United States: Texas Comptroller Issues Guidance on How to Tax Leaky Boats And Other Perils on The High Seas

In an unusual flurry of activity in this oft neglected area of the Texas tax, the Texas Comptroller has recently weighed in on several issues relating to tax imposed on the sale and use of boats in Texas. We as your fearless crew therefore set forth on our own three hour tour to discuss these new developments and principles with the hope that you are prepared when the weather starts getting rough and your tiny ship is tossed.

In Texas Comptroller’s Position Letter No. 43,601 (Mar. 16 2004), the Comptroller refused to grant the Taxpayer a refund on all sales taxes paid on a boat the taxpayer had returned to a retailer in anticipation of purchasing a different boat. Taxpayer first purchased a Glastron CSX 23 (a sport boat, often used by water skiers) from Company. He returned the boat six months later due to "manufacturer’s defects." Since the boat was under warranty, the manufacturer replaced it with a second new Glastron boat. The Taxpayer, however, decided he would rather have another brand of boat and asked the Company to sell the new Glastron boat on his behalf. Taxpayer then purchased a new non-Glastron boat, paying sales tax thereon, and requested a refund of all sales taxes paid on the purchase of the first Glastron boat. The Taxpayer’s request for a refund was denied by the Comptroller for two principal reasons: (1) there is no lemon law with respect to sales of boats, and (2) there was no failure of sale with respect to the Taxpayer’s purchase of the first Glastron boat.

Texas’ "lemon law" provides that if a new motor vehicle does not conform to the express warranties of a manufacturer or distributor, the manufacturer or distributor is obligated to make the repairs necessary to conform the motor vehicle. Tex. Rev. Civ. Stat. Ann. art. 4413(36), § 6.07. If the repairs are unsuccessful, the manufacturer or distributor must (i) replace the motor vehicle with a comparable vehicle, or (ii) accept return of the motor vehicle from the owner and refund the purchase price (less a reasonable allowance for use) along with any tax paid. Id. Under the lemon law, the term "motor vehicle" is not defined to include boats. Tex. Rev. Civ. Stat. Ann. art. 4413(36), § 1.03; Tex. Tax Code Ann. § 152.001(3). Accordingly, the Comptroller maintained that the lemon law provisions are inapplicable to boats.

Sales of boats are subject to sales tax in Texas at the time that the sales occur. Tex. Tax Code Ann. § 160.021. According to the Comptroller, tax was due when the Taxpayer completed the purchase of the first Glastron boat, unless the Taxpayer proves the purchase was rescinded. The Comptroller determined that the Taxpayer did not rescind the purchase of the first Glastron boat.

Instead, the Comptroller maintained that the Taxpayer acquired three new boats in two taxable transactions. In the first taxable transaction, the Taxpayer acquired the first Glastron boat, which was later returned and replaced with the new Glastron boat. The Comptroller maintained that tax was only due on the first Glastron boat because the acquisition of both Glastron boats encompassed a singe transaction. Since Taxpayer did not want to keep the new boat, he had the Company sell the boat on his behalf.

In the second taxable transaction, the Taxpayer acquired the third new boat. The Comptroller considered the purchase of the new non-Glastron boat to be a separate taxable transaction and no different from one in which a taxpayer buys a boat, sells it and purchases another. Accordingly, the Taxpayer’s refund request was denied.

Unfortunately, there may not have been a better alternative method for the Taxpayer to keep from wrecking his Minnow on the shores of the deserted tropic island of Texas tax. If the Taxpayer had been able to rescind the contract, he could have received a refund of sales tax paid on the first Glastron boat. The ability to rescind depends upon the terms of the sales contract (e.g., provides a 30-day return policy) or the state’s general contract law. Assuming, however, the Taxpayer’s boat did not develop problems until six months after the sale, this option was likely not available to the Taxpayer. Further, the Taxpayer could have tried to swap the new Glastron boat for a non-Glastron boat rather than ask the Company to sell the new Glastron boat on his behalf. However, this alternative would likely have not changed the outcome because there is no sales tax exemption in Texas for transactions that qualify for taxfree treatment under Internal Revenue Code § 1031.

Accordingly, unlucky boat buyers appear to be "sunk" with their original choice of brands, unless they can rescind the sale of the leaky boat.

In Texas Comptroller’s Position Letter No. 44,279 (Mar. 25. 2004), the Taxpayer contested the imposition of Texas use tax with respect to a boat he intended to purchase for resale. Taxpayer acquired a 32 Eurosedan Trawler Yacht (think The Minnow on steroids) from an out-ofstate vendor and brought the boat into Texas. The Taxpayer did not pay any Texas sales or use tax on the boat. After purchasing the boat, the Taxpayer applied for a dealer’s license from the Texas Parks and Wildlife Department, which was rejected because the Taxpayer did not meet the criteria for licensure at that time. Tex. Parks & Wild. Code Ann. § 31.041(e).¹ The Comptroller’s Office viewed the transaction as a retail transaction and assessed the Taxpayer use tax upon being notified of the purchase. The Taxpayer maintained that no Texas tax was due because the Taxpayer purchased the boat as a boat dealer for resale.

A boat dealer is defined as "a person engaged in the business of [buying, selling or exchanging] at least five [boats] during a calendar year at an established or permanent place of business" in Texas. Tex. Parks & Wild. Code Ann. § 31.003(7); Tex. Tax Code Ann. § 160.001(3). The Texas Parks and Wildlife Code provides that a person may not engage in the business of a boat dealer in Texas unless such person holds a license from the Texas Parks and Wildlife Department. Tex. Parks & Wild. Code Ann. § 31.041(a).

The Comptroller found that the Taxpayer did not(1) sell the required number of boats in the allotted time to meet the definition of a boat dealer, and (2) at the time of the purchase, the Taxpayer was not licensed to sell boats in Texas. Accordingly, since the Taxpayer "was not a dealer in the eyes of the law," the Taxpayer could not avoid paying use tax even if the boat was actually purchased for resale.

Although the claims of the Taxpayer in this case may sound as suspicious as Gilligan saving the Castaways week after week through some inadvertent and comical misadventure, the Taxpayer appears to have actually intended to become a boat dealer rather than dreaming-up the "dealer" argument after-the-fact. According to the letter, the Taxpayer apparently now holds a permit to sell boats. Accordingly, with better planning, the Taxpayer should have been able to avoid paying Texas use tax on the boat even without Gilligan’s intervention.

If the Taxpayer had purchased the boat in Texas, he would have needed to present a resale certificate at the time of purchase to avoid paying sales tax. The resale certificate requirement would at least have alerted the Taxpayer of the need to register for a tax permit and, possibly, for the need to obtain the appropriate license to deal in boats. Because the boat was purchased out-of-state for use in another state, the Taxpayer likely did not have to present a resale certificate to avoid sales tax in that state. The Taxpayer may have thought that as long as he acquired the dealer license and sales tax permit before actually selling the boat, the Taxpayer would be in compliance with the law. What the Taxpayer apparently failed to consider is that Texas will impose use tax unless the item falls within an exemption. Since the Taxpayer could not meet any exemption at the time of purchase, the Taxpayer had to pay use tax on a boat it had no intention of actually using.

Learning from this Taxpayer’s misfortune, before purchasing inventory for a new business, make sure you know what the legal requirements are for operating that line of business. When a license is required by law in order to "deal" in the inventory at issue (such as boats), businesses should make sure their dealer license and sales tax permit is approved before purchasing the inventory. Otherwise the Comptroller could argue, as in this instance, that because the business was not a licensed dealer (and thus not a dealer "in the eyes of the law") at the time of purchase, the business is not entitled to claim a resale exemption.