ATTORNEYS FOR PETITIONER: ATTORNEYS FOR RESPONDENT:
FRANCINA A. DLOUHY STEVE CARTER
BAKER & DANIELS ATTORNEY GENERAL OF INDIANA
Indianapolis, IN Indianapolis, IN
STEVEN Z. ETTINGER LAUREANNE NORDSTROM
GUARDIAN INDUSTRIES CORP. DEPUTY ATTORNEY GENERAL
Auburn Hills, MI Indianapolis, IN
INDIANA TAX COURT
GUARDIAN AUTOMOTIVE TRIM, INC., )
v. ) Cause No. 49T10-9812-TA-211
INDIANA DEPARTMENT OF )
STATE REVENUE, )
ON APPEAL FROM A FINAL DETERMINATION
OF THE INDIANA DEPARTMENT OF STATE REVENUE
June 30, 2004
Guardian Automotive Trim, Inc. (Guardian) appeals the final determination of the Indiana Department
of State Revenue (Department) denying it several exemptions from sales and use tax
for mask processing equipment and supplies it acquired during the 1993, 1994, and
1995 tax years (the years at issue).
During the years at issue, Guardian, a Nevada corporation qualified to do business
in Indiana, operated a manufacturing facility in Evansville, Indiana. Guardian manufactured grilles,
headlamp bezels, and other exterior automotive components for its customers (major automotive manufacturers
such as Ford, Chrysler, and General Motors).
To manufacture the automotive components, Guardian first heated plastic pellets into a liquid
state. The plastic liquid was then pressure-fed into a steel mold of
the appropriate design. After the plastic cooled, it was removed from the
mold and trimmed, if necessary. The plastic parts were then typically loaded
into boxes and stored for an average of about three days.
After the storage period, the plastic parts were then sprayed with resist, a
coating that prevented the adhesion of electroplating metals and chemicals. To insure
that the resist was applied to the appropriate portion of the plastic part,
Guardian used a shell - i.e., a mask that covered the areas
that were to later be electroplated.
Guardian maintained a set of approximately
four masks for each part it manufactured.
This enabled Guardian to use
two masks at a time, while the other two were being processed.
Guardian processed, or cleaned, the masks after every 15 to 50 uses (i.e.,
after approximately one hour of use). If the masks were not cleaned
periodically, the resist build-up caused the mask lines to become irregular which, in
turn, caused a variety of defects on the plastic part: paint splatters,
bar shadows, and poor paint application. These defects rendered Guardians products unmarketable
to its customers.
During the years at issue, Guardian used two types of mask processing systems.
With the first system, the mask was suspended over a tank of
acetone. The acetone was sprayed on the mask until the resist dissolved
into the solution. After being blown dry, the mask was ready to
use again. The second system, in contrast, was a solventless system.
With this system, the mask was placed on a rack in an
enclosure where a heated slurry containing wax was applied. The slurry removed
the resist build-up, as well as the original wax layer on the mask
itself. A new wax layer was then applied to the mask, and
it was ready to be used again.
To sustain continuous production of its parts, Guardian processed the masks in synchronization
with the manufacturing process. More specifically, when the masks needed to be
processed, the machine operator removed the masks and replaced them with two clean
masks. This typically took less than five minutes, stopping overall production momentarily.
Essentially, during continuous twenty-four hour production periods, the two sets of masks
were repeatedly swapped, hour after hour. All mask processing occurred in an
area of the plant separate from where the resist painting occurred.
After the parts were resist painted, they were electroplated. The parts were
then finish painted,
dried, inspected for quality, cleaned, and then shipped to Guardians
On September 27, 1996, after an audit revealed that Guardian had not paid
sales tax on its purchases of mask processing equipment and supplies, the Department
assessed Guardian use tax (including interest and penalties) in the sum of $32,824.52.
Guardian timely protested the assessment.
The Department subsequently denied Guardians protest
in part and sustained it in part.
Guardian initiated this original tax appeal on December 31, 1998. A trial
was held on December 6, 1999. The Court heard the parties oral
arguments on July 7, 2000. Additional facts will be provided as necessary.
STANDARD OF REVIEW
This Court reviews final determinations of the Department de novo. Ind. Code
Ann. § 6-8.1-5-1(h) (West 2003). Accordingly, it is bound by neither the
evidence nor the issues presented at the administrative level. Snyder v. Indiana
Dept of State Revenue, 723 N.E.2d 487, 488 (Ind. Tax Ct. 2000), review
DISCUSSION AND ANALYSIS
Guardian claims that its mask processing equipment and related supplies are exempt
from sales and use tax. Accordingly, this Court notes at the outset
that Guardian, as the taxpayer, bears the burden of showing that the terms
of the exemptions it seeks have been met. See Mid-America Energy
Res., Inc. v. Indiana Dept of State Revenue, 681 N.E.2d 259, 261 (Ind.
Tax Ct. 1997), review denied. While the exemptions will be strictly
construed against Guardian, the Court will not read them so narrowly as to
defeat their application to the case if it is rightly within their ambit.
See Tri-States Double Cola Bottling Co. v. Indiana Dept of State Revenue,
706 N.E.2d 282, 283-84 (Ind. Tax Ct. 1999).
1. Indiana Code § 6-2.5-5-3
Indiana Code § 6-2.5-5-3 is often referred to as the equipment
exemption. It provides that [t]ransactions involving manufacturing machinery, tools, and equipment are
exempt from [sales and use] tax if the person acquiring that property acquires
it for direct use in the direct production, manufacture, fabrication, assembly, extraction, mining,
processing, refining, or finishing of other tangible personal property. Ind. Code Ann.
§ 6-2.5-5-3(b) (West 1993) (amended 2002).
In order to qualify for this exemption, a taxpayer must first show that
it is engaged in production. See Indianapolis Fruit Co. v. Indiana Dept
of State Revenue, 691 N.E.2d 1379, 1383 (Ind. Tax Ct. 1998). [P]roduction
is defined broadly and focuses on the creation of a marketable good.
Id. (citations omitted). Thus, any evaluation of whether production is occurring depends
on the factual circumstances of the case. Id. at 1384. Nevertheless,
the Departments rules make clear that production must entail a substantial change or
transformation that places tangible personal property in a form, composition, or character different
from that in which it was acquired. Ind. Admin. Code tit. 45,
r. 2.2-5-8(k) (1992 & 1996).
Once the taxpayer has shown that it is engaged in the production of
a marketable good, it must then show that the equipment for which it
seeks the exemption is integral and essential to that production. Indianapolis Fruit
Co., 691 N.E.2d at 1384. Often, this determination is made by identifying
the points where production begins and where it ends. Id. (citations omitted).
As this Court has explained:
A finding that production is taking place will often lead to a taxpayer
receiving an exemption for activity that, standing alone, does not constitute production.
[Nevertheless], the item itself does not have to have a transformational effect on
the good being produced in order to be exempt from sales and use
tax. It is enough that the item play[s] an integral part of
the ongoing process of transformation.
* * * * *
This approach reflects economic reality. Modern integrated production processes require the use
of a host of items that in and of themselves do not have
a transformational effect on the good being produced. . . . All parts
of an integrated production process are closely connected with the production of goods
and should therefore qualify for the exemption.
Id. (internal quotation and citation omitted) (emphasis added).
Guardian argues that it employs an integrated manufacturing process in order to produce
its automotive trim parts. In turn, it asserts that processing its masks
is integral and essential to the production of those parts. More specifically,
it claims that without mask processing, it cannot sustain production of its marketable
[i]f the mask is not changed and paint builds up, the mask lines
become irregular. This can cause a variety of defects on the part
being produced[,] including paint splatters, bar shadows, and light paint. These defects
result in both cosmetic and part durability issues. . . . The[se] defects
. . . would [not meet customer standards and thereby] cause the product
to become unmarketable.
(Petr Post-Trial Br. at 6 (internal citations omitted).) Accordingly, Guardian argues that
its mask processing equipment is entitled to the exemption under Indiana Code §
The Department counters, however, that mask processing is not integral and essential to
Guardians production of automotive trim parts for two reasons. First, it asserts
that [b]ecause 15 to 50 grilles can be painted with the same mask,
a paint covered mask does not prevent continued production  . . .
[it] merely continues the masks useful life. (Respt Post-Trial Br. at 8.)
In other words, as the Department stated in its final determination:
[Guardians] cleaning of paint masks [is] a function of maintenance[.] . . .
While the  mask washing equipment directly affect[s] the cleaning and maintenance of
the protective paint masks, and may be essential and integral to their upkeep,
such use is ultimately ancillary to [Guardians] production of [automotive trim parts].
The cleaning activities, therefore, are not essential and integral to taxpayers manufacture of
[automotive trim parts].
(See J.Ex. 3C at p. 6.) (See also Respt Post-Trial Br. at
See footnote Second, the Department argues that Guardians mask processing is not essential
and integral to the production of the automotive trim parts because the paint
removing process halts production for a substantial period of time.See footnote (
Post-Trial Br. at 6-7.)
In determining that Guardians mask processing equipment did not qualify for the
equipment exemption, the Department focused solely on the process of cleaning the masks.
Nevertheless, Guardians production process as a whole must be examined; it cannot
be artificially broken down into its component parts. See Indiana Dept of
State Revenue v. Cave Stone, Inc., 457 N.E.2d 520, 524 (Ind. 1983).
Consequently, the Department ignored the fact that the manufacture of the automotive trim
parts is inextricably linked to their proper electroplating. Proper electroplating can only
be accomplished with periodic cleaning of the masks.
Furthermore, the Departments assumption that mask processing halts production for a substantial period
of time is contrary to the evidence presented at trial: neither party
presented any evidence indicating that mask processing halts production for a substantial amount
of time. (See, generally, Trial Tr.) In fact, Guardian testified that
while production halted for no more than five minutes at a time in
order to change out the masks, the actual mask processing was performed in
synchronization with the production process. (See Trial Tr. at 41, 52-53.)
In other words, while production halted momentarily to change the masks, production did
not halt in order to process the masks. (See Trial Tr. at
The evidence in this case shows that Guardians production process begins with the
melting of the plastic pellets, and ends when the completed automotive trim parts
have been packaged for shipment to Guardians customers. See Ind. Admin. Code
tit. 45, r. 2.2-5-8(d) (1992 & 1996) (stating that production begins at the
point of the first operation or activity constituting part of the integrated production
process and ends at the point that the production has altered the item
to its completed form, including packaging, if required (emphasis added)). It is
indisputable that the painting of the molded plastic parts is an integral part
of Guardians manufacture of the automotive trim parts: it is part of
a continuous process by which the plastic is placed in its finished form
as automotive trim components, ready for delivery to Guardians customers. Accordingly, the
masks which are used to paint the plastic parts -- are exempt.
(See Trial Tr. at 83 (where the Department concedes that the masks
are exempt).) In a similar vein, the process of cleaning the masks
is an integral part of Guardians manufacture of the automotive trim parts:
the cleaning of the masks is done specifically for the purpose of properly
applying electroplate to the parts. If Guardian did not clean its masks,
Guardian would only be able to produce 15 to 50 marketable automotive trim
components; the rest would be rejected by Guardians customers and therefore rendered worthless.
Simply put, the masks cannot be used continuously without cleaning. Thus,
the mask processing equipment, essential and integral to the overall production of Guardians
automotive trim components, is exempt under Indiana Code § 6-2.5-5-3.
2. Indiana Code § 6-2.5-5-5.1
Guardian also claims that the consumption exemption of Indiana Code § 6-2.5-5-5.1 applies
to the chemicals (i.e., acetone) it used during mask processing. The consumption
exemption provides that
[t]ransactions involving tangible personal property are exempt from [sales and use] tax if
the person acquiring the property acquires it for direct consumption as a material
to be consumed in the direct production of other tangible personal property in
the persons business of manufacturing, processing, refining, [or] repairing[.]
Ind. Code Ann. § 6-2.5-5-5.1(b) (West 1993) (amended 2002).
This exemption is treated, in most respects, identically to the equipment exemption.
Mid-America Energy Res., Inc., 681 N.E.2d at 263. The parties made the
same arguments with respect to both exemptions.
(See Petr Post-Trial Br. at 25.)
(See also Respt Post-Trial Br. at 6, 9.)
The Court therefore
finds that Guardian consumed acetone in the direct production of other tangible personal
property and, therefore, is entitled to the consumption exemption.
Guardian acquired equipment and chemicals for direct use in its manufacture of automotive
trim parts. As a result, it is entitled to claim an exemption
from sales and use taxes under both the equipment exemption and the consumption
exemption. See Ind. Code Ann. §§ 6-2.5-5-3 and 6-2.5-5-5.1. The Departments
final determination is, therefore, REVERSED.
Footnote: Molded parts need to age slightly, as plastic shrinks as it
Footnote: Depending on a particular customers specifications, the plastic parts were only
partially finished with the
metal; the remaining portions retained their plastic finish.
purchased the masks from outside sources on behalf of its customers.
Thus, Guardians customers owned the masks. Furthermore, Guardian testified at trial
that, based on its customers mask budgets, it was, for the most part,
limited to purchasing four masks for use in the production of each specific
part. (Trial Tr. at 37.)
Acetone is a volatile organic compound. In recent years, Guardian
has moved away from using the acetone system in order to comply with
state and federal environmental regulations.
The finish paint operation was almost identical to the resist operation (albeit
using different masks, called finish masks, with slightly different masking lines for the
part than those used in the resist operation).
Indiana imposes sales tax on retail transactions made in Indiana.
Ind. Code Ann. § 6-2.5-2-1(a) (West 2003). Under Article 2.5 of the
tax code, Indiana also imposes a use tax which is the functional
equivalent of the sales tax on the acquisition of certain non-exempt tangible
personal property that escapes sales tax, usually because the property was acquired in
a transaction that occurred outside of Indiana and sales tax was not imposed.
See Rhoade v. Indiana Dept of State Revenue, 774 N.E.2d 1044, 1047-48
(Ind. Tax Ct. 2002).
In conjunction with its protest, Guardian made a payment to the Department
in the amount of $3,808.40 ($3,415.24 for tax and $393.16 for interest), representing
the portion of the assessment it did not contest.
Footnote: On June 25, 1998, the Department issued a Supplemental Audit report,
reducing the assessment against Guardian by $599.13.
Footnote: This statute exempts transactions from the gross retail tax (sales tax).
See Ind. Code Ann. § 6-2.5-5-3(b) (West 1993) (amended 2002). This sales
tax exemption, however, is made applicable to the use tax by Indiana Code
§ 6-2.5-3-4(a)(2). See Ind. Code Ann. § 6-2.5-3-4(a)(2) (West 1993).
Indiana Department of State Revenue v. Cave Stone, Inc., 457
N.E.2d 520 (Ind. 1983), the Indiana Supreme Court first applied the essential and
integral test in determining whether the terms of the equipment exemption have been
met. In that case, the taxpayer claimed the exemption for equipment and
supplies associated with transporting crude stone from the blasting area to the crusher
and from the crusher to separated stockpiles. Id. at 521-23. The
Court held that the transportation equipment at issue was both essential to transforming
crude stone into the marketable product of aggregate stone and integral to the
ongoing process of transformation. Id. at 524. The Court reasoned [t]hat
no specific transformation occurred in the period of time that it was
being transported is irrelevant. It is elementary that unless the stone is
transported from the quarry to the crusher and from the crusher to the
stockpiles, no marketable product will result. Id. Thus, the Court
held that the equipment exemption provide[s] a comprehensive description of the various means
of production . . . [and] circumscribes all of the operations or processes
by which the finished product is derived. Id. (emphasis added).
Guardian claims that its solventless mask processing equipment is also exempt
under Indiana Code § 6-2.5-5-4 as well. (
See Petr Post-Trial Br. at
22.) However, given this Courts decision that the equipment is exempt
under Indiana Code § 6-2.5-5-3, it is unnecessary to address this claim.
The Department relies on the administrative regulation providing that [m]achinery, tools,
and equipment used in the normal repair and maintenance of machinery used in
the production process which are predominantly used to maintain production machinery are subject
Ind. Admin. Code tit. 45, r. 2.2-5-8(h)(1) (1992 & 1996).
To support this argument, the Department offers the following hypothetical:
if each of the two masks must be cleaned once each hour, during
a continuous 24 hour production period,  production ceases 48 times at the
resist paint and finish paint steps of the production process. Thus, if
production stops for three minutes each time a mask is replaced, then for
2.4 hours of a 24 hour production period, one-tenth of a production period,
production ceases[.] (Respt Post-Trial Br. at 7.)
See footnote 9, supra.
While the Department makes the same argument, it relies on a
different administrative regulation. More specifically, it relies on the regulation which states
that purchases of materials consumed in maintenance activities are taxable, except when they
are consumed in direct production and where essential and integral to the production
Ind. Admin. Code tit. 45, r. 2.2-5-12(f) (1992 & 1996).
The Department imposed a 10% negligence penalty on Guardians use tax
See Ind. Code Ann. § 6-8.1-10-2.1 (West 1993). Because
this Court holds that Guardians mask processing equipment and supplies were not subject
to sales and use tax in the first place, no penalty can be