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Construction Project Tax Planning Issues

Sales/Use, Value-Added, payroll, property, income, and other taxes can create tremendous cost problems, disputes, and other adverse consequences for owners, contractors, subcontractors, and others. Comprehensive tax planning in advance of site selection, contract awards, and equipment procurement can produce large savings.

Here is an illustrated presentation of some of the tax considerations which should be included in the tax planning and administration for any large project. The examples represent some of the opportunities to lower costs encountered by Cost Recovery Works, Inc. and previous work by CRW founder and president Al Gray.

Manufacturing projects

Sales and Use Taxes

These taxes are often an afterthought due to the low rates at which the taxes are imposed. For many reasons it is difficult to estimate the tax liability at the inception of the project. However, owners and contractors can lower their costs in this area through tax planning.

TAX SUBJECT

 

ISSUE

 

SOLUTION

Contracting Methods

Process tanks like these may be furnished and installed by a mechanical contractor. Sales/use taxes range from 4% to 10% of material costs. If these costs are avoidable, isn't it wise to perform tax planning to reduce these costs?

 

 

Most states designate the contractor as the consumer and require it to pay these taxes. Suppliers are prohibited in a considerable number of states from selling materials to a contractor free of tax. Unless contracting and tax administration practices are in place at the inception of the project, avoidable taxes will be paid by mechanical, electrical, HVAC, and other contractors to suppliers. Recovery of these taxes is difficult and costly.

 

Alternatives in the form of agreements with state revenue agencies to allow the owner to pay the taxes should be explored. Another option is for the owner to declare the contractor as its agent for the purpose of purchasing exempt materials. While this may be complicated and bear other risks to be considered, millions of dollars in taxes can be avoided. For example a paper manufacturer avoided payment of more than $5 million using an agency agreement.

 

Labor and Services

A concrete finisher at work. Sloppy procurement could cost taxes on his labor!

 

 

Contracted labor and services are exempt in many states. Fabrication labor is taxable in many of these states. Considerable care must be taken during the contracting process to prevent costly confusion as to the type of service performed.

 

On-site contractors can provide exempt services which might be otherwise taxable as fabrication had the constructed component been purchased from an outside vendor as a fabricated unit. Careful structuring of one contract saved a forest products manufacturer more than $350 thousand on a large project.

 

Taxable vs. Exempt?

Steam piping is frequently exempt if the steam is used in the manufacturing process. Such piping is typically taxable if the use is building heating.

 

 

An industrial project is comprised of thousands of purchases. Accurately paying sales/use tax is difficult, with varying rules for equipment, construction materials (including piping), systems, and facilities. Without a tax guide to direct purchasing and accounts payable, substantial errors occur. Unnecessary tax payments are likely.

 

A CRW client engaged the firm to evaluate tax issues for its $130 million project, establish tax accounting procedures, and to provide a comprehensive tax manual to facilitate tax administration. The system provided a nearly complete solution to the project's tax administration needs.

Tax Increases

A tax increase during the construction of this facility would certainly hurt!

 

 

Many taxing jurisdictions provide protections to contractors from unanticipated tax increases which may be enacted after the contracting phase. For a major project the savings can be significant. It is important for tax managers or project auditors to understand these provisions.

 

The project auditor recognized that the State of Georgia provides protection from tax increases. It was confirmed that the existing general contract was sufficient to protect the project from rate increases. The project was protected from two rate increases, resulting in savings of more than $325,000.

Project Tax Accounting Systems

Inadequate systems are a chasm to which recoverable taxes are lost!

 

The tax accounting systems are often overlooked at the start of a project. If the owners and/or contractor's systems are inadequate to track taxes, unforeseen cost overruns will occur due to the unanticipated costs of tax and it may become difficult to secure refunds.

 

A new company CFO engaged CRW to restate the tax accounting for several projects of $5 million to $35 million. As a result , net tax recoveries of more than $295,000 were secured.

 

 

 

Income Taxes

TAX SUBJECT

 

ISSUE

 

SOLUTION

Building costs vs. Equipment costs

Process platforms and supports - real or personal property?

 

 

Buildings are generally depreciated over 40 years for income tax purposes, while manufacturing equipment is depreciable over 7 years. There are tremendous tax savings from capturing all equipment costs, including support systems, and segregating them from "building costs." Project cost accounts should be capable of separating these costs and applying appropriate overhead costs in order to achieve the tax benefits.

 

The project auditor noticed that there were a significant number of process support systems included in the building cost accounts for a $80 million textile industry project. Corporate tax attorneys and an appraisal firm were able to reclassify several millions of dollars from buildings to equipment, producing interest savings on the deferred taxes of more than $595 thousand at present value.

Tax Credits

Some states now offer tax credits for corporate headquarters relocations.

 

Tax credits are available from various sources. States provide job and training credits. Federal tax credits may play a role. Until its expiration the investment tax credit was a valuable vehicle for lowering tax costs. A tax professional or project auditor should monitor all projects to assure that these valuable savings are realized and maximized.

 

The project auditor worked with tax accountants to assure that all costs associated with equipment in operation at the time of expiration of the investment tax credit were captured Additional overhead costs were discovered which increased the credit by more than $150,000.

 

 

 

 

 

 

 

Property Taxes

 

 

TAX SUBJECT

 

ISSUE

 

SOLUTION

Pollution Control Exemptions

Qualifying pollution control equipment has important property tax considerations.

 

Not only is the distinction between real and personal property important in the realm of income taxation. Property tax liabilities are similarly affected. Also there may be pollution control exemptions from property taxes.

 

The project auditor discovered that the costs of the effluent treatment system were contained within manufacturing facility costs. The reclassification of the costs for tax purposes saved more than $95,000 in property taxes

CRW Project Tax Planning Services

Reviewing the project scope to identify work which is eligible for sales and use tax exemptions, beneficial property tax accounting methods, revenue bond financing, or accelerated tax depreciation.

Using technical writing techniques to draft project narratives for the purpose of soliciting revenue rulings from state revenue agencies.

Negotiating sales/use tax exemptions with state revenue officials.

Researching state revenue statutes, regulations, jurisprudence, and rulings to maximize your tax benefits.

Formulating tax guides and administrative procedure to direct project management in its effort to minimize taxes.

Developing contracting strategies to minimize, avoid, and recover sales/use taxes.

Training your project staff to recognize opportunities to minimize taxes.

 

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