Which charges connected with rented downhole tools were taxable?

Plain-English summary

Thread protectors, repairs, and internal or external delivery were taxable. Free ring gauges were not sold or rented, but the lessor owed tax on fabrication materials. Outside inspection, charges for tools lost downhole, and restocking charges were nontaxable; a rental-tax refund applied to the refunded rental portion.

Common questions

Were lost-tool charges taxable? No; they were damages, not sales. Was delivery taxable? Yes. Were repairs taxable? Yes.

Citations and references

• 34 Tex. Admin. Code Rule 3.303 — referenced for transportation before the rental; the enclosure is absent.

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/8507L0651A04

Original ruling text

July 10, 1985

Dear ***:

Thank you for your letter of June 21, 1985, concerning the taxability of
certain transactions.

You state in your letter that you rent downhole equipment to the
petroleum industry.

I assume that the services you provide are the installation or
application of the thread protectors and ring gauge and the following transactions
are answered accordingly:

A. SALE OF THREAD PROTECTORS

Tools are joined together via threads on both ends. To protect
those threads from damage we attach metal or plastic units called
protectors that may or may not be returned by the customer. These
sales activities are normally considered to be "title transfer"
types of transactions.

Answer: Taxable. The charge for the thread protectors which are
attached to the rental tools is taxable.

B. SALE OF RING GAUGE

The tools we rent have certain physical characteristics which are
determined to be correct by sliding a gauge over the outside of
the tool. We fabricate such gauges and provide them at no charge
to the customer unless they are not returned at such time we would
then invoice the customer, and again this is considered a "title
transfer'' transaction.

Answer: The ring gauges are not rented or sold to your customers
and are not taxable. However, since you use the gauges (provide
them at no charge to the customer), you are required to pay tax on
the materials used to fabricate the ring gauges.

C. REPAIRS TO EITHER *** DRILLING TOOLS EQUIPMENT OR CUSTOMER
EQUIPMENT.

In the drilling process the equipment provide is consumed by the
wearing of the tool against the drill casing. Upon the return of
the tools, if the wear has been excessive we will build up the
tools and charge the responsible customer. Alternatively, customers
will send their tools in to us for repair. It has been our practice
to tax both of these transactions.

Answer: Taxable in both situations.

D. INSPECTION

As the equipment comes back from the drilling site, an outside
contractor performs various inspections on the tools to certify
its usability. We receive an invoice for these charges and may
charge these back to the customer.

Answer: Not taxable.

E. TRANSPORTATION

In the process of delivering the tools to the rig site we incur
both internal and external transportation costs. It is our
understanding that if the transportation costs are billed
separately as an additional item they are non taxable because the
rental period has not started until the tools effectively reach
the rig site. Alternatively if transportation charges are
included in the list price they are taxable.

Answer: The transportation charges, both internal and external,
are taxable. The transportation occurs before the sale (rental)
takes place (transfer of possession of the tool for consideration).
See the enclosed Rule 3.303.

F. LOST IN HOLE - TOOLS

In the process of being used occasionally our equipment will
become trapped in the hole and will become unretrievable. If the
tools are not returned to us we will charge the customer for the
loss or for the value of those tools. We consider this a taxable
item to the customer.

Answer: Not taxable. This is not considered a sale, but a charge for damages (loss).

G. RESTOCKING CHARGE

Customers will often request more tools than they ultimately use
at the rig sites and occasionally upon the return of these tools,
we will charge customers a restocking cost to place them back in
inventory.

Answer: Not taxable. The customer is entitled to a refund of
the tax which applies to the portion of the rental charge refunded.

This opinion is based upon the facts you presented If there are
additional or different facts, this opinion may change.

If you have any questions or need more information, please call us at
1-800-252-5555 toll free from anywhere in Texas. You may write us at the
Tax Administration Division

Sincerely,

Tax Policy
Tax Administration