Texas Comptroller of Public Accounts    STAR System


201102017H



SOAH DOCKET NO. 304-11-1419.13
CPA HEARING NO. 104,092

RE: ************* 
TAXPAYER NO.: ************* 
AUDIT OFFICE: ************* 
AUDIT PERIOD: January 1, 2008 THROUGH December 31, 2008

Franchise Tax/RDT

BEFORE THE COMPTROLLER
OF PUBLIC ACCOUNTS
OF THE STATE OF TEXAS

SUSAN COMBS
Texas Comptroller of Public Accounts

JAMES ARBOGAST
Representing Tax Division

************* 
Representing Petitioner


COMPTROLLER’S DECISION

************* (Petitioner), in filing its 2008 franchise tax report, determined 
that it was subject to the franchise tax rate of one-half percent of taxable 
margin that applies to taxable entities primarily engaged in retail or 
wholesale trade.  The Texas Comptroller of Public Accounts (Comptroller) 
determined that Petitioner was subject to a one percent rate and assessed tax 
and interest accordingly.  In his Proposal for Decision, the Administrative Law 
Judge (ALJ) recommends that the assessed tax and interest be upheld without 
change.

I.  PROCEDURAL HISTORY, NOTICE, AND JURISDICTION

Comptroller Staff (Staff) referred the case to the State Office of Administrative
Hearings on November 30, 2010, for a written submission hearing.  There are no
contested issues of notice or jurisdiction, and those matters are set out in the
Findings of Fact and Conclusions of Law without further discussion here.

Staff was represented by Assistant General Counsel James D. Arbogast.  Petitioner
was represented by ************* of COMPANY A.  The record closed on January 20, 2011,
by order of ALJ Alvin Stoll.

II. REASONS FOR DECISION

A.  Evidence Presented

Staff submitted a 60-day notice letter, a Texas Notification of Exam Results, 
the audit schedules, and an Audit Documentation Report.  Staff forwarded the 
pleadings of the parties filed while the case was pending before the 
Comptroller.  Petitioner did not submit any documents or other evidence.

B.  Background and Issue Presented

Petitioner is a Texas limited partnership engaged in the business of providing 
environmental control systems for commercial and industrial buildings.  Petitioner’s
“open protocol” control systems allow building components such as chillers, boilers,
air handling units, lighting, and security systems to function in a coordinated manner,
even though they may be manufactured by different firms.  Petitioner obtained the
proprietary right to sell the control systems within the Texas and Louisiana markets.
The customers are general contractors, industrial users, building owners, municipalities,
universities and similar institutions.  Petitioner sells the control systems and also 
performs the design and installation services necessary to integrate the control systems
into the building.

Petitioner, in its Texas franchise tax report for 2008, applied the rate of 
one-half percent of taxable margin that is reserved for retailers and wholesalers.
The Comptroller determined Petitioner did not qualify for the one-half percent rate
and recalculated the franchise tax by applying the rate of one percent of taxable margin
that applies to all taxable entities other than retailers and wholesalers.  Accordingly,
by Texas Notification of Exam Results dated November 16, 2009, tax of $*************
and accrued interest was assessed.

Petitioner contends it is “primarily engaged in retail or wholesale trade” 
pursuant to TEX. TAX CODE ANN. Section 171.002(c), because its revenue from the 
sale of equipment is greater than the revenue from installation of equipment.  
Petitioner states that its design and installation activities are not 
independently viable and are performed only to support the sale of the 
specialized equipment.  Staff takes the position that Petitioner, because it 
installs the security systems into the commercial buildings, is classified not 
as a retailer or wholesaler but as a contractor.  Staff cites the Standard 
Industrial Classification (SIC) Manual, Division C, regarding construction and 
special trade contractors.  Staff states that Petitioner falls within SIC Code 
1731, a classification within Division C for “special trade contractors 
primarily engaged in electrical work at the site” that specifically includes 
“electronic control system installation-contractors.” [ENDNOTE]

C.  Analysis and Recommendation

The franchise tax is calculated by applying the applicable tax rate to the 
taxable entity’s taxable margin.  The standard rate applicable to all taxable 
entities is one percent of taxable margin, except for those taxable entities 
that are “primarily engaged in retail or wholesale trade,” for which the rate 
is one-half percent of taxable margin.  TEX. TAX CODE ANN. Section 171.002(a) 
and (b).  A taxable entity is primarily engaged in a retail or wholesale trade 
if “the total revenue from its activities in retail or wholesale trade is 
greater than the total revenue from its activities in trades other than the 
retail and wholesale trades.”  TEX. TAX CODE ANN. Section 171.002(c).  The term 
“retail trade” is defined as “the activities described in Division G of the 
1987 Standard Industrial Classification Manual published by the federal Office 
of Management and Budget.”  TEX. TAX CODE ANN. Section 171.0001(12).  The term 
“wholesale trade” is defined as “the activities described in Division F of the 
1987 Standard Industrial Classification Manual published by the federal Office 
of Management and Budget.”  TEX. TAX CODE ANN. Section 171.0001(18).

Petitioner contends it is appropriately classified under Division F regarding 
wholesale trades, and specifically SIC Code 5075, a classification within 
Division F for “establishments primarily engaged in the distribution of warm 
air heating and air-conditioning equipment and supplies.”  Petitioner t is 
“primarily engaged” in the distribution of air-conditioning equipment, because 
60 percent of its revenue is derived from the sale of the specialized equipment 
pursuant to its exclusive distribution agreements.  Because only 40 percent of 
its revenue is derived from the ancillary design and installation activities, 
Petitioner contends it is primarily a wholesaler as that term is defined in the 
Standard Industrial Classification Manual.

Petitioner believes it is primarily engaged in wholesale trade rather than 
construction based on its internal separation of the revenue attributable to 
the equipment and that attributable to installation and related services.  
However, a construction contractor is not transformed into a wholesaler simply 
because the materials costs exceed the labor costs.  In addition to the 
definition cited by Petitioner, SIC Code 5075 also contains the following 
statement: “Construction contractors primarily engaged in installing warm air 
heating and air-conditioning equipment are classified in Construction, Industry 
1711.”  Petitioner’s activities fall within the SIC Division C classification 
for special trade contractors engaged in installation of electronic control 
systems, as cited by Staff.  Petitioner would be primarily engaged in wholesale 
trade only if its revenue from distribution of specialized equipment that it 
did not install exceeded its revenue from equipment that it did install.  
Petitioner has not alleged or proved it acted only as a distributor with regard 
to any of the specialized equipment.  Petitioner’s contention should for those 
reasons be rejected.

III. FINDINGS OF FACT

1.  The Texas Comptroller of Public Accounts (Comptroller) assessed franchise 
tax and interest against Petitioner for the 2008 report year.  Petitioner 
timely requested redetermination.

2.  Comptroller Staff referred the case to the State Office of Administrative 
Hearings.  Staff issued a Notice of Hearing by Written Submission that 
contained a statement of the nature of the hearing; a statement of the legal 
authority and jurisdiction under which the hearing was to be held; a reference 
to the particular sections of the statutes and rules involved; and a short, 
plain statement of the matters asserted.

3.  Petitioner is a Texas limited partnership engaged in the business of 
providing environmental control systems for commercial and industrial 
buildings.  Petitioner sells the control systems to general contractors, 
industrial users, building owners, municipalities, universities and similar 
institutions, and also performs the design and installation services necessary 
to integrate the control systems into the building.

4.  Division C of the Standard Industrial Classification Manual includes 
construction contractors, including special trade contractors engaged in 
installation of electronic control systems.

5.  Petitioner did not submit evidence to show that it sold any of the 
specialized equipment independent of related installation services.

IV. CONCLUSIONS OF LAW

1.  The Comptroller has jurisdiction over this matter pursuant to TEX. TAX CODE 
ANN ch. 111.

2.  The State Office of Administrative Hearings has jurisdiction over matters 
related to the hearing in this matter, including the authority to issue a 
proposal for decision with findings of fact and conclusions of law pursuant to 
TEX. GOV’T CODE ANN. Ch. 2003.

3.  The Comptroller provided proper and timely notice of the hearing pursuant 
to TEX. GOV’T CODE ANN. ch. 2001 and TEX. TAX CODE ANN Section 111.009.

4.  The franchise tax is calculated based on a taxable entity’s taxable margin. 
Taxable margin is computed by applying the applicable tax rate to the taxable 
entity’s taxable margin.  The standard rate applicable to all taxable entities 
is one percent of taxable margin, except for those taxable entities that are 
primarily engaged in retail or wholesale trades, which are subject to a rate of 
one-half percent of taxable margin.  TEX. TAX CODE ANN. Section 171.002(a) and 
(b).

5.  A retail trade is defined as activities described in Division G of the 
Standard Industrial Classification Manual and a wholesale trade is activities 
described in Division F of the Standard Industrial Classification Manual.   
TEX. TAX CODE ANN. Section 171.0001(12) and (18).

6.  Petitioner does not qualify for the one-half percent tax rate reserved for 
retailers and wholesalers.

7.  Petitioner has not established by a preponderance of the evidence pursuant 
to 34 TEX. ADMIN. CODE Section 1.40(2)(B) that the tax assessment was 
incorrect.

8.  Based on the foregoing Findings of Fact and Conclusions of Law, the 
assessed tax and interest should be upheld without change.

Hearing No. 104,092

ORDER OF THE COMPTROLLER

On January 21, 2011, the State Office of Administrative Hearings’ (SOAH) 
Administrative Law Judge (ALJ), Alvin Stoll, issued a Proposal for Decision in 
the above referenced matter.  The parties were given fifteen days from the date 
of the Decision to file exceptions with SOAH.  No exceptions were filed, and 
the Comptroller has determined that the ALJ’s Proposal for Decision, except for 
minor changes to correct typographical or clerical errors, should be adopted as 
written.

The above Decision resulting in Taxpayer's liability as set out in “Attachment 
A,” which is incorporated by reference, is approved and adopted in all 
respects.  The Decision becomes final twenty days after the date Petitioner 
receives notice of this decision, and the total sum of the tax, penalty, and 
interest amounts is due and payable within twenty days thereafter.  If such sum 
is not paid within such time, an additional penalty of ten percent of the taxes 
due will accrue, and interest will continue to accrue.  If either party desires 
a rehearing, that party must file a motion for rehearing, which must state the 
grounds for rehearing, no later than twenty days after the date Petitioner 
receives notice of this Decision.  Notice of this Decision is presumed to occur 
on the third day after the date of this Decision.

Signed on this 18th day of February 2011.


SUSAN COMBS
Texas Comptroller of Public Accounts

by: Martin A. Hubert
Deputy Comptroller

ENDNOTE
SIC Manual found at: http://www.osha.gov/pls/imis/sic_manual.html.




ACCESSION NUMBER: 201102017H
SUPERSEDED: N
DOCUMENT TYPE: H
DATE: 02/18/2011
TAX TYPE: FRANCHISE