Press Room: Tax Release
California Expands Partial Sales Tax Exemption for Purchases of Manufacturing or Research and Development Property
On July 25, 2017, in connection with Assembly Bill 398, California extended and expanded the partial sales and use tax exemption for purchases and leases of certain tangible personal property used in manufacturing or research and development (R&D) activities. Originally enacted in 2014, the exemption allows qualified persons to pay sales tax on the purchase or lease of qualified property at the current rate of 3.3125%, instead of the standard base rate of 7.25%. The exemption is still capped at $200 million in a calendar year, and the property may not be removed from California within one year of purchase or lease.
The exemption was scheduled to sunset on June 30, 2022 but has been extended through June 30, 2030. In addition, the exemption has been expanded to agricultural processing and electric power generation, storage, and distribution effective January 1, 2018. The revision also clarifies the definition of useful life so that businesses that expensed certain purchases will also receive the exemption. This particular change is retroactive and may provide the basis for a claim for refund of sales/use tax (described later).
How to Qualify for the Exemption
To qualify for the sales tax exemption for purchases or leases of manufacturing or R&D property, the taxpayer must be a qualified person. This is a person who is primarily engaged in the areas of business identified by NAICS Codes 3111 to 3399 (manufacturing) and NAICS Codes 541711 (R&D biotechnology) or 541712 (R&D physical, engineering, and life sciences). The recent legislation also adds certain persons engaged in agricultural business activity and NAICS codes 22111 to 221118 (electric power generation and storage) and NAICS 221122 (electric power distribution). Being primarily engaged in the appropriate line of business means the person is engaged in that line of business for 50% or more of the time.
In addition to being a qualified person, the taxpayer must establish that the property involved is qualified property. Qualified property includes machinery and equipment as well as the components and parts to operate, control, or maintain the equipment or machinery. Computers and software, pollution control equipment, and special purpose buildings and foundations are also considered qualified property. Qualified property must also be used in a qualifying manner, which means used primarily in the manufacturing or R&D processes, and again primarily means at least 50% or more of the time.
To claim the exemption and receive the reduced tax rate, the buyer must provide the seller with a partial exemption certificate upon purchasing or leasing qualified tangible personal property. The exemption certificate forms are available on the California Board of Equalization’s website.
Expensed Property Now Also Qualifies for the Exemption
In addition to expanding the categories of eligible persons to agricultural businesses and electric power generators/distributors, the recent revisions to the manufacturing and R&D sales tax exemption also clarify the definition of useful life to ensure that businesses that expensed (rather than capitalized) some qualifying purchases also receive the exemption. Previously, qualified property did not include tangible personal property with a useful life of less than one year, which was determined based on whether the property was treated as a capital expenditure on the taxpayer’s income tax return. However, under the recent exemption revisions, certain expensed tangible personal property may qualify. This provision applies retroactively to property that was purchased or leased on or after July 1, 2014. Taxpayers who paid tax or were assessed unpaid tax on such property are entitled to a refund of taxes paid. A claim for refund or cancellation of an assessment for unpaid tax on this property must be filed with the new California Department of Tax and Fee Administration by June 30, 2018.
The manufacturing and R&D sales and use tax partial exemption offers a reduced tax rate on the purchase or lease of qualifying tangible personal property. The exemption is now available through June 30, 2030 and the exemption has been extended to qualifying agricultural processing and electric power generation, storage, and distribution. The revised credit also clarifies the definition of useful life so that businesses that expense otherwise qualifying purchases may also claim the exemption. The extension of qualified-asset status to certain expensed items is retroactive to July 1, 2014, providing taxpayers an opportunity to seek refunds or abatements of pending tax assessments.