Opinion
NO. 2013-CA-001765-MR NO. 2013-CA-001776-MR
03-13-2015
DEPARTMENT OF REVENUE, FINANCE AND ADMINISTRATION CABINET, COMMONWEALTH OF KENTUCKY APPELLANT v. PROGRESS METAL RECLAMATION COMPANY; KENTUCKY BOARD OF TAX APPEALS APPELLEES AND PROGRESS METAL RECLAMATION COMPANY CROSS-APPELLANT v. DEPARTMENT OF REVENUE, FINANCE AND ADMINISTRATION CABINET, COMMONWEALTH OF KENTUCKY CROSS-APPELLEE
BRIEF FOR APPELLANT/CROSS-APPELLEE: Douglas M. Dowell, Sr. Laura M. Ferguson Frankfort, Kentucky BRIEF FOR APPELLEE/CROSS-APPELLANT PROGRESS METAL RECLAMATION COMPANY: Steven Lenarz Louisville, Kentucky
NOT TO BE PUBLISHED APPEAL FROM FRANKLIN CIRCUIT COURT
HONORABLE PHILLIP J. SHEPHERD, JUDGE
ACTION NOS. 12-CI-00637 AND 12-CI-00805
CROSS-APPEAL FROM FRANKLIN CIRCUIT COURT
HONORABLE PHILLIP J. SHEPHERD, JUDGE
ACTION NO. 12-CI-00637
OPINION
AFFIRMING
BEFORE: MAZE, NICKELL, AND TAYLOR, JUDGES. MAZE, JUDGE: This appeal and cross-appeal arise from a decision of the Franklin Circuit Court affirming a determination of the Kentucky Board of Tax Appeals ("the Board") concerning the tax-exempt status of certain materials used in Cross-Appellant's, Progress Metal Reclamation Company's ("Progress Metal"), metal processing business. Specifically, the Department of Revenue ("the Department") appeals the circuit court's conclusion that liquid oxygen Progress Metal used for its acetylene torches to cut metal was exempt from tax under KRS 139.470. Progress Metal cross-appeals from the circuit court's conclusion that pins used in its industrial hammers were not industrial tools and were therefore not exempt from tax under the same statute.
Kentucky Revised Statutes.
Following a thorough review of the record, we observe no error in the circuit court's decision to affirm the Board's decision in full. Hence, we affirm concerning both the appeal and the cross-appeal.
Background
Progress Metal operates a metal processing business located in Ashland, Kentucky. Part of its operation involves the cutting of metal so that it can be placed into a furnace and melted. For this process, Progress Metal uses torches which require a mixture of liquid oxygen and acetylene to create temperatures hot enough to cut metal. Progress Metal also utilizes several machines, including those which require pins that hold a hammer in place on a rotor which turns to break up large pieces of metal. These hammer pins have a useful life of between two weeks and one month; however, the parties disagree as to whether the pins come into contact with the metal Progress Metal processes.
As a result of an audit the Department conducted concerning Progress Metal's sales tax liability for the period of August 1, 2004, to July 31, 2008, the Department found Progress Metal was due a refund of more than $33,000. Believing it was due an additional refund, Progress Metal protested the audit assessment and requested an additional refund regarding its purchase and use of both liquid oxygen and hammer pins, for which it claimed it had been taxed in error. On December 29, 2010, the Department issued its final ruling denying Progress Metal's refund request. The Department concluded that hammer pins did not constitute "industrial tools" and that liquid oxygen was not an "industrial supply" for purposes of exemption from tax under KRS 139.470. The Department stated that the latter was "only eligible for the specific energy and energy producing fuel exemption in KRS 139.480(3)[.]"
Progress Metal appealed to the Board. While the Board upheld the Department's determination regarding hammer pins, it reversed the Department concerning Progress Metal's use of liquid oxygen. The Board, at Progress Metal's urging, pointed out that the Department had considered liquid oxygen an exempt "supply," and not an "energy producing fuel," for decades prior to its denial of Progress Metal's refund request. The Board concluded that liquid oxygen did not constitute an "energy producing fuel" under KRS 139.480(3), and that, because the term was ambiguous, the doctrine of contemporaneous construction served to restrict the Department "to its long-standing construction of the industrial supplies exemption as controlling in the exemption of liquid oxygen."
Pursuant to KRS 131.370, the Department appealed the Board's decision to Franklin Circuit Court, which found substantial evidence to support the Board's decision - a decision to which the circuit court noted it owed deference. The Department now appeals from the circuit court's decision concerning the exemption of liquid oxygen. Progress Metal appeals the circuit court's decision regarding the purchase of hammer pins.
Standard of Review
KRS 13B.150(2) typically permits us to affirm the Board's decision unless we find its order
(a) In violation of constitutional or statutory provisions;
(b) In excess of the statutory authority of the agency;Furthermore, KRS 13B.150(1) limits our review of the circuit court's decision to the record developed before the Board.
(c) Without support of substantial evidence on the whole record;
(d) Arbitrary, capricious, or characterized by abuse of discretion;
(e) Based on an ex parte communication which substantially prejudiced the rights of any party and likely affected the outcome of the hearing;
(f) Prejudiced by a failure of the person conducting a proceeding to be disqualified pursuant to KRS 13B.040(2); or
(g) Deficient as otherwise provided by law.
The Board is the final administrative decision-maker on all issues related to taxation. KRS 131.365. Pursuant to the statutory standard of review above, our review on appeal is limited to a determination of whether the Board's findings of facts were supported by substantial evidence in the record. See Epsilon Trading Co., Inc. v. Revenue Department, 775 S.W.2d 937 (Ky. App. 1989). However, to the extent that this case concerns the interpretation of statutes, we review those matters of law de novo. Louisville Edible Oil Products, Inc. v. Revenue Department, 957 S.W.2d 272, 274 (Ky. App. 1997) (citing to Reis v. Campbell Co. Bd. of Educ., 938 S.W.2d 880 (Ky. 1996), and Epsilon Trading Co.).
Analysis
In considering the parties' arguments concerning whether liquid oxygen and hammer pins are exempt from taxation, we note that "[t]ax exemptions are disfavored and will be narrowly or strictly construed, with all doubts resolved against the exemption...." Popplewell's Alligator Dock No. 1, Inc. v. Revenue Department, 133 S.W.3d 456, 465 (Ky. 2004). Hence, we are bound to resolve close questions concerning the statutory exemptions in question against awarding an exemption. With this in mind, we turn to the question of whether Progress Metal was entitled to a refund on its use of liquid oxygen and hammer pins.
I. Progress Metal's Use of Liquid Oxygen
KRS 139.470(11), lists as tax-exempt "[g]ross receipts derived from the sale of, and the storage, use, or other consumption in this state of, tangible personal property to be used in the manufacturing or industrial processing of tangible personal property at a plant facility and which will be for sale." The statute expressly includes the following in its definition of "tangible personal property[:]"
As a result of 2013 amendments by the General Assembly, KRS 139.470(11), as it was listed at the time this case arose, is now codified as KRS 139.470(10). See 2013 Ky. Acts ch 119, § 13.
b. Supplies. This category includes supplies such as lubricating and compounding oils, grease, machine waste, abrasives, chemicals, solvents, fluxes, anodes, filtering materials, fire brick, catalysts, dyes, refrigerants, explosives, etc. The supplies indicated above need not come in direct contact with a manufactured product to be exempt. "Supplies" does not include repair, replacement, or spare parts of any kind.KRS 139.470(11)(a)(1).
c. Industrial tools. This group is limited to hand tools such as jigs, dies, drills, Boards, rolls, reamers, chucks, saws, spray guns, etc., and to tools attached to a machine such as molds, grinding balls, grinding wheels, dies, bits, cutting blades, etc. Normally, for industrial tools to be considered directly used in manufacturing, they shall come into direct contact with the product being manufactured[.]
KRS 139.480 provides, in pertinent part,
Any other provision of this chapter to the contrary notwithstanding, the terms "sale at retail," "retail sale," "use," "storage," and "consumption," as used in this chapter, shall not include the sale, use, storage, or other consumption of:
....
(3) All energy or energy-producing fuels used in the course of manufacturing, processing, mining, or refining and any related distribution, transmission, and transportation services for this energy that are billed to the user, to the extent that the cost of the energy or energy-producing fuels used, and related distribution, transmission, and transportation services for this energy that are billed to the user exceed three percent (3%) of the cost of production....
The Department's final determination held that liquid oxygen, as Progress Metal used it, was properly classified as "energy" or an "energy producing fuel[]" under KRS 139.480(3). The Board and the circuit court overturned this determination, holding that because the language of KRS 139.480(3) was ambiguous, Progress Metal's liquid oxygen was more appropriately classified as a "supply" under KRS 139.470(11)(a)(2)(b) and consistent with the Department's established treatment of liquid oxygen as such. After a brief discussion regarding the doctrine of contemporaneous construction, we weigh the Department's argument that the Board and circuit court arrived at their respective decisions in error.
The doctrine of contemporaneous construction is a rule of statutory construction. It states that where an administrative agency has the responsibility of interpreting a statute that is in some manner ambiguous, the agency is restricted to any long-standing construction of the provisions of the statute it has made previously. GTE v. Revenue Department, 889 S.W.2d 788, 792 (Ky. 1994), superseded on other grounds as stated in Miller v. Johnson Controls, Inc., 296 S.W.3d 392 (Ky. 2009). "The doctrine precludes the use of internal policy changes by administrators to reverse and overturn long-standing interpretations that have, over time, become part and parcel of the fabric of the law being administered." Revenue Department v. Lazarus, 49 S.W.3d 172, 174 (Ky. 2001). In other words, "[p]ractical construction of an ambiguous law by administrative officers continued without interruption for a very long period is entitled to controlling weight." Id. (quoting Grantz v. Grauman, 302 S.W.2d 364 (Ky. 1957)).
Like any rule of statutory construction, we need not resort to the doctrine of contemporaneous construction in the absence of an ambiguity. See Hall v. Hospitality Res., Inc., 276 S.W.3d 775, 784 (Ky. 2008) (quoting Stewart v. Estate of Cooper, 102 S.W.3d 913, 915 (Ky. 2003)). The threshold question therefore becomes whether KRS 139.480(3), and more specifically its use of the term "energy and energy producing fuels," was ambiguous as applied to the liquid oxygen used in Progress Metal's acetylene torches. We agree with the Board and the circuit court that it was.
The term "energy and energy producing fuels" is not defined in KRS Chapter 139. The issue is further complicated by the fact that the exact nature of the liquid oxygen, i.e., whether it is "fuel" for the acetylene torches or whether the heat it generates is "energy producing," is unclear and is contested among the parties. In attempting to resolve this conflict, the Department wishes us to assign the term "energy and energy producing fuel" its "usual, ordinary, and everyday meaning." Gateway Constr. Co. v. Wallbaum, 356 S.W.2d 247, 249 (Ky. App. 1962). This meaning, according to the Department, is easily derived from the definitions of the terms "fuel" and "energy." As support for this assertion, the Department cites to The Oxford American Dictionary which defines "fuel" as "material such as coal, gas, or oil that is burned to produce heat or power." Oxford American Dictionary 541 (2002). Likewise, it defines "energy" as "[p]ower derived from the utilization of physical or chemical resources, esp. to provide light and heat or to work machines." Id. at 447.
These definitions would be useful if the issue were simply whether KRS 139.480(3) applied to liquid oxygen. However, the present uncertainty does not surround simply how liquid oxygen must be classified. Rather, the inquiry requires further consideration of how Progress Metal utilizes liquid oxygen in its process. When this is considered, application of KRS 139.480(3) to liquid oxygen is less clear than the Department asserts.
As it is used in Progress Metal's cutting of various metals, liquid oxygen does not fit squarely within the above definitions of a "fuel" and "energy." Evidence in the record established that liquid oxygen does not burn by itself. Progress Metal mixed the oxygen with acetylene before it was used in its torches. Therefore, the liquid oxygen, as used, does not compare to coal, gasoline, or oil; and it did not, by itself, "provide light or heat." Hence, it strains to meet even the favorable definitions of "fuel" and "energy" the Department cites. We therefore concur with the Board and the circuit court that the "usual, ordinary, and everyday meaning" of the terms employed in KRS 139.480(3) are not easily derived; and we must resort to other sources to determine its application.
The Department argues that, if we are to resort to the rules of statutory construction, we must employ the well-established rule that "where two statutes concern the same or similar subject matter, the specific shall prevail over the general." Withers v. Univ. of Kentucky, 939 S.W.2d 340, 345 (Ky. 1997). However, the Department's position assumes that KRS 139.480(3) is in clear conflict with KRS 139.470(11). We do not observe this to be the case. Instead, we agree with the Board and with Progress Metal that the statutes are not in conflict, demonstrated in part by the fact that, as a Department employee testified to before the Board, it is possible for a single item of "tangible personal property" to qualify for two exemptions under two different statutes. Therefore, no conflict existed, and the rule of statutory construction the Department proffered did not apply. Instead, we hold that the Board and the circuit court properly applied the doctrine of contemporaneous construction.
The record showed that on at least two occasions, in a 1965 Field Directive and in a 2000 Auditor Training Manual, the Department expressly held liquid oxygen and acetylene, when used for "welding or cutting functions" in "direct phases of manufacturing or industrial processing operations[,]" are "industrial supplies" and exempt from taxation. This was the exact manner in which Progress Metal utilized liquid oxygen. Additionally, the Department sent a letter to Progress Metal as recently as August 2005 stating that the purchase of liquid oxygen was exempt as such. This established a four-decade long pattern of exemption of liquid oxygen as a "supply." In light of the ambiguity which exists in KRS 139.480(3), and given this pattern of exemption, the doctrine of contemporaneous construction properly limited the Department to that pattern. In sum, we conclude that the circuit court properly applied the law to the facts in affirming the Board's decision.
In this document, the Department expressly rejects its prior treatment of liquid oxygen as "energy and energy producing fuel." It stated, in pertinent part,
[t]he department no longer considers this assumption valid. ...
[T]hese gases are frequently used in performing welding or cutting functions which constitute direct phases of manufacturing or industrial processing operations. Consequently, oxygen, acetylene, and other gases are to be classified as industrial supplies when used and consumed in a manufacturing or industrial processing operation ....
II. Progress Metal's Use of Hammer Pins
We next address Progress Metal's cross-appeal concerning the tax-exempt status of the hammer pins it employs in its operations. In doing so, we again look to KRS 139.470.
In addition to "supplies," KRS 139.470(11)(a)(2) also exempts from taxation the sale, storage, and use of "other tangible personal property which is directly used in manufacturing or industrial processing, if the property has a useful life of less than one (1) year." The statute includes among this property "industrial tools," and it provides the following guidelines for determining whether property can be so classified:
This group is limited to hand tools such as jigs, dies, drills, Boards, rolls, reamers, chucks, saws, spray guns, etc., and to tools attached to a machine such as molds, grinding balls, grinding wheels, dies, bits, cutting blades, etc. Normally, for industrial tools to be considered directly used in manufacturing, they shall come into direct contact with the product being manufactured.KRS 139.470(11)(a)(2)(c). The statute goes on to state expressly that "repair, replacement, or spare parts" are not exempt from sales and use tax. KRS 139.470(11)(b).
Progress Metal contends that its hammer pins were "industrial tools" and met the criteria of KRS 139.470(11)(a)(2). The Department counters that the hammer pins were merely "repair, replacement, or spare parts" and therefore not exempt under subsection (11)(b) of the same statute.
KRS 139.170(4) defines "repair, replacement or spare parts" as those "used to maintain, restore, mend or repair equipment[,]" and it states that "repair, replacement or spare parts does not include machine oils, grease, or industrial tools." Pursuant to this definition, the Board and the circuit court concluded that the hammer pins used in Progress Metal's machinery were not "industrial tools" but were "replacement parts" and not exempt from taxation. We agree.
The facts in the record sustain the circuit court's decision. The key factor in the Board's decision that hammer pins were not "industrial tools" was the fact that, at best, the hammer pins came into only incidental contact with the metal the large mechanical hammer was destructing. An exhibit Progress Metal submitted before the Board demonstrated the design of the machine in question and the location of the hammer pins. Importantly, this exhibit supported the assertion that contact between the hammer pins and the metal being processed was merely incidental and that the hammer, not the pins holding it to the rotor, directly contacted the processed metal. These facts lead reasonably to the conclusion that hammer pins are not "hand tools" under KRS 139.470(11)(a)(2)(c); and while the hammer pins, as used in Progress Metal's machinery, are technically "tools attached to a machine," they also do not meet the statutory requirements necessary to be considered "industrial tools."
As the former Court of Appeals once stated, there is a distinction to be made between "materials and supplies which are designed and intended to be used up in the manufacturing process, and parts which simply wear out." Mansbach Metal Co. v. Commonwealth, Dep't of Revenue, 521 S.W.2d 85, 87 (Ky. 1975). The record shows the hammer pins used in Progress Metal's process to be more akin to the latter. Therefore, the circuit court was correct in affirming the Board's decision as to these materials.
Conclusion
For the foregoing reasons, the order of the Franklin Circuit Court is affirmed.
ALL CONCUR. BRIEF FOR APPELLANT/CROSS-
APPELLEE:
Douglas M. Dowell, Sr.
Laura M. Ferguson
Frankfort, Kentucky
BRIEF FOR APPELLEE/CROSS-
APPELLANT PROGRESS METAL
RECLAMATION COMPANY:
Steven Lenarz
Louisville, Kentucky