Which equipment used to turn utility natural gas into vehicle-ready compressed natural gas qualified for Illinois's manufacturing exemption?

Plain-English summary

A company converted natural gas arriving from a utility line at about 40 psi into compressed natural gas at about 4,200 psi for vehicle fuel. Its process filtered and dried the gas, compressed it in stages, removed oil and liquids, moved it through high-pressure piping, stored it in tanks, and used programmable logic controllers to manage pressure and valves.

IDOR ruled that this transformation was manufacturing. The exempt process began when utility gas was first filtered and ended when compressed gas moved from the holding tanks to the dispenser terminal.

Filters, dryers, compressors, holding tanks, piping, and programmable logic controllers qualified for the manufacturing machinery and equipment exemption when primarily used in that process.

Consumable desiccants did not qualify. The dispenser terminal and its temperature controls also did not qualify because they were used to deliver finished fuel to customers, not in manufacturing, processing, fabricating, or refining it.

What this means for you

CNG operators should draw the production boundary before retail dispensing and distinguish durable processing equipment from consumable supplies.

This PLR states that it ceases to bind IDOR ten years after August 17, 2016—August 17, 2026—or earlier if relevant law, rules, case law, or facts change.

Common questions

Did the compressor qualify? Yes.

Did consumable desiccant qualify? No.

Did the retail dispenser qualify? No.

Citations and references

• 86 Ill. Adm. Code 130.330(b)(2), (b)(3), (c)(2), and (c)(3).
• 2 Ill. Adm. Code 1200.110(e).

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/sales-tax/2016.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/sales-tax/2016/st-16-0009-plr.pdf

Original ruling text

ST 16-0009-PLR 08/17/2016

MANUFACTURING MACHINERY & EQUIPMENT

Under the Retailers’ Occupation Tax Act, the manufacturing machinery and equipment
exemption is available for machinery and equipment used primarily (over 50% of the time) in
the manufacturing or assembling of tangible personal property for wholesale or retail sale or
lease. Machinery and equipment used to manufacture compressed natural gas can qualify for
the exemption. See 86 Ill. Adm. Code 130.330. (This is a PLR.)
August 17, 2016

Dear Xxxxx:
This letter is in response to your letter dated July 10, 2015 in which you request information
and the supplemental materials you submitted at our request. The Department issues two types of
letter rulings. Private Letter Rulings (“PLRs”) are issued by the Department in response to specific
taxpayer inquiries concerning the application of a tax statute or rule to a particular fact situation. A
PLR is binding on the Department, but only as to the taxpayer who is the subject of the request for
ruling and only to the extent the facts recited in the PLR are correct and complete. Persons seeking
PLRs must comply with the procedures for PLRs found in the Department’s regulations at 2 Ill. Adm.
Code 1200.110. The purpose of a General Information Letter (“GIL”) is to direct taxpayers to
Department regulations or other sources of information regarding the topic about which they have
inquired. A GIL is not a statement of Department policy and is not binding on the Department. See 2
Ill. Adm. Code 1200.120. You may access our website at www.tax.illinois.gov to review regulations,
letter rulings and other types of information relevant to your inquiry.
Review of your request disclosed that all the information described in paragraphs 1 through 8
of Section 1200.110 appears to be contained in your request. This Private Letter Ruling will bind the
Department only with respect to COMPANY for the issue or issues presented in this ruling, and is
subject to the provisions of subsection (e) of Section 1200.110 governing expiration of Private Letter
Rulings. Issuance of this ruling is conditioned upon the understanding that neither COMPANY nor a
related taxpayer is currently under audit or involved in litigation concerning the issues that are the
subject of this ruling request. In your letter you have stated and made inquiry as follows:
Pursuant to 2 Ill. Admin. Code 1200.110, we are requesting a Private Letter Ruling on
behalf of our client, COMPANY (“COMPANY” or “taxpayer”), advising COMPANY as to
the applicability of Illinois Sales and Use tax relative to the manufacturing of
Compressed Natural Gas (“CNG”) and the purchases of machinery and equipment used
in CNG stations.
DISCLOSURES
In accordance with 2 Ill. Adm. Code 1200.110(b)(3), the subject of this request is for tax
periods during which related purchases may occur, and this request is not being
examined as part of an audit by the Illinois Department of Revenue (“Department”).
In accordance with 2 Ill. Adm. Code 1200.110(b)(4), to the best of the knowledge of
both the taxpayer and the taxpayer’s representative, the Department has not previously
ruled on the same or a similar issue for the taxpayer or a predecessor. In addition, the
taxpayer and its representatives have not previously submitted the same or a similar
issue to the Department and withdrawn it before a letter ruling was issued.

In accordance with 2 Ill. Adm. Code 1200.110(b)(8), enclosed please find an original IL2848, Power of Attorney, authorizing this firm to submit this request on behalf of
taxpayer and represent taxpayer before the Department.
FACTS
Taxpayer produces CNG by compressing natural gas obtained from a distribution
pipeline, in this case a utility line. When this natural gas is obtained, it is at a level of 40
pounds per square inch (“40psi”). To be usable as CNG, it is necessary for the gas to
be compressed to at least 3600 to 4500psi. The natural gas obtained from the utility
line is first filtered and in some cases heavy hydrocarbons are processed out of the gas
steam. It is then dried through a gas dryer, which removes water and other liquids from
the gas using desiccants. Once dry, the gas next moves through a pipeline to the
compressor. There are four stages within the compressor. The compressor multiplies
the psi of the gas in each stage from 40psi when it enters, to 4200psi when it leaves the
compressor. Within the compressor, oil is used to lubricate the pistons, which enables
the compressor to run. Natural gas contains traces of other liquids that need to be
extracted for the CNG to be usable. There are multiple filters through which the inprocess gas is passed in the manufacturing process to remove the oil and other liquids
from it. The final filter is located in the dispenser terminal.
Once the in-process gas leaves the compressor, it moves to the holding tanks system
via special high pressure piping. The holding tanks system consists of three main tanks
with additional filters, which continue to remove oil and other liquids from the in-process
gas. A priority panel system decides which holding tank to use to dispense the CNG.
A programmable logic controller (“PLC”) constantly monitors the pressure in the
compressor, holding tanks, and within the pipeline. The PLC sends signals to valves to
open/close the holding tanks and compressor. When the PLC shows a decrease in
pressure, the compressor starts to fill a holding tank.
From the holding tank system, the in-process gas moves to a dispenser terminal.
Customers purchase the gas directly from the dispensers for use in their compatible
vehicles (e.g., fleet trucks, buses). The temperature controls near the dispenser
monitor the ambient temperature and determine the psi levels for the CNG. When a
vehicle enters the CNG station, it will obtain the CNG from the dispenser hose, similar
to a gasoline dispenser at a gas station.
Example:
A car powered by CNG rather than gasoline shows a level of 200psi, and therefore
nearly empty. The car would need to go to a CNG station to have its tank filled to
3600psi. When the car arrives, the compressor is off and all three holding tanks are at
4200psi level. The CNG necessary to fill this car is taken from the first holding tank.
The use of the tank lowers the psi, so when additional cars arrive and fill up, the tank is
now at 2400psi. This means that the car can only be filled with that tank to 2400psi, as
there has to be equal or more pressure in the holding tank. Therefore, holding tank #2
is used to fill up the vehicle. When tank #2 is low, then the priority panel will switch to
tank #3 to fill the remaining cars. When all three tanks are below the set threshold, a
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PLC will direct the compressor to start again, and it will fill the holding tanks to regulate
the pressure.
If the outside temperature is high, the temperature control adjusts the amount of CNG
that is placed into the vehicle.
RULING REQUEST
The taxpayer respectfully requests the Department rule that the manufacturing of
natural to compressed gas qualifies as “manufacturing” relative to Illinois manufacturing
machinery and equipment exemption.
Additionally, the taxpayer requests the
Department rule whether the equipment, such as filters, dryer, desiccants, compressor,
piping, holding tank system, PLC, temperature control and dispenser terminals, used in
the creation of vehicle ready Compressed Natural Gas, qualify for the Illinois sales and
use tax manufacturing machinery and equipment exemption.
AUTHORITY
Illinois imposes a tax on either the sale at retail or the use of tangible personal property.
35 ILCS §120/2 and 35 ILCS §105/3. However, there is an exemption from tax on
machinery and equipment used primarily in the manufacturing or assembling of tangible
personal property for wholesale or retail sale or lease. 86 Ill. Admin. Code §130.330(a).
Machinery and equipment is used primarily if it is used 50% or more in an exempt
manner. 86 Ill. Admin. Code §130.330(d)(1).
“Machinery” is defined as “major mechanical machines or major components of such
machines contributing to a manufacturing or assembling process: including, machinery
and equipment used in the general maintenance or repair of such exempt machinery
and equipment or for in-house manufacture of exempt machinery and equipment.” 86
Ill. Admin. Code §130.330(c)(2). “Equipment” includes “any independent device or tool
separate from any machinery but essential to an integrated manufacturing or
assembling process: including computers used primarily in operating exempt machinery
and equipment… and any parts which require periodic replacement in the course of
normal operations.” 86 Ill. Admin Code §130.330(c)(3).
The “manufacturing process” is defined as “the production of an article of tangible
personal property, whether the article is a finished product or an article for use in the
process of manufacturing or assembling a different article of tangible personal
property… .” 35 ILCS §105/3-50(1). In order to be considered manufacturing for sales
and use tax purposes, changes that result from the process must be substantial and
significant, and the process must be commonly regarded as manufacturing. 86 Ill.
Admin. Code §130.330(b)(2)&(3).
The manufacturing machinery and equipment exemption will generally not apply to “the
use of machinery or equipment for general ventilation, heating, cooling, climate control
or general illumination, not required by the manufacturing process.” 86 Ill. Admin. Code
§130.330(d)(4)(H).
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Effective 1/1/2014, Illinois Retailers Occupation Tax Act exempted sales of “natural or
artificial gas that is delivered to customers through pipes, pipelines, or mains.” 35 ILCS
§120/2. Additionally, the manufacturing machinery and equipment exemption does not
include machinery and equipment used in “the generation or treatment of natural or
artificial gas for wholesale or retail sale that is delivered to customers through pipes,
pipelines, or mains.” 35 ILCS §120/2-5(14).
ANALYSIS
Taxpayer’s process of drying, filtering, and compressing natural gas to create CNG
changes the form, composition and use of natural gas. The natural gas obtained from a
utility line must be compressed to less than 1% of its volume at standard atmospheric
pressure to be usable in an internal combustible engine. CNG is significantly different in
its physical properties and combustion characteristics from natural gas and therefore
CNG can be used to power internal combustion engines unlike natural gas. Natural gas
at a level of 40psi and CNG at a level of 4200psi differ in composition since
hydrocarbons, water, oil, and other liquids are removed from the natural gas during
taxpayer’s operations. Natural gas and CNG also differ in form since compression
increases the pressure of the gas by reducing the volume. CNG has a much higher
pressure than natural gas and a lower volume. Taxpayer’s process creates a product
that is different in composition and form than natural gas and therefore qualifies as
manufacturing.
Machinery and equipment used primarily in manufacturing or assembling tangible
personal property qualifies for Illinois manufacturing machinery and equipment
exemption. Since, the taxpayer’s product is not ultimately delivered for sale via pipes,
pipelines or mains, but rather via dispenser terminals, it is believed that CNG would be
taxable as tangible personal property. 35 ILCS §120/2. As the taxpayer is producing
tangible personal property for ultimate sale, it is reasonable to believe the process of
creating CNG is manufacturing. 35 ILCS §120/2-5(14) and 86 Ill and [sic] Admin. Code
§130.330(b)(4). Taxpayer’s production process begins with the filtering of the natural
gas directly from the utility line and ends with the filtering in the dispenser terminal
because the removing of impurities via filtering causes a “direct and immediate physical
change” to the product. 86 Ill. Admin. Code §130.330(d)(3)(A). The initial filtering
marks the first change in the natural gas and the final filtering gives the gas the qualities
necessary and essential for use when transferred to the CNG customer.
Filters qualify for the manufacturing exemption since their use creates a “direct and
immediate physical change upon tangible personal property to be sold.” 86 Ill. Admin.
Code §130.330(d)(3)(A). Filters act upon the gas by straining out certain impurities
during multiple stages of the production process. The filtering of impurities is
continuous and constant as it begins in the first stage of the process and does not end
until the completion of the final product, thus filters are essential and an “integral part of
the production flow” and therefore qualify for the manufacturing exemption. 86 Ill.
Admin. Code §130.330(d)(3)(B).
Dryers use desiccants (absorbents) to remove water and other liquids from the in-house
gas. The absence of water is one of the differences in composition between natural gas
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and CNG resulting from the taxpayer’s manufacturing process. Since dryers and
desiccants are the means to remove liquids during the process they have a “direct and
immediate physical change upon tangible personal property to be sold.” 86 Ill. Admin.
Code §130.330(d)(3)(A). Dryers and desiccants are essential and an “integral part of
the production flow” and therefore qualify for the manufacturing exemption. 86 Ill.
Admin. Code §130.330(d)(3)(B) & (C).
Compressors are used in the production process to increase the pressure and the psi of
the in-process gas, thus changing its form. 86 Ill. Admin. Code §130.330(d)(3)(A).
Compressors are an integral part of the production flow as it is essential to the tuning
[sic] of natural gas to CNG and therefore qualify for the manufacturing exemption. 86 Ill.
Admin. Code §130.330(d)(3)(B).
Holding tanks are used to maintain gas after compression, but prior to entry into the
terminal. Piping is used to move the in-process gas during all stages of the production
process. Since the production process begins with the first filtering and ends after the
final filtering in the dispenser terminal, the gas is in process when placed in the tanks.
86 Ill. Admin. Code §130.330(d)(3)(D). The manufacturing process “commences with
the first operation or state of production in the series and does not end until the
completion of the final product in the last operation or state of production in the series.”
35 ILCS §105/3-50(1). Equipment used to hold, handle, and transport in-process
product is an integral part of the production flow; and therefore, the tanks system and
piping between the various production processes qualify for the manufacturing
exemption. 86 Ill. Admin. Code §130.330(d)(3)(C).
PLC’s are directly used in the production process, as they control the operation of the
manufacturing process by sending signals to valves to open and close the tanks and the
compressor, effectively turning on the compressor. Equipment includes “computers
used primarily in operating exempt machinery and equipment in a computer-assisted
design, computer-assisted manufacturing (CAD/CAM) system; or any subunit or
assembly comprising a component of any machinery or auxiliary… .” 86 Ill. Admin.
Code §130.330(c)(3). Therefore, PLC’s qualify as equipment for the manufacturing
exemption.
At the dispenser terminals, the final stage of filtering takes place and thus constitutes
the final stage of the manufacturing process. The terminals are the final means to
which water and other liquids are removed from the gas prior to sale and subsequent
use by vehicles. Exempt manufacturing machinery and equipment includes, “the use of
machinery or equipment to effect a direct and immediate physical change upon tangible
personal property to be sold.” 86 Ill. Admin. Code §130.330(d)(3)(A). After the final
filtering, the gas has the physical qualities for use in CNG vehicles and is subsequently
transferred to the CNG customer for use at the dispenser terminals. As there is filtering
of the product occurring at the dispenser terminals, the manufacturing exemption
language would include this equipment.
While temperature controls are used post-manufacturing; without the use of these tools
to monitor the temperature and determine the proper psi levels for customer distribution
of CNG, the CNG would not be properly delivered to customers and would impact use
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of the product by not properly distributing the correct amount of CNG required by
vehicles. While the Department provides that “the use of machinery or equipment for
general ventilation, heating, cooling, climate control or general illumination, not required
by the manufacturing process” generally is not considered manufacturing, the
Department has consistently recognized that machinery and equipment that maintains a
precise temperature as a requirement of the industry or in order to preserve a
manufactured product can qualify for the manufacturing exemption. 86 Ill. Admin. Code
§130.330(d)(4)(H); Illinois General Information Letter No. ST 99-0139; Illinois General
Information Letter No. ST 98-0193; Illinois General Information Letter No. ST 01-0192.
Therefore, temperature controls qualify for the manufacturing exemption.
CONCLUSION
We respectfully request the Department issue a Private Letter Ruling confirming
COMPANY’s process of converting natural gas to Compressed Natural Gas is
manufacturing as defined in 35 ILCS §105/3-50(1) and that their purchases of
equipment, such as filters, dryer, desiccants, compressor, piping, holding tank systems,
PLC, and dispenser terminal used in the creation of vehicle ready Compressed Natural
Gas qualify for the Illinois sales and use tax manufacturing exemption.
In the event the Department intends to either deny issuance of the requested Private
Letter Ruling or issue a ruling that COMPANY’s equipment does not qualify for the
manufacturing exemption, we respectfully request to be notified before the issuance of
such Ruling and be given the opportunity to discuss the issues and implications of such
intention with the Department as well as to withdraw this Petition for Private Letter
Ruling.
Please contact me at (XXX) XXX-XXXX at your earliest convenience so that we may
schedule a time to further discuss COMPANY’s situation, answer any questions, and
provide additional documentation you may require.
DEPARTMENT’S RESPONSE:
The Retailers’ Occupation Tax Act imposes a tax upon persons engaged in this State in the
business of selling tangible personal property at retail to purchasers for use or consumption. See 86
Ill. Adm. Code 130.101. Use Tax is imposed on the privilege of using in this State any kind of tangible
personal property that is purchased anywhere at retail from a retailer. See 86 Ill. Adm. Code 150.101.
These taxes comprise what is commonly known as “sales tax” in Illinois.
Retailers' Occupation Tax, however, does not apply to sales of machinery and equipment used
primarily (over 50% of the time) in the manufacturing or assembling of tangible personal property for
wholesale or retail sale or lease. See 86 Ill. Adm. Code 130.330. The manufacturing process is the
production of articles of tangible personal property or assembling different articles of tangible
personal property by procedures commonly regarded as manufacturing, processing, fabricating, or
refining which changes some existing material or materials into a material with a different form, use or
name. These changes must result from the process in question and be substantial and significant.
See Section 130.330(b)(2).
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Machinery means major mechanical machines or major components of such machines
contributing to a manufacturing or assembling process, including machinery and equipment used in
the general maintenance or repair of such exempt machinery and equipment or for in-house
manufacture of exempt machinery and equipment. See Section 130.330(c)(2).
Based on your descriptions of the filters, dryers, compressors, holding tanks, piping, and
programmable logic controllers (PLC’s) and your representations that this equipment is primarily used
to manufacture compressed natural gas obtained as natural gas from a utility line, the Department is
of the opinion that the equipment identified in this paragraph qualifies for the manufacturing
machinery and equipment exemption. The manufacturing process begins when the natural gas
obtained from the utility line is first filtered and ends when the compressed natural gas moves from
the holding tanks to the dispenser terminal.
Consumable supplies, however, such as desiccants, do not qualify for the manufacturing
machinery and equipment exemption. See Section 130.330(c)(3). In addition, the dispenser terminal
and the associated temperature controls do not qualify for the exemption as they are not used in
activities commonly regarded as manufacturing, processing, fabricating, or refining. See Section
130.330(b)(2) and (3).
The factual representations upon which this ruling is based are subject to review by the
Department during the course of any audit, investigation, or hearing and this ruling shall bind the
Department only if the factual representations recited in this ruling are correct and complete. This
Private Letter Ruling is revoked and will cease to bind the Department 10 years after the date of this
letter under the provisions of 2 Ill. Adm. Code 1200.110(e) or earlier if there is a pertinent change in
statutory law, case law, rules or in the factual representations recited in this ruling.
I hope this information is helpful. If you have further questions concerning this Private Letter
Ruling, you may contact me at (217) 782-2844. If you have further questions related to the Illinois
sales tax laws, please visit our website at www.tax.illinois.gov or contact the Department’s Taxpayer
Information Division at (217) 782-3336.
Very truly yours,

Richard S. Wolters
Chairman, Private Letter Ruling Committee
RSW:SM:mdb

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