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March 25, 2019

Real or Personal Property? It Makes a Tax Difference

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As tax attorneys in Columbus, Ohio, Nardone Limited routinely assists individuals and businesses with representation in tax examinations, audits, and civil litigation with the Internal Revenue Service and the Ohio Department of Taxation (the “Department”). As part of that representation, our tax attorneys keep individuals and businesses informed about new information and guidance provided by the Department.

Introduction

Taxpayers and businesses with business real estate often hire contractors to construct and fabricate buildings and other structures on their property to use for business operations. Sometimes a business constructs an entire building to contain and protect their business operations. Other times a business constructs smaller projects described as improvements to already existing property or projects that allow the business to expand into a new business venture.

To the unsuspecting business owner, these projects result in property that the business owner, and many others, would categorize as real property. But, according to the Department’s assessments and Ohio case law, this is not always the case.

Each year the Department assesses Ohio business owners use tax on projects like those described above. This is because the Department classifies the resulting property from a project as tangible personal property, rather than real property. This distinction might not seem important at first, but this classification can present serious sales and use tax implications for the taxpayer.

Ohio Sales and Use Tax Generally

Sales tax is levied on all sales transactions unless otherwise excluded. A sale includes any transaction by which title or possession in an item of tangible personal property is transferred. A sale also includes a transaction where an item of tangible personal property is installed, unless the transaction is otherwise excluded for sales tax purposes. A sale does not include a transaction established under a construction contract to construct or fabricate real property.

Use tax is levied on the consumption of tangible personal property or the benefit realized in the state on any service provided. An exception exists for the acquisition of tangible personal property that is already subject to sales tax, in which case use tax is not assessed. Generally, for construction projects, it is assumed that the builder pays any necessary sales tax upon purchasing the construction materials. However, use tax would be assessed on the value of any materials used that were not assessed sales tax when purchased.

Order of Analysis

So, how is a taxpayer supposed to determine whether a project should be taxed as real or personal property? Ohio law provides three distinct categories for property: real property; personal property; and business fixtures.

Through case law, the Ohio Supreme Court provides the following guidelines to determine whether property is real property, personal property, or a business fixture under Ohio Revised Code sections 5701.02 and 5701.03:

  1. Determine whether the property is defined as real property under § 5701.02;
  2. If the property does not meet the definition of real property under § 5701.02, then the property is personal property;
  3. If the property is defined as real property under § 5701.02, then the property is real property unless defined as a business fixture under § 5701.03;
  4. If the property is defined as a business fixture under § 5701.03, then the property is personal property.

Real property includes the land and all buildings, structures, improvements, and fixtures of whatever kind on the land. Ohio law defines buildings, structures, improvements, and fixtures as follows:

  1. A building is any fabrication or construction consisting of foundations, walls, columns, girders, beams, floors, and a roof that is intended as a habitation or shelter for people, animals, or tangible personal property.
  2. Fixtures are any items of tangible personal property that are permanently attached or affixed to the land or to a building, structure, or improvement for the primary benefit of the real property, rather than a business conducted on the property.
  3. Improvements are any permanent additions, enlargements, or alterations to a building or structure that would be considered part of the building or structure had they been completed during the initial construction process.
  4. Structures are permanent fabrications or constructions, other than a building, that are attached or affixed to the land and increases or enhances the utilization or enjoyment of the land.

At the end of the day, real property is distinguished from other types of property in that fact that the primary intent of real property is to benefit the realty and the taxpayer’s use of the land.

Personal Property and Business Fixtures under § 5701.03

Personal property includes every tangible item that is the subject of ownership, including business fixtures, but does not constitute real property. This definition acts as a catchall category of property.

A business fixture, as referenced above, is an item of tangible personal property that is permanently attached or fixed to the land, building, structure, or improvement for the primary benefit of a business conducted on the premises. Unlike real property, the primary intent of real property is to benefit a business. A business fixture also includes any portion of the building, structure, or improvement that is specially designed, constructed, and used for a business conducted in the building, structure, or improvement.

Even with these statutory definitions, many taxpayers are left to determine whether a project is a structure, which is real property, or a business fixture, which is tangible personal property.

Structures or Business Fixtures

At the core of any determination is whether the project increases or enhances the utilization or enjoyment of the land, or whether the project primarily benefits a business conducted on the premises. The Ohio General Assembly and Ohio Supreme Court state that the decisive test is whether the property at issue is devoted primarily to the business conducted on the premises, or whether the property is devoted primarily to the use of the land upon which the business is conducted.

The Department makes these determinations on a case by case basis depending on the facts and circumstances surrounding the project.

Conclusion

Whether you received a similar assessment from the Department or are considering a similar project at your place of business, it is important to work with a qualified tax professional to review the tax implications of the project. The tax and business attorneys at Nardone Limited are experienced in Ohio tax law and have the necessary abilities to scrutinize your project to determine the appropriate classification. If you believe the Department wrongfully assessed use tax on your project, our firm can help you appeal the assessment.  Contact us today for a consultation.

 

 

 

 

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« Section 199A: The New Small Business Tax Break—Part III | Main | IRS Concludes Free Employee Meals are Not Excludable under IRC Section 119 »

March 25, 2019

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