How did Texas tax the purchase, five-year bareboat lease, offshore drilling charges, repairs, refitting, component parts, and supplies for a large commercial rig?

Plain-English summary

The semi-submersible drilling rig was Coast Guard-registered, displaced more than 50 tons, and had operated outside U.S. territory for 22 months under a five-year bareboat lease before coming to Texas for possible Gulf use and temporary refitting or lay-up.

The partnership's purchase from the builder was exempt as a commercial vessel of at least eight tons under Section 151.329(2). The five-year lease was not taxable because it was made outside the United States, the rig remained outside Texas for 22 months, and it appeared not to have been leased for Texas use under Rule 3.346(c)(5). The drilling customer's daily-rate contract charges for work outside the United States were also not taxable.

Section 151.329(3) exempted materials and labor used to repair, refit, renovate, or convert a qualifying commercial vessel. Component parts were exempt. Supply items were taxable unless used exclusively for offshore exploration or production outside Texas under Section 151.324(a)(2).

Common questions

Was the partnership's rig purchase taxable? No.

Was the five-year lease taxable? No under the foreign-lease and use facts stated.

Were offshore drilling contract charges taxable? No.

Were repair labor and component parts exempt? Yes.

Were all supplies exempt? No; the letter required qualifying exclusive offshore mineral use.

Citations and references

• Tex. Tax Code § 151.329(2) — qualifying commercial-vessel purchase.
• Tex. Tax Code § 151.329(3) — commercial-vessel repair, refitting, renovation, and conversion.
• Tex. Tax Code § 151.324(a)(2) — qualifying offshore mineral-use supplies.
• 34 Tex. Admin. Code Rule 3.346(c)(5) — out-of-state lease use.

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=SST
• Opinion: https://star.comptroller.texas.gov/view/8604L0725D07

Original ruling text

April 24, 1986

Dear **:

Thank you for your letter of April 10, 1986, concerning the applicability of
sales and use tax on the lease, refitting and repairing of a semi-submersible
drilling rig.

Situation

The semi-submersible drilling rig is registered as a vessel by the U.S. Coast
Guard and weighs over 50 tons. Its home port was overseas until March 1985 at
which time CITY A, Texas became the home port. It was constructed in CITY C for
a Partnership X and was substantially completed by April 1983. Partnership X
was formed to engage in the business of contract oil and gas drilling and/or
the leasing of an oil and gas drilling rig.

Partnership X leases the rig to a Corporation B on a bareboat (Corporation B
provides the crew and operates the rig) charter basis with an operating lease.
This lease is for a period of five (5) years beginning April, 1983 and was
executed while the rig was outside United States territory. Lease payments are
to be monthly. The lease was signed in CITY B, Texas. The domicile of
Partnership X is CITY B, Texas, while the domicile of Corporation B was outside
the State of Texas from April, 1983 to present.

The rig was used outside United States territory by Corporation B for 22 months
based on a daily-rate drilling contract agreement with a Corporation A. It was
never the intent that the rig should be used in the United States area;
however, due to the worldwide drilling situation it became necessary to utilize
the rig at any location possible. Under the same operating agreement, the rig
was brought to the United States for possible use in the Gulf of Mexico and
temporary lay-up for refitting, repairing, or starting between drilling
programs.

Response:

Partnership X

Partnership X purchased a commercial vessel of eight or more tons displacement
from the builder. This transaction is exempt from sales and use tax under Tex.
Tax Code Ann. Sec. 151.329(2).

Corporation B

Partnership X leased the vessel to Corporation B in April, 1983. The vessel
remained outside of Texas for 22 months. Since the vessel was leased outside
the United States under a 5-year fixed-term lease and used outside the United
States for 22 months, it appears that the vessel was not leased for use in
Texas and the lease will not be subject to tax [See Rule 3.346(c)(5)].

Corporation A

Corporation B used the vessel outside the United States to perform a daily-rate
drilling contract with Corporation A. Corporation A does not owe tax on the
charges by Corporation B.

Refitting and Repairs

Tex. Tax Code Ann. 151.329(3) exempts materials and labor used in repairing,
refitting, renovating, or converting a commercial vessel of eight or more tons
displacement, prior to and subsequent to October 2, 1984. However, refitting
includes supply items as well as component parts. The component parts of the
vessel will be exempt. The supply items will be subject to tax unless the
supplies are used exclusively for the exploration or for the production of oil,
gas, sulphur, or other minerals offshore not in Texas [Sec. 151.324(a)(2)].

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

If you have any questions or need more information, please call me at
1-800-252-5555 toll free from anywhere in Texas. The regular number is
512/463-4600. You may write me at the Tax Administration Division.

Sincerely,

Adina Whittemore
Tax Policy Section
Tax Administration Division