Is a central coolant and chip-handling system for metal-cutting machines exempt production equipment, and how is its foundation and installation labor taxed?

Plain-English summary

Chrysler Corporation's New Process Gear Division uses metal-cutting machines to machine automotive parts. Those machines need a coolant/chip handling system to work. Instead of a self-contained system inside each machine, Chrysler installed a central system serving a group of machines: the coolant cools and lubricates the metal at the cutting point and flushes the chips through the machine to a central tank, where the coolant is separated, filtered and recirculated in a closed loop, and the metal chips are crushed, wrung dry, and sold as a by-product. Chrysler asked whether this system is exempt production machinery — and proposed a four-part tax treatment for the foundation, materials, equipment and labor.

The Department's answers, point by point:

• 1. Foundation installation labor — exempt capital improvement (Chrysler correct). Installing the foundations and other real-property articles meets the three tests of a capital improvement under § 1101(b)(9) (substantially adds value or prolongs life; becomes part of/permanently affixed to the realty so removal causes material damage; intended to be permanent), so the contractor's labor to install them is exempt under § 1105(c)(3).
• 2. Foundation materials — taxable (Chrysler wrong). Under Slattery Associates, Inc. v. Tully (79 AD2d 761, affd 54 NY2d 711), materials used to build a foundation for production machinery do not qualify for the § 1115(a)(12) production exemption, because they lack the required "identifiable character" as machinery or equipment when purchased. So the foundation materials are taxable as tangible personal property at purchase.
• 3. The coolant/chip system equipment — exempt production equipment (Chrysler correct). The system acts directly on the metal (cooling and lubricating it to be cut) and reclaims/processes the chips that are then sold. So the piping, tanks, filters, separators and dryers are machinery used directly in production (International Salt Co. v. Tax Commission, 79 AD2d 343 (1981); Cummins Engine Co., TSB-A-81(34)S), and because they are used more than 50% in production, they are exempt under § 1115(a)(12).
• 4. Assembly and installation labor — § 1105-B reduced rate, not § 1115(a)(12) (Chrysler modified). Because the piping, tanks, filters, separators and dryers are not sold as a completely assembled unit, assembling them for installation at the job site is not "on-site assembly" exempt under § 1115(a)(12). Instead, that assembly labor — and the labor to attach the assembly to the foundations, floor and cutting machines — is afforded the § 1105-B(b) treatment: 2% for labor from September 1, 1980 through February 28, 1981, and 0% on and after March 1, 1981 (4% before September 1, 1980). Those labor charges remained subject to the New York City 4% tax if performed in the City, and to any applicable local tax, regardless of when performed.

What this means for you

A production system can be exempt even though its foundation is not. New York separates the machinery from the concrete it sits on. The equipment that acts on your product is exempt under § 1115(a)(12); the foundation materials are taxable because, per Slattery, they aren't "machinery" when you buy them.

Capital-improvement labor and production-machinery labor are taxed differently. Labor to build the permanent foundation is exempt as a capital improvement, but labor to assemble and hook up the machinery rides on § 1105-B — which fell to 0% statewide after March 1, 1981, yet still carried the New York City and local tax.

"On-site assembly" has a narrow meaning. If the equipment isn't delivered as a finished, fully assembled unit, putting it together at the site is not exempt on-site assembly labor under § 1115(a)(12). It gets the § 1105-B rate instead.

Reclaiming a saleable by-product counts as production. The system qualified in part because it recovers metal chips that are then sold — an active role in producing tangible personal property for sale, not merely a support function.

Common questions

Q: Our coolant system is essential to the cutting machines. Is it exempt?
A: Yes. Because it acts directly on the metal and reclaims chips that are sold, and is used more than 50% in production, the piping, tanks, filters, separators and dryers are exempt production equipment under § 1115(a)(12).

Q: Why are the foundation materials taxable if the equipment is exempt?
A: Under Slattery Associates v. Tully, foundation materials lack the "identifiable character" of machinery when purchased, so they don't get the production exemption and are taxable as tangible personal property.

Q: Is the labor to install everything tax-free?
A: Not uniformly. Labor to build the capital-improvement foundation is exempt under § 1105(c)(3). But assembly of the equipment and attaching it to the foundation and machines is not exempt on-site assembly; it takes the § 1105-B reduced rate (0% statewide after March 1, 1981), still subject to New York City and local tax.

Q: What made the assembly labor fall outside the § 1115(a)(12) exemption?
A: The parts were not sold as a completely assembled unit, so putting them together at the site was not "on-site assembly." That labor is handled under § 1105-B instead.

Citations and references

Statute:

• Tax Law § 1115(a)(12) — exemption for machinery and equipment used directly and predominantly in production
• Tax Law § 1101(b)(9) — three-part definition of a capital improvement
• Tax Law § 1105(c)(3) — installation services; excludes installing property that becomes a capital improvement
• Tax Law § 1105-B(b) — reduced rate for installing, repairing, maintaining or servicing production machinery

Regulation:

• 20 NYCRR 528.13(c) — "directly" and "predominantly" (over 50%) in production

Case law and prior opinion cited:

• Slattery Associates, Inc. v. Tully, 79 AD2d 761, affd 54 NY2d 711 — foundation materials lack the "identifiable character" of machinery and are not exempt
• International Salt Co. v. New York State Tax Commission, 79 AD2d 343 (1981); Cummins Engine Co., Inc., TSB-A-81(34)S — equipment acting on the product qualifies for the production exemption

Source

• Landing page: https://www.tax.ny.gov/pubs_and_bulls/advisory_opinions/sales_ao_1985.htm
• Opinion: https://www.tax.ny.gov/pdf/advisory_opinions/sales/a85_62s.pdf

Original ruling text

New York State Department of Taxation and Finance

Taxpayer Services Division
Technical Services Bureau

TSB-A-85(62)S
Sales Tax
December 4, 1985

STATE OF NEW YORK
STATE TAX COMMISSION
ADVISORY OPINION

PETITION NO. S830412A

On April 12, 1983 a Petition for Advisory Opinion was received from Chrysler Corporation,
New Process Gear Division, PO Box 1919, Detroit, Michigan 48288.
The issue raised is whether coolant/chip handling systems used by Petitioner in conjunction
with metal cutting machines are exempt articles of machinery or equipment used directly and
predominantly in the production of tangible personal property for sale.
Petitioner utilizes metal cutting machines to cut metal surfaces on automotive parts, such
parts being in various stages of production. The production exemption afforded to the metal cutting
machines is not an issue in this Advisory Opinion.
The metal cutting machines must utilize a coolant/chip handling system to function properly.
In the past, coolant/chip handling systems were designed into individual machines and were
therefore self-contained and an integral part of each machine. The system designed for Petitioner's
New Process Gear Plant eliminates the requirement for individual coolant/chip handling systems
through the use of a central system which is attached to a group of machines which are using the
same coolant, machining the same metal and generating the same type of metal chips.
The coolant performs two primary functions: It cools the metal at the point where it is being
cut and it lubricates the metal to reduce the adhesion between the metal and the cutting tool face.
In addition, the coolant washes away metal chips, improves the surface finish, increases tool life,
reduces power requirements and prevents or reduces possible corrosion on both the work and the
machine.
The coolant is delivered under controlled temperature and pressure to the point of contact
between the cutting edge and the part being machined where it performs the cooling, lubricating, and
related functions and flushes the chips through an opening in the cutting machine to a central tank.
At the central tank, the coolant and chips are separated and the coolant is filtered and monitored for
deterioration and returned through a closed loop system under controlled temperature and pressure
to the cutting machines to repeat the process. The metal chips are mechanically crushed to reduce
the volume and then introduced into a wringer which extracts residual coolant and produces a dry
by-product which is subsequently sold.

RODERICK G. W. CHU, COMMISSIONER
TP-8 (3/83)

GABRIEL B. DiCERBO, DEPUTY COMMISSIONER
FRANK J. PUCCIA, DIRECTOR

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TSB-A-85(62)S
Sales Tax
December 4, 1985

Petitioner contends that the exempt cutting machines could not operate without the
coolant/chip removal systems, and that the systems are physically annexed to the cutting machines,
specially designed therefor, and necessary to the proper functioning of the cutting machines.
Further, it is Petitioner's contention that the coolant/chip handling system is interrelated with
the production cutting machines in a manner which exempts the system from sales and use tax both
in the production of automotive parts and also in the production of a saleable by-product.
It is Petitioner's concluding contention that since the coolant/chip handling systems consist
of both tangible personal property and real property elements which required the application of labor
to place them within the plant, the sales tax should be applied as follows:
1.

The contractor's labor to install the foundations and other articles of real property
should be exempt from tax under the capital improvement provisions of Section
1105(c)(3).

2.

The materials in the foundation or other articles which become real property should
be exempt as manufacturing equipment under Section 1115(a)(12), based upon direct
and predominant use in the manufacturing process.

3.

The articles which make up the coolant/chip handling systems such as the piping,
tanks, filters, separators and dryers should be exempt equipment under Section
1115(a)(12) of the Tax Law.

4.

Labor charges for on-site assembly of the articles indicated in Paragraph 3, above,
should be considered manufacturer's or assembly labor of the components and
therefore exempt under Section 1115(a)(12) of the Tax Law.

Section 1101(b)(9) of the New York State Sales and Use Tax Law defines a capital
improvement as ". . . An addition or alteration to real property which: (i) Substantially adds to the
value of the real property, or appreciably prolongs the useful life of the real property; and (ii)
Becomes part of the real property or is permanently affixed to the real property so that removal
would cause material damage to the property or article itself; and (iii) Is intended to become a
permanent installation."
Section 1105 of the Tax Law states, in part: ". . . there is hereby imposed and there shall be
paid a tax . . . upon: . . . (c) The receipts from every sale . . . except: . . . (iii) for installing property
which, when installed, will constitute an addition or capital improvement to real property, property
or land, as the terms real property, property or land are defined in the real property tax law as such
term capital improvement is defined in paragraph nine of subdivision (b) of section eleven hundred
one of this chapter . . .".

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TSB-A-85(62)S
Sales Tax
December 4, 1985

Accordingly, Petitioner's contention that the contractor's charges for labor to install the
foundations and other articles of real property are exempt from sales tax as a capital improvement
is correct since such installations meet the three conditions stated in section 1101(b)(9) of the Tax
Law.
However, in the Matter of Slattery Associates, Inc., v. Tully, 79 AD 2d 761, affd. 54 NY2d
711, it was held under similar circumstances that materials used to construct the foundation for
production machinery did not qualify for the production exemption under section 1115(a)(12) of the
Tax Law because the materials incorporated into the foundation did not possess the requisite
"identifiable character" as machinery or equipment at the time of their purchase at retail.
Accordingly, in the instant case, the materials in the foundation or other such articles which
become real property are not exempt as manufacturing equipment under Section 1115(a)(12) but
rather are taxable at the time of purchase as purchases of tangible personal property.
Section 1115(a)(12) of the Tax Law provides an exemption from sales and use tax on the
receipts from retail sales of "machinery or equipment for use or consumption directly and
predominantly in the production of tangible personal property. . . for sale, by manufacturing. . .".
Section 528.13(c) of the New York State Sales and Use Tax Regulations states, in part:
"Directly and predominantly. (1) "Directly" means the machinery or equipment must, during the
production phase of a process,
(i) act upon or effect a change in material to form the product to be sold, or
(ii) have an active causal relationship in the production of the product to be sold. . . .
(4) Machinery or equipment is used predominantly in production, if over 50 percent of its use is
directly in the production phase of a process. . . ."
The coolant/chip handling system acts upon the metal being cut to cool and lubricate the
metal to enable it to be cut. Additionally, the system is used to reclaim and process metal chips
which are, in turn, sold.
Accordingly, the items which make up the coolant/chip handling system qualify as machinery
or equipment used directly in the production of tangible personal property for sale by manufacturing.
(International Salt Co., v. New York State Tax Commission, 79 AD 2d 343 (1981); Cummins
Engine Co., Inc., State Tax Commission Advisory Opinion, TSB-A-81(34)S). Since these items are
used more than fifty percent of the time in such production, they qualify for the exemption provided
by section 1115(a)(12) of the Tax Law.

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TSB-A-85(62)S
Sales Tax
December 4, 1985

Section 1105-B(b) of the Tax Law states, in part: "Notwithstanding any other provisions of
this article, but not for the purposes of the taxes imposed by section eleven hundred seven or eleven
hundred eight or authorized pursuant to the authority of article twenty-nine of this chapter, the taxes
imposed by subdivision (c) of section eleven hundred five on receipts from every sale of the services
of installing, repairing, maintaining or servicing the tangible personal property described in
paragraph twelve of subdivision (a) section eleven hundred fifteen, including the parts with a useful
life of one year or less, . . . to the extent subject to such tax, shall be paid at the rate of two percent
for the period commencing September first, nineteen hundred eighty and ending February twenty­
eighth, nineteen hundred eighty-one and such receipts shall be exempt from the tax on sales imposed
under subdivision (c) of section eleven hundred five on and after March first, nineteen hundred
eighty-one."
As the piping, tanks, filters, separators and dryers are not sold as a completely assembled
unit, the assembling of the unit for installation at the job site is not considered to be on-site assembly.
Accordingly, the labor charges for such assembly do not qualify for exemption under Section
1115(a)(12) of the Tax Law, but rather, are afforded the exemption provided under Section 1105­
B(b) of the Tax Law.
The installation labor charges for attaching the assembly to the foundations and floor, and
to the production cutting machines are also afforded the exemption provided under Section 1105­
B(b) of the Tax Law.
If the labor charges in either of the above instances were for labor performed prior to
September 1, 1980, the applicable statewide sales tax rate was 4%; for labor performed during the
period September 1, 1980 through February 28, 1981 the applicable statewide tax rate was reduced
to 2%; for labor performed on or after March 1, 1981 the statewide tax was reduced to 0%. In each
instance the labor charges were subject to the New York City tax of 4%, if performed within New
York City and were also subject to any applicable local sales or use tax, regardless of when
performed.

DATED: November 14, 1985

s/ANDREW F. MARCHESE
Chief of Advisory Opinions

NOTE: The opinions expressed in Advisory Opinions
are limited to the facts set forth herein.