The New York State Department of Taxation and Finance (DTF) recently issued two advisory opinions, TSB-A-24(37)S and TSB-A-24(39)S. These opinions address whether specific installations qualify as capital improvements and are thus exempt from New York State sales tax. Both opinions hinge on applying the DTF's multi-factor capital improvement test.
Understanding the Capital Improvement Test and the Distinction from the Sale of Tangible Personal Property
Under New York Tax Law § 1101(b)(9)(i), a capital improvement is defined as an addition or alteration to real property that:
- Substantially adds to the value of the real property or appreciably prolongs its useful life.
- Becomes part of the real property or is permanently affixed so that removal would cause material damage to the property or article itself.
- Is intended to become a permanent installation.
The distinction of whether something qualifies as a capital improvement or the installation of tangible personal property are quite important. First, if something qualifies as a capital improvement, generally speaking, the contractor is considered the end-consumer of the property and typically pays sales or use tax on the purchase and/or consumption of the materials purchased for purpose of the capital improvement project. Second, as it relates to the sale and installation of the capital improvement, the services resulting in a capital improvement are exempt from sales tax. If something qualifies as the sale of tangible personal property, the contractor would generally purchase such items exempt from sales or use tax, under the theory of sale-for-resale and would thereafter charge sales tax to the end-consumer. On the service side, the general rule is that repair, maintenance, or installation of tangible personal property is subject to sales tax. Therefore, the distinction is important, as this would indicate who in the chain of the transaction would owe sales/use tax and whether the installation of such property is subject to sales tax.
Case Summaries
In Advisory Opinion TSB-A-24(37)S, a company specializing in repairing, installing, and servicing HVAC units (Petitioner) replaced a hot water hydronic coil in a heating system. This replacement required alterations to the ductwork.
The Petitioner removed three feet of supply ducting, fabricated new adaptation ductwork using custom galvanized sheet metal, installed a custom coil box, and connected the new adaptation ductwork to the main supply ducting with a transition piece. The work involved custom fabrication and significant alteration to the existing system.
The Petitioner in Advisory Opinion TSB-A-24(39)S installs gutter protection systems. The system prevents debris from clogging gutters and causing damage to the home. It is intended to be a permanent installation with a lifetime warranty.
Installation requires over 20 different tools and numerous components. The system is attached directly to the existing gutters. Removal would damage both the gutter and the protection system. Due to its customized design, the system cannot be reused once removed.
DTF's Conclusions
The DTF concluded that both installations qualify as capital improvements and are exempt from sales tax. For the hot water hydronic coil replacement, the DTF determined that the work appreciably prolonged the useful life of the real property. The coil became part of the real property so that removal could cause material damage, and it was intended as a permanent installation.
For the gutter protection system, the DTF found that it substantially adds to the property's value by preventing water damage, becomes part of the real property with removal causing material damage, and is intended to be permanent.
Did the Department Get It Right About the Coil Replacement?
The Department’s determination regarding the coil replacement invites closer scrutiny.
The critical point of contention lies in the second criterion of the capital improvement test: whether the addition becomes part of the real property or is permanently affixed so that removal would cause material damage to the property or the item itself.
The Department stated that removing the hydronic coil, intended as a permanent installation, could cause material damage to the ductwork. The use of the word "could" rather than "would" is significant. If removal merely could cause damage, the coil may be removed without harming the property or the item itself.
In contrast, in the gutter protection system case, the Department emphasized that removal would damage both the existing gutter and the gutter protection system, reinforcing that the system becomes an integral part of the real property. The definitive language used here aligns more closely with the capital improvement test and shows that the DTF’s reasoning is inconsistent between these two recent advisory opinions.
Seek Professional Guidance for New York Capital Improvement Classifications
Determining whether a contract qualifies as a capital improvement, or the sale of tangible personal property is nuanced in the state of New York. The distinctions depend on specific details, and misclassifications, if any, can lead to tax liabilities and prior period exposure.
If you're a contractor, homeowner, or business owner uncertain about the tax implications of your property improvements, a New York tax law professional can provide expert analysis of your situation. Reach out to a qualified New York tax professional to ensure that your interests are fully protected.