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Indiana Tax Court Holds That Freezing Food Is Not Manufacturing


In Merchandise Warehouse Co. v. Ind. Dep't of State Revenue, No. 49T10-1302-TA-00009, 2017 Ind. Tax LEXIS 2, at *1 (Ind. Tax Ct. Jan. 11, 2017), the Indiana Tax Court held that Merchandise Warehouse Co., Inc.’s purchases of certain freezer equipment, and of electricity to power it, were not exempt from Indiana sales tax.

Merchandise Warehouse operates a food storage warehouse where the arriving food products—specifically prepared for businesses like Panera, Chili's, and Wendy's—are already packaged and on pallets. Upon arrival, the food products could be at room temperature, chilled, or frozen. Because some of Merchandise Warehouse's customers want their non-frozen food products to be stored in a frozen state to preserve shelf life, Merchandise Warehouse provides them with either "slow" or "blast" freezing services. Slow freezing simply involves putting the food products in a freezer. Blast freezing involves specialized equipment to expedite the freezing process. In either case, the frozen products leave Merchandise Warehouse's facility on the same pallets upon which they arrived.

Merchandise Warehouse asserted that its purchase of certain freezer equipment and the related electricity should have been exempt from sales tax because the freezing of the food constitutes the last stage in the food's manufacturing process.

In Tax Court, the Indiana Department of State Revenue moved for summary judgment, claiming that Merchandise Warehouse's purchases of electricity and freezer equipment were not exempt under either Indiana Code § 6-2.5-5-5.1, known as the Consumption Exemption, or Indiana Code § 6-2.5-5-3, known as the Equipment Exemption.

In reviewing these statutes, the Court observed that both of these exemptions required certain elements: “Merchandise Warehouse must: 1) be engaged in the production of other tangible personal property, and 2) use its electricity and freezer equipment as an essential and integral part of its integrated production process.” “Production” focuses on the transformation of materials into a new, distinct marketable good.

Merchandise Warehouse argued that once frozen, the food products are transformed into new, distinct marketable goods because they have a longer period by which they can be marketed and their quality has been preserved.

The Court reasoned that while freezing is transformative, it “simply preserves the food products that have already been prepared and packaged by its customers.” It found that freezing does not create new goods in the marketplace because “the same number of food products are available to be sold by Merchandise Warehouse's customers regardless of whether they are frozen.”

Merchandise Warehouse argued that because the food products that are actually marketed are frozen, its use of its electricity and freezer equipment purchases is essential and integral to the overall integrated production process, where freezing is the final step in the integrated production process of Merchandise Warehouse’s customers.

The Court observed, however, that Merchandise Warehouse's argument ignored the "double direct" standard employed by both the Consumption and Equipment Exemptions. “As this Court has previously explained, the minimum threshold requirement of the double direct standard is that the taxpayer who purchases the electricity or equipment in question must use those purchased items as part of its own process to produce other tangible personal property, not as part of an alleged process of another taxpayer." (internal citations omitted).

In this case, Merchandise Warehouse’s purchases were used as part of its customers’ production process—not its own. Consequently, the Court held that Merchandise Warehouse's purchases of electricity and freezer equipment did not qualify for the Consumption and Equipment Exemptions.

One takeaway from the Merchandise Warehouse case is that whether a process is manufacturing or not turns on whether a new, distinct marketable good has been produced. Here, the Court determined that freezing food did not create a new good. In other states, however, freezing may well transform one good into another new, distinct marketable good such that the involved process may be manufacturing. Obviously, the question of whether or not a process transforms a good into a new good is highly factual. It will be interesting to see if Merchandise Warehouse appeals and the result thereof.

February 15, 2017

To view a complete PDF of the February 15, 2017 SALT Insights, please click here.

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