United States

Arkansas: Machinery Used to Reprocess Material Discarded During Manufacturing did not Qualify for Manufacturing Exemption

Aug 15, 2016
From KPMG TaxWatch

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Recently, an Administrative Law Judge (ALJ) for the Arkansas Department of Finance & Administration, Office of Hearings & Appeals ruled that machinery used to reprocess waste material into a new product was not exempt manufacturing equipment. Under Arkansas law, there is a sales and use tax exemption for purchases of machinery and equipment used directly in manufacturing an article of commerce. An “article of commerce” is defined to “include any property to be placed on the market for retail sale to the general public and any property which becomes a recognizable integral part of a manufactured product in its finished and packaged form ready to be placed on the market for retail sale.” The taxpayer used the machinery at issue to reprocess material discarded during the taxpayer’s main manufacturing operations. During the reprocessing, the waste material was converted into a new product that was later reintroduced into the taxpayer’s manufacturing process. On audit, the Department assessed use tax on the basis that the machinery was not used directly in the manufacturing process. The taxpayer appealed.

On appeal, the taxpayer made two arguments to support its contention that it was entitled to the exemption. First, the taxpayer contended that the machinery was directly involved in manufacturing a new product from the recycled material. However, the ALJ rejected this argument because the exemption is limited to machinery involved in processes that produce an “article of commerce.” The product made from the recycled material was never offered for sale and was instead used by the taxpayer as a raw material in manufacturing its main product.  The taxpayer also argued that the machinery was used directly in the taxpayer’s broader manufacturing process. The ALJ again rejected this position. In her view, this situation was governed by an Arkansas Supreme Court case holding that an environmental control system was not directly used in manufacturing. Similarly, the machinery at issue was used to reprocess excess materials trimmed from the taxpayer’s finished products so that it could be reused and was one step removed from the actual manufacturing operations. The ALJ concluded that taxpayer was not entitled to the use tax exemption. For more information on this ruling, please contact Brandon Fulmer at 214-840-2497.

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The following information is not intended to be "written advice concerning one or more federal tax matters" subject to the requirements of section 10.37(a)(2) of Treasury Department Circular 230.

The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser.