Lean is certainly a buzzword within today’s manufacturing industry. In fact, a recent internet search on “lean manufacturing” resulted in over 1.85 million hits. Lean manufacturing can be defined as a production practice that considers the expenditure of resources for any goal other than the creation of value for the end customer to be wasteful, and thus a target for elimination. It is easy to see how lean concepts can be applied to the production floor, but have you considered how “lean” your sales tax compliance is? Here are a few areas where sales tax dollars can be saved:
Know Your Manufacturing Process
Aside from the obvious items such as raw materials, both Indiana and Kentucky allow for certain machinery and other items used in the manufacturing process to be exempt from sales tax. The key is to correctly isolate where the manufacturing process begins and ends so that purchases within these parameters can be identified.
Indiana deems the production process to begin where raw material is first acted upon and to end at the point that the production has altered the item to its completed form, including packaging, if required. Indiana allows all equipment, supplies, and repair parts directly used in the production process to be exempt. The state, however, takes a narrow interpretation of what types packaging may be exempted, arguing that only packaging used to produce the “most marketable product” is exempt. Nonetheless, there is some opportunity to exempt certain packaging items.
Kentucky defines the production process as the activity between the point of introducing raw material into the manufacturing process and the point at which the finished product is packaged or ready for sale. Kentucky allows an exemption for materials, supplies, and industrial tools with a useful life of less than one year. Repair, replacement, or spare parts are not exempt. Kentucky also allows an exemption for machinery used in “new and expanded industry.” This means that machinery is generally exempt from sales tax if used directly in the manufacturing process, is used for the first time in a plant facility in Kentucky, and increases production capacity.
Utilities
Indiana excludes utilities used directly in manufacturing, mining, production, and refining from sales tax. In fact, if more than 50 percent of the utilities on a given meter are used for exempt purposes, sales tax on the entire meter can be avoided. Otherwise, businesses can apply for refunds for sales tax paid on qualified utility usage.
Kentucky exempts utilities to extent that the cost of the utilities exceeds three percent of the cost of production. In addition, utilities in excess of three percent of production costs can also be exempted from the Utility Gross Receipts License Tax.
Transportation Equipment
Indiana provides a generous exemption for public transportation companies which allows vehicles, fuel, tires, repair parts, and vehicle maintenance equipment to escape taxation. With some minor restructuring, an Indiana manufacturing company can take advantage of this exemption. The manufacturer would contract with its newly-formed transportation company to haul goods on its behalf. The transportation company would then be eligible for the aforementioned exemptions.
Remember Your ABC’s
Finally, remember to Always Be Collecting – the sales tax or a valid exemption certificate from your customers. State sales tax auditors will review sales reports and verify that valid exemptions are in place for any sales where tax was not collected. Many times a customer’s exemption is assumed or only verbally communicated. In today’s turbulent economic climate, it is not safe to assume that all customers will still be in business several years from now when an audit is ultimately conducted. If an exemption certificate cannot be obtained, the state will assess the sales tax to the seller.
While sales tax laws are complex and fact-specific, the above areas should be considered for applicability to your company’s specific situation so that you can achieve “lean” sales tax compliance.
