Can someone who buys manufacturing equipment avoid sales tax on the purchase by leasing it out, if the equipment lease is bundled together with a building lease?

Plain-English summary

Taxpayer A buys manufacturing equipment, then leases land, a building, and that equipment together to a related company, Company B, which uses the equipment in a meat-processing operation. Because the whole arrangement is one bundled real property lease, no sales tax is charged on the equipment portion of the rent — under Comptroller Rule 3.294(k)(1), no sales tax is due on tangible personal property leased together with real property in a single contract. Each year, as Taxpayer A buys more or upgraded equipment for the building, the lease payment is adjusted upward to reflect it.

Taxpayer A's question: since the equipment is used for a manufacturing process (meat processing), can Taxpayer A buy that equipment tax-free — say, by registering for a sales tax permit, issuing a resale certificate to the equipment vendor, and then getting an exemption certificate from Company B as the end user? A Comptroller specialist had apparently floated that structure informally.

The Comptroller rejected it. The relevant rule, Rule 3.294(k)(1), traces back to Tax Code § 151.006(2)'s definition of "sale for resale": buying property solely to lease it out to someone else generally qualifies for a resale exemption, but not when that leasing is "incidental to the leasing of real estate." Because Taxpayer A's equipment lease to Company B is bundled into — and incidental to — the real estate lease (building + land + equipment as one nontaxable real property lease), Taxpayer A cannot issue a resale certificate for the equipment purchase. Instead, Taxpayer A (the lessor) owes sales tax on its own purchase of the manufacturing equipment, even though Company B is the one actually using the equipment for a manufacturing process. The manufacturing exemption belongs to the end user performing the manufacturing (Company B), not to the equipment's owner/lessor who is merely bundling it into a real estate deal.

What this means for you

Individuals or entities buying equipment to lease alongside real estate

If you're structuring an equipment purchase to lease the equipment out, keep the equipment lease legally and functionally separate from any real estate lease if you want to preserve resale-certificate treatment on the purchase. Bundling equipment into a real property lease — even between related parties, even where the end user genuinely manufactures with the equipment — forecloses the resale exemption for the equipment's buyer.

Related-party landlord/tenant structures involving manufacturing equipment

The manufacturing exemption follows the entity actually performing the manufacturing process, not the entity that owns and leases out the equipment. Don't assume that because your tenant qualifies as a manufacturer, you (as the equipment-owning landlord) can buy the equipment tax-free too.

Accountants and tax professionals

This letter is a clean illustration of the § 151.006(2)/Rule 3.294(k)(1) "incidental to real estate" carve-out from the resale exemption — a useful caution against informally-suggested workarounds (like the resale-certificate-plus-exemption-certificate structure floated here) that don't actually survive the statute's real-estate-bundling exception.

Common questions

Q: Can someone buy equipment tax-free if they plan to lease it out?
A: Generally yes, under the resale exemption for property purchased solely to lease — but not if that leasing is incidental to a real estate lease, per Tax Code § 151.006(2) and Rule 3.294(k)(1).

Q: Does it matter that the equipment is used for manufacturing?
A: Not for the equipment owner/lessor's own purchase — the manufacturing exemption applies to the entity performing the manufacturing (here, Company B, the lessee), not to the related party that bought and bundled the equipment into a real estate lease.

Q: Who owes tax on the equipment purchase in this scenario?
A: Taxpayer A, the individual who buys the equipment and leases it (bundled with the building) to Company B, owes the sales tax on the equipment purchase.

Q: Can any equipment lessor rely on this exact letter?
A: Not directly. This is a Texas STAR letter ruling binding on the Comptroller only for the taxpayer it addresses (34 Tex. Admin. Code Rules 3.1, 3.10). Confirm your own lease structure with a tax professional.

Citations and references

Statutes and rules:

• Tex. Tax Code § 151.006(2) (sale for resale — real estate bundling exception)
• Comptroller Rule 3.294(k)(1) (lease of TPP bundled with real property lease)

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/200101993L

Original ruling text

January 11, 2001

Dear **:

Thank you for using tax.help to inquire about the taxability of manufacturing
equipment leased together with realty in a single transaction. I apologize for
the delay in responding to your questions.

FACTS:

Taxpayer A, an individual, buys manufacturing equipment.

Taxpayer A, leases land, a building, and manufacturing equipment to Company B.
Taxpayer A and Company B are related parties.

Company B uses the equipment in a manufacturing process, meat processing.

The Taxpayer A - Company B lease does not include a charge for sales tax,
following Comptroller Rule 3.294(k)(1) no sales tax is due on the amount
charged for the lease or rental of tangible personal property (the
manufacturing equipment) as the contract for the lease or rental of real
property includes the lease or rental of tangible personal property.

Each year, since additional manufacturing equipment is purchased for the
building, the lease is adjusted to reflect the increase in lease payments due
to improved/new equipment being included in the lease agreement.

My questions are as follows:

Can Taxpayer A buy the manufacturing equipment without paying sales tax on his
purchase, since the equipment is purchased for a manufacturing process (meat
processing)? How could this be accomplished?

You explained that you spoke with a Tax Specialist in this office and were told
that Taxpayer A must register with the State of Texas and obtain a sales tax
identification number. Taxpayer A can then issue a resale certificate to
vendor upon purchase of the equipment, exempting the purchase from sales tax.
Then, Taxpayer A must obtain an exemption certificate from the lessee, Company
B.

Response: As stated in Rule 3.294(k)(1), Taxpayer A may not issue a resale
certificate to the equipment vendor if the manufacturing equipment will be
included in the lease for real property. This provision in the rule is based
on Texas Tax Code Section 151.006(2) that states:

"Sale for resale" means a sale of: (2) tangible personal property to a
purchaser for the sole purpose of the purchaser's leasing or renting it in the
United States of America or a possession or territory of the United States of
America or in the United Mexican States to another person, but not if
incidental to the leasing or renting of real estate.

When Taxpayer A (building and equipment lessor) leases the building and the
manufacturing equipment together, the transaction is considered a nontaxable
lease of real property. The lessor of the building and equipment owes tax on
the purchase of the manufacturing equipment per Section 151.006(2) and Rule
3.294(k)(1).

This opinion is based on the facts presented. Other facts, though similar, may
result in different answers.

I hope this information is helpful. I'll be glad to help you if you have
additional questions. My e-mail address is .
My direct line is 475-0037. The toll-free number is 1-800-531-5441, ext.
5-0037.

Sincerely,

Lindey Osborne
Tax Policy Division