Capital Improvement or Taxable Repair – The Sales Tax Professionals (2024)

Repair and Maintenance

If the project does not meetall threeof the capital improvement criteria, it will be regarded as a repair or maintenance item. This means keeping real property in a condition of fitness, efficiency, readiness or safety, or restoring it to such condition, or merely temporarily improving or adding to its value. Under these circ*mstances, the contractor should bill sales tax to the customer.

Installation

The service ofinstallingitems that donotbecome part of the real property is taxable. This includes the installation of items such as:

• freestanding appliances
• above-ground swimming pools
• canvas awnings
• weather stripping

Purchases of Materials

• Building materials and other tangible personal property purchased for capital improvement work are taxable, whether purchased by a contractor, subcontractor, business or homeowner. The sales tax paid by contractors becomes an expense that can be passed through to the customer as part of the overall charge for the capital improvement.

Building materials and other tangible personal property purchased for incorporation into repair or maintenance work is taxable and sales tax should be paid at the time of purchase by the contractor. However, the sales tax department allows the contractor to take a credit for any sales tax paid on those purchases on their sales tax returns.

Exemption Certificates

A properly completedForm ST-124,Certificate of Capital Improvement, should be given from the customer to the contractor for capital improvement projects. The contractor should not collect sales tax from the customer on the billing for the project. ReceivingForm ST-124relieves the contractor from liability for any sales tax due on the work.

If a contractor hires a subcontractor to work on a capital improvement project, the contractor should give the subcontractor a copy of the capital improvement certificate issued by the customer, so that the subcontractor’s charges will be exempt from sales tax.

Capital Improvement Billing

When calculating how much to charge a customer, a contractor may include the sales tax paid on building materials just like any other project expense. The sales tax the contractor paid on the materials is an expense that the contractor builds into the price charged to the customer. However, because the work is a capital improvement, there is no sales tax due on the charge to the customer.

Leasehold Improvements

Additions or alterations to real property made by or for a tenant, rather than the owner of the property, may be considered to be temporary in nature, rather than permanent. As a result, certain work that may otherwise qualify as a capital improvement may not qualify if the tenant’s lease does not transfer ownership of the improvement to the property owner. For example, some leases require the tenant to return the property to its original state when the lease expires. In those cases, nothing that was installed over the term of the lease can be considered permanent, since the lease states it will have to be removed if the tenant moves. This fact means that the work performed cannot qualify as a capital improvement.

As stated above, there is no exemption from sales tax on the purchase of materials used in a capital improvement project. Purchases of materials are taxable, regardless of whether a property owner or a contractor buys them.

Practical Examples:

Example #1: Taxability of Roof Work. For a set fee, a contractor will provide materials and labor to replace the entire 10,000 sq. ft. roof over the office area of a building. In addition, the contractor will replace a 75,000 sq. ft. section of a 90,000 sq. ft. roof on a building next door. Both roof jobs are on one invoice.

Conclusion (Ex. #1): Based on the above, the replacement of the entire 10,000 sq. ft. roof over the office area is a non-taxable capital improvement since it is the entire roof being completed. The contractor should not charge tax to the customer for this part of the invoice. The 75,000 sq. ft. roof work is a taxable repair job because it is not the entire roof and the contractor should charge tax on this part of the invoice.

Example #2: Taxability of Kitchen Replacement Services. For a set fee, the Contractor will provide a complete set of cabinets, cabinet doors, drawers, cabinet hardware, countertops, a new faucet, and new molding.

Conclusion (Ex. #2): Based on the above, the contractor charges for kitchen replacement services, when sold as a complete package, qualify as capital improvements and are not subject to sales tax.

Example #3: Taxability of Leased Property Work. A contractor installs sinks and related plumbing fixtures for a hair salon that is a tenant in a building. Installing a sink normally qualifies as a capital improvement. However, the hair salon’s lease stipulates that the premises must be returned to its original condition when the lease ends.

Conclusion (Ex.#3): Because the sinks must be removed at the end of the lease, they do not qualify as a permanent installation, and their installation is not a capital improvement and therefore taxable.

As you can see, the size or price of the job is not a factor in any of the above examples.

The taxability of receipts derived from all of the above projects depend on whether or not the service is a capital improvement to real property.

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