Does Tennessee's sales tax exemption for energy fuels used directly in manufacturing apply to natural gas burned in a factory's ovens — and does it matter whether each oven is separately metered?

Plain-English summary

A Tennessee food manufacturer operates several types of direct-fired gas ovens — the gas burners sit right inside the oven chamber, so the chemical energy from burning natural gas envelops the chamber and touches at least some exposed part of the food product as it bakes. The manufacturer already qualifies for Tennessee's reduced 1.5% sales tax rate on natural gas (§ 67-6-206(b)(1)), but asked whether it instead qualifies for the full exemption under § 67-6-206(b)(3) — which applies when energy fuel is shown, "by separate metering or otherwise," to be used exclusively and directly in manufacturing, touching the product, and used up in that contact. Some of the ovens are separately metered ("Metered Ovens"); others aren't, though the manufacturer can estimate their gas use or install meters later ("Unmetered Ovens"). The Department's answer split on metering: exempt for the Metered Ovens, not exempt for the Unmetered Ovens.

Five requirements for the full exemption. The Department laid out what § 67-6-206(b)(3) demands: (1) the buyer must be a "manufacturer" (principal business is fabricating/processing TPP for resale); (2) the equipment must be metered; (3) the fuel must be used exclusively and directly in the manufacturing process; (4) the fuel must come into direct contact with the product being made; and (5) the fuel must be expended in the course of that contact.

Why the Metered Ovens qualify. The manufacturer is a qualifying manufacturer with an existing industrial-machinery-style authorization; the Metered Ovens are separately metered from the rest of the facility; the gas is used only inside those ovens to process the food; and — importantly — the Tennessee Supreme Court has held that the gas itself doesn't have to touch the product, only the chemical energy produced by burning it (AFG Industries, Inc. v. Cardwell). Because the burners sit inside the oven chamber and some portion of the food is always exposed to that chemical energy, and the gas is fully consumed (expended) doing it, all five requirements are met.

Why the Unmetered Ovens don't qualify. The second requirement — metering — simply isn't satisfied, and the Department wouldn't accept the manufacturer's accurate estimates as a substitute. Under Tennessee law, the taxpayer bears the burden of proving entitlement to an exemption, and "any well-founded doubt is sufficient to defeat" the claim (Am. Airlines, Inc. v. Johnson). An estimate, however accurate, leaves room for doubt that an actual meter reading would resolve.

One more hurdle either way. Even gas that qualifies isn't automatically tax-free at the register. Tennessee's rule (Rule 1320-5-1-.15(4)) requires the manufacturer to apply for and receive a separate exemption authorization for each location before making tax-exempt purchases there.

What this means for you

Manufacturers using energy-intensive equipment (ovens, kilns, furnaces, and similar)

If you want the full energy-fuel exemption (not just the reduced manufacturer's rate) on natural gas, electricity, fuel oil, coal, or similar fuels used in production equipment, separately meter that equipment. Without a meter, an estimate — however well-supported — won't satisfy Tennessee's burden of proof, and you'll be limited to the reduced rate (or full tax) on that fuel.

Process engineers and facilities managers

The "direct contact" requirement is more forgiving than it sounds: per AFG Industries, the chemical energy from combustion touching the product is enough — the gas molecules themselves needn't make contact. That helps with enclosed, direct-fired equipment like the ovens here.

Accountants and tax professionals

Remember the exemption authorization is per location and must be obtained before claiming tax-exempt treatment (Rule 1320-5-1-.15(4)); a qualifying use of fuel doesn't self-execute the exemption at the point of sale. Vendors must also keep records tying metered readings to exempt purchases (Rule 1320-5-1-.15(7)-(8)).

Common questions

Q: Does natural gas used in a factory's processing equipment qualify for a Tennessee sales tax exemption?
A: It can — Tennessee exempts energy fuels used exclusively and directly in manufacturing, in direct contact with the product, and expended in that contact (§ 67-6-206(b)(3)) — but only if the equipment is separately metered.

Q: Can I use an estimate of gas usage instead of installing a meter?
A: No, according to this ruling. The Department held that estimates are insufficient to establish the exemption; the taxpayer bears the burden of proof, and any well-founded doubt defeats the claim.

Q: Does the gas itself have to physically touch the product?
A: No — the Tennessee Supreme Court has held that it's enough for the chemical energy produced by burning the fuel to come into contact with the product (AFG Industries, Inc. v. Cardwell).

Q: If my fuel use qualifies, is it automatically tax-free?
A: No. You must apply for and receive a Department exemption authorization for each location before making tax-exempt purchases there (Rule 1320-5-1-.15(4)).

Q: Can I rely on this letter ruling?
A: No. A Tennessee letter ruling binds the Department only as to the specific taxpayer and facts it was issued to, and it can be revoked or modified. Confirm your own situation with a tax professional.

Citations and references

Tennessee statutes (Tenn. Code Ann.; 2011 codification):

• § 67-6-101 et seq. (Retailers' Sales Tax Act)
• § 67-6-206(b)(1) (1.5% reduced sales tax rate on energy fuels sold to/used by manufacturers); § 67-6-206(b)(2) (definition of "manufacturer"); § 67-6-206(b)(3) (full exemption for energy fuels exclusively and directly used in manufacturing, in direct contact with the product, expended in the contact)
• § 67-6-102(91)(A) (tangible personal property includes electricity, water, gas, and steam)

Tennessee rules:

• Tenn. Comp. R. & Reg. 1320-5-1-.15 (1983) ("Rule 15") — (1) energy fuels generally taxable absent exemption; (3) vendor must obtain certified authorization, manufacturer liable for tax on fuel not in direct contact; (4) manufacturer must apply for/receive a per-location authorization before tax-exempt purchases; (7) vendor reporting requirements; (8) recordkeeping, including monthly meter readings

Cases cited by the ruling:

• AFG Indus., Inc. v. Cardwell, 835 S.W.2d 583 (Tenn. 1992) (chemical energy from combustion contacting the product satisfies the "direct contact" requirement)
• Am. Airlines, Inc. v. Johnson, 56 S.W.3d 502 (Tenn. Ct. App. 2000); Rogers Group, Inc. v. Huddleston, 900 S.W.2d 34 (Tenn. Ct. App. 1995); Tibbals Flooring Co. v. Huddleston, 891 S.W.2d 196 (Tenn. 1994); United Canners, Inc. v. King, 696 S.W.2d 525 (Tenn. 1985) (taxpayer bears the burden of proving an exemption; well-founded doubt defeats the claim)

Source

• Landing page: https://www.tn.gov/revenue/tax-resources/legal-resources/tax-rulings.html
• Original PDF: https://www.tn.gov/content/dam/tn/revenue/documents/rulings/sales/12-15.pdf

Original ruling text

TENNESSEE DEPARTMENT OF REVENUE
LETTER RULING # 12-15
WARNING
Letter rulings are binding on the Department only with respect to the individual taxpayer
being addressed in the ruling. This presentation of the ruling in a redacted form is
informational only. Rulings are made in response to particular facts presented and are not
intended necessarily as statements of Department policy.
SUBJECT
The application of the Tennessee sales and use tax to natural gas sold to a manufacturer for use
in [REDACTED] ovens.
SCOPE
This letter ruling is an interpretation and application of the tax law as it relates to a specific set of
existing facts furnished to the Department by the taxpayer. The rulings herein are binding upon
the Department, and are applicable only to the individual taxpayer being addressed.
This letter ruling may be revoked or modified by the Commissioner at any time. Such revocation
or modification shall be effective retroactively unless the following conditions are met, in which
case the revocation shall be prospective only:
(A) The taxpayer must not have misstated or omitted material facts involved in
the transaction;
(B) Facts that develop later must not be materially different from the facts upon
which the ruling was based;
(C) The applicable law must not have been changed or amended;
(D) The ruling must have been issued originally with respect to a prospective or
proposed transaction; and
(E) The taxpayer directly involved must have acted in good faith in relying upon
the ruling; and a retroactive revocation of the ruling must inure to the taxpayer’s
detriment.
FACTS
[TAXPAYER] (the “Taxpayer”) operates [TYPE OF FACILITY] in [TENNESSEE]. The
Taxpayer produces [FOOD PRODUCTS FOR RESALE]. [REDACTED].
The Taxpayer uses natural gas in the [REDACTED] ovens at its Tennessee [FACILITIES].1 The
ovens in question are direct-fired models, meaning that the natural gas burners are located within
1

The Taxpayer has received authorization from the Department to pay the reduced 1.5% sales tax rate set forth
under TENN. CODE ANN. § 67-6-206(b)(1) (2011) with respect to its purchases of natural gas.
1

the [OVEN] chamber. Because the gas burners are located within the [OVEN] chamber itself, the
chemical energy created by the burners comes into direct contact with the in-process [FOOD
PRODUCTS], completely enveloping the [OVEN] chamber and any exposed portions of the inprocess products.
There are four specific types of direct-fired gas ovens used in the Tennessee [FACILITIES]
(collectively referred to as the “Ovens”):

1. [REDACTED] Ovens. [REDACTED]. These are tunnel ovens where [FOOD
   PRODUCTS] travel through an [OVEN] chamber or tunnel on a metal mesh conveyer.
   The [FOOD PRODUCTS] are subjected to chemical energy from a series of gas burners
   that are situated within the chamber, both above and below the conveyer mechanism. The
   [FOOD PRODUCTS] sit in grid pans that rest on the conveyer mechanism. The grid pans
   are open on top and, as such, the chemical energy created by the natural gas comes into
   direct contact with the portion of the product that is exposed in the top of the pan.
2. [REDACTED] Ovens. [REDACTED]. These are tunnel ovens where [FOOD
   PRODUCTS] travel through an [OVEN] chamber on a solid “band line” conveyer. The
   [FOOD PRODUCTS] are subjected to chemical energy from a series of gas burners
   within the chamber, situated both above and below the band line. [REDACTED], the
   [FOOD PRODUCTS] sit directly on the band line (i.e., no pans are necessary). As such,
   the entire product is exposed to the chemical energy created by the natural gas, with the
   exception of the bottom edge, which sits directly on the solid conveyer mechanism.
3. [REDACTED] Ovens. [REDACTED]. These are tunnel ovens where [FOOD
   PRODUCTS] travel through the [OVEN] chamber in magnetized grid pans that rest on a
   magnetized conveyer mechanism. These ovens utilize natural gas burners situated at
   various points above the [OVEN] chamber, with blowers that evenly distribute the
   resulting chemical energy throughout the chamber. The blowers ensure a constant flow of
   chemical energy throughout the chamber, with the energy flowing above, below, and to
   the sides of the conveyer mechanism and the in-process products thereon. Because the
   grid pans are open on top, the portion of the [FOOD PRODUCTS] that is exposed in the
   top of the pan comes into direct contact with the chemical energy created by the natural
   gas.
4. [REDACTED] Ovens. [REDACTED]. [REDACTED], the [FOOD PRODUCTS] sit
   directly on an open metal mesh conveyer system. Thus, each side of the product is
   directly exposed to the chemical energy created by the natural gas, including the bottom
   edge.
   All of the Ovens share the following common features: 1) the chemical energy created by the
   natural gas burners is evenly distributed throughout the [OVEN] chamber; and 2) some portion
   of the in-process product is always directly exposed to the chemical energy created by the natural
   gas. Additionally, there is no scenario in which a [FOOD PRODUCT] going through one of the
   Ovens is completely shielded from the chemical energy created by the natural gas.

2

Some of the Ovens are already separately metered (the “Metered Ovens”). The Taxpayer is able
to provide accurate estimates of the natural gas used in each unmetered Oven (the “Unmetered
Ovens”), and can also install meters on such Ovens.
RULING
Does the natural gas used in the Ovens come within the scope of the exemption found under
TENN. CODE ANN. § 67-6-206(b)(3) (2011)?
Ruling: The natural gas comes within the scope of the exemption found under TENN.
CODE ANN. § 67-6-206(b)(3) (2011), to the extent that it is used in Metered Ovens.
However, natural gas used in the Unmetered Ovens is not exempt under TENN. CODE
ANN. § 67-6-206(b)(3).
TENN. COMP. R. & REG. 1320-5-1-.15 (1983) imposes a number of requirements with
respect to the exemption under TENN. CODE ANN. § 67-6-206(b)(3). Even if the natural
gas qualifies for the exemption, the Taxpayer may not make tax-exempt purchases for a
particular location until it has applied for and received an authorization to do so.
ANALYSIS
Under the Retailers’ Sales Tax Act, TENN. CODE ANN. § 67-6-101 et seq., the retail sale in
Tennessee of tangible personal property is generally subject to the Tennessee sales and use tax.
Because natural gas is defined as tangible personal property,2 retail sales of natural gas in
Tennessee are subject to the sales and use tax unless an exemption from taxation applies. See
TENN. COMP. R. & REG. 1320-5-1-.15(1) (1983) (providing that all sales of energy fuels,
including natural gas, are subject to the sales and use tax, unless exempt).
TENN. CODE ANN. § 67-6-206(b)(1) (2011) imposes the sales tax at the rate of 1.5% with respect
to retail sales of natural gas, when sold to or used by manufacturers.3 For purposes of TENN.
CODE ANN. § 67-6-206(b), the term “manufacturer” is defined as “one whose principal business
is fabricating or processing tangible personal property for resale.” TENN. CODE ANN. § 67-6206(b)(2). However, TENN. CODE ANN. § 67-6-206(b)(3) provides that retail sales of natural gas,
electricity, fuel oil, coal, and other energy fuels will be entirely exempt from the sales and use
tax “whenever it may be established to the satisfaction of the commissioner, by separate
metering or otherwise, that they are exclusively used directly in the manufacturing process,
coming into direct contact with the article being fabricated or processed by the manufacturer, and
being expended in the course of the contact.”
Thus, for the exemption under TENN. CODE ANN. § 67-6-206(b)(3) to apply to the Taxpayer’s
purchases of natural gas for use in a particular Oven, the following requirements must be met:
2

TENN. CODE ANN. § 67-6-102(91)(A) (2011) defines “tangible personal property” as “personal property that can be
seen, weighed, measured, felt, or touched;” the definition expressly includes electricity, water, gas and steam.
3

Although not relevant to this letter ruling, the 1.5% sales tax rate under TENN. CODE ANN. § 67-6-206(b)(1) is also
applied to retail sales of electricity, fuel oil, coal and other energy fuels, when sold to or used by manufacturers.
3

1) the Taxpayer must be a manufacturer; 2) the Oven must be metered; 3) the natural gas must be
exclusively used directly in the manufacturing process; 4) the natural gas must come into direct
contact with the products being fabricated or processed by the Taxpayer; and 5) the natural gas
must be expended in the course of the contact with such products.
Unmetered Ovens
The exemption under TENN. CODE ANN. § 67-6-206(b)(3) does not apply to natural gas used in
Unmetered Ovens.
The second requirement listed above is not met because the Unmetered Ovens are not separately
metered. The Taxpayer has stated that it is able to provide accurate estimates of the natural gas
used in each Unmetered Oven. However, estimates are insufficient to establish entitlement to the
exemption. The Tennessee Supreme Court has stated that the burden is on the taxpayer to
establish the exemption, and any well-founded doubt is sufficient to defeat a claimed exemption
from taxation. See Am. Airlines, Inc. v. Johnson, 56 S.W.3d 502, 506 (Tenn. Ct. App. 2000)
(quoting Rogers Group, Inc. v. Huddleston, 900 S.W.2d 34, 36 (Tenn. Ct. App. 1995)); Tibbals
Flooring Co. v. Huddleston, 891 S.W.2d 196, 198 (Tenn. 1994); United Canners, Inc. v. King,
696 S.W.2d 525, 527 (Tenn. 1985)). Basing natural gas usage on a mere estimate gives rise to
sufficient doubt as to the amount of the exemption to which the Taxpayer may be entitled; the
Taxpayer’s claim to exemption is therefore unsupported with respect to the Unmetered Ovens.
Metered Ovens
The exemption under TENN. CODE ANN. § 67-6-206(b)(3) applies to natural gas used in Metered
Ovens.
First, the facts indicate that the Taxpayer comes within the definition of “manufacturer” under
TENN. CODE ANN. § 67-6-206(b)(2), which defines the term as “one whose principal business is
fabricating or processing tangible personal property for resale.” The Taxpayer fabricates [FOOD
PRODUCTS] for resale to [REDACTED].
The second requirement is satisfied because the Metered Ovens are metered separately from the
rest of the facility.
Third, the Taxpayer exclusively uses the natural gas directly in the manufacturing process, as
indicated by the fact that the natural gas is used inside the Metered Ovens at the Taxpayer’s
Tennessee facilities to [PRODUCE] the products.
The fourth requirement is met because the natural gas comes into direct contact with the products
being fabricated or processed by the Taxpayer. Importantly, the gas itself does not need to touch
the products. In discussing the exemption under TENN. CODE ANN. § 67-6-206(b)(3), the
Tennessee Supreme Court specifically held that “[i]f the chemical energy which is produced by
burning fossil fuels comes into contact with articles being made, then the exemption applies.”
AFG Indus., Inc. v. Cardwell, 835 S.W.2d 583, 586 (Tenn. 1992). Thus, the exemption will
apply if the “chemical energy” produced by burning the gas comes into direct contact with the
Taxpayer’s [FOOD PRODUCTS]. Each of the Taxpayer’s products is exposed in full or in part
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to the chemical energy. Because the gas burners are located within the [OVEN] chamber itself,
the chemical energy created by the burners comes into direct contact with the in-process [FOOD
PRODUCTS], completely enveloping the [OVEN] chamber and any exposed portions of the inprocess products.
Fifth, the natural gas is completely expended in the course of contact with the Taxpayer’s
[FOOD PRODUCTS].
Accordingly, the exemption under TENN. CODE ANN. § 67-6-206(b)(3) applies to natural gas
used in Metered Ovens.
Requirements regarding the exemption
TENN. COMP. R. & REG. 1320-5-1-.15 (1983) (“Rule 15”) imposes a number of requirements
with respect to the exemption under TENN. CODE ANN. § 67-6-206(b)(3).
Rule 15(4) states that manufacturers who qualify for energy fuel or water at the reduced rate
under TENN. CODE ANN. § 67-6-206(b)(1) must apply for an authorization to purchase energy
fuel or water on a tax-exempt basis.4 A separate application must be filed for each manufacturing
or processing location. Id. Thus, even if the natural gas qualifies for the exemption under TENN.
CODE ANN. § 67-6-206(b)(3), the Taxpayer may not make tax-exempt purchases for a particular
location until it has received an authorization to do so.
Rule 15(3) provides that manufacturers authorized to purchase and use energy producing fuels or
water must furnish a certified copy of the authorization given by the Commissioner enumerating
what energy fuels or water the manufacturer may purchase without paying sales or use tax to the
vendor. In the event the manufacturer purchases energy fuels or water that “do not come into
direct contact with or become a component part of an article being fabricated or produced for
sale,” the manufacturer is liable for the tax on those energy fuels or water upon which no tax has
been paid to the vendor. Id.
Rule 15(7) requires vendors to report the total sales of energy fuel and water sold to
manufacturers with any other sales of energy fuels, water and any other tangible personal
property and taxable services. Manufacturers purchasing energy fuel and water without paying
the appropriate tax to the vendor, when tax is due, must include and indicate the amount of
purchases of energy fuel and water on their returns, and pay the appropriate tax directly to the
Department. Id.
Finally, Rule 15(8) requires that manufacturers and processors authorized to buy any energy fuel
or water without paying any tax to the vendor must maintain accurate records showing what
energy fuel or water has been used in a manner so as to be completely exempt from tax. Such
manufacturers and processors must also maintain accurate records showing the total purchases of
exempt energy fuel or water. Id. In cases of electricity, natural or artificial gas, water, and any
4

The Application for Industrial Machinery Exemption can be found on the Department’s website at
http://state.tn.us/revenue/forms/sales/f1303101.pdf.
5

other item that is metered, accurate meter readings showing readings of the exempt portion and
the total purchases of energy fuel and water at least once each month, preferably at the time the
readings are made by or for the vendor for billing purposes, shall be maintained by the
manufacturer or processor. Id.

Kristin Husat
General Counsel

APPROVED:

Richard H. Roberts
Commissioner of Revenue

DATE:

8-2-12

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