A recent Indiana Tax Court decision could ultimately impact all Indiana companies and contractors entering into real property improvement agreements. The Indiana Tax Court has ruled against the distinction between the sales tax treatment of time and material and lump-sum contracts in Lowe’s Home Centers, LLC v. Indiana Department of State Revenue (IN Tax Ct. Dec. 19, 2014).
The issue was whether Lowe’s properly self-assessed and remitted use tax on construction materials used in its real property improvement contracting work. Lowe’s served as general contractor on home improvement work, such as new roof and kitchen cabinet installation, where it routinely furnished customers with both construction materials (typically pulled from inventory) and labor. Relying on tax regulations promulgated in the 1980s, the Department assessed Lowe’s sales tax on the retail cost of the materials it claimed should have been collected from Lowe’s customers.
The court dismissed the Department’s position that under the construction contracts, customers of Lowe’s were purchasing materials separately from the labor, causing the contractor to act as a retail merchant of the materials. The court agreed with Lowe’s that its customers were purchasing a completed improvement. Title to the construction materials was deemed to have passed once they were installed, at which point, they lost their identity as tangible personal property, having been converted to real property. Thus, Lowe’s did not transfer tangible personal property to its customers.
The court invalidated those portions of Indiana Tax Regulations that provide that when a contractor enters into a time and material contract with its customer, it owes no use tax on the materials because its customer owes sales tax on the materials supplied. These regulations also provide that when a contractor uses a lump-sum contract, it is required to self-assess and remit use tax on the construction materials supplied.
Although the court found the Lowe’s contracts to be lump sum in nature and not time and material as asserted by the Department, the court did not base its decision on this distinction. The court went as far as to state that in this instance, the Department had created an artificial distinction between time and material and lump-sum contracts to convert a contractor’s use tax liability into a sales tax liability on the materials’ higher price. The court said that because Indiana Code section 6-2.5-3-2(c) does not impose use tax liability contingent upon the type of contract a contractor uses, that distinction as contained in 45 I.A.C. 2.2-3-9 and 45 I.A.C. 2.2-4-22 is invalid.
The Department can appeal the Tax Court’s decision to the Indiana Supreme Court, so it remains to be seen whether time and material contracts for real property improvements are truly a thing of the past. Until the legal challenges have run their course, there will be a degree of uncertainty with regard to these contracts in Indiana.
Please contact Aaron Wilzbacher, CPA or John Rittichier, CPA at 800.880.7800 with questions.
