California contractor's purchase of steel taxable at time of sale

Jul 09, 2020
Jul 09, 2020
0 min. read

The California Office of Tax Appeals (OTA) recently upheld a California Department of Tax and Fee Administration's determination that a construction company owed use tax at the time it purchased steel because the taxpayer could not demonstrate it was in the business of reselling those purchases. 

The taxpayer, a construction fabricator, installs steel rebar for customers under lump sum-contracts. The taxpayer purchased steel materials during the audit period using a California resale certificate and thus did not pay sales or use taxes at the time of purchase. However, the taxpayer accrued use tax when the steel was later withdrawn from inventory. Upon audit, the department determined that the taxpayer should have paid use tax at the time of purchase and issued a notice of deficiency asserting a use tax liability on the amount of steel purchased but not withdrawn from inventory. 

On appeal, the OTA noted that for use tax purposes, construction contractors are the consumers of materials they furnish and install in the performance of contracts. Moreover, the OTA stated that California law does not allow a construction contractor to purchase materials for resale, i.e., tax free, unless they are in the business of selling those materials. While the taxpayer maintained a California seller’s permit, the department established that the taxpayer was not engaged in the business of selling steel materials. The OTA ultimately found that the taxpayer was unable to meet its burden that it was in the business of reselling steel material.


The taxpayer argued before the OTA that it intended to resell the steel materials in its inventory. It offered evidence that it resold steel materials prior to and after the audit period. But during the audit period, the taxpayer resold only 0.1% of the steel materials it purchased. California businesses, particularly those in the construction industry, should be aware of how to apply resale certificates to construction-related purchases. The department will disregard a resale certificate if the company is not engaged in the business of reselling the purchased products. 

Construction contractors

Construction services are one of the largest industries in the United States. The field encompasses governmental, commercial and residential buildings and infrastructure projects across the country. In addition to actual construction, related services often include design, planning and financing. The construction industry faces a wide variety of tax situations, including those associated with income, franchise and employment taxes.

Construction businesses often overlook state and local sales and use tax from a planning and compliance perspective. The rules as to who and what transactions are subject to tax vary, often significantly, from jurisdiction to jurisdiction. For example, most but not all states exempt construction services from sales tax and instead impose the tax on a construction company's purchases of supplies and materials. What is and is not subject to tax defies generalization and must be analyzed under the law in a particular state. In addition, a construction company's sales tax liability could be affected by the type of contract signed (e.g., lump-sum or time-and-material) as well as whether the company is using subcontractors. Finally, states treat construction contracts with exempt and government entities remarkably different, resulting in sales and use tax considerations that may materially impact construction bids and proposals.

Nuances in construction contracts and state and local tax law may result in incorrectly calculated and charged sales taxes. Identifying sales and use tax overpayments on construction services and other purchases could lead to short-term cash refunds and long-term tax savings as businesses are better positioned to identify sales and use tax exemptions and exclusions after a thorough review. Additionally, reverse audit refund opportunities can help improve cash flow during the COVID-19 downturn for both sales and use and income and franchise taxes. Construction contractors are highly encouraged to consult with a tax professional for a state and local tax refund or exposure review.

RSM contributors

Subscribe to RSM tax newsletters

Tax news and insights that are important to you—delivered weekly to your inbox