Royal Plastics, Inc.'s Request For Refund of State and Mun. Sales and Use Taxes, Matter of, s. 17138

Citation471 N.W.2d 582
Decision Date12 June 1991
Docket Number17158-,Nos. 17138,s. 17138
PartiesIn the Matter of ROYAL PLASTICS, INC.'S REQUEST FOR REFUND OF STATE AND MUNICIPAL SALES AND USE TAXES. a-FEH.
CourtSupreme Court of South Dakota

Timothy T. Weber, Dept. of Revenue, Pierre, for appellant; Roger A. Tellinghuisen, Atty. Gen. Pierre, on brief.

Catherine A. Tanck, Davenport, Evans, Hurwitz & Smith, Sioux Falls, for appellee.

HENDERSON, Justice.

PROCEDURAL HISTORY/ISSUES

The Department of Revenue (Department) found Royal Plastics, Inc. (Royal) subject to additional sales and use tax following a routine audit of Royal's books and records. After an administrative proceeding, the Secretary of Revenue (Secretary) affirmed the Certificate of Assessment in its entirety. This decision was appealed to the Circuit Court of the Third Judicial Circuit. The circuit court reversed the Secretary's order in part and ruled that:

(1) SDCL 10-46-5 applies to a manufacturing contractor such as Royal;

(2) For capitalized molds, Royal's fabrication costs were not subject to use tax;

(3) For capitalized molds, set up and tooling charges to out-of-state customers were not subject to sales or use tax;

(4) For capitalized molds, Royal's fixed overhead allocations are not an allowable exclusion from taxation as fabrication costs;

(5) Molds to produce sold by Royal to out-of-state customers and used by Royal, were subject to sales tax; and

(6) For molds to produce, set up and tooling charges which Royal charged to out-of-state customers were subject to sales tax as part of gross receipts from the sale of the mold to produce.

On appeal, the Department presents three legal issues as follows:

(1) Was Royal a contractor within the purview of SDCL 10-46-5, thereby entitling it to exclude its costs of fabrication from tax? We hold that it was.

(2) Are sales of molds to produce, to out-of-state customers, retail sales in South Dakota subject to sales tax? We hold that they are.

(3) Are set up and tooling charges charged to out-of-state customers subject to sales tax? We hold that they are not.

Royal filed a Notice of Review on May 24, 1990. The issue raised by Royal is: Did the circuit court incorrectly determine that the fixed overhead costs, which Royal allocated to its capitalized molds, were not fabrication costs excludable under SDCL 10-46-5? We decline to address the Notice of Review issue. SDCL 15-26A-60(6) and SDCL 15-26A-61 require authority in support of an argument. Royal failed to comply with this section.

We affirm.

FACTS

Royal is located in Brookings, South Dakota. Its business consists of manufacturing molded plastic parts. Royal has customers both in and out-of-state, who are mainly in the business of manufacturing equipment.

Royal produces molds which fall within two categories. "Molds to produce" are produced to the customer's specifications at a price determined on a contract basis. The customer owns the mold but it is kept at Royal's plant in Brookings. Molds to produce are not depreciated by Royal. Royal does not charge sales tax to its out-of-state customers on molds to produce although it charges sales tax to its South Dakota customers. The second type of molds are "capitalized molds." These types of molds are fabricated and owned by Royal. They are depreciated as capital equipment. These molds are unique to the plastic part produced, and when the contract for manufacture of parts is terminated, the mold is scrapped by Royal. Royal does not pay sales or use tax on the capitalized molds.

The Department of Revenue conducted a sales and use tax audit of Royal for the period of March 1, 1985 through February 29, 1988. At the conclusion of the audit, Royal was assessed additional state sales and use taxes plus interest of $27,956.00.

DECISION

I. Royal is a contractor within the purview of SDCL 10-46-5. Therefore, it is entitled to exclude fabrication costs from tax. 1

The standard of review for administrative appeals is governed by SDCL 1-26-36. We review the record in the same light as does the trial court and determine whether or not the administrative agency's decision was clearly erroneous in light of all the evidence. Deuschle v. Bak Const. Co., 443 N.W.2d 5, 6 (S.D.1989). Questions of law are fully reviewable. When the issue is a question of fact, the clearly erroneous standard applies. In re State and City Sales Tax Liability of Quality Service Railcar Repair Corp., 437 N.W.2d 209 (S.D.1989). Also, it should be noted that in construing sales and use tax statutes, statutes imposing a tax are construed liberally in favor of the taxpayer. Nash Finch Co. v. South Dakota Dept. of Rev., 312 N.W.2d 470 (S.D.1981). However, statutes allowing a tax exemption are strictly and narrowly construed in favor of the taxing power and are given a reasonable, natural and practical meaning to effectuate the purpose for which the exemption was granted. KMART Corp. v. S.D. Dept. of Revenue, 345 N.W.2d 55 (S.D.1984).

The statute in question, SDCL 10-46-5, states: 2If a contractor or subcontractor uses tangible personal property in the performance of his contract or to fulfill contract or subcontract obligations, whether the title to such property is in the name of the contractor, subcontractor, contractee, subcontractee, or any other person, or whether the titleholder of such property would be subject to pay the sales or use tax, such contractor or subcontractor shall pay a tax at the rate prescribed by Sec. 10-45-2, measured by the purchase price or fair market value of such property, whichever is greater, unless such property has been previously subjected to a sales or use tax, in this state and the tax due thereon has been paid. However, if the contractor or subcontractor fabricates tangible personal property for use in the performance of his contract, fair market value excludes the value of the contractor's or subcontractor's fabrication costs. (emphasis added).

At the circuit court level, the Department contended that SDCL 10-46-5 pertains only to construction contractors and thus Royal is not entitled to exclude fabrication costs from fair market value of the molds. However, the circuit court disagreed with the Department, concluding that Royal is a "contractor" within the plain meaning of the statute. Therefore, the circuit court determined that Royal is entitled to the benefits of SDCL 10-46-5 as to capitalized molds. We agree.

Neither SDCL 10-46-5 nor any other statute specifically define the term "contractor." This Court did consider the purpose of enacting SDCL 10-46-5 in Friessen Construction Co. v. Erickson, 238 N.W.2d 278 (S.D.1976). In Friessen, SDCL 10-46-5 was construed to impose a use tax on contractors who use personal property in the performance of a contract, even though the property may not be owned by the contractor. However, the last sentence was not interpreted by the Friessen court because it was not part of the statute at the time that case was decided. It states explicitly, that if a contractor fabricates personal property for use in the performance of his contract, then fair market value excludes the value of the contractor's fabrication costs. Therefore, since this statute imposes a tax, it is to be construed liberally in favor of Royal. Nash Finch Co., supra.

We agree with the circuit court that there is no reason to distinguish between "construction contractors" and "manufacturing contractors" under SDCL 10-46-5. Contractor defined under common law is one who contracts to supply labor and materials. County of Hennepin v. Minnesota, 263 N.W.2d 639 (Minn.1978). The words of the statute should be given their plain meaning. In re Famous Brands, Inc., 347 N.W.2d 882 (S.D.1984). Therefore, as to capitalized molds, Royal is allowed to exclude its fabrication costs under SDCL 10-46-5. 3

II. Sales of "Molds to Produce" to out-of-state customers are sold at retail and subject to sales tax.

The Secretary determined that the molds to produce, sold by Royal to its out-of-state customers and used by Royal in the manufacture of plastic part pieces, are sold at retail in South Dakota and are subject to sales tax. The circuit court affirmed this conclusion stating that the sales take place in South Dakota; therefore, it reasoned the gross receipts are subject to sales tax without exclusion of fabrication costs. It determined that the sales of these molds are not exempt from taxation because there is no immediate physical delivery of the mold to a point outside the state pursuant to a contractual obligation. We agree.

Gross receipts from the sale of tangible personal property in South Dakota are not subject to sales tax, if the seller has an obligation under the sales agreement to deliver the tangible personal property out of state and the property will not be returned to this state. ARSD 64:06:01:24. In the present case, the sales of molds to produce take place in South Dakota. Royal is not contractually obligated to immediately deliver the molds to the out-of-state customer. Therefore, the gross receipts from the sale of the "molds to produce" are subject to sales tax without exclusion of fabrication costs.

III. The circuit court correctly determined that the set-up and tooling charges 4 charged to out-of-state customers, as they pertain to capitalized molds, are not subject to sales tax.

The Secretary held that Royal was subject to tax for the setup charges and tooling charges that are performed in South Dakota. The circuit court affirmed this with regard to molds to produce. However, the circuit court held that as such charges...

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