Expanding Manufacturing Facility? Beware the Contractor Trap

We frequently get involved in transactions where a client is expanding the manufacturing plant. Many times they hire a contractor to do the work. The contractor ends up buying all the materials (including certain equipment that would likely be considered manufacturing equipment) and installing it or incorporating into the structure they're building. This is NOT good. 

Why is this a problem? In most states a contractor (especially one working under a lump-sum agreement) is considered to be a service provider not a seller of TPP. As such, the materials the contractor purchases are deemed to be "used" by the contractor in the course of the construction service. A contractor in most states is not a manufacturer and not conducting a manufacturing activity. Therefore, they consumed some equipment that would be exempt if purchased by the manufacturer but not if purchased by a contractor.

This is an area where it is crucial to be careful. And don't think this doesn't come up very often. Here's a recent case in point:  Decision No. 19969, Idaho State Tax Commission, July 30, 2007 in which it was held that since the equipment was purchased by a contractor, the production exemption was not available.