This is part two of a four-part series that will provide insight into sales tax and the bidding process for construction contractors. Read part one here.
As we move into the first detailed breakout of our four-part series, we will focus on understanding who the customer is and what potential sales tax exemptions could be utilized. Understanding whether an exemption certificate is valid is necessary to ensure accurate and competitive bids. It is especially necessary when contracting with tax exempt entities, such as non-profits, as well as governmental entities.
Knowing who your customer is will determine how to treat purchases made in connection with real estate construction contracts. At the outset of the bidding process, a contractor should determine several factors about the owner. These include whether the owner is a non-profit organization or a government agency, the state where the work will be performed, and the nature of the work to be performed. Having a clear understanding of these factors during the bid process will provide the opportunity to identify potential tax savings and prevent potential future administrative burdens during and after the project.
As previously discussed, construction contractors are generally considered to be the consumer of building materials that are installed or affixed to real property, and typically would be responsible for the sales tax on the purchases of these items.
New Jersey and Pennsylvania provide exemptions for contracts with exempt entities such as non-profits or governmental entities. However, each state applies the exemptions differently. For example, in New Jersey, “a contractor making purchases of construction materials or supplies used exclusively and entirely consumed in the alteration, improvement, or construction of real property belonging to an exempt organization is able to make the purchases tax free.”
In addition to the purchase of materials and supplies, some services are also qualified exempt purchases in New Jersey as it relates to contracting with exempt organizations. While the New Jersey exemption for contracts with exempt entities appears broad, there are purchases that do not qualify as exempt. The purchase or rental of equipment where ownership is not transferred to the exempt entity by either the contractor or the exempt entity to perform the work on the real property is subject to sales tax.
To properly utilize and support the exemption, a contractor must receive a completed copy of the exempt organization’s Form ST-5, which is only issued by the State of New Jersey. And in order to properly make exempt purchases for the project, the contractor must provide its suppliers a completed Form ST-13, Contractor’s Exempt Purchase Certificate.
In stark contrast to the New Jersey exemption, Pennsylvania’s exemption is driven by the concept of “building machinery and equipment” as set forth in Pennsylvania Act 45.
Act 45 provides strict guidelines for contractors dealing with tax exempt and governmental entities. The following entities qualify for the BME exemption:
- Purely Public Charities (exemption number begins with 75)
- School Districts (exemption number begins with 76)
- Government Agencies or Instrumentalities
- Municipalities or other Political Subdivisions (exemption number begins with 76)
- The Federal Government or the Commonwealth of Pennsylvania
Further, certain purchases made in connection with a construction contract with a tax-exempt entity or government agency are qualified purchases pursuant to Act 45. Categories of purchases that qualify as exempt are as follows:
- Generation Equipment
- Distribution Equipment
- Conditioning equipment
- Storage Equipment
- Termination Equipment
Each category must be separately addressed to determine which purchases qualify as tax exempt. For example, not all generation equipment is tax exempt. To determine which purchases within each category are tax exempt, contractors should consult a resource published by the Pennsylvania Department of Revenue known as Taxability of Contractors’ Purchases for Exempt Entities. Proper use of Form Rev 1220 is essential.
Communication is crucial when analyzing the potential for exemptions during the bid process. From the estimator to project manager to accounts payable, it is extremely important that all team members are on the same page when it comes to managing sales tax exemptions and minimizing costs or exposure associated with the improper use or understanding of an exemption. Spending some time upfront to assess the project, the owner, and proper exemptions will benefit the organization in the long run.
Stay tuned for the rest of our series, which will explore sales tax and the bidding process for construction contractors in more detail.
Last month, we hosted a Construction Industry Webinar entitled Lease Accounting Implementation and Industry Hot Topics, which included a discussion regarding State and Local Taxes. Click below to watch the rebroadcast.
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.
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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.
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