As we wrap up our series, we will focus on sales tax in the context of the lump sum and time and material construction contracts. Like other sales tax considerations, it is important to review the treatment of each type of contract on a state-by-state basis.
Contractors operating under a lump sum contract generally charge an agreed upon single lump sum price for a project. A lump sum contract does not separately break out charges for materials, labor, overhead, etc. Under a lump sum contract, the possibility of purchases remaining tangible personal property eligible to an exemption from sales tax is unlikely. Contractors are considered the end user or ultimate consumer of materials, equipment, and other supplies consumed in the performance of the contract and are responsible for paying sales tax at the time of purchase.
Time and material contracts can provide contractors with more opportunity to utilize exemptions on certain purchases since each charge is separately stated under the contract. Purchases that remain tangible personal property under a time and material contract can be purchased for resale as the contractor is deemed to be reselling the purchase to the owner. The state rules need to be reviewed to determine how or if an exemption is applicable.
In continuing with our focus on Pennsylvania and New Jersey, both states take similar approaches to the taxability of purchases made in connection with lump sum and time and material contracts. Because Pennsylvania does not differentiate between the treatment of purchases made in connection with either type of contract, the taxability of these purchases can be affected when dealing with exempt entities or exempt uses. Generally, materials purchased by contractors and consumed in performing their construction activities pursuant to the terms of the contract are taxable. The management of sales tax exemptions in Pennsylvania becomes a complicated matter and is often the basis for disputes between the exempt owner and the contractor.
New Jersey looks at capital improvements as either taxable or exempt. If the contract is a lump sum taxable capital improvement without separating the charge for materials from the charge for labor, then the customer is required to pay the sales tax on the total amount of the bill. A lump sum exempt capital improvement requires the contractor to pay sales tax on the purchase materials and supplies used for the job. Under a lump sum contract in New Jersey that results in an exempt capital improvement, and it is important to obtain a completed ST-8 to support not charging sales tax on the related labor.
When construction contracts are on a time and material basis, it can provide contractors and owners the opportunity to identify items that do not become permanently affixed or attached to the real estate and might qualify for an exemption. Managing sales tax exemptions for contractors is not easy and they need to exercise caution when accepting exemption certificates. When performing services under a time and material contract, contractors can step into the shoes of a retailer. As a retailer, a contractor can make purchases for resale and charge sales tax on the subsequent sale to the owner if there is no valid exemption. Pennsylvania and New Jersey both allow contractors to make purchases for resale under time and material contracts. It is important to note that, while purchases for resale are possible within the context of a construction contract, it does not mean that all purchases under a time and materials contract are for resale. Contractors should be diligent in determining which purchases qualify for the resale exemption. Further, vendors may also be reluctant to accept the exemption from the contractor because of the nature of the activity.
Both types of contracts have their own advantages and disadvantages. Open communication and proper planning can help determine how the parties proceed under each contract.
Join us for our upcoming webinar that will take a deeper look into the advantages and disadvantages of each type of contract and will revisit the topics we have covered in this series for sales tax considerations during the bid process.
Construction Industry Webinar: Sales and Use Tax Considerations That Can Impact Your Bottom Line Plus Industry Hot Topics
Wednesday, June 1, 2022
8:30am – 10:00am
If you have any questions or would like to discuss this topic in further detail, please reach out to Reed Brown, Manager, Tax Strategies, at Email or contact any member of our State and Local Tax team or our Construction Industry Group.
Information contained in this alert should not be construed as the rendering of specific accounting, tax, or other advice. Material may become outdated and anyone using this should research and update to ensure accuracy. In no event will the publisher be liable for any damages, direct, indirect, or consequential, claimed to result from use of the material contained in this alert. Readers are encouraged to consult with their advisors before making any decisions.