Construction Sales Tax Liabilities: Purchasing Items for Use in the Contract
Contractors are at risk in three general areas: managing the contract, invoicing customers, and purchasing items for use in the contract.
In this article, we focus on the third area: what firms need to know about sales and use tax and purchasing items for use during the contract execution period. (Click here to read the first article in this series, on managing the contract. Click here to read the second article in the series, on invoicing customers.)
Make Sure You Are Paying Tax in the Right “State” of Mind
If a contracting firm is located in one state and performing work in another, the jurisdiction to which you owe tax and the amount of that tax could change dramatically. Most states treat contractors as the end consumer of materials used for a project and will typically require the contractor to pay sales tax on these items at the time of purchase, or accrue and remit use tax on materials that may have been sourced from out-of-state vendors.
To better understand how your firm may be at risk, an example may be helpful: A Georgia firm installing light posts on the cart path of a golf course in Alabama is governed by a fixed bid contract of $75,000. The contractor would be identified as the end consumer of the “goods” used to complete the project in Alabama where the work is being performed. If these materials are purchased in Alabama, tax would need to be paid at the time of purchase in the state. If these materials were sourced from Georgia by the contractor, there may be a need to accrue use tax on the items used in Alabama to complete the project depending on how the materials were shipped to the job site and who delivered the materials.
You Cannot Pick and Choose Your Tax Rates
Let us assume that the contractor performing the work above decided to purchase the light poles used for the project in Georgia and have them hauled to Alabama on a personally owned flatbed trailer. The rest of the materials will be sourced from Alabama and used on the project immediately.
Buying the poles in Douglasville, Georgia, the contractor paid a 7 percent sales tax on these items as transfer if title and receipt of the goods occurred in Georgia. The remaining materials, purchased in Mobile, Alabama, were subject to 10 percent sales tax. That means our light post installation contractor technically owes an incremental 3 percent use tax on the light poles as it decided to source these items from Georgia, haul them to Alabama himself, and use them in a jurisdiction in Alabama that charges a combined 10 percent sales tax.
Some contracting firms believe that since they paid tax in Georgia on the expensive materials they technically saved money and avoided excess tax liability for the project. This could not be further from the truth. The responsibility of the tax liability and the taxes charged could change if the vendor that the materials were purchased from arranged shipment to the job site. However, this just demonstrates the need to fully understand the tax impacts of job performance as your contracting firm moves from jurisdiction to jurisdiction.
Weigh Your Sourcing Options Carefully
To avoid the calculation and remittance responsibilities of incremental use tax, a contractor may plan to simply purchase everything at the job site, save on shipping charges and ensure tax compliance. Or because of quality and pricing reasons, a better option is to purchase these items from a home jurisdiction vendor they can count on to deliver materials to the site punctually, with the quality they expect and at the price they desire.
Either choice has direct sales and use tax implications to project budgeting. Where a contractor’s project budget can get sideswiped with profit fade is by not projecting the financial and administrative costs of use tax remittance obligations that come from working with out-of-state vendors and the ramifications of these costs on realized job profits. If a contractor does not understand or remember to accrue and remit that incremental use tax due in the jurisdiction of job performance, and the jurisdiction audits the project, the savings obtained by sourcing the products out-of-state can no longer be measured as a benefit. Does this mean you should always source your projects from the jurisdiction of the job site? Absolutely not; however, we strongly suggest you evaluate the sales tax impact on material purchasing costs and include these figures during the project budget evaluation.
The Best Way to Create a Defensible Posture Under Audit
For contractors completing projects in another state, our advice is to contact your accountant or Smith & Howard to help you evaluate the tax impacts of material sourcing. Contractors who choose to source materials out-of-state may be able to better manage their costs through existing strategic vendor relationships. Or, it may make sense to negotiate with local vendors around the work site to avoid the hassle of additional use tax remittance obligations. Either way, Smith & Howard can help with the tax compliance obligations to ensure your firm can present a defensible posture to a jurisdiction in the case of audit and avoid expenses unaccounted for during project budgeting.
Since 1971, Smith & Howard has been providing value by assessing the entire landscape of business transactions. We help our clients reach clarity on their tax liabilities and support them in developing strategies for minimizing risk and project costs.
Please call Timothy Howe at 404-874-6244 to discuss your situation and to learn how Smith & Howard can assist you.