturing corporation under the statute.⁵ The commissioner issued a notice of failure to file for the period from August 1, 1999, through September 30 2001. Onex did not pay the use tax in question and, in December, 2002, the commissioner issued a notice of intent to assess. A notice of assessment for tax, interest, and penalties in the amount of $179,838.54 was issued in July, 2003.

Onex filed an application for abatement of use tax in July, 2003, seeking abatement of the entire amount assessed. The commissioner denied the application and Onex filed a petition under formal procedure, see G.L. 58, § 2, with the board. A hearing was held at which three witnesses testified for Onex; the commissioner presented no witnesses. The hearing officer found that Onex's witnesses were “credible, consistent, and probative.” The board adopted this determination and concluded that Onex was entitled to an abatement because it had been engaged in manufacturing during the relevant period ⁶ and the purchases qualified for exemption from use tax. The commissioner appealed to the Appeals Court. The Appeals Court affirmed the board's decision, see Onex Communications Corp. v. Commissioner of Revenue, 74 Mass.App.Ct. 643, 909 N.E.2d 53 (2009), and we allowed the commissioner's petition for further appellate review.

2 Discussion. Purchases of personal property are generally subject to sales tax under G.L. c. 64H, § 2, or use tax under G.L. c. 64I, § 2, at the time the sale is made. See G.L. c. 64H, § 5; G.L. c. 64I, § 6. Taxpayers engaged in R & D or manufacturing,⁷ however, may be exempt from payment of use tax for materials, tools, fuel, machinery, and replacement parts that are used “directly and exclusively” in R & D and manufacturing. See G.L. c. 63, §§ 38C, 42B; ⁸ G.L. c. 64H, §§ 6( r ) & ( s ), 7; G.L. c. 64I, § 7( b ). With limited exceptions, the exemptions for use tax, see G.L. c. 64I, § 7( b ), are the same as those for sales tax; the provision setting forth the use tax exemptions refers to and incorporates the statutory exemptions for sales tax. See id. (“The tax imposed by this chapter shall not apply to: ... [ b ] Sales exempt from the taxes imposed under chapter sixty-four H [with certain exceptions for motor vehicles, boats, and airplanes] ...”). General Laws c. 64H, § 6( r ), exempts from use tax tools and materials that are consumed during the manufacturing process. Section 6( s ) exempts machinery and tools that serve an integral and essential part in the manufacture, conversion, or processing of tangible personal property to be sold.

Onex asserts that it was exempt from use tax for purchases made during the period from August 1, 1999, through September 21, 2001, because it was “engaged in manufacturing.” The commissioner argues that Onex did not manufacture any production-quality chips during this period, and that, when it made the purchases at issue, Onex was engaged only in R & D and the production of prototypes. The commissioner maintains that an intent to manufacture does not suffice. She contends that, to be engaged in manufacturing, a company must have produced at least one finished product, or the company's inputs must have “resulted in the fabrication of a finished product by some other entity,” and contends that Onex did not make any marketable chips during the audit period.

a. Standard of review. “We review questions of statutory interpretation de novo, ... giving ‘substantial deference to a reasonable interpretation of a statute by the administrative agency charged with its administration enforcement.’ ” Attorney Gen. v. Commissioner of Ins., 450 Mass. 311, 319, 878 N.E.2d 554 (2008), quoting Commerce Ins. Co. v. Commissioner of Ins., 447 Mass. 478, 481, 852 N.E.2d 1061 (2006). Because the board is authorized to interpret and administer the tax statutes, its decisions are entitled to deference. See Bell Atl. Mobile of Mass. Corp. v. Commissioner of Revenue, 451 Mass. 280, 283, 884 N.E.2d 978 (2008). Ultimately, however, the interpretation of a statute is a matter for the courts. See Duarte v. Commissioner of Revenue, 451 Mass. 399, 411, 886 N.E.2d 656 (2008) (deference is not abdication).

b. Statutory use tax exemptions. The board concluded that, pursuant to G.L. c. 64H, § 6 ( r ) and ( s ), and G.L. c. 64I, § 7 ( b ), Onex was exempt from use tax for the period from August 1, 1999, through September 21, 2001, because it was engaged in manufacturing; Onex asserts that the board's conclusion was correct.

To be a “manufacturing corporation,” a company must be “engaged in manufacturing.” See G.L. c. 58, § 2; G.L. c. 63, § 42B. Since this statutory language is “less than illuminating,” see Commissioner of Revenue v. Houghton Mifflin Co., 423 Mass. 42, 44, 666 N.E.2d 491 (1996), quoting William F. Sullivan & Co. v. Commissioner of Revenue, 413 Mass. 576, 579, 602 N.E.2d 188 (1992), the definition of a manufacturing company has been developed through decades of case law. See Commissioner of Revenue v. Houghton Mifflin Co., supra; William F. Sullivan & Co. v. Commissioner of Revenue, supra at 581; Joseph T. Rossi Corp. v. State Tax Comm'n, 369 Mass. 178, 179-180, 338 N.E.2d 557 (1975); Boston & Me. R.R. v. Billerica, 262 Mass. 439, 444-445, 160 N.E. 419 (1928). Manufacturing has been defined as “change wrought through the application of forces directed by the human mind, which results in the transformation of some pre-existing substance or element into something different, with a new name, nature or use.” ⁹Boston & Me. R.R. v. Billerica...