Construction is the 2nd largest industry in the state of Florida. While both residential and commercial construction have slowed, governmental construction projects have picked up considerably. As a result, the competition for these types of contracts has heated up considerably. Therefore, any advantage a contractor can get over the competition can be a significant advantage. This article is meant to provide a way for general contractors performing real estate improvement contracts to have such an advantage by minimizing the Florida Sales and Use Tax impact on such contracts with tax exempt, such as the federal/state government or religious or educational institutions that can buy tangle personal property exempt from Florida Sales and Use Tax.
As a general rule, real estate improvement contracts are not subject to sales tax because the transaction falls outside the realm of Florida Statutes Chapter 212 - Sales and Use Taxes (as it is a real property improvement instead of the sale of tangible personal property). However, the transaction usually does not escape completely from tax because Florida considers the "real property improvement contractor" (The General or Sub-Contractor), in most cases, to be the final user of the tangible personal property and thereby subjects the contractor to USE TAX on the tangible personal property incorporated into the real property. While most of the labor costs are excluded from sales and use tax in this scenario (except when materials are manufactured offsite), the use tax can still add up to a significant cost of Florida real property improvement contracts. And the tax is incorporated into the estimated bid price to the prospective client.
Even if the real property improvement is being done for a church, local government, or the Federal Government (which are all exempt from Florida Sales and Use Taxes), the Florida Department of Revenue still treats the general contractor as the final user of the tangible personal property included in the real property improvement contract. Since the General Contractor is NOT tax exempt, use taxes are due from the General Contractor and must, therefore, be included in the bid price to the client. However, when the customer is exempt from sales and use taxes, the result can change to the taxpayer's favor - but only if proper planning is put in place and followed to a T.
There are two ways to minimize the chance a real property improvement contract with a Florida Sales and Use Tax exempt entity is subject to Sales and Use Tax.
(1) The first way is to enter into two separate contracts with the tax exempt entity. The first contract is for the labor portion of the project and the second contract is a very detailed breakdown of all the tangible personal property utilized in the project. To accomplish this, the contracts need to be very detailed and cover all the installation labor required in the project. Because the client is purchasing the Tangible Personal Property directly and before it is installed into the real property, the client is able to give an exemption certificate for the purchase. This is a fairly effective way to significantly lessen the effect of sales and use taxes on a project. It should be noted, however, that very formal governmental bid processes often times do not allow contracts to be broken out into two separate bids in one "sealed bid." In such a case, one must get a little more creative (see (2) below).
(2) The second method we've used is for the General Contractor to submit a singal bid as always for the project, but pay extra special attention to itemize all the tangible personal property to be included in the real property improvement contract. Then - after the bid is accepted - enter a change order to remove all the tangible personal property from the real property improvement contract, leaving only labor in the original bid. Then enter a new contract (less the cost of sales/use taxes) for all the tangible personal property. If this scenario can't be discussed beforehand with the client, then it could be a shared savings scenario in which both the General Contractor and Client can share in the savings to pull the sales and use tax impact out of the project.
In either scenario - If you want to make sure the transaction happens as "clean" as possible, then have the General Contractor (GC) act as a "Purchasing Agent" for the client and have any payment for the materials been made directly from the client's checking account. From the GC's standpoint, that means that the GC does not have to finance the purchase of materials - a huge plus for the GC. The tangible personal property must legally transfer to the client before it is installed into the property and the contracts need to make that real clear.
Of significant note to the General Contractor - this type of transaction is not guaranteed to be free from Florida Department of Revenue scrutiny. If the transaction is reviewed by a Florida auditor, then the audit will likely take place after the project is finished and the General Contractor will bear the cost of the tax if the transaction was not handled correctly. For this reason, it is important for the General Contractor to undertake the proper planning before attempting to minimize the Florida Sales and Use Tax impact on a construction project.
If you'd like to learn more about this issue or discuss a specific proposed real property improvement contract, then please contact us for a free case evaluation or call us at 888-444-9568.
If you would like to read more on teh technical details of Real Property Improvement Contracts for Public Works Contracts, then you should read Florida Administrative Code Rule 12A-1.094.
If you would like to read more on the technical details of Real Property Improvement Contracts for non-tax exempt companies in Florida, then the Florida Department of Revenue puts out an information guide on the subject - which can be accessed by clicking: FLORIDA DEPARTMENT OF REVENUE - REAL PROPERTY IMPROVEMENT CONTRACTS GUIDE.