51 N.Y.2d 734 (1980)
Use taxes apply to the full purchase price of equipment assembled in New York from out-of-state components, even if the equipment undergoes testing in New York before being shipped out of state, if that testing also serves the purpose of fulfilling service contracts.
Summary
Diamond International assembled industrial cleaning machines in New York using components purchased out-of-state. These machines were then used for field-testing at customer sites within New York, fulfilling service contracts, before being shipped out of state. Diamond sought a refund or credit for use taxes paid on the components, arguing the testing was part of fabrication. The New York Court of Appeals held that because the testing simultaneously fulfilled contractual obligations, it was not solely for fabrication, thus the use tax applied based on the full purchase price, not fair rental value, and the cleaning services did not qualify for janitorial service tax exclusions.
Facts
Diamond International Corp. designs, assembles, and fabricates industrial cleaning machines in Cheektowaga, New York, using parts purchased from outside the state. After assembly, the machines are used at customer sites in New York for field testing under real operating conditions. This testing period varied from 8.5 to 132 hours. Following satisfactory testing, the machines are shipped to locations outside New York for use in providing customer services. The field testing within New York occurred while Diamond International was fulfilling contractual obligations with its customers.
Procedural History
The Sales Tax Bureau issued a notice of determination demanding $97,589.07 in sales and use taxes for the period of September 1, 1969, to August 31, 1972. Diamond International requested a hearing, claiming it was not liable for the sales taxes and was entitled to a refund or credit for the use taxes. The State Tax Commission upheld the notice. Diamond International then commenced a proceeding to review the commission’s determination. The Appellate Division confirmed the imposition of sales taxes and denied the refund/credit for use taxes but modified it to allow Diamond to compute use taxes on fair rental value instead of purchase price. The Court of Appeals then granted leave for cross-appeals.
Issue(s)
1. Whether the use of cleaning machines for field testing in New York State, which also fulfills customer service contracts, qualifies as “fabricating” the machines, thereby entitling the taxpayer to a refund or credit for use taxes under Section 1119(a)(4) of the Tax Law.
2. Whether the industrial cleaning services provided by the taxpayer qualify for exclusion from sales tax under Section 1105(c)(5) of the Tax Law as “interior cleaning and maintenance services performed on a regular contractual basis.”
3. Whether the taxpayer can elect to compute use taxes on the fair rental value of the component parts instead of the purchase price under Section 1111(b)(2) of the Tax Law.
Holding
1. No, because the use of the machines served the dual purpose of field testing and fulfilling customer service contracts, which goes beyond mere fabrication.
2. No, because the cleaning services are of a specialized and technical nature, not ordinary janitorial services.
3. No, because Section 1111(b)(2) applies only to property previously used out-of-state, and the component parts were shipped directly to New York.
Court’s Reasoning
The court reasoned that while testing could potentially be considered an integral part of fabrication in some situations, the taxpayer’s use of the machines went beyond simple fabrication. Because the machines were used to fulfill existing customer service contracts, the use served a dual purpose. This additional purpose meant the taxpayer’s use did not fall within the scope of Tax Law Section 1119(a)(4), which provides refunds or credits for property used solely for fabrication before being shipped out of state. The court deferred to the Tax Commission’s interpretation. The court also held that the taxpayer’s cleaning services were not ordinary janitorial services. The services were of a specialized, technical nature, requiring custom-fabricated equipment and skilled laborers and, therefore, did not qualify for the exclusion under Tax Law Section 1105(c)(5). Finally, the Court clarified that the fair rental value election under Tax Law Section 1111(b)(2) is only available for property previously used out-of-state before being brought into New York. Since the component parts were shipped directly to New York, the taxpayer could not avail itself of this provision. As the court stated, “In the present case, so far as appears from the record the component parts of the cleaning machines were shipped directly to New York without any prior out-of-State use. In this circumstance it was error to afford the taxpayer the right to avail itself of the optional valuation under paragraph (2).”