Once large equipment like a crane is permanently installed and becomes part of the real estate, who owes Virginia use tax on it -- the buyer or the installing contractor?

Plain-English summary

A marine cargo terminal operator at the Port of Virginia had been assessed use tax on the cost of large ship-to-shore cranes used to load and unload containers. In an earlier ruling (P.D. 21-36), the Department upheld that assessment, rejecting the operator's arguments that the crane purchase was an exempt occasional sale, an out-of-state gift, or too old to assess -- finding that the first taxable "use" of the cranes happened when they were erected and commissioned at the port, which was within the audit window.

This time, the operator asked for reconsideration on a genuinely new legal theory it hadn't raised before: that once the cranes were installed, they became real property rather than remaining tangible personal property -- and Virginia's use tax only applies to tangible personal property. The Department agreed to consider this new argument (since it hadn't been raised or decided in the original appeal) and applied Virginia's classic three-part fixture test from a 1941 Virginia Supreme Court case: (1) is the item actually or constructively attached to the real estate, (2) is it adapted to the purpose the real estate is used for, and (3) did the parties intend it to be a permanent addition? Here, each crane ran on a rail system physically attached to the port, was obviously built for exactly the purpose the port property serves, and the taxpayer's own evidence (plus the local government's own real-estate-tax treatment of the cranes) showed clear intent to make them permanent. All three tests were met -- the cranes became real property once erected.

That reclassification flipped who owed the tax. Virginia's use tax reaches tangible personal property, not real property -- so once the cranes stopped being "tangible personal property" and became part of the port's real estate, the terminal operator (the property owner) wasn't the one who owed use tax on them. Instead, Virginia's rule puts that obligation on whoever performed the installation: the contractor who erected and affixed the cranes was responsible for accruing and remitting the use tax on the crane components at the time of installation. Since that wasn't the terminal operator, the assessment against the operator was reversed and the use tax portion of the audit abated.

What this means for you

Businesses buying large, custom-installed equipment (cranes, industrial machinery, built-in systems)

If equipment you buy becomes permanently affixed to real estate once installed -- physically attached, built for that specific location's purpose, with clear intent to stay -- you as the property owner may not be the one who owes Virginia use tax on it as tangible personal property. That liability can instead fall on the installing contractor, who is treated as the "user" of the property at the moment of installation.

Contractors who install large fixed equipment for clients

If you perform an installation that converts tangible personal property into real property (applying the annexation/adaptation/intent test), you -- not your client -- are generally responsible for accruing and remitting Virginia use tax on the components as installed. Factor this into how you price and account for installation jobs.

Taxpayers weighing a reconsideration request after losing an appeal

This is a rare example of the Department granting reconsideration -- but only because the taxpayer raised a genuinely new legal theory (real-vs-personal-property classification) that had never been presented or decided in the original appeal, not just a request to revisit the same arguments. Compare this with the same-batch ruling P.D. 23-83, where reconsideration was denied because the taxpayer was simply relitigating the same domicile standard already applied.

Common questions

Q: How does Virginia decide whether installed equipment becomes real property?
A: Using the three-part test from Danville Holding Corp. v. Clement: (1) actual or constructive annexation to the real estate, (2) adaptation to the purpose the real estate serves, and (3) the installing party's intent to make it a permanent addition -- with intent being the most important of the three.

Q: If equipment becomes real property, does that mean no use tax is owed at all?
A: No -- it shifts who owes it. The contractor who performed the installation is deemed to have "used" the tangible personal property at the moment of installation and is responsible for accruing and remitting the use tax on those components, not the property owner.

Q: Why did the Department agree to reconsider this case when it usually doesn't?
A: Because the taxpayer's real-vs-personal-property argument was genuinely new -- it had not been raised or addressed in the Department's original determination (P.D. 21-36) -- rather than just disagreement with the prior result.

Q: Does it matter how the local government treats the equipment for other tax purposes?
A: It can be supporting evidence. Here, the Department noted the locality had also treated the cranes as real property for local real estate tax purposes, consistent with its own three-part-test conclusion.

Citations and references

• Danville Holding Corp. v. Clement, 178 Va. 223, 16 S.E.2d 345 (1941) (three-part fixture test)
• Va. Code § 58.1-604 (use tax on tangible personal property)
• 23 VAC 10-210-410 A (contractor deemed to use/consume property converted to realty)
• 23 VAC 10-20-165 F (reconsideration criteria)
• P.D. 21-36 (10/26/2021) (original determination, first use of cranes within audit period)

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 23-81

Original ruling text

July 6, 2023

Re: Request for Reconsideration: Retail Sales and Use Tax

Dear *:

This will respond to your letter in which you seek reconsideration of the determination letter, issued as Public Document (PD) 21-36 (10/26/2021), addressed to * (the “Taxpayer”) for the period May 2007 through June 2013. I apologize for the delay in responding to your request.

FACTS

The Taxpayer operated a marine cargo terminal and was in the business of providing marine cargo handling services at the Port of Virginia. The Department audited the Taxpayer and assessed use tax on the cost price of ship-to-shore cranes used by the Taxpayer to handle containers in shipping and receiving at the port. In P.D. 21-36, the Department upheld the assessment, denying the Taxpayer’s arguments that the transaction at issue was not taxable because 1) it was an occasional sale pursuant to a reorganization; 2) it was a gift occurring outside of Virginia; and 3) it occurred outside of the statute of limitations for the assessment. While the Department found that the Taxpayer took title to the cranes’ components in international waters outside of the audit period, it did not have taxable use of the cranes until they were erected, tested, and commissioned by the seller, which occurred within the audit period. Because the taxable first use occurred in Virginia within the statute of limitations, and because the transaction didn’t qualify for the exclusion from the tax, the assessment was upheld.

The Taxpayer timely filed a request for reconsideration, alleging the Department relied on inaccurate facts and misapplied policy in its final determination. The Taxpayer asserts the Department erred because 1) any taxable first use of the cranes occurred outside of the audit period, and alternatively, 2) the use tax cannot be applied after installation as the cranes become annexed to the real property. While the Department has already considered the timing of the Taxpayer’s first use of the property, the Taxpayer did not assert, and the Department did not consider, whether the use tax was inapplicable based upon the cranes status as real property rather than tangible personal property during the original administrative appeal in this case.

DETERMINATION

Real v. Tangible Personal Property

In determining real versus tangible personal property, the Department looks to Danville Holding Corp. v. Clement , 178 Va. 223, 232, 16 S.E. 2d 345, 349 (1941), the Virginia Supreme Court set forth a three-part test to be used in determining whether an article of tangible personal property becomes real property upon installation. The three tests are: (1) annexation of the chattel to the realty, actual or constructive; (2) its adaptation to the use or purpose to which that part of the realty to which it is connected is appropriated; and (3) the intention of the parties, i.e., the intention of the owner of the chattel to make it a permanent addition to the freehold. The intention of the party making the annexation is the chief test to be considered in determining whether the chattel has been converted into a fixture.

Annexation

Annexation of chattel must be actual or constructive. In Danville Holding , the Court concluded “the method or extent of the annexation carries little weight, except insofar as they relate to the nature of the article, the use to which it is applied and other attending circumstances as indicating the intention of the party making the annexation.” Id. In other words, so long as chattel is attached to a building or realty to carry out the purpose for which the realty is used and to increase its value for occupation or use, such chattel may become part of the realty even if it may be removed without injury to itself or the realty.

Adaption to use or purpose of the property or realty

If attached property is essential to the purpose for which the building or realty is used or occupied, it would generally be considered a fixture even if its annexation to such building is such that it may be severed without injury to either the chattel or the realty.

The intention of the parties

The court has emphasized that the intention of the party making the annexation is the chief test to consider in determining whether the chattel has been converted into a fixture. Although the intention does not need to be expressed in words, it should be able to be inferred from the nature of the property annexed, the purpose for which it was annexed, the relationship of the party making the annexation, and the structure and mode of the annexation. The intention to make a chattel a permanent accession to the realty must affirmatively and plainly appear.

In this instance, each crane operates on a closed rail system by which the cranes and rail are attached to the realty at the port. The cranes are attached to the realty and their use is clearly adapted to the use of the realty as a port. In regard to the third and chief test, the Taxpayer has provided evidence of its intent to treat the property as realty. All three tests have been met. Additionally, the locality similarly concluded that the cranes were part of the realty for local real estate tax purposes. Based upon the documentation, pictures, and video provided, it appears that the cranes become real property when erected at the port.

Use Tax

The use tax assessed in this audit is applicable to the use or consumption of tangible personal property in Virginia. See Virginia Code § 58.1-604. According to the analysis in P.D. 21-136, the Taxpayer did not make a taxable use of the cranes until they were erected. At that point in time, the cranes were incorporated into the realty and no longer considered tangible personal property subject to the Virginia use tax.

Based on the facts presented, another entity (presumably a contractor) performed the installation of the cranes affixing them to real property. Property installed or incorporated in real property that loses its identity as tangible personal property and becomes real property is deemed to be used or consumed by the contractor. See Title 23 of the Virginia Administrative Code (VAC) 10-210-410 A. Thus, the entity that installed the cranes would have been required to accrue and remit the use tax on the tangible crane components affixed upon installation.

CONCLUSION

Based upon a review of the additional facts and documentation presented, the Taxpayer was not subject to use tax on the cranes. Pursuant to this determination, the audit will be returned to the appropriate field audit staff to remove the use tax assessed on the cranes and abate that portion of the assessment. The auditor will provide the Taxpayer with a revised audit report reflecting the adjustment.

The Code of Virginia sections, regulation, and public document cited are available online at www.tax.virginia.gov in the Laws, Rules, & Decisions section of the Department’s website. If you have any questions regarding this determination, you may contact * in the Office of Tax Policy, Appeals and Rulings, at , or via email at **.

Sincerely,

Craig M. Burns

Tax Commissioner

AR/4029-C

Related Documents

21-36